Welcome to SF! tarusse1
The problems you are running into as far as installation is trying to run the 7 installer while booted in XP already infected with a virus plus being two versions back. You need to boot from the dvd you burn. nount the iso on a second partition or drive, or even write the image to a large enough usb flash drive as Jonathan_King suggested.
USB Windows 7 Installation Key Drive - Create
You will also want to look over the information in another guide as well for using the MS usb tool.
Windows 7 USB/DVD Download Tool
The shareware version of UltraISO however does a fantastic job of writing any iso disk image onto a flash drive making it bootable at the same time if your bios supports booting from usb devices. It was first used on the beta and later RC builds for usb installation keys and even with the retail 7.
The first thing however you want to proceed with is wiping the entire drive to rule out any lingering traces of the virus. files stored in separate non MS created folders you made can also be effected. Before trying to back up any files you will need to run deep scan sweeps to see if any found infected can be healed.
Once the drive is wiped you can then proceed with a clean install of 7.