What is on D: and why is it marked active? If it is not an OS then you'd best unplug it until this is sorted out.
CD/DVD drive should be set first to boot in BIOS, followed by DISK1. Boot XP CD and long format the second partition, try install.
I deleted my old hard drive partition and tried putting XP on that instead of a partition on my second drive and it still didn't work. I tried doing a long format too. Setting CD/DVD to first priority just started the installation over by asking what partition you wanted to store the copied files at.
CD drive should be set to boot first, but when it restarts you don't Press Any Key to Boot from CD when prompted.
Is the correct HD set as first HD to boot. That is important.
Try unplugging the Win7 HD to install to the other HD.
It seems things have gotten a little confusing. The rdisk(1) does not mean Disk 1, but the second drive in priority. The fact a drive says Drive 0, means nothing more that it is connected to the lower SATA connector. The Win 7 drive was you primary drive. Had you put the 3 files on the Windows root directory and modified the boot.ini, it should have worked.
Getting EasyBCD 2.0 beta should be able to solve your problems since it copies the necessary files and modifies the boot.ini for you. You will need to join their forum to download.
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