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This is a bit convoluted, but bare with me:

I loaded copy of Windows XP onto a machine that had Windows 98 on it (after
fdisking the HD) but it was from a copy registered on my other computer, it
will not let me use that key # and keeps asking for activation.

So I bought an upgrade from a friend for a good price. Problem is that I
believe I need to reinstall Windows 98 back onto the computer in order to
upgrade to the new wIN xp.

Is this correct? What do I do to format the HD to accept the old Win 98 disk
I have?

You do not need to reinstall 98. When doing a clean
install with the upgrade xp it will just ask you to put
in the win 98 cd briefly to verify it.
Dave