There's a bit of a tempest in a teapot brewing over what one can and can't do with a Windows 7 upgrade disk.
My hope with this post is to help things simmer down as opposed to boiling over, but we'll see. So here goes.
The upgrade version of Windows 7 (as opposed to the higher-price full version) lets one move from any properly licensed version of Windows XP or Windows Vista to Windows 7 on that same computer. Only certain of these upgrades, however, can be done as a simple update--what Microsoft calls an "in-place upgrade." Users moving from Windows XP, switching from 32-bit to 64-bit versions, or moving from a higher-end version of Vista to a lower-end version of Windows 7 can use an upgrade disc but will have to do a more cumbersome upgrade, known as a custom, or "clean," installation.
The difference between an in-place upgrade and a "clean" installation, in this instance, means backing up one's data, installing Windows 7, restoring the data, and reinstalling all Windows programs. Windows 7 upgrade disks can be used to do this clean installation and will recognize the previously installed version of Windows. So if you don't have any previously installed Windows on the machine, you will want to get yourself a full copy of Windows 7.
While it might be technically possible to use the upgrade disks to do an installation of Windows 7 without a previous version, doing so, as Microsoft points out, is not properly licensed.
Some of the confusion has come after enthusiasts noted a way to get an upgrade disc to install on a fully erased hard drive.
Again, the main issue here is whether one is properly licensed to do so. If you have a licensed copy of Windows XP or Vista for that computer, you are good to go, and Microsoft technical support should be able to help you activate that machine. If not, you may be able to get it to install, but you could well run into technical or legal hurdles.
I think that ZDNet blogger Ed Bott put it well in his post on this topic:
The answer is really simple. If you qualify for an upgrade license, then yes, you can use any number of work-arounds to install the operating system legally. If you don't qualify for an upgrade license, then those same workarounds might technically succeed, but your license is not valid.
Will you get away with it? Probably. But if you're running a business, you run the risk that an employee will turn you in to the Business Software Alliance, which could lead to an audit, civil charges, and eventually some stiff penalties.
It should also be pointed out that beta test and pre-release versions of Windows don't count as a previously licensed version of Windows, but if you have the RC installed over a previous version, for example, you can do a custom upgrade rather than having to reinstall XP or Vista before installing 7. (The upgrade version can detect the previous versions used before Windows 7.)
Nor is it allowed to count the version of Windows that came installed on a previously bought PC, if that's not the machine you're upgrading. (Retail boxed copies can be transferred from one machine to another; ones that came pre-installed on the PC are licensed only for that machine.)
This is also relevant to Mac users who want to run Windows 7 on their machines. Such users also need to have a previously licensed full copy of Windows to properly qualify for upgrade pricing, whether they are using Windows in Boot Camp or using a virtualization product like Parallels or VMWare's Fusion.
I hope that this overview helps more than it adds to the confusion. Either way, please let me know.