1. Make sure your PC can run on windows 7 - you should have drivers (windows 7) for your devices.
2. Beside the files on separate partition, make sure the partition on which windows XP reside has no more important files on it.
3. Windows 7 disc installer can delete and format the partition which windows XP reside - I'm sure you can do this.
Buy an external Hard Drive and throw your files on there. There are many tools to shrink partitions (heck you can do it with a free Linux CD), but of course you always run the risk of them screwing up (which doesn't happen as much as it use to). Personally I would format the drive after backing stuff up.