1004 megabytes? I have no idea why they would leave a GB of data untouched... that just seems strange to me. But it really shouldn't affect your being able to reformat.
Unfortunately, the trick I posted above DOES NOT work with Windows XP, as Windows XP has no way of creating a startup disk. The Windows NT startup disk is just a little too big to fit on a floppy.
However, your Windows XP disc should be bootable. Just throw that in the good old CD-ROM, and install a new copy of Windows XP. When setup first starts, it will ask you what drive and partition you would like to install to, and then it will ask you if you want to reformat.
The reason you cannot reformat your C Drive from within Windows, is that you can't erase a file that's in use. Since Windows is using files on that drive, you cannot reformat it. In DOS, no files are in use on the hard drive, and thus you will be able to reformat. You must simply have the format executable on a floppy or CD to run it.