In case others encounter this problem, the IIS6 problem of files not uploading has been fixed.
It appears the temp upload directory did not have sufficient permission on it. All other scripts (included Universal Email with File Management) could upload fine, but KFM did not seem to work. I added read/write permission to the IUSR account and it now works fine.
I am still waiting on word from tech support about the IIS7 problem.