Q:Can I use my old iPhone as an iPod touch? I restored it to factory settings and now iTunes will not allow a sync because it is not activated as a phone.
A: This is not possible with a non-jailbroken iPhone, as iTunes will not normally “activate” the iPhone without a valid SIM card inserted into the iPhone and left in place. Depending on your carrier, you might get away with placing your iPhone 3G SIM card into your old iPhone simply to get iTunes to activate it, however the iPhone will still likely require RE-activation when you insert the original SIM card.
The best way to bypass this requirement is to simply jailbreak the iPhone using a tool such as Pwnage. While we do not normally recommend jailbreaking for various reasons, not the least of which is warranty considerations, for an iPhone that is out of warranty and no longer being used as an actual phone, this seems a harmless enough step. All of the jailbreaking solutions activate the iPhone as a function of the jailbreaking process, allowing it to be used in non-phone mode with any SIM card, or even NO SIM card at all.
Note that unlocking your iPhone to work as a phone with a SIM card from another carrier is a separate process, but not necessary if your goal is to simply use the non-phone features of the older iPhone.