Hi,
I recommend backup the production site completely and do the upgrade on the production site.
http://www.mojoportal.com/upgrading.aspx
Then if you want a copy on your local machine you can copy all the files from production and get a backup from the SQL 2005 database at the host and restore it in SQL 2008 on your dev machine.
Once you have a production site in place the production database should always be the master and you can periodically get a backup and restore it on your dev machine to have it up to date on your dev machine, I would never go the other way and restore a database from dev to production except maybe for initial deployment of a site, after that new data comes in from production like users register on the site or make forum posts etc and the production db should always be the official version.
I would stick with Win7 and VS 2010 Pro for development. Note however that the production deployment files don't have any C# source code (it is all pre-compiled into dlls in the /bin) so they are not really meant for use in VS though you can typically run it in VS.
Hope it helps,
Joe