the crackling could be a fan dying or hard drive on its way out.
installing service pack 2 should not affect any files you have just make sure you have plenty of hard drive space.
The virtual memory thing is your paging file because you have such little ram its using virtual memory(space stored on hard drive because not enough ram available). upgrading to 256mb will help enough.
It most certainly wont run like a brand new computer, it`ll still be slow and sluggish as your comp sounds old. You could reinstall windows but you would have to backup all your files.