Sorry, it just doesn't work that way. When you activated the original iPhone, despite it not being subsidized, you still agreed to their terms with regard to upgrades, which are tied to your contract, incidentally.
The first generation iPhone was a unique beast. When you activated the phone, whether it be on a new or existing line of service, you did in fact reset your upgrade eligibility, despite the lack of subsidy. Every time you sign a new contract your upgrade eligibility is affected. The only way to get a new phone and NOT affect your upgrade eligibility is to pay full retail price and activate that phone on an existing line. However, with the original iPhone, even though you paid full retail price, you were required to sign a new two year contract, thus changing upgrade eligibility for existing customers, and establishing it for new customers.
The confusing part came with the announcement of the 3G. Since the phone was being subsidized and AT&T was not offering a "no contract" price you needed to either be eligible for an upgrade or a new customer to qualify for the full discounted price. But then AT&T threw a curveball. They said that all existing iPhone customer would be automatically eligible for the full subsidized price. So basically, if you had an iPhone on your account you upgrade eligibility was automatically upgraded (as a "gift" of sorts from AT&T). This lead to a rash of people buying used first generation iPhones and activating them on their accounts to get the new upgrade eligibility (myself included). But, yet again, there was a catch! This policy had a cutoff date. My guess is that the OP didn't make this cutoff date, and is therefore stuck in his 2-year contract, which provides the provisions for his upgrade eligibility. Unfortunately for the OP, he has no recourse. Sorry dude, I know that sucks, but its just how it is.