It was MS recommendation since .NET 2002. See http://support.microsoft.com/kb/326922.
It doesn't mean that it'll not work with the DLLs in the Windows System directory but it could affect other applications that my require different version of DLLs or other way arround.

>I was not aware they recommended that? How long has that been the recommendation? I thought having the DLLs in the Windows\System32 folder was just fine. And, actually, it has been. In most of my installations, these DLLS are in that folder and the system runs with no problems, but in the Win2K3 installations, placing them in the app's folder solved the "FLL is invalid" issue (for 32-bit and some 64-bit versions). I'm just left wondering why it is not solving it on this one particular server . . .
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