something else is going on. my guess is your hanger or the rear derailleur itself is bent. there is no good reason this would not work within the normal adjustment ranges.
take pics, lotsa good pics!
Thanks for that suggestion, I never thought of that the hanger itself could be bent. The frame is rather "old" and I suppose It have had some dings over the years falling over on that side and what not. The sad part is that the hanger itself isn't removable on this frame (incentive to start saving up for a new frame perhaps?), But I used a pair of pliers on the hanger itself and an allen key whiles the the rear derailleur was mounted and did some straightening. And well I don't know if it's perfect but it's much better. Though the low gear adjustment torqued down still allows the der. to come pretty darn near the spokes. Will do some searching if there are any bike shop around that can help me with some proper tools and knowledge to check the hanger and the derailleur.