From ModMyi - Wiki

This is the easiest and simple way to upgrade your iPhone to 1.1.3 with an iPhoneSIMFree unlock

Step 1

Take your iPhone, and update through iTunes to 1.1.3. Your phone should stay unlocked and "activated", but you will not get service. It is ok.

Step 2

Download ZiPhone, 2.5c. Grab it from ZiPhone Blog

Step 3

Install ZiPhone, then run the application. At this, you should be seeing the GUI for ZiPhone.

Step 4

Check mark JAILBREAK and ACTIVATE. ONLY THOSE TWO FOR THIS STEP! Click Start ZiPhone. After this step, your phone should restart with the ZiPhone blog icon, Installer, 1.1.3, and still no service! It is ok.

Step 5

Go back to ZiPhone and check mark, UNLOCK (with JAILBREAK and ACTIVATE still checked). Click Start ZiPhone. After this your phone will restart, you will gain service! Even on reboot, you will still have service. No Signal.app or anything.

Step 6

Enjoy!! Your phone is working and you do not have to worry about a "soft upgrade" or anything.

Proof of working

I have tested this on the following phone: iPhone 8GB 1.1.1 OTB 1.1.2 prior to upgrade Baseband 4.02.13_G prior to upgrade

End result - 1.1.3 with 4.03.13_G; everything working. LocateMe, Multiple SMS, wiggly icons, phone, voicemail, EDGE, mail.