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Update:
So I did try resetting/restoring my 2nd generation Nano (via iTunes) and it still did not work. I went out and bought a new iPod.. 3rd generation! Used it in the car 4 times..and it worked seamlessly. THEN.. and on my way home again today it is doing the EXACT same thing and will not play and I get the same "loading" message.
Going to BMW for them to play. Very annoyed.
Stay tuned... but it doesn't sound like anyone else has this problem! Ha!
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E90 M3 | Jerez Black | Black Novillo | Carbon | All options but sun shades 
Mods: Gintani CB | Dinan Intake | Evo Pulley | HRE P40's | Eibach Springs | MS spacers | Matte grills | GP Thunder 7500 | Venture Clear bra
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