1+2) Could you please elaborate on your reply? All I am saying is that if I simply create a Seam Web Project within Eclipse (with JBoss Tools 3.1), it by default creates a Facelets enabled Seam project but fails to include jsf-facelets.jar in the classpath. As a result, the application does not run in JBoss out of the box. I had to include jsf-facelets.jar in the classpath to fix the application deployment issue.
3). You are right. The issue may be with Eclipse's support for WAS 7. I have not tried making it work with WAS 7 since I did not see that option listed under Websphere servers. I could try running a Websphere 7 Application Server and telling Eclipse it is a Websphere 6.1 Application Server.