I had some extensive discussions with K about this while Music was still in development, at CES and even after I got to try it out on my own system. I wholeheartedly agree (although Chris - Dizzman on AVS - would disagree) that K should offer this. My point always has been that when you're jumping into the music game as late as K is (not a knock on them just a statement of fact - music server functionality has been offered by a variety of companies for years), you have to assume that many customers already have digital music collections. Now, DRM is a separate issue. Every system has the problem of not being able to play proprietary DRM content (Apple's ITMS music, etc), but that's not what we're talking about here.
A user should be able to upload or link to a share of content elsewhare on their network (K might mandate uploading to keep everything on their hardware, and that's ok). What formats they should support is up for debate but it should at least include MP3. WMA, AAC, FLAC, OGG, etc can all be considered based on user feedback.
Now, I know the 2 major arguments. The first is that if imported CDs are bit-for-bit perfect and imported MP3s are low bitrate, the quality of the latter is far lower. The fear would then be that the user might hear the lower quality of the latter and erroneously attribute that to the K system vs the fact that the source is worse than the original. A little user education goes a long way in this respect. Perhaps an on-screen disclaimer after importing the collection reminding users of this would work.
Secondly, and perhaps the bigger problem, is metadata inconsistency. Many of use who have large digital music collections that have been amassed for years probably have tracks that we've never cleaned up. The ID3 tag data may be incomplete, inaccurate or just messy (artist name mixed in with track title, etc). That's a UI problem for K. They pride themselves on a solution that look great. If you suddenly have a ton of music with poor metadata and missing cover art, it looks much less attractive. Beyond that, imported CDs pull from the AMG database that includes reviews. Obviously, imported content wouldn't have this. I'm not quite sure how to rectify this other than pointing users to tools to help fill out or correct metadata before importing. You're also going to have to do a good job warning them that imported tracks may have metadata problems since they aren't in control of it.
In the end though, I think you just have to accept the qulity issues, metadata inconsistencies, etc and live with it. I mean, I don't even still have some of the CDs I have imported digitally (lost, or in one case a bunch were stolen from me). Then there's the whole issue of purchased and downloaded content. I can convert any of that stuff to non-DRM'ed MP3 for importing. I don't want to have to convert it all to WAV for burining to disc, importing via the reader and then manual entry of album/artis/track info for incomplete albums or individual tracks.
K has also said that they want to offer support for portable players. As in you would be able to connect your player to the K to transfer music to the portable unit. Right now I use my Macs and PCs to manage content on my iPods. It's unlikely that I'll want bit-for-bit content on an iPod regardless of how large storgae capacities get. So, the K system will have to do on the fly conversion. It seems like a lot of hassle to go through if I already have a collection of compressed music ready for transfer. And again, you get back to the problem of some of that content not available in its original form to easily rip even from a bulk loader.
By the way, since the legalities of ripping audio aren't nearly the same as they are with video, I don't see a legal probelm. K does more than any other music server already by giving you their legal disclaimer for any import, video or audio, so that's all they need. K's not any more at risk than any of the dozens of companies offering music server solutions.
Jeff