Ok. I had an error updating myself. My error code was different and my phone is iPhone 4. This might help you:
I had tried a number of things and I'm not sure exactly what helped but here's what I did.
In iTunes I right-clicked my phone and told it to transfer purchases, sync, then backup. Just in case I was going to screw up my phone.
I opened cmd and cleared dns cache. (Simple one line command: ipconfig /flushdns) this is on windows BTW.
I downloaded the latest version of tinyumbrella. (tinyumbrella.com instructions on site). On first use my firewall asked if I want to allow it, say yes. Use it to grab SHSH files for your device. If you've never jailbroken then you'll have to change a setting so that it's not asking Cydia but rather asks the apple server.
Then turn on TSS Server with it. What it does is intercept the packet from iTunes asking for confirmation to install a particular firmware for your device. Not plug in phone and turn on iTunes and update.
I used the restore button and iTunes warned me that proceeding will restore AND update. I said yes (or OK, forgot the button label...) and about 2 hours later and a couple restarts of the phone (iTunes does that for you) my phone was back with no loss of data and happily on iOS 5.0.1.
Wither it was a clean DNS cache or using a fake TSS server I'm not sure. But it worked for me and I hope it works for you. If you have problems downloading the firmware try getting it from http://www.iclarified.com/entry/index.php?enid=750
If you need to do it that way then you'll have to hold the shift button when you click on update so you can browse to your downloaded firmware. (this is all for windows 7 pro. I don't think the procedure would change much for Mac but the commands and keyboard shortcuts will be different.)