What do I need to do before giving an old iPhone to someone else?

I recently upgraded my IPhone from the 3GS to 5. I have a friend that is interested in using my old phone as an IPod only. I am assuming I have to remove the sim card so it won't function as a phone. Is that correct? Then erase all my content and settings. My question is, if I erase all my content and settings, how do I keep it from deleting the same stuff on my new phone and mac items that are connected to ICloud. Will simply turning ICloud off on the old phone take care of this?

- Paul Goodman