Ok so I've retested my findings (just to be sure I was not loosing my mind).
In the IDE in the DW painter I can import and XML file with these characters only if I have encoding ISO-8859-1. It errors with UTF-8. The data is being selected from a MS SQL Server database as XML and passed through to the PB via a web service WCF. This is all fine as the characters come through as they should. It is only the DW import that is causing the problem. The data is originally keyed into a web form using MVC and Linq for the form & data handling.
My concern is that if I switch to ISO-8859-1 just for his specific DW import that I'll create further problems with other data in the future.
Using a hex viewer for the text I can see that it is ANSI and the umlaut is fc as a single byte and the Spanish degrees is ba again a single byte. This could be because of the way the service logs the error and the data it is offended by. I would have expected the web service WCF and PB strings to be using Unicode.
Thoughts please ......
David