Screw him; you did as he asked, his Xbox shouldn't have been banned if he wasn't playing backups, or playing on Live with his chip off. You said he only just got his Live kit, he shouldn't have been playing backups on Live, or should have paid attention to your instructions.
Of course, you should probably be installing BIOSes with Live blocking too, but at the same time, still not your fault if he's too stupid to be able to follow simple instructions.
If he threatens you, get the police involved; as long as you didn't load his hard drive up with 40 games before you sent it out, the cops won't lay a finger on you; modding in itself isn't a crime, but him threatening you is.
He can take you to small claims if he wants; as long as you have proof that it wasn't your fault, you're in the clear.