I want to be able to give my 'My Documents' folder on my home PC permission to share with my laptop and my laptop only. (no other users of my home PC)

Both computers run Win XP Pro

I have enabled advanced file sharing, I then right click on the folder and click properties. I then click the sharing tab and enable file sharing and click on the permissions button, and on the next screen click the add user button.

This is where I'm up to, if I click on the location button it only show my home PC (not my laptop which is on the same Microsoft Network).

I've done some research and it looks like I need a domain based network to do this, surely it can be done by using a Microsoft Windows Network?

At the moment I have to 'not share' the folder whenever I'm not using it.

You don't need a domain in a home network. Try setting the network up as a 'workgroup' and then share the folder with 'guest' permissions wide open. If that works and you want to keep the share then you can tighten up the user permissions after you know at least that you have the capability of sharing.