How can I get Entity Framework and WCF to work with transactions? Okay...what's the secret?

This has nothing to do with transaction. Transaction works on transactional resource but without calling SaveChanges in the first request there was no transactional resource active because EF context is not part of the transaction - the database is and the database is affected only when you call SaveChanges. To make this work you don't need distributed transactions. You need session-full service and store the EF context in the service instance. It a client uses the same client proxy instance to communicate with the service for all requests the communication will be handled by the same service instance = same EF context instance which will remember changes from previous calls.

IMHO this is very bad architecture. Simply don't use it. Expose specialized methods on WCF service which will do changes and save them. If you need to execute these methods in transaction with other transactional resources use the real distributed transaction.

this might be a reason. Since your are making an update in the different context. context doesn't know that the object is update to have say the context that the object is modified and then you call savechnages(). See if it helps