It works much the same way as My First instructable
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Signing UpStep 1: What you need
A Xbox 360
A Wireless or Wired Xbox 360 controller with the headset port on it
A voice chat converstation
A Audio Link up Cable
A Headphone adapter which fits the xbox controller
A Soundcard which allows LINE IN
And finally some audio recording software








































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You should not expect any level of privacy concerning your use of the live communication features (for example, voice chat, video and communications in live-hosted gameplay sessions) offered through the Service. These communications may be monitored; however, we cannot monitor the entire Service and make no attempt to do so. You understand that these communications can be recorded and used by others, and communications in live-hosted gameplay sessions may be broadcast to others. Some games may utilize game managers and hosts. Game managers and hosts are not authorized Microsoft spokespersons, and their views do not necessarily reflect those of Microsoft. We do not routinely monitor your use of the communication features of the Service. However, to the maximum extent permitted by law, we may monitor your communications and may disclose information about you as set forth in this Section 9.
Currently 39 states require "One-Party Consent" for recorded phone calls, meaning that as long as YOU know you're recording it, that's sufficient.
Now IANAL, but you may also want to consider that this is over a "public" chat system with no realistic expectations of privacy and that it is probably governed by the X-Box Live EULA and subject to Microsoft's policy, which may or may not be subject to actual criminal laws.
The short answer is it is not automatically illegal to record someone without consent.
Playing online on xbox live is for Gold Members only so that makes in more of a "private club" just like how Sams Club is allowed to have stricter rules (bag checking etc) than Walmart.