Re: Help please!
Yes, it needs to be flush - when you torque down the waterpump, that plastic cover should make contact with the lower plate - the metal cup can touch as well but it should not prevent the plastic from making contact.
There is sometimes an o-ring between the cup and the cover (around the hole where the driveshaft comes through the pair) and it would be normal to put a few small dabs of silicon there to hold the ring in place until the two components are pressed together - but there is also an (air bleed) grove there that allows the pump to prime itself. If it's obstructed that could have well caused your chewed "new" impeller.
You should really tear it all down and get some OEM replacement parts.
I like Sierra parts for alot of things (and while I don't know if the cup is a Sierra part in this case), I have never found one of their cups which wasn't just a little too big to fit the cover properly - so for waterpump parts I always go OEM unless it is absolutely not available.
Merc part 95661T is a complete new assembly (cover, cup, seals, plate, gasket, impeller and bolts). It is pricey (130 retail), but could save you countless headaches...