XP Mode - The Local Policy of this System does not permit you to logon interactively

Host - Windows 7 Pro 64 bit in a domain.
OS - Windows XP Mode in a workgroup(didnt join the same domain as of the host as I wanted to do some tests the VM using standard user accounts).

I have an issue, when trying to login to the XP mode system, I can use the Administrator/Admin group accounts to login to the XP Mode machine. But when I use a regular user account, I am getting error - "The Local Policy of this System does not permit you to logon interactively"

Steps I did -

Added the regular user account in "Log on Locally" (which is in the "Security Settings->Local Policies->User Rights Assignment by using the GPEDIT.msc), but still having issues. Can you please give me some solutions.