As of last week, Apple accepted submissions linked against iOS SDK 4.3. Anything below will not be accepted.
Within a foreseeable future, Apple will move on to accept submissions linked against iOS SDK 5 only (and so on).
Within your project/build-settings, you can however always select a minimal (target) iOS version. Lets say you build against iOS 5, then you can still select iOS 4.2 as the lowest version that would be compatible with your app. Anything from iOS 4.2 up to iOS 5 will then be accepted (and should be tested with on your side). Actually, when trying to target 4.2, there will be another factor you would have to tackle: ARMV6. For that, see various other questions and answers here on StackOverflow. Note that iOS 4.2.1 was the last version available for users of the ARMV6 based hardware (e.g. iPhone 3G).
Or in other words, the Xcode version is secondary. The important part is the iOS SDK you link against.