No, that's not valid UTF-8, the second byte must be between 128 and
191.
> Isn't there any way to say something like \DeclareUnicodeCharacter{C322}{\^u} or
> similar?
\^u is U+00FB or as hex bytes in UTF-8: 0xC3 0xBB
It is declared in t1enc.dfu that is usually loaded by default,
see the .log file.
Try to make a minmal example that shows the problem and
inspect the problematic line with a hex editor.
The hexadecimal notation can even be used in TeX:
\documentclass{article}
\usepackage[T1]{fontenc}
\usepackage[utf8]{inputenc}
\begin{document}
\^u = ^^c3^^bb
\end{document}
Advantage: that survives the recodings of mail and news programs.
BTW, in the "save as" dialog of notepad the coding can also be changed
to "ANSI", then \usepackage[ansinew]{inputenc} can be used. Of course,
unless characters outside ANSI are needed.
--
Heiko Oberdiek