It won't be possible to updated to iOS 4.3 unless you have a software image for iOS 4.3 handy. This is because Apple wants to force you to install the latest version which is iOS 5.0. The test app you have been sent should still run on iOS 5.0 though.
Since iTunes isn't being nice about letting you upgrade, what you can do is go download the iOS 5.0 software image from Apple and then you can force iTunes to update using the image. Here's what you do.
Download iOS 5.0 for your iPad from the following link (please be aware that this link is not a direct download from Apple. Apple doesn't offer the ability to download iOS outside of iTunes which is why I've provided this link)
http://www.ijailbreak.com/ipad/download-ios-5-firmware/
Plug your iPad into iTunes. Hold down the Option key on your keyboard and click the "Check For Update" button in iTunes. An Open File dialog box will open. Select the software image you downloaded in step #1.
iTunes should upgrade your iPad.
Sadly, the developer is the one who will have to fix this, and you cannot do anything without jail breaking it and (if you know code) making changes to the firmware.
However, read the release notes and take care to make sure it works on iOS 4. Usually the developer will put something in it about compatibility.
Best Answer
Q1: No, it's not normal for an update from TestFlight to delete all data in an app. I regularly update apps via TestFlight, and have never experienced having data deleted.
Most likely you either (a) changed the bundle-ID in your app between the two versions, or (b) saved your data in a non-allowed, non-standard location.
Q2: You can simulate an app update by publishing multiple versions in TestFlight and changing between them.
Another method is to install the app on the device, and then open Settings => General => iPhone Storage. Select your app and press "Offload App". This will delete the app, but keep documents and data - exactly as happens during an update. Afterwards tap the app icon on the home screen again to re-install the app.