Spirit of Nirn, God of Mortals:
"What is this next? Some wish to return to the original state, the spirit realm, and that Lorkhan is the Demon that hinders their way; to them Nirn is a prison, an illusion to escape. Others think that Lorkhan created the world as the testing ground for transcendence; to them the spirit realm was already a prison, that true escape is now finally possible."

Can anybody explain how this fits into the life and death cycle of TES?

You cycle through life and death till you find your way out. Either by escaping the prison and returning to the original state or transcend it all together.

I believe it's talking about how the elves hate Lorkhan because they (the elves) used to be similar to the Aedra. But when Lorkhan tricked Auriel into using himself to help create Nirn, the elves were sundered and forced to be imperfect mortals.

Or something like that.

What, specifically, do you mean by "life and death cycle"? You could be referring to the natural circle of life, wherein creatures are born, live, and die only to serve as sustenance for and to make room for new life. Or you could be talking about the ultimate fate of the "soul" of a living being, whether or not there is any permanency, and what happens to that permanence after death.

As to the afterlife, I've always favored the explanation given in "Arkay the God", in which the spirits of mortals are more numerous than Nirn can accommodate at any one time, thus the spirits spend some time in some other realm ("Oblivion" in Arkay the God, "The Dreamsleave" or "Svongaarde" under more modern interpretations), with death being a necessary part of life to ensure all the spirits get their chance at existence. Arkay's job was to explain that to mortals who really didn't like, or understand, death.

Come to think of it, it's a very Sithic approach. According to "Sithis", Lorkhan was created to ensure that the ebb and flow of ideas could be no longer interrupted by those selfish ideas that attempted to continue their existence past their "natural" (according to Sithis) span.

The world of TES really isn't supposed to be some kind of clockwork clear-cut thing like in other games/works. That's what makes it so fascinating. This perspective is just one that the people in Tamriel take on the universe, and it's pretty similar to the Buddhist outlook. It will probably never be revealed (I hope) what the cycle of life and death really is there, at least not until it is for our world.

What a bunch of Gnostic crybabies.

Actually, you're right. I ignored the theological aspect of it, so it is really a lot closer to Gnosticism.