I tried what you have mentioned in your posting and this is what I found. For Local users leave the Domain Name empty and provide only the user name and you will not see the problem you mentioned.
For local groups created by you don't provide any Domain Name but for standard builtin groups like BUILTIN\Administrator provide BUILTIN as the Domain Name and Administrators as the User Name.
However if the user you are trying to add a user who belongs to a domain then use the convention you are using today. DomainName\UserName
For more information refer
http://msdn.microsoft.com/library/default.asp?url=/library/en-us/msi/setup/lockpermissions_table.asp