I haven't beaten it yet, so I'm not entiireely sure, but you actually get to play as Harry Mason again. I think the whole thing is an alternate universe. o.o It really seems like it. Cuz he starts off at a psychiatrist's, who happens to be Dr. Kaufman. And Harry is telling him about what happened in Silent Hill and what-not. There's actually no monsters there, but you see these shadows and stuff, and take pictures using your cell phone to find various ghosts, it seems like. Idk what to call em. But as you go through, you end up doing these Nightmare Runs, where the only enemy are these things called Rawshocks, and you can't fight back. :I So you have to run and find your way out of the place, and if they grab you too many times or you don't break away fast enough, he'll faint and you gotta start the run over. It's awful cuz they scream and tackle you and just, grah. It wouldn't be as bad if you could actually fight.
But yeah, the whole thing seems like an alternate storyline for the first game, but I'm not for sure, since I haven't beaten it yet.