A long time ago, back in 1995, I heard Sega CD 2 could play all CD games, but Sega CD1 (front loader) could play only "certain" games made until 1993. Was this true?
As far as I know that is not true. I have not had any problems with my model 1 playing any of my games. In my opinion the Genesis 1 and Sega CD 1 looks a lot cooler than the model 2 Genesis and Sega CD. I have owned both a model 1 & 2 Genesis and Sega CD. I have read that the first Sega CD was built better than the second model. I personally have had two model 2 Sega CD systems fail/malfunction.
The Sega CD 2 had a problem with the original Lunar when fighting the black dragon you had to open the cd tray before you beat him and then close it afterwards in order for it not to lock up. It was a weird bug, I got the tip from Working Designs along time ago.
I think the more important difference between the two is the relative fragility of the front loading tray mechanism. They break, a lot.
That said, the identical part is used in the Neo CD front loader, so should you ever need to fix either one, just gut the other unit that's gathering dust in your closet.