The diagram you have posted is for setting up a HYPOID gearset, a TOTALLY different (and a LOT more fussy) animal.
I DO NOT know how IH intended the gears to be set up, but what you are doing, using the hypoid instructions ain't the way!
I would GUESS it would be set up with the rear tips of the pinion teeth more or less even with the inner end of the teeth on the ringgear, then move the ringgear right or left 'til a certain amount of play is achieved.
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