Contracted buyer being difficult. Negotiate or cut him loose?

[Jon Graham]

We recently flipped a property in NW Indiana. We had a hard time getting accurate comps to choose a listing price (we over-rehabbed the house for the area it was in). So, we aimed high at a listing price of 340k. The first day the listing was up we had a showing and an offer for 320k. We knew we were asking high and had only had a couple more showings before the offer was about to expire so we accepted. 

Everything went smooth until inspections. It seems the buyer started having second thoughts and became unreasonable with inspection repairs. It didn't help that the inspector they hired was a hack. He said our 3 month old furnace was 'nearing the end of it's useful life, approx 15-20 years, and needs replaced'. Along with many other screw ups. 

Some of the things the buyer asked for included removing all the attic insulation and reinsulating up to current code standards, because the inspector found some mice droppings in the attic. They wanted us to have a foundation company come in and waterproof the FINISHED basement, because there were signs of rust on one of the steel beam columns (the basement was flooded when we bought the house the power was off). Their inspector said there were three layers of shingles on the roof, which is against code. Even after we got a signed letter from our roofer stating there were only two, and the town approved the job with final inspections and occupancy permits. 

After 2 weeks of negotiations and a full month lost we decided to cut the buyer loose. We had only really had the house on the market for 2 days. Surely there was a better buyer out there right? Well after re-listing the house, the momentum was gone. Every person that considered making an offer asked why the first buy fell through. It was like everyone suspected something fishy going on because the first offer fell through. The house sat for 5 more months before we finally got another offer we could accept. We ended up selling the house for 294k. 26k under our original offer. In hind site if we had just done the first guys repairs, we would have ended up with more money and saved a lot of sleepless nights stressing about this property. 

Did we make a mistake cutting the guy loose? How far do you go negotiating with a buyer before it's time to cut your losses? A bird in the hand is worth two in the bush right? Is my realtor partly to blame for not being able to negotiate an acceptable deal? (We did later decide she was incompotent and after cutting her loose we sold the house in 30 days with a new realtor).