How much do they want you to to pay, to pay off one of the mortgages (or both of their existing mortgages)? 

Risks: rates go down and you have to pay a prepay of 2 or 3 %; you have to sell and pay the prepay; rents decline & you can't make the payment like any other type of loan; cost upfront a little more than conventional; need to find experienced broker licensed in the state where subject property sits; servicers are bulldogs. 

We explained to him we would pay for probate and pay to fix up the house to get it rented.The lease is for 5 years but dissolves once we close.

Now if I pass that income as management fees to S-corp, I pay $3.5K (SE tax) + $800 (LLC fee) + $1700 (CPA + bookkeeping) = $6K in total.

If rates come down (most likely not in 2025) you can refinance or just shovel cash-flow and pay it down quicker. 

. $1300/month, tenant pays all utilities. 4 bedroom one is vacant.

Regarding your other questions:  - If the going value is $260/SF, why would you pay more than that?  

No need to pay big bucks for this. 

We will be paying nearly $50,000/year in property insurance.

Right now, the best offers around me are for some 1.3-4 million, that only generated around 100k per year gross, so there would be a high chance of not cash flowing, and paying money, especially with a commercial loan (these buildings have more than 4 units).I was thinking that although the rental itself does not generate money, I would be able to deduct the mortgage interest, and depreciation from my personal w2 income and would be net positive.