Also, if there is a decision to be made whether to liquidate the property or not at the end, do investors vote with their votes having a weight proportional to their equity? 

Seriously listen to @Michaela G.Everything that I've been taught about credit history is spot on to what she's saying.If you go and pay off the amount it will become recent history and carry more weight than just leaving it alone.If you're going to do anything, speak with a reputable credit repair person.

At the end of 7 years I would have a Principal reduction of around 21k (as en estimate).

Do you structure the lease option as an aggressive buy down of the principal so that by the end of the 5 years there is appreciation through principal reduction?

You also didn't mention the price of the house.  15% off on a $1M house is a reduction of $150k but 15% off on a $50k house is only a discount of $7.5k. 

Here are the numbers,Purchase Price: $165,000 as-isFinanced: $123,750 (25% down, couldn't put any less down with a conventional lender)Mortgage Rate: 5.25% (no points); 5.35% APR -rates are on the rise it seems.Estimated closing costs: $4,500Initial cash invested: $46,310Gross Rent: $1,725 ($875/$850)Operating Expenses: $815 (includes mgmt fees @ 10% & capex of $275/mo)Cash flow: $140.77Principal reduction: $142Cash-on-cash: 3.65%Total ROI: 7.4%Possible near future repairs: Roof (Estimated at $4,000); windows (Estimated at $5,000). 

I actually have a copy of the lease but it is not signed... do you think this holds any weight?

An investor with much more than than would likely see a reduction in paperwork and per/transaction and per/asset fees that would justify the additional expense of forming the LLC to begin with.

While I know as dad's it is our prerogative to fix things for our kids and make everything easier, I think that she should feel the weight of $100K of debt as much as possible. 

They weighted in three major categories:Emotional and physical well beingIncome and employmentCommunity and environmentI think these lists have value as cities try to attract businesses and residents.