If you really want to see the inside then offer the tenants a $25 gift card to a local lunch spot and ask them to go to lunch on you this Saturday while you do your inspections.

Neighboring lots have recently sold for $1.2 million & most of the waterfront homes are worth $2-3 million (a few of the larger ones are close to $5 m ).Since it was a gift I'll have to pay capital gains if I sell it, so I'm considering different options.  

We'd 'gift' her the house or set it up in a trust.

But it appears you have no money since you say you "have 35k to invest" but the funds you list are all from borrowed sources that would not be in an accepted list unless your family can gift you the funds.

You are also disqualified if you acquire your home by gift or inheritance."

I don't know anyone that's doing a gift of equity anymore.  

A good estate attorney and tax CPA can help you structure a charitable remainder trust to  gift the property and then sell thereby eliminating the capital gains and depreciation recapture.

So my plan is to have him gift us the 20% of the appraised value as our down (Appraisal will be done this week and looks like it will be around 650k) 130K and he is fine with that and we would get a traditional mortgage after that.

All contracts, options, or other devices not based upon a substantial consideration, or that are otherwise employed to permit an unlicensed person to sell, lease, or let real estate, the beneficial title to which has not, in good faith, passed to such party for a substantial consideration, are hereby declared void and ineffective in all cases, suits, or proceedings had or taken under this chapter; however, this section shall not apply to irrevocable gifts, to unconditional contracts to purchase, or to options based upon a substantial consideration actually paid and not subject to any agreements to return or right of return reserved.I regularly turn in these frauds.

How loans should be:  Approve a loan with a specific buyer(s), seriously put them through all paces including tax transcripts, employer verification, account verifications for any downpayments, gifts, whatever they need for approving at their target price, all documents needed to give them total clearance for x amount for PI before they ever walk into a home looking to buy (with no change in income or debts, of course).