We were breaking our lease and as per the lease terms had to forfeit our security deposit.

Second tenant's actions cannot cause them to "forfeit" the SD.

Our rental application states that if the applicant does not take occupancy, their security deposit gets forfeited.

I also got sued by the city of Chicago for Elite's code violations, was listed as co-defendant just because I invested with Elite.

If the Applicant gives notice of cancelling the rental agreement prior to November 24th, Applicant will forfeit one hundred fifty dollars ($150.00) of the Holding Deposit.

As a result, the developer/seller's agent tried to claim that because there wasn't an address in the contract, that we had to either send them an additional $27k for inflation or take our deposit and forfeit our contract.

Fear of losing lending power by forfeiting my W2? 

Locking them in is nice as they are committing to stay and on my lease agreement, if they default, they automatically forfeit their security deposit.Month to Month is nice as it gives you both an exit.I haven't done this yet, but if I secure another year lease and if I had to break the lease agreement, I could offer them one month free rent to break the lease.

It sounds like there is no way around this.So my choices are 1) back out and forfeit the $500 2) Go ahead and take the risk of doing inspections without elec. and water turned on (and house has been vacant for at lease a year!)

If all contingencies have expired (inspection, appraisal, etc) and the buyer backs out they will most likely forfeit their earnest money.