We seem to think it might be the crawl space entrance not having block around it.

You have definitely seen them before, maybe on the on/off ramp of a highway or the entrance of a community.

The MIL has its own separate entrance, however, there is a laundry room located in the MIL as well.  

However, the sellers don't have a permit for it, nor water/electrical meters etc.The house was built in the 50's, Zoning is R-75, and Tax document reads "Improvement Type: 06-DUPLEX 2 FAMILY RESIDENTIAL"Its built on a slope with the 2 units on the upper part and a separate basement below, with its own entrance and windows on all 3 sides.

Hi Wesley,Here's a proposal (attached image) based on what I can see from your post:1) Expand the Bonus Room into the Bedroom to create the new Kitchen 13'x8' or 14'x8.Current Bedroom becomes closet (valuable storage space, and you get to keep the access door leading under staircase)Current Kitchen becomes Bedroom2) Move drain and water supply to where the new sink is3) Mudroom becomes Entrance, close off redundant door4) You could remove the door Entrance/Bedroom and widen its opening5) New Layout is a nice small but comfortable Studio with proper entrance, decent separate kitchen and good storage spaceWorks?

Also adding the same to an apartment complex we own no HOA, Private Alley entrance.

Legally, this will just be 1 unit but with 2 entrances, 2 kitchens and a door separates the 2 spaces.  

The upside to the property is that it's about 10 miles from the entrance to the Painted Desert National Park, and it has about 150 feet of frontage on HW 40.

I got a 3 family that had a 100 amp service entrance, with fuses replaced with a 200 amp circuit breaker system.

Most college towns have limits on the number of unrelated individuals living together to prevent exactly what you are planning.Defiantly a better plan to have a separate basement suite as you will still need to comply with building codes for window egress and possibly a separate basement entrance.