Then, once you sold it, you could exercise your option and buy the house from her with a new mortgage, and take our her existing mortgage.  

I don't believe this is a deal but I think this will be a good exercise in learning what to look for as although I do wholesaling my main goal is to buy and hold multi-family properties.

However with a Lease Option any fixing you do to the property is not yours until you exercise the Option.

Once they exercise their Option, I pay off my underlying Option and pocket the remaining.

If he lives there, he can sell it, claim the gains with his wife and exercise the 500k exemption allowed by the IRS.http://www.irs.gov/Businesses/Small-Businesses-&-S...Otherwise he may just want the speed of a cash transaction.

My other concern is having no recourse on right of redemption, so if the previous owner exercises his right after closing, I'm **** out of luck.So, my question is "Has anyone experienced these issues with a bank addendum regarding an REO purchase and how did you handle it?  

Your tenants could exercise their option for higher rates and your CAP rate goes up.

Germain Act which prohibits a lender from exercising the "due on sale" clause when a relative inherits a property applies ONLY if the relative (you in this case) is a person who occupies or will occupy the property.

The danger of not knowing why is that you might not ever be satisfied.... so don't take the exercise of a mission statement too lightly. 

I would suggest doing it 1-2 years at a time generally and have them renew at the end of each period if they choose not to exercise their option. of course one important part here no matter what approach you take is for the poor credit buyer to work hard on improving their credit.