Generally occupancy limits apply to hud housing or to care facilities and would not apply to your situation (check with your state law to confirm). 

Actually, not sure if that last part is true - can someone here with knowledge of foreclosure confirm if the seller's record is clear if the sale is avoided?

I'll let him confirm that part.Typically a no PMI with mass housing is 4.126% David Zheng

We confirmed with a realtor. 

@Walter Key and Account Closed thanks for confirming my guess:-)

We can get approved for financing on this and was confirmed today with a lender.After running the comps, 2 investors in our area are already asking to be involved on this project as well so I hope that's a good sign. 

Reserve a portion of the HELOC to put 20% down on your new residence so as to avoid PMI.

In my view the originator should be the one who gets the FANNIE 1003 loan app from the borrower, all doc and does the underwriting of the borrower to YOUR lending standards:  DTI, reserves.  

Most lenders will want to see at least 6 months of reserves for any/all mortgages in cash before closing.

But, going into home ownership without any cash reserves is very risky.