I am not your CPA or attorney, this is not legal or tax advice. 

I would then follow up with the upstairs tenant and let them know that I had issued the offending tenant a written warning about the behavior.

Actually he brought the issue to your attention, was absolutely correct and the best thing you can do is make a note of it for the future. 

Not quite the same issue.

Generally speaking in the U.S. many vices are legal (g*ns, dr*gs, patent trolls, frivolous litigation as extortion, closed hand combat, prej*dice) but evicting squatters is virtually impossible...just jk obvs.

This post sounds like you are giving legal / financial advise that you do not have the credentials to give.  

Somehow, it seemed to blow up as an issue during Covid. 

. - Rehab financing is less of an issue than take-out (permanent) financing here.

Sounds like a hard money lender that wants to take a property from you when you default.There's a lot of issues here starting with a guy that will loan you money and once it gets difficult wants you to abandon ship- red flag.There are a lot of unknowns here but trying to dump it seems like a 100% guarantee to lose money.

Zero-Issues.