There is no upside and plenty of potential downside... 

The downside is trying to sell.

The things I read tend to acknowledge the upside but not the down side of investing.

adding to what Derek said; the other 'downside' as an agent is that many sellers will insist that since property is not 'sold' until lease option is expired, therefore the commission to the agent must be paid at 5% x the monthly payments - a long term nightmare that gets worse on default about 3 years down the line Bob Cash

What are some of the bigger "red flags" or issues/downsides to purchasing these Nore (other than the obvious of borrower's poor credit, undesirable neighborhood, poor payment history, borrower's initial low down payment/equity, etc)?

This has downside implications for OO homebuyers as well as investors seeking to buy with leverage, or sell to mortgage-leveraged buyers.In any case, it might be dangerous to ignore the matriculations and subsequent trends spawned by this new policy, active TODAY, APRIL 1, 2012.

The downside to this is, no monthly income thereafter, and complete loss of the asset.What would you do?

i don't think the upside is there to justify the downsides.

One downside with the construction loan though is that there are usually draws against the bank which is different than the HELOC where you can gain immediate access to funds.

My choice would be to go after cash flow and limit my downside risk, but this is coming from an expectant father so maybe I am playing it too safe!