All parties are happy.I, and most other agents, won't write low ball offers for properties on the MLS, tie them up and waste the sellers time and the listing agents' time.

It'll be a waste of money. 

Once you have rehabbed it (cost effectively) and rented it out for say six months, a NEW appraisal should come in at least 40% more than you owe on it, which means that your Lender should approve a cash-out of 20-25% of it's new value ie. enough for a DEPOSIT on your next property purchase (and so on)...Others may have a clearer or more correct explanation.

My question is; How does living in the flip effect the tax end of this?

Is it a waste of money?

I know that will effect us negatively...but still would like to hear opinions since she has not paid mortgage since 07 and they have not been able to foreclose on her.

Interesting, but we need our view to be know directly to the SEC it they are to have any effect.

While waiting, I am wasting money on apartment rental.What will you suggest to do?

Your student loan debt is being serviced from after aftertax income, so that 6.8% needs to be adjusted for your marginal tax rate to yield what you must actually earn to service that debt (could be closer to 9-10% pre-tax).If you have forced appreciation in the house and it will appraise for 135K, you may be able to pull additional equity from the home to pay down (or pay off) your student debt ... effectively transferring your student loan (6.8%) to your mortgage (4.x%?).  

Don't listen to the other "grinches" out there saying this is a wasted expense.