Every time I hear 1% cash flow I stab myself in the arm with a pencil - my arm looks like Swiss cheese now....hahahaSince you're in Gilbert, why not invest locally where you can walk properties and you know that area?  

In this market, people are have to be willing to buy a fixer upper (maybe just cosmetic issues) to force appreciation.

When rental demand dips they suffer with placing tenants or forced to play a game with who can charge the least in the area.  

When a tenant fails to pay, you ask them to leave, you tell them to leave, then you force them to leave through the court system.

The problems come when trying to force things. 

(The argument about "74% of your first year's payments going towards interest-only" is completely irrelevant, because if you converted the whole loan to a first position HELOC, your Lender would still require the same - if not more - money out of your wallet each month, and you'd only be accelerating your pay down if you were forced to pay it back quicker, or if you volunteered to, because of all your excess income!)

The only issue really is that this is not considered an "arms length transaction" so if you were going to a bank they may more hoops to jump through or lend less than they would in an arms length transactions or even pass on it.

Should I go for a 5-year ARM, or DSCR, or try to get a long-term ARM or DSCR loan?

That would give me enough time to repair the house to meet conventional standards and force equity for the cash out LTV %.

It doesn't need to be confrontational, but at least they will be forced to have a discussion with you about it.