Jerry --
Your explanation sounds plausible. The LO is trying to figure out how to get a loan out of this prospect. Leave no stone damp side up!
The problem appears to be the overall value of the subject. The present occupant has been paying rent and cash- and sweat-equity build-up for 36 months. Now it's time to perform or ...
The poor condition of the home once improved by the occupant would improve the occupant's sweat equity; at least that equity would accrue to either the occupant or the fee owner.
Depending on the area, the rent may have been considered low at $895 per month with the occupant paying all utilities and the owner paying taxes.
If there's not enough equity in the home today, that should have been anticpated through an appraisal at the inception to outline the parameters within which the parties were working (the prospective buyer, of course).
I know, I know. These types of transaction are usually done by the parties themselves without benefit of professional help of any kind. Even a question to an LO.
If the occupant's cash- and sweat-equity isn't enough for a down payment position and he cannot secure a loan to buy the property, it's most probable that all the equity will become phantom and disappear into the seller's pocket when the option agreement runs out.
Unless it's spelled out in the agreement, the occupants cash and work may both be subject to disappear when the agreement has run its course.