She cannot take a 1 bed place. DHS would not approve of that with regard to her son's care.
OP, I realise this doesn't help in any tangible way but it seems like you are doing an amazing job working with the money you get. Budgeting skills are all well and good but you can only work with the resources you currently have and, let's face it, Centrelink benefits barely cover the poverty line.
As suggested by pp's though, a financial counsellor could really help liaise with creditors to get you on a do-able plan for repayment of loans.