They always say location location location and that is true to an extent, but there is also balance.
For example, the house we live in now is quite a big detached, 4 bed house with a lovely garden in a quiet area, but the sacrifices to an extent included the location. It's perfectly nice, but it doesn't have the buzz of our number 1 area. We could have bought a house there, but we would have had to sacrifice a lot of space, inside and out. If the area felt unsafe or generally just not nice though, then no amount of space would have been enough.
Sometimes a happy medium where you compromise a little on both is the best option. It was for us.
In your position, option 2 probably makes the most sense, providing the town was still reasonably nice and well equipped. Given option 1 isn't even that close to the nicer town, I think this would make the most sense.
Which feels more like home though? As soon as I walked through the door here, I felt at home, even though I'd previously discounted it, based on the area.