It's just a matter of time until Apple kills this app. Not even web browsers are allowed to save downloaded YouTube videos for offline use (http://www.icab.de/blog/2013/01/26/app-reviews-are-unpredict...).
If I download Flickr photos with the built in "save image" feature, then I'm violating Flickr's ToS, and the owner's copyright, but it doesn't make the save image feature a bad thing.
Apple rejected the update. The reason was not the bugfix, they rejected the App because of a feature that was available for years in iCab Mobile and which is also available in hundreds of other Apps in the AppStore. They rejected the App because it is able to download videos from YouTube so you can watch the videos offline.