Ahhhh!!! I'm such a knob!! In my own confusion I was still passing the point from the mouse click, and not the new mousePoint to my method that actually creates the feature.
Thanks for making me look at my code again to explain things. I guess I was just looking at too many things and got all mixed up.
So mousePoint is getting updated with the snap point.....I just wasn't using properly!!
This line:
CreateWaterServiceConnection(featureClass, point1);
should say: CreateWaterServiceConnection(featureClass, mousePoint);
Thanks for helping me to understand the snapping!!