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I found the answer to my own question via my Premier support TAM. When configuring your onpremise OCS 2007 R2 server you need to specify an Access Edge Server: sipfed.online.lync.com
After adding the Edge Server in the configuration, it is up and running as expected. I can now IM from Office 365 environment to my on-premise, my account team at Microsoft, and Windows Live. I'm good to go and hope this information helps someone else too.
Looking at the OCS configuration properties, i see "Access Edge Server"... is there a Lync Edge Server that we need to specify in the configuration? If so what is that for Office 365?
Error 504 ususally means one of the following: DNS error, Routing problem or firewall issue
Please add the domain in the "Allow" tab on your Edge Server and add the FQDN "sipfed.online.lynx.com".
Make sure that your Edge Server is accessable on Port 5061 tcp from the Internet and that you are using a valid certificate.
These were helpful articles for me to get it working:
technet.microsoft.com/.../gg425882.aspx
www.agileit.com/.../Post.aspx
To get audio/video working between OCS 2007R2 and Lync Online you have to make sure that you avoid NAT issues:
blogs.technet.com/.../configuring-a_2f00_v-edge-service-for-nat.aspx
msunified.net/.../no-audio-and-video-with-external-clients-when-ocs-r2-edge-is-behind-nat
Everything I had to do to get federation working had to be done in my OCS setup
Federation in Lync Online is a simple click and DNS SRV entries if you use a domain other the <tenant>.onmicrosoft.com
Good luck and Regards,
Tim