Yeah, WP is the way to go for something like this. WP always makes it easier to post & organize content. But it is not what the default WP is set up for. You gotta use a number of plugins, and most likely get your fingers dirty in some minor PHP code.
WP by default is made for chronological navigation (usually reverse-chron with the newest thing first).
You will need to reorganize the display of your posts & your indexes / navigation to the posts, so it makes sense in story form.
An important decision early-on is to decide: What is a "post" in the blog? Is it a whole story, with many pages in the post? Or is a post a Chapter, and many posts are needed for the whole story? Think about organization. Same for Categories, and Tags -- how will they be used in your site? Each book gets it's own category? Or there is mystery category, love story category, etc.?
-ability to make stories and add chapters
Yes, ok. Probably divide this up with Posts and Categories. Possibly use "Paged" posts which are posts that are so-long that you break 1 post up into page 1, page 2, page 3, page 4, of that post. Alternatively add a layer of Custom Fields to help you break this up. For example make the custom field:
VALUE= CHAPTER ONE
With that, you can "call" the Chapter to display in your theme in different ways (that may require a bit of PHP to mess around with displaying custom fields).
-ability to rate and review(comments for each chapter are fine as is)
Comments system built in for reviews. Add Post Ratings plugin for 5 stars, or Vote It Up plugin (I recommend Vote It Up, and disable the negative voting, and just collect # of people who liked it, but whatever you need to do).
-ability to define if a story is complete, ongoing, or on hold
Use a custom field for this.
KEY= Is This Story Complete
VALUE = On Hold
-ability to have a user profile
Then you need to make each user Register for your site, which makes them into something WP might call "author" or "subscriber". Now you can use WP's author templates ability to create a profile page template, that will work for each registrant. There are also plugins to flesh it out. Register Plus plugin, and Extra Author fields plugins.
-ability to have a user be able to add photos to a gallery
Not sure about that. This is the only thing you asked that I haven't tried.
-ability to list a defined number of recent stories
Easy with WP.
-ability to have a feature story
It can be a "Sticky" post in WP 2.7+.
You can give it a custom style with CSS.
Alternately you can mark your Featured story with a Custom Field (KEY=Featured, VALUE=Yes), or a Tag, or a Category "Featured Posts".
Good luck and post again if you get something going