Paneling is pretty easy to remove and replace, I would explore that option first.
I don't recommend painting paneling, because it doesn't look right when you are done, and very few people are willing to do the prep work necessary to make the job last without the paint peeling off.
You can fill small holes with normal drywall repair compound (red devil's "one-time" works well) and sand it smooth before you paint. Larger holes require some backing for the filler. The problem is, paneling is so thin, it is difficult to obtain a good backing and the paneling is too thin to support much of a filler repair without it.
As far as paint, PREP PREP PREP. The finish needs to be lightly sanded to give the primer something to grip onto. TSP is a good idea too, but read the directions and use gloves.
Use a high quality paint whenever you paint. Be willing to spend a couple extra bucks on a gallon of the "best" paint, because you don't want to have to do this again any sooner than you have to. Consider buying paint at a specialty store, as many "big box" stores carry a lower price paint made by the same manufacturers, but at a lower quality as well. (for example, Ford Motor Company makes and sells Jaguars and Fords, but you would NEVER see a brand new XJS sitting next to an Escort at the same dealership) (I can't wait to see what paint guy will say about this!)
Anyhow, buy quality materials, save the money on your labor, or hire a professional. Your choice.