Well, 3 months, ~$300 worth of beer, and ~ $450 worth of miscellaneous parts later; Frauline Frankenbenz 240D moved out of the garage under her own power. Here's the skinny on everything we did:

1) removed the completely blown 4 cyl engine
2) removed the completely good 4 sp manual transmission
3) replaced the engine with a good 5 cyl turbodiesel from an 84 300SD
4) hooked the good 4sp manual behind the 5 cyl turbodiesel
5) shortened the front driveshaft by 10.65 cm, shortened the shift linkages to fit
6) put a 2.88 rear diff from an 85 SD on the rear end.
7) shortened the 84 SD exhaust to fit under the 123 body, and did alot of welding to get exhaust hanging points.
8) cursed alot
9) hybridized the vacuum and electrical systems as best as possible
10 cursed alot more
11) new shocks all around

note: between all steps, insert "drank beer"

We've done some test driving, and amazingly it all works. 1st gear sucks, even though one can get the tires to squeal on a takeoff! Everything else is very peppy. Turbo spools up nicely at higher speeds. Ride issues were solved with new shocks. Two big issues: 1) can not get the tranny into Reverse (yes I pulled up!) if it gets close to being in reverse, then it gets all jammed up and I cant get it out again without getting under the car and fiddling with the linkages up by the gear shift lever. (note: this did not happen before the swap) 2) Engine vibration at all speeds, more noticeable @ low. We did not put add'l engine shocks on, so that may be the issue. We took it to our friendly Bosnian mechanics to diagnose. They agreed that it probably was extra engine vibration that was causing what we felt and would figure a way to dampen it. Any ideas on the linkage issue? Anyone...... Anyone? Thanks for all your help. We never would have been able to do it without this resource!