Gen 2, 340K, P0304 misfire and engine knock; Dealer wants to put in a new motor?

Hey Everyone,

This is a move and edit to the correct forum.

I've got a Gen2 2005 Prius, with about 340K miles (odometer has the 299,999 problem :-/)

Driving down the interstate, the Check Engine light started flashing, so I went to pull over. As I slowed, a really large engine knock started. Since, I've only started it to get it onto tow trucks, and it was like a lawnmower: loud and shaky.

While Getting it onto the tow truck, it threw a P0304 misfire in cylinder 4 code.

Had the car towed to the dealer, (other mechanics were booked for weeks), and in pretty short order their response was "It has a knock, we recommend replacing the motor".

I've seen posts here talking about replacing plug/coils as fixes for knocks and misfire codes. Is it possible/likely that my dealer is crap, and not checking any of those options? Or is it obvious when a knock is bad enough that the engine is toast? They didn't mention anything other than "has a knock"; so I don't know if they checked cylinder compression or anything else. It is possibly the dealer checked those things, but is communicating that poorly.

Since posting, I've seen this thread: Terrible engine sound prius 2008 (fault code: P0304) | PriusChat
about doing some engine tests (wish I'd seen them earlier!-- I'll get on that once I get Sparky back from the dealer).

On my misplaced post in gen3 forum, someone asked about oil: When it happened, the oil level was low, but still within the two dots on the dipstick. I'd guess about 1 out of 5 quarts, since the oil went up about 20% of the space between the dots on the dipstick. Once then engine sat, it was mostly full, and I'd just had a change 1000-ish miles ago. Otherwise all regular maintenance has been performed.

I was hoping lil' sparky would keep going another year for the market to cool down. I'm pretty mechanically inclined, but have never done any serious engine work (I can replace hybrid battery cells in my sleep at this point though ;-P) Thanks for your input!