Well the mechanic came back again tonight and did another test. This time he took out each spark plug looking for water. The second spark plug hole had water inside, he then sprayed something in the hole of the spark plug and had me crank the car a few times. After that he let me see that there was water inside the hole. Yep, you guessed it.. cracked cylinder head.
So now I have to replace:
The Water Pump™ - (BMW OEM here costs $138)
The cylinder head - (The best price I've found for a used one is $1,050 if I trade them my old busted one. It's a little over $2,000 for a brand new one.)
Thermostat & housing - ($43)
Head Gasket Set - ($156)
So now I'm looking at spending $1,387 just on parts. The mechanic is going to charge $250 for the labor. That brings the total up to $1,637.
My advice to anyone out there with an E36. As soon as it overheats. DO NOT drive it! Have it towed wherever you need it to be and then diagnose the problem from there. What started out for me as needing to simply replace the water pump has now ended up with me having a cracked cylinder head and still having to replace the water pump.
Does anyone out there know of any good places to find a cylinder head? Any help is appreciated very much.