Balloon payment due - surprise

[Kenny Tan]

We were just notified by the 2nd mortgage bank that our SFR rental has a balloon payment of $29K due at the end of the year. This throws a money wrench into our finances for the next few months as we have a short sale house purchase in the works that we will need cash for. That is, if the bank does not counter, we would have to cough up 350K for the purchase, plus 20-25 for roof and misc repairs. We have 400K in reserves for this.
This balloon payment is going to be a stretch, with a few thousands in property taxes due at year end thrown in.
Why was the balloon payment a surprise?
Answer, my wife bought the house with this trash loan before I met her.
She was basically tricked, as she had 800 FICO and a good job/history. In 2003 there was no reason she couldn’t have gotten a much better loan. There was no reason for me to pry into her finances when we were dating at that time.
We turned her house into a rental when we got married. Sure that was a mistake, given the housing bubble burst shortly after, but it is breaking even. And the P payment is what we are banking on until house prices and rent can work their way up.
I am a numbers guy, I would never accept a balloon mortgage loan. My wife didn’t even know it was due, she thought it’d be paid off soon! I am not going to point fingers as we all make mistakes one time or another. I kick myself for not checking on the terms.
Actually it is such a bad loan (7.5%) that I don’t mind paying it off if I had the means.

We cannot refi the 2nd as the house is about 24K under water.
We have IRA/401K to cover but that will incur penalties.
We don’t want to short sell or sell at a loss now.

I am seeking good ideas to solve this problem?