In theory this is cool but in practice its not terribly pratical. I tried something similar and it just led to a bunch of problems:
-Your first idea of other penalties is promising, although you have to be careful to not penalize the whole party for one character's death. I did something similar, using a PARTY XP rather than individual and ran into the problems of "What about when someone misses the game for a week, they don't get our xp do they?" and "My character was the spokesman, the diplomat and disarmed every trap in the place and I get the same xp as everyone else?" Bottom line, whatever you do, make sure its fair and no one else feels slighted by it
-The idea of only making magic that restores without level loss I also tried and that created its own problems. For one, they knew the town priest was 17th level (since he had true res) and kept going back to him for spells like heal and divination and scrying, etc, all spells I didn't want them to have access too. They became dependant on him - so he died in the next adventure as part of a murder mystery.
Also, if its very expensive, they aren't likely to want to come back. Whats the point of having my fighter back if I had to sell all my gear to bring him back. Now I have a MW sword and no way to hurt anything with damage reduction magic. This also hurts the rest of the party since they have to pony up some serious money (25k!) to bring back a friend. And at levels like 9th or so when raise dead becomes available, they don't even have that kind of gold for their own gear. And that leads to my last point:
-No raise dead makes for an unhappy group, believe me. If I've been playing a character for almost a year and love him and his abilities to the core and you kill him off with no chance of bringing him back, I'm going to be mad. I know it sounds silly, but players like playing the same character. Also it creates a sense of togetherness and unity that a constantly changing group doesn't. If two players have characters that are friends for a long time that makes for more interesting adventures later on, "this is just like the time we took down the warlord of Argmath on the Isiam peninsula, remember?" Where as, "Whats your name again" pretty much sucks.
Character death is a VERY tough thing to balance since its not even fair to the party roles - the up front fighter is more liekly to die than the wizard and priest casting spells in the back. I made my peace with it after several times of getting it wrong. I let it go knowing that eventually the lower xp player will catch up eventually since they get more xp for each encounter.
I suggest encouraging the priest of the party to be a Favored Soul and learn the spell Delay Death, that has slowed the character death rate by alot!
When I tried this out in my campaign, no one was afraid to die since there was no substantial penalty for it. It was like a video game and there was no sense of drama to the combats because no one cared if they died. Now, knowing they'll lose a level, they fight tooth and nail to survive as anyone in those kind of situations should.
To make a long story short (too late, I know) I stopped trying to "fix" the raising system and made my peace with it since everything I tried made for a much more pointlessly complicated system. Does it suck? Yes, but it should, you died and you're brought back from the dead, that can't be (and shouldn't be) easy.
