Yeah, Mercer Island is nice (on a big lake, right next to Seattle) But no way are you going to find a nice 2000 sf house there for $400k. ( I just did a check. . .not even at 1500_sf . . out of 148 listed)
Edmonds does have a lot of charm and class, IMO.(about 30mins north of Seattle, sloping mostly to the west w/ water and mnt views) It seem to be getting pricy fast too.
For seattle neighborhoods see
http://www.urbanlivingseattle.com/marketupdate.htm for price trends.