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The easiest answer is when it fails a compression test. Buy a compression tester (farily cheap), and test each cylinder. If one single cylinder is below 120 psi, or if one cylinder reads 15% less pressure than the cylinder with the highest pressure, your engine should be torn down and checked. The problem might only be in the heads, but it's still time for some serious work.

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Q: When does an engine need to be rebuilt?
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