I think what's important to take out of this is...
While H said those things to his mom... he COULD have said them, to you...
He did not... he had his reasons... and those reasons were important and right, for him... but he did not tell you...
In the mean time, your SIL involved herself in something that was none of her business. Of course, regardless of whether she liked any of the stuff that your H was doing, she had accepted it and so appears to have been operating under the understanding that OW was a fixture in H's life. Her assumption that OW was going to be part of your S's life was understandable. So she had her reasons, and they made sense to her...
As for your MIL... I'll get to her in a sec...
Your S... Well, the harsh reality is, if OW were to be a permanent fixture in your H's life... S would have to learn about her, eventually...
Protecting your S from (what might be) the reality of her was out of your control, regardless. It would need to happen, at some point.
I completely agree with sheltering the children from any OP until and unless the OP is a permanent part of their parent's life.
What appears to be the reality of it is, your H and at least his sister were operating out of what they believe WAS reality... the OW was a permanent part of your H's life.
What does appear to be the case is, you were really operating under the desired belief that OW was not permanent. Perhaps under the hidden belief that your H and you would resolve things. And so... understandably... protecting your S...
Thing is... I knew my dad had an A. I was probably 6 at the time it happened. It came out in arguments my parents would have. My mom would mention it to us when she was drunk over the next number of years. It is what it is...
Did it "harm" me? Probably. Maybe... IDK... My sitch is different than your S's sitch...
But kids are smart... if he didn't hear about it from his cousin, he may have heard about it from someone else... he may have put two and two together on his own... I know my kids certainly have some idea about what my W's OM/EAs represent, to her... nothing I could do about that... a moral clause in a S or D only hold until the spouse and OP out themselves and make things "permanent"...
With D rates the way they are... really... is ANY R permanent?
NOW, without a shadow of a doubt... is time for zig to be still...
As you say, step outside the circle and remove yourself from what ever fallout might come of this.
You are working yourself up for an unknown future outcome.
What appears to be unfortunate is... your H may have come to his senses... a little late to the party...
and now... his house of cards could be falling down, around him...
and that's not yours to own...
and life isn't magic... it doesn't often give people "happily ever afters"... that's probably a good thing... a "right" thing... a natural thing...
Could it get ugly? Sure...
WILL IT...? No one knows...
The harsh reality is, you had a convo with your mil... you mentioned some stuff that, from what you knew, was reality... your mil told you some stuff that, was different than your reality... and your mil... has now taken ownership of something that isn't her's to own...
Your responsibility...? What can you take of what you COULD control, out of this? What did you own that you shouldn't have? What SHOULD you own, that you aren't?