Could you talk to the RE agency again and explain what you have here - that your issue is with your MIL and that you would really appreciate a good reference particularly as you need to provide housing for your children. Appeal to their better nature. Are they part of a chain at all - can you go higher than the person you've already dealt with?
I would think that they could at the very least provide you with a letter that outlines the facts ie. that you've always paid rent on time, no damage to the property etc.
If you can't get a reference, then I'd just be honest with your next application and say that your previous landlord was your MIL and that there's been a falling out over family issues.
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