Hi wanttobehealthy,
I can see why you are so disappointed and feel betrayed but I see it as a blessing in disguise. Do you really want your children around those people? The man broke his wife's jaw? And she's still living with him? These are VERY unhealthy people. Also, you have seen that the wife is so addicted to her abusive husband that she is incapable of being a true friend to you. That is good information to have.
I agree that you should be straight with your kids about what is going on. Invite some new kids over for playdates, or maybe take them to the park to play during this transition time. As long as you are okay, your kids are going to be okay.
You did the absolute right thing calling the cops. If your neighbor gives you grief about it again, tell him you're prepared to call the cops on him too.