I think this is a case where you can't control another person's reaction. You have good reasons for wanting to back out of the trip. If you've made up your mind to do so, it should be as soon as possible.
However, realistically, she's going to be upset. It might go smoother if you acknowledge that right off. I probably would bring up that my kids aren't enthused about going, because it is a big part of your reluctance, and it's the part not about her. I would say something like,
"SIL, I know you're going to be disappointed, and I'm sorry, but (husband) and I have realized that our kids aren't interested in going back to Fun Vacation Spot. There's just no way for us to justify spending that kind of money to surprise them with a vacation that they will be lackluster about at best, so we have decided to bow out of the trip. We know your kids will really enjoy it, and we are happy to share tips and help you plan. We still want to help make the trip special for them, so if you decide to still take them, we'd like to [buy them a special overnight bag, give them spending money for souvenirs, or some other gesture]. I'm sorry it's not going to be like we initially planned, and I hope you understand."
And then, let her have her reaction. If she is upset or reacts negatively, I've found that acknowledging the validity of the feeling, while remaining calm and non-defensive, helps defuse tensions. Something like, "In your place, I would be disappointed, too. I'm sorry it didn't work out."