Taking possession of a horse, and then reselling said horse for repayment does not seem right, under current law; again, doing so boarders on the lines of conversion.
It being a verbal contract will be difficult to prove. Anything like that, I highly suggest getting everything in writing. Of course it's your sister's word against your father in law's; and the fact that she has the horse is very convincing.
If your sister is in for a substantial amount, I would suggest, in this case, to go to small claims; but remember any time you are in a court of law, you have the burden of proof, meaning go in with everything you need to win your case. That being said, I would contact an attorney before hand to double check your states laws regarding this matter.