Horrified by the Toddler

I guess with Jonas almost being 4 he is more kid than toddler but that's not the point.  The point is how horrible I felt yesterday after he said something mean. 
The kids and I were chilling in the alley behind our house yesterday- it's the hangout for the neighborhood, which isn't saying much since there are like 7 kids in the neighborhood and 4 of them are mine.  
Anyway, they were playing and I was reading Eclipse (don't judge).  Jonas was about 10 feet away, riding his tricycle when one of the neighbors (a nice young adult that the kids usually adore) walked by.  He was a totally innocent bystander, just walking to the grocery store or his car when he passed Jo.  I heard Jonas say something and it sounded mean.  Instead of waiting and talking to him after like a smart parent of a horrible 3 year old I made the mistake: "What did you say, Jonas?"
Neighbor said, "I think he said 'get away from me'."
Then evil little Jonas said, "NO!  I said, 'Yoooou arrrre Uuuuuugly."  He wanted to make sure we heard him clearly this time. 

I swear my freakin' heart stopped.  I started fumbling for the right words to say, wondering if there were any right words to respond to something so awful.  What do you say when your kid is a big stinkin' meanie?  I started apologizing and saying stupid things.  I was telling Jo how mean that was and he had to apologize.  The neighbor was all, "It's okay" but how can I believe that when I'm so horrified. 
I told Jason what happened and was all freaked out wondering if the neighbor thought Jonas said it because we had said it.  Having your child do something so awful to someone else just screams BAD PARENTS.  I don't know if it's worse because I've never said that about anyone in front of the kids.  I guess maybe I've been watching tv and said, "oh that person is ugly" or something like that but I've never looked someone in the eye and said it, nor have I talked badly about anyone's lack of attraction behind their backs (except famous people).  I'm so very self-conscious about the way I look so I'm not all about to hop aboard the let's-make-fun-of-the-way-other-people-look train.  I typically ascribe the term ugly to behavior rather than appearance.  This bothers me. 
I tend to worry too much what other people think about me and in a case like this I'm going way over board, at least Jason says so.  I'm still totally freaked out by the whole ordeal and I just want to avoid any future that involves the neighbor walking by me when I'm anywhere near my child.  I just hope he doesn't feel too bad.  I know I would.