How should I go about this...
First the incorrect stuff should be fixed.
QUOTE because mkv files can hold audio in h264 which is better quality than mpeg 3, but avi can't.
There's no audio called h264. You mean h264 video, and many a time an avi release will have that as well. The fact that avi does not support containing h264 doesn't stop many fansub encoders.
QUOTE .avi files, in terms of subbed anime, are called Audio Video Interleave, ones with encoded subs in this case. Other than that, in technical terms, it is a multimedia container that could contain any type of encoding at all (usually h264, xvid, etc.), and usually is a popular choice because they do not have much interference with codecs that are used to play with it.
Subtitles do not have to be hardsubbed onto the video for avi. They actually can be softsubbed but that isn't really supported by any splitter outside of Haali's.
And one small amendment to what you said about the containing abilities. Yes avi can pretty much contain anything but most of what's added into it is through hacks. Almost every fansub avi release is not actually correct to it's standard. Most being of the XviD type which is not supported in avi without the Packed Bitstream hack.
QUOTE .mkv files are known as matrovska Video Files. These are somewhat like .avi files, with some exceptions. .mkv files tend to be in a pretty good quality, and is also smaller in filesize. It also uses a different binary meta-language, meaning, apart from avi, it's very open-accessible and adaptable. Also, note that .mkv files are completely container files, meaning they may hold a video file, audio file, and possibly subtitles separately, which is advantageous in terms of open-access.
1. There's no quality difference between container formats. Everything looks the same no matter what container you put it in. Whether it will work properly depends on whether the container actually supports it.
2. Subtitles can be muxed in as part of the Matroska file. They do not have to be separate.
3. Matroska = mkv, mka, mks
QUOTE Now, in terms of fansubbed-anime, the advantages to two sides are the same, but may be different in quality, subbing, type of subs, expertise, and/or speed. AVI tend to be more stable and its subs tend to be in synchronization most of the time. MKV tends to be higher in quality and more editable if there were a draw-back in the group's process.
1. Matroska has much better Error Correction over avi.
2. Subtitle synchronization depends on the subtitle renderer and not the container. Only time it will be off because of the container is if someone set a borked delay on the subtitles or the audio stream or you have a vfr stream that the encoder forgot to mux timecodes to.
Final info (I don't feel like rewriting stuff that's already well documented):
http://www.cccp-project.net/wiki/index.php?title=MKV