Does choosing the alternate app icon in app settings not count as "within the app" ?
What do you mean by "app settings"? Do you mean that you've usd a Settings.bundle to add settings for your app to the main Settings app? If that is what you mean, then that clearly isn't "within the app".
Having said that, it seems very pedantic that they would reject you for doing that. So... yeah, actually, that's exactly what they would do!
I suggest that you move the settings inside the app and see what happens.
If you're unsure if they have correctly understood how to change the icon - which is possible, though I think unlikely - then send them a screen capture video showing how to do it.