Burnt MOSFET in the following circuit. Why?
Hypothesis: you are not fully turning on the M1 and its channel resistance remains fairly high, which cause it to overheat.
That's cause by not driving the VGS  of M1 low enough.
That's caused by not driving VGS of M2 high enough.
That's caused by presence of a diode drop of D1 at the M2 source.  D1 is an LED, so the diode drop could be, say, 1.7V.

Try the following.
Remove D1 and replace it with a short.
Remove R2 and replace it with a short.
Test the circuit.