I have used pallet 5 and also found it hard to convert photos to pes. However, after using another software I have a couple of suggestions.
1. If there is a busy background in the picture it is difficult to automatically convert. You can remove the background before attempting to convert.
2. Or if there is a trace feature on the pallet 7 software, you might try importing the picture as a background and then using the bezior tool to trace around the shapes. I am using this method very successfully with the software I am now using.
I found it has taken me a year and a half to really feel comfortable with the software. If you want to contact me privately, I will be happy to try to help you. I know how frustrating it can be to know you can do something and not be able to get it done.