As far as I can tell from your post, I am assuming that you are trying to use a picture as a highlight, expecting it to appear when the button is selected. I am sorry to tell you this, but it will not work.
Having said that, here is a way to sort of do what you want, but I need to warn you right now, it is a somewhat limited, option wise, workaround.
Open your Encore project. Edit your menu in Photoshop.
open any button folder, create a new layer and drop your picture in it. rename the layer anything you want. Create another layer. In it, create a shape that covers your image completely and fill that shape with any color ( it doesn't matter what color it is ). Call that layer " (=1) Highlight ". Turn its visibility off, and save the file.
Switch back to Encore. your menu should be updated.
Go to MENU-EDIT MENU COLOR SET. Change the COLOR SET from
AUTOMATIC to MENU DEFAULT. In the normal group, change color 1 to one you like and the opacity to 100%. In Highlight Group 1, simply switch the opacity of color 1 Selected State to 0%. The Activated State color and opacity can be set any way you want, it's only going to show for a second, so that one is up to you. Click OK and check the result.
As I said, this is limited but keep in mind that each button can have 3 Highlight layers, each with it's own color and each can have its own shape, as long as the normal state color is 100% and the selected state colors are 0%, it should "sort of" work.
Hope this helps you do what you wanted. I'll keep you posted if I figure a better way to do it.