FIle Conversions and Color Loss; possible remedies?, Chara Spritesheets and Chara Battlesheets Options

[Lynx the Destroy...]

I'm trying to use 2003 and I've been working on custom sprite sheets. I've done this before with 2000 and had no problems but now I'm experiencing formatting issues.

2003 says it only accepts PNG and XYZ. I've found XYZ is similar to 256 color. I've converted different sprite sheets to various formats, including PNG, and the maker tells me:
[1] For all formats but PNG or 256 colors, I'm reminded these file types aren't supported
[2] For PNG files I've made myself, "This PNG type is not supported"; it however supports anything I download
[3] It accepts 256 color files.

The issue with file acceptance for 256 colors is the complete loss of color accuracy and depth. I've made reds that swapped and turned blues, half of every sprite becomes partially transparent, outlines merging and entire characters changing to a single conglomerate of indecipherable colors.

Are there any suggested solutions to this sprite sheet dilemma?

[MissCoriel]

For most sprite work I recommend iDraw3 takes a bit to get working but well worth it.