So, just so I understand, you are using PE3, is that correct? And you are painting on the "Canvas" layer, but are not seeing "strokes" on your image as you paint, but you are seeing them in that layer thumbnail?
To combine the layers, in the bottom left-hand corner of the Layers Palette you will see a "Layer Commands" button, if you click on it a menu will drop-down. On that menu, you will see a "Drop" command. That will take your currently active layer and combine it with your "Canvas" layer.
As for transparency on a layer, you are correct, the only file formats that support layer transparency from PE3 are RIFF and PSD. Saving it to a JPG file from PE3 will "flatten" your layers to the canvas.
I hope that helps,
Jennifer