Setting folder icon in Mac OS X 10.6

"It should be made into a proper icon first, that's probably why it didn't work. I'd check out this tutorial on How To Create Icons for Mac OS X.

To change an item's icon to another one:


Select the volume, application, folder, or file whose icon you want to
stamp onto another, just click the
icon to select it.
From the File menu, choose Get Info or press Command-I to open the Info
window.
Click the icon in the upper-left corner of the Info window to select
it.
From the Edit menu, choose Copy or press Command-C.
Select the volume, application, folder, or file whose icon you want to
replace.
From the File menu, choose Get Info or press Command-I.
Click the icon in the upper-left corner.
From the Edit menu, choose Paste or press Command-V to replace the icon.


Mac 101: Change your icons"