If your software will let you print out a true-to-size paper sample, try printing out the 3 3.5" initials and also 3 3" initials. Place the samples on the bag. Is there room for your hoop? Are they big enough? If you can't print on paper, do a quick stitch out of the size you think is right on cutaway, trim it down and place on the bag, with the hoop around it.
A great comment
Hmmmm...lots of possibilities...it could depend upon where you want the initials to be on the tote bag...
I usually do them 4" to 6" high. Also depends on how fancy the initials are.