THANK YOU EVERYONE FOR YOUR HELP. I HAVE FOUND SOME REALLY CUTE DESIGNS.SEW ON!
Here is a really cute applique gingerbread face in 3 sizes.
these are for free and for xmas.look also at the 1st page of free designs.
Check out some of the designers that are known for their applique work and children's designs. They often have cute freebies for you to try or have a yahoo group where they share designs occassionally. I can think of a few and maybe others will be able to give you more ideas.
Five Star Fonts have some cute holiday designs in the freebie section. Check Bunnycup for the free retired sets and see what they have too.