Interfacing VC0706 with AVR Microcontroller
Usualy, the connetion in serial problems are due to difference in speed communication, CRC, odd or even parity, etc. So check if the configuration are the same.

No, I don't think you can store one image in the SRAM of the microcontroler. If the image resolution is 640x480, then you will need at least 640*480=307200=307kb to store a black and white image. It is larger than the SRAM of the microcontroler (2kb).

I is also a large memory for a single microcontroler, then you'll need to add an external RAM, as large as the microcontroller's pins allow addressing.

Hope I could help you.