UNITED STATES SECURITIES AND EXCHANGE COMMISSION

                             Washington, D.C. 20549
                           ---------------------------

                                    FORM 10-K

                           ---------------------------


            _X_ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                 SECURITIES EXCHANGE ACT OF 1934 (Fee Required)
                   For the fiscal year ended December 31, 1996

                                       OR

          ___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                SECURITIES EXCHANGE ACT OF 1934 (No Fee Required)
                     For the transition period from __ to __

                           Commission File No. 33-2794

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership
              ----------------------------------------------------
             (Exact name of registrant as specified in its charter)

                  California                             94-2985086
          -------------------------------        ----------------------
          (State or other jurisdiction of        (IRS Employer I.D. No.)
          incorporation or organization)

      201 Mission Street,27th Floor,San Francisco, California     94105
      --------------------------------------------------------- ---------
               (Address of principal executive offices)         (Zip Code)

       Registrant's telephone number, including area code: (415) 284-7400

        Securities registered pursuant to Section 12(b) of the Act: None

           Securities registered pursuant to Section 12(g) of the Act:
                      Units of Limited Partnership Interest

Indicate  by check  mark  whether  the  registrant:  (1) has filed  all  reports
required to be filed by Section 13 or 15(d) of the  Securities  Exchange  Act of
1934  during  the  preceding  12 months  (or for such  shorter  period  that the
registrant was required to file such reports),  and (2) has been subject to such
filing requirements for the past 90 days. Yes _X_ No ___

Indicate by check mark if disclosure of delinquent  filers  pursuant to Item 405
of Regulation  S-K is not contained  herein,  and will not be contained,  to the
best of registrant's  knowledge,  in definitive proxy or information  statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. ___

No formal  market  exists  for the units of  limited  partnership  interest  and
therefore there exists no aggregate market value at December 31, 1996.

                    Documents incorporated by reference: None

                       This document consists of 59 pages.


<PAGE>

                                     PART I

Item 1.       Business

The  principal  objectives  of Polaris  Aircraft  Income  Fund II, A  California
Limited Partnership (PAIF-II or the Partnership), are to purchase and lease used
commercial jet aircraft in order to provide quarterly distributions of cash from
operations, to maximize the residual values of aircraft upon sale and to protect
Partnership capital through experienced management and diversification.  PAIF-II
was  organized as a  California  limited  partnership  on June 27, 1984 and will
terminate no later than December 2010.

PAIF-II has many competitors in the aircraft leasing market, including airlines,
aircraft leasing companies, other limited partnerships,  banks and several other
types of financial institutions.  This market is highly competitive and there is
no  single  competitor  who has a  significant  influence  on the  industry.  In
addition  to  other  competitors,   the  general  partner,   Polaris  Investment
Management Corporation (PIMC), and its affiliates, including GE Capital Aviation
Services,  Inc. (GECAS),  Polaris Aircraft Leasing Corporation  (PALC),  Polaris
Holding  Company (PHC) and General  Electric  Capital  Corporation (GE Capital),
acquire,  lease,  finance, sell and remarket aircraft for their own accounts and
for existing  aircraft and aircraft leasing  programs managed by them.  Further,
GECAS  provides a significant  range of management  services to GPA Group plc, a
public  limited  company  organized in Ireland,  together with its  consolidated
subsidiaries (GPA), which acquires, leases and sells aircraft.  Accordingly,  in
seeking to re-lease and sell its aircraft, the Partnership may be in competition
with the general partner, its affiliates, and GPA.

A brief  description of  the aircraft owned  by the Partnership  is set forth in
Item 2.  The  following   table   describes   certain   material  terms  of  the
Partnership's   leases   to   Trans  World  Airlines,  Inc.  (TWA),  Continental
Micronesia, Inc.  (Continental  Micronesia)   and  Continental   Airlines,  Inc.
(Continental) as of December 31, 1996.
                                                     Scheduled
                                          Number of    Lease
Lessee             Aircraft Type          Aircraft   Expiration  Renewal Options
------             -------------          --------   ----------  ---------------
TWA           McDonnell Douglas DC-9-30       2        2/98 (1)       none
              McDonnell Douglas DC-9-40       1       11/98 (1)       none
              McDonnell Douglas DC-9-30       1       11/98 (1)       none
              McDonnell Douglas DC-9-30      11       11/04 (1)       none
              McDonnell Douglas DC-9-30       3        2/05 (1)       none



Continental   Boeing 727-200 Advanced         1        4/98 (2)       none

Continental
Micronesia    Boeing 727-200 Advanced         2        4/98 (3)       none


(1)      These  leases  to TWA were  modified  in 1991.  The  leases  for the 16
         aircraft were extended for an aggregate of 75 months beyond the initial
         lease  expiration  date in November  1991 at  approximately  46% of the
         original  lease rates.  The leases for the  remaining two aircraft were
         extended for 72 months  beyond the initial  lease  expiration  dates in
         November 1992 at approximately 42% of the original lease rates. TWA may
         specify a lease  expiration  date for each  aircraft  up to six  months
         before  the  date  shown,  provided  the  average  date  for two of the
         aircraft is February 1998, the average expiration date for two aircraft
         is November 1998, the average  expiration  date for eleven  aircraft is
         November 2004, and the average  expiration date for the remaining three
         aircraft is February 2005. The Partnership  also agreed to share in the

                                        2

<PAGE>


         costs of  certain  Airworthiness  Directives  (ADs).  If such costs are
         incurred by TWA, they will be credited against rental payments, subject
         to annual  limitations with a maximum of $500,000 per aircraft over the
         lease terms.

         As discussed in Item 7, in October  1994,  TWA notified its  creditors,
         including the  Partnership,  of a proposed  restructuring  of its debt.
         Subsequently,  GECAS  negotiated a standstill  agreement with TWA which
         was  approved  on behalf of the  Partnership  by PIMC.  That  agreement
         provided for a moratorium of the rent due the  Partnership  in November
         1994  and 75% of the  rents  due the  Partnership  from  December  1994
         through March 1995. The deferred rents,  which  aggregated $3.6 million
         plus  interest,  were repaid in monthly  installments  beginning in May
         1995  through  October  1995.  In 1995,  the  Partnership  received  as
         consideration  for the  agreement  $218,071  and  warrants  for 227,133
         shares of TWA Common Stock (Item 7).

         GECAS,  on  behalf  of the  Partnership,  negotiated  with  TWA for the
         acquisition of noise-suppression devices, commonly known as "hushkits",
         for 14 of the 18  Partnership  aircraft  currently  on lease to TWA, as
         well as other  aircraft  owned by affiliates of PIMC and leased to TWA.
         The 14 aircraft  that  received  hushkits  were  designated by TWA. The
         hushkits  recondition  the  aircraft  so as to meet Stage 3 noise level
         restrictions.  Hushkits  were  installed  on  11 of  the  Partnership's
         aircraft during 1996 and the leases for these 11 aircraft were extended
         for a  period  of  eight  years  until  November  2004.  Hushkits  were
         installed on the remaining  three aircraft during February 1997 and the
         leases for these three  aircraft  were  extended  for a period of eight
         years until February 2005.

         The aggregate  cost of the hushkit  reconditioning  for the 11 aircraft
         was $17,516,722,  or approximately $1.6 million per aircraft, which was
         capitalized by the Partnership  during 1996. The Partnership  paid $3.3
         million of the  aggregate  hushkit cost and the balance of  $14,216,722
         was financed by the engine/hushkit manufacturer over a 6-year period at
         an interest  rate of  approximately  10% per annum.  The balance of the
         notes payable at December 31, 1996 was $14,193,178.

         The aggregate cost of the hushkit reconditioning for the 3 aircraft was
         $4,784,633,  or  approximately  $1.6  million per  aircraft,  which was
         capitalized  by the  Partnership  during  1997.  The  Partnership  paid
         $900,000 of the  aggregate  hushkit cost and the balance of  $3,884,633
         was financed by the engine/hushkit manufacturer over a 6-year period at
         an interest rate of approximately 10% per annum.

         The rent  payable by TWA under the leases  was  increased  by an amount
         sufficient  to cover the monthly debt service  payments on the hushkits
         and  fully  repay,  during  the  term of the  TWA  leases,  the  amount
         borrowed. The loan from the engine/hushkit manufacturer is non-recourse
         to the  Partnership  and  secured by a security  interest  in the lease
         receivables.

(2)      This aircraft,  previously on lease to Alaska Airlines,  Inc. (Alaska),
         was  leased  to   Continental   in  April  1993.   The  lease  rate  is
         approximately  55% of the prior lease rate. The lease  stipulates  that
         Continental   may  assign  the  lease  to  its  affiliate   Continental
         Micronesia under certain conditions. The lease also stipulates that the
         Partnership  will  reimburse  costs  for  cockpit  modifications  up to
         $600,000,  C-check  labor costs up to  $300,000  and the actual cost of
         C-check  parts for the  aircraft.  In addition,  the  Partnership  will
         provide  financing  up to $815,000  for new image  modifications  to be
         repaid with interest  over the lease term. In accordance  with the cost
         sharing  agreement,   in  January  1994,  the  Partnership   reimbursed
         Continental $600,000 for cockpit modifications and $338,189 for C-check
         labor and parts. In addition, the Partnership financed $719,784 for new
         image  modifications  in 1994, which is being repaid with interest over
         the lease  term of the  aircraft.  The lease also  stipulates  that the
         Partnership  share in the cost of meeting  certain ADs, which cannot be
         estimated at this time.

                                        3

<PAGE>

(3)      These two  aircraft,  previously  on lease to  Alaska,  were  leased to
         Continental  Micronesia  in May and June  1993.  The  lease  rates  are
         approximately  55% of the prior lease rates.  The leases stipulate that
         the Partnership  will reimburse costs for cockpit  modifications  up to
         $600,000 per  aircraft,  C-check  labor costs up to $300,000 for one of
         the  aircraft  and the  actual  cost of  C-check  parts  for one of the
         aircraft.  In addition,  the Partnership  will provide  financing up to
         $815,000 for new image  modifications  to be repaid with  interest over
         the lease term for each aircraft.  In accordance  with the cost sharing
         agreement,  in January 1994, the Partnership reimbursed Continental (on
         behalf  of its  affiliate  Continental  Micronesia)  $1.2  million  for
         cockpit  modifications  and  $404,136 for C-check  labor and parts.  In
         addition,   the   Partnership   financed   $1,457,749   for  new  image
         modifications  in 1994,  which is being repaid with  interest  over the
         lease  terms  of the  aircraft.  The  leases  also  stipulate  that the
         Partnership  share in the cost of meeting  certain ADs, which cannot be
         estimated at this time.

The Partnership transferred six Boeing 727-200 aircraft,  formerly leased to Pan
American  World  Airways,  Inc. (Pan Am), to aircraft  inventory in 1992.  These
aircraft were  disassembled  for sale of their  component  parts as discussed in
Note 5 to the financial  statements  (Item 8). The  Partnership  sold one Boeing
727-200 aircraft equipped with a hushkit (described  below),  formerly leased to
Delta Airlines,  Inc. (Delta), to American  International Airways, Inc. (AIA) in
February 1995 as discussed in Item 7.

The lease of one Boeing 737-200 Combi aircraft to Northwest Territorial Airways,
Ltd. (NWT) expired in October 1995. As specified in the lease,  NWT was required
to perform  certain  maintenance  work on the aircraft prior to its return.  NWT
returned the aircraft without  performing the required  maintenance  work, which
constituted  a default under the lease.  The  Partnership  and NWT  subsequently
reached an  agreement  by which NWT paid to the  Partnership  in  December  1995
approximately $457,000 and the Partnership was entitled to retain NWT's security
deposit of  approximately  $101,000  in lieu of NWT's  performing  the  required
maintenance work on the aircraft. The airframe and one engine from this aircraft
were subsequently sold to Westjet Airlines, Ltd. (Westjet) in March 1996 and the
remaining engine was subsequently  sold in January 1997 to American  Aircarriers
Support, Inc. with one Boeing 737-200 as discussed in Items 7 and 8.

Industry-wide,  approximately  280  commercial  jet aircraft  were  available at
December 31, 1996 for sale or lease, approximately 195 less than a year ago, and
at under 2.5% of the total  available  jet  aircraft  fleet,  this is the lowest
level of availability since 1988. From 1991 to 1994, depressed demand for travel
limited  airline  expansion  plans,  with  new  aircraft  orders  and  scheduled
deliveries being canceled or substantially  deferred. As profitability declined,
many airlines took action to downsize or liquidate assets and some airlines were
forced to file for bankruptcy protection.  Following three years of good traffic
growth accompanied by rising yields,  this trend is reversing with many airlines
reporting record profits.  As a result of this improving  trend,  just over 1200
new jet aircraft were ordered in 1996, making this the second highest ever order
year in the history of the industry.  To date,  this strong  recovery has mainly
benefited Stage 3 narrow-bodies and younger Stage 2 narrow-bodies, many of which
are now being  upgraded with  hushkits,  which,  when installed on the aircraft,
bring Stage 2 aircraft  into  compliance  with Federal  Aviation  Administration
(FAA) Stage 3 noise  restrictions as discussed in the Industry Update section of
Item 7. Older Stage 2  narrow-bodies  have shown only marginal signs of recovery
since the depressed 1991 to 1994 period. In 1996, several airline accidents have
also impacted the market for older Stage 2 aircraft.  The  Partnership  has been
forced to adjust  its  estimates  of the  residual  values  realizable  from its
aircraft, which resulted in an increase in depreciation expense, as discussed in
Items 7 and 8. A  discussion  of the current  market  condition  for the type of
aircraft owned by the Partnership follows:

Boeing 727-200  Advanced - The Boeing 727 was the first tri-jet  introduced into
commercial  service.  The  Boeing 727 is a short- to  medium-range  jet used for
trips of up to 1,500  nautical  miles.  In 1972,  Boeing  introduced  the Boeing
727-200  Advanced  model,  a higher gross weight  version  with  increased  fuel
capacity as  compared  with the  non-advanced  model.  Hushkits  which bring the

                                        4

<PAGE>

Boeing 727-200 Advanced into compliance with FAA Stage 3 noise restrictions, are
now  available at an average cost of  approximately  $2.6 million per  aircraft.
Hushkits may not be cost effective on all aircraft due to the age of some of the
aircraft  and the time  required to fully  amortize the  additional  investment.
Certain  ADs  applicable  to all models of the  Boeing  727 have been  issued to
prevent fatigue cracks and control corrosion as discussed in Item 7.

Boeing 737-200 - The Boeing 737-200 aircraft was introduced in 1967 and 150 were
delivered from 1967 through 1971. This two-engine,  two-pilot  aircraft provides
operators with 107 to 130 seats,  meeting their requirements for economical lift
in the 1,100 nautical mile range.  Hushkits which bring Boeing 737-200  aircraft
into compliance with FAA Stage 3 noise restrictions, are now available at a cost
of approximately  $1.5 million per aircraft.  Hushkits may not be cost effective
on all aircraft due to the age of some of the aircraft and the time  required to
fully amortize the additional  investment.  Certain ADs applicable to all models
of the  Boeing  737 have been  issued to  prevent  fatigue  cracks  and  control
corrosion as discussed in Item 7.

McDonnell Douglas  DC-9-30/40 - The McDonnell Douglas  DC-9-30/40 is a short- to
medium-range twin- engine jet that was introduced in 1967.  Providing  reliable,
inexpensive  lift, these aircraft fill thin niche markets,  mostly in the United
States.  Hushkits are  available to bring these  aircraft into  compliance  with
Stage 3  requirements  at a cost of  approximately  $1.6  million per  aircraft.
Hushkits may not be cost effective on all aircraft due to the age of some of the
aircraft  and the time  required to fully  amortize the  additional  investment.
Certain ADs applicable to the McDonnell Douglas DC-9 have been issued to prevent
fatigue cracks and control corrosion as discussed in Item 7.

The general partner  believes that, in addition to the factors cited above,  the
deteriorated  market  for  the  Partnership's   aircraft  reflects  the  airline
industry's  reaction to the significant  expenditures  potentially  necessary to
bring these aircraft into compliance with certain ADs issued by the FAA relating
to aging aircraft,  corrosion prevention and control, and structural  inspection
and modification as discussed in the Industry Update section of Item 7.


Item 2.       Properties

At  December  31,  1996,  PAIF-II  owned 17  McDonnell  Douglas  DC-9-30 and one
McDonnell  Douglas DC-9-40  aircraft leased to TWA, one Boeing 727-200  Advanced
aircraft leased to Continental,  two Boeing 727-200 Advanced  aircraft leased to
Continental  Micronesia  and one  Boeing  737-200  aircraft  formerly  leased to
Viscount,  as discussed in Items 7 and 8. All leases are operating  leases.  The
Partnership  transferred six Boeing 727-200  aircraft,  previously leased to Pan
Am, to aircraft inventory in 1992. These aircraft, which are not included in the
following table,  have been  disassembled for sale of their component parts. The
Partnership sold one Boeing 727-200 aircraft equipped with a hushkit in February
1995. The  Partnership  sold the airframe and one engine from the Boeing 737-200
Combi aircraft in March 1996. The  Partnership  sold the remaining  engine along
with a Boeing 737-200 in January 1997.

                                        5

<PAGE>

The following table describes the Partnership's  aircraft  portfolio at December
31, 1996 in greater detail:

                                                Year of           Cycles
Aircraft Type                 Serial Number   Manufacture   As of 10/31/96 (1)
-------------                 -------------   -----------   ------------------
Boeing 727-200 Advanced           21426          1977             32,574
Boeing 727-200 Advanced           21427          1977             31,121
Boeing 727-200 Advanced           21947          1979             27,593
Boeing 737-200 (2)                19609          1968             63,364
McDonnell Douglas DC-9-30         47082          1967             76,107
McDonnell Douglas DC-9-30         47096          1967             76,741
McDonnell Douglas DC-9-30         47135          1968             77,476
McDonnell Douglas DC-9-30         47137          1968             76,247
McDonnell Douglas DC-9-30         47249          1968             82,757
McDonnell Douglas DC-9-30         47251          1968             80,927
McDonnell Douglas DC-9-30         47343          1969             79,464
McDonnell Douglas DC-9-30         47345          1969             77,837
McDonnell Douglas DC-9-30         47411          1969             75,191
McDonnell Douglas DC-9-30         47412          1969             75,382
McDonnell Douglas DC-9-30         47027          1967             81,285
McDonnell Douglas DC-9-30         47107          1968             81,291
McDonnell Douglas DC-9-30         47108          1968             78,079
McDonnell Douglas DC-9-30         47174          1968             78,731
McDonnell Douglas DC-9-30         47324          1969             75,263
McDonnell Douglas DC-9-30         47357          1969             74,679
McDonnell Douglas DC-9-30         47734          1977             45,589
McDonnell Douglas DC-9-40         47617          1975             44,562

(1)      Cycle information as of 12/31/96 was not available.
(2)      Aircraft sold in January 1997.


Item 3.       Legal Proceedings

Braniff, Inc. (Braniff) Bankruptcy - In September 1989, Braniff filed a petition
under Chapter 11 of the Federal  Bankruptcy Code in the United States Bankruptcy
Court for the Middle  District of Florida,  Orlando  Division.  On September 26,
1990 the  Partnership  filed a proof of claim to recover  unpaid  rent and other
damages,   and  on  November  27,  1990,  the  Partnership   filed  a  proof  of
administrative   claim  to  recover   damages   for   detention   of   aircraft,
non-compliance  with court  orders and  post-petition  use of engines as well as
liquidated   damages.  On  July  27,  1992,  the  Bankruptcy  Court  approved  a
stipulation  embodying a settlement among the Partnership,  the Braniff creditor
committees  and  Braniff in which it was agreed  that the  Partnership  would be
allowed an  administrative  claim in the bankruptcy  proceeding of approximately
$230,769.  As the final disposition of the Partnership's claim in the Bankruptcy
proceedings, the Partnership was permitted by the Bankruptcy Court to exchange a
portion of its unsecured claim for Braniff's  right  (commonly  referred to as a
"Stage 2 Base Level right") under the FAA noise regulations to operate one Stage
2 aircraft and has been allowed a net remaining  unsecured  claim of $769,231 in
the proceedings.

Pan American  World Airways,  Inc. (Pan Am) - As discussed in the  Partnership's
1990 and 1991 Forms 10-K,  Pan Am  commenced  reorganization  proceedings  under
Chapter 11 of the Federal  Bankruptcy Code in the United States Bankruptcy Court
for the  Southern  District of New York on January 8, 1991,  and, on November 8,
1991, the Partnership filed a proof a claim in Pan Am's bankruptcy proceeding to
recover damages for lost rent and for Pan Am's failure to meet return conditions

                                        6

<PAGE>

with  respect  to the  Partnership's  aircraft  on  lease  to Pan Am.  Pan  Am's
reorganization under Chapter 11 was ultimately  unsuccessful,  and Pan Am ceased
operations in December  1991.  On July 10, 1995,  Pan Am entered into a proposed
Stipulation  and Order with the  Partnership  pursuant to which Pan Am agreed to
allow the Partnership $2.5 million as an  administrative  expense priority claim
and $56 million as a general  unsecured  claim.  This  Stipulation and Order was
approved by the  Bankruptcy  Court,  at a hearing held on August 17, 1995. On or
about May 16, 1996, the Partnership received a payment of $567,500, representing
full  satisfaction of the  Partnership's  $2.5 million  administrative  priority
claim.

Trans World Airlines,  Inc. (TWA) - On June 30, 1995, TWA filed a reorganization
proceeding under Chapter 11 of the Federal  Bankruptcy Code in the United States
Bankruptcy  Court for the Eastern District of Missouri.  Immediately  before the
filing,  the  Partnership  and TWA entered into an Amended  Deferral  Agreement,
pursuant  to which TWA  agreed to bring  lease  rents  current  over a period of
several months and to confirm all of its leases with the Partnership. As agreed,
TWA proposed a plan of reorganization in which, among other things, it confirmed
all of its  leases  with the  Partnership,  and the plan  was  confirmed  by the
Bankruptcy  Court on  August  4,  1995.  TWA has  emerged  from  its  bankruptcy
proceeding and has repaid all outstanding  rent deferrals in accordance with its
commitment to the Partnership and in accordance with its plan of reorganization.
TWA  has  since  remained  current  on  all of its  payment  obligations  to the
Partnership.  On May 2, 1996, the United States Bankruptcy Court for the Eastern
District of Missouri  issued a notice of final decree  declaring that the estate
of TWA had been fully  administered and that TWA's  proceedings under Chapter 11
of the United States Bankruptcy Code was closed.

Viscount  Air  Services,  Inc.  (Viscount)  Bankruptcy  - As  discussed  in  the
Partnership's 1995 Form 10-K, on January 24, 1996, Viscount filed a petition for
protection under Chapter 11 of the Federal  Bankruptcy Code in the United States
Bankruptcy  Court for the  District of Arizona.  On April 12,  1996,  GE Capital
Aviation Services,  Inc. (GECAS),  as agent for the Partnership,  First Security
Bank,  National  Association  (formerly  known as First  Security  Bank of Utah,
National  Association) (FSB), the owner/trustee  under the Partnership's  leases
with Viscount, certain guarantors of Viscount's indebtedness and others executed
that certain  Compromise  of Claims and  Stipulation  under  Section 1110 of the
Bankruptcy Code.

On May 14,  1996,  the  Bankruptcy  Court  entered its Order  Granting  Debtor's
Motion: (1) To Approve And Authorize  Compromise and Settlement;  (2) To Approve
ss. 1110  Stipulation;  (3) To  Authorize  Post-Petition  Financing;  and (4) To
Approve Rejection of an Aircraft Lease ("Compromise  Order").  In the Compromise
Order, the Bankruptcy Court authorized and approved Viscount to reject its lease
of the Aircraft bearing registration no. N306VA (the "306 Aircraft").

At the  time  Viscount  rejected  its  lease,  the  airframe  was  located  at a
maintenance  facility.  The  engines on the 306  Aircraft  were  either  located
elsewhere for service or being used on other Viscount aircraft. On May 22, 1996,
FSB,  as owner  trustee,  filed  suit in the  Superior  Court of Arizona in Pima
County, Case NO. C313027,  to recover the airframe from BAE Aviation,  Inc., dba
Tucson Aerospace,  STS Services, Inc., and Piping Design Services, Inc., dba PDS
Technical Services, which assert mechanics' liens, and to determine the validity
of their claimed  liens.  Pursuant to a stipulated  order of the Superior  Court
entered on July 9, 1996, FSB filed a bond by FSB, as owner  trustee,  and GECAS,
principals,  and Federal Insurance Co., surety,  and the claimants  released the
aircraft on July 11, 1996.  The  claimants  in the action have  asserted a claim
against  the Bond for  $987,624  as of July 19,  1996,  together  with  interest
thereon  at the legal  rate,  plus  accruing  costs  and  attorneys'  fees.  The
litigation  will continue in the Superior  Court over the validity and amount of
the claimants' various liens alleged against the Bond.

On July 12, 1996, GECAS and FSB filed a motion in Viscount's  bankruptcy case to
recover  the  engines  and parts  leased in  connection  with the  Partnership's
aircraft.  GECAS and FSB asserted  that these engines and parts should have been

                                        7

<PAGE>

delivered to FSB pursuant to the  Compromise and  Stipulation.  Viscount paid to
the  Partnership  $10,000  for the use of the engine  during the month of August
1996, and continued through August 1996 to pay maintenance  reserves pursuant to
the lease terms.

On September 18, 1996,  GECAS (on behalf of the  Partnership and other entities)
and Viscount  entered into a Stipulation  and Agreement by which Viscount agreed
to  voluntarily  return  aircraft  owned by other  Polaris  entities,  turn over
possession of the majority of its aircraft parts  inventory,  and cooperate with
GECAS in the transition of aircraft  equipment and maintenance,  in exchange for
which,  upon Bankruptcy  Court approval of the  Stipulation  and Agreement,  the
Partnership  would  waive its  right to pre- and  post-petition  claims  against
Viscount for amounts due and unpaid.

The Stipulation and Agreement also provides that the Partnership,  certain other
Polaris  entities,  GECAS  and FSB  shall  release  any and all  claims  against
Viscount,   Viscount's   bankruptcy  estate,  and  the  property  of  Viscount's
bankruptcy estate,  effective upon entry of a final  non-appealable  court order
approving the  Stipulation and Agreement.  The Bankruptcy  Court entered such an
order approving the Stipulation and Agreement on October 23, 1996.

As a  result  of  the  Stipulation  and  Agreement,  all  disputes  between  the
Partnership  and Viscount  have been  resolved  and there is no further  pending
litigation  with  Viscount.  Viscount  has ceased  operations  and is  currently
considered  to be  administratively  insolvent,  meaning  that it does  not have
sufficient funds to fully pay costs and expenses incurred after the commencement
of the  bankruptcy  case,  which costs and expenses  have  priority over general
unsecured claims.


Kepford, et al. v. Prudential Securities,  et al. - On April 13, 1994, an action
entitled  Kepford,  et al.  v.  Prudential  Securities,  Inc.  was  filed in the
District Court of Harris County,  Texas. The complaint names Polaris  Investment
Management Corporation, Polaris Securities Corporation, Polaris Holding Company,
Polaris Aircraft Leasing Corporation,  the Partnership,  Polaris Aircraft Income
Fund I,  Polaris  Aircraft  Income Fund III,  Polaris  Aircraft  Income Fund IV,
Polaris  Aircraft  Income  Fund V,  Polaris  Aircraft  Income  Fund VI,  General
Electric Capital Corporation,  Prudential Securities, Inc., Prudential Insurance
Company of America and James J. Darr, as  defendants.  Certain  defendants  were
served with a summons and original petition on or about May 2, 1994. Plaintiffs'
original petition alleges that defendants violated the Texas Securities Act, the
Texas Deceptive Trade Practices Act, sections 11 and 12 of the Securities Act of
1933  and  committed  common  law  fraud,  fraud  in the  inducement,  negligent
misrepresentation,  negligence, breach of fiduciary duty and civil conspiracy by
misrepresenting  and failing to disclose  material facts in connection  with the
sale of  limited  partnership  units in the  Partnership  and the other  Polaris
Aircraft  Income  Funds.  Plaintiffs  seek,  among  other  things,  an  award of
compensatory  damages in an unspecified amount plus interest thereon, and double
and treble damages under the Texas Deceptive Trade Practices Act.

Certain defendants,  including Polaris Investment Management Corporation and the
Partnership,  filed a general  denial on June 29,  1994 and a motion for summary
judgment  on June 17,  1994 on the basis  that the  statute of  limitations  has
expired.  On June 29, 1994 and July 14,  1994,  respectively,  plaintiffs  filed
their first amended original petition and second amended original petition, both
of which added plaintiffs. On July 18, 1994, plaintiffs filed their response and
opposition to defendants' motion for partial summary judgment and also moved for
a continuance on the motion for partial  summary  judgment.  On August 11, 1994,
after  plaintiffs again amended their petition to add numerous  plaintiffs,  the
defendants  withdrew their summary judgment motion and motion to stay discovery,
without prejudice to refiling these motions at a later date. On January 9, 1997,
the trial court issued a scheduling order setting a July 21, 1997 trial date.

Riskind,  et al. v.  Prudential  Securities,  Inc., et al. - An action  entitled
Riskind,  et al. v.  Prudential  Securities,  Inc., et al. has been filed in the
District Court of the 165 Judicial District, Maverick County, Texas. This action
is on behalf of over 3,000 individual  investors who purchased units in "various

                                        8

<PAGE>

Polaris Aircraft Income Funds,"  including the Partnership.  The Partnership and
Polaris Investment Management Corporation received service of plaintiffs' second
amended  original  petition  and, on June 13,  1994,  filed an  original  answer
containing a general denial.

The second amended original petition names the Partnership,  Polaris  Investment
Management Corporation, Prudential Securities, Inc. and others as defendants and
alleges that these  defendants  violated the Texas  Securities Act and the Texas
Deceptive  Trade  Practices  Act and  committed  common law fraud,  fraud in the
inducement, negligent misrepresentation,  negligent breach of fiduciary duty and
civil conspiracy by  misrepresenting  and failing to disclose  material facts in
connection with the sale of limited partnership units in the Partnership and the
other Polaris Aircraft Income Funds.  Plaintiffs  seek,  among other things,  an
award of compensatory  damages in an unspecified  amount plus interest  thereon,
and double and treble  damages under the Texas  Deceptive  Trade  Practices Act.
Kidder,  Peabody & Co.  was  added as an  additional  defendant  by virtue of an
Intervenor's Amended Plea in Intervention filed on or about April 7, 1995.

Prudential Securities,  Inc. reached a settlement with the plaintiffs. The trial
of the claims of one  plaintiff,  Robert W.  Wilson,  against  Polaris  Aircraft
Income  Funds  I-VI,  Polaris  Investment  Management  Corporation  and  various
affiliates  of Polaris  Investment  Management  Corporation,  including  General
Electric Capital Corporation,  was commenced on July 10, 1995. On July 26, 1995,
the jury returned a verdict in favor of the defendants on all counts. Subsequent
to this  verdict,  all of the  defendants  (with  the  exception  of  Prudential
Securities,  Inc., which had previously  settled) entered into a settlement with
the  plaintiffs.  On February 26, 1997, the court issued an order  notifying the
remaining plaintiffs,  who did not accept the settlement with the non-Prudential
defendants,  that the action  would be  dismissed  on April 21, 1997 for want of
prosecution  unless the  plaintiffs  showed  cause why the action  should not be
dismissed.

Howland,  et al. v. Polaris  Holding  Company,  et al. - On or about February 4,
1994,  a purported  class action  entitled  Howland,  et al. v. Polaris  Holding
Company,  et al. was filed in the United States  District Court for the District
of Arizona on behalf of investors  in Polaris  Aircraft  Income Funds I-VI.  The
complaint  names  each of Polaris  Investment  Management  Corporation,  Polaris
Securities  Corporation,  Polaris  Holding  Company,  Polaris  Aircraft  Leasing
Corporation,  the Partnership,  Polaris Aircraft Income Fund I, Polaris Aircraft
Income Fund III,  Polaris  Aircraft Income Fund IV, Polaris Aircraft Income Fund
V,  Polaris  Aircraft  Income Fund VI,  General  Electric  Capital  Corporation,
Prudential  Securities,  Inc.,  Prudential  Securities Group,  Inc.,  Prudential
Insurance Company of America,  George W. Ball, Robert J. Sherman, James J. Darr,
Paul J. Proscia, Frank W. Giordano,  William A. Pittman, Joseph H. Quinn, Joe W.
Defur, James M. Kelso and Brian J. Martin, as defendants.  The complaint alleges
that   defendants   violated   federal  RICO   statutes,   committed   negligent
misrepresentations,  and breached their fiduciary duties by misrepresenting  and
failing  to  disclose  material  facts in  connection  with the sale of  limited
partnership  units in the  Partnership  and the other  Polaris  Aircraft  Income
Funds. Plaintiffs seek, among other things, an accounting of all monies invested
by plaintiffs and the class and the uses made thereof by defendants, an award of
compensatory,  punitive and treble damages in unspecified  amounts plus interest
thereon,  rescission,  attorneys'  fees and costs. On August 3, 1994, the action
was transferred to the multi-district litigation in the Southern District of New
York  entitled In re  Prudential  Securities  Limited  Partnerships  Litigation,
discussed in Part III, Item 10 below.

Mary C. Scott v.  Prudential  Securities  Inc. et al. - On or around  August 15,
1995, a complaint  entitled Mary C. Scott v.  Prudential  Securities Inc. et al.
was filed in the Court of Common Pleas,  County of Summit,  Ohio.  The complaint
names  as  defendants  Prudential  Securities  Inc.,  the  Partnership,  Polaris
Aircraft  Income Fund III,  Polaris  Aircraft  Income Fund IV, Polaris  Aircraft
Income   Fund  VI,   P-Bache/A.G.   Spanos   Genesis   Income   Partners  LP  1,
Prudential-Bache  Properties,  Inc.,  A.G.  Spanos  Residential  Partners  - 86,
Polaris Securities  Corporation and Robert Bryan Fitzpatrick.  Plaintiff alleges
claims of fraud and violation of Ohio  securities  law arising out of the public

                                        9

<PAGE>

offerings of the Partnership, Polaris Aircraft Income Fund III, Polaris Aircraft
Income Fund IV, Polaris Aircraft Income Fund VI, and P-Bache/A.G. Spanos Genesis
Income  Partners  LP  1.  Plaintiff   seeks   compensatory   damages,   general,
consequential  and incidental  damages,  punitive  damages,  rescission,  costs,
attorneys' fees and other and further relief as the Court deems just and proper.
On September  15,  1995,  defendants  removed  this action to the United  States
District  Court,  Eastern  District of Ohio. On September  18, 1995,  defendants
sought the transfer of this action to the Multi-District Litigation and sought a
stay of all  proceedings  by the  district  court,  which  stay was  granted  on
September  25,  1995.  The  Judicial  Panel   transferred  this  action  to  the
Multi-District Litigation on or about February 7, 1996.

Other Proceedings - Part III, Item 10 discusses certain other actions which have
been filed  against  the  general  partner in  connection  with  certain  public
offerings, including that of the Partnership. With the exception of Novak, et al
v. Polaris Holding  Company,  et al, (which has been dismissed,  as discussed in
Item 10) where the Partnership was named as a defendant for procedural purposes,
the Partnership is not a party to these actions.


Item 4.       Submission of Matters to a Vote of Security Holders

None.

                                       10

<PAGE>

                                     PART II


Item 5.       Market for the Registrant's  Common Equity and Related Stockholder
              Matters

a)       Polaris Aircraft Income Fund II's (PAIF-II or the Partnership)  limited
         partnership interests (Units) are not publicly traded.  Currently there
         is no market for  PAIF-II's  Units and it is  unlikely  that any market
         will develop.


b)       Number of Security Holders:

                                                Number of Record Holders
               Title of Class                   as of December 31, 1996
         ---------------------------        --------------------------------

         Limited Partnership Interest:                   15,888

         General Partnership Interest:                      1


c)       Dividends:

         The  Partnership  distributed  cash to partners  on a  quarterly  basis
         beginning July 1986. Cash distributions to limited partners during 1996
         and  1995  totaled  $17,499,895  and  $6,874,959   respectively.   Cash
         distributions  per limited  partnership  unit were $35.00 and $13.75 in
         1996 and 1995, respectively.

                                       11

<PAGE>
<TABLE>
Item 6.       Selected Financial Data


                                                     For the years ended December 31,
                                                     --------------------------------
<CAPTION>
                                        1996         1995          1994          1993           1992
                                        ----         ----          ----          ----           ----
<S>                               <C>           <C>           <C>           <C>           <C>
Revenues                          $ 16,304,608  $ 21,093,341  $ 14,443,902  $ 15,558,866  $ 17,990,196


Net Income (Loss)                  (14,708,486)    5,717,065    (3,217,172)       48,114    (1,709,007)

Net Income (Loss)
  Allocated to Limited
  Partners                         (16,311,216)    4,972,468    (4,434,868)     (952,261)   (2,941,785)

Net Income (Loss) per
  Limited Partnership Unit              (32.62)         9.94         (8.87)        (1.91)        (5.88)

Cash Distributions per
  Limited Partnership
  Unit                                   35.00         13.75         25.00         20.00         25.00

Amount of Cash
  Distributions Included
  Above Representing
  a Return of Capital on
  a Generally Accepted
  Accounting Principle
  Basis per Limited
  Partnership Unit*                      35.00         13.75         25.00         20.00         25.00


Total Assets                        87,622,742   107,820,317   110,568,377   129,706,547   141,436,928

Partners' Capital                   72,215,709   106,368,523   108,290,301   125,396,279   136,459,209
</TABLE>

* The portion of such  distributions  which represents a return of capital on an
economic  basis  will  depend  in  part  on  the  residual  sale  value  of  the
Partnership's  aircraft and thus will not be ultimately  determinable  until the
Partnership disposes of its aircraft.  However,  such portion may be significant
and may equal, exceed or be smaller than the amount shown in the above table.

                                       12

<PAGE>

Item 7.       Management's  Discussion  and Analysis of  Financial Condition and
              Results of Operations

At December 31, 1996,  Polaris Aircraft Income Fund II (the Partnership) owned a
portfolio  of 22 used  commercial  jet  aircraft,  one spare  engine and certain
inventoried  aircraft  parts out of its original  portfolio of 30 aircraft.  The
portfolio  consists of 17 McDonnell  Douglas DC-9-30  aircraft and one McDonnell
Douglas DC-9-40 aircraft leased to Trans World Airlines,  Inc. (TWA); one Boeing
737-200 aircraft,  previously leased to Viscount Air Services,  Inc. (Viscount);
two Boeing 727-200  Advanced  aircraft  leased to Continental  Micronesia,  Inc.
(Continental  Micronesia);  and one Boeing 727-200  Advanced  aircraft leased to
Continental Airlines, Inc. (Continental). The Partnership transferred six Boeing
727-200  aircraft,  previously  leased to Pan American World  Airways,  Inc., to
aircraft  inventory in 1992.  These aircraft have been  disassembled for sale of
their  component  parts.  The  Partnership  sold one  Boeing  727-200  aircraft,
formerly leased to Delta Airlines,  Inc. (Delta),  in February 1995 as discussed
below.  The Partnership sold the airframe and one engine from the Boeing 737-200
Combi aircraft, formerly leased to Northwest Territorial Airways, Ltd. (NWT), in
March 1996 as discussed  below.  The Partnership sold the remaining engine along
with a Boeing 737-200 in January 1997.


Remarketing Update

Sale  of  Boeing  737-200  Combi  Airframe  and  Engine  - In  March  1996,  the
Partnership  sold the  airframe  and one engine  from the Boeing  737-200  Combi
Aircraft,  formerly on lease to NWT, to Westjet Airlines,  Ltd.  (Westjet).  The
security  deposit of  approximately  $88,000,  received from Westjet in December
1995, was applied to the sales price of approximately  $896,000. The Partnership
agreed  to accept  payment  of the  balance  of the  sales  price in 22  monthly
installments, with interest at a rate of 10% per annum beginning in March 1996.

Sale of Boeing  737-200  Aircraft  - On January  30,  1997,  one Boeing  737-200
formerly on lease to Viscount, was sold to American Aircarriers Support, Inc. on
an "as-is, where-is" basis for $660,000 cash.

TWA Lease Extension - GECAS, on behalf of the  Partnership,  negotiated with TWA
for the acquisition of noise-suppression  devices, commonly known as "hushkits",
for 14 of the 18 Partnership aircraft currently on lease to TWA. The 14 aircraft
to receive  hushkits were  designated by TWA.  Installation of hushkits on 11 of
the aircraft was  completed in November  1996.  Installation  of hushkits on the
remaining 3 aircraft was completed in February 1997.

The  aggregate  cost  of the  hushkit  reconditioning  for the 11  aircraft  was
$17,516,722,  or approximately $1.6 million per aircraft,  which was capitalized
by the  Partnership  during  1996.  The  Partnership  paid $3.3  million  of the
aggregate  hushkit  cost and the  balance of  $14,216,722  was  financed  by the
engine/hushkit  manufacturer  over  a  6-year  period  at an  interest  rate  of
approximately  10% per annum.  The balance of the note  payable at December  31,
1996 was $14,193,178.

The  aggregate  cost  of the  hushkit  reconditioning  for  the 3  aircraft  was
$4,784,633 or approximately $1.6 million per aircraft,  which was capitalized by
the  Partnership  during 1997.  The  Partnership  paid $900,000 of the aggregate
hushkit cost and the balance of  $3,884,633  was financed by the  engine/hushkit
manufacturer  over a 6-year period at an interest rate of approximately  10% per
annum.  The rent  payable  by TWA under the leases  was  increased  by an amount
sufficient to cover the monthly debt service  payments on the hushkits and fully
repay, during the term of the TWA leases, the amount borrowed. The loan from the
engine/hushkit  manufacturer is non-recourse to the Partnership and secured by a
security interest in the lease receivables.  The leases for the 11 aircraft were
extended for a period of eight years until  November  2004. The leases for the 3
aircraft were extended for a period of eight years until February 2005.

                                       13

<PAGE>

Proposed  Sale of  Aircraft - The  Partnership  has  received,  and the  General
Partner (upon recommendation of its servicer) has determined that it would be in
the best  interests of the  Partnership  to accept an offer to purchase 7 of the
Partnership's  remaining  aircraft  (the  "Aircraft")  and  certain of its notes
receivables by a special  purpose  company (the  "Purchaser").  The Purchaser is
managed by Triton  Aviation  Services,  Ltd., a privately held aircraft  leasing
company (the  "Purchaser's  Manager") which was formed in 1996. Each Aircraft is
to be sold subject to the existing  leases,  and as part of the  transaction the
Purchaser assumes all obligations  relating to maintenance reserves and security
deposits,  if any,  relating  to such  leases.  At the same time  cash  balances
related  to  maintenance  reserves  and  security  deposits,  if  any,  will  be
transferred to the Purchaser.

The total  proposed  purchase  price  (the  "Purchase  Price") to be paid by the
Purchaser in the contemplated  transaction  would be $13,988,000  which would be
allocable to the Aircraft and to certain notes  receivable  by the  Partnership.
The Purchaser  proposes to pay  $1,575,888 of the Purchase  Price in cash at the
closing and the balance of $12,412,112 would be paid by delivery of a promissory
note ( the  "Promissory  Note") by the Purchaser.  The Promissory  Note would be
repaid in equal  quarterly  installments  over a period of seven  years  bearing
interest at a rate of 12% per annum with a balloon  principal payment at the end
of year seven.  The  Purchaser  would have the right to  voluntarily  prepay the
Promissory  Note in whole or in part at any time without  penalty.  In addition,
the Promissory Note would be subject to mandatory partial  prepayment in certain
specified  instances.

Under the terms of the  contemplated  transaction,  the Aircraft,  including any
income or proceeds  therefrom and any reserves or deposits with respect thereto,
constitute the sole source of payments  under the  Promissory  Note. No security
interest  over the  Aircraft  or the  leases  would be  granted  in favor of the
Partnership,  but the equity  interests in the Purchaser would be pledged to the
Partnership.  The Purchaser would have the right to sell the Aircraft, or any of
them,  without the  consent of the  Partnership,  except that the  Partnership's
consent would be required in the event that the proposed sale price is less than
the portion of the outstanding balance of the Promissory Note which is allocable
to the Aircraft in question and the Purchaser does not have sufficient  funds to
make up the  difference.  The Purchaser would undertake to keep the Aircraft and
leases free of any lien,  security  interest or other encumbrance other than (i)
inchoate  materialmen's  liens  and the  like,  and (ii) in the  event  that the
Purchaser elects to install hushkits on any Aircraft, secured debt to the extent
of the  full  cost of such  hushkit.  The  Purchaser  will  be  prohibited  from
incurring  indebtedness  other than (i) the Promissory Note; (ii) deferred taxes
not yet due and payable;  (iii) indebtedness  incurred to hushkit Aircraft owned
by the Purchaser  and,  (iv) demand loans from another SPC (defined  below) at a
market rate of interest.

It is also  contemplated  that each of Polaris  Aircraft Income Fund II, Polaris
Aircraft  Income Fund IV, Polaris  Aircraft  Income Fund V and Polaris  Aircraft
Income Fund VI would sell certain  aircraft  assets to separate  special purpose
companies  under common  management with the Purchaser  (collectively,  together
with the  Purchaser,  the  "SPC's") on terms  similar to those set forth  above.
Under the  terms of the  contemplated  transaction,  Purchaser's  Manager  would
undertake to make  available a working  capital  line to the  Purchaser of up to
approximately  $1,222,000 to fund operating  obligations of the Purchaser.  This
working capital line is to be guaranteed by Triton Investments, Ltd., the parent
of the Purchaser's  Manager and such guarantor will provide the Partnership with
a copy of its most recent balance sheet showing a consolidated net worth (net of
minority  interests) of at least $150-million.  Furthermore,  each of the SPC's,
including  the  Purchaser,   is  to  enter  into  a  management  agreement  with
Purchaser's  Manager  pursuant to which  Purchaser's  Manager  would provide all
normal  and  customary  management  services  including  remarketing,  sales and
repossession,  if  necessary.  Provided  that the Purchaser is not in default in
making payments due under the Promissory Note to the Partnership,  the Purchaser
would be  permitted  to  dividend  to its equity  owners an amount not to exceed
approximately  $33,000  per  month.  The  Purchaser  may  distribute  additional
dividends  to the equity  owners to the extent of the working  capital  advances
made by the Purchaser's Manager provided that the working capital line available
to the Purchaser will be deemed increased to the extent of such dividends.

                                       14

<PAGE>

The Purchaser  would be deemed to have  purchased  the Aircraft  effective as of
April 1, 1997  notwithstanding the actual closing date. The Purchaser would have
the  right to  receive  all  income  and  proceeds,  including  rents  and notes
receivables,  from the Aircraft  accruing from and after April 1, 1997,  and the
Promissory Note would commence bearing interest as of April 1, 1997.

The Partnership has agreed to consult with Purchaser's Manager before taking any
significant  action  pertaining to the Aircraft  after the effective date of the
purchase  offer.  The  Purchaser  also has the  right  to make  all  significant
decisions  regarding  the  Aircraft  from and  after the date of  completion  of
definitive  documentation  legally  binding the Purchaser and the Partnership to
the  transaction,  even  if a  delay  occurs  between  the  completion  of  such
documentation and the closing of the title transfer to the Purchaser.

In the event the Partnership receives and elects to accept an offer for all (but
not less than  all) of the  assets  to be sold by it to the  Purchaser  on terms
which it deems  more  favorable,  the  Purchaser  has the right to (I) match the
offer,  or (ii) decline to match the offer and be entitled to compensation in an
amount equal to 1 1/2% of the Purchaser's proposed Purchase Price.

It should be noted that there can be no  assurance  that the  contemplated  sale
transaction will be consummated. The contemplated transaction remains subject to
execution of definitive documentation and various other contingencies.


Partnership Operations

The  Partnership  recorded  a net loss of  $14,708,486,  or $32.62  per  limited
partnership unit for the year ended December 31, 1996, compared to net income of
$5,717,065,  or $9.94 per limited partnership unit and a net loss of $3,217,172,
or an allocated net loss of $8.87 per limited  partnership  unit,  for the years
ended  December 31, 1995 and 1994,  respectively.  The net loss in 1994 resulted
primarily from a decrease in rental revenue  recognized  from the  Partnership's
leases with TWA combined with maintenance expenses incurred from the TWA leases.
Depreciation  expense was  substantially  increased  in 1994 for declines in the
estimated   realizable  values  of  the  Partnership's   aircraft  and  aircraft
inventory,  as discussed later in the Industry  Update section.  The significant
improvement   in  operating   results  in  1995  was  primarily  the  result  of
substantially  increased revenues combined with lower operating expenses in 1995
as  compared  to 1994.  A  substantial  increase  in  depreciation  expense,  as
discussed  later in the Industry  Update  section,  contributed  to the net loss
during 1996.

Rental revenues, net of related management fees, declined in 1996 as compared to
1995 primarily as a result of a decrease in rental revenue recognized in 1996 on
the  Partnership's  leases with TWA. TWA rental revenues were higher in 1995 due
to the receipt,  during 1995, of certain  deferred  rental  amounts from 1994 as
discussed below.  Rental  revenues,  net of related  management fees,  increased
during 1995 as compared to 1994. In December 1994, GE Capital Aviation Services,
Inc. (GECAS) negotiated a standstill agreement with TWA. That agreement provided
for a deferral of the rent due the  Partnership  in November 1994 and 75% of the
rents due the Partnership from December 1994 through March 1995. The Partnership
did not  recognize  the rental  amount  deferred in 1994 of $1,575,000 as rental
revenue until it was received in 1995. The Partnership has received from TWA all
scheduled  rent  payments  beginning  in April 1995 and all  scheduled  deferred
rental payments  beginning in May 1995 through October 1995,  including interest
at a rate of 12% per annum. The increase in rental revenues in 1995, as compared
to 1994,  was  partially  offset by a  provision  for credit  losses of $241,964
recorded  in  1995  for  certain  rent,   deferred  rent  and  accrued  interest
receivables from Viscount as discussed below. Other factors  contributing to the
decreased  rental revenues in 1996 were decreases in rental revenue from NWT and
Viscount.  The lease with NWT expired in October  1995 and the aircraft was then
sold,  resulting in higher rental  revenues  from this  aircraft  during 1995 as
compared to 1996. Additionally,  the default and bankruptcy by Viscount resulted

                                       15

<PAGE>

in the  return of the  aircraft  and  engine  to the  Partnership  during  1996,
resulting in higher rental  revenues from this aircraft  during 1995 as compared
to 1996.

In consideration for the rent deferral, TWA agreed to make a lump sum payment of
$1,000,000  to GECAS for the TWA  lessors  for whom  GECAS  provides  management
services  and who agreed to the Deferral  Agreement.  The  Partnership  received
$218,171 in January  1995 as its share of such  payment by TWA.  This amount was
recognized as other revenue in 1995. In addition,  TWA agreed to issue  warrants
to the Partnership for TWA Common Stock.  The Partnership  received  warrants to
purchase  227,133  shares of TWA Common Stock from TWA in November  1995 and has
recognized  the net  warrant  value as of the date of receipt of  $1,772,206  as
revenue in 1995. The Partnership exercised the warrants on December 29, 1995 for
the strike  price of $0.01 per share and has  recognized  a gain on the value of
the warrants of $582,028 in 1995. The  Partnership  sold its TWA Common Stock in
1996. In addition,  the Partnership recognized as other revenue in 1995 payments
received from NWT aggregating  approximately  $647,000 in lieu of NWT performing
required  maintenance work on the aircraft it was leasing prior to its return to
the  Partnership.  The  Partnership  also  recognized  as other  revenue in 1995
maintenance reserves aggregating approximately $91,000 that were previously paid
to the  Partnership  by a former lessee for the aircraft that was sold to AIA in
February 1995.

On July 10, 1996, the Partnership entered into a proposed  Stipulation and Order
in  which  Pan  Am  agreed  to  allow  the   Partnership   $2.5  million  as  an
administrative  expense  priority  claim and $56 million as a general  unsecured
claim. In May 1996, the  Partnership  received from Pan Am a payment of $567,500
on the administrative  expense priority claim. In November 1996, the Partnership
received an additional  $9,000 payment on the  administrative  expense  priority
claim.  The  Partnership  has recorded these payments as other revenue in claims
related to lessee  defaults in the 1996 statement of operations.  It is unlikely
that the  Partnership  will receive  additional  payments on the  administrative
expense  priority  claim.  It cannot be  estimated  at this time when and if the
general unsecured claim will be paid.

The  Partnership  incurred  interest  expense  during  1996 as the result of the
Partnership installing hushkits on 11 of its aircraft during 1996. The aggregate
cost of the hushkit  reconditioning  for the 11  aircraft  was  $17,516,722,  or
approximately   $1.6  million  per  aircraft,   which  was  capitalized  by  the
Partnership  during 1996.  The  Partnership  paid $3.3 million of the  aggregate
hushkit cost and the balance of $14,216,722  was financed by the  engine/hushkit
manufacturer  over a 6-year  period at an  interest  rate of 10% per annum.  The
balance of the note payable at December 31, 1996 was $14,193,178.

Operating expenses significantly decreased in 1996 and 1995 as compared to 1994.
As part of the  TWA  lease  extension  in  1991  as  discussed  in Note 6 to the
financial  statements  (Item  8),  the  Partnership  agreed to share the cost of
meeting  certain   Airworthiness   Directives   (ADs)  after  TWA   successfully
reorganized  in 1993. The agreement  stipulated  that such costs incurred by TWA
may be credited  against monthly  rentals,  subject to annual  limitations and a
maximum of $500,000 per aircraft  through the end of the leases.  In  accordance
with the cost sharing agreement, the Partnership recognized as operating expense
$3.6 million of these AD expenses during 1994. No operating expenses relating to
the TWA aircraft were recognized by the Partnership during 1995 and 1996.

As discussed  later in the Industry  Update  section,  if the projected net cash
flow for each aircraft  (projected rental revenue,  net of management fees, less
projected maintenance costs, if any, plus the adjusted estimated residual value)
is less than the carrying value of the aircraft,  the Partnership recognizes the
deficiency currently as increased depreciation expense.

The Partnership  recognized  approximately $17.0 million,  $2.4 million and $1.6
million of this deficiency as increased  depreciation  expense in 1996, 1995 and
1994,  respectively.  In 1996,  the  impairment  loss was the  result of several
significant  factors.  As a  result  of  industry  and  market  changes,  a more

                                       16

<PAGE>

extensive  review of the  Partnership's  aircraft  was  completed  in the fourth
quarter  of 1996 which  resulted  in revised  assumptions  of future  cash flows
including   reassessment  of  projected  re-lease  terms  and  potential  future
maintenance costs. As discussed in Note 13, the Partnership accepted an offer to
purchase 7 of the  Partnership's  remaining  aircraft subject to each aircraft's
existing  lease and certain notes  receivable.  This offer  constitutes an event
that required the Partnership to review the aircraft  carrying value pursuant to
SFAS 121. In  determining  this  additional  impairment  loss,  the  Partnership
estimated the fair value of the aircraft  based on the proposed  purchase  price
reflected in the offer,  less the  estimated  costs and expenses of the proposed
sale. The  Partnership  is deemed to have an impairment  loss to the extent that
the carrying value exceeded the fair value.  Management believes the assumptions
related to fair value of impaired assets  represents the best estimates based on
reasonable and supportable assumptions and projections.  It should be noted that
there  can be no  assurance  that  the  contemplated  sale  transaction  will be
consummated.  The  contemplated  transaction  remains  subject to  execution  of
definitive  documentation  and various  other  contingencies.  The 1995 downward
adjustment  was the  result  of the  reduction  of the  net  book  value  to the
estimated  net  realizable  value of the Boeing 737- 200 Combi  aircraft sold to
Westjet in 1996 as previously discussed. Approximately $1.03 million of the 1994
adjustment  was the  result  of the  reduction  of the  net  book  value  to the
estimated net  realizable  value of the Boeing  727-200  aircraft sold to AIA in
February 1995 as previously discussed.

The increased  depreciation  expense  reduces the aircraft's  carrying value and
reduces the amount of future  depreciation  expense  that the  Partnership  will
recognize  over the  projected  remaining  economic  life of the  aircraft.  The
Partnership  also made downward  adjustments to the estimated  residual value of
certain of its  on-lease  aircraft  as of December  31,  1995 and 1994.  For any
downward  adjustment  to the  estimated  residual  values,  future  depreciation
expense over the projected remaining economic life of the aircraft is increased.
The Partnership's  earnings are impacted by the net effect of the adjustments to
the aircraft  carrying  values  recorded in 1996, 1995 and 1994 and the downward
adjustments  to the  estimated  residual  values  recorded  in 1995  and 1994 as
discussed later in the Industry Update section.


Liquidity and Cash Distributions

Liquidity  -  The   Partnership   has  received  all  lease  payments  due  from
Continental,  Continental  Micronesia and TWA on a current  basis.  As discussed
above,  TWA repaid its deferred rents in full with interest by October 1995. The
Partnership  also received from TWA warrants to purchase  227,133  shares of TWA
Common Stock and a payment of $218,171 in  consideration  for the rent deferral.
The Partnership  exercised the warrants in 1995 and sold the TWA Common Stock in
the first quarter of 1996, net of broker commissions, for $2,406,479.

As further  discussed in Note 8 to the  financial  statements,  the  Partnership
recorded allowances for credit losses of $241,964 and $100,409 in 1995 and 1996,
respectively, for the aggregate unsecured receivables from Viscount. The line of
credit,  which was  advanced to Viscount in 1994,  was, in  accordance  with the
Compromise and Stipulation,  secured by certain of Viscount's trade  receivables
and spare parts. The Stipulation and Agreement releases the Partnership's  claim
against Viscount's trade receivables.  As a result, the Partnership  recorded an
additional  allowance  for credit  losses of $92,508  during 1996,  representing
Viscount's  outstanding  balance  of the line of credit  and  accrued  interest.
Payments  received by the Partnership  from the sale of the spare aircraft parts
(as discussed  above),  if any, will be recorded as revenue when  received.  The
Stipulation and Agreement  provides that,  upon entry of a final  non-appealable
court order approving it, the Partnership would waive its pre- and post-petition
claims  against  Viscount  for all  amounts  due and  unpaid.  As a result,  the
Partnership  considers all receivables from Viscount to be uncollectible and has
written-off, during 1996, all notes, rents and interest receivable balances from
Viscount.


                                       17

<PAGE>

As  discussed  above,  the  Partnership  agreed to share in the cost of  meeting
certain ADs with TWA. In accordance  with the  cost-sharing  agreement,  TWA may
offset up to an additional  $2.7 million  against  rental  payments,  subject to
annual limitations, over the remaining lease terms.

As  specified  in the  Partnership's  leases  with  Continental  Micronesia  and
Continental,  in January 1994, the Partnership reimbursed Continental (partially
on behalf of its affiliate Continental  Micronesia) an aggregate of $1.8 million
for cockpit modifications and $742,325 for C-check labor and parts for the three
aircraft. In addition, in January 1994, the Partnership financed an aggregate of
$2,177,533 for new image modifications, which is being repaid with interest over
the terms of the aircraft  leases.  The leases with  Continental and Continental
Micronesia  also  stipulate  that the  Partnership  share in the cost of meeting
certain ADs, which cannot be estimated at this time.

ALG,  Inc.  (ALG) was  required  to pay the  Partnership  a balloon  payment  of
$897,932 in January 1995 on their  promissory  note. ALG paid to the Partnership
$19,138 of the balloon payment in January 1995,  originating an event of default
under the note. The Partnership and ALG  subsequently  restructured the terms of
the promissory note. The renegotiated terms specified payment by ALG of the note
balance  with  interest  at a rate of 13% per annum with one lump sum payment in
January  1995 of  $254,733,  eleven  monthly  payments of $25,600  beginning  in
February  1995,  and  a  balloon  payment  in  January  1996  of  $416,631.  The
Partnership  received all scheduled  renegotiated  payments due from ALG through
December 31, 1995. ALG did not pay the balloon  payment due in January 1996. The
Partnership and ALG once again  restructured  the terms of the promissory  note.
The renegotiated  terms specify payment by ALG of the note balance with interest
at a rate of 13% per annum with one lump sum payment in January 1996 of $135,258
and eleven payments of $27,272 beginning in February 1996 through December 1996.
ALG paid the note in full in 1996.

The Partnership sold one Boeing 727-200 aircraft  equipped with a hushkit to AIA
in February  1995 as  previously  discussed.  The  agreement  with AIA specifies
payment of the sales price in 36 monthly  installments  of $55,000  beginning in
March 1995. The Partnership has received all scheduled payments due from AIA.

In March 1996, the Partnership sold its Boeing 737-200 Combi aircraft to Westjet
as  previously  discussed.  The  Partnership  received  a  security  deposit  of
approximately  $88,000  from  Westjet in December  1995 which was applied to the
sales price of approximately  $896,000. The Partnership agreed to accept payment
of the balance of the sales price in 22 monthly installments, with interest at a
rate of 10% per annum  beginning in March 1996. The Partnership has received all
scheduled payments from Westjet.

The  Partnership  receives  maintenance  reserve  payments  from  certain of its
lessees that may be  reimbursed to the lessee or applied  against  certain costs
incurred by the Partnership for maintenance work performed on the  Partnership's
aircraft,  as specified in the leases.  Maintenance  reserve  balances,  if any,
remaining  at the  termination  of the lease may be used by the  Partnership  to
offset future maintenance expenses or recognized as revenue. The net maintenance
reserves balances aggregate $223,528 as of December 31, 1996.

Payments of $260,234 have been received during 1996 from the sale of inventoried
parts from the six  disassembled  aircraft.  The  Partnership  is retaining cash
reserves  to  meet  obligations  under  the  TWA,  Continental  and  Continental
Micronesia lease agreements and to cover the costs that the Partnership incurred
relating to the Viscount  default and  bankruptcy  filing,  including  potential
aircraft maintenance, remarketing and transition costs.

Cash  Distributions - Cash  distributions to limited partners were  $17,499,895,
$6,874,959,  and  $12,499,925  in  1996,  1995  and  1994,  respectively.   Cash

                                       18

<PAGE>
distributions  per limited  partnership unit were $35.00,  $13.75 and $25.00 per
limited  partnership unit in 1996, 1995 and 1994,  respectively.  The timing and
amount of future  cash  distributions  are not yet known and will  depend on the
Partnership's future cash requirements including; the receipt of rental payments
from TWA,  Continental and Continental  Micronesia;  the receipt of modification
financing payments from Continental and Continental  Micronesia;  the receipt of
sales proceeds from AIA and Westjet;  the receipt of payments generated from the
aircraft  disassembly  process; and the receipt of proceeds from the sale of the
aircraft and engine returned by Viscount.


TWA Restructuring

In October  1994,  TWA notified its  creditors,  including the  Partnership,  of
another  proposed  restructuring of its debt.  Subsequently,  GECAS negotiated a
standstill  arrangement,  as set forth in a letter  agreement dated December 16,
1994 (the Deferral Agreement),  with TWA for the 46 aircraft that are managed by
GECAS, 18 of which are owned by the  Partnership.  As required by its terms, the
Deferral  Agreement  (which  has since  been  amended  as  discussed  below) was
approved by PIMC on behalf of the Partnership with respect to the  Partnership's
aircraft.

The Deferral  Agreement provided for (i) a moratorium on all the rent due to the
Partnership in November 1994 and on 75% of the rents due to the Partnership from
December 1994 through March 1995, and (ii) all of the deferred  rents,  together
with interest  thereon,  to be repaid in monthly  installments  beginning in May
1995 and ending in  December  1995.  The  repayment  schedule  was  subsequently
accelerated upon confirmation of TWA's bankruptcy plan. The Partnership recorded
a note  receivable  and  corresponding  allowance for credit losses equal to the
total of the  1994  deferred  rents  of  $1.575  million,  the net of which  was
reflected in the Partnership's  1994 balance sheet (Item 8). The Partnership did
not recognize  either the $1.575 million  rental amount  deferred in 1994 or the
$2.025 million rental amount deferred during the first quarter of 1995 as rental
revenue  until  the  deferred  rents  were  received.  The note  receivable  and
corresponding  allowance for credit losses were reduced by the principal portion
of the payments received.  The Partnership  received all scheduled rent payments
beginning in April 1995 and all scheduled  deferred rental payments beginning in
May  1995,  including  interest  at a rate of 12% per  annum,  from  TWA and has
recognized  the $3.6 million  deferred  rents as rental revenue during 1995. The
deferred rents were paid in full by October 1995.

In consideration for the partial rent moratorium  described above, TWA agreed to
make a lump sum  payment of  $1,000,000  to GECAS for the TWA  lessors  for whom
GECAS provides management services and who agreed to the Deferral Agreement. The
Partnership  received  $218,171 in January  1995 as its share of such payment by
TWA.  This amount was  recognized  as other  revenue in the  Partnership's  1995
statement of operations  (Item 8). In addition,  TWA agreed to issue warrants to
the Partnership for TWA Common Stock.

In order to  resolve  certain  issues  that  arose  after the  execution  of the
Deferral Agreement, TWA and GECAS entered into a letter agreement dated June 27,
1995,  pursuant to which they agreed to amend certain provisions of the Deferral
Agreement (as so amended,  the Amended  Deferral  Agreement).  The effect of the
Amended  Deferral  Agreement,  which was  approved  by PIMC with  respect to the
Partnership's  aircraft,  is that TWA,  in  addition  to  agreeing  to repay the
deferred rents to the Partnership, agreed (i) to a fixed payment amount (payable
in warrants,  the number of which was determined by a formula) in  consideration
for the aircraft owners'  agreement to defer rent under the Deferral  Agreement,
and,  (ii) to the  extent  the  market  value of the  warrants  is less than the
payment amount, to supply  maintenance  services to the aircraft owners having a
value equal to such deficiency. The payment amount was determined by subtracting
certain  maintenance  reimbursements  owed to TWA by  certain  aircraft  owners,
including the Partnership, from the aggregate amount of deferred rents.


                                       19

<PAGE>

On June 30, 1995, TWA filed its prepackaged  Chapter 11 bankruptcy in the United
States Bankruptcy Court for the Eastern District of Missouri. On August 4, 1995,
the  Bankruptcy  Court  confirmed  TWA's plan of  reorganization,  which  became
effective on August 23, 1995. Pursuant to the Amended Deferral Agreement, on the
confirmation  date of the plan,  August 4,  1995,  the  Partnership  received  a
payment of  $1,217,989  from TWA which  represented  fifty  percent (50%) of the
deferred rent outstanding  plus interest as of such date. The remaining  balance
of deferred rent plus interest was paid in full to the Partnership on October 2,
1995. TWA has been current with its obligation to the  Partnership  since August
1995. While TWA has committed to an uninterrupted flow of lease payments,  there
can be no  assurance  that TWA will  continue  to honor its  obligations  in the
future.

The Partnership received warrants to purchase 227,133 shares of TWA Common Stock
from TWA in November 1995 and recognized the net warrant value as of the date of
receipt of  $1,772,206  as  revenue in the 1995  statement  of  operations.  The
Partnership  exercised the warrants on December 29, 1995 for the strike price of
$0.01 per  share  and has  recognized  a gain on the  value of the  warrants  of
$582,028  in the  1995  statement  of  operations.  The  TWA  Common  Stock  was
classified  as trading  securities in 1995 because the  Partnership  intended to
sell the  stock in the near  term.  The fair  market  value of the TWA  stock at
December 31, 1995 of $2,356,506 is reflected in the  Partnership's  December 31,
1995 balance  sheet (Item 8). The  Partnership  sold the TWA Common Stock in the
first quarter of 1996, net of broker commissions, for $2,406,479.


Viscount Default and Bankruptcy Filing

On January 24, 1996,  Viscount filed a petition for protection  under Chapter 11
of the United States  Bankruptcy Code in the United States  Bankruptcy  Court in
Tucson,  Arizona.  In April 1996,  GECAS,  on behalf of the  Partnership,  First
Security Bank,  National  Association  (formerly known as First Security Bank of
Utah,  National  Association)  (FSB), the owner/trustee  under the Partnership's
leases with Viscount (the Leases),  Viscount,  certain  guarantors of Viscount's
indebtedness  and  others  executed  in April  1996 a  Compromise  of Claims and
Stipulation  under  Section  1110 of the  Bankruptcy  Code (the  Compromise  and
Stipulation),  which was  subsequently  approved by the  Bankruptcy  Court.  The
Compromise and Stipulation provided,  among other things, that Viscount rejected
the lease of the Partnership's aircraft. The rejection of the lease gave rise to
a pre-petition  unsecured claim in Viscount's  bankruptcy for breach of contract
damages.  Notwithstanding  Viscount's  rejection of the  Partnership's  aircraft
lease,  Viscount  continued  to  possess  and use the  Partnership's  engine and
refused  to  return  various  aircraft  parts  removed  from  the  Partnership's
aircraft.

During 1995,  Viscount delivered the Partnership's  Boeing 737-200 aircraft to a
repair facility operated by BAE Aviation, Inc., d/b/a Tucson Aerospace,  located
in  Arizona,  to  perform  a  heavy  maintenance  check  on  the  aircraft.  The
Partnership has paid to Tucson Aerospace approximately $565,000 from maintenance
reserves  and cash  reserves  for this  aircraft  as  progress  payments on this
maintenance  check.  Work on the  maintenance  check was suspended  prior to the
filing of the Chapter 11 petition by  Viscount.  Tucson  Aerospace  asserts that
Viscount owes it approximately $866,000 for work done on the aircraft,  which is
in addition to the  approximately  $565,000 already paid by the Partnership from
maintenance  reserves. In addition, a third party vendor, who claims it provided
personnel to work on the aircraft, is asserting a claim against Tucson Aerospace
and a lien against the aircraft in the amount of $720,000.  Another  third-party
vendor,  who claims it provided  inspectors,  is claiming  $185,000  from Tucson
Aerospace.  On May 22, 1996, First Security Bank, National Association (formerly
known  as  First  Security  Bank  of  Utah,  National   Association)  (FSB),  as
owner/trustee,  filed suit in the Superior  Court of Arizona in Pima County,  to
recover the airframe  from BAE  Aviation,  Inc. and certain  creditors  alleging
mechanics liens and to determine the validity of the claimed liens.

                                       20

<PAGE>

Pursuant to a stipulated  order of the Superior  Court  entered on July 9, 1996,
FSB  filed  a bond  in the  penal  sum of  $1,371,000  for  the  benefit  of the
lienholders,  who subsequently  released the aircraft to the Partnership on July
11, 1996. The aircraft was moved to a repair  facility in Tucson,  Arizona.  The
litigation  will continue in Superior  Court over the validity and amount of the
various liens alleged against the bond.

On July 12, 1996, GECAS and FSB filed a motion in Viscount's  bankruptcy case to
recover  the  engines  and parts  leased in  connection  with the  Partnership's
aircraft.  GECAS and FSB assert that these  engines  and parts  should have been
delivered to FSB pursuant to the  Compromise and  Stipulation.  Viscount paid to
the  Partnership  $10,000  for the use of the engine  during the month of August
1996, and continued through August 1996 to pay maintenance  reserves pursuant to
the lease terms.

On September  18, 1996,  GECAS (on behalf of the  Partnership,  Polaris  Holding
Company,  Polaris  Aircraft  Income Fund I, Polaris  Aircraft Income Fund IV and
Polaris  Aircraft  Investors  XVIII)  (collectively,  the Polaris  Entities) and
Viscount   entered  into  a  Stipulation  and  Agreement  (the  Stipulation  and
Agreement) by which  Viscount  agreed to  voluntarily  return all of the Polaris
Entities'  aircraft and  engines,  turn over  possession  of the majority of its
aircraft parts inventory, and cooperate with GECAS in the transition of aircraft
equipment and maintenance, in exchange for which, upon Bankruptcy Court approval
of the  Stipulation and Agreement,  the Polaris  Entities would waive their pre-
and post-petition claims against Viscount for amounts due and unpaid.

In  accordance  with  the  Stipulation  and  Agreement,  Viscount  returned  the
Partnership's  engine on  October  1,  1996.  GECAS,  on  behalf of the  Polaris
Entities, is evaluating the spare parts inventory to which Viscount relinquished
possession in order to determine its condition and value, the portion  allocable
to the  Partnership,  and the  Partnership's  alternatives  for  the use  and/or
disposition of such parts. A significant portion of the spare parts inventory is
currently in the  possession of third party  maintenance  and repair  facilities
with whom GECAS anticipates that it will need to negotiate for the repair and/or
return of these parts.

The Stipulation and Agreement also provides that the Polaris Entities, GECAS and
FSB would release any and all claims  against  Viscount,  Viscount's  bankruptcy
estate, and the property of Viscount's  bankruptcy estate,  effective upon entry
of a final  non-appealable  court order approving the Stipulation and Agreement.
The  Bankruptcy  Court  entered  such an order  approving  the  Stipulation  and
Agreement on October 23, 1996.

The  Partnership  recorded  allowances  for credit  losses of  $342,373  for the
aggregate  unsecured  receivables from Viscount.  The line of credit,  which was
advanced  to  Viscount  in 1994,  was, in  accordance  with the  Compromise  and
Stipulation, secured by certain of Viscount's trade receivables and spare parts.
The  Stipulation  and  Agreement   releases  the  Partnership's   claim  against
Viscount's  trade  receivables.   As  a  result,  the  Partnership  recorded  an
additional  allowance  for credit  losses of $92,508  during 1996,  representing
Viscount's  outstanding  balance  of the line of credit  and  accrued  interest.
Payments  received by the Partnership  from the sale of the spare aircraft parts
(as discussed  above),  if any, will be recorded as revenue when  received.  The
Stipulation and Agreement  provides that,  upon entry of a final  non-appealable
court order approving it, the Partnership would waive its pre- and post-petition
claims  against  Viscount  for all  amounts  due and  unpaid.  As a result,  the
Partnership  considers all receivables from Viscount to be uncollectible and has
written-off, during 1996, all notes, rents and interest receivable balances from
Viscount.

The Partnership evaluated the airframe and engines previously leased to Viscount
for potential  re-lease or sale and estimated that maintenance and refurbishment
costs aggregating  approximately  $1.6 million would be required to re-lease the
airframe and engines.  Alternatively,  a sale of the airframe and engines  would
likely be made on an "as is, where is" basis, without the Partnership  incurring
substantial maintenance costs.

                                       21

<PAGE>

The aircraft was sold in January 1997 for  $660,000.  As discussed in Note 3, in
accordance with SFAS No. 121, the  Partnership  recognized an impairment loss of
$300,000 on this aircraft which was recorded as additional  depreciation expense
during 1996.

Viscount's  failure to perform its financial  obligations to the Partnership has
had a material  adverse effect on the  Partnership's  financial  position.  As a
result of Viscount's  defaults and Chapter 11 bankruptcy filing, the Partnership
has  incurred  legal costs of  approximately  $147,000,  which are  reflected in
operating expense in the Partnership's 1996 statement of operations.


Industry Update

Maintenance  of Aging Aircraft - The process of aircraft  maintenance  begins at
the  aircraft  design  stage.  For aircraft  operating  under  Federal  Aviation
Administration  (FAA) regulations,  a review board consisting of representatives
of the manufacturer,  FAA representatives and operating airline  representatives
is responsible for specifying the aircraft's initial  maintenance  program.  The
general  partner  understands  that this  program  is  constantly  reviewed  and
modified throughout the aircraft's operational life.

Since 1988, the FAA, working with the aircraft manufacturers and operators,  has
issued a series of ADs which  mandate  that  operators  conduct  more  intensive
inspections, primarily of the aircraft fuselages. The results of these mandatory
inspections may result in the need for repairs or structural  modifications that
may not have been required under pre-existing maintenance programs.

In addition,  an AD adopted in 1990  requires  replacement  or  modification  of
certain  structural items on a specific  timetable.  These structural items were
formerly subject to periodic  inspection,  with replacement when necessary.  The
FAA  estimates  the cost of  compliance  with this AD to be  approximately  $1.0
million and $900,000 per Boeing 727 and Boeing 737  aircraft,  respectively,  if
none of the required work had been done previously.  The FAA also issued several
ADs in 1993 updating  inspection and  modification  requirements  for Boeing 737
aircraft.  The FAA estimates the cost of these  requirements to be approximately
$90,000 per  aircraft.  In general,  the new  maintenance  requirements  must be
completed  by the later of March  1994,  or 75,000  and  60,000  cycles for each
Boeing 737 and 727,  respectively.  A similar AD was  adopted on  September  24,
1990, applicable to McDonnell Douglas aircraft. The AD requires specific work to
be performed at various cycle thresholds  between 50,000 and 100,000 cycles, and
on specific date or age thresholds. The estimated cost of compliance with all of
the components of this AD is approximately  $850,000 per aircraft. The extent of
modifications  required  to  an  aircraft  varies  according  to  the  level  of
incorporation of design improvements at manufacture.

In December 1990, the FAA adopted  another AD intended to mitigate  corrosion of
structural components,  which would require repeated inspections from 5 years of
age throughout the life of an aircraft,  with replacement of corroded components
as needed.  Integration  of the new  inspections  into each aircraft  operator's
maintenance program was required by December 31, 1991 on Boeing aircraft.

In 1996,  the  manufacturer  proposed  certain  Boeing 737 rudder system product
improvements of which some will be mandated by the FAA. Airworthiness Directives
issued in the last quarter of 1996 and the first quarter of 1997 on this subject
have not been of  significant  maintenance  cost impact.  The cost of compliance
with future FAA maintenance  requirements  not yet issued is not determinable at
this time.

The   Partnership's   existing  leases  require  the  lessees  to  maintain  the
Partnership's  aircraft in accordance with an FAA-approved  maintenance  program
during  the lease  term.  At the end of the  leases,  each  lessee is  generally
required to return the aircraft in airworthy condition including compliance with
all ADs for which  action is  mandated  by the FAA  during  the lease  term.  An

                                       22

<PAGE>

aircraft  returned to the  Partnership as a result of a lease default would most
likely  not be  returned  to the  Partnership  in  compliance  with  all  return
conditions  required by the lease.  The Partnership has agreed to bear a portion
of the costs of compliance  with certain ADs with respect to the aircraft leased
to TWA,  Continental  and  Continental  Micronesia,  as  described in Item 1. In
negotiating   subsequent   leases,   market  conditions  may  require  that  the
Partnership  bear some or all of the costs of compliance  with future ADs or ADs
that have been  issued,  but which did not require  action  during the  previous
lease term. The ultimate  effect on the  Partnership of compliance  with the FAA
maintenance  standards  is not  determinable  at this time and will  depend on a
variety of factors, including the state of the commercial aircraft industry, the
timing of the  issuance of ADs,  and the status of  compliance  therewith at the
expiration of the current leases.

Aircraft  Noise - Another issue which has affected the airline  industry is that
of aircraft noise levels.  The FAA has categorized  aircraft  according to their
noise  levels.  Stage 1 aircraft,  which have the highest  noise  level,  are no
longer  allowed to operate  from civil  airports in the United  States.  Stage 2
aircraft meet current FAA requirements, subject to the phase-out rules discussed
below.  Stage 3 aircraft  are the most quiet and Stage 3 is the standard for all
new aircraft.

On September  24, 1991,  the FAA issued final rules on the  phase-out of Stage 2
aircraft by the end of this decade. The key features of the rule include:

         -        Compliance can be  accomplished  through a gradual  process of
                  phase-in or  phase-out  (see  below) on each of three  interim
                  compliance dates: December 31, 1994, 1996, and 1998. All Stage
                  2 aircraft must be phased out of operations in the  contiguous
                  United States by December 31, 1999, with waivers  available in
                  certain specific cases to December 31, 2003.

         -        All operators have the option of achieving  compliance through
                  a gradual  phase-out of Stage 2 aircraft (i.e.,  eliminate 25%
                  of its  Stage 2 fleet on each of the  compliance  dates  noted
                  above),  or a gradual phase-in of Stage 3 aircraft (i.e., 55%,
                  65% and 75% of an  operator's  fleet  must  consist of Stage 3
                  aircraft  by the  respective  interim  compliance  dates noted
                  above).

The federal rule does not prohibit  local  airports from issuing more  stringent
phase-out  rules.  In fact,  several local  airports have adopted more stringent
noise  requirements  which restrict the operation of Stage 2 and certain Stage 3
aircraft.

Other  countries  have also adopted  noise  policies.  The  European  Union (EU)
adopted a non-addition  rule in 1989, which directed each member country to pass
the necessary  legislation to prohibit  airlines from adding Stage 2 aircraft to
their fleets after November 1, 1990, with all Stage 2 aircraft phased-out by the
year 2002. The International  Civil Aviation  Organization has also endorsed the
phase-out of Stage 2 aircraft on a world-wide basis by the year 2002.

Hushkit   modifications,   which   allow  Stage  2  aircraft  to  meet  Stage  3
requirements,  are currently  available for the Partnership's  aircraft and have
been added to eleven of the Partnership's aircraft in 1996 and to three of their
aircraft in 1997. However, while technically feasible,  hushkits may not be cost
effective due to the age of the aircraft and the time required to fully amortize
the additional  investment.  The general partner has evaluated,  as appropriate,
the  potential   benefits  of  installing   hushkits  on  some  or  all  of  the
Partnership's aircraft.

Implementation  of the Stage 3 standards  has  adversely  affected  the value of
Stage 2 aircraft,  as these aircraft will require  eventual  modification  to be
operated  in the U.S.  or other  countries  with  Stage 3  standards  after  the
applicable dates.

                                       23

<PAGE>

Demand for Aircraft - Industry-wide,  approximately  280 commercial jet aircraft
were  available at December 31, 1996 for sale or lease,  approximately  195 less
than a year ago, and at under 2.5% of the total  available  jet aircraft  fleet,
this is the  lowest  level  of  availability  since  1988.  From  1991 to  1994,
depressed demand for travel limited airline  expansion plans,  with new aircraft
orders and scheduled  deliveries  being canceled or substantially  deferred.  As
profitability  declined,  many  airlines  took action to  downsize or  liquidate
assets  and  some  airlines  were  forced  to file  for  bankruptcy  protection.
Following three years of good traffic growth accompanied by rising yields,  this
trend is reversing with many airlines  reporting record profits.  As a result of
this  improving  trend,  just over 1200 new jet  aircraft  were ordered in 1996,
making this the second  highest ever order year in the history of the  industry.
To date,  this strong recovery has mainly  benefited  Stage 3 narrow-bodies  and
younger  Stage 2  narrow-bodies,  many of  which  are now  being  upgraded  with
hushkits,  whereas older Stage 2 narrow-bodies have shown only marginal signs of
recovery since the depressed 1991 to 1994 period.

The general partner  believes that, in addition to the factors cited above,  the
deteriorated  market  for  the  Partnership's   aircraft  reflects  the  airline
industry's  reaction to the significant  expenditures  potentially  necessary to
bring these aircraft into compliance with certain ADs issued by the FAA relating
to aging aircraft,  corrosion  prevention and control and structural  inspection
and modification as previously discussed.

Effects on the Partnership's Aircraft - The Partnership periodically reviews the
estimated  realizability  of the residual  values at the  projected  end of each
aircraft's  economic  life based on  estimated  residual  values  obtained  from
independent  parties which provide current and future estimated  aircraft values
by aircraft type.  The  Partnership  made downward  adjustments to the estimated
residual  value of certain of its on-lease  aircraft as of December 31, 1995 and
1994. For any downward adjustment in estimated residual value or decrease in the
projected  remaining economic life, the depreciation  expense over the projected
remaining economic life of the aircraft is increased.

If the projected net cash flow for each aircraft (projected rental revenue,  net
of management fees, less projected maintenance costs, if any, plus the estimated
residual value) is less than the carrying value of the aircraft, the Partnership
recognizes  the  deficiency  currently as increased  depreciation  expense.  The
Partnership  recognized  impairments  on  aircraft  to be held  and  used by the
Partnership of approximately  $17.0 million,  $2.4 million and $1.6 million,  or
$33.97,  $4.75 and $3.18 per limited  Partnership  unit, in 1996, 1995 and 1994,
respectively. In 1996, the impairment loss was the result of several significant
factors.  As a result of industry and market changes, a more extensive review of
the  Partnership's  aircraft was  completed in the fourth  quarter of 1996 which
resulted in revised  assumptions of future cash flows including  reassessment of
projected re-lease terms and potential future maintenance costs. As discussed in
Note  13,  the   Partnership   accepted  an  offer  to  purchase  seven  of  the
Partnership's  remaining aircraft subject to each aircraft's  existing lease and
certain  notes  receivable.  This offer  constitutes  an event that required the
Partnership  to review the  aircraft  carrying  value  pursuant  to SFAS 121. In
determining this additional  impairment loss, the Partnership estimated the fair
value of the aircraft  based on the  proposed  purchase  price  reflected in the
offer,  less  the  estimated  costs  and  expenses  of the  proposed  sale.  The
Partnership  recorded an impairment  loss to the extent that the carrying  value
exceeded the fair value.  Management  believes the  assumptions  related to fair
value of impaired  assets  represents the best estimates based on reasonable and
supportable assumptions and projections. It should be noted that there can be no
assurance  that the  contemplated  sale  transaction  will be  consummated.  The
contemplated  transaction remains subject to executing definitive  documentation
and various other contingencies.  The 1995 downward adjustment was the result of
the reduction of the net book value to the estimated net realizable value of the
Boeing  737- 200 Combi  aircraft  sold to Westjet in 1996.  Approximately  $1.03
million of the 1994  adjustment  was the result of the reduction of the net book
value to the estimated net realizable  value of the Boeing 727-200 aircraft sold
to  AIA in  February  1995.  The  increased  depreciation  expense  reduces  the

                                       24

<PAGE>

aircraft's carrying value and reduces the amount of future depreciation  expense
that the Partnership will recognize over the projected  remaining  economic life
of the aircraft.

The  Partnership's  future  earnings  are  impacted  by the  net  effect  of the
adjustments  to the carrying  value of the aircraft  recorded in 1996,  1995 and
1994 (which has the effect of decreasing  future  depreciation  expense) and the
downward  adjustments to the estimated residual values recorded in 1995 and 1994
(which has the effect of increasing future depreciation expense). The net effect
of the 1994 adjustments to the estimated  residual values and the adjustments to
the carrying value of the aircraft  recorded in 1994 is to cause the Partnership
to recognize increased  depreciation expense of approximately  $626,000 per year
beginning  in  1995  through  the end of the  estimated  economic  lives  of the
aircraft.  The net  effect of the 1995  adjustments  to the  estimated  residual
values and the  adjustments  to the carrying  value of the aircraft  recorded in
1995 is to cause the Partnership to recognize increased  depreciation expense of
approximately  $866,000  per  year  beginning  in  1996  through  the end of the
estimated economic lives of the aircraft.

Effective January 1, 1996, the Partnership adopted SFAS No. 121, "Accounting for
the  Impairment of Long-Lived  Assets and for  Long-Lived  Assets to be Disposed
Of." This statement  requires that long-lived  assets be reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be  recoverable.  In performing the review for  recoverability,
the  statement   provides  that  the  Partnership  should  estimate  the  future
undiscounted  cash flows  expected  to result  from the use of the asset and its
eventual  disposition.  If the  projected  net  undiscounted  cash flow for each
aircraft  (projected  rental  revenue,  net of management  fees,  less projected
maintenance  costs, if any, plus the estimated  residual value) is less than the
carrying value of the aircraft,  an impairment  loss is recognized.  Pursuant to
the statement,  measurement of an impairment loss for long-lived  assets will be
based on the "fair value" of the asset as defined in the statement.

SFAS No. 121  states  that the fair value of an asset is the amount at which the
asset could be bought or sold in a current  transaction between willing parties,
i.e., other than in a forced or liquidation sale. Quoted market prices in active
markets  are the best  evidence  of fair value and will be used as the basis for
the measurement,  if available.  If quoted market prices are not available,  the
estimate of fair value will be based on the best  information  available  in the
circumstances.  Pursuant  to the  statement,  the  estimate  of fair  value will
consider  prices for similar  assets and the results of valuation  techniques to
the extent  available in the  circumstances.  Examples of  valuation  techniques
include  the  present  value of  estimated  expected  future  cash flows using a
discount  rate  commensurate  with the risks  involved,  option-pricing  models,
matrix pricing, option-adjusted spread models, and fundamental analysis.

The Partnership  periodically  reviews its aircraft for impairment in accordance
with SFAS No.  121.  Using an  estimate  of the fair value of the  Partnership's
aircraft to measure  impairment may result in greater  write-downs than would be
recognized under the accounting  method  previously  applied by the Partnership.
The Partnership uses information obtained from third party valuation services in
arriving at its  estimate of fair value for  purposes  of  determining  residual
values. The Partnership will use similar information, plus available information
and estimates related to the Partnership's aircraft, to determine an estimate of
fair value to measure impairment as required by the statement.  The estimates of
fair value can vary  dramatically  depending  on the  condition  of the specific
aircraft  and the  actual  marketplace  conditions  at the  time  of the  actual
disposition  of the  asset.  If  assets  are  deemed  impaired,  there  could be
substantial write-downs in the future.

The Partnership's  leases expire between February 1998 and February 2005. To the
extent that the Partnership's  Boeing and McDonnell Douglas aircraft continue to
be significantly affected by industry events, the Partnership will evaluate each
aircraft as it comes off lease or is returned to the  Partnership  to  determine
whether a re-lease  or a sale at the  then-current  market  rates  would be most
beneficial for unit holders.

                                       25

<PAGE>

Item 8.       Financial Statements and Supplementary Data











                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership




              FINANCIAL STATEMENTS AS OF DECEMBER 31, 1996 AND 1995


                                  TOGETHER WITH


                                AUDITORS' REPORT



















                                       26

<PAGE>












                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS



To the Partners of
Polaris Aircraft Income Fund II,
A California Limited Partnership:

We have audited the accompanying  balance sheets of Polaris Aircraft Income Fund
II, A California  Limited  Partnership as of December 31, 1996 and 1995, and the
related  statements of operations,  changes in partners'  capital  (deficit) and
cash flows for each of the three years in the period  ended  December  31, 1996.
These financial  statements are the  responsibility of the general partner.  Our
responsibility  is to express an opinion on these financial  statements based on
our audits.

We  conducted  our  audits  in  accordance  with  generally   accepted  auditing
standards.  Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements.  An audit also includes
assessing the accounting  principles used and significant  estimates made by the
general  partner,   as  well  as  evaluating  the  overall  financial  statement
presentation.  We believe  that our audits  provide a  reasonable  basis for our
opinion.

In our opinion,  the financial  statements  referred to above present fairly, in
all material  respects,  the financial  position of Polaris Aircraft Income Fund
II, A California  Limited  Partnership as of December 31, 1996 and 1995, and the
results of its  operations and its cash flows for each of the three years in the
period ended December 31, 1996, in conformity with generally accepted accounting
principles.


                                                             ARTHUR ANDERSEN LLP


San Francisco, California,
    March 3, 1997

                                       27

<PAGE>

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership

                                 BALANCE SHEETS

                           DECEMBER 31, 1996 AND 1995

                                                      1996           1995
                                                 ------------   ------------
ASSETS:

CASH AND CASH EQUIVALENTS                        $ 22,224,813   $ 25,884,742

MARKETABLE SECURITIES, trading                           --        2,356,506

RENT AND OTHER RECEIVABLES, net of allowance
  for credit losses of $0 in 1996 and $241,964
  in 1995                                               6,648          8,965

NOTES RECEIVABLE                                    1,522,956      2,679,486

AIRCRAFT, net of accumulated depreciation of
  $120,260,981 in 1996 and $97,407,528 in 1995     63,638,062     76,487,365

AIRCRAFT INVENTORY                                    113,248        373,483

OTHER ASSETS                                          117,015         29,770
                                                 ------------   ------------

                                                 $ 87,622,742   $107,820,317
                                                 ============   ============

LIABILITIES AND PARTNERS' CAPITAL (DEFICIT):

PAYABLE TO AFFILIATES                            $     66,631   $     92,511

ACCOUNTS PAYABLE AND ACCRUED
  LIABILITIES                                         209,781         87,356

SECURITY DEPOSITS                                     116,000        450,000

MAINTENANCE RESERVES                                  223,528        179,185

DEFERRED INCOME                                       597,915        642,742

NOTES PAYABLE                                      14,193,178           --
                                                 ------------   ------------

       Total Liabilities                           15,407,033      1,451,794
                                                 ------------   ------------

PARTNERS' CAPITAL (DEFICIT):
  General Partner                                  (1,480,858)    (1,139,155)
  Limited Partners, 499,997 units
    issued and outstanding                         73,696,567    107,507,678
                                                 ------------   ------------

       Total Partners' Capital                     72,215,709    106,368,523
                                                 ------------   ------------

                                                 $ 87,622,742   $107,820,317
                                                 ============   ============

        The accompanying notes are an integral part of these statements.

                                       28

<PAGE>

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership

                            STATEMENTS OF OPERATIONS

              FOR THE YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994



                                        1996          1995          1994
                                    ------------  ------------  ------------
REVENUES:
    Rent from operating leases      $ 14,172,153  $ 16,114,000  $ 12,933,795
    Receipt of lessee stock
     warrants                               --       1,772,206          --
    Gain on trading securities            49,974       582,028          --
    Interest                           1,505,981     1,667,397       820,362
    Claims related to lessee
     defaults                            576,500          --            --
    Other                                   --         957,710       689,745
                                    ------------  ------------  ------------

         Total Revenues               16,304,608    21,093,341    14,443,902
                                    ------------  ------------  ------------

EXPENSES:
    Depreciation                      29,470,353    13,895,184    13,045,238
    Management fees to general
     partner                             667,678       752,384       615,940
    Provision for credit losses          192,917       241,964          --
    Operating                            244,494       150,161     3,738,938
    Interest                             134,341          --            --
    Administration and other             303,311       336,583       260,958
                                    ------------  ------------  ------------

         Total Expenses               31,031,094    15,376,276    17,661,074
                                    ------------  ------------  ------------

NET INCOME (LOSS)                   $(14,708,486) $  5,717,065  $ (3,217,172)
                                    ============  ============  ============

NET INCOME ALLOCATED TO
    THE GENERAL PARTNER             $  1,602,730  $    744,597  $  1,217,696
                                    ============  ============  ============

NET INCOME (LOSS) ALLOCATED
    TO LIMITED PARTNERS             $(16,311,216) $  4,972,468  $ (4,434,868)
                                    ============  ============  ============

NET INCOME (LOSS) PER LIMITED
    PARTNERSHIP UNIT                $     (32.62) $       9.94  $      (8.87)
                                    ============  ============  ============

        The accompanying notes are an integral part of these statements.

                                       29

<PAGE>

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership

              STATEMENTS OF CHANGES IN PARTNERS' CAPITAL (DEFICIT)

              FOR THE YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994



                                       General      Limited
                                       Partner      Partners        Total
                                       -------      --------        -----


Balance, December 31, 1993          $   (948,683) $126,344,962  $125,396,279

    Net income (loss)                  1,217,696    (4,434,868)   (3,217,172)

    Cash distributions to partners    (1,388,881)  (12,499,925)  (13,888,806)
                                    ------------  ------------  ------------

Balance, December 31, 1994            (1,119,868)  109,410,169   108,290,301

    Net income                           744,597     4,972,468     5,717,065

    Cash distributions to partners      (763,884)   (6,874,959)   (7,638,843)
                                    ------------  ------------  ------------

Balance, December 31, 1995            (1,139,155)  107,507,678   106,368,523

    Net income (loss)                  1,602,730   (16,311,216)  (14,708,486)

    Cash distributions to partners    (1,944,433)  (17,499,895)  (19,444,328)
                                    ------------  ------------  ------------

Balance, December 31, 1996          $ (1,480,858) $ 73,696,567  $ 72,215,709
                                    ============  ============  ============

        The accompanying notes are an integral part of these statements.

                                       30

<PAGE>

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership

                            STATEMENTS OF CASH FLOWS

              FOR THE YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994


                                         1996          1995          1994
                                    ------------  ------------  ------------
OPERATING ACTIVITIES:
  Net income (loss)                 $(14,708,486) $  5,717,065  $ (3,217,172)
  Adjustments to reconcile net
   income (loss) to net cash
   provided by operating
   activities:
     Depreciation                     29,470,353    13,895,184    13,045,238
     Provision for credit losses         192,917       241,964          --
     Changes in operating assets
      and liabilities:
       Decrease (increase) in
         marketable securities,
         trading                       2,356,506    (2,356,506)         --
       Decrease (increase) in rent
         and other receivables          (101,959)       41,132      (254,328)
       Increase in other assets          (87,245)         --            --
       Increase (decrease) in
         payable to affiliates           (25,880)     (610,330)      650,567
       Increase (decrease) in
         accounts payable and accrued
         liabilities                     122,425        48,693    (2,517,662)
       Increase (decrease) in
         security deposits              (334,000)      278,860       (18,424)
       Increase (decrease) in
         maintenance reserves             44,343      (543,505)     (146,673)
       Decrease in deferred income       (44,827)         --            --
                                    ------------  ------------  ------------

          Net cash provided by
           operating activities       16,884,147    16,712,557     7,541,546
                                    ------------  ------------  ------------

INVESTING ACTIVITIES:
  Increase in notes receivable              --            --      (2,304,533)
  Increase in aircraft capitalized
   costs                             (17,516,722)         --            --
  Principal payments on notes
   receivable                          1,963,561     1,873,751       545,409
  Net proceeds from sale of
   aircraft inventory                    260,235       275,130       323,448
                                    ------------  ------------  ------------

          Net cash provided by
           (used in) investing
           activities                (15,292,926)    2,148,881    (1,435,676)
                                    ------------  ------------  ------------

FINANCING ACTIVITIES:
  Increase in note payable            14,216,722          --            --
  Principal payments on notes
   payable                               (23,544)         --            --
  Cash distributions to partners     (19,444,328)   (7,638,843)  (13,888,806)
                                    ------------  ------------  ------------

          Net cash used in
           financing activities       (5,251,150)   (7,638,843)  (13,888,806)
                                    ------------  ------------  ------------

CHANGES IN CASH AND CASH
  EQUIVALENTS                         (3,659,929)   11,222,595    (7,782,936)

CASH AND CASH EQUIVALENTS AT
  BEGINNING OF YEAR                   25,884,742    14,662,147    22,445,083
                                    ------------  ------------  ------------

CASH AND CASH EQUIVALENTS AT
  END OF YEAR                       $ 22,224,813  $ 25,884,742  $ 14,662,147
                                    ============  ============  ============

        The accompanying notes are an integral part of these statements.

                                       31

<PAGE>

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership

                          NOTES TO FINANCIAL STATEMENTS

                                DECEMBER 31, 1996



1.       Accounting Principles and Policies

Accounting  Method -  Polaris  Aircraft  Income  Fund II, A  California  Limited
Partnership  (PAIF-II or the  Partnership),  maintains its  accounting  records,
prepares its financial statements and files its tax returns on the accrual basis
of  accounting.  The  preparation  of financial  statements in  conformity  with
generally accepted  accounting  principles requires management to make estimates
and assumptions  that affect the reported  amounts of assets and liabilities and
disclosure of  contingent  assets and  liabilities  at the date of the financial
statements  and the  reported  amounts  of  revenues  and  expenses  during  the
reporting  period.  Actual results could differ from those  estimates.  The most
significant  estimates with regard to these financial  statements are related to
the projected cash flows analysis in determining the fair value of assets.

Cash and Cash  Equivalents - This includes  deposits at banks and investments in
money  market  funds.  Cash and  Cash  Equivalents  are  stated  at cost,  which
approximates fair value.

Marketable Securities, trading - Marketable Securities, trading, were carried at
fair value, which was determined based on quoted market prices. These securities
were held for sale in the near term (Note 6).

Aircraft and  Depreciation  - The aircraft are recorded at cost,  which includes
acquisition costs. Depreciation to an estimated residual value is computed using
the straight-line  method over the estimated economic life of the aircraft which
was  originally  estimated  to  be  30  years  from  the  date  of  manufacture.
Depreciation in the year of acquisition was calculated  based upon the number of
days that the aircraft were in service.

The Partnership periodically reviews the estimated realizability of the residual
values at the projected end of each aircraft's  economic life based on estimated
residual  values  obtained from  independent  parties which provide  current and
future estimated  aircraft values by aircraft type. For any downward  adjustment
in estimated  residual  value or decrease in the  projected  remaining  economic
life, the depreciation expense over the projected remaining economic life of the
aircraft is increased.

If the projected net cash flow for each aircraft (projected rental revenue,  net
of management fees, less projected maintenance costs, if any, plus the estimated
residual  value) is less than the carrying value of the aircraft,  an impairment
loss is  recognized.  Pursuant to Statement of  Financial  Accounting  Standards
(SFAS) No. 121, as discussed in Note 3,  measurement of an impairment  loss will
be based on the "fair value" of the asset as defined in the statement.

Capitalized  Costs -  Aircraft  modification  and  maintenance  costs  which are
determined  to increase  the value or extend the useful life of the aircraft are
capitalized  and  amortized  using the  straight-line  method over the estimated
useful  life of the  improvement.  These  costs  are also  subject  to  periodic
evaluation as discussed above.

Aircraft  Inventory - Aircraft  held in inventory  for sale are reflected at the
lower of depreciated cost or estimated net realizable value. Proceeds from sales
are applied against inventory until the book value is fully recovered.

                                       32

<PAGE>

Operating  Leases - The aircraft  leases are accounted for as operating  leases.
Lease  revenues  are  recognized  in equal  installments  over the  terms of the
leases.

Maintenance  Reserves - The Partnership  receives  maintenance  reserve payments
from  certain of its  lessees  that may be  reimbursed  to the lessee or applied
against certain costs incurred by the Partnership or lessee for maintenance work
performed on the Partnership's  aircraft or engines, as specified in the leases.
Maintenance reserve payments are recognized when received and balances remaining
at the  termination  of the lease,  if any,  may be used by the  Partnership  to
offset future maintenance expenses or recognized as revenue.

Operating  Expenses - Operating  expenses  include  costs  incurred to maintain,
insure,  lease and sell the Partnership's  aircraft,  including costs related to
lessee defaults and costs of disassembling aircraft inventory.

Net Income (Loss) Per Limited  Partnership  Unit - Net income (loss) per limited
partnership  unit is based on the limited  partners' share of net income or loss
and the number of units  outstanding for the years ended December 31, 1996, 1995
and 1994.

Income Taxes - The Partnership  files federal and state  information  income tax
returns only. Taxable income or loss is reportable by the individual partners.

Receivables  - The  Partnership  recorded  an  allowance  for credit  losses for
certain  impaired  note  and  rents  receivable  as a  result  of  uncertainties
regarding their  collection as discussed in Note 8. The  Partnership  recognizes
revenue on impaired notes and receivables only as payments are received.

                                                    1996           1995
                                                    ----           ----

      Allowance for credit losses,
         beginning of year                      $  (241,964)  $(1,575,000)
      Provision for credit losses                  (192,917)     (241,964)
      Write-downs                                   434,881           -
      Collections                                       -       1,575,000
                                                -----------   -----------
      Allowance for credit losses,
         end of year                            $       -     $  (241,964)
                                                ===========   ===========


The fair  value of the notes  receivable  is  estimated  by  discounting  future
estimated  cash flows using current  interest rates at which similar loans would
be made to borrowers with similar credit ratings and remaining maturities.


2.    Organization and the Partnership

The  Partnership  was formed on June 27, 1984 for the purpose of  acquiring  and
leasing  aircraft.  The Partnership  will terminate no later than December 2010.
Upon  organization,  both the general  partner and the initial  limited  partner
contributed  $500.  The  Partnership  recognized no profits or losses during the
periods ended  December 31, 1985 and 1984.  The offering of limited  partnership
units  terminated on December 31, 1986, at which time the  Partnership  had sold
499,997 units of $500, representing $249,998,500.  All partners were admitted to
the Partnership on or before December 1, 1986.

Polaris Investment  Management  Corporation  (PIMC), the sole general partner of
the Partnership,  supervises the day-to-day operations of the Partnership.  PIMC
is a wholly-owned  subsidiary of Polaris  Aircraft Leasing  Corporation  (PALC).

                                       33

<PAGE>

Polaris  Holding Company (PHC) is the parent company of PALC.  General  Electric
Capital Corporation (GE Capital), an affiliate of General Electric Company, owns
100% of PHC's  outstanding  common  stock.  PIMC  has  entered  into a  services
agreement  dated as of July 1,  1994 with GE  Capital  Aviation  Services,  Inc.
(GECAS). Allocations to related parties are described in Note 10.


3.    Aircraft

At December 31, 1996, the Partnership owned 22 aircraft and certain  inventoried
aircraft parts from its original  portfolio of 30 used  commercial jet aircraft,
which were acquired,  leased or sold as discussed below.  All aircraft  acquired
from an affiliate were purchased within one year of the affiliate's  acquisition
at the  affiliate's  original price paid. The aircraft  leases are net operating
leases,  requiring the lessees to pay all operating expenses associated with the
aircraft  during the lease term.  While the leases require the lessees to comply
with  Airworthiness  Directives  (ADs)  which  have been or may be issued by the
Federal Aviation  Administration  (FAA) and require  compliance during the lease
term, in certain of the leases the  Partnership  has agreed to share in the cost
of  compliance  with ADs. In addition to basic rent,  one lessee was required to
pay  supplemental  amounts  based on flight  hours or cycles into a  maintenance
reserve  account,  to be used for heavy  maintenance of the engines or airframe.
The leases generally state a minimum  acceptable  return condition for which the
lessee is liable  under  the  terms of the  lease  agreement.  In the event of a
lessee default, these return conditions are not likely to be met. Certain leases
also  provide  that,  if the  aircraft are returned at a level above the minimum
acceptable  level,  the  Partnership  must  reimburse the lessee for the related
excess, subject to certain limitations.  The related liability to these lessees,
if any,  cannot  currently be estimated  and  therefore is not  reflected in the
financial statements.

The following table describes the Partnership's  aircraft  portfolio at December
31, 1996 in greater detail:

                                                           Year of
Aircraft Type                          Serial Number     Manufacture
-------------                          -------------     -----------
Boeing 727-200 Advanced                    21426            1977
Boeing 727-200 Advanced                    21427            1977
Boeing 727-200 Advanced                    21947            1979
Boeing 737-200 (1)                         19609            1968
McDonnell Douglas DC-9-30                  47082            1967
McDonnell Douglas DC-9-30                  47096            1967
McDonnell Douglas DC-9-30                  47135            1968
McDonnell Douglas DC-9-30                  47137            1968
McDonnell Douglas DC-9-30                  47249            1968
McDonnell Douglas DC-9-30                  47251            1968
McDonnell Douglas DC-9-30                  47343            1969
McDonnell Douglas DC-9-30                  47345            1969
McDonnell Douglas DC-9-30                  47411            1969
McDonnell Douglas DC-9-30                  47412            1969
McDonnell Douglas DC-9-30                  47027            1967
McDonnell Douglas DC-9-30                  47107            1968
McDonnell Douglas DC-9-30                  47108            1968
McDonnell Douglas DC-9-30                  47174            1968
McDonnell Douglas DC-9-30                  47324            1969
McDonnell Douglas DC-9-30                  47357            1969
McDonnell Douglas DC-9-30                  47734            1977
McDonnell Douglas DC-9-40                  47617            1975

(1) Aircraft sold in 1997 (Note 13).

                                       34

<PAGE>

One Boeing  737-200 - This  aircraft  was acquired  for  $6,766,166  in 1986 and
leased to various lessees until 1989, when Braniff,  Inc. (Braniff) defaulted on
its lease.  The aircraft  remained off lease until March 1991.  The aircraft was
then leased to SABA Airlines, S.A. (SABA) at approximately 70% of the prior rate
until February 1992, when the aircraft was repossessed by the Partnership  after
SABA defaulted under its lease. In November 1992, the aircraft was re-leased for
five years to Viscount Air Services, Inc. (Viscount) at approximately 56% of the
prior lease rate.  Viscount  defaulted on the lease and returned the aircraft to
the  Partnership  as  discussed in Note 8. An engine for the aircraft was leased
from an affiliate (Note 10) . The aircraft was sold in January 1997 as discussed
in Note 13.

Seven Boeing 727-200 - These aircraft were acquired for $38,986,145  during 1986
and leased to Pan American  World  Airways,  Inc. (Pan Am) until 1991,  when the
lease was terminated due to Pan Am's  bankruptcy  filing.  The  Partnership  has
transferred  six of these  aircraft to aircraft  inventory and has  disassembled
them for sale of the component parts (Note 5). One hushkit set from the aircraft
was sold in January 1993 and two additional  hushkit sets from the aircraft were
sold in September 1993.

The remaining  aircraft was leased to Delta Airlines,  Inc. (Delta) in September
1991.  Delta  returned  the  aircraft at the end of  September  1993,  following
several  month-by-month  lease extensions  since the original lease  termination
date in April 1993. The Partnership  adjusted the book value of this aircraft to
its  estimated  net  realizable   value  by  increasing   depreciation   expense
approximately $1.03 million in 1994. During 1995, the Partnership  recognized as
other revenue maintenance reserves aggregating  approximately  $91,000 that were
previously paid to the  Partnership by Delta.  The aircraft was sold to American
International  Airways  Limited  (AIA) in  February  1995  for a sales  price of
$1,771,805.  The Partnership  recorded no gain or loss on the sale, as the sales
price  equaled the net book value of the aircraft and hushkit.  The  Partnership
agreed to  accept  payment  of the sales  price in 36  monthly  installments  of
$55,000, with interest at a rate of 7.5% per annum, beginning in March 1995. The
Partnership  recorded a note receivable for the sales price and has received all
scheduled  principal  and interest  payments  due from AIA through  December 31,
1996,  including one additional  principal  payment of $410,229  received in May
1995. The note receivable  balance as of December 31, 1996 and 1995 was $275,226
and $889,351, respectively.

One Boeing 737-200 Combi - This aircraft was acquired for $7,582,572 in 1986 and
leased  to  Presidential  Airways,  Inc.  (Presidential),  until  Presidential's
default in 1989.  The  aircraft  was then  leased to Air Zaire,  Inc.  until its
return to the  Partnership in 1991. In August 1992, the  Partnership  leased the
aircraft to Northwest  Territorial  Airways,  Ltd.  (NWT) through March 1994. An
engine for the aircraft was leased from an  affiliate  through  April 1994 (Note
10). The Partnership  performed certain maintenance and modification work on the
aircraft then  negotiated a new lease with NWT for 16 months  commencing in June
1994. The new lease rate was approximately  108% of NWT's prior rental rate. The
new lease expired in October  1995. As specified in the lease,  NWT was required
to perform  certain  maintenance  work on the aircraft prior to its return.  NWT
returned the aircraft without  performing the required  maintenance  work, which
constituted  a default under the lease.  The  Partnership  and NWT  subsequently
reached an  agreement  by which NWT paid to the  Partnership  in  December  1995
approximately $457,000 and the Partnership was entitled to retain NWT's security
deposit  of  approximately  $101,000  in lieu  of NWT  performing  the  required
maintenance  work on the aircraft.  The  Partnership  recorded  these amounts as
other revenue in the accompanying 1995 statement of operations.

In March 1996, the Partnership  sold the airframe and one engine from the Boeing
737-200 Combi aircraft to Westjet Airlines, Ltd. (Westjet). The security deposit
of  approximately  $88,000 received from WestJet in December 1995 was applied to
the sales price of approximately  $896,000.  The Partnership recorded no gain or
loss on the sale as the sales price  equaled the net book value of the  airframe
and engine. The Partnership agreed to accept payment of the balance of the sales
price in 22  monthly  installments,  with  interest  at a rate of 10% per annum,
beginning  in March 1996.  WestJet is current on its  scheduled  payments to the
Partnership.  The note receivable  balance as of December 31, 1996 was $477,990.
The remaining  engine was sold with one Boeing  737-200 to American  Aircarriers
Support, Inc. in January 1997.

                                       35

<PAGE>

17 McDonnell  Douglas DC-9-30 and One McDonnell Douglas DC-9-40 - These aircraft
were acquired for $122,222,040  during 1986 and leased to Ozark Air Lines,  Inc.
(Ozark). In 1987, Trans World Airlines, Inc. (TWA) merged with Ozark and assumed
the  leases.  The  leases  were  modified  and  extended  in 1991 prior to TWA's
bankruptcy  filing  as  discussed  in Note 6. Two of the  aircraft  have a lease
expiration date of February 1998 and two other aircraft have a lease  expiration
date of November  1998.  The leases for 11 of the aircraft that  previously  had
lease  expiration  dates in 1998 were  extended  for eight years until  November
2004. The leases for three of the aircraft that previously had lease  expiration
dates in 1998 were  extended  in February  1997 for eight  years until  February
2005.

Three Boeing  727-200  Advanced - These  aircraft were acquired for  $36,364,929
during 1987 and leased to Alaska Airlines,  Inc.  (Alaska) until September 1992.
One of the aircraft was  re-leased  to  Continental  from April 1993 until April
1998. The remaining two aircraft were re-leased to Continental Micronesia,  Inc.
(Continental  Micronesia),  an affiliate of Continental,  from May and June 1993
until April 1998. All three of the aircraft are leased at  approximately  55% of
the prior lease  rates.  The leases  stipulate  that the  Partnership  reimburse
Continental for the cost of cockpit  modifications  up to $600,000 per aircraft.
In accordance with the cost sharing agreement,  in January 1994, the Partnership
reimbursed  Continental  $1.8  million  for  cockpit  modifications,  which  was
capitalized  by the  Partnership.  The  three  leases  also  stipulate  that the
Partnership will provide  financing of up to $815,000 per aircraft for new image
modifications.  The Partnership  financed $2,177,533 for new image modifications
during January 1994, which is being repaid with interest over the lease terms of
the  aircraft,  beginning in February  1994.  The  Partnership  has received all
scheduled  principal and interest  payments due from Continental and Continental
Micronesia  through December 31, 1996. The aggregate note receivable  balance as
of December  31, 1996 and 1995 was $769,740 and  $1,289,328,  respectively.  The
leases with  Continental  and  Continental  Micronesia  also  stipulate that the
Partnership  share in the cost of meeting certain ADs, which cannot be estimated
at this time.

The following is a schedule by year of future  minimum  rental revenue under the
existing leases:

                   Year                            Amount
                   ----                            ------
                   1997                        $ 17,789,726
                   1998                          16,540,000
                   1999                          14,280,000
                   2000                          14,280,000
                   2001 and thereafter           43,955,000
                                               ------------

                   Total                       $106,844,726
                                               ============

Future  minimum  rental  payments  may be offset or reduced  by future  costs as
described above and in Note 6.

Effective January 1, 1996, the Partnership adopted SFAS No. 121, "Accounting for
the  Impairment of Long-Lived  Assets and for  Long-Lived  Assets to be Disposed
Of." This statement  requires that long-lived  assets be reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be  recoverable.  In performing the review for  recoverability,
the  statement   provides  that  the  Partnership  should  estimate  the  future
undiscounted  cash flows  expected  to result  from the use of the asset and its
eventual  disposition.  If the  projected  undiscounted  net cash  flow for each
aircraft  (projected  rental  revenue,  net of management  fees,  less projected
maintenance  costs, if any, plus the estimated  residual value) is less than the
carrying value of the aircraft,  an impairment  loss is recognized.  Pursuant to
the statement,  measurement of an impairment loss for long-lived  assets will be
based on the "fair value" of the asset as defined in the statement.


                                       36

<PAGE>

SFAS No. 121  states  that the fair value of an asset is the amount at which the
asset could be bought or sold in a current  transaction between willing parties,
i.e., other than in a forced or liquidation sale. Quoted market prices in active
markets  are the best  evidence  of fair value and will be used as the basis for
the measurement,  if available.  If quoted market prices are not available,  the
estimate of fair value will be based on the best  information  available  in the
circumstances.  Pursuant  to the  statement,  the  estimate  of fair  value will
consider  prices for similar  assets and the results of valuation  techniques to
the extent  available in the  circumstances.  Examples of  valuation  techniques
include  the  present  value of  estimated  expected  future  cash flows using a
discount  rate  commensurate  with the risks  involved,  option-pricing  models,
matrix pricing, option-adjusted spread models, and fundamental analysis.

As  discussed  in Note 1, the  Partnership  periodically  reviews the  estimated
realizability  of the residual  values at the projected  end of each  aircraft's
economic  life based on estimated  residual  values  obtained  from  independent
parties which provide current and future  estimated  aircraft values by aircraft
type. The Partnership made downward  adjustments to the estimated residual value
of certain of its on-lease aircraft as of December 31, 1995 and 1994.

The  Partnership's  future  earnings  are  impacted  by the  net  effect  of the
adjustments  to the  carrying  values of the  aircraft  (which has the effect of
decreasing  future  depreciation  expense) and the downward  adjustments  to the
estimated   residual   values  (which  has  the  effect  of  increasing   future
depreciation expense).

As discussed above,  the Partnership uses information  obtained from third party
valuation  services in arriving  at its  estimate of fair value for  purposes of
determining residual values. The Partnership will use similar information,  plus
available  information and estimates related to the Partnership's  aircraft,  to
determine  an  estimate of fair value to measure  impairment  as required by the
statement.  The estimates of fair value can vary  dramatically  depending on the
condition of the specific aircraft and the actual marketplace  conditions at the
time of the  actual  disposition  of the asset.  If assets are deemed  impaired,
there could be substantial write-downs in the future.

The Partnership  recognized impairment losses on aircraft to be held and used by
the  Partnership  aggregating  approximately  $17.0  million,  $2.4  million and
approximately $1.6 million,  or $33.97,  $4.75 and $3.18 per limited Partnership
unit, as increased depreciation expense in 1996, 1995 and 1994, respectively. In
1996, the impairment loss was the result of several  significant  factors.  As a
result  of  industry  and  market  changes,  a  more  extensive  review  of  the
Partnership's  aircraft  was  completed  in the  fourth  quarter  of 1996  which
resulted in revised  assumptions of future cash flows including  reassessment of
projected re-lease terms and potential future maintenance costs. As discussed in
Note  13,  the   Partnership   accepted  an  offer  to  purchase  seven  of  the
Partnership's remaining aircraft subject to each aircraft's existing lease. This
offer  constitutes an event that required the Partnership to review the aircraft
carrying value pursuant to SFAS 121. In determining  this additional  impairment
loss,  the  Partnership  estimated  the fair value of the aircraft  based on the
proposed  purchase price  reflected in the offer,  less the estimated  costs and
expenses of the proposed sale. The  Partnership  recorded an impairment  loss to
the extent that the carrying value exceeded the fair value.  Management believes
the  assumptions  related to fair value of impaired  assets  represents the best
estimates based on reasonable and supportable  assumptions and  projections.  It
should  be noted  that  there can be no  assurance  that the  contemplated  sale
transaction will be consummated. The contemplated transaction remains subject to
executing definitive documentation and various other contingencies. The 1995 and
1994 downward adjustments were the result of reductions in the net book value of
certain  aircraft  to  their  estimated  net  realizable  value.  The  increased
depreciation  expense  reduces  the  aircraft's  carrying  value and reduces the
amount of future  depreciation  expense that the Partnership will recognize over
the projected remaining economic life of the aircraft.



4.       Sale of Equipment

One hushkit set from the aircraft formerly leased to Pan Am (Note 3) was sold in
January  1993 to ALG for  $1,750,000.  ALG paid cash for a portion  of the sales
price and  issued an 11%  interest-bearing  promissory  note for the  balance of
$1,132,363,  which specified 23 equal monthly  payments and a balloon payment of
$897,932 due in January 1995. ALG paid to the Partnership $19,138 of the balloon

                                       37

<PAGE>

payment in January 1995,  originating  an event of default  under the note.  The
Partnership and ALG subsequently  restructured the terms of the promissory note.
The renegotiated  terms specify payment by ALG of the note balance with interest
at a rate of 13% per  annum  with  one  lump  sum  payment  in  January  1995 of
$254,733,  eleven monthly payments of $25,600  beginning in February 1995, and a
balloon  payment in January 1996 of $416,631.  In January 1996, the  Partnership
and  ALG  once  again  restructured  the  terms  of  the  promissory  note.  The
renegotiated terms specify payment by ALG of the note balance with interest at a
rate of 13% per annum with a lump sum payment in January  1996 of  $135,258  and
eleven payments of $27,272 beginning in February 1996 through December 1996. The
note receivable balance as of December 31, 1995 was $412,166.  ALG paid the note
in full during 1996.

5.       Disassembly of aircraft

In an attempt to maximize the economic  return from the  remaining  six aircraft
formerly  leased to Pan Am,  the  Partnership  entered  into an  agreement  with
Soundair,  Inc.  (Soundair) in October  1992,  for the  disassembly  and sale of
certain of the Partnership's  aircraft. The Partnership has incurred the cost of
disassembly  and will receive the proceeds  from the sale of such parts,  net of
overhaul expenses if necessary, and commissions paid to Soundair. Disassembly of
the six aircraft has been  completed.  The Partnership has received net proceeds
from the sale of aircraft  inventory of $260,234,  $275,130 and $323,448  during
1996, 1995 and 1994, respectively.

During 1995 and 1994, the Partnership  recorded additional downward  adjustments
to the  inventory  value of $200,000 and $72,000,  respectively,  to reflect the
then  current  estimate  of  net  realizable  aircraft  inventory  value.  These
adjustments are reflected as increased  depreciation expense in the accompanying
statements of operations.


6.       TWA Reorganization

The Partnership renegotiated the TWA leases after TWA defaulted under its leases
with the Partnership during 1991. The renegotiated agreement stipulated that the
Partnership  share in the cost of  certain  Airworthiness  Directives  after TWA
successfully  reorganized.  Pursuant to this cost-sharing  agreement,  since TWA
emerged from its  reorganization  proceedings  in 1993,  expenses  totaling $6.3
million ($2.7 million in 1993 and $3.6 million in 1994) have been offset against
rental  payments.  Under the terms of this  agreement,  TWA may  offset up to an
additional $2.7 million against rental payments,  subject to annual limitations,
over the remaining lease terms.

In October  1994,  TWA notified its  creditors,  including the  Partnership,  of
another  proposed  restructuring of its debt.  Subsequently,  GECAS negotiated a
standstill  arrangement,  as set forth in a letter  agreement dated December 16,
1994 (the Deferral Agreement),  with TWA for the 46 aircraft that are managed by
GECAS, 18 of which are owned by the  Partnership.  As required by its terms, the
Deferral  Agreement  (which  has since  been  amended  as  discussed  below) was
approved by PIMC on behalf of the Partnership with respect to the  Partnership's
aircraft.

The Deferral  Agreement  provided  for (i) a moratorium  on the rents due to the
Partnership in November 1994 and on 75% of the rents due to the Partnership from
December 1994 through March 1995, and (ii) all of the deferred  rents,  together
with interest  thereon,  to be repaid in monthly  installments  beginning in May
1995 and ending in  December  1995.  The  repayment  schedule  was  subsequently
accelerated upon  confirmation of TWA's bankruptcy plan. The Partnership did not
recognize either the $1.575 million rental amount deferred in 1994 or the $2.025
million  rental  amount  deferred  during  the first  quarter  of 1995 as rental
revenue until the deferred rents were received.  The deferred rents were paid in
full by October 1995. While TWA has committed to an uninterrupted  flow of lease
payments,  there  can be no  assurance  that TWA  will  continue  to  honor  its
obligations in the future.

                                       38

<PAGE>

In consideration for the partial rent moratorium  described above, TWA agreed to
make a lump sum  payment of  $1,000,000  to GECAS for the TWA  lessors  for whom
GECAS provides management services and who agreed to the Deferral Agreement. The
Partnership  received  $218,171 in January  1995 as its  pro-rata  share of such
payment by TWA. This amount was recognized as other revenue in the  accompanying
1995 statement of operations.

In order to  resolve  certain  issues  that  arose  after the  execution  of the
Deferral Agreement, TWA and GECAS entered into a letter agreement dated June 27,
1995,  pursuant to which they agreed to amend certain provisions of the Deferral
Agreement (as so amended,  the Amended  Deferral  Agreement).  The effect of the
Amended  Deferral  Agreement,  which was  approved  by PIMC with  respect to the
Partnership's  aircraft,  is that TWA,  in  addition  to  agreeing  to repay the
deferred rents to the Partnership, agreed (i) to a fixed payment amount (payable
in warrants, the number of which was determined by formula) in consideration for
the aircraft owners' agreement to defer rent under the Deferral Agreement,  and,
(ii) to the extent the market  value of the  warrants  is less than the  payment
amount,  to supply  maintenance  services to the aircraft  owners having a value
equal to such  deficiency.  The payment  amount was  determined  by  subtracting
certain  maintenance  reimbursements  owed to TWA by  certain  aircraft  owners,
including the Partnership, from the aggregate amount of deferred rents.

The Partnership received warrants to purchase 227,133 shares of TWA Common Stock
from TWA in November  1995. The  Partnership  exercised the warrants on December
29, 1995 for the strike  price of $0.01 per share.  The fair market value of the
TWA stock at December  31, 1995 of  $2,356,506,  which was  determined  based on
quoted market prices, is reflected in the accompanying December 31, 1995 balance
sheet. The Partnership sold the TWA Common Stock by February 1996, net of broker
commissions,  for  $2,406,479  and  recognized a gain on trading  securities  of
$49,974 in 1996.


7.       TWA Lease Extension

GECAS, on behalf of the Partnership,  negotiated with TWA for the acquisition of
noise-suppression  devices,  commonly  known  as  "hushkits",  for  14 of the 18
Partnership  aircraft currently on lease to TWA, as well as other aircraft owned
by affiliates of PIMC and leased to TWA. The 14 aircraft that received  hushkits
were  designated  by TWA.  The hushkits  recondition  the aircraft so as to meet
Stage  3  noise  level  restrictions.  Hushkits  were  installed  on 11  of  the
Partnership's  aircraft  during 1996 and the leases for these 11  aircraft  were
extended  for a  period  of eight  years  until  November  2004.  Hushkits  were
installed on the remaining  three aircraft  during February 1997 as discussed in
Note 13.

The  aggregate  cost  of the  hushkit  reconditioning  for the 11  aircraft  was
$17,516,722,  or approximately $1.6 million per aircraft,  which was capitalized
by the  Partnership  during  1996.  The  Partnership  paid $3.3  million  of the
aggregate  hushkit  cost and the  balance of  $14,216,722  was  financed  by the
engine/hushkit  manufacturer  over  a  6-year  period  at an  interest  rate  of
approximately  10% per annum.  The balance of the note  payable at December  31,
1996 was $14,193,178.

The rent payable by TWA under the leases was  increased by an amount  sufficient
to cover the monthly  debt  service  payments on the  hushkits  and fully repay,
during  the term of the TWA  leases,  the  amount  borrowed.  The loan  from the
engine/hushkit  manufacturer is non-recourse to the Partnership and secured by a
security interest in the lease receivables.


8.       Viscount Restructuring Agreement and Default

On January 24, 1996,  Viscount filed a petition for protection  under Chapter 11
of the United States  Bankruptcy Code in the United States  Bankruptcy  Court in

                                       39

<PAGE>

Tucson,  Arizona.  In April 1996,  GECAS,  on behalf of the  Partnership,  First
Security Bank,  National  Association  (formerly known as First Security Bank of
Utah,  National  Association)  (FSB), the owner/trustee  under the Partnership's
leases with Viscount (the Leases),  Viscount,  certain  guarantors of Viscount's
indebtedness  and  others  executed  in April  1996 a  Compromise  of Claims and
Stipulation  under  Section  1110 of the  Bankruptcy  Code (the  Compromise  and
Stipulation),  which was  subsequently  approved by the  Bankruptcy  Court.  The
Compromise and Stipulation provided,  among other things, that Viscount rejected
the lease of the Partnership's aircraft. The rejection of the lease gave rise to
a pre-petition  unsecured claim in Viscount's  bankruptcy for breach of contract
damages.  Notwithstanding  Viscount's  rejection of the  Partnership's  aircraft
lease,  Viscount  continued  to  possess  and use the  Partnership's  engine and
refused  to  return  various  aircraft  parts  removed  from  the  Partnership's
aircraft.

During 1995,  Viscount delivered the Partnership's  Boeing 737-200 aircraft to a
repair facility operated by BAE Aviation, Inc., d/b/a Tucson Aerospace,  located
in  Arizona,  to  perform  a  heavy  maintenance  check  on  the  aircraft.  The
Partnership has paid to Tucson Aerospace approximately $565,000 from maintenance
reserves  and cash  reserves  for this  aircraft  as  progress  payments on this
maintenance  check.  Work on the  maintenance  check was suspended  prior to the
filing of the Chapter 11 petition by  Viscount.  Tucson  Aerospace  asserts that
Viscount owes it approximately $866,000 for work done on the aircraft,  which is
in addition to the  approximately  $565,000 already paid by the Partnership from
maintenance  reserves. In addition, a third party vendor, who claims it provided
personnel to work on the aircraft, is asserting a claim against Tucson Aerospace
and a lien against the aircraft in the amount of $720,000.  Another  third-party
vendor,  who claims it provided  inspectors,  is claiming  $185,000  from Tucson
Aerospace.  On May 22, 1996, First Security Bank, National Association (formerly
known  as  First  Security  Bank  of  Utah,  National   Association)  (FSB),  as
owner/trustee,  filed suit in the Superior  Court of Arizona in Pima County,  to
recover the airframe  from BAE  Aviation,  Inc. and certain  creditors  alleging
mechanics liens and to determine the validity of the claimed liens.

Pursuant to a stipulated  order of the Superior  Court  entered on July 9, 1996,
FSB  filed  a bond  in the  penal  sum of  $1,371,000  for  the  benefit  of the
lienholders,  who subsequently  released the aircraft to the Partnership on July
11, 1996. The aircraft was moved to a repair  facility in Tucson,  Arizona.  The
litigation  will continue in Superior  Court over the validity and amount of the
various liens alleged against the bond.

On July 12, 1996, GECAS and FSB filed a motion in Viscount's  bankruptcy case to
recover  the  engines  and parts  leased in  connection  with the  Partnership's
aircraft.  GECAS and FSB asserted  that these engines and parts should have been
delivered to FSB pursuant to the  Compromise and  Stipulation.  Viscount paid to
the  Partnership  $10,000  for the use of the engine  during the month of August
1996, and continued through August 1996 to pay maintenance  reserves pursuant to
the lease terms.

On September  18, 1996,  GECAS (on behalf of the  Partnership,  Polaris  Holding
Company,  Polaris  Aircraft  Income Fund I, Polaris  Aircraft Income Fund IV and
Polaris  Aircraft  Investors  XVIII)  (collectively,  the Polaris  Entities) and
Viscount   entered  into  a  Stipulation  and  Agreement  (the  Stipulation  and
Agreement) by which  Viscount  agreed to  voluntarily  return all of the Polaris
Entities'  aircraft and  engines,  turn over  possession  of the majority of its
aircraft parts inventory, and cooperate with GECAS in the transition of aircraft
equipment and maintenance, in exchange for which, upon Bankruptcy Court approval
of the  Stipulation and Agreement,  the Polaris  Entities would waive their pre-
and post-petition claims against Viscount for amounts due and unpaid.

In  accordance  with  the  Stipulation  and  Agreement,  Viscount  returned  the
Partnership's  engine on  October  1,  1996.  GECAS,  on  behalf of the  Polaris
Entities, is evaluating the spare parts inventory to which Viscount relinquished
possession in order to determine its condition and value, the portion  allocable
to the  Partnership,  and the  Partnership's  alternatives  for  the use  and/or
disposition of such parts. A significant portion of the spare parts inventory is

                                       40

<PAGE>

currently in the  possession of third party  maintenance  and repair  facilities
with whom GECAS anticipates that it will need to negotiate for the repair and/or
return of these parts.

The Stipulation and Agreement also provides that the Polaris Entities, GECAS and
FSB would release any and all claims  against  Viscount,  Viscount's  bankruptcy
estate, and the property of Viscount's  bankruptcy estate,  effective upon entry
of a final  non-appealable  court order approving the Stipulation and Agreement.
The  Bankruptcy  Court  entered  such an order  approving  the  Stipulation  and
Agreement on October 23, 1996.

The Partnership  recorded  allowances for credit losses of $241,964 and $100,409
in 1995 and 1996,  respectively,  for the aggregate  unsecured  receivables from
Viscount.  The line of credit,  which was advanced to Viscount in 1994,  was, in
accordance with the Compromise and Stipulation, secured by certain of Viscount's
trade  receivables and spare parts.  The Stipulation and Agreement  releases the
Partnership's  claim against  Viscount's  trade  receivables.  As a result,  the
Partnership recorded an additional allowance for credit losses of $92,508 during
1996,  representing  Viscount's  outstanding  balance  of the line of credit and
accrued  interest.  Payments  received by the  Partnership  from the sale of the
spare aircraft parts (as discussed  above),  if any, will be recorded as revenue
when received.  The  Stipulation  and Agreement  provides that,  upon entry of a
final  non-appealable  court order approving it, the Partnership would waive its
pre- and  post-petition  claims against Viscount for all amounts due and unpaid.
As a result,  the  Partnership  considers  all  receivables  from Viscount to be
uncollectible  and has written-off,  during 1996, all notes,  rents and interest
receivable balances from Viscount.

The  Partnership  has  evaluated the airframe and engines  previously  leased to
Viscount for  potential  re-lease or sale and  estimated  that  maintenance  and
refurbishment  costs aggregating  approximately $1.6 million will be required to
re-lease the airframe  and  engines.  Alternatively,  a sale of the airframe and
engines  would  likely  be made on an "as  is,  where  is"  basis,  without  the
Partnership  incurring  substantial  maintenance costs. The aircraft was sold in
January 1997 for $660,000.  As discussed in Note 3, in accordance  with SFAS No.
121, the Partnership  recognized an impairment loss of $300,000 on this aircraft
which was recorded as additional depreciation expense during 1996.

Viscount's  failure to perform its financial  obligations to the Partnership has
had a material  adverse effect on the  Partnership's  financial  position.  As a
result of Viscount's  defaults and Chapter 11 bankruptcy filing, the Partnership
has  incurred  legal costs of  approximately  $147,000,  which are  reflected in
operating expense in the Partnership's 1996 statement of operations.


9.       Claims Related to Lessee Defaults

Receipt  of  Braniff  Bankruptcy  Claim - In July  1992,  the  Bankruptcy  Court
approved a stipulation embodying a settlement among the Partnership, the Braniff
creditor  committees  and  Braniff in which it was agreed  that the  Partnership
would be  allowed  an  administrative  claim  in the  bankruptcy  proceeding  of
approximately  $230,769.  In 1992, the Partnership  received full payment of the
claim subject to the requirement that 25% of total proceeds be held by PIMC in a
separate,  interest-bearing  account pending notification by Braniff that all of
the  allowed   administrative  claims  have  been  satisfied.   The  Partnership
recognized  75% of the total claim as other  revenue in 1992.  During 1994,  the
Partnership  was  advised  that  the 25%  portion  of the  administrative  claim
proceeds  with  interest  could be  released  by PIMC to the  Partnership.  As a
result,  the  Partnership  recognized  $67,958  as  other  revenue  in the  1994
statement of operations.

Air Zaire - As a result of legal  action  commenced  by the general  partner,  a
final  settlement was reached with Air Zaire.  Air Zaire paid to the Partnership
approximately  $2,885,000, of which approximately $1,570,000 has been applied to

                                       41

<PAGE>

legal and maintenance  expenses related to the default.  The final expenses were
paid in 1993 and  approximately  $915,000 was  reflected as other revenue in the
1993 statement of operations. The remaining amount of $400,000 was recognized as
other revenue in 1994.

Pan Am - The Partnership entered into a proposed  Stipulation and Order in which
Pan Am agreed to allow the Partnership $2.5 million as an administrative expense
priority claim and $56 million as a general  unsecured  claim.  In May 1996, the
Partnership  received  from Pan Am a payment of $567,500  on the  administrative
expense priority claim. In November 1996, the Partnership received an additional
$9,000 payment on the administrative expense priority claim. The Partnership has
recorded these payments as other revenue in claims related to lessee defaults in
the 1996  statement of  operations.  It is unlikely  that the  Partnership  will
receive  additional  payments on the  administrative  expense priority claim. It
cannot be estimated at this time when and if the general unsecured claim will be
paid.


10.      Related Parties

Under the Limited Partnership Agreement (Partnership Agreement), the Partnership
paid or agreed to pay the  following  amounts to PIMC and/or its  affiliates  in
connection with services rendered:

a.       An aircraft  management  fee equal to 5% of gross rental  revenues with
         respect to operating leases or 2% of gross rental revenues with respect
         to full payout leases of the  Partnership,  payable upon receipt of the
         rent. In 1996, 1995 and 1994, the  Partnership  paid management fees to
         PIMC of $652,417, $763,774 and $604,551, respectively.  Management fees
         payable to PIMC at December 31, 1996 and 1995 were $0. .

b.       Reimbursement of certain out-of-pocket expenses incurred in  connection
         with the management of the  Partnership and supervision of its  assets.
         In 1996, 1995 and 1994, $316,061, $299,588 and $228,357,  respectively,
         were  reimbursed  by  the  Partnership   for  administrative  expenses.
         Administrative  reimbursements of  $65,594 and  $63,159 were payable at
         December  31,  1996   and   1995,  respectively.    Reimbursements  for
         maintenance  and  remarketing costs  of $153,699, $972,284 and $305,200
         were  paid by  the  Partnership  in  1996, 1995 and 1994, respectively.
         Maintenance and remarketing reimbursements  of $1,037  and $29,352 were
         payable at December 31, 1996 and 1995, respectively.

c.       A 10% interest to PIMC in all cash  distributions  and sales  proceeds,
         gross income in an amount equal to 9.09% of distributed  cash available
         from  operations  and 1% of net  income or loss and  taxable  income or
         loss, as such terms are defined in the Partnership Agreement.

d.       A subordinated  sales commission to PIMC of 3% of the gross sales price
         of  each  aircraft  for  services   performed  upon   disposition   and
         reimbursement  of  out-of-pocket   and  other   disposition   expenses.
         Subordinated sales commissions will be paid only after limited partners
         have  received  distributions  in an  aggregate  amount  equal to their
         capital  contributions  plus a cumulative  non-compounded  8% per annum
         return on their  adjusted  capital  contributions,  as  defined  in the
         Partnership  Agreement.  The  Partnership did not pay or accrue a sales
         commission  on any  aircraft  sales to date as the above  subordination
         threshold has not been met.

e.       One engine owned by Polaris  Aircraft Income Fund I (PAIF-I) was leased
         to Viscount  beginning in April 1993  through a joint  venture with the
         Partnership.  The rental  payments  of  $146,000  per year were  offset
         against rent from  operating  leases in the 1995 and 1994  statement of
         operations, respectively.


                                       42

<PAGE>

f.       One engine was leased from PHC from  September  1993 through April 1994
         for use on the aircraft  leased to NWT. The rental  payments of $38,400
         were offset against rent from operating leases in the 1994 statement of
         operations.


11.      Income Taxes

Federal and state  income tax  regulations  provide  that taxes on the income or
loss of the  Partnership  are  reportable  by the  partners in their  individual
income tax returns.  Accordingly,  no provision  for such taxes has been made in
the financial statements.

The net  differences  between  the tax basis  and the  reported  amounts  of the
Partnership's  assets  and  liabilities  at  December  31,  1996 and 1995 are as
follows:

                           Reported Amounts     Tax Basis     Net Difference
                           ----------------     ---------     --------------

1996:   Assets               $ 87,622,742     $ 98,431,900     $(10,809,158)
        Liabilities            15,407,033       14,654,469          752,564


1995:   Assets               $107,820,317     $103,582,640     $  4,237,677
        Liabilities             1,451,794          698,747          753,047



12.      Reconciliation of Net Book Income (Loss) to Taxable Net Income (Loss)
<TABLE>
The  following  is a  reconciliation  between  net  income  (loss)  per  limited
partnership  unit  reflected in the  financial  statements  and the  information
provided to limited partners for federal income tax purposes:
<CAPTION>
                                                             For the years ended December 31,
                                                             --------------------------------

                                                                1996       1995        1994
                                                                ----       ----        ----
<S>                                                          <C>         <C>         <C>
Book net income (loss) per limited partnership unit          $ (32.62)   $   9.94    $ (8.87)
Adjustments for tax purposes represent differences
   between book and tax revenue and expenses:
     Rental and maintenance reserve revenue recognition          0.03       (2.60)      5.18
     Management fee expense                                      0.03        0.14      (0.27)
     Depreciation                                               30.16       (0.78)     (2.76)
     Gain or loss on sale of aircraft                           (0.19)      (1.60)        -
     Capitalized costs                                             -         0.93       7.13
     Basis in inventory                                         (0.08)      (1.08)     (0.39)
     Other revenue and expense items                            (0.16)      (0.36)     (1.18)
                                                              --------    -------    -------

Taxable net income (loss) per limited partnership unit        $ (2.83)   $   4.59    $ (1.16)
                                                              ========    =======    =======
</TABLE>

The differences between net income and loss for book purposes and net income and
loss for tax purposes  result from the temporary  differences of certain revenue
and deductions.


                                       43

<PAGE>

For book purposes, rental revenue is generally recorded as it is earned. For tax
purposes, certain temporary differences exist in the recognition of revenue. For
tax  purposes,  management  fee  expense  is accrued in the same year as the tax
basis rental revenue.  Increases in the Partnership's  book maintenance  reserve
liability were recognized as rental revenue for tax purposes. Disbursements from
the Partnership's book maintenance  reserves are capitalized or expensed for tax
purposes, as appropriate.

The  Partnership  computes  depreciation  using  the  straight-line  method  for
financial  reporting  purposes  and  generally  an  accelerated  method  for tax
purposes.   The   Partnership   also   periodically   evaluates   the   ultimate
recoverability of the carrying values and the economic lives of its aircraft for
book purposes and,  accordingly,  recognized  adjustments  which  increased book
depreciation expense. As a result, the current year book depreciation expense is
greater than the tax  depreciation  expense.  These  differences in depreciation
methods result in book to tax differences on the sale of aircraft.  In addition,
certain costs were capitalized for tax purposes and expensed for book purposes.

For book  purposes,  aircraft  held in inventory  are  reflected at the lower of
depreciable cost or estimated net realizable value.  Differences in book and tax
revenue and loss from inventory  result from the differences in the book and tax
carrying value of the inventory.


13.      Subsequent Events

Sale of Boeing  737-200  Aircraft  - On January  30,  1997,  one Boeing  737-200
formerly on lease to Viscount, was sold to American Aircarriers Support, Inc. on
an "as-is, where-is" basis for $660,000 cash.

TWA Lease Extension - GECAS, on behalf of the  Partnership,  negotiated with TWA
for the acquisition of noise-suppression  devices, commonly known as "hushkits",
for 14 of the 18 Partnership  aircraft  currently on lease to TWA, as well as 18
other  aircraft  owned by  affiliates  of PIMC and leased to TWA, as  previously
discussed in Note 7.  Hushkits were  installed on 11 aircraft in November  1996.
The remaining three aircraft were fitted with hushkits during February 1997.

The  aggregate  cost  of the  hushkit  reconditioning  for  the 3  aircraft  was
$4,784,633 or approximately $1.6 million per aircraft,  which was capitalized by
the  Partnership  during 1997.  The  Partnership  paid $900,000 of the aggregate
hushkit cost and the balance of  $3,884,633  was financed by the  engine/hushkit
manufacturer  over a 6-year period at an interest rate of approximately  10% per
annum.

The rent  payable  by TWA  under  the  leases  has been  increased  by an amount
sufficient to cover the monthly debt service  payments on the hushkits and fully
repay, during the term of the TWA leases, the amount borrowed. The loan from the
engine/hushkit  manufacturer is non-recourse to the Partnership and secured by a
security interest in the lease receivables. The leases for these 3 aircraft were
extended for a period of eight years until February 2005.

Proposed  Sale of  Aircraft - The  Partnership  has  received,  and the  General
Partner (upon recommendation of its servicer) has determined that it would be in
the best  interests of the  Partnership  to accept an offer to purchase 7 of the
Partnership's  remaining  aircraft  (the  "Aircraft")  and  certain of its notes
receivables by a special  purpose  company (the  "Purchaser").  The Purchaser is
managed by Triton  Aviation  Services,  Ltd., a privately held aircraft  leasing
company (the  "Purchaser's  Manager") which was formed in 1996. Each Aircraft is
to be sold subject to the existing  leases,  and as part of the  transaction the
Purchaser assumes all obligations  relating to maintenance reserves and security
deposits,  if any,  relating  to such  leases.  At the same time  cash  balances
related  to  maintenance  reserves  and  security  deposits,  if  any,  will  be
transferred to the Purchaser.


The total  proposed  purchase  price  (the  "Purchase  Price") to be paid by the
Purchaser in the contemplated  transaction  would be $13,988,000  which would be
allocable to the Aircraft and to certain notes  receivable  by the  Partnership.
The Purchaser  proposes to pay  $1,575,888 of the Purchase  Price in cash at the

                                       44

<PAGE>

closing and the balance of $12,412,112 would be paid by delivery of a promissory
note ( the  "Promissory  Note") by the Purchaser.  The Promissory  Note would be
repaid in equal  quarterly  installments  over a period of seven  years  bearing
interest at a rate of 12% per annum with a balloon  principal payment at the end
of year seven.  The  Purchaser  would have the right to  voluntarily  prepay the
Promissory  Note in whole or in part at any time without  penalty.  In addition,
the Promissory Note would be subject to mandatory partial  prepayment in certain
specified instances.

Under the terms of the  contemplated  transaction,  the Aircraft,  including any
income or proceeds  therefrom and any reserves or deposits with respect thereto,
constitute the sole source of payments  under the  Promissory  Note. No security
interest  over the  Aircraft  or the  leases  would be  granted  in favor of the
Partnership,  but the equity  interests in the Purchaser would be pledged to the
Partnership.  The Purchaser would have the right to sell the Aircraft, or any of
them,  without the  consent of the  Partnership,  except that the  Partnership's
consent would be required in the event that the proposed sale price is less than
the portion of the outstanding balance of the Promissory Note which is allocable
to the Aircraft in question and the Purchaser does not have sufficient  funds to
make up the  difference.  The Purchaser would undertake to keep the Aircraft and
leases free of any lien,  security  interest or other encumbrance other than (i)
inchoate  materialmen's  liens  and the  like,  and (ii) in the  event  that the
Purchaser elects to install hushkits on any Aircraft, secured debt to the extent
of the  full  cost of such  hushkit.  The  Purchaser  will  be  prohibited  from
incurring  indebtedness  other than (i) the Promissory Note; (ii) deferred taxes
not yet due and payable;  (iii) indebtedness  incurred to hushkit Aircraft owned
by the Purchaser  and,  (iv) demand loans from another SPC (defined  below) at a
market rate of interest.

It is also  contemplated  that each of Polaris  Aircraft Income Fund II, Polaris
Aircraft  Income Fund IV, Polaris  Aircraft  Income Fund V and Polaris  Aircraft
Income Fund VI would sell certain  aircraft  assets to separate  special purpose
companies  under common  management with the Purchaser  (collectively,  together
with the  Purchaser,  the  "SPC's") on terms  similar to those set forth  above.
Under the  terms of the  contemplated  transaction,  Purchaser's  Manager  would
undertake to make  available a working  capital  line to the  Purchaser of up to
approximately  $1,222,000 to fund operating  obligations of the Purchaser.  This
working capital line is to be guaranteed by Triton Investments, Ltd., the parent
of the Purchaser's  Manager and such guarantor will provide the Partnership with
a copy of its most recent balance sheet showing a consolidated net worth (net of
minority  interests) of at least $150-million.  Furthermore,  each of the SPC's,
including  the  Purchaser,   is  to  enter  into  a  Management  Agreement  with
Purchaser's  Manager  pursuant to which  Purchaser's  Manager  would provide all
normal  and  customary  management  services  including  remarketing,  sales and
repossession,  if  necessary.  Provided  that the Purchaser is not in default in
making payments due under the Promissory Note to the Partnership,  the Purchaser
would be  permitted  to  dividend  to its equity  owners an amount not to exceed
approximately  $33,000  per  month.  The  Purchaser  may  distribute  additional
dividends  to the equity  owners to the extent of the working  capital  advances
made by the Purchaser's Manager provided that the working capital line available
to the Purchaser will be deemed increased to the extent of such dividends.

The Purchaser  would be deemed to have  purchased  the Aircraft  effective as of
April 1, 1997  notwithstanding the actual closing date. The Purchaser would have
the  right to  receive  all  income  and  proceeds,  including  rents  and notes
receivables,  from the Aircraft  accruing from and after April 1, 1997,  and the
Promissory Note would commence bearing interest as of April 1, 1997.

The Partnership has agreed to consult with Purchaser's Manager before taking any
significant  action  pertaining to the Aircraft  after the effective date of the
purchase  offer.  The  Purchaser  also has the  right  to make  all  significant
decisions  regarding  the  Aircraft  from and  after the date of  completion  of
definitive  documentation  legally  binding the Purchaser and the Partnership to
the  transaction,,  even  if a  delay  occurs  between  the  completion  of such
documentation and the closing of the title transfer to the Purchaser.


                                       45

<PAGE>

In the event the Partnership receives and elects to accept an offer for all (but
not less than  all) of the  assets  to be sold by it to the  Purchaser  on terms
which it deems  more  favorable,  the  Purchaser  has the right to (i) match the
offer,  or (ii) decline to match the offer and be entitled to compensation in an
amount equal to 1 1/2% of the Purchaser's proposed Purchase Price.

The Partnership adopted, effective January 1, 1996, SFAS No. 121 "Accounting for
the  Impairment of Long-Lived  Assets and for  Long-Lived  Assets to be Disposed
Of." That statement  requires that long-lived  assets be reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be  recoverable.  The purchase  offer  constitutes  a change in
circumstances  which,  pursuant to SFAS No. 121,  requires  the  Partnership  to
review the  Aircraft  for  impairment.  As  previously  discussed in Note 3, the
Partnership  has  determined  that an  impairment  loss must be  recognized.  In
determining  the amount of the impairment  loss, the  Partnership  estimated the
"fair value" of the Aircraft based on the proposed  Purchase Price  reflected in
the  contemplated  transaction  , less the  estimated  costs and expenses of the
proposed  sale.  The  Partnership  is deemed to have an  impairment  loss to the
extent that the carrying value exceeded the fair value.  Management believes the
assumptions  related to the fair value of  impaired  assets  represent  the best
estimates based on reasonable and supportable assumptions and projections.

It should be noted that there can be no  assurance  that the  contemplated  sale
transaction will be consummated. The contemplated transaction remains subject to
execution of definitive documentation and various other contingencies.

                                       46

<PAGE>

Item 9.       Changes in  and Disagreements  with Accountants  on Accounting and
              Financial Disclosure

None.

                                       47

<PAGE>

                                    PART III


Item 10.       Directors and Executive Officers of the Registrant

Polaris Aircraft Income Fund II, A California  Limited  Partnership  (PAIF-II or
the Partnership) has no directors or officers. Polaris Holding Company (PHC) and
its  subsidiaries,  including  Polaris Aircraft Leasing  Corporation  (PALC) and
Polaris  Investment  Management  Corporation  (PIMC), the general partner of the
Partnership (collectively Polaris), restructured their operations and businesses
(the Polaris Restructuring) in 1994. In connection therewith,  PIMC entered into
a services  agreement dated as of July 1, 1994 (the Services  Agreement) with GE
Capital Aviation Services,  Inc. (the Servicer or GECAS), a Delaware corporation
which is a wholly owned subsidiary of General Electric  Capital  Corporation,  a
New York  corporation  (GE  Capital).  GE Capital has been PHC's parent  company
since 1986. As subsidiaries of GE Capital, the Servicer and PIMC are affiliates.

The officers and directors of PIMC are:

               Name                           PIMC  Title
         ------------------           --------------------------------

         Eric M. Dull                 President; Director
         Marc A. Meiches              Vice President; Chief Financial Officer
         Richard J. Adams             Vice President; Director
         Norman C. T. Liu             Vice President; Director
         Edward Sun                   Vice President
         Richard L. Blume             Vice President;  Secretary
         Robert W. Dillon             Vice President; Assistant Secretary

Substantially all of these management personnel will devote only such portion of
their  time  to the  business  and  affairs  of  PIMC  as  deemed  necessary  or
appropriate.

Mr. Dull,  36,  assumed the position of President and Director of PIMC effective
January 1, 1997. Mr. Dull  previously was a Director of PIMC from March 31, 1995
to July 31,  1995.  Mr. Dull holds the position of  Executive  Vice  President -
Portfolio  Management of GECAS,  having  previously  held the position of Senior
Vice President - Underwriting Risk Management of GECAS.  Prior to joining GECAS,
Mr. Dull held various  positions  with  Transportation  and  Industrial  Funding
Corporation (TIFC).

Mr.  Meiches,  44,  assumed the position of Vice  President and Chief  Financial
Officer of PIMC  effective  October 9, 1995.  Mr.  Meiches  presently  holds the
positions of Executive  Vice  President  and Chief  Financial  Officer of GECAS.
Prior to joining GECAS,  Mr. Meiches has been with General Electric Company (GE)
and its  subsidiaries  since 1978.  Since 1992, Mr. Meiches held the position of
Vice President of the General Electric Capital Corporation Audit Staff.  Between
1987 and 1992,  Mr.  Meiches held Manager of Finance  positions  for GE Re-entry
Systems, GE Government Communications Systems and the GE Astro-Space Division.

Mr. Adams,  63,  assumed the position of Senior Vice  President - Aircraft Sales
and Leasing of PIMC and PALC effective August 1992,  having previously served as
Vice President - Aircraft Sales & Leasing - Vice President,  North America,  and
Vice  President - Corporate  Aircraft  since he joined PALC in August 1986.  Mr.
Adams  presently  holds  the  position  of  Senior  Vice  President  -  Aircraft
Marketing,  North America, of GECAS.  Effective July 1, 1994, Mr. Adams held the
positions of Vice President and Director of PIMC.

Mr. Liu, 39,  assumed the position of Vice  President of PIMC  effective  May 1,
1995 and has assumed the position of Director of PIMC  effective  July 31, 1995.

                                       48

<PAGE>

Mr. Liu presently holds the position of Executive Vice President - Marketing and
Structured  Finance of GECAS,  having  previously held the position of Executive
Vice  President - Capital  Funding and Portfolio  Management of GECAS.  Prior to
joining GECAS, Mr. Liu was with General  Electric  Capital  Corporation for nine
years. He has held management positions in corporate Business Development and in
Syndications  and  Leasing for TIFC.  Mr. Liu  previously  held the  position of
managing director of Kidder, Peabody & Co., Incorporated.

Mr. Sun, 47,  assumed the position of Vice  President of PIMC  effective  May 1,
1995. Mr. Sun presently holds the position of Senior Vice President - Structured
Finance of GECAS.  Prior to joining GECAS,  Mr. Sun held various  positions with
TIFC since 1990.

Mr. Blume,  55,  assumed the position of Secretary of PIMC effective May 1, 1995
and Vice President of PIMC effective  October 9, 1995. Mr. Blume presently holds
the position of Executive Vice President and General Counsel of GECAS.  Prior to
joining GECAS, Mr. Blume was counsel at GE Aircraft Engines since 1987.

Mr.  Dillon,  55,  assumed the position of Vice  President - Aviation  Legal and
Insurance  Affairs,  effective  April  1989.  Previously,  he served as  General
Counsel of PIMC and PALC  effective  January 1986.  Effective  July 1, 1994, Mr.
Dillon held the positions of Vice President and Assistant Secretary of PIMC. Mr.
Dillon  presently  holds the  position of Senior  Vice  President  and  Managing
Counsel of GECAS.


Certain Legal Proceedings:

On October 27, 1992, a class action  complaint  entitled  Weisl,  Jr. et al., v.
Polaris Holding  Company,  et al. was filed in the Supreme Court of the State of
New York for the County of New York.  The complaint sets forth various causes of
action which include  allegations  against  certain or all of the defendants (i)
for alleged fraud in connection with certain public offerings, including that of
the Partnership, on the basis of alleged misrepresentation and alleged omissions
contained in the written offering materials and all presentations allegedly made
to investors;  (ii) for alleged negligent  misrepresentation  in connection with
such offerings;  (iii) for alleged breach of fiduciary duties;  (iv) for alleged
breach of third party beneficiary  contracts;  (v) for alleged violations of the
NASD Rules of Fair Practice by certain  registered broker dealers;  and (vi) for
alleged  breach of  implied  covenants  in the  customer  agreements  by certain
registered  brokers.  The  complaint  seeks an award of  compensatory  and other
damages and remedies.  On January 19, 1993,  plaintiffs filed a motion for class
certification.  On March 1,  1993,  defendants  filed  motions  to  dismiss  the
complaint on numerous grounds,  including failure to state a cause of action and
statute of limitations.  On July 20, 1994, the court entered an order dismissing
almost all of the claims in the complaint and amended complaint. Certain claims,
however,  remain  pending.  Plaintiffs  filed a notice of appeal on September 2,
1994.  On April 25,  1996,  the  Appellate  Division  for the  First  Department
affirmed the trial court's order which had dismissed most of plaintiffs' claims.
The Partnership is not named as a defendant in this action.

On or around  February  17, 1993, a civil  action  entitled  Einhorn,  et al. v.
Polaris  Public Income Funds,  et al. was filed in the Circuit Court of the 11th
Judicial Circuit in and for Dade County,  Florida against, among others, Polaris
Investment  Management  Corporation and Polaris Depositary  Company.  Plaintiffs
seek class  action  certification  on behalf of a class of  investors in Polaris
Aircraft  Income Fund IV, Polaris  Aircraft  Income Fund V and Polaris  Aircraft
Income  Fund  VI who  purchased  their  interests  while  residing  in  Florida.
Plaintiffs  allege  the  violation  of Section  517.301,  Florida  Statutes,  in
connection  with the offering and sale of units in such Polaris  Aircraft Income
Funds. Among other things,  plaintiffs assert that the defendants sold interests
in such Polaris  Aircraft  Income Funds while  "omitting and failing to disclose
the material facts  questioning the economic  efficacy of" such Polaris Aircraft
Income Funds.  Plaintiffs seek  rescission or damages,  in addition to interest,
costs, and attorneys' fees. On April 5, 1993,  defendants filed a motion to stay
this action  pending  the final  determination  of a prior  filed  action in the
Supreme  Court  for the  State of New York  entitled  Weisl v.  Polaris  Holding

                                       49

<PAGE>

Company.  On that date,  defendants also filed a motion to dismiss the complaint
on the grounds of failure to attach necessary documents,  failure to plead fraud
with particularity and failure to plead reasonable reliance.  On April 13, 1993,
the court  denied the  defendants'  motion to stay.  On May 7,  1993,  the court
stayed  the  action  pending  an  appeal of the  denial  of the  motion to stay.
Defendants subsequently filed with the Third District Court of Appeal a petition
for writ of  certiorari  to review the lower court's order denying the motion to
stay. On October 19, 1993,  the Court of Appeal  granted the writ of certiorari,
quashed the order,  and remanded the action with  instruction to grant the stay.
The Partnership is not named as a defendant in this action.

On or around May 14, 1993, a purported class action entitled  Moross,  et al. v.
Polaris  Holding  Company,  et al. was filed in the United States District Court
for the District of Arizona.  This purported class action was filed on behalf of
investors  in Polaris  Aircraft  Income  Funds I - VI by nine  investors in such
Polaris  Aircraft Income Funds. The complaint  alleges that defendants  violated
Arizona state securities statues and committed negligent  misrepresentation  and
breach of fiduciary  duty by  misrepresenting  and failing to disclose  material
facts  in  connection  with  the  sale  of  limited  partnership  units  in  the
above-named funds. An amended complaint was filed on September 17, 1993, but has
not been served upon defendants.  On or around October 4, 1993, defendants filed
a notice of removal to the United  States  District  Court for the  District  of
Arizona.  Defendants  also filed a motion to stay the action  pending  the final
determination  of a prior filed action in the Supreme Court for the State of New
York entitled Weisl v. Polaris Holding Company ("Weisl") and to defendants' time
to respond to the  complaint  until 20 days after  disposition  of the motion to
action pending resolution of the motions for class  certification and motions to
dismiss  pending in Weisl.  On January 20, 1994, the court stayed the action and
required  defendants  to file status  reports every sixty days setting forth the
status of the motions in Weisl.  On April 18, 1995,  this action was transferred
to the Multi-District  Litigation  described below. The Partnership is not named
as a defendant in this action.

On September 21, 1993, a purported  derivative action entitled Novak, et al., v.
Polaris Holding Company,  et al., was filed in the Supreme Court of the State of
New  York,  County  of New  York.  This  action  was  brought  on  behalf of the
Partnership,  Polaris  Aircraft  Income Fund I and Polaris  Aircraft Income Fund
III. The complaint names as defendants  Polaris Holding Company,  its affiliates
and others. Each of the Partnership,  Polaris Aircraft Income Fund I and Polaris
Aircraft Income Fund III is named as a nominal defendant. The complaint alleges,
among other things,  that  defendants  mismanaged the  Partnership and the other
Polaris Aircraft Income Funds,  engaged in self-dealing  transactions  that were
detrimental to the Partnership  and the other Polaris  Aircraft Income Funds and
failed to make required  disclosure in connection  with the sale of the units in
the  Partnership  and the other Polaris  Aircraft  Income  Funds.  The complaint
alleges  claims of breach of fiduciary  duty and  constructive  fraud and seeks,
among  other  things  an  award  of  compensatory  and  punitive  damages  in an
unspecified  amount,  re-judgment  interest,  and attorneys'  fees and costs. On
January 13, 1994, certain of the defendants,  including Polaris Holding Company,
filed motions to dismiss the complaint on the grounds of, among others,  failure
to state a cause of action and failure to plead the alleged wrong in detail.  On
August  11,  1994,  the court  denied in part and  granted  in part  defendants'
motions to dismiss.  Specifically, the court denied the motions as to the claims
for breach of fiduciary duty, but dismissed  plaintiffs'  claim for constructive
fraud with leave to replead.  On October 7, 1994,  defendants  filed a notice of
appeal.  On November 15, 1994,  defendants  submitted an answer to the remaining
causes of action.  On July 7, 1995,  defendants filed briefs in support of their
appeal  from that  portion  of the trial  court's  order  denying  the motion to
dismiss. On March 14, 1996, the appellate court reversed the trial court's order
denying the motion to dismiss, and dismissed the complaint.

On June 8, 1994, a consolidated  complaint captioned In re Prudential Securities
Inc.  Limited  Partnerships  Litigation was filed in the United States  District
Court for the Southern  District of New York,  purportedly  consolidating  cases
that had been  transferred  from other federal  courts by the Judicial  Panel on
Multi-  District  Litigation.  The  consolidated  complaint  names as defendants
Prudential  entities and various other sponsors of limited  partnerships sold by
Prudential,  including  Polaris  Holding  Company,  one of its former  officers,
Polaris Aircraft Leasing Corporation,  Polaris Investment Management Corporation

                                       50

<PAGE>

and Polaris  Securities  Corporation.  The complaint alleges that the Prudential
defendants created a scheme for the sale of approximately  $8-billion of limited
partnership   interests  in  700  assertedly  high-risk  limited   partnerships,
including the Partnership,  to approximately 350,000 investors by means of false
and misleading offering materials;  that the sponsoring organizations (including
the Polaris entities)  participated with the Prudential  defendants with respect
to, among other things,  the partnerships  that each sponsored;  and that all of
the defendants conspired to engage in a nationwide pattern of fraudulent conduct
in the marketing of all limited  partnerships sold by Prudential.  The complaint
alleges violations of the federal Racketeer Influenced and Corrupt Organizations
Act and the New Jersey counterpart thereof, fraud, negligent  misrepresentation,
breach of fiduciary duty and breach of contract. The complaint seeks rescission,
unspecified  compensatory  damages,  treble  damages,  disgorgement  of  profits
derived from the alleged acts,  costs and  attorneys  fees. On October 31, 1994,
Polaris  Investment  Management  Corporation and other Polaris  entities filed a
motion to dismiss the  consolidated  complaint  on the  grounds of,  inter alia,
statute of  limitations  and failure to state a claim.  The  Partnership  is not
named as a defendant in this action.  Prudential Securities,  Inc., on behalf of
itself  and its  affiliates  has made an Offer of  Settlement.  A class has been
certified for purposes of the Prudential  Settlement and notice to the class has
been sent. Any questions  concerning  Prudential's Offer of Settlement should be
directed to 1-800-327-3664, or write to the Claims Administrator at:

         Prudential Securities Limited Partnerships
         Litigation Claims Administrator
         P.O. Box 9388
         Garden City, New York 11530-9388


On June 5, 1996,  the Court  certified  a class with  respect to claims  against
Polaris Holding Company,  one of its former  officers,  Polaris Aircraft Leasing
Corporation,  Polaris Investment Management Corporation,  and Polaris Securities
Corporation. The class is comprised of all investors who purchased securities in
any of Polaris Aircraft Income Funds I through VI during the period from January
1985 until  January 29, 1991,  regardless of which  brokerage  firm the investor
purchased  from.  Excepted from the class are those investors who settled in the
SEC/Prudential  settlement or otherwise  opted for  arbitration  pursuant to the
settlement and any investor who has previously  released the Polaris  defendants
through any other  settlement.  On June 10,  1996,  the Court  issued an opinion
denying summary judgment to Polaris on  plaintiffs' Section 1964(c) and (d) RICO
claims and state causes of action,  and granting  summary judgment to Polaris on
plaintiffs'  1964(a) RICO claims and the New Jersey State RICO claims. On August
5, 1996, the Court signed an order providing for notice to be given to the class
members.  The  trial,  which  was  scheduled  for  November  11,  1996,  has not
proceeded, and no new trial date has been set.

A further  litigation  captioned  Romano v. Ball et. al, an action by Prudential
Insurance Company  policyholders  against many of the same defendants (including
Polaris   Investment   Management   Corporation  and  Polaris  Aircraft  Leasing
Corporation),  has also been  commenced  by  policy  holders  of the  Prudential
Insurance  Company as a purported  derivative action on behalf of the Prudential
Insurance  Company.  The complaint  alleges  claims under the federal  Racketeer
Influenced  and  Corrupt  Organizations  Act,  as  well  as  claims  for  waste,
mismanagement  and  intentional  and  negligent  misrepresentation,   and  seeks
unspecified compensatory, treble and punitive damages. The case, which was being
coordinated  with In re  Prudential,  has been settled and the action  dismissed
pursuant to a court order dated December 18, 1996.

On or about February 13, 1995, an action  entitled  Adams,  et al. v. Prudential
Securities,  Inc. et al. was filed in the Court of Common  Pleas,  Stark County,
Ohio. The action names Prudential Securities, Inc., Prudential Insurance Company
of  America,  Polaris  Investment  Management  Corporation,  Polaris  Securities
Corporation,  Polaris  Aircraft  Leasing  Corporation,  Polaris Holding Company,
General  Electric Capital  Corporation,  Polaris Aircraft Income Fund I, Polaris
Aircraft  Income  Fund IV,  Polaris  Aircraft  Income  Fund V and James  Darr as
defendants.  The complaint  alleges that defendants  committed common law fraud,
fraud in the  inducement,  negligent  misrepresentation,  negligence,  breach of

                                       51

<PAGE>

fiduciary duty and civil conspiracy by  misrepresenting  and failing to disclose
material  facts in  connection  with the sale of  limited  partnership  units in
Polaris  Aircraft  Income Fund I, Polaris  Aircraft  Income Fund IV, and Polaris
Aircraft Income Fund V. Plaintiffs seek, among other things, rescission of their
investments  in the Polaris  Aircraft  Income  Funds,  an award of  compensatory
damages in an unspecified amount plus interest thereon,  and punitive damages in
an unspecified  amount.  On or about March 15, 1995,  this action was removed to
the United  States  District  Court for the Northern  District of Ohio,  Eastern
Division.  Subsequently,  the  Judicial  Panel  transferred  this  action to the
Multi-District  Litigation  filed in the United  States  District  Court for the
Southern District of New York,  discussed above. The Partnership is not named as
a defendant in this action.

On or about January 12, 1995, a class action complaint entitled Cohen, et al. v.
Kidder  Peabody & Company,  Inc.,  et al. was filed in the Circuit  Court of the
Fifteenth Judicial Circuit in and for Palm Beach County,  Florida,  and on March
31,  1995 the case was  removed  to the  United  States  District  Court for the
Southern  District of Florida.  An amended class action  complaint (the "amended
complaint"),  which  renamed this action  Bashein,  et al. v. Kidder,  Peabody &
Company Inc., et al., was filed on June 13, 1995.  The amended  complaint  names
Kidder Peabody & Company,  Inc., General Electric Capital  Corporation,  General
Electric Financial  Services,  Inc., and General Electric Company as defendants.
The action purports to be on behalf of "approximately  20,000 persons throughout
the United  States" who  purchased  units in Polaris  Aircraft  Income Funds III
through  VI.  The  amended   complaint  sets  forth  various  causes  of  action
purportedly  arising in connection with the public offerings of Polaris Aircraft
Income Fund III,  Polaris  Aircraft Income Fund IV, Polaris Aircraft Income Fund
V, and Polaris Aircraft Income Fund VI.  Specifically,  plaintiffs assert claims
for violation of Sections  12(2) and 15 of the  Securities  Act of 1933,  fraud,
negligent  misrepresentation,  breach of fiduciary  duty,  breach of third party
beneficiary  contract,  violation  of NASD  Rules of Fair  Practice,  breach  of
implied covenant, and breach of contract.  Plaintiffs seek compensatory damages,
interest,  punitive  damages,  costs and  attorneys'  fees, as well as any other
relief the court deems just and proper.  Defendants moved to dismiss the amended
complaint on June 26, 1995. On October 2, 1995, the court denied the defendants'
motion to dismiss.  While the motion to dismiss was pending,  plaintiffs filed a
motion  for  leave to file a second  amended  complaint,  which was  granted  on
October  3, 1995.  Defendants  thereafter  filed a motion to dismiss  the second
amended  complaint,  and  defendants'  motion  was denied by Court  Order  dated
December 26, 1995.  On February 12,  1996,  defendants  answered.  This case was
reassigned  (from Hurley,  J. To Lenard,  J.) on February 18, 1996, and on March
18,  1996,  plaintiffs  moved  for  class  certification.  On the  eve of  class
discovery,  April 26, 1996, plaintiffs moved for a voluntary dismissal of Counts
I and II (claims  brought  pursuant to the Securities Act of 1933) of the Second
Amended  Complaint  and  simultaneously  filed a motion to remand this action to
state court for lack of federal  jurisdiction.  Plaintiff's motion for voluntary
dismissal  of the  federal  securities  law claims  and  motion for remand  were
granted on July 10, 1996.  The  Partnership  is not named as a defendant in this
action.

On or around April 13, 1995, a class action complaint entitled B & L Industries,
Inc., et al. v. Polaris Holding  Company,  et al. was filed in the Supreme Court
of the State of New York.  The  complaint  names as defendants  Polaris  Holding
Company,  Polaris Aircraft Leasing  Corporation,  Polaris Investment  Management
Corporation,   Polaris  Securities  Corporation,  Peter  G.  Pfendler,  Marc  P.
Desautels,  General Electric  Capital  Corporation,  General Electric  Financial
Services, Inc., General Electric Company, Prudential Securities Inc., and Kidder
Peabody & Company  Incorporated.  The  complaint  sets forth  various  causes of
action  purportedly  arising  out of the public  offerings  of Polaris  Aircraft
Income Fund III and Polaris Aircraft Income Fund IV. Plaintiffs allege claims of
fraud, negligent misrepresentation, breach of fiduciary duty, knowingly inducing
or participating in breach of fiduciary duty,  breach of third party beneficiary
contract,  violation of NASD Rules of Fair Practice, breach of implied covenant,
and unjust enrichment.  Plaintiffs seek compensatory damages, interest, general,
consequential   and  incidental   damages,   exemplary  and  punitive   damages,
disgorgement,  rescission,  costs,  attorneys'  fees,  accountants' and experts'
fees,  and other legal and equitable  relief as the court deems just and proper.
On October 2, 1995,  defendants  moved to dismiss the  complaint.  On August 16,

                                       52

<PAGE>

1996,  defendants filed a motion to dismiss plaintiffs'  amended complaint.  The
motion  is  returnable  on July 17,  1997.  The  Partnership  is not  named as a
defendant in this action.

On or around  September  27, 1995, a complaint  entitled  Martha J.  Harrison v.
General Electric  Company,  et al. was filed in the Civil District Court for the
Parish of Orleans, State of Louisiana. The complaint names as defendants General
Electric  Company and  Prudential  Securities  Incorporated.  Plaintiff  alleges
claims of tort, breach of fiduciary duty in tort,  contract and  quasi-contract,
violation  of  sections  of the  Louisiana  Blue  Sky Law and  violation  of the
Louisiana  Civil Code  concerning the inducement and  solicitation  of purchases
arising out of the public offering of Polaris Aircraft Income Fund IV. Plaintiff
seeks compensatory damages, attorney's fees, interest, costs and general relief.
The Partnership is not named as a defendant in this action.

On or around December 8, 1995, a complaint  entitled  Overby,  et al. v. General
Electric Company, et al. was filed in the Civil District Court for the Parish of
Orleans, State of Louisiana.  The complaint names as defendants General Electric
Company and General Electric  Capital  Corporation.  Plaintiffs  allege claim of
tort, breach of fiduciary duty, in tort, contract and quasi-contract,  violation
of sections of the Louisiana  Blue Sky Law and violation of the Louisiana  Civil
Code in connection with the public offering of Polaris Aircraft Income Funds III
and IV. Plaintiffs seek compensatory damages,  attorneys' fees, interest,  costs
and general relief. The Partnership is not named as a defendant in this action.

In or around  November  1994,  a  complaint  entitled  Lucy R.  Neeb,  et al. v.
Prudential Securities  Incorporated et al. was filed in the Civil District Court
for the Parish of Orleans, State of Louisiana. The complaint named as defendants
Prudential  Securities,  Incorporated  and Stephen Derby  Gisclair.  On or about
December 20, 1995,  plaintiffs filed a First  Supplemental and Amending Petition
adding as additional  defendants  General  Electric  Company,  General  Electric
Capital  Corporation and Smith Barney,  Inc.  Plaintiffs  allege claims of tort,
breach of fiduciary  duty, in tort,  contract and  quasi-contract,  violation of
sections of the Louisiana Blue Sky Law and violation of the Louisiana Civil Code
in connection with the public offering of Polaris  Aircraft Income Funds III and
IV. Plaintiffs seek compensatory damages,  attorneys' fees, interest,  costs and
general relief. The Partnership is not named as a defendant in this action.

In or about  January of 1995,  a complaint  entitled  Albert B.  Murphy,  Jr. v.
Prudential Securities, Incorporated et al. was filed in the Civil District Court
for the Parish of Orleans, State of Louisiana. The complaint named as defendants
Prudential  Securities  Incorporated  and Stephen  Derby  Gisclair.  On or about
January 18, 1996,  plaintiff filed a First  Supplemental  and Amending  Petition
adding  defendants   General  Electric  Company  and  General  Electric  Capital
Corporation. Plaintiff alleges claims of tort, breach of fiduciary duty in tort,
contract and quasi-contract, violation of sections of the Louisiana Blue Sky Law
and violation of the Louisiana Civil Code in connection with the public offering
of  Polaris  Aircraft  Income  Funds III and IV.  Plaintiffs  seek  compensatory
damages, attorneys' fees, interest, costs and general relief. The Partnership is
not named as a defendant in this action.

On or about January 22, 1996, a complaint entitled Mrs. Rita Chambers, et al. v.
General  Electric  Co.,  et al.  was filed in the Civil  District  Court for the
Parish of Orleans, State of Louisiana. The complaint names as defendants General
Electric  Company and General Electric Capital  Corporation.  Plaintiffs  allege
claims of tort, breach of fiduciary duty in tort,  contract and  quasi-contract,
violation  of  sections  of the  Louisiana  Blue  Sky Law and  violation  of the
Louisiana Civil Code in connection with the public offering of Polaris  Aircraft
Income Fund IV. Plaintiffs seek compensatory damages, attorneys' fees, interest,
costs and general  relief.  The  Partnership is not named as a defendant in this
action.

In or  around  December  1994,  a  complaint  entitled  John J.  Jones,  Jr.  v.
Prudential Securities  Incorporated et al. was filed in the Civil District Court
for the Parish of Orleans, State of Louisiana. The complaint named as defendants
Prudential  Securities,  Incorporated  and Stephen Derby  Gisclair.  On or about
March 29, 1996,  plaintiffs  filed a First  Supplemental  and Amending  Petition

                                       53

<PAGE>

adding as additional  defendants  General  Electric Company and General Electric
Capital Corporation.  Plaintiff alleges claims of tort, breach of fiduciary duty
in tort,  contract and  quasi-contract,  violation of sections of the  Louisiana
Blue Sky Law and violation of the Louisiana Civil Code concerning the inducement
and  solicitation  of  purchases  arising out of the public  offering of Polaris
Aircraft Income Fund III. Plaintiff seeks compensatory damages, attorneys' fees,
interest,  costs and general relief. The Partnership is not named as a defendant
in this action.

On or around  February  16,  1996, a complaint  entitled  Henry Arwe,  et al. v.
General Electric  Company,  et al. was filed in the Civil District Court for the
Parish of Orleans, State of Louisiana. The complaint named as defendants General
Electric  Company and General Electric Capital  Corporation.  Plaintiffs  allege
claims of tort, breach of fiduciary duty in tort,  contract and  quasi-contract,
violation  of  sections  of the  Louisiana  Blue  Sky Law and  violation  of the
Louisiana  Civil Code  concerning the inducement and  solicitation  of purchases
arising out of the public offering of Polaris  Aircraft Income Funds III and IV.
Plaintiffs seek  compensatory  damages,  attorneys'  fees,  interest,  costs and
general relief. The Partnership is not named as a defendant in this action.

On or about April 9, 1996, a summons and First Amended  Complaint  entitled Sara
J.  Bishop,  et al. v. Kidder  Peabody & Co.,  et al. was filed in the  Superior
Court of the State of  California,  County of  Sacramento,  by over one  hundred
individual  plaintiffs  who  purchased  limited  partnership  units  in  Polaris
Aircraft Income Funds III, IV, V and VI and other limited  partnerships  sold by
Kidder  Peabody.  The complaint  names Kidder,  Peabody & Co.  Incorporated,  KP
Realty  Advisors,  Inc.,  Polaris  Holding  Company,  Polaris  Aircraft  Leasing
Corporation,  Polaris  Investment  Management  Corporation,  Polaris  Securities
Corporation,  Polaris Jet  Leasing,  Inc.,  Polaris  Technical  Services,  Inc.,
General Electric Company,  General Electric  Financial  Services,  Inc., General
Electric Capital Corporation, General Electric Credit Corporation and DOES 1-100
as defendants.  The complaint alleges  violations of state common law, including
fraud, negligent misrepresentation,  breach of fiduciary duty, and violations of
the rules of the National Association of Securities Dealers. The complaint seeks
to recover  compensatory  damages and punitive damages in an unspecified amount,
interest,  and  rescission  with  respect to the Polaris  Aircraft  Income Funds
III-VI and all other  limited  partnerships  alleged to have been sold by Kidder
Peabody  to the  plaintiffs.  On June 18,  1996,  defendants  filed a motion  to
transfer venue from Sacramento to San Francisco County.  The Court  subsequently
denied the motion.  The  Partnership is not named as a defendant in this action.
Defendants filed an answer in the action on August 30, 1996.

On  October 1, 1996,  a  complaint  entitled  Wilson et al. v.  Polaris  Holding
Company et al. was filed in the Superior  Court of the State of  California  for
the County of Sacramento by over 500 individual plaintiffs who purchased limited
partnership  units in one or more of Polaris Aircraft Income Funds I through VI.
The  complaint  names  Polaris  Holding   Company,   Polaris   Aircraft  Leasing
Corporation,  Polaris  Investment  Management  Corporation,  Polaris  Securities
Corporation,  Polaris Jet  Leasing,  Inc.,  Polaris  Technical  Services,  Inc.,
General  Electric  Company,  General Electric Capital  Services,  Inc.,  General
Electric Capital Corporation,  GE Capital Aviation Services, Inc. and DOES 1-100
as defendants.  The Partnership has not been named as a defendant. The complaint
alleges   violations   of  state   common  law,   including   fraud,   negligent
misrepresentation, negligence, breach of contract, and breach of fiduciary duty.
The complaint seeks to recover  compensatory  damages and punitive damages in an
unspecified amount, interest and rescission with respect to the Polaris Aircraft
Income Funds sold to plaintiffs. Defendants have filed an answer.

On or about May 7, 1996, a petition  entitled  Charles  Rich,  et al. v. General
Electric Company and General Electric Capital Corporation was filed in the Civil
District  Court for the Parish of Orleans,  State of  Louisiana.  The  complaint
names as  defendants  General  Electric  Company  and General  Electric  Capital
Corporation.  Plaintiffs  allege claims of tort  concerning  the  inducement and
solicitation of purchases arising out of the public offering of Polaris Aircraft
Income Funds III and IV. Plaintiffs seek compensatory damages,  attorneys' fees,
interest,  costs and general relief. The Partnership is not named as a defendant
in this action.

                                       54

<PAGE>

On or about March 4, 1996,  a petition  entitled  Richard J.  McGiven v. General
Electric Company and General Electric Capital Corporation was filed in the Civil
District  Court for the Parish of Orleans,  State of  Louisiana.  The  complaint
names as  defendants  General  Electric  Company  and General  Electric  Capital
Corporation.  Plaintiff  alleges  claims of tort  concerning  the inducement and
solicitation of purchases arising out of the public offering of Polaris Aircraft
Income Fund V. Plaintiff seeks compensatory damages,  attorneys' fees, interest,
costs and general  relief.  The  Partnership is not named as a defendant in this
action.

On or about March 4, 1996, a petition  entitled Alex M. Wade v. General Electric
Company and General Electric Capital Corporation was filed in the Civil District
Court for the Parish of Orleans,  State of  Louisiana.  The  complaint  names as
defendants  General Electric  Company and General Electric Capital  Corporation.
Plaintiff  alleges claims of tort concerning the inducement and  solicitation of
purchases  arising out of the public offering of Polaris Aircraft Income Fund V.
Plaintiff seeks  compensatory  damages,  attorneys'  fees,  interest,  costs and
general relief. The Partnership is not named as a defendant in this action.

On or about October 15, 1996, a complaint entitled Joyce H. McDevitt,  et al. v.
Polaris Holding Company,  et al. was filed in the Superior Court of the State of
California, County of Sacramento, by individual plaintiffs who purchased limited
partnership  units in Polaris  Aircraft  Income Funds I-VI. The complaint  names
Polaris  Holding  Company,   Polaris  Aircraft  Leasing   Corporation,   Polaris
Investment Management Corporation,  Polaris Securities Corporation,  Polaris Jet
Leasing,  Inc.,  Polaris  Technical  Services,  Inc.,  General Electric Company,
General Electric Financial Services, Inc., General Electric Capital Corporation,
General Electric Credit Corporation and DOES 1-100 as defendants.  The complaint
alleges   violations   of  state   common  law,   including   fraud,   negligent
misrepresentation,  breach of fiduciary duty, and violations of the rules of the
National  Association  of Securities  Dealers.  The  complaint  seeks to recover
compensatory  damages and punitive damages in an unspecified  amount,  interest,
and  recission  with  respect  to  Polaris   Aircraft  Income  Funds  I-VI.  The
Partnership is not named as a defendant in this action.

On or about October 16, 1996, a complaint  entitled  Mary Grant  Tarrer,  et al.
v.Kidder  Peabody & Co.,et al. was filed in the  Superior  Court of the State of
California, County of Sacramento, by individual plaintiffs who purchased limited
partnership  units in  Polaris  Aircraft  Income  Funds  I-VI and other  limited
partnerships  allegedly  sold by Kidder  Peabody.  The  complaint  names Kidder,
Peabody & Co. Incorporated,  KP Realty Advisors,  Inc., Polaris Holding Company,
Polaris Aircraft Leasing Corporation, Polaris Investment Management Corporation,
Polaris  Securities  Corporation,  Polaris Jet Leasing,  Inc., Polaris Technical
Services,  Inc., General Electric Company,  General Electric Financial Services,
Inc., General Electric Capital Corporation,  General Electric Credit Corporation
and DOES 1-100 as defendants.  The complaint alleges  violations of state common
law, including fraud, negligent misrepresentation, breach of fiduciary duty, and
violations of the rules of the National  Association of Securities Dealers.  The
complaint  seeks to recover  compensatory  damages  and  punitive  damages in an
unspecified  amount,  interest,  and recission with respect to Polaris  Aircraft
Income Funds I-VI and all other limited  partnerships  alleged to have been sold
by Kidder Peabody to the plaintiffs. The Partnership is not named as a defendant
in this action.

On or about November 6, 1996, a complaint  entitled Janet K. Johnson,  et al. v.
Polaris Holding Company,  et al. was filed in the Superior Court of the State of
California, County of Sacramento, by individual plaintiffs who purchased limited
partnership  units in Polaris  Aircraft  Income  FundsI-VI.  The complaint names
Polaris  Holding  Company,   Polaris  Aircraft  Leasing   Corporation,   Polaris
Investment Management Corporation,  Polaris Securities Corporation,  Polaris Jet
Leasing,  Inc.,  Polaris  Technical  Services,  Inc.,  General Electric Company,
General Electric Financial Services, Inc., General Electric Capital Corporation,
General Electric Credit Corporation and DOES 1-100 as defendants.  The complaint
alleges   violations   of  state   common  law,   including   fraud,   negligent
misrepresentation,  breach of fiduciary duty, and violations of the rules of the
National  Association  of Securities  Dealers.  The  complaint  seeks to recover
compensatory  damages and punitive damages in an unspecified  amount,  interest,
and  recission  with  respect  to  Polaris   Aircraft  Income  Funds  I-VI.  The
Partnership is not named as a defendant in this action.

                                       55

<PAGE>

On or about November 13, 1996, a complaint  entitled  Wayne W. Kuntz,  et al. v.
Polaris Holding Company,  et al. was filed in the Superior Court of the State of
California, County of Sacramento, by individual plaintiffs who purchased limited
partnership  units in Polaris  Aircraft  Income Funds I-VI. The complaint  names
Polaris  Holding  Company,   Polaris  Aircraft  Leasing   Corporation,   Polaris
Investment Management Corporation,  Polaris Securities Corporation,  Polaris Jet
Leasing,  Inc.,  Polaris  Technical  Services,  Inc.,  General Electric Company,
General Electric Financial Services, Inc., General Electric Capital Corporation,
General Electric Credit Corporation and DOES 1-100 as defendants.  The complaint
alleges   violations   of  state   common  law,   including   fraud,   negligent
misrepresentation,  breach of fiduciary duty, and violations of the rules of the
National  Association  of Securities  Dealers.  The  complaint  seeks to recover
compensatory  damages and punitive damages in an unspecified  amount,  interest,
and  recission  with  respect  to  Polaris   Aircraft  Income  Funds  I-VI.  The
Partnership is not named as a defendant in this action.

On or about November 26, 1996, a complaint  entitled  Thelma  Abrams,  et al. v.
Polaris Holding Company,  et al. was filed in the Superior Court of the State of
California, County of Sacramento, by individual plaintiffs who purchased limited
partnership  units in Polaris  Aircraft  Income Funds I-VI. The complaint  names
Polaris  Holding  Company,   Polaris  Aircraft  Leasing   Corporation,   Polaris
Investment Management Corporation,  Polaris Securities Corporation,  Polaris Jet
Leasing,  Inc.,  Polaris  Technical  Services,  Inc.,  General Electric Company,
General Electric Financial Services, Inc., General Electric Capital Corporation,
General Electric Credit Corporation and DOES 1-100 as defendants.  The complaint
alleges   violations   of  state   common  law,   including   fraud,   negligent
misrepresentation,  breach of fiduciary duty, and violations of the rules of the
National  Association  of Securities  Dealers.  The  complaint  seeks to recover
compensatory  damages and punitive damages in an unspecified  amount,  interest,
and  recission  with  respect  to  Polaris   Aircraft  Income  Funds  I-VI.  The
Partnership is not named as a defendant in this action.

On or about  January 16, 1997, a complaint  entitled  Enita  Elphick,  et al. v.
Kidder  Peabody & Co.,et  al.  was filed in the  Superior  Court of the State of
California, County of Sacramento, by individual plaintiffs who purchased limited
partnership  units in  Polaris  Aircraft  Income  Funds  I-VI and other  limited
partnerships  allegedly  sold by Kidder  Peabody.  The  complaint  names Kidder,
Peabody & Co. Incorporated,  KP Realty Advisors,  Inc., Polaris Holding Company,
Polaris Aircraft Leasing Corporation, Polaris Investment Management Corporation,
Polaris  Securities  Corporation,  Polaris Jet Leasing,  Inc., Polaris Technical
Services,  Inc., General Electric Company,  General Electric Financial Services,
Inc., General Electric Capital Corporation,  General Electric Credit Corporation
and DOES 1-100 as defendants.  The complaint alleges  violations of state common
law, including fraud, negligent misrepresentation, breach of fiduciary duty, and
violations of the rules of the National  Association of Securities Dealers.  The
complaint  seeks to recover  compensatory  damages  and  punitive  damages in an
unspecified  amount,  interest,  and recission with respect to Polaris  Aircraft
Income Funds I-VI and all other limited  partnerships  alleged to have been sold
by Kidder Peabody to the plaintiffs. The Partnership is not named as a defendant
in this action.

On or about  February 14, 1997, a complaint  entitled  George  Zicos,  et al. v.
Polaris Holding Company,  et al. was filed in the Superior Court of the State of
California, County of Sacramento, by individual plaintiffs who purchased limited
partnership  units in Polaris  Aircraft  Income Funds I-VI. The complaint  names
Polaris  Holding  Company,   Polaris  Aircraft  Leasing   Corporation,   Polaris
Investment Management Corporation,  Polaris Securities Corporation,  Polaris Jet
Leasing,  Inc.,  Polaris  Technical  Services,  Inc.,  General Electric Company,
General Electric Financial Services, Inc., General Electric Capital Corporation,
General Electric Credit Corporation and DOES 1-100 as defendants.  The complaint
alleges   violations   of  state   common  law,   including   fraud,   negligent
misrepresentation,  breach of fiduciary duty, and violations of the rules of the
National  Association  of Securities  Dealers.  The  complaint  seeks to recover
compensatory  damages and punitive damages in an unspecified  amount,  interest,
and  recission  with  respect  to  Polaris   Aircraft  Income  Funds  I-VI.  The
Partnership is not named as a defendant in this action.

Other  Proceedings - Part I, Item 3 discusses  certain other actions arising out
of certain public  offerings,  including that of the Partnership,  to which both
the Partnership and its general partner are parties.

                                       56

<PAGE>

Disclosure pursuant to Section 16, Item 405 of Regulation S-K:

Based  solely on its  review of the  copies of such  forms  received  or written
representations  from  certain  reporting  persons that no Forms 3, 4, or 5 were
required for those  persons,  the  Partnership  believes  that,  during 1995 all
filing requirements  applicable to its officers,  directors and greater than ten
percent beneficial owners were met.


Item 11.          Executive Compensation

PAIF-II has no directors or  officers.  PAIF-II is managed by PIMC,  the General
Partner.  In  connection  with  management  services  provided,  management  and
advisory  fees of  $652,417  were  paid to  PIMC  in 1996 in  addition  to a 10%
interest in all cash  distributions  as  described  in Note 10 to the  financial
statements (Item 8).


Item 12.          Security Ownership of Certain Beneficial Owners and Management

     a)  No person owns of record,  or is known by PAIF-II to own  beneficially,
         more than five percent of any class of voting securities of PAIF-II.

     b)  The General Partner of PAIF-II owns the equity securities of PAIF-II as
         set forth in the following table:

           Title         Name of         Amount and Nature of          Percent
         of Class   Beneficial Owner     Beneficial Ownership          of Class
         --------   ----------------     --------------------          --------

         General    Polaris Investment   Represents a 10.0% interest      100%
         Partner    Management           distributions, gross income
         Interest   Corporation          in an amount equal to 9.09%
                                         of distributed cash available
                                         from operations, and a 1%
                                         interest in net income or loss

     c)  There are no arrangements known to PAIF-II, including any pledge by any
         person  of  securities  of  PAIF-II,  the  operation  of which may at a
         subsequent date result in a change in control of PAIF-II.



Item 13.       Certain Relationships and Related Transactions

None.

                                       57

<PAGE>

                                     PART IV


Item 14.       Exhibits, Financial Statement Schedules and Reports on Form 8-K

1.       Financial Statements.

         The following are included in Part II of this report:
                                                                     Page No.
                                                                     --------

             Report of Independent Public Accountants                   27
             Balance Sheets                                             28
             Statements of Operations                                   29
             Statements of Changes in Partners' Capital (Deficit)       30
             Statements of Cash Flows                                   31
             Notes to Financial Statements                              32


2.       Reports on Form 8-K.

         None.


3.       Exhibits required to be filed by Item 601 of Regulation S-K.

         27. Financial Data Schedule.


4.       Financial Statement Schedules.

         All  financial  statement  schedules  are omitted  because they are not
         applicable,  not  required  or  because  the  required  information  is
         included in the financial statements or notes thereto.



                                       58

<PAGE>

                                   SIGNATURES



Pursuant to the  requirements of Section 13 or 15(d) of the Securities  Exchange
Act of 1934,  the  registrant  has duly  caused  this report to be signed on its
behalf by the undersigned, thereunto duly authorized.


                                      POLARIS AIRCRAFT INCOME FUND II,
                                      A California Limited Partnership
                                      (REGISTRANT)
                                      By:    Polaris Investment
                                             Management Corporation
                                             General Partner





  March 28, 1997                   By:  /S/ Eric M. Dull
-------------------                     ---------------------------
       Date                             Eric M. Dull, President


Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following  persons on behalf of the  registrant and
in the capacities and on the dates indicated.


      Signature                        Title                           Date

/S/Eric M. Dull     President and Director of Polaris Investment  March 28, 1997
---------------     Management Corporation, General Partner       --------------
(Eric M. Dull)      of the Registrant

/S/Marc A. Meiches  Chief Financial Officer of Polaris Investment March 28, 1997
------------------  Management Corporation, General Partner       --------------
(Marc A. Meiches)   of the Registrant

/S/Richard J. Adams
------------------- Chief Financial Officer of Polaris Investment March 28, 1997
(Richard J. Adams)  Management Corporation, General Partner       --------------
                    of the Registrant