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
                   For the fiscal year ended December 31, 1998

                                       OR

        ___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                         SECURITIES EXCHANGE ACT OF 1934
                    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 High Ridge Road, Stamford, Connecticut                06927
        ------------------------------------------             ----------
         (Address of principal executive offices)              (Zip Code)

       Registrant's telephone number, including area code: (203) 357-3776

        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.  X 
           ---

No formal  market  exists  for the units of  limited  partnership  interest  and
therefore there exists no aggregate market value at December 31, 1998.

                    Documents incorporated by reference: None

                       This document consists of 49 pages.


<PAGE>
                                     PART I

Item 1.  Business

Polaris Aircraft Income Fund II, A California  Limited  Partnership  (PAIF-II or
the Partnership), was formed primarily 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 aircraft  management  services to third
parties, including without limitation, AerFi Group plc (formerly GPA Group plc),
a public limited company  organized in Ireland,  together with its  consolidated
subsidiaries (AerFi), and Airplanes Group, together with its subsidiaries (APG),
each of which two groups 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,  AerFi,  APG, and other third parties to whom
GECAS provides aircraft management services from time to time.

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) as of December  31,
1998.
                                                    Scheduled
                                       Number of      Lease
Lessee     Aircraft Type               Aircraft    Expiration    Renewal Options
------     -------------               --------    ----------    ---------------
TWA        McDonnell Douglas DC-9-30      11        11/04 (1)        none
TWA        McDonnell Douglas DC-9-30       3         2/05 (1)        none

(1)      These  leases  to TWA were  modified  in 1991.  The  leases  for  these
         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 Partnership also agreed to share in the 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.  TWA may specify a lease expiration date for each aircraft
         up to six months  before the date shown,  provided the average date for
         all of the aircraft equals the dates shown.

         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  $218,171  and  warrants  for 227,133
         shares of TWA Common Stock (Item 7).

                                       2
<PAGE>


         In 1996,  GECAS, on behalf of the Partnership,  negotiated with TWA for
         the  acquisition  of  noise-suppression   devices,  commonly  known  as
         "hushkits", for 14 of the Partnership's aircraft on lease to TWA at the
         time, 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  reconditioned  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 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.

At year end 1998,  there were  approximately  12,600 jet  aircraft  in the world
fleet. Approximately 1,500 aircraft were leased or sold during 1998, an increase
of 14% over 1997. Air travel has grown strongly  during the past 28 years,  with
the last nineteen years showing  better than 5.5% annual  growth,  and not until
recently has it subsided  after what had been a robust period from 1994 to 1997.
This strong period has mainly  benefited Stage 3 narrow bodies and younger Stage
2 narrow  bodies,  many of which have been or are being  upgraded with hushkits.
During 1998,  the  industry  saw many  alliances  taking  place.  There was more
consolidation  in the U.S.  Airline Industry via alliances than had been seen in
the previous 20 years since  deregulation.  Booming  traffic demand coupled with
reductions in the price of aviation fuel has resulted in record profits for many
airlines in North America and Europe.  However,  slower traffic lies ahead,  the
cycle has peaked in 1998, as may have airline profits. Manufacturers continue to
produce at high levels compared to what demand will require in the future years.
Asia  continues  its  economic  turmoil  which has brought  about a  significant
reduction in traffic growth in that region. This is resulting in a number of new
aircraft order deferrals and cancellations, mainly in the wide body sector, with
over capacity  moving from Asia into the other regions around the world.  Timing
of when the down cycle ends or how severe it will be is still in  question,  but
will be closely  watched as we move into the next  millennium.  Several  airline
accidents that occurred in 1996,  involving older Stage 2 aircraft,  continue to
dampen the market for such aircraft. The Partnership has been forced in the past
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:

McDonnell  Douglas  DC-9-30  - The  McDonnell  Douglas  DC-9-30  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.  As
noted above,  hushkits have been  installed on the 14 remaining  fund  aircraft.
Certain ADs applicable to the McDonnell Douglas DC-9 have been issued to prevent
fatigue cracks and control corrosion as discussed in the Industry Update section
of 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.

                                       3
<PAGE>
Item 2.  Properties

At December 31, 1998, PAIF-II owned 14 McDonnell Douglas DC-9-30 aircraft leased
to TWA and spare parts  inventory  (as  discussed in Note 9) out of its original
portfolio of 30 aircraft.  All leases are  operating  leases.  Polaris  Aircraft
Income  Fund II (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,  were  disassembled  for sale of
their  component  parts,  the  remainder of which was sold to Soundair,  Inc. in
1998. 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. The  Partnership  sold three
Boeing  727-200,  one  McDonnell  Douglas  DC-9-40 and three  McDonnell  Douglas
DC-9-30 aircraft to Triton Aviation Services II LLC in May 1997 and June 1997.

The following table describes the Partnership's  aircraft  portfolio at December
31, 1998 in greater detail:

                                                  Year of           Cycles
Aircraft Type                   Serial Number   Manufacture   As of 11/30/98 (1)
-------------                   -------------   -----------   ------------------
McDonnell Douglas DC-9-30           47027          1967             84,652
McDonnell Douglas DC-9-30           47107          1968             84,779
McDonnell Douglas DC-9-30           47108          1968             81,594
McDonnell Douglas DC-9-30           47135          1968             81,114
McDonnell Douglas DC-9-30           47137          1968             80,309
McDonnell Douglas DC-9-30           47174          1968             82,371
McDonnell Douglas DC-9-30           47249          1968             86,488
McDonnell Douglas DC-9-30           47251          1968             84,738
McDonnell Douglas DC-9-30           47324          1969             78,976
McDonnell Douglas DC-9-30           47343          1969             83,574
McDonnell Douglas DC-9-30           47345          1969             81,905
McDonnell Douglas DC-9-30           47357          1969             78,797
McDonnell Douglas DC-9-30           47411          1969             79,321
McDonnell Douglas DC-9-30           47412          1969             79,366

(1) Cycle information as of 12/31/98 was not available.


Item 3.  Legal Proceedings

Braniff, Inc. (Braniff) Bankruptcy - As previously reported in the Partnership's
1997 Form 10-K, the Bankruptcy Court disposed of the Partnership's claim in this
Bankruptcy proceeding by permitting the Partnership 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 by allowing the  Partnership a net remaining  unsecured claim of $769,231 in
the proceedings.

Braniff's bankrupt estate made a payment in the amount of $200,000 in respect of
the  unsecured  claims  of the  Partnership  and  other  affiliates  of  Polaris
Investment Management Corporation.  Of this amount, $15,385 was allocated to the
Partnership  based on its pro rata share of the total claims and was  recognized
as revenue  during the  quarter  ended  March 31,  1998.  On January  20,  1999,
Braniff's bankrupt estate made an additional payment in the amount of $84,000 in
respect of the  unsecured  claims of the  Partnership  and other  affiliates  of
Polaris Investment Management  Corporation.  Of this amount $6,462 was allocated
to the Partnership based on its pro rata share of the total claims.

                                       4
<PAGE>

Viscount Air Services,  Inc.  (Viscount)  Bankruptcy - As previously reported in
the  Partnership's  1997 Form 10-K,  all disputes  between the  Partnership  and
Viscount have been resolved,  and there is no further  pending  litigation  with
Viscount.  However, when Viscount rejected its lease of one of the Partnership's
aircraft  ("306  Aircraft"),  as authorized  by the  Bankruptcy  Court,  the 306
Aircraft was located at a maintenance  facility  called BAE  Aviation,  Inc. dba
Tucson Aerospace (BAE). BAE and its subcontractors STS Services, Inc. and Piping
Design Services, Inc., dba PDS Technical Services asserted mechanics' liens over
the 306 Aircraft.

On May 22, 1996,  First  Security Bank,  National  Association  (FSB),  as owner
trustee,  filed suit in the Superior  Court of Arizona in Pima County to recover
the 306 Aircraft. After FSB filed a bond in the penal amount of $1,371,000,  the
claimants in the action  released the 306 Aircraft and filed a claim against the
bond.  FSB filed a motion  for  summary  judgment  on all  claims  raised by the
claimants in the counterclaim. The Superior Court granted the motion and entered
judgment on October 30, 1998  dismissing the  counterclaim  and  exonerating the
bond.  The  Court  has  stayed  exoneration  of the bond  pending  appeal by the
claimants. The Court has denied the claimants' subsequent motion for a new trial
seeking  reconsideration.  FSB filed a motion seeking recovery of its attorneys'
fees and costs incurred in defending the litigation, and the Court set a hearing
on the motion for March 8, 1999.  Subsequently,  FSB and the claimants agreed to
settle this claim for an agreed  judgement of $159,374.51 in attorney's  fees to
be paid to FSB.  The  settlement  agreement is subject to approval by the Court.
The claimants are appealing the Court's rulings.

After recovering the 306 Aircraft, the Partnership sold the airframe and certain
engines in January of 1997. In the course of delivering the airframe, GE Capital
Aviation  Services,  Inc.  (GECAS)  determined that a painter,  Thomas Cook, was
holding  the  right  elevator  at his shop due to an  unpaid  bill  incurred  in
connection  with work on the 306  Aircraft by BAE under  contract  to  Viscount,
which at that time was  leasing the 306  Aircraft.  On March 20,  1997,  FSB, as
owner trustee,  filed a lawsuit in the Superior Court of Arizona in Pima County,
Case No. 318585 against Mr. Cook and Hamilton Aviation,  Inc., where his shop is
located, to recover possession.  The parties have stipulated to dismissal of the
lawsuit,  with Mr.  Cook  agreeing  to release  the  Partnership's  elevator  in
exchange for a settlement payment of $3,000 by the Partnership.

Kepford,  et al. v.  Prudential  Securities,  et al. - On April 13,  1994,  this
action was filed in the District Court of Harris County,  Texas against  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. The complaint alleges violations
of the Texas  Securities Act, the Texas Deceptive Trade Practices Act,  sections
11 and  12 of the  Securities  Act of  1933,  common  law  fraud,  fraud  in the
inducement,  negligent misrepresentation,  negligence,  breach of fiduciary duty
and civil conspiracy arising from the defendants' alleged  misrepresentation and
failure  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,  and double and treble damages under the
Texas  Deceptive  Trade  Practices  Act.  The trial  court has  issued a revised
scheduling order setting the trial date for this action for September 7, 1999.

Ron Wallace v. Polaris Investment Management  Corporation,  et al. - On or about
June 18,  1997,  a  purported  class  action  entitled  Ron  Wallace v.  Polaris
Investment Management Corporation, et al. was filed on behalf of the unitholders
of Polaris  Aircraft  Income  Funds II through VI in the  Superior  Court of the

                                       5
<PAGE>

State of  California,  County of San  Francisco.  The  complaint  names  each of
Polaris Investment Management  Corporation (PIMC), GE Capital Aviation Services,
Inc.  (GECAS),  Polaris Aircraft Leasing  Corporation,  Polaris Holding Company,
General Electric Capital  Corporation,  certain executives of PIMC and GECAS and
John E. Flynn, a former PIMC  executive,  as defendants.  The complaint  alleges
that defendants committed a breach of their fiduciary duties with respect to the
Sale  Transaction  involving the  Partnership  as described in Item 7, under the
caption  "Sale of Aircraft -- Sale of Aircraft to Triton." On September 2, 1997,
an amended complaint was filed adding additional plaintiffs, and on December 18,
1997, the plaintiffs  filed a second amended  complaint  asserting  their claims
derivatively.

On November 9, 1998,  defendants,  acting through their counsel,  entered into a
settlement agreement with plaintiffs and with the plaintiff in a related action,
"Accelerated"  High Yield  Income  Fund II,  Ltd.,  L.P. v.  Polaris  Investment
Management Corporation, et al. The settlement agreement does not provide for any
payments to be made to the Partnership. Plaintiff's counsel sought reimbursement
from the Partnership for its attorneys' fees and expenses.  A settlement  notice
setting forth the terms of the  settlement  was mailed to the last known address
of each  unitholder  of the  Partnership  on November 20, 1998.  On December 24,
1998, the Court  approved the terms of the  settlement and approved  plaintiffs'
attorney's fees and expenses in the amount of $438,766.

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. The Partnership is not a party to
these actions.


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

None.


                                       6
<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, 1998
             ----------------                           ------------------------

         Limited Partnership Interest:                           14,620

         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 1998
         and  1997  totaled  $18,673,991  and  $14,349,914,  respectively.  Cash
         distributions  per Limited  Partnership  unit were $37.35 and $28.70 in
         1998 and 1997, respectively.


                                       7
<PAGE>

Item 6.  Selected Financial Data

<TABLE>
<CAPTION>
                                                  For the years ended December 31,
                                                  --------------------------------

                                  1998           1997           1996            1995           1994
                                  ----           ----           ----            ----           ----
<S>                         <C>            <C>            <C>             <C>            <C>

Revenues                    $  13,901,118  $  17,609,635  $  16,304,608   $  21,093,341  $  14,443,902

Net Income (Loss)               3,456,655      4,469,336    (14,708,486)      5,717,065     (3,217,172)

Net Income (Loss)
  Allocated to Limited
  Partners                      1,607,397      4,424,643    (16,311,216)      4,972,468     (4,434,868)

Net Income (Loss) per
  Limited Partnership Unit           3.22           8.85         (32.62)           9.94          (8.87)

Cash Distributions per
  Limited Partnership
  Unit                              37.35          28.70          35.00           13.75          25.00

Amount of Cash
  Distributions Included
  Above Representing
  a Return of Capital on
  a Generally Accepted
  Accounting Principle
  Basis per Limited
  Partnership Unit*                 37.35          28.70          35.00           13.75          25.00

Total Assets                   57,461,885     77,546,425     87,622,742     107,820,317    110,568,377

Partners' Capital              43,445,400     60,740,696     72,215,709     106,368,523    108,290,301
<FN>

* 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.
</FN>
</TABLE>

                                       8
<PAGE>

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

At December 31, 1998,  Polaris Aircraft Income Fund II (the Partnership) owned a
portfolio  of 14 used  commercial  jet aircraft  and spare parts  inventory  (as
discussed in Note 9) out of its original portfolio of 30 aircraft. The portfolio
consists  of 14  McDonnell  Douglas  DC-9-30  aircraft  leased  to  Trans  World
Airlines,  Inc. (TWA). The Partnership  transferred six Boeing 727-200 aircraft,
previously leased to Pan American World Airways,  Inc., to aircraft inventory in
1992.  These aircraft were  disassembled  for sale of their component parts. The
Partnership  sold  its  remaining  inventory  of  aircraft  parts  from  the six
disassembled  aircraft,  to Soundair,  Inc., in 1998. The  Partnership  sold one
Boeing  727-200  aircraft in February 1995, one Boeing 737-200 Combi aircraft in
March 1996, and one Boeing 737-200  aircraft in January 1997.  During the second
quarter of 1997, the Partnership  sold three McDonnell  Douglas DC-9-30 aircraft
and one McDonnell  Douglas  DC-9-40  aircraft  leased to TWA, 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), to Triton Aviation Services II LLC.


Remarketing Update

General - Polaris  Investment  Management  Corporation  (the General  Partner or
PIMC)  evaluates,  from time to time,  whether the investment  objectives of the
Partnership are better served by continuing to hold the Partnership's  remaining
portfolio of Aircraft or marketing such Aircraft for sale. This evaluation takes
into account the current and potential earnings of the Aircraft,  the conditions
in the markets for lease and sale and future  outlook for such markets,  and the
tax consequences of selling rather than continuing to lease the Aircraft.

Sale of  Aircraft  Inventory  to  Soundair,  Inc.  - The  Partnership  sold  its
remaining  inventory of aircraft parts from the six  disassembled  aircraft,  to
Soundair,  Inc. The remaining inventory,  with a net carrying value of $-0-, was
sold effective February 1, 1998 for $90,000,  less amounts  previously  received
for  sales  as of that  date.  The net  purchase  price of  $85,080  was paid in
September 1998, and is included in gain on sale of aircraft inventory.


Partnership Operations

The  Partnership  reported  net  income  of  $3,456,655,  or $3.22  per  Limited
Partnership unit for the year ended December 31, 1998, compared to net income of
$4,469,336, or $8.85 per Limited Partnership unit and a net loss of $14,708,486,
or $32.62 per Limited  Partnership  unit,  for the years ended December 31, 1997
and 1996, respectively.  Variances in net income may not correspond to variances
in net income per Limited  Partnership  unit due to the allocation of components
of income and loss in accordance with the Partnership agreement. The decrease in
net income in 1998,  as compared  to 1997,  is  primarily  due to  decreases  in
interest and other income. Interest income decreased during 1998, as compared to
1997,  primarily due to the December 1997 payoff of the Promissory  note related
to the aircraft sold to Triton Aviation Services II LLC in 1997. The Partnership
recorded  other  income of $50,000 in 1998,  compared to $802,443  during  1997.
Other  income in 1997 was  comprised  of the  receipt of amounts due under a TWA
maintenance credit and rent deferral agreement.

The improved income from operations  during 1997, as compared to 1996, is due to
a substantial  decrease in depreciation expense related to the sale of aircraft.
A  substantial  increase in  depreciation  expense  contributed  to the net loss
during 1996.

Rental  revenues,  management  fees and  depreciation  declined  during 1998, as
compared to 1997.  This decline was the result of the sale of aircraft to Triton
Aviation  Services II LLC in 1997.  Rental revenues,  net of related  management

                                       9
<PAGE>

fees,  increased during 1997, compared to the same period in 1996. This increase
was primarily the result of an increase in rental revenues from TWA. In November
1996 and  February  1997,  installation  of  hushkits  was  completed  on the 14
aircraft  leased to TWA and the leases were  extended for eight years.  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 increase in interest  income  during 1997, as compared to the same period in
1996, was  attributable to interest earned on the Promissory Note related to the
Triton sale that occurred during the second quarter of 1997.

Operating  expense  increased  due to legal  expense  related to the Ron Wallace
Litigation Settlement as more fully described below.

The Partnership had been holding a security deposit,  received from Jet Fleet in
1992, pending the outcome of bankruptcy  proceedings.  The bankruptcy proceeding
of Jet Fleet  Corporation  was  closed on August  6,  1997,  and the  bankruptcy
proceeding of Jet Fleet International  Airlines, Inc. was closed on February 10,
1998. Consequently,  the Partnership recognized,  during the quarter ended March
31, 1998, revenue of $50,000 that had been held as a deposit.

The Partnership recorded an increase in other revenue during 1997. This increase
in other income was the result of the receipt of $802,443 related to amounts due
under the TWA maintenance credit and rent deferral agreement as discussed above.

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.

In   consideration   for  the  rent  deferral  as  discussed   later  under  TWA
Restructuring, 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 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  recognized a
gain on the value of the warrants of $582,028 in 1995. The Partnership  sold its
TWA Common Stock in 1996.

The  Partnership  incurred  interest  expense during 1998,  1997 and 1996 as the
result of the Partnership  installing hushkits on 11 of its aircraft in November
1996 and 3 of its aircraft in February  1997.  The aggregate cost of the hushkit
reconditioning  for  the 11  and 3  aircraft  was  $17,516,722  and  $4,784,633,
respectively,  or approximately $1.6 million per aircraft, which was capitalized
by the Partnership  during 1996 and 1997. The Partnership  paid $3.3 million and
$900,000 in 1996 and 1997, respectively,  of the aggregate hushkit cost, and the
balance  of  $14,216,722  and  $3,884,633  in 1996 and 1997,  respectively,  was
financed by the  engine/hushkit  manufacturer over 50 months at an interest rate
of 10% per annum.

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)

                                       10
<PAGE>

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 of this deficiency as
increased  depreciation  expense in 1996. 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 4, 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  constituted 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.

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.  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.


Liquidity and Cash Distributions

Liquidity - The Partnership  received prepayment in full of all amounts due from
Triton and all payments due from  lessees  during 1998,  except for the December
1998 lease payment from TWA. On January 4, 1999,  the  Partnership  received its
$935,000  rental payment from TWA that was due on December 27, 1998. This amount
was included in rent and other  receivables on the balance sheet at December 31,
1998.

As further  discussed in Note 9 to the  financial  statements,  the  Partnership
recorded an allowance  for credit  losses of $100,409 in 1996 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.

As  discussed  above,  the  Partnership  agreed to share in the cost of  meeting
certain  Airworthiness  Directives  (ADs)  with  TWA.  In  accordance  with  the
cost-sharing agreement,  TWA may offset up to an additional $1.7 million against
rental payments, subject to annual limitations, over the remaining lease terms.

The Partnership sold one Boeing 727-200 aircraft  equipped with a hushkit to AIA
in February  1995 as  previously  discussed.  The  agreement  with AIA specified
payment of the sales price in 36 monthly  installments  of $55,000  beginning in

                                       11
<PAGE>

March 1995. The Partnership  received all scheduled  payments due from AIA. This
note was sold to Triton during 1997 as part of the  transaction  discussed later
under Sale of Aircraft.

In March 1996, the Partnership sold its Boeing 737-200 Combi aircraft to Westjet
for cash and a note due 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.  This note was sold to Triton during 1997 as
part of the  transaction  discussed  previously  under  the  Remarketing  Update
section.

Payments of $133,285, $214,749, and $260,234 were received during 1998, 1997 and
1996, respectively, from the sale of inventoried parts from the six disassembled
aircraft.  This includes the sale of remaining  inventory of aircraft parts from
the six disassembled aircraft to Soundair, Inc. in 1998 for $90,000.

PIMC has  determined  that the  Partnership  maintain cash reserves as a prudent
measure to ensure that the Partnership has available funds in the event that the
aircraft  presently  on  lease  to  TWA  require  remarketing,   and  for  other
contingencies  including  expenses of the Partnership.  The  Partnership's  cash
reserves  will be  monitored  and may be  revised  from time to time as  further
information becomes available in the future.

Cash  Distributions - Cash  distributions to Limited Partners were  $18,673,991,
$14,349,914,  and  $17,499,895  in  1998,  1997  and  1996,  respectively.  Cash
distributions per Limited  Partnership unit were $37.35,  $28.70, and $35.00 per
Limited Partnership unit in 1998, 1997 and 1996,  respectively.  The increase in
1998, as compared to 1997 is due to the  distribution  of the proceeds  received
from the  prepayment  of a note due from  Triton  Aviation  Services  II, LLC on
December 30, 1997.  The timing and amount of future cash  distributions  are not
yet  known  and  will  depend  on the  Partnership's  future  cash  requirements
(including  expenses of the  Partnership)  and need to retain  cash  reserves as
previously  discussed in the Liquidity  section;  the receipt of rental payments
from TWA; and payments generated from the aircraft disassembly process.


Impact of the Year 2000 Issue

The inability of business  processes to continue to function correctly after the
beginning of the Year 2000 could have serious  adverse  effects on companies and
entities throughout the world. As discussed in prior filings with the Securities
and Exchange  Commission,  the General  Partner has engaged GE Capital  Aviation
Services,   Inc.  ("GECAS")  to  provide  certain  management  services  to  the
Partnership.  Both the General Partner and GECAS are  wholly-owned  subsidiaries
(either direct or indirect) of General  Electric Capital  Corporation  ("GECC").
All of the Partnership's operational functions are handled either by the General
Partner  and  GECAS  or  by  third   parties  (as  discussed  in  the  following
paragraphs), and the Partnership has no information systems of its own.

GECC and GECAS have  undertaken a global  effort to identify  and mitigate  Year
2000 issues in their information systems, products and services,  facilities and
suppliers  as well as to assess the extent to which Year 2000 issues will impact
their  customers.   Each  business  has  a  Year  2000  leader  who  oversees  a
multi-functional  remediation  project team responsible for applying a Six Sigma
quality approach in four phases:  (1)  define/measure  -- identify and inventory
possible  sources of Year 2000 issues;  (2) analyze -- determine  the nature and
extent of Year 2000 issues and develop  project  plans to address  those issues;
(3) improve -- execute project plans and perform a majority of the testing;  and
(4) control -- complete  testing,  continue  monitoring  readiness  and complete
necessary  contingency  plans. The progress of this program is monitored at each
business, and company-wide reviews with senior management are conducted monthly.
GECC and GECAS  management  plan to have completed the first three phases of the
program for a  substantial  majority of  mission-critical  systems by the end of
1998 and to have  nearly  all  significant  information  systems,  products  and

                                       12
<PAGE>

services,  facilities  and  suppliers  in the  control  phase of the  program by
mid-1999.

As noted  elsewhere,  the  Partnership  has  fourteen  aircraft  and spare parts
inventory  remaining  in its  portfolio  at this  time.  All of these  remaining
aircraft are on lease with Trans World Airlines,  Inc. ("TWA").  TWA has advised
GECAS that it has adopted  procedures  to identify  and address Year 2000 issues
and that it has developed a plan to implement required changes in its equipment,
operations and systems.  To the extent,  however,  that TWA suffers any material
disruption of its business and  operations due to Year 2000 failure of equipment
or information  systems,  such disruption  would likely have a material  adverse
effect on the Partnership's operations and financial condition.

Aside  from  maintenance  and  other  matters  relating  to  the   Partnership's
aircraft-related  assets discussed above, the principal  third-party  vendors to
the  Partnership  are those  providing  the  Partnership  with  services such as
accounting,  auditing, banking and investor services. GECAS intends to apply the
same standards in determining the Year 2000  capabilities  of the  Partnership's
third-party  vendors as GECAS will apply  with  respect to its  outside  vendors
pursuant to its internal Year 2000 program.

The  scope  of the  global  Year  2000  effort  encompasses  many  thousands  of
applications  and computer  programs;  products  and  services;  facilities  and
facilities-related  equipment;  suppliers; and, customers. The Partnership, like
all  business  operations,  is also  dependent  on the Year  2000  readiness  of
infrastructure   suppliers   in   areas   such   as   utility,   communications,
transportation  and other services.  In this  environment,  there will likely be
instances of failure that could cause disruptions in business  processes or that
could affect  customers'  ability to repay  amounts owed to the  Partnership  or
vendors' ability to provide services  without  interruption.  The likelihood and
effects of failures in infrastructure systems, over which the Partnership has no
control,  cannot  be  estimated.  However,  aside  from the  impact  of any such
possible failures or the possibility of a disruption of TWA's business caused by
Year 2000  failures,  the General  Partner does not believe that  occurrences of
Year  2000  failures  will  have a  material  adverse  effect  on the  financial
position, results of operations or liquidity of the Partnership.

To date, the Partnership has not incurred any Year 2000 expenditures nor does it
expect  to incur any  material  costs in the  future.  However,  the  activities
involved in the Year 2000 effort  necessarily  involve estimates and projections
of activities and resources that will be required in the future. These estimates
and projections could change as work progresses.


Sale of Aircraft

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.(American  Aircarriers) on an "as-is,  where-is" basis for $660,000 cash. In
addition, the Partnership retained maintenance reserves from the previous lessee
of $217,075,  that had been held by the  Partnership,  which were  recognized as
additional sale proceeds.  A net loss of $26,079 was recorded on the sale of the
aircraft.

Sale  of  Aircraft  to  Triton  - On  May  28,  1997,  PIMC,  on  behalf  of the
Partnership,  executed  definitive  documentation  for the  purchase of 7 of the
Partnership's  21 remaining  aircraft (the  "Aircraft") and certain of its notes
receivables by Triton  Aviation  Services II LLC, a special purpose company (the
"Purchaser"  or  "Triton").  The  closings  for the  purchase  of the 7 Aircraft
occurred from May 28, 1997 to June 16, 1997.  The Purchaser is managed by Triton
Aviation Services,  Ltd. ("Triton Aviation" or the "Manager"),  a privately held
aircraft leasing company which was formed in 1996 by Triton Investments, Ltd., a
company  which has been in the marine cargo  container  leasing  business for 17
years and is diversifying  its portfolio by leasing  commercial  aircraft.  Each
Aircraft was sold subject to the existing leases.

                                       13
<PAGE>


The  General  Partner's  Decision to Approve the  Transaction  - In  determining
whether the  transaction  was in the best interests of the  Partnership  and its
unitholders,  PIMC  evaluated,  among other  things,  the risks and  significant
expenses  associated  with  continuing to own and remarket the Aircraft (many of
which were subject to leases that were nearing expiration).  The General Partner
determined  that such a  strategy  could  require  the  Partnership  to expend a
significant  portion of its cash reserves for  remarketing  and that there was a
substantial  risk that this strategy could result in the  Partnership  having to
reduce or even  suspend  future  cash  distributions  to Limited  Partners.  The
General  Partner  concluded  that the  opportunity  to sell the  Aircraft  at an
attractive  price would be  beneficial  in the present  market  where demand for
Stage II aircraft  is  relatively  strong  rather  than  attempting  to sell the
aircraft  "one-by-one"  over the coming years when the demand for such  Aircraft
might be weaker. GE Capital Aviation Services,  Inc.  ("GECAS"),  which provides
aircraft  marketing and management  services to the General  Partner,  sought to
obtain the best price and terms  available for these Stage II aircraft given the
aircraft market and the conditions and types of planes owned by the Partnership.
Both the General  Partner and GECAS  approved  the sale terms of the Aircraft as
being in the best interest of the  Partnership and its unit holders because both
believe that this transaction will optimize the potential cash  distributions to
be paid to Limited  Partners.  To ensure that no better offer could be obtained,
the  terms of the  transaction  negotiated  by  GECAS  included  a  "market-out"
provision  that  permitted the  Partnership  to elect 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 deemed more  favorable,  with the ability of the Purchaser to match the
offer or  decline to match the offer and be  entitled  to be  compensated  in an
amount equal to 1.5% of the Purchaser's proposed purchase price. The Partnership
did not receive any other offers and, accordingly,  the General Partner believes
that a valid  market  check  had  occurred  confirming  that  the  terms of this
transaction were the most beneficial that could have been obtained.

The Terms of the Transaction - The total contract  purchase price (the "Purchase
Price") to the Purchaser was $13,988,000 which was allocated to the Aircraft and
to certain notes  receivable  by the  Partnership.  The  Purchaser  paid into an
escrow account  $1,575,888 of the Purchase Price in cash upon the closing of the
first aircraft and delivered a promissory note (the  "Promissory  Note") for the
balance of $12,412,112.  The Partnership received payment of $1,575,888 from the
escrow account on June 24, 1997. On December 30, 1997, the Partnership  received
prepayment in full of the outstanding note receivable and interest earned by the
Partnership to that date.

Under the purchase agreement,  the Purchaser purchased the Aircraft effective as
of April 1, 1997 notwithstanding the actual closing dates. The utilization of an
effective  date  facilitated  the  determination  of rent and other  allocations
between  the  parties.  The  Purchaser  had the right to receive  all income and
proceeds,  including rents and receivables,  from the Aircraft accruing from and
after April 1, 1997, and the Promissory  Note commenced  bearing  interest as of
April 1, 1997  subject to the closing of the  Aircraft.  Each  Aircraft was sold
subject to the existing leases.

Neither  PIMC nor GECAS  received  a sales  commission  in  connection  with the
transaction. In addition, PIMC was not paid a management fee with respect to the
collection of the  Promissory  Note or on any rents accruing from or after April
1, 1997 with  respect to the 7  Aircraft.  Neither  PIMC nor GECAS or any of its
affiliates  holds any  interest in Triton  Aviation or any of Triton  Aviation's
affiliates.  John Flynn, the current President of Triton Aviation, was a Polaris
executive  until  May 1996 and has over 15 years  experience  in the  commercial
aviation  industry.  At the time  Mr.  Flynn  was  employed  at PIMC,  he had no
affiliation with Triton Aviation or its affiliates.

Polaris  Aircraft  Income Fund III,  Polaris  Aircraft  Income Fund IV,  Polaris
Aircraft  Income  Fund V and  Polaris  Aircraft  Income  Fund VI have  also sold
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,  with the  exception of the
Polaris Aircraft Income Fund VI aircraft, which were sold on an all cash basis.

                                       14
<PAGE>

The  Accounting  Treatment of the  Transaction  - In accordance  with GAAP,  the
Partnership recognized rental income up until the closing date for each aircraft
which occurred from May 28, 1997 to June 16, 1997.  However,  under the terms of
the  transaction,  the Purchaser  was entitled to receive  payment of the rents,
receivables  and other  income  accruing  from April 1, 1997.  As a result,  the
Partnership  made  payments  to the  Purchaser  in  the  amount  of  the  rents,
receivables  and other income due and received from April 1, 1997 to the closing
date of $1,001,067, which is included in rent from operating leases and interest
income. For financial reporting  purposes,  the cash down payment portion of the
sales  proceeds of  $1,575,888  has been adjusted by the  following:  income and
proceeds,  including rents and  receivables  from the effective date of April 1,
1997 to the  closing  date,  interest  due on the cash  portion of the  purchase
price,  interest on the Promissory Note from the effective date of April 1, 1997
to the  closing  date and  estimated  selling  costs.  As a result of these GAAP
adjustments, the net adjusted sales price recorded by the Partnership, including
the Promissory Note, was $13,205,140.

The Aircraft sold pursuant to the definitive  documentation  executed on May 28,
1997 had been  classified  as  aircraft  held for sale from that date  until the
actual  closing  date.  Under GAAP,  aircraft held for sale are carried at their
fair market value less  estimated  costs to sell.  The  adjustment  to the sales
proceeds  described  above and revisions to estimated costs to sell the Aircraft
required the  Partnership  to record an adjustment to the net carrying  value of
the  aircraft  held for sale of $749,373  during the three months ended June 30,
1997. This adjustment to the net carrying value of the aircraft held for sale is
included in depreciation expense on the statement of operations.


Ron Wallace Litigation Settlement

Ron Wallace v. Polaris Investment Management  Corporation,  et al. - On or about
June 18,  1997,  a  purported  class  action  entitled  Ron  Wallace v.  Polaris
Investment Management Corporation, et al. was filed on behalf of the unitholders
of Polaris  Aircraft  Income  Funds II through VI in the  Superior  Court of the
State of  California,  County of San  Francisco.  The  complaint  names  each of
Polaris Investment Management  Corporation (PIMC), GE Capital Aviation Services,
Inc.  (GECAS),  Polaris Aircraft Leasing  Corporation,  Polaris Holding Company,
General Electric Capital  Corporation,  certain executives of PIMC and GECAS and
John E. Flynn, a former PIMC  executive,  as defendants.  The complaint  alleges
that defendants committed a breach of their fiduciary duties with respect to the
Sale  Transaction  involving the  Partnership  as described in Item 7, under the
caption  "Sale of Aircraft -- Sale of Aircraft to Triton." On September 2, 1997,
an amended complaint was filed adding additional plaintiffs, and on December 18,
1997, the plaintiffs  filed a second amended  complaint  asserting  their claims
derivatively.

On November 9, 1998,  defendants,  acting through their counsel,  entered into a
settlement agreement with plaintiffs and with the plaintiff in a related action,
"Accelerated"  High Yield  Income  Fund II,  Ltd.,  L.P. v.  Polaris  Investment
Management Corporation, et al. The settlement agreement does not provide for any
payments to be made to the Partnership. Plaintiff's counsel sought reimbursement
from the Partnership for its attorneys' fees and expenses.  A settlement  notice
setting forth the terms of the  settlement  was mailed to the last known address
of each  unitholder  of the  Partnership  on November 20, 1998.  On December 24,
1998, the Court  approved the terms of the  settlement and approved  plaintiffs'
attorney's  fees and  expenses in the amount of  $438,766,  which is included in
operating expenses.


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

                                       15
<PAGE>

GECAS, 18 of which were 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  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 pro rata share of such
payment by TWA. 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.

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. 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 was  $2,356,505,  which was  determined  based on
quoted  market  prices.  The  Partnership  sold the TWA Common Stock in February
1996, net of broker commissions, for $2,406,479 and recognized a gain on trading
securities of $49,974 in 1996.

                                       16
<PAGE>

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.

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 and filed a claim  against  the bond.  FSB filed a motion for  summary
judgment on all claims raised by the claimants in the counterclaim. The Superior
Court granted the motion and entered judgment on October 30,1998  dismissing the
counterclaim  and exonerating the bond. The Court has stayed  exoneration of the
bond  pending  appeal by the  claimants.  The Court has  denied  the  claimants'
subsequent  motion for a new trial seeking  reconsideration.  FSB filed a motion
seeking  recovery of its  attorneys'  fees and costs  incurred in defending  the
litigation,  and the Court  set a  hearing  on the  motion  for  March 8,  1999.
Subsequently,  FSB and the  claimants  agreed to settle this claim for an agreed
judgement of  $159,374.51  in attorney's  fees to be paid to FSB. The settlement
agreement is subject to approval by the Court.  The  claimants are appealing the
Court's rulings.

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

                                       17
<PAGE>

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.

A  consignment  agreement  has been  entered  into  with a sales  agent  for the
disposal of the spare parts inventory  recovered from Viscount.  Given that many
of the  parts  require  repair/overhaul,  the cost of  which  is not  accurately
determinable in advance,  and the inherent  uncertainty of sales prices for used
spare parts, there remains uncertainty as to whether the Partnership will derive
further proceeds from the sale of this inventory.

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 a provision for credit losses of $100,409 in 1996, 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  provision  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.  The  aircraft  was  sold in  January  1997 for
$660,000. As discussed in Note 4, 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 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  had
accrued legal costs of approximately $116,000,  $107,000 and $147,000, which are
reflected  in  operating  expense  in the  Partnership's  1998,  1997  and  1996
statement of  operations,  respectively.  In 1998, the  Partnership  revised its
estimate of legal costs and reduced the accrual for legal costs by $68,753.


Claims Related to Lessee Defaults

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 revenue in claims related to lessee  defaults in the
1996 statement of operations.  It is unlikely that the Partnership  will receive

                                       18
<PAGE>

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.

Braniff,  Inc.  (Braniff)  Bankruptcy - As previously  reported,  the Bankruptcy
Court  disposed of the  Partnership's  claim in this  Bankruptcy  proceeding  by
permitting  the  Partnership  to exchange a portion of its  unsecured  claim for
Braniff's right (commonly referred to as a "Stage 2 Base Level right") under the
Federal  Aviation  Administration  noise  regulations  to  operate  one  Stage 2
aircraft and by allowing the  Partnership  a net  remaining  unsecured  claim of
$769,231 in the proceedings.

Braniff's bankrupt estate made a payment in the amount of $200,000 in respect of
the  unsecured  claims  of the  Partnership  and  other  affiliates  of  Polaris
Investment Management Corporation.  Of this amount, $15,385 was allocated to the
Partnership  based on its pro rata share of the total claims and was  recognized
as revenue  during the  quarter  ended  March 31,  1998.  On January  20,  1999,
Braniff's bankrupt estate made an additional payment in the amount of $84,000 in
respect of the  unsecured  claims of the  Partnership  and other  affiliates  of
Polaris Investment Management  Corporation.  Of this amount $6,462 was allocated
to the Partnership  based on its pro rata share of the total claims. As a result
of these  payments,  $21,847  was  recognized  as revenue  during  1998,  and is
included in claims related to lessee defaults.


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,  applicable to McDonnell  Douglas aircraft,
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 AD requires  specific work to be performed
at various cycle thresholds  between 40,000 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 January 1993,  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 January 31, 1994.

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
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

                                       19
<PAGE>

of the costs of compliance  with certain ADs with respect to the aircraft leased
to  TWA,  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.

Currently  legislation  has been  drafted and is under review by the EU to adopt
anti-hushkitting  regulations within member states. The legislation seeks to ban
hushkitted  aircraft from being added to member states  registers after April 1,
1999 and will  preclude all operation of  hushkitted  aircraft  within the EU by
April 1,  2002.  The effect of this  proposal  has been to reduce the demand for
hushkitted  aircraft  within the EU and its  neighboring  states,  including the
former Eastern Block states.

Demand for  Aircraft - At year end 1998,  there  were  approximately  12,600 jet
aircraft in the world fleet.  Approximately  1,500  aircraft were leased or sold
during 1998, an increase of 14% over 1997. Air travel has grown strongly  during
the past 28 years,  with the last nineteen years showing better than 5.5% annual
growth,  and not until  recently  has it  subsided  after what had been a robust

                                       20
<PAGE>

period from 1994 to 1997. This strong period has mainly benefited Stage 3 narrow
bodies and younger Stage 2 narrow  bodies,  many of which have been or are being
upgraded with  hushkits.  During 1998,  the industry saw many  alliances  taking
place.  There was more  consolidation in the U.S. Airline Industry via alliances
than had been seen in the previous 20 years since deregulation.  Booming traffic
demand  coupled with  reductions  in the price of aviation  fuel has resulted in
record  profits for many airlines in North America and Europe.  However,  slower
traffic lies ahead,  the cycle has peaked in 1998, as may have airline  profits.
Manufacturers  continue to produce at high  levels  compared to what demand will
require in the future  years.  Asia  continues  its economic  turmoil  which has
brought about a significant  reduction in traffic growth in that region. This is
resulting in a number of new aircraft order deferrals and cancellations,  mainly
in the wide body  sector,  with over  capacity  moving  from Asia into the other
regions  around the  world.  Timing of when the down cycle ends or how severe it
will be is still in  question,  but will be closely  watched as we move into the
next millennium.

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. 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,  or $33.97 per Limited  Partnership
unit,  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 4, 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  constituted  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.

The Partnership  periodically  reviews its aircraft for impairment in accordance
with SFAS No. 121. 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.

                                       21
<PAGE>

Item 8.  Financial Statements and Supplementary Data











                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership




              FINANCIAL STATEMENTS AS OF DECEMBER 31, 1998 AND 1997


            AND FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996


                                TOGETHER WITH THE


                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS








                                       22
<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, 1998 and 1997, 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, 1998.
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, 1998 and 1997, and the
results of its  operations and its cash flows for each of the three years in the
period ended December 31, 1998, in conformity with generally accepted accounting
principles.


                                                             ARTHUR ANDERSEN LLP


San Francisco, California,
    January 25, 1999

                                       23
<PAGE>

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership

                                 BALANCE SHEETS

                           DECEMBER 31, 1998 AND 1997

                                                         1998           1997
                                                         ----           ----
ASSETS:

CASH AND CASH EQUIVALENTS                           $ 19,228,093   $ 31,587,494

RENT AND OTHER RECEIVABLES                               941,563        935,629

AIRCRAFT, net of accumulated depreciation of
  $78,075,872 in 1998 and $70,346,578 in 1997         37,287,437     45,016,731

OTHER ASSETS                                               4,792          6,571
                                                    ------------   ------------

                                                    $ 57,461,885   $ 77,546,425
                                                    ============   ============

LIABILITIES AND PARTNERS' CAPITAL (DEFICIT):

PAYABLE TO AFFILIATES                               $    155,123   $    142,761

ACCOUNTS PAYABLE AND ACCRUED
  LIABILITIES                                            456,414        317,799

SECURITY DEPOSITS                                           --           50,000

DEFERRED INCOME                                        2,324,958        627,660

NOTES PAYABLE                                         11,079,990     15,667,509
                                                    ------------   ------------

       Total Liabilities                              14,016,485     16,805,729
                                                    ------------   ------------

PARTNERS' CAPITAL (DEFICIT):
  General Partner                                     (3,256,230)    (3,030,600)
  Limited Partners, 499,973 and 499,997 units
     outstanding in 1998 and 1997                     46,701,630     63,771,296
                                                    ------------   ------------

       Total Partners' Capital                        43,445,400     60,740,696
                                                    ------------   ------------

                                                    $ 57,461,885   $ 77,546,425
                                                    ============   ============

        The accompanying notes are an integral part of these statements.

                                       24
<PAGE>

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership

                            STATEMENTS OF OPERATIONS

              FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996

                                           1998          1997           1996
                                           ----          ----           ----
REVENUES:
    Rent from operating leases        $ 12,582,702  $ 14,792,071   $ 14,172,153
    Gain on trading securities                --            --           49,974
    Interest                             1,113,284     1,939,699      1,505,981
    Claims related to lessee
      defaults                              21,847          --          576,500
    Loss on sale of aircraft                  --         (26,079)          --
    Gain on sale of aircraft
      inventory                            133,285       101,501           --
    Other                                   50,000       802,443           --
                                      ------------  ------------   ------------

         Total Revenues                 13,901,118    17,609,635     16,304,608
                                      ------------  ------------   ------------

EXPENSES:
    Depreciation                         7,729,294    10,435,053     29,470,353
    Management fees to General
      Partner                              486,468       531,135        667,678
    Provision for credit losses               --            --          192,917
    Operating                              581,127       145,905        244,494
    Interest                             1,290,441     1,659,897        134,341
    Administration and other               357,133       368,309        303,311
                                      ------------  ------------   ------------

         Total Expenses                 10,444,463    13,140,299     31,031,094
                                      ------------  ------------   ------------

NET INCOME (LOSS)                     $  3,456,655  $  4,469,336   $(14,708,486)
                                      ============  ============   ============

NET INCOME ALLOCATED TO
    THE GENERAL PARTNER               $  1,849,258  $     44,693   $  1,602,730
                                      ============  ============   ============

NET INCOME (LOSS) ALLOCATED
    TO LIMITED PARTNERS               $  1,607,397  $  4,424,643   $(16,311,216)
                                      ============  ============   ============

NET INCOME (LOSS) PER LIMITED
    PARTNERSHIP UNIT                  $       3.22  $       8.85   $     (32.62)
                                      ============  ============   ============

        The accompanying notes are an integral part of these statements.

                                       25
<PAGE>

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership

              STATEMENTS OF CHANGES IN PARTNERS' CAPITAL (DEFICIT)

              FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996

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

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

  Net income                             44,693       4,424,643       4,469,336

  Cash distributions to partners     (1,594,435)    (14,349,914)    (15,944,349)
                                  -------------   -------------   -------------

Balance, December 31, 1997        $  (3,030,600)  $  63,771,296   $  60,740,696

  Net income                          1,849,258       1,607,397       3,456,655

  Capital redemptions                      --            (3,072)         (3,072)

  Cash distributions to partners     (2,074,888)    (18,673,991)    (20,748,879)
                                  -------------   -------------   -------------

Balance, December 31, 1998        $  (3,256,230)  $  46,701,630   $  43,445,400
                                  =============   =============   =============

        The accompanying notes are an integral part of these statements.


                                       26
<PAGE>

                                 POLARIS AIRCRAFT INCOME FUND II,
                                 A California Limited Partnership

                                     STATEMENTS OF CASH FLOWS

                       FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996

<TABLE>
<CAPTION>

                                                          1998           1997           1996
                                                          ----           ----           ----
<S>                                                  <C>            <C>            <C>
OPERATING ACTIVITIES:
  Net income (loss)                                  $  3,456,655   $  4,469,336   $(14,708,486)
  Adjustments to reconcile net income (loss) to
     net cash provided by operating activities:
     Depreciation                                       7,729,294     10,435,053     29,470,353
     Provision for credit losses                             --             --          192,917
     Loss on sale of aircraft                                --           26,079           --
     Gain on sale of aircraft inventory                  (133,285)      (101,501)          --
     Changes in operating assets and liabilities:
       Decrease in marketable securities, trading            --             --        2,356,506
       Increase in rent and other receivables              (5,934)      (929,403)      (101,959)
       Decrease (increase) in other assets                  1,779        110,444        (87,245)
       Increase (decrease) in payable to affiliates        12,362         76,130        (25,880)
       Increase in accounts payable and
          accrued liabilities                             138,615         42,619        122,425
       Decrease in security deposits                      (50,000)       (66,000)      (334,000)
       Increase (decrease) in maintenance reserves           --           (6,453)        44,343
       Increase (decrease) in deferred income           1,697,298         29,745        (44,827)
                                                     ------------   ------------   ------------

          Net cash provided by operating activities    12,846,784     14,086,049     16,884,147
                                                     ------------   ------------   ------------

INVESTING ACTIVITIES:
  Proceeds from sale of aircraft                             --        2,519,495           --
  Increase in aircraft capitalized costs                     --       (4,784,633)   (17,516,722)
  Principal payments on notes receivable                     --       12,798,106      1,963,561
  Payments to Purchaser related to sale of aircraft          --       (1,001,067)          --
  Net proceeds from sale of aircraft inventory            133,285        214,749        260,235
                                                     ------------   ------------   ------------

          Net cash provided by (used in)
            investing activities                          133,285      9,746,650    (15,292,926)
                                                     ------------   ------------   ------------

FINANCING ACTIVITIES:
  Increase in note payable                                   --        3,884,633     14,216,722
  Principal payments on notes payable                  (4,587,519)    (2,410,302)       (23,544)
  Capital redemptions                                      (3,072)          --             --
  Cash distributions to partners                      (20,748,879)   (15,944,349)   (19,444,328)
                                                     ------------   ------------   ------------

          Net cash used in financing activities       (25,339,470)   (14,470,018)    (5,251,150)
                                                     ------------   ------------   ------------

CHANGES IN CASH AND CASH
  EQUIVALENTS                                         (12,359,401)     9,362,681     (3,659,929)

CASH AND CASH EQUIVALENTS AT
  BEGINNING OF YEAR                                    31,587,494     22,224,813     25,884,742
                                                     ------------   ------------   ------------

CASH AND CASH EQUIVALENTS AT
  END OF YEAR                                        $ 19,228,093   $ 31,587,494   $ 22,224,813
                                                     ============   ============   ============
</TABLE>
        The accompanying notes are an integral part of these statements.

                                       27
<PAGE>

                        POLARIS AIRCRAFT INCOME FUND II,
                        A California Limited Partnership

                          NOTES TO FINANCIAL STATEMENTS

                                DECEMBER 31, 1998


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  (GAAP) requires  management to make
estimates and assumptions that affect reported amounts and related  disclosures.
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 7).

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. 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 will be 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.  The
remaining book value of the inventory was recovered in 1997.  Proceeds in excess
of inventory net book value were recorded as revenue when received.

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

                                       28
<PAGE>

Maintenance  Reserves - The Partnership  received  maintenance  reserve payments
from certain of its lessees that were to 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  were  recognized  when  received  and  balances
remaining at the  termination of the lease, if any, were 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),  allocated in accordance with the Partnership Agreement,  and the number
of units  outstanding  of  499,973,  499,997  and  499,997  for the years  ended
December 31, 1998, 1997 and 1996, respectively.

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 9. The  Partnership  recognizes
revenue on impaired notes and receivables only as payments are received.


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.  During January 1998, 24 units
were redeemed by the  Partnership  in accordance  with section 18 of the Limited
Partnership   agreement.   At  December  31,  1998,  there  were  499,973  units
outstanding, net of redemptions.

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).
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 Notes 12 and 13.


3.    Aircraft

At December 31, 1998,  Polaris Aircraft Income Fund II (the Partnership) owned a
portfolio  of 14 used  commercial  jet aircraft  and spare parts  inventory  (as
discussed  in Note 9) out of its original  portfolio of 30 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 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

                                       29
<PAGE>

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, 1998 in greater detail:

                                                                  Year of
Aircraft Type                                  Serial Number    Manufacture
-------------                                  -------------    -----------
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                          47135           1968
McDonnell Douglas DC-9-30                          47137           1968
McDonnell Douglas DC-9-30                          47174           1968
McDonnell Douglas DC-9-30                          47249           1968
McDonnell Douglas DC-9-30                          47251           1968
McDonnell Douglas DC-9-30                          47324           1969
McDonnell Douglas DC-9-30                          47343           1969
McDonnell Douglas DC-9-30                          47345           1969
McDonnell Douglas DC-9-30                          47357           1969
McDonnell Douglas DC-9-30                          47411           1969
McDonnell Douglas DC-9-30                          47412           1969

14 McDonnell Douglas DC-9-30 - Initially there were 17 McDonnell Douglas DC-9-30
and one McDonnell  Douglas DC-9-40 which 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 7.
Two of the aircraft had a lease  expiration  date of February 1998 and two other
aircraft had a lease  expiration date of November 1998. These four aircraft were
sold to Triton  Aviation  Services II LLC in June 1997,  as discussed in Note 4.
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.

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

              Year                                  Amount
              ----                                  ------
              1999                               $14,280,000
              2000                                14,280,000
              2001                                14,280,000
              2002                                10,655,000
              2003 and thereafter                 19,020,000
                                                 -----------

              Total                              $72,515,000
                                                 ===========

Future  minimum  rental  payments  may be offset or reduced  by future  costs as
described above and in Note 7.

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.

                                       30
<PAGE>


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 an impairment loss on aircraft to be held and used by
the Partnership  aggregating  approximately $17.0 million, or $33.97 per Limited
Partnership unit, as increased depreciation expense 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 4, 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.  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  General  Partner  evaluates,  from  time to time,  whether  the  investment
objectives  of the  Partnership  are  better  served by  continuing  to hold the
Partnership's  remaining  portfolio of Aircraft or marketing  such  Aircraft for
sale. This evaluation  takes into account the current and potential  earnings of
the  Aircraft,  the  conditions  in the  markets  for lease and sale and  future
outlook  for such  markets,  and the tax  consequences  of selling  rather  than
continuing to lease the Aircraft.  The General Partner has had discussions  with
third  parties  regarding  the  possibility  of  selling  some  or all of  these
Aircraft. While such discussions may continue, and similar discussions may occur
again in the future,  there is no assurance that such discussions will result in
the Partnership  receiving a purchase offer for all or any of the Aircraft which
the General Partner would regard as acceptable.


4.       Sale of Aircraft

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.(American  Aircarriers) on an "as-is,  where-is" basis for $660,000 cash. In
addition, the Partnership retained maintenance reserves from the previous lessee
of $217,075,  that had been held by the  Partnership,  which were  recognized as
additional sale proceeds.  A net loss of $26,079 was recorded on the sale of the
aircraft.

Sale  of  Aircraft  to  Triton  - On  May  28,  1997,  PIMC,  on  behalf  of the
Partnership,  executed  definitive  documentation  for the  purchase of 7 of the
Partnership's  21 remaining  aircraft (the  "Aircraft") and certain of its notes
receivables by Triton  Aviation  Services II LLC, a special purpose company (the
"Purchaser"  or  "Triton").  The  closings  for the  purchase  of the 7 Aircraft
occurred from May 28, 1997 to June 16, 1997.  The Purchaser is managed by Triton
Aviation Services,  Ltd. ("Triton Aviation" or the "Manager"),  a privately held

                                       31
<PAGE>

aircraft leasing company which was formed in 1996 by Triton Investments, Ltd., a
company  which has been in the marine cargo  container  leasing  business for 17
years and is diversifying  its portfolio by leasing  commercial  aircraft.  Each
Aircraft was sold subject to the existing leases.

The Terms of the Transaction - The total contract  purchase price (the "Purchase
Price") to the Purchaser was $13,988,000 which was allocated to the Aircraft and
to certain notes  receivable  by the  Partnership.  The  Purchaser  paid into an
escrow account  $1,575,888 of the Purchase Price in cash upon the closing of the
first aircraft and delivered a promissory note (the  "Promissory  Note") for the
balance of $12,412,112.  The Partnership received payment of $1,575,888 from the
escrow account on June 24, 1997. On December 30, 1997, the Partnership  received
prepayment in full of the outstanding note receivable and interest earned by the
Partnership to that date.

Under the purchase agreement,  the Purchaser purchased the Aircraft effective as
of April 1, 1997 notwithstanding the actual closing dates. The utilization of an
effective  date  facilitated  the  determination  of rent and other  allocations
between  the  parties.  The  Purchaser  had the right to receive  all income and
proceeds,  including rents and receivables,  from the Aircraft accruing from and
after April 1, 1997, and the Promissory  Note commenced  bearing  interest as of
April 1, 1997  subject to the closing of the  Aircraft.  Each  Aircraft was sold
subject to the existing leases.

Neither  PIMC nor GECAS  received  a sales  commission  in  connection  with the
transaction. In addition, PIMC was not paid a management fee with respect to the
collection of the  Promissory  Note or on any rents accruing from or after April
1, 1997 with  respect to the 7  Aircraft.  Neither  PIMC nor GECAS or any of its
affiliates  holds any  interest in Triton  Aviation or any of Triton  Aviation's
affiliates.  John Flynn, the current President of Triton Aviation, was a Polaris
executive  until  May 1996 and has over 15 years  experience  in the  commercial
aviation  industry.  At the time  Mr.  Flynn  was  employed  at PIMC,  he had no
affiliation with Triton Aviation or its affiliates.

Polaris  Aircraft  Income Fund III,  Polaris  Aircraft  Income Fund IV,  Polaris
Aircraft  Income  Fund V and  Polaris  Aircraft  Income  Fund VI have  also sold
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,  with the  exception of the
Polaris Aircraft Income Fund VI aircraft, which were sold on an all cash basis.

The  Accounting  Treatment of the  Transaction  - In accordance  with GAAP,  the
Partnership recognized rental income up until the closing date for each aircraft
which occurred from May 28, 1997 to June 16, 1997.  However,  under the terms of
the  transaction,  the Purchaser  was entitled to receive  payment of the rents,
receivables  and other  income  accruing  from April 1, 1997.  As a result,  the
Partnership  made  payments  to the  Purchaser  in  the  amount  of  the  rents,
receivables  and other income due and received from April 1, 1997 to the closing
date of $1,001,067, which is included in rent from operating leases and interest
income. For financial reporting  purposes,  the cash down payment portion of the
sales  proceeds of  $1,575,888  has been adjusted by the  following:  income and
proceeds,  including rents and  receivables  from the effective date of April 1,
1997 to the  closing  date,  interest  due on the cash  portion of the  purchase
price,  interest on the Promissory Note from the effective date of April 1, 1997
to the  closing  date and  estimated  selling  costs.  As a result of these GAAP
adjustments, the net adjusted sales price recorded by the Partnership, including
the Promissory Note, was $13,205,140.

The Aircraft sold pursuant to the definitive  documentation  executed on May 28,
1997 had been  classified  as  aircraft  held for sale from that date  until the
actual  closing  date.  Under GAAP,  aircraft held for sale are carried at their
fair market value less  estimated  costs to sell.  The  adjustment  to the sales
proceeds  described  above and revisions to estimated costs to sell the Aircraft
required the  Partnership  to record an adjustment to the net carrying  value of
the  aircraft  held for sale of $749,373  during the three months ended June 30,
1997. This adjustment to the net carrying value of the aircraft held for sale is
included  in  depreciation  and   amortization   expense  on  the  statement  of
operations.

                                       32
<PAGE>

5.       Ron Wallace Litigation Settlement

Ron Wallace v. Polaris Investment Management  Corporation,  et al. - On or about
June 18,  1997,  a  purported  class  action  entitled  Ron  Wallace v.  Polaris
Investment Management Corporation, et al. was filed on behalf of the unitholders
of Polaris  Aircraft  Income  Funds II through VI in the  Superior  Court of the
State of  California,  County of San  Francisco.  The  complaint  names  each of
Polaris Investment Management  Corporation (PIMC), GE Capital Aviation Services,
Inc.  (GECAS),  Polaris Aircraft Leasing  Corporation,  Polaris Holding Company,
General Electric Capital  Corporation,  certain executives of PIMC and GECAS and
John E. Flynn, a former PIMC  executive,  as defendants.  The complaint  alleges
that defendants committed a breach of their fiduciary duties with respect to the
Sale  Transaction  involving the  Partnership  as described in Note 4, under the
caption  "Sale of Aircraft -- Sale of Aircraft to Triton." On September 2, 1997,
an amended complaint was filed adding additional plaintiffs, and on December 18,
1997, the plaintiffs  filed a second amended  complaint  asserting  their claims
derivatively.

On November 9, 1998,  defendants,  acting through their counsel,  entered into a
settlement agreement with plaintiffs and with the plaintiff in a related action,
"Accelerated"  High Yield  Income  Fund II,  Ltd.,  L.P. v.  Polaris  Investment
Management Corporation, et al. The settlement agreement does not provide for any
payments to be made to the Partnership. Plaintiff's counsel sought reimbursement
from the Partnership for its attorneys' fees and expenses.  A settlement  notice
setting forth the terms of the  settlement  was mailed to the last known address
of each  unitholder  of the  Partnership  on November 20, 1998.  On December 24,
1998, the Court  approved the terms of the  settlement and approved  plaintiffs'
attorney's  fees and  expenses in the amount of  $438,766,  which is included in
operating expenses.


6.       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  received  the  proceeds  from the sale of such  parts,  net of
necessary overhaul expenses,  and commissions paid to Soundair.  The Partnership
received net proceeds from the sale of aircraft inventory of $133,285 (including
the proceeds discussed below), $214,749 and $260,234 during 1998, 1997 and 1996,
respectively.  The net book value of the  Partnership's  aircraft  inventory was
reduced to zero during 1997. Payments received by the Partnership of $101,501 in
excess of the aircraft inventory net book value were recorded as gain on sale of
aircraft inventory during 1997.

The  Partnership  sold its  remaining  inventory of aircraft  parts from the six
disassembled  aircraft,  to Soundair,  Inc. The remaining inventory,  with a net
carrying value of $-0-, was sold  effective  February 1, 1998 for $90,000,  less
amounts previously received for sales as of that date. The net purchase price of
$85,080, was paid in September 1998, and is included in gain on sale of aircraft
inventory.


7.       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 ADs after TWA successfully reorganized.
Pursuant  to  this   cost-sharing   agreement,   since  TWA  emerged   from  its
reorganization  proceedings  in 1993,  expenses  totaling $6.6 million have been
offset against rental  payments or credited to other amounts due from TWA. Under
the terms of this  agreement,  TWA may offset up to an  additional  $1.7 million
against rental payments, subject to annual limitations, over the remaining lease
terms.

                                       33
<PAGE>


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 were 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.

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.

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 was  $2,356,505,  which was  determined  based on
quoted  market  prices.  The  Partnership  sold the TWA Common Stock in February
1996, net of broker commissions, for $2,406,479 and recognized a gain on trading
securities of $49,974 in 1996.


8.       TWA Lease Extension

GECAS, on behalf of the Partnership,  negotiated with TWA for the acquisition of
noise-suppression  devices, commonly known as "hushkits", for the 14 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 3 of the  Partnership's  aircraft  during  1997 and the leases for
these 3 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

                                       34
<PAGE>

aggregate  hushkit  cost and the  balance of  $14,216,722  was  financed  by the
hushkit manufacturer over 50 months at an interest rate of approximately 10% per
annum.

The aggregate cost of the hushkit reconditioning  completed in February 1997 for
the 3 remaining  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 UT Finance  Corporation (UT Finance),  a wholly owned  subsidiary of
United Technologies Corporation, of which a division is Pratt and Whitney Group,
the hushkit  manufacturer,  over 50 months 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 loans from the
hushkit  manufacturer  are  non-recourse  to the  Partnership  and  secured by a
security  interest in the lease  receivables.  Cash paid for interest expense on
the  loans was  $1,292,480,  $1,551,093  and  $236,848  in 1998,  1997 and 1996,
respectively.


9.       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
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 and filed a claim  against  the bond.  FSB filed a motion for  summary
judgment on all claims raised by the claimants in the counterclaim. The Superior
Court granted the motion and entered judgment on October 30,1998  dismissing the
counterclaim  and exonerating the bond. The Court has stayed  exoneration of the
bond  pending  appeal by the  claimants.  The Court has  denied  the  claimants'
subsequent  motion for a new trial seeking  reconsideration.  FSB filed a motion
seeking  recovery of its  attorneys'  fees and costs  incurred in defending  the

                                       35
<PAGE>

litigation,  and the Court  set a  hearing  on the  motion  for  March 8,  1999.
Subsequently,  FSB and the  claimants  agreed to settle this claim for an agreed
judgement of  $159,374.51  in attorney's  fees to be paid to FSB. The settlement
agreement is subject to approval by the Court.  The  claimants are appealing the
Court's rulings.

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.

A  consignment  agreement  has been  entered  into  with a sales  agent  for the
disposal of the spare parts inventory  recovered from Viscount.  Given that many
of the  parts  require  repair/overhaul,  the cost of  which  is not  accurately
determinable in advance,  and the inherent  uncertainty of sales prices for used
spare parts, there remains uncertainty as to whether the Partnership will derive
further proceeds from the sale of this inventory.

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 an allowance for credit losses of $100,409 in 1996, 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 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 4, 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 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  had

                                       36
<PAGE>

accrued legal costs of approximately $116,000,  $107,000 and $147,000, which are
reflected  in  operating  expense  in the  Partnership's  1998,  1997  and  1996
statement of  operations,  respectively.  In 1998, the  Partnership  revised its
estimate of legal costs and reduced the accrual for legal costs by $68,753.


10.      ALG Default and Restructuring

In 1995, ALG paid to the Partnership $19,138 of the $897,932 balloon payment due
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. ALG paid the note in
full during 1996.


11.      Claims Related to Lessee Defaults

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 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.

Braniff,  Inc.  (Braniff)  Bankruptcy - As previously  reported,  the Bankruptcy
Court  disposed of the  Partnership's  claim in this  Bankruptcy  proceeding  by
permitting  the  Partnership  to exchange a portion of its  unsecured  claim for
Braniff's right (commonly referred to as a "Stage 2 Base Level right") under the
Federal  Aviation  Administration  noise  regulations  to  operate  one  Stage 2
aircraft and by allowing the  Partnership  a net  remaining  unsecured  claim of
$769,231 in the proceedings.

Braniff's bankrupt estate made a payment in the amount of $200,000 in respect of
the  unsecured  claims  of the  Partnership  and  other  affiliates  of  Polaris
Investment Management Corporation.  Of this amount, $15,385 was allocated to the
Partnership  based on its pro rata share of the total claims and was  recognized
as revenue  during the  quarter  ended  March 31,  1998.  On January  20,  1999,
Braniff's bankrupt estate made an additional payment in the amount of $84,000 in
respect of the  unsecured  claims of the  Partnership  and other  affiliates  of
Polaris Investment Management  Corporation.  Of this amount $6,462 was allocated
to the Partnership  based on its pro rata share of the total claims. As a result
of these  payments,  $21,847  was  recognized  as revenue  during  1998,  and is
included in claims related to lessee defaults.


12.      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:

                                       37
<PAGE>


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 1998, 1997 and 1996, the  Partnership  paid management fees to
         PIMC of $420,000, $440,295, and $652,417, respectively. Management fees
         payable to PIMC at December 31, 1998 and 1997 were $142,798 and $76,330
         respectively.

b.       Reimbursement of certain out-of-pocket  expenses incurred in connection
         with the management of the  Partnership  and supervision of its assets.
         In 1998, 1997 and 1996, $377,665, $375,486, and $316,061, respectively,
         were reimbursed by the Partnership to PIMC for administrative expenses.
         Administrative  reimbursements  of $10,874 and $50,286  were payable at
         December   31,  1998  and  1997,   respectively.   Reimbursements   for
         maintenance and remarketing  costs of $483,221,  $82,633,  and $153,699
         were paid by the  Partnership  in 1998,  1997 and  1996,  respectively.
         Maintenance and remarketing  reimbursements  of $1,451 and $16,145 were
         payable at December 31, 1998 and 1997, 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. After the
         Partnership  has sold or disposed of aircraft  representing  50% of the
         total  aircraft  cost,  gains  from the sale or  other  disposition  of
         aircraft are  generally  allocated  first to the General  Partner until
         such time that the General  Partner's  capital  account is equal to the
         amount to be  distributed  to the General  Partner from the proceeds of
         such sale or disposition.

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.       In the event that, immediately prior to the dissolution and termination
         of the Partnership, the General Partner shall have a deficit balance in
         its  tax  basis  capital  account,   then  the  General  Partner  shall
         contribute in cash to the capital of the Partnership an amount which is
         equal to such deficit (see Note 13).


13.      Partners' Capital

The Partnership  Agreement (the Agreement) stipulates different methods by which
revenue,  income  and  loss  from  operations  and  gain or loss on the  sale of
aircraft  are to be allocated  to the General  Partner and the Limited  Partners
(see Note 12). Such  allocations are made using income or loss calculated  under
GAAP for book purposes,  which,  as more fully described in Note 15, varies from
income or loss calculated for tax purposes.

Cash  available  for  distributions,  including  the  proceeds  from the sale of
aircraft,  is  distributed  10% to the  General  Partner  and 90% to the Limited
Partners.

The different methods of allocating items of income, loss and cash available for
distribution  combined with the calculation of items of income and loss for book
and  tax  purposes  result  in  book  basis  capital   accounts  that  may  vary
significantly  from tax basis capital  accounts.  The ultimate  liquidation  and
distribution  of remaining cash will be based on the tax basis capital  accounts
following liquidation, in accordance with the Agreement.

                                       38
<PAGE>


Had all the assets of the  Partnership  been  liquidated at December 31, 1998 at
the current  carrying  value,  the tax basis capital  (deficit)  accounts of the
General  Partner and the Limited  Partners is  estimated  to be  $4,344,540  and
$39,100,860, respectively.


14.      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,  1998 and 1997 are as
follows:

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

1998:    Assets              $57,461,885      $63,662,817      $(6,200,932)
         Liabilities          14,016,485       11,841,104        2,175,381

1997:    Assets              $77,546,425      $84,836,496      $(7,290,071)
         Liabilities          16,805,729       16,232,563          573,166


15.      Reconciliation of Net Book Income (Loss) to Taxable Net Income (Loss)

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:

                                                For the years ended December 31,

                                                     1998     1997      1996
                                                     ----     ----      ----

Book net income (loss) per Limited Partnership
   unit                                             $ 3.22  $  8.85   $(32.62)
Adjustments for tax purposes represent 
   differences between book and tax revenue 
   and expenses:
     Rental and maintenance reserve revenue
       recognition                                    3.36    (1.18)     0.03
     Management fee expense                           (.19)    0.06      0.03
     Depreciation                                    (2.16)  (11.31)    30.16
     Gain or loss on sale of aircraft                  --     (0.02)    (0.19)
     Basis in inventory                                --     (0.07)    (0.08)
     Other revenue and expense items                 (0.04)   (0.01)    (0.16)
                                                    ------  -------   -------

Taxable net income (loss) per Limited 
   Partnership unit                                 $ 4.19  $ (3.68)  $ (2.83)
                                                    ======  =======   =======

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.

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.

                                       39
<PAGE>


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 tax depreciation expense is
greater than the book  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.


16.      Subsequent Events

The Partnership made a cash distribution,  to Limited Partners, of $2,574,861 or
$5.15 per Limited  Partnership  unit,  and  $286,096  to the General  Partner on
January 15, 1999.


                                       40
<PAGE>


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

None.


                                       41
<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.  (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, GECAS and PIMC are affiliates.

The officers and directors of PIMC are:

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

         Eric M. Dull                          President; Director
         Marc A. Meiches                       Chief Financial Officer
         Barbara Macholl                       Director
         Norman C. T. Liu                      Vice President; Director
         Ray Warman                            Secretary
         Robert W. Dillon                      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,  38,  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 - Risk
and  Portfolio  Management  of GECAS,  having  previously  held the positions of
Executive  Vice  President - Portfolio  Management  and 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,  46,  assumed  the  position  of Chief  Financial  Officer of PIMC
effective October 9, 1995. Previously, he held the position of Vice President of
PIMC  from  October  1995 to  October  1997.  Mr.  Meiches  presently  holds the
positions of Executive Vice President and Chief Financial and Operating  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.

Ms. Macholl, 45, assumed the position of Director of PIMC effective February 27,
1999.  Ms.  Macholl  presently  holds the  position  of Senior  Vice  President,
Marketing  Finance for GECAS.  Prior to joining GECAS, Ms. Macholl has been with
the General Electric  Company (GE) and its subsidiaries  since 1977. Ms. Macholl
previously  held the position of Vice President  Finance for CBSI Inc., a wholly
owned  subsidiary of the General  Electric  Company.  Ms.  Macholl has also held
various financial management positions for the GE Lighting business.

                                       42
<PAGE>


Mr. Liu, 41,  assumed the position of Vice  President of PIMC  effective  May 1,
1995 and Director of PIMC effective  July 31, 1995. 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. Warman,  50,  assumed the position of Secretary of PIMC effective  March 23,
1998.  Mr.  Warman has served as a GECAS  Senior Vice  President  and  Associate
General  Counsel since March 1996, and for 13 years  theretofore  was a partner,
with an air-finance  and corporate  practice of the national law firm of Morgan,
Lewis & Bockius LLP.

Mr.  Dillon,  57,  held the  position  of Vice  President  - Aviation  Legal and
Insurance  Affairs,  from April 1989 to October 1997.  Previously,  he served as
General Counsel of PIMC and PALC effective January 1986. Effective July 1, 1994,
Mr.  Dillon  assumed the position of Assistant  Secretary  of PIMC.  Mr.  Dillon
presently  holds the position of Senior Vice  President and Managing  Counsel of
GECAS.

Certain Legal Proceedings:

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.   The
Partnership  is not named as a defendant in this action.  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.  Plaintiffs
seek rescission or damages, in addition to interest, costs, and attorneys' fees.
On May 7, 1993,  the court granted the  defendants'  motion to stay this action,
and subsequently this suit was dismissed.

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.  The Partnership is not
named as a defendant in this action. 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.

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.  The Partnership is not named
as a defendant  in this  action.  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.

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

                                       43
<PAGE>

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. The  Partnership is not named as a
defendant in this action.  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.

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.  The  Partnership  is not  named  as a  defendant  in this  action.
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.

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.  The Partnership is
not named as a  defendant  in this  action.  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.

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
adding as additional  defendants  General  Electric Company and General Electric
Capital Corporation. The Partnership is not named as a defendant in this action.
Plaintiff alleges claims of tort, breach of fiduciary duty in tort, contract and
quasi-contract, violation of section 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.

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.  The Partnership is
not named as a  defendant  in this  action.  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.

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.  The  Partnership  is not  named  as a  defendant  in this  action.

                                       44
<PAGE>

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.

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.  The  Partnership  is not  named  as a  defendant  in this  action.
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.

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.
The  Partnership is not named as a defendant in this action.  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.

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.


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  $420,000  were  paid to  PIMC  in 1998 in  addition  to a 10%
interest in all cash  distributions  as  described  in Note 12 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            of all cash distributions,  
         Interest   Corporation           gross income 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.

                                       45
<PAGE>

Item 13. Certain Relationships and Related Transactions

None.


                                       46
<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                23
                  Balance Sheets                                          24
                  Statements of Operations                                25
                  Statements of Changes in Partners' Capital (Deficit)    26
                  Statements of Cash Flows                                27
                  Notes to Financial Statements                           28

2.       Reports on Form 8-K.

         No reports on Form 8-K were filed during the quarter ended December 31,
         1998.

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

         27. Financial Data Schedule (in electronic format only).

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.



                                       47
<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 24, 1999                   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       March 24, 1999
    ---------------       Investment Management Corporation,      --------------
    (Eric M. Dull)        General Partner of the Registrant

    /S/Marc A. Meiches    Chief Financial Officer of Polaris      March 24, 1999
    ------------------    Investment Management Corporation,      --------------
    (Marc A. Meiches)     General Partner of the Registrant

    /S/Barbara Macholl    Director of Polaris Investment          March 24, 1999
    -------------------   Management Corporation, General         --------------
    (Barbara Macholl)     Partner of the Registrant

    /S/Norman C. T. Liu   Vice President and Director of          March 24, 1999
    -------------------   Polaris Investment Management           --------------
    (Norman C. T. Liu)    Corporation, General Partner 
                          of the Registrant


                                       48