<PAGE>   1

                       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 annual period 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 Number 0-14956


                          VMS National Hotel Partners
--------------------------------------------------------------------------------
             (Exact name of registrant as specified in its charter)


               Illinois                                         36-3370590
---------------------------------------------             ----------------------
(State or other jurisdiction of incorporation                (I.R.S. Employer
or organization)                                          Identification Number)

                                                   
                                                   
                                                   
                                                   



630 Dundee Road, Suite 220, Northbrook, Illinois                    60062
------------------------------------------------                  ----------
(Address of principal executive offices)                          (Zip Code)
                                             

                                 (847)714-9600
              ----------------------------------------------------
              (Registrant's telephone number, including area code)


Securities registered pursuant to Section 12(b) of the Act:

                                                           Name of each exchange
Title of each class                                         on which registered
-------------------                                        ---------------------

      None                                                        None
      ----                                                        ----

Securities registered pursuant to Section 12(g) of the Act:

                         Limited Partnership Interests
                         -----------------------------
                                (Title of Class)

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 (Section 229.405 of this chapter) is not contained herein, and
will not be contained, to the best of the 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]







<PAGE>   2

                               TABLE OF CONTENTS




                                                                         Page
                                     PART I


Item 1    Business                                                         3-5
Item 2    Properties                                                         5
Item 3    Legal Proceedings                                                5-7
Item 4    Submission of Matters to a Vote
           of Security Holders                                               7



                                    PART II


Item 5    Market for the Partnerships' Limited Partnership
           Interests and Related Security Holder Matters                     8
Item 6    Selected Financial Data                                            9
Item 7    Management's Discussion and Analysis of Financial
           Condition and Results of Operations                           10-12
Item 8    Financial Statements and Supplementary Data                       12
Item 9    Changes in and Disagreements with Accountants
           on Accounting and Financial Disclosure                           12


                                    PART III


Item 10   Directors and Executive Officers                               13-16
Item 11   Executive Compensation                                         16-17
Item 12   Security Ownership of Certain Beneficial
           Owners and Management                                            17
Item 13   Certain Relationships and Related Transactions                 17-18


                                    PART IV


Item 14   Exhibits, Financial Statement Schedules, and
           Reports on Form 8-K                                              19

SIGNATURES                                                               20-21







<PAGE>   3

                                     PART I

Item 1  Business
----------------

General
-------

VMS National Hotel Portfolio I ("Partnership I") and VMS National Hotel
Portfolio II ("Partnership II") are limited partnerships formed November 1, 1985
under the Uniform Limited Partnership Act of the state of Illinois.
Collectively, Partnership I and Partnership II are referred to as the
"Partnerships".

The Partnerships were formed to purchase a combined 99.9% interest in VMS
National Hotel Partners (the "Operating Partnership"), an Illinois general
Partnership formed in October, 1985.  The term of the Operating Partnership
shall continue until December 31, 2035 unless sooner terminated; the term of
each of the Partnerships shall continue until December 31, 2035 unless sooner
terminated.  The Operating Partnership was formed to acquire, own, operate and
dispose of up to 28 separate Holiday Inn hotels throughout the United States
(collectively, the "Hotels").  Only 24 hotels were purchased; no further
purchases of hotels will be made by the Operating Partnership.  The Operating
Partnership conveyed ownership interest in certain of the Hotels to separate
partnerships so that each owns and operates a separate Hotel (collectively, the
"Sub-Partnerships")  (as used herein, the term "Operating Partnership " includes
the Sub-Partnerships where the context requires).  The general partners of the
Operating Partnership, in addition to the Partnerships, are VMS Realty
Investment, Ltd., an Illinois limited partnership and VMS Realty, Inc., an
Illinois corporation (all of the capital stock of which is owned by VMS Realty
Partners).  The Operating Partnership is the Managing General Partner of each of
the Sub-Partnerships and has at least a 99% general partnership interest in each
such Sub-Partnerships.  Various other affiliates of the Managing General Partner
are minority general partners of, and own the remaining general partnership
interests in each such Sub-Partnerships.   During 1995, 1994, 1993 and 1992,
nine (one in 1995, two in 1994, two in 1993 and four in 1992) of the hotels were
sold.   On May 10, 1996, the Operating Partnership and affiliated
sub-partnerships filed petitions for relief under Chapter 11 of the federal
bankruptcy laws in the United States Bankruptcy Court for the Northern District
of Illinois.  This filing excludes Partnership I and Partnership II.  Pursuant
to the Plan of Reorganization, the deeds to the remaining hotels were
transferred to the senior lender on September 26, 1996 in consideration for the
cancellation of the senior indebtedness (the "Transfer"). For further
information relating to the Transfer and the financing arrangements of the
properties, see Notes 1 and 5 to the combined financial statements.

The Managing General Partner of each of the Partnerships is VMS Realty
Investment, Ltd., an Illinois limited partnership (the "Managing General
Partner").  Effective January 1, 1987 Morris/Stone Associates assigned its
ownership in the Partnerships to VMS Realty Investment, Ltd.  Prudential-Bache
Properties, Inc. is also a general partner of Partnership I (the "Minority
General Partner").

As described in Section 4 of the Amended and Restated Agreement of General
Partnership of VMS National Hotel Partners, dated November 1, 1985 (the
"Operating Partnership Agreement"), the Operating Partnership was formed to
engage in no business other than the ownership, operation, lease and sale of all
the Hotels which it had already purchased.  Section 15 of the Operating
Partnership Agreement provides that upon the sale of all or substantially all of
the assets of the Operating Partnership, the Operating Partnership will be
dissolved.  Proceeds received by the Operating Partnership from the sale or
refinancing of any or all of the Hotels shall be distributed to Partnership I
and Partnership II in accordance with the participating interest of each such





                                     - 3 -
<PAGE>   4


Item 1 Business (continued)
---------------

partnership in the Operating Partnership; none of such proceeds will be
reinvested by the Operating Partnership in additional Hotels or other assets.

Collectively, the limited partnership interests of the Partnerships are referred
to as the "Units".  Partnership I offered and sold 514 Units of limited
partnership interests at a price of $150,000 per limited partnership interest.
The 514 Units represent total equity of $77,100,000 sold through
Prudential-Bache Securities, Inc.  In 1985, Partnership II offered and sold 135
Units of limited partnership interests at a price of $150,000 per limited
partnership interest.  The 135 Units represent total equity of $20,250,000 sold
through VMS Securities, Inc., an affiliate of the Managing General Partner of
each of the Partnerships.  Since the Operating Partnership had originally
intended to purchase 28 Hotels and only 24 Hotels were purchased, each Limited
Partner was rebated $15,000 per Unit, payable over 5 years, reflecting the
reduced total purchase price of all Hotels purchased by the Operating
Partnership.

Each of the Partnerships used the net offering proceeds of their respective
offerings to make required contributions to the Operating Partnership and pay
for offering, financing and acquisition costs and commissions and the Managing
General Partner's fees.  The participation interests in the Operating
Partnership of Partnership I and Partnership II are approximately 79.12% and
20.78%, respectively.

The Partnerships have no employees at December 31, 1998.

Recent Developments - Partnerships
----------------------------------

During 1995, the Partnerships sold the Milwaukee West Quality Inn.  As a result
of this sale, the Partnerships received $36,000 towards repayment of the Closing
Payment and $1,582,967 in principal was repaid on the senior debt.  In
connection with this sale, the Partnerships recorded a provision for loss on
property and improvements of $886,000 in 1994 and a loss on sale of property and
improvements of $510,012 in 1995.

On May 10, 1996, the Operating Partnership and affiliated sub-partnerships filed
petitions for relief under Chapter 11 of the federal bankruptcy laws in the
United States Bankruptcy Court for the Northern District of Illinois.  This
filing excludes Partnership I and Partnership II.  Pursuant to the Plan of
Reorganization, the deeds to the remaining hotels were transferred to the senior
lender on September 26, 1996 in consideration for the cancellation of the senior
indebtedness.

As a result of the Transfer, the Operating Partnership recognized an
extraordinary gain of $214,542,473 for financial reporting purposes, which
represents the excess of the remaining senior debt, related accrued interest,
other operating liabilities and net cash received by the Operating Partnership
of $810,160 (in conjunction with this transfer, the Operating Partnership
received amounts in lieu of sales advisory fees totaling $1,025,000 from the
senior lender, net of $214,840 of operating cash transferred to the senior
lender), over the carrying value of the property and improvements and operating
assets transferred.  In addition, the Operating Partnership recognized an
extraordinary gain of $47,013,597 from the cancellation of the junior mortgage
indebtedness pursuant to the Plan of Reorganization.

The combined financial statements of the Operating Partnership reflect the
financial reporting guidance prescribed by the AICPA Statement of Position 90-7,
"Financial Reporting by Entities in Reorganization Under the Bankruptcy Code",
which was adopted by the Operating Partnership for the period from May 10, 1996
to September 26, 1996.





                                     - 4 -

<PAGE>   5



Item 3 Legal Proceedings (continued)
------------------------

Items of income or expense that were realized or incurred as a result of the
reorganization are included in the Combined Statement of Operations as
reorganization items.  During 1996  $410,000 was paid for professional,
consulting and other fees for the administration of Chapter 11 proceedings.

In the short term, the Partnerships will continue to maintain a cash reserve for
the payment of the remaining Partnerships' obligations and contingent
liabilities.  In the long term, the Partnerships will wind-up their affairs and
will distribute any remaining Partnerships' funds to their Limited Partners
after paying all Partnerships' expenses and the Partnerships will be dissolved
at that time.  It is anticipated that the Partnerships will be dissolved
sometime in 1999 or early 2000.

Item 2 Properties
-----------------

During 1995, 1994, 1993 and 1992, a total of nine of the original portfolio of
twenty-four hotels were sold and on May 10, 1996, the Operating Partnership and
affiliated sub-partnerships filed petitions for relief under Chapter 11 of the
federal bankruptcy laws in the United States Bankruptcy Court for the Northern
District of Illinois.  This filing excludes Partnership I and Partnership II.
Pursuant to the Plan of Reorganization, the deeds to the remaining hotels were
transferred to the senior lender on September 26, 1996 in consideration for the
cancellation of the senior indebtedness.  For further information related to
these sales and the Transfer, see Item 1. Business.

Item 3 Legal Proceedings
------------------------

As disclosed in the prior reports on Form 10-Q or Form 10-K ("Prior Public
Filings"), the Partnerships including the General Partners, VMS Realty Partners
L.P., certain officers and directors of VMS Realty Partners L.P., and certain
other affiliates of the Partnerships are parties to certain pending legal
proceedings (other than litigation matters covered by insurance policies).  The
adverse outcome of certain of the legal proceedings disclosed in this Report and
the Prior Public Filings could have a materially adverse effect on the present
and future operations of the Partnerships.

Summarized below are certain developments in legal proceedings filed against VMS
Realty Partners, now known as VMS Realty Partners L.P. and its affiliates which
were disclosed in the Prior Public Filings.  The inclusion in this Report of any
legal proceeding or developments in any legal proceeding is not intended as a
representation by the Partnership that such particular proceeding is material.
For those actions summarized below in which the plaintiffs are seeking damages,
the amount of damages being sought is an amount to be proven at trial unless
otherwise specified.  There can be no assurance as to the outcome of any of the
legal proceedings summarized in this Report or in Prior Public Filings.

1. CIGNA Claims
---------------

One of the non-settling defendants, CIGNA Securities, Inc. ("CIGNA"), has
asserted claims against VMS Realty Partners, now known as VMS Realty Partners,
L.P. and its affiliated entities for contribution and indemnification in cases
in which CIGNA is a defendant.

CIGNA subsequently entered into a class-action settlement agreement with a class
of investors in the consolidated actions who had purchased their interest from
CIGNA.  As previously reported, on May 19, 1993, CIGNA and VMS executed a mutual
release, effective when the CIGNA class-action settlement is effective. The
CIGNA class action settlement is now effective and, pursuant





                                     - 5 -
<PAGE>   6


Item 3 Legal Proceedings (continued)
------------------------

to the terms of the mutual release, CIGNA settling parties released the VMS
released persons of and from all claims and liabilities relating to or arising
out of the released claims in the VMS class-action settlement, including
contractual claims for indemnification.  In exchange, the VMS settling parties
released the CIGNA released persons of and from all claims and liabilities
relating to or arising out of the released claims in the VMS class-action
settlement, including contractual claims for indemnification.  However, the
settling parties expressly reserved all common law and contractual claims for
contribution and/or indemnification arising out of or relating to claims brought
by investors who opted out of both the VMS and CIGNA settlements, except to the
extent such claims are barred by; (1) Section 4.02(A) of the VMS settlement
agreement and the court's July 15, 1991 order approving the VMS class-action
settlement agreement, or (2) Section 4.2(A) of the CIGNA class-action settlement
agreement and any court order approving the CIGNA settlement agreement.  In
addition, now that the CIGNA class-action settlement agreement is effective,
CIGNA's claims pending in the consolidated actions have been dismissed, except
the Corkery action which is brought by opt-outs from both settlement agreements.

Paul J. Corkery; Ronnie Rone; Max C. Jordan; F.J. Vollmer; Paula Boedeker;
Norbert Braeuer; Dales Y. Foster; Billy J. Harris; Bob White; Gordon Flesch;
Travis Barton, Jr.; Satish A. Dhaget; Varsha S. Dhaget; Alan J. Young; Dennis J.
Cavanaugh; F. Jim Slater; Lois W. Rosebrook, Trustee; Sundaram V. Ramanan;
Chitraleka Ramanan; Jeffrey A. Matz; Charles C. Voorhis III; Gerald C. Miller;
Prince George's Orthopedic Associates, P.A.; John A. Martinez; Tom Rubattino;
Susan Rubattino; Harold W. Stark and William C. Riedesel v. VMS Realty Partners;
United States Fidelity and Guaranty Company; CIGNA Securities, Inc.; Boettcher &
Company, Inc.; and A.G. Edwards & Sons, Inc., CA. No. Ca 4-90 087-E (U.S.
District Court, N.D. Texas), filed February 5, 1990, removed to 90 C 3841,
United States District Court for Northern District of Illinois, Eastern
Division.  CIGNA filed a Counterclaim against plaintiffs, Cross-Claims against
VMS Realty Partners and A.G. Edwards & Sons, Inc., and a Third-Party Complaint
against LaSalle/Market Streets Associates, Ltd., Chicago Wheaton Partners, Peter
Morris, Joel Stone, Robert Van Kampen, Residential Equities, Ltd., Van Kampen
Stone, Inc., VMS Realty Management, Inc., VMS Realty, Inc., and VMS Mortgage Co.
in this action.  On December 21, 1995, the court dismissed Plaintiff's action
against the VMS entities and CIGNA Securities, Inc.

A. Other Litigation
-------------------

In re:  VMS National Hotel Partners et al., Debtor - NAHOP Partners, L.P. and
VMS National Hotel Partners, Plaintiffs,  v. Associated Business Telephone
System, Corp., Defendant, Chapter 11 Case No. 96B12185, Adv. Pro. No. 98A00150
(U.S. Bankruptcy Court for the Northern District of Illinois, Eastern Division
(the "Bankruptcy Court")).  This adversary proceeding was commenced in the
Bankruptcy Court on January 23, 1998.  VMS National Hotel Partners and
Associated Business Telephone System, Corp. ("ABTS") were parties to a certain
Zero Plus Agreement pursuant to which ABTS was to provide VMS National Hotel
Partners with certain telephone services.  VMS National Hotel Partners believes
that the Zero Plus Agreement was terminated, pursuant to the VMS National Hotel
Partners Bankruptcy Plan which was confirmed by the bankruptcy court on July 24,
1996, effective upon the transfer by VMS National Hotel Partners of its
properties to NAHOP Partners, L.P. on September 25, 1996.  ABTS subsequently
brought an action in New Jersey State Court alleging that the Zero Plus
Agreement was improperly terminated.  Although VMS National Hotel Partners is
not a party to ABTS' New Jersey state action, NAHOP Partners, L.P. has advised
VMS National Hotel Partners of the New Jersey action and stated that it was VMS
National Hotel Partners' responsibility to terminate the Zero Plus Agreement.
VMS National Hotel Partners has therefore brought this action for, among other
things, declaratory relief 




                                     - 6 -

<PAGE>   7
 

Item 3 Legal Proceedings (continued)
------------------------

in the bankruptcy court.  This action was settled and dismissed with no
financial impact to the Partnership.

The Partnerships are the subject of certain filed claims in the bankruptcy cases
totaling approximately $468,000.  The Partnerships are contesting the validity
of the claims and are hopeful that the claims will be disallowed in their
entirety. Subject to certain provisions in the Plan of Reorganization, the
Partnerships obtained an indemnity to the extent of the actual amounts of such
claims.  This indemnity does not include the costs associated with defending the
litigation.  The outcome of this litigation is uncertain.

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

The Partnerships did not submit any matter to a vote of its holders of units
during the fourth quarter of 1998.






                                     - 7 -

<PAGE>   8


                                    PART II

Item 5  Market for the Partnerships' Limited Partnership Interests and Security
-------------------------------------------------------------------------------
Holder Matters
-------------------------------------------------------------------------------

(a & b)  Market Information and Holders

     As of December 31, 1998, there were 893 Limited Partners in the
     Partnerships.  There is not a public market for, nor is it anticipated that
     there will be a public market for Units.  Upon request, the Managing
     General Partner may attempt to assist a Limited Partner desiring to
     transfer his Unit(s) and may utilize the services of broker-dealers in this
     regard.  The price to be paid for the units as well as the commission to be
     received by any broker-dealer will be subject to negotiation by the Limited
     Partner. The Managing General Partner will not redeem or repurchase the
     Units, nor will it facilitate the matching of potential buyers and sellers
     of Units.

     Pursuant to the terms of the Limited Partnership Agreements, there are
     restrictions on the ability of the Limited Partners to transfer their
     Units. In all cases, the Managing General Partner must consent to any
     transfer.

(c)  Cash Distributions

     No distributions were made in 1998, 1997 or 1996.





                                     - 8 -


<PAGE>   9
Item 6 Selected Financial Data

<TABLE>
<CAPTION>
                                                                              Year Ended       Year Ended       Year Ended
                                                                              December 31,    December 31,     December 31,
                                                                                  1998            1997             1996 
                                                                             -------------    -------------    ------------- 
<S>                                                                          <C>              <C>              <C>           
Total revenues from hotel operations                                                  --               --      $  62,840,511
                                                                             =============    =============    =============
Loss before provision for loss on property
   and improvements held for sale, loss recognized on
   sale of property and improvements, and extraordinary
   gain from extinguishment of debt                                          $    (238,440)   $    (345,219)   $  (4,113,652)
                                                                             =============    =============    =============
Loss on above per Limited Partnership
   unit outstanding during the year (649 units)                              $        (363)   $        (526)   $      (6,269)
                                                                             =============    =============    =============
Net(loss) income                                                             $    (238,440)   $    (345,219)   $ 257,442,418
                                                                             =============    =============    =============
Net(loss) income per Limited Partnership Unit
   outstanding during the year (649 for all years)                           $        (363)   $        (526)   $     392,316
                                                                             =============    =============    =============
Tax(loss) income                                                             $    (238,440)   $    (345,219)   $ 265,139,919
                                                                             =============    =============    =============
Tax(loss) income per Limited Partnership
   Unit outstanding during the year (649 for all years)                      $        (363)   $        (526)   $     404,123
                                                                             =============    =============    =============
Total assets                                                                 $     241,963    $     475,668    $     877,063
                                                                             =============    =============    =============
Mortgage loans and notes payable                                                      --               --               --   
                                                                             =============    =============    =============

<CAPTION>
                                                                               Year Ended       Year Ended
                                                                              December 31,     December 31,
                                                                                  1995             1994
                                                                             -------------    -------------
<S>                                                                          <C>              <C>          
Total revenues from hotel operations                                         $  80,044,055    $  80,488,134
                                                                             =============    =============

Loss before provision for loss on property
   and improvements held for sale, loss recognized on
   sale of property and improvements, and extraordinary
   gain from extinguishment of debt                                          $ (59,759,067)   $ (33,807,610)
                                                                             =============    =============

Loss on above per Limited Partnership
   unit outstanding during the year (649 units)                              $     (91,066)   $     (51,519)
                                                                             =============    =============

Net(loss) income                                                             $ (60,269,079)   $ (41,596,624)
                                                                             =============    =============

Net(loss) income per Limited Partnership Unit
   outstanding during the year (649 for all years)                           $     (91,843)   $     (63,388)
                                                                             =============    =============

Tax(loss) income                                                             $ (19,474,658)   $ (36,788,023)
                                                                             =============    =============

Tax(loss) income per Limited Partnership
   Unit outstanding during the year (649 for all years)                      $     (29,677)   $     (55,929)
                                                                             =============    =============

Total assets                                                                 $ 112,886,616    $ 161,411,760
                                                                             =============    =============

Mortgage loans and notes payable                                             $ 261,170,960    $ 262,753,927
                                                                             =============    =============
</TABLE>









<PAGE>   10



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

Cautionary Statements

The following discussion in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" contain certain forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995 which
reflect management's current views with respect to future events and financial
performance.  Such forward-looking statements are subject to certain risks and
uncertainty.

Liquidity and Capital Resources
-------------------------------

On May 10, 1996, the Operating Partnership and affiliated sub-partnerships filed
petitions for relief under Chapter 11 of the federal bankruptcy laws in the
United States Bankruptcy Court for the Northern District of Illinois.  This
filing excludes Partnership I and Partnership II.  Pursuant to the Plan of
Reorganization, the deeds to the remaining hotels were transferred to the senior
lender on September 26, 1996 in consideration for the cancellation of the senior
indebtedness.

As shown on the Combined Statement of Cash Flows, cash and cash equivalents
decreased $233,705 from December 31, 1997 to December 31, 1998 and decreased
$371,731 from December 31, 1996 to December 31, 1997.   The decrease from 1997
to 1998 was due to cash used in operating activities of $233,705.  Cash used in
operating activities in 1998 was attributed to the net loss in the amount of
$238,440 for the year and the increase in accounts payable and accrued expenses
in the amount of $4,735.  The decrease from 1996 to 1997 was due to cash used in
operating activities of $371,731.  Cash used in operating activities in 1997 was
attributed to the net loss in the amount of $345,219 for the year and the
decrease in accounts receivable in the amount of $29,664 and accounts payable
and accrued expenses in the amount of $56,176.  Cash used in operating and
reorganization activities in 1996 was primarily attributable to the loss before
extraordinary item for the year and decrease in accrued interest payable, offset
by a decrease in prepaid expenses and an increase in accounts payable and
accrued expenses.  The use of cash in investing activities in 1996 was primarily
attributable to capital improvements offset by net proceeds from the Transfer.
Cash provided by financing activities was primarily attributable partners'
capital contributions.

In the short term, the Partnerships will continue to maintain a cash reserve for
the payment of the remaining Partnerships' obligations and contingent
liabilities.  In the long term, the Partnerships will wind-up their affairs and
will distribute any remaining Partnerships' funds to their Limited Partners
after paying all Partnerships' expenses and the Partnerships will be dissolved
at that time.  It is anticipated that the Partnerships will be dissolved
sometime in 1999 or early 2000.

Results of Operations
---------------------

The Operating Partnership had previously owned and operated 24 Holiday Inn
Hotels in 11 states.  However,  there were no revenues or expenses for the hotel
operations and reorganization items in 1998 and 1997 due to the Transfer.

The Partnerships' combined revenues for the year ended December 31, 1998 had a
net increase of $64,019 or approximately 200% from the same period in 1997. The
increase is primarily due to the collection of $79,468 regarding legal
settlements as described in Note 9 to the Partnership's Combined Financial
Statements, and a decrease of $15,449 in interest on temporary investments
attributed to the reduction in the Partnership's cash and cash equivalents which
is the result of the Transfer.





                                     - 10 -

<PAGE>   11

Item 7 Management's Discussion and Analysis of Financial Condition and Results
------------------------------------------------------------------------------
of Operation (continued)
------------

The Partnerships' combined expenses for the year ended December 31, 1998 had a
decrease of $42,760 or 11.3% from the same period in 1997.  The decrease is
primarily due to a decrease in professional, consulting and other fees in the
amount of $13,096 and a reduction in accrued interest receivable in the amount
of $29,664 as the remaining partnership accrued interest were written off in
1997.

The Partnerships' combined revenues for the year ended December 31, 1997
decreased by $80,977 or 71.8% from the same period in 1996.  The decrease is due
to the reduction in interest income and interest on the collection of notes
receivable in the amounts of $15,885 and $65,092 respectively.  The decrease in
Partnership revenue for 1997 is primarily due to the decreased amounts collected
of interest due on subscription notes.  Also, the decrease in interest income
can be attributed to the Transfer.

The Partnerships' combined expenses for the year ended December 31, 1997
decreased by $1,387,882 or 78.6% from the same period in 1996.  The decrease is
primarily due to a $973,089 reduction in General Partners fees which are based
on the gross revenues from the hotels.  The decrease is also due to a $284,057
reduction in professional, consulting and other fees in the amount of $284,057
which is the result of the Transfer.  The reduction in the writeoff of the
accrued interest receivable in the amount of $29,664 is due to the final
writeoff of the investor interest receivable in 1997.

In 1996, the Partnership recorded reorganization expenses of $410,000 for the
cost associated with the bankruptcy filing.  No similar costs were recorded in
1998 or 1997.

For the year ended December 31, 1996, the Operating Partnership owned and
operated 15 hotels located in 8 states throughout the continental United States.
However, overall revenues decreased by $62,840,511, direct hotel costs and
expenses decreased by $25,203,539, and unallocated expenses decreased by
$39,688,500 from 1996 to 1997 due to the Transfer on September 26, 1996.  The
Operating Partnership had previously owned and operated 24 Holiday Inn Hotels in
11 states.

In 1996, the Partnerships recorded an extraordinary gain of $261,556,070 for
extinguishment of debt related to the Transfer.  No similar gains were recorded
in 1998 or 1997.

Impact of Year 2000
-------------------

In the year 2000, many existing computer programs that use only two digits
(rather than four) to identify a year in the date field could fail or create
erroneous results if not corrected.  This computer program flaw is expected to
affect virtually all companies and organizations.   The Partnerships believe
that with modifications to existing software and conversions to new software,
the Year 2000 issue will not pose significant operational problems for its
computer systems.  There is no guarantee that the systems of other companies on
which the Partnerships' systems rely will be timely converted and would not have
an adverse effect on the Partnerships' systems.

Inflation
---------

Inflation had no significant impact for years ended December 31, 1998, 1997 and
1996 and is not anticipated to have a significant impact on the Partnerships in
the foreseeable future.





                                     - 11 -


<PAGE>   12


Item 7 Management's Discussion and Analysis of Financial Condition and Results
------------------------------------------------------------------------------
of Operation (continued)
------------

Item 7a   Market Risk Disclosure
--------------------------------

The Partnerships' cash equivalents do not represent a material exposure to
interest rate changes due to their highly liquid, short-term characteristics.

Item 8  Financial Statements and Supplementary Data
---------------------------------------------------

See Index to Combined Financial Statements and Financial Statement Schedule on
Page F-1 of Form 10-K.  The supplementary financial information prescribed by
Item 302 of Regulation S-K is not applicable.

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

There have been no reported changes in accountants or disagreements on any
matter of accounting principles or practices or financial statement disclosure.





                                     - 12 -

<PAGE>   13




                                    PART III

Item 10  Directors and Executive Officers of the Registrant
-----------------------------------------------------------

(a, b, c, d & e)  The General Partners of the Partnerships are:

VMS Realty Investment, Ltd., an Illinois General Partnership, the Managing
General Partner of the Partnerships.

Prudential-Bache Properties, Inc., a Delaware Corporation, the Minority General
Partner of NHP I.

VMS Realty Investment, Ltd. is a limited partnership owned by Azel Realty
Corporation (100% owned by Robert D. Van Kampen), PRM Realty Corporation (100%
owned by Peter R. Morris), JAS Realty Corporation (100% owned by Joel A. Stone),
Brewster Realty Inc. (which is controlled by Messrs. Van Kampen and Stone) and
Residential Equities, Ltd. (which is 100% owned by Peter R. Morris) and XCC
Investment Corporation (a Delaware Corporation).

VMS Realty Partners ("VMS"), an affiliate of the General Partner, assisted the
Managing General Partner in the management and control of the Venture's affairs
through November 17, 1993, and Strategic Realty Advisors, Inc. ("SRA"), also an
affiliate of the General Partner, replaced VMS in assisting the Managing General
Partner effective November 18, 1993.  VMS Realty Partners is an Illinois general
partnership whose partners are Van Kampen/Morris/Stone, Inc. (100% owned by
Robert D. Van Kampen, Peter R. Morris and Joel A. Stone), Residential Equities,
Ltd. (100% owned by Mr. Morris), XCC Investment Corporation (a subsidiary of
Xerox Credit Corporation) and Brewster Realty, Inc. (100% owned by Messrs. Van
Kampen and Stone).  As VMS is a partnership rather than a corporation, its
Executive Committee operates in a similar manner to a corporate board of
directors.  A substantial number of the officers of VMS are also officers of
entities affiliated with VMS.  The principal executive officers of VMS are the
following:


        Joel A. Stone................  President and Chief Executive Officer and
                                       Member of the Executive Committee

        Peter R. Morris..............  Member of the Executive Committee

        Robert D. Van Kampen.........  Member of the Executive Committee

        Stuart Ross..................  Member of the Executive Committee

The principal executive officers of SRA are the following:

        Joel A. Stone................  President and Chief Executive Officer

        Steven E. Silverman..........  Secretary and General Counsel

        Thomas A. Gatti..............  Senior Vice President





                                     - 13 -

<PAGE>   14


Item 10 Directors and Executive Officers of the Registrant (continued)
----------------------------------------------------------

JOEL A. STONE, age 54, is President and Chief Executive Officer of Strategic
Realty Advisors, Inc., since November 1993.  From the inception in 1981 of VMS
Realty Partners, he held the positions of President and then Chief Executive
Officer.  Mr. Stone began his career as an Internal Revenue Agent and worked as
a certified public accountant and an attorney specializing in taxation and real
estate law.  In 1972, Mr. Stone co-founded the certified public accounting firm
formerly known as Moss, Stone and Gurdak.  In 1979, Mr. Stone joined the Van
Kampen group of companies, a privately held business engaged in investment
banking and in real estate activities.  He served as Senior Vice President of
Van Kampen Merritt, Inc. until its sale to Xerox Corporation in 1984.  An
alumnus of DePaul University, Mr. Stone earned a Bachelor of Science degree in
Accounting in 1966 and a Juris Doctorate in 1970.  Mr. Stone is a member of the
Illinois Bar and a certified public accountant.

PETER R. MORRIS, age 49, is a member of the Executive Committee of VMS since
January, 1987,  and is one of the three individuals owning the entities that own
VMS.  Since 1993, Morris has served as a consultant to Strategic Realty
Advisors, Inc.  Additionally, since 1993, Morris has been an investor and
principal in Success Multi Media Enterprises (SME).  SME is an international
media based enterprise whose activities include ownership and publication of
Success Magazine, as well as the development of numerous complementary
businesses focusing on development, education and marketing of entrepreneurial
services and businesses.  From July 1970 to June 1973, Mr. Morris was employed
by Continental Wingate Company, Inc., a firm engaged in the development of inner
city housing projects, in the capacities of Vice President/Finance,
Director/Consulting Division and Executive Assistant to the President.  He has
published a book and numerous articles relating to real estate development and
syndication.  Mr. Morris has been involved in the real estate and finance
business with Messrs. Van Kampen and Stone since 1977.  Since 1991, Morris has
invested in real estate as well as consult in connection with real estate
acquisition, financing, development and planning.  He received a Bachelor of
Arts degree (summa cum laude) from Princeton University in 1971 and a Juris
Doctorate (cum laude) from Harvard Law School in 1975.

ROBERT D. VAN KAMPEN, age 60, is a member of the Executive Committee of VMS
since January, 1987, and is one of the three individuals owning the entities
that own VMS.  Mr. Van Kampen has been involved in various facets of the
municipal and corporate bond business for over 20 years.  In 1967, he co-founded
the company now known as Van Kampen Merritt, Inc., which specializes in
municipal bonds and acts as a sponsor of unit investment trusts.  The firm was
sold to Xerox Corporation in January 1984.  Mr. Van Kampen is a general partner
of Van Kampen Enterprises.  Mr. Van Kampen received his Bachelor of Science
degree from Wheaton College in 1960.

STUART ROSS, age 62, is a member of the Executive Committee of VMS.  He is an
executive vice president of Xerox Corporation and chairman and chief executive
officer of Xerox Financial Services, Inc., a wholly owned subsidiary.  Mr. Ross
joined Xerox in 1966 and has held a series of financial management positions. he
assumed his current position in May 1990.  Prior to Xerox, Mr. Ross was a
financial representative for The Macmillan Publishing Company from 1963 to 1966,
and a public accountant for Harris, Kerr, Forster & Company from 1958 to 1963.
Mr. Ross is a director of Crum and Forster, Inc. and Ekco Group, Inc., and a
trustee of the State University of New York at Purchase.  He received a bachelor
of science degree in accounting from New York University in 1958 and a master of
business administrative degree from the City College of New York in 1966.  Mr.
Ross is a certified public accountant.

STEVEN E. SILVERMAN, age 49, has been the Secretary and General Counsel of
Strategic Realty Advisors, Inc. since appointed on June 15, 1998.  Prior to
becoming General Counsel, Mr. Silverman was and continues to be engaged in the
private practice of law concentrating in real 





                                     - 14 -
<PAGE>   15


Item 10 Directors and Executive Officers of the Registrant (continued)
----------------------------------------------------------

estate and corporate legal matters.  Mr. Silverman was a partner with the
Chicago law firm of Shefsky & Froelich Ltd. from June 1, 1986 to August 1, 1994.
Mr. Silverman received a B.A. degree from the University of Illinois in 1971 and
a J.D. Degree from DePaul University College of Law in 1975.  Mr. Silverman was
admitted to the Illinois bar in 1975 and is also a member of the Florida Bar
(inactive).

THOMAS A. GATTI, age 42, is a Senior Vice President - Partnership Accounting of
Strategic Realty Advisors, Inc., effective November 18, 1993.  Prior to this
time, Mr. Gatti was First Vice President - Partnership Accounting with VMS
Realty Partners, where he was employed since January, 1982.  Prior to joining
VMS Realty Partners, he was with Coopers & Lybrand.  Mr. Gatti received a
Bachelor of Science in Accounting from DePaul University in 1978.  Mr. Gatti is
a Certified Public Accountant.

Prudential-Bache Properties, Inc.
---------------------------------

Prudential-Bache Properties, Inc. (PBP), pursuant to the Partnership Agreement,
does not participate in or exercise control over the affairs of the Partnership.

The directors and officers of PBP and their positions with regard to managing
the Registrant are as follows:


  Brian J. Martin............  President, Chief Executive Officer,
                                Chairman of the Board of Directors, and Director

  Barbara J. Brooks..........  Vice President - Finance and Chief Financial 
                                Officer

  Eugene D. Burak............  Vice President and Chief Accounting Officer

  Frank W. Giordano..........  Director

  Nathalie P. Maio...........  Director

  Chester A. Piskorowski.....  Senior Vice President



BRIAN J. MARTIN, age 48, is the President, Chief Executive Officer, Chairman of
the Board of Directors and Director of PBP.  Prior to his assuming the
aforementioned officerships, we was a Senior Vice President and Diligence
Officer in the Specialty Finance Department for the past five years.  He is a
Senior Vice President of Prudential Securities Incorporated ("PSI"), an
affiliate of PBP.  Mr. Martin also serves in various capacities for certain
other affiliated companies.  Mr. Martin joined PSI in 1980.  Mr. Martin is a
member of the Pennsylvania Bar.

BARBARA J. BROOKS, age 50, has been the Vice President-Finance and Chief
Financial Officer of PBP since 1990.  Her responsibilities within PBP include
all record keeping, reporting and treasury aspects of various partnerships for
which PBP serves as the general partner. Ms. Brooks is also a Senior Vice
President of PSI and has held several positions within PSI and its affiliates
since 1983.  Ms. Brooks is a certified public accountant.

EUGENE D. BURAK, age 53, has been a Vice President of PBP since 1995.  His
responsibilities within PBP include the financial reporting and treasury aspects
of various partnership for which PBP serves as the general partner. Mr. Burak is
also a First Vice President of PSI.  Prior to joining PSI in September 1995, he
was a management consultant for three years and was a Vice





                                     - 15 -

<PAGE>   16


Item 10 Directors and Executive Officers of the Registrant (continued)
----------------------------------------------------------

President of Equitable Capital Management Corporation from March 1990 to May
1992.  Mr. Burak is a certified public accountant.

FRANK W. GIORDANO, age 56, is a Director of PBP.  He is currently a Senior Vice
President and Senior Legal Counsel of PSI and for the preceding five years was
Executive Vice President and General Counsel of Prudential Mutual Fund
Management, LLC, an affiliate of PSI.  Mr. Giordano also serves in various
capacities for other affiliated companies.  He has been with PSI since July
1967.

NATHALIE P. MAIO, age 48, is a Director of PBP.  She is presently and for the
preceding five years has been a Senior Vice President and Deputy General Counsel
of PSI and supervises non-litigation legal work for PSI.  She joined PSI's Law
Department in 1983; presently, she also serves in various capacities for other
affiliated companies.

CHESTER A. PISKOROWSKI, age 55, is a Senior Vice President of PBP.  He is a
Senior Vice President of PSI and is the Senior Manager of the Specialty Finance
Asset Management area for the last five years.  This area is responsible for
monitoring and managing the limited partnerships sold by PSI.  Mr. Piskorowski
has held several positions within PSI since 1972.  Mr. Piskorowski is a member
of the New York and Federal Bars.

THOMAS F. LYNCH, III, ceased to serve as President, Chief Executive Officer,
Chairman of the Board of Directors and Director of Prudential-Bache Properties,
Inc. effective May 2, 1997.  Effective May 2, 1997, Brian J. Martin was elected
President, Chief Executive Officer, Chairman of the Board of Directors and
Director of Prudential-Bache Properties, Inc.

There are no family relationships, except Mr. Steven E. Silverman who is the
brother-in-law to Mr. Joel A. Stone, among any of the foregoing directors or
officers.  All of the foregoing officers and/or directors have indefinite terms.

(f)  Legal Proceedings

See Item 3, Legal proceedings, for a discussion of legal proceedings during the
past five years which may be material to an evaluation of the ability or
integrity of any of the aforementioned directors or officers and VMS Realty
Partners and its affiliates.

Item 11  Executive Compensation
-------------------------------

(a,b,c,d,e,f,g and h)

Neither the General Partners nor the Partnerships pay the officers of the
General Partners any current or any proposed compensation in such capacities. In
addition, the Partnerships have not given and do not propose to give any
options, warrants or rights, including Partnership interests to any such
persons.  No long-term incentive plan exists with any such persons resulting
from his/her resignation, retirement or any other termination.  Therefore,
tables relating to these topics have been omitted.

For information concerning fees paid or payable to the Managing General Partner
or an affiliate thereof, see Item 13.  Certain Relationships and Related
Transactions.

     (j)  The Partnerships did not have a Compensation Committee in 1998, 1997
          and 1996 and do not currently have such a committee.  During the 1998,
          1997 and 1996 fiscal years, no current or former officer or employee
          of the General Partners or their subsidiaries 






                                     - 16 -
<PAGE>   17


Item 11 Executive Compensation (continued)
------------------------------

     participated in deliberations regarding the General Partners' compensation
     as it relates to the Partnerships.

Item 12 Security Ownership of Certain Beneficial Owners and Management
----------------------------------------------------------------------

 (a) Security ownership of certain beneficial owners.

     No person owns of record or is known by the Managing General Partner to own
     beneficially more than 5% of the outstanding Units of either of the
     Partnerships as of December 31, 1998.  Partnership I and Partnership II
     have a 79.12% and 20.78% participation interest, respectively, in the
     Operating Partnership.

 (b) Security ownership of management.

     No partners of VMS Realty Investment, Ltd., VMS Realty Partners, VMS
     Securities, Inc. or Prudential-Bache Properties, Inc., own any Units in the
     Partnerships.

     No general partners, officers or directors of the General Partners of the
     Operating Partnership or the Partnerships possess the right to acquire a
     beneficial ownership of Units of either of the Partnerships.

 (c) Changes in Control

     The Registrant is not aware of any arrangements the operation of which may
     result in a change of control.

Item 13 Certain Relationships and Related Transactions
------------------------------------------------------

The Partnerships are entitled to engage in various transactions involving
affiliates of the General Partners of the Partnerships, including the following:

VMS Realty Partners served as asset manager and rendered services in connection
with monitoring the activities of the property manager, American General
Hospitality, Inc. ("AGHI"), including a review of the Annual Plan for the Hotels
and the compliance of the property manager with the terms of the AGHI Management
Agreement and the Annual Plan.  For these services, the asset manager received a
fee equal to 1% of gross revenues of the Hotels plus an additional .75% payable
only if sufficient cash flow was available to make such payment.  Asset
management fees paid in 1996 totaled $1,205,176.  No asset management fees were
paid in 1998 or 1997 due to the Transfer.

An annual salary fee of $50,000 is to be paid to the Managing General Partner of
the Partnerships for overseeing the management of the Partnerships' operations.
The salary fees for 1998, 1997 and 1996 were paid in the respective years.

A non-affiliate of the Managing General Partner earned interest on a long-term
assignment note which it received in consideration for the assignment and
transfer of an agreement it entered into for the purchase of the Hotels from an
unaffiliated third party.  Pursuant to the Settlement Agreement reached in the
matter entitled In re VMS Partnership Securities Litigation (Case No. 90 C
2412), this note ceased to bear interest after April 10, 1991.  The long-term
assignment note was canceled in 1996 as part of the Transfer.  No payments with
respect to the long-term assignment note were made in 1996.





                                      -17-


<PAGE>   18


Item 13 Certain Relationships and Related Transactions (continued)
------------------------------------------------------

The Operating Partnership reimburses the Managing General Partner and its
affiliates for all reasonable costs and expenses incurred by them on behalf of
the applicable Partnerships including, without limitation, costs incurred by
said parties in performing certain activities, including salaries (plus an
allocable portion of overhead billed on an hourly basis), organization costs,
loan placement costs, travel and communication expenses of staff members engaged
in such activities.  The amount paid to the Managing General Partner and its
affiliates for these services and costs in 1998, 1997 and 1996 totaled $63,915,
$61,149 and $251,292, respectively, with an additional $2,253 and $1,485
remaining unpaid at December 31, 1998 and 1997, respectively.

The Operating Partnership acquired its ownership interest in the Hotels from an
affiliate which, in turn, had acquired its ownership interest from Holiday Inns,
Inc.  For further information, see Note 1 to the Combined Financial Statements.

Reference is made to Note 7 to the Combined Financial Statements for other
amounts paid to related parties.




                                      -18-


<PAGE>   19


                                    PART IV


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

(a)  The following documents are filed as a part of this report:


     (1) The following exhibits are filed as part of this report:

         (i)  Agreement of Limited Partnership of VMS National Hotel Portfolio
              I; (this exhibit is incorporated by reference to the Form 10 dated
              September 5, 1986.)

         (ii) Agreement of Limited Partnership of VMS National Hotel Portfolio
              II; (this exhibit is incorporated by reference to the Form 10
              dated September 5, 1986.)

         (iii) Amended and Restated Agreement of General Partnership of VMS
              National Hotel Partners.  (This exhibit is incorporated by
              reference to the Form 10 dated September 5, 1986.)

     (2) Financial data schedule (Ex-27)

(b)  No reports on Form 8-K were filed during the fourth quarter of the year
     ended December 31, 1998.

(c)  See Item 14(a)(3) above.

(d)  There are no additional financial schedules which are required to be
     presented pursuant to Regulation S-X.






                                      -19-
<PAGE>   20



                                   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.


VMS National Hotel Partners
---------------------------
(Registrant)


By:  VMS National Hotel Portfolio I

      By: VMS Realty Investment, Ltd.
          Managing General Partner

           By:    JAS Realty Corporation

           By:    /s/ Joel A. Stone                         Date: March 23, 1999
                  ----------------------------
                  Joel A. Stone, President

           By:    /s/ Thomas A. Gatti                       Date: March 23, 1999
                  ----------------------------
                  Thomas A. Gatti, Senior Vice President
                  and Principal Accounting Officer




           By:    VMS Realty Investment, Ltd.
                  Executive Committee

           By:    /s/ Joel A. Stone                         Date: March 23, 1999
                  ----------------------------
                  Joel A. Stone, Executive Committee Member


           By:    /s/ Joel A. Stone                         Date: March 23, 1999
                  ----------------------------
                  Joel A. Stone, as attorney in fact for
                  Peter R. Morris, Executive Committee Member

           By:    /s/ David Allen                           Date: March 23, 1999
                  ----------------------------
                  David Allen, as attorney in fact for Robert
                  D. Van Kampen, Executive Committee Member



                                      -20-




<PAGE>   21


                             SIGNATURES (Continued)



By:  VMS National Hotel Portfolio II

       By:   VMS Realty Investment, Ltd.
             Managing General Partner

             By:  JAS Realty Corporation

             By:  /s/ Joel A. Stone                         Date: March 23, 1999
                  -----------------------------
                  Joel A. Stone, President

             By:  /s/ Thomas A. Gatti                       Date: March 23, 1999
                  -----------------------------
                  Thomas A. Gatti, Senior Vice President
                  and Principal Accounting Officer




             By:  VMS Realty Investment, Ltd.
                  Executive Committee

             By:  /s/ Joel A. Stone                         Date: March 23, 1999
                  -----------------------------
                  Joel A. Stone, Executive Committee Member

             By:  /s/ Joel A. Stone                         Date: March 23, 1999
                  -----------------------------
                  Joel A. Stone, as attorney in fact for
                  Peter R. Morris, Executive Committee Member

             By:  /s/ David Allen                           Date: March 23, 1999
                  -----------------------------
                  David Allen, as attorney in fact for Robert
                  D. Van Kampen, Executive Committee Member



                                      -21-



<PAGE>   22

INDEX TO COMBINED FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULE



                                                                           Pages



Report of Independent Auditors                                               F-2

Combined Financial Statements:

  Combined Balance Sheets - December 31, 1998 and 1997                       F-3

  Combined Statements of Operations for the years ended
    December 31, 1998, 1997 and 1996                                         F-4

  Combined Statements of Partners' Capital (Deficit) for
    the years ended December 31, 1998, 1997 and 1996                         F-5

  Combined Statements of Cash Flows for the years ended
    December 31, 1998, 1997 and 1996                                         F-6

  Notes to the Combined Financial Statements                                 F-8

Schedules are omitted for the reason that they are inapplicable or equivalent
information has been included elsewhere herein.





                                      F-1


<PAGE>   23



                         REPORT OF INDEPENDENT AUDITORS
                         ------------------------------


To the Partners of

       VMS National Hotel Portfolio I,
       VMS National Hotel Portfolio II and
       VMS National Hotel Partners

We have audited the accompanying combined balance sheets of VMS NATIONAL HOTEL
PORTFOLIO I, VMS NATIONAL HOTEL PORTFOLIO II (Illinois limited partnerships) and
VMS NATIONAL HOTEL PARTNERS (an Illinois general partnership), (collectively the
"Partnerships"), as of December 31, 1998  and 1997, and the related combined
statements of operations, 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 Partnerships' management.  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
management, 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 combined financial position of VMS NATIONAL HOTEL
PORTFOLIO I, VMS NATIONAL HOTEL PORTFOLIO II and VMS NATIONAL HOTEL PARTNERS at
December 31, 1998 and 1997, and the combined results of their operations and
their cash flows for each of the three years in the period ended December 31,
1998, in conformity with generally accepted accounting principles.



                                                     ERNST & YOUNG LLP



Chicago, Illinois
March 16, 1999






                                      F-2
<PAGE>   24
                         VMS NATIONAL HOTEL PORTFOLIO I
                         VMS NATIONAL HOTEL PORTFOLIO II
                           VMS NATIONAL HOTEL PARTNERS
                        COMBINED STATEMENTS OF OPERATIONS


<TABLE>
<CAPTION>
                                                           December 31, 1998     December 31, 1997
                                                           -----------------     -----------------
                                     ASSETS

<S>                                                             <C>                     <C>                  
Cash and cash equivalents                                       $ 241,963               $ 475,668            
                                                                ---------               ---------            
Total assets                                                    $ 241,963               $ 475,668            
                                                                =========               =========            
                                                                                                             
                                                                                                             
                  LIABILITIES AND PARTNERS' CAPITAL (DEFICIT)                                                
                                                                                                             
LIABILITIES                                                                                                  
Accounts payable and accrued expenses:                                                                       
   Affiliates                                                   $   2,253               $   1,485            
   Nonaffiliates                                                   45,558                  41,591            
                                                                ---------               ---------            
Total liabilities                                                  47,811                  43,076            
                                                                ---------               ---------            
                                                                                                             
Partners' capital (deficit):                                                                                  
   General Partners                                              (690,500)               (687,880)           
   Limited Partners:                                                                                         
    Portfolio I - 514 Interests                                   519,867                 708,004            
    Portfolio II - 135 Interests                                  364,785                 412,468            
                                                                ---------               ---------            
Total partners' capital(deficit)                                  194,152                 432,592            
                                                                ---------               ---------            
Total liabilities and partners' capital (deficit)               $ 241,963               $ 475,668            
                                                                =========               =========            
                                                                                                             
</TABLE>


                  The accompanying notes are an integral part
                     of the combined financial statements.

                                     F-3

<PAGE>   25
                         VMS NATIONAL HOTEL PORTFOLIO I
                         VMS NATIONAL HOTEL PORTFOLIO II
                           VMS NATIONAL HOTEL PARTNERS
                        COMBINED STATEMENTS OF OPERATIONS


<TABLE>
<CAPTION>
                                                              Year Ended December 31,
                                                 -----------------------------------------------
HOTEL OPERATIONS                                     1998             1997             1996
                                                 -------------    -------------    -------------
<S>                                              <C>              <C>              <C>          
Revenues:
   Rooms                                         $        --      $        --      $  46,593,341
   Food and beverage                                      --               --         11,379,465
   Telephone                                              --               --          2,229,625
   Other                                                  --               --          2,638,080

                                                 -------------    -------------    -------------
   Total hotel revenues                                   --               --         62,840,511

Direct costs and expenses:
   Rooms                                                  --               --         11,866,634
   Food and beverage                                      --               --          9,599,143
   Telephone                                              --               --          2,177,871
   Other                                                  --               --          1,559,891
                                                 -------------    -------------    -------------
   Total direct hotel costs and expenses                  --               --         25,203,539

Unallocated expenses:
   Administrative and general                             --               --          6,809,682
   Management fee                                         --               --          1,349,601
   Marketing                                              --               --          5,829,277
   Energy                                                 --               --          2,978,149
   Property operations and maintenance                    --               --          2,973,509
   Property taxes and insurance                           --               --          2,490,445
   Rent                                                   --               --            802,432
   Mortgage interest expense                              --               --         16,455,405
                                                 -------------    -------------    -------------
   Total unallocated expenses                             --               --         39,688,500
                                                 -------------    -------------    -------------
Loss from hotel operations                                --               --         (2,051,528)
                                                 -------------    -------------    -------------

PARTNERSHIP OPERATIONS

Revenues:
Interest on subscription notes                            --               --             65,092
Litigation settlement                                   79,468             --               --
Interest on temporary investments                       16,427           31,876           47,761
                                                 -------------    -------------    -------------
   Total partnership revenues                           95,895           31,876          112,853
                                                 -------------    -------------    -------------

Expenses:
Managing General partner's fees                          50,000           50,000        1,023,089
Professional, consulting and other fees:
   Affiliates                                           64,683           60,715          253,251
   Nonaffiliates                                       219,652          236,716          328,237
   Write off of accrued interest receivable               --             29,664          160,400
                                                 -------------    -------------    -------------
   Total partnership expenses                          334,335          377,095        1,764,977
                                                 -------------    -------------    -------------
Loss from partnership operations                      (238,440)        (345,219)      (1,652,124)
                                                 -------------    -------------    -------------

REORGANIZATION ITEMS:

Professional, consulting and other fees                   --               --            410,000
                                                 -------------    -------------    -------------
   Total reorganization expenses                          --               --            410,000
                                                 -------------    -------------    -------------
Loss before extraordinary gain from
   extinguishment of debt                             (238,440)        (345,219)      (4,113,652)

Extraordinary gain from extinguishment
   of debt                                                --               --        261,556,070
                                                 -------------    -------------    -------------
Net income(loss)                                 $    (238,440)   $    (345,219)   $ 257,442,418
                                                 =============    =============    =============
Net income(loss) allocated to General Partners   $      (2,620)   $      (3,793)   $   2,829,292
                                                 =============    =============    =============
Net income(loss) allocated to Limited Partners   $    (235,820)   $    (341,426)   $ 254,613,126 
                                                 =============    =============    =============

Loss before extraordinary item
   Portfolio I (514) Interests)                  $        (366)   $        (530)   $      (6,315)
                                                 =============    =============    =============
   Portfolio II (135 Interests)                  $        (353)   $        (511)   $      (6,094)
                                                 =============    =============    =============

Extraordinary item
   Portfolio I (514 Interests)                   $        --      $        --      $     401,509
                                                 =============    =============    =============
   Portfolio II (135 Interests)                  $        --      $        --      $     387,452   
                                                 =============    =============    =============

Net Income(loss)
   Portfolio I (514 Interests)                   $        (366)   $        (530)   $     395,194
                                                 =============    =============    =============
   Portfolio II (135 Interests)                  $        (353)   $        (511)   $     381,358
                                                 =============    =============    =============

</TABLE>


                  The accompanying notes are an integral part
                      of the combined financial statements.


                                      F-4
<PAGE>   26
                         VMS NATIONAL HOTEL PORTFOLIO I
                         VMS NATIONAL HOTEL PORTFOLIO II
                           VMS NATIONAL HOTEL PARTNERS
               COMBINED STATEMENTS OF PARTNERS' CAPITAL (DEFICIT)
                  YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996


<TABLE>
<CAPTION>
                                VMS National                             VMS National Hotel Portfolio I
                                   Hotel         ---------------------------------------------------------------------------------
                                  Partners                                            Limited Partners
                                -------------                     -----------------------------------------------
                                  General           General                        Subscription
                                  Partners          Partners         Total             Notes            Net               Total   
                                -------------    -------------    -------------    -------------    -------------    -------------
<S>                             <C>              <C>              <C>              <C>              <C>              <C>          
Partners' deficit at
 January 1, 1996                $    (333,135)   $  (2,534,012)   $(200,989,511)   $  (1,208,396)   $(202,197,907)   $(204,731,919)

Collection on
 subscription notes                      --               --               --             48,509           48,509           48,509

Net income for the year               257,442        2,051,816      203,129,791             --        203,129,791      205,181,607
                                -------------    -------------    -------------    -------------    -------------    -------------

Partners' capital(deficit)
at December 31, 1996                  (75,693)        (482,196)       2,140,280       (1,159,887)         980,393          498,197

Net loss for the year                    (345)          (2,751)        (272,389)            --           (272,389)        (275,140)
                                -------------    -------------    -------------    -------------    -------------    -------------

Partners' capital(deficit) at
December 31, 1997                     (76,038)        (484,947)       1,867,891       (1,159,887)         708,004          223,057

Net loss for the year                    (238)          (1,900)        (188,137)            --           (188,137)        (190,037)

Partner's capital(deficit) at
 December 31, 1998              $     (76,276)   $    (486,847)   $   1,679,754    $  (1,159,887)   $     519,867           33,020
                                =============    =============    =============    =============    =============    =============

<CAPTION>

                                VMS National                             VMS National Hotel Portfolio II
                                   Hotel         ---------------------------------------------------------------------------------
                                  Partners                                            Limited Partners
                                ------------                      -----------------------------------------------
                                  General                          Subscription                                         Combined
                                  Partners            Total           Notes             Net             Total             Total
                                ------------     -------------    -------------    -------------    -------------    -------------
<S>                             <C>              <C>              <C>              <C>              <C>              <C>          
Partners' deficit at
 January 1, 1996                $    (646,232)   $ (50,824,560)   $    (183,150)   $ (51,007,710)   $ (51,653,942)   $(256,718,996)

Collection on
 subscription notes                      --               --              5,880            5,880            5,880           54,389

Net income for the year               520,034       51,483,335             --         51,483,335       52,003,369      257,442,418
                                -------------    -------------    -------------    -------------    -------------    ------------- 

Partners' capital(deficit)
at December 31, 1996                 (126,198)         658,775         (177,270)         412,468          355,307          777,811

Net loss for the year                    (697)         (69,037)            --            (69,037)         (69,734)        (345,219)
                                -------------    -------------    -------------    -------------    -------------    ------------- 

Partners' capital(deficit) at
December 31, 1997                    (126,895)         589,738         (177,270)         412,468          285,573          432,592

Net loss for the year                    (482)         (47,683)            --            (47,683)         (48,165)        (238,440)
                                -------------    -------------    -------------    -------------    -------------    ------------- 

Partner's capital(deficit) at   
 December 31, 1998              $    (127,377)   $     542,055    $    (177,270)   $     364,785    $     237,408    $     194,152 
                                =============    =============    =============    =============    =============    ============= 
</TABLE>


                   The accompanying notes are an integral part
                      of the combined financial statements.


                                      F-5
<PAGE>   27
                         VMS NATIONAL HOTEL PORTFOLIO I
                        VMS NATIONAL HOTEL PORTFOLIO II
                          VMS NATIONAL HOTEL PARTNERS
                       COMBINED STATEMENTS OF CASH FLOWS


<TABLE>
<CAPTION>
                                                                         Year Ended December 31,
                                                           -----------------------------------------------
                                                               1998              1997            1996
                                                           -------------    --------------   -------------
<S>                                                        <C>              <C>              <C>          
OPERATING AND REORGANIZATION ACTIVITIES

Net(loss) income                                           $    (238,440)   $    (345,219)   $ 257,442,418

Adjustments to reconcile net (loss)
   income to net cash used in operating
   and reorganization activities:
    Write-off of accrued interest receivable                        --             29,664             --
    Extraordinary gain from the extinguishment
     of debt                                                        --               --       (261,556,070)
Changes in operating assets and liabilities:
   Increase in accounts receivable                                  --               --           (302,664)
   Decrease in interest receivable                                  --               --            161,968
   Decrease in prepaid expenses                                     --               --            749,402
   Decrease in inventories                                          --               --             20,990
   Decrease in other deferred costs                                 --               --              3,841
   Increase(decrease) in accounts payable
    and accrued expenses                                           4,735          (56,176)       2,342,146)
   Decrease in accrued interest payable                             --               --         (3,148,216)
                                                           -------------    -------------    -------------
NET CASH USED IN OPERATING AND REORGANIZATION ACTIVITIES        (233,705)        (371,731)      (4,286,185)
                                                           -------------    -------------    -------------

INVESTING ACTIVITIES
   Additions to property and improvements                           --               --         (1,904,608)
   Net proceeds from transfer of deeds to property
    and improvements                                                --               --            810,160
                                                           -------------    -------------    -------------
NET CASH USED IN INVESTING ACTIVITIES                               --               --         (1,094,448)
                                                           -------------    -------------    -------------

FINANCING ACTIVITIES
   Partners' capital contributions                                  --               --             54,389
   Increase in escrow and other deposits                            --               --             (6,012)
                                                           -------------    -------------    -------------
NET CASH PROVIDED BY FINANCING ACTIVITIES                           --               --             48,377
                                                           -------------    -------------    -------------
Net decrease in cash and cash equivalents                       (233,705)        (371,731)      (5,332,256)

Cash and cash equivalents at beginning of year                   475,668          847,399        6,179,655
                                                           -------------    -------------    -------------

Cash and cash equivalents at end of year                   $     241,963    $     475,668    $     847,399
                                                           =============    =============    =============

Interest Paid                                              $        --      $        --      $  19,603,621
                                                           =============    =============    =============
</TABLE>




                 The accompanying notes are an integral part
                    of the combined financial statements.


                                      F-6
<PAGE>   28
                         VMS NATIONAL HOTEL PORTFOLIO I
                         VMS NATIONAL HOTEL PORTFOLIO II
                           VMS NATIONAL HOTEL PARTNERS
                  COMBINED STATEMENTS OF CASH FLOWS (CONTINUED)



Supplemental disclosure of noncash investing and financing activities:

The following assets and liabilities were transferred to the senior lender in
consideration for the cancellation of senior indebtedness on September 26, 1996:


<TABLE>
<S>                                                   <C>                
Property and improvements                             $102,204,472       
Cash and cash equivalents                                  214,840       
Escrow and other deposits                                  110,000       
Accounts receivable                                      2,979,408       
Prepaid expenses                                           654,298       
Inventories                                              1,621,643       
Other deferred costs                                       384,559       
                                                      ------------       
   Total assets                                       $108,169,220       
                                                      ============       
                                                                         
Mortgage loan payable                                 $261,170,960       
Accrued interest payable                                99,718,116       
Other accounts payable and accrued expenses              7,811,214       
                                                      ------------       
   Total liabilities                                  $368,700,290       
                                                      ============       
</TABLE>
                                                     

                 The accompanying notes are an integral part
                    of the combined financial statements.


                                     F-7

<PAGE>   29



                         VMS NATIONAL HOTEL PORTFOLIO I
                        VMS NATIONAL HOTEL PORTFOLIO II
                          VMS NATIONAL HOTEL PARTNERS


                   NOTES TO THE COMBINED FINANCIAL STATEMENTS


1. Organization
   ------------

   VMS National Hotel Partners, an Illinois general partnership (the "Operating
   Partnership") was formed on November 1, 1985 under the laws of the State of
   Illinois and commenced operations on November 26, 1985, the date of the Hotel
   acquisitions.  The Operating Partnership was formed to acquire, own and
   operate twenty-four Holiday Inn hotels (the "Hotels"). The Operating
   Partnership conveyed thirteen of the Hotels to other affiliated partnerships
   (the "Subpartnerships") that each own and operate a Hotel (as used herein,
   the term "Operating Partnership" includes the Subpartnerships where context
   requires).  The Operating Partnership holds at least a 99% interest as a
   general partner in each Subpartnership.  VMS Realty, Inc., an Illinois
   corporation, is the Managing General Partner of the Operating Partnership.

   VMS National Hotel Portfolio I ("Portfolio I") and VMS National Hotel
   Portfolio II ("Portfolio II") are Illinois limited partnerships formed to
   purchase an aggregate 99.9% interest as General Partners in the Operating
   Partnership (as used herein, the term Partnerships includes the Operating
   Partnership, Portfolio I and Portfolio II where context requires).  VMS
   Realty Investment, Ltd. is the Managing General Partner of Portfolios I and
   II.  In addition, an unaffiliated corporation is the Minority General Partner
   of Portfolio I.

   On August 13, 1993 and again on May 10, 1996, the Operating Partnership filed
   for Chapter 11 bankruptcy protection in the United States Bankruptcy Court
   for the Central District of California.  The filings included only the
   Operating Partnership and excluded Portfolio I and Portfolio II.  On May 9,
   1994, the United States Bankruptcy Court, Northern District of Illinois,
   confirmed the original Plan of Reorganization (the "Plan") subject to the
   final negotiations of the Second Amended and Restated Note Purchase and Loan
   Agreement and certain other events. On July 27, 1994, the Second Amended and
   Restated Note Purchase and Loan Agreement (the "Loan Agreement") was
   consummated and the remaining terms of the Plan were finalized on August 11,
   1994.  Under the Plan, the Operating Partnership was to sell properties as
   stated in the Loan Agreement.  Pursuant to the Plan, all pre-petition
   payables have been paid.  The Operating Partnership subsequently negotiated a
   further restructuring of its outstanding debt with certain secured lenders.
   As a result, the Operating Partnership filed a second pre-packaged Plan of
   Reorganization (the "Second Plan") on May 10, 1996.  The Second Plan was
   confirmed by the court on July 24, 1996.  Pursuant to the Second Plan, the
   deeds to the properties were transferred to the senior lender on September
   26, 1996 in consideration for the cancellation of the senior indebtedness
   (the "Transfer")  (See Note 5).

   As a result of the Transfer, the Partnerships recognized an extraordinary
   gain of $214,542,473 for financial reporting purposes, which represents the
   excess of the remaining senior debt, related accrued interest, other
   operating liabilities and net cash received by the Partnerships of $810,160
   (in conjunction with the Transfer, VMS National Hotel Partners received
   amounts in lieu of sales advisory fees totaling $1,025,000 from the senior
   lender, net of $214,840 of operating cash transferred to the senior lender),
   over the carrying value of the property and improvements and operating assets
   transferred.  In addition, the Partnerships recognized an




                                      F-8


<PAGE>   30


                         VMS NATIONAL HOTEL PORTFOLIO I
                        VMS NATIONAL HOTEL PORTFOLIO II
                          VMS NATIONAL HOTEL PARTNERS
                   NOTES TO THE COMBINED FINANCIAL STATEMENTS

1. Organization (continued)
   ------------             

   extraordinary gain of $47,013,597 from the cancellation of the junior
   mortgage indebtedness pursuant to the Second Plan.

   In the short term, the Partnerships will continue to maintain a cash reserve
   for the payment of the remaining Partnerships' obligations and contingent
   liabilities.  In the long term, the Partnerships will wind-up their affairs
   and will distribute any remaining Partnerships' funds to their Limited
   Partners after paying all Partnerships' expenses and the Partnerships will be
   dissolved at that time.  It is anticipated that the Partnerships will be
   dissolved sometime in 1999 or early 2000.  Activities related to dissolution
   of the Partnership's represent the only business segment.

2. Summary of Significant Accounting Policies
   ------------------------------------------

   A.  Basis of Combination:  The accompanying combined financial statements
       include the accounts of Portfolio I, Portfolio II and the Operating
       Partnership (collectively the "Partnership").  Significant intercompany
       accounts and transactions have been eliminated in the combination of
       these financial statements.

   B.  The 1996 combined financial statements reflect the financial reporting
       guidance prescribed by the AICPA Statement of Position 90-7 (SOP 90-7),
       "Financial Reporting by Entities in Reorganization Under the Bankruptcy
       Code", during the period the Operating Partnership was in bankruptcy.
       Items of income or expense that were realized or incurred as a result of
       the reorganization are included in the combined statement of operations
       as reorganization items.  During 1996, $410,000 was paid for
       professional, consulting and other fees for the administration of Chapter
       11 proceedings.

   C.  Method of Accounting:  The books and records are maintained on the
       accrual basis of accounting used for federal income tax reporting
       purposes.  The accompanying combined financial statements have been
       prepared from these records, after making appropriate adjustments, to
       reflect the accounts in accordance with generally accepted accounting
       principles (GAAP).  The significant items causing these adjustments are:
       (1) the differing lives and methods of depreciation used (see below); (2)
       provision to reflect impairment in the value of property and improvements
       recorded under the GAAP basis not recorded under a tax basis; (3) the
       treatment of certain fees and other consideration due to the Managing
       General Partner and its affiliates (see below); (4) the costs incurred in
       connection with raising capital (offering costs) and subscription notes,
       which are treated as reductions to the Limited Partners' capital for GAAP
       purposes and as assets for tax purposes; (5) the differing lives over
       which deferred loan costs are being amortized; and (6) the treatment of
       restructured debt.





                                      F-9

<PAGE>   31


                         VMS NATIONAL HOTEL PORTFOLIO I
                        VMS NATIONAL HOTEL PORTFOLIO II
                          VMS NATIONAL HOTEL PARTNERS

                   NOTES TO THE COMBINED FINANCIAL STATEMENTS
                                  (Continued)

2. Summary of Significant Accounting Policies (continued)
   ------------------------------------------

   D.  Depreciation - pursuant to the Plan, all properties had been held for
       sale and accordingly were classified as Property and Improvements held
       for sale on the Combined Balance Sheet as of January 1, 1996 and no
       further depreciation expense was recorded subsequent to that date.

   E.  Fees and Expenses Paid to Affiliates:  Various fees and expense
       reimbursements are made to the Managing General Partner and its
       affiliates.  These charges are accounted for using the following basis:

<TABLE>
<CAPTION>
                                          GAAP Basis                       Tax Basis
                                      -------------------------       --------------------------
      <S>                            <C>                             <C>
       Salary reimbursement           Charged to expense in the       Deducted in the year paid
       fee                            year service  is rendered
       
       Asset management fee           Charged to expense in the       Deducted in the year paid
                                      year service is rendered
       
       Assignment note interest       Interest has been waived        The note was discounted
                                      under the terms of the          in 1991, with the discount
                                      note agreement                  being amortized through
                                                                      maturity date
</TABLE>



   F.  Income Taxes:  No provision (benefit) for income taxes or related credits
       has been recorded in the Partnerships' combined financial statements as
       the results of their operations are includable in the income tax returns
       of the Partners.

   G.  Cash Equivalents and Other Financial Instruments:  The Partnerships
       consider all highly liquid investments with a maturity of three months or
       less when purchased to be cash equivalents.  Cash and cash equivalents
       and other financial instruments are carried at cost which approximates
       their fair value, based upon their relatively short maturity.

   H.  Use of Estimates: The preparation of the combined financial statements in
       conformity with generally accepted accounted principles requires
       management to make estimates and assumptions that affect the amounts
       reported in the combined financial statements and accompanying notes.
       Actual results could differ from those estimates.

3. Partnership Agreements
   ----------------------
   Profits and losses of the Operating Partnership are allocated to Portfolio I
   and Portfolio II on a pro rata basis using the ratio of their respective
   Limited Partnership units issued and 





                                      F-10
<PAGE>   32


                         VMS NATIONAL HOTEL PORTFOLIO I
                        VMS NATIONAL HOTEL PORTFOLIO II
                          VMS NATIONAL HOTEL PARTNERS
                     NOTES TO COMBINED FINANCIAL STATEMENTS
                                  (Continued)
                                        
3. Partnership Agreements (continued)
   ----------------------

   outstanding.  The profits and losses of Portfolio I and Portfolio II are
   allocated 99% to the Limited Partners and 1% to the General Partners.

   Cash flow distributions of the Operating Partnership will be made as follows:
   99.9% in total to Portfolio I and Portfolio II, on a pro rata basis in
   proportion to their contributions to the Operating Partnership. The remaining
   .1% will be distributed equally to the two General Partners of the Operating
   Partnership.  Cash flow distributions by Portfolio I and Portfolio II will be
   made at the discretion of the Managing General Partner first to the Limited
   Partners in an amount equal to 12% per annum (on a noncumulative basis) of
   their contributed capital, then to the extent that cash flow is available to
   pay the General Partners of Portfolio I and Portfolio II a subordinated
   incentive fee in an amount equal to 28.57% of remaining cash flow.  For
   Portfolio I, 20.86% will be paid to the Managing General Partner and 7.71%
   will be paid to the Minority General Partner.  Any remaining cash flow will
   be distributed 99% to the Limited Partners and 1% to the General Partners.

4. Subscription Notes
   ------------------

   Under the terms of the Partnership Agreements for Portfolio I and Portfolio
   II, the General Partners offered 514 and 135 units of Limited Partnership
   interests, respectively.  All units offered were sold as of December 31,
   1985.  The Limited Partners agreed to contribute capital of $77,100,000
   (reduced to $77,082,812 as of December 31, 1992 by investors opting out of
   the settlement agreement) to Portfolio I and $20,250,000 to Portfolio II. Of
   these amounts, $75,922,925 and $20,072,730, respectively, had been
   contributed to each as of December 31, 1998.  The remaining balance, in the
   aggregate amount of  $1,337,157 as of December 31, 1998, is represented by
   promissory notes of the Limited Partners.  This balance is included in the
   combined financial statements as a reduction of Partners' Capital.  The
   promissory notes as originally executed required that the Limited Partners
   make installment payments to Portfolios I and II with the final installment
   due March 1, 1990.  However, a settlement agreement has been reached which
   enables the settling Limited Partners to have the option of making their
   remaining principal payments on terms more favorable than originally provided
   in their subscription notes.  Amounts due from those Limited Partners not
   paying under the more favorable terms are considered past due. The principal
   amounts due from those Limited Partners paying under the more favorable terms
   bear interest at prime plus 2% per annum.  The principal amounts due from
   Limited Partners considered past due bear interest at 18% per annum.  The
   Partnerships record interest income only to the extent that cash is received.

5. Mortgage Loans Payable
   ----------------------

   The Partnerships had two groups of mortgage loans.  The first was a group of
   10% first mortgage loans, payable from available cash flows and the second
   was a group of non-interest bearing junior mortgage loans.  In 1996, the
   Mortgage Loans were forgiven in conjunction with the Transfer.





                                      F-11

<PAGE>   33


                         VMS NATIONAL HOTEL PORTFOLIO I
                        VMS NATIONAL HOTEL PORTFOLIO II
                          VMS NATIONAL HOTEL PARTNERS


             NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONTINUED)

5. Mortgage Loans Payable (continued)
   ----------------------

   In accordance with SOP 90-7, the accrual of interest on all mortgage loans
   was discontinued as of the bankruptcy filing dates due to the "unsecured" or
   "underscored" positions on these Notes obligations.  All of the 1996
   contractual interest was paid and recorded in 1996.

6. Management Agreement
   --------------------

   Management of the Holiday Inn and Crowne Plaza hotel properties (the
   "Hotels") previously owned by the Partnerships was performed by  American
   General Hospitality, Inc. ("AGHI")  Under the terms of the management
   agreement with AGHI, the Operating Partnership was assessed a basic
   management fee at the lesser of 2.25% of gross revenue, as defined, or the
   amount of available cash flow in excess of the base year cash flow as set
   forth in the management agreement.   During 1996, management fees of
   $1,349,601  were incurred under the agreement with AGHI.

7. Related Party Transactions
   --------------------------

   Under the terms of the various Partnership Agreements, the Managing General
   Partner and its affiliates are to provide management, financing, organization
   and other services to the Partnerships in return for certain fees as follows:

<TABLE>
<CAPTION>
                                   1998                   1997                    1996
                            ------------------    --------------------     --------------------
                             Paid     Payable      Paid       Payable        Paid      Payable
                            ------------------    --------------------     --------------------
<S>                       <C>        <C>         <C>         <C>         <C>          <C>
Managing General
Partner salary (1)         $ 50,000   $  ---      $ 50,000    $  ---       $   50,000   $  ---
Asset Management
fees (2)                       ---       ---          ---        ---        1,205,176      ---
                           --------   -------     --------    -------      ----------   -------  
Total management
fees and salary              50,000      ---        50,000       ---        1,255,176      ---

Other services
and costs (3)                63,915      2,253      61,149      1,485         251,292     1,919
                           --------   -------     --------    -------      ----------   -------  
                           $113,915   $  2,253    $111,149    $ 1,485      $1,506,468   $ 1,919
                           ========   ========    ========    =======      ==========   =======
</TABLE>


(1)  The Partnership Agreements specify the dollar amount of the fees.  The
     various Partnerships are obligated to incur $50,000 per year of salary fees
     in the future.

(2)  This fee was assessed at 1.75% of gross revenue of the Hotels.

(3)  These fees represent reimbursement for partnership accounting, due
     diligence, data processing and travel and communication expenses incurred
     by affiliates of the Managing General Partner for operation of the
     Partnerships.





                                      F-12

<PAGE>   34


                         VMS NATIONAL HOTEL PORTFOLIO I
                        VMS NATIONAL HOTEL PORTFOLIO II
                          VMS NATIONAL HOTEL PARTNERS


             NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONTINUED)


8. Lease Commitments
   -----------------

   The Operating Partnership leased the land on which five hotel properties were
   located.  Rent expense under these leases was approximately $640,394 for the
   year ended December 31, 1996.  The Operating Partnership is no longer
   obligated under the lease commitments due to the Transfer.

9. Litigation
   ----------

   The Partnerships are involved in various claims and legal actions.  The
   adverse outcome of certain of the legal proceedings could have a materially
   adverse effect on the present and future operations of the Partnership.

   As a result of the bankruptcy proceedings, in settlement of one of the
   Partnership's litigation, the sum of $79,468 was received and applied towards
   the cost of identifying errors which may have occurred in respect to
   identification of and payment to creditors.

   The Partnerships are the subject of certain filed claims in the bankruptcy
   cases totaling approximately $468,000.  The Partnerships are contesting the
   validity of the claims and are hopeful that the claims will be disallowed in
   their entirety. Subject to certain provisions in the Plan of Reorganization,
   the Partnerships obtained an indemnity to the extent of the actual amounts of
   such claims.  This indemnity does not include the costs associated with
   defending the litigation.  The outcome of this litigation is uncertain.





      
                                      F-13