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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



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FORM 10-Q



|x | QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ---------------------------------------------------------------------------------



FOR THE QUARTER ENDED SEPTEMBER 30, 2003



Commission File Number 1-9240



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TRANSCONTINENTAL

REALTY INVESTORS, INC.

(Exact Name of Registrant as Specified in Its Charter)



|Nevada                                                         |  | 94-6565852                          
|-------------------------------------------------------------- |  | ------------------------------------
|(State or Other Jurisdiction of Incorporation or Organization) |  | (I.R.S. Employer Identification No.)
|                                                               | 
|1800 Valley View Lane, Suite 300, Dallas, Texas                |  | 75234                               
|(Address of Principal Executive Office)                        |  | (Zip Code)                          



(469) 522-4200

(Registrants Telephone Number, Including Area Code)



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Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes ̈.    No  x.



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 ̈.



APPLICABLE ONLY TO CORPORATE ISSUERS:



Indicate the number of shares outstanding of each of the issuers classes of Common Stock, as of the latest practicable date.



|Common Stock, $.01 par value |  | 8, 072, 594                      
|---------------------------- |  | ---------------------------------
|(Class)                      |  | (Outstanding at October 31, 2003)



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PART I. FINANCIAL INFORMATION



|ITEM 1. |  | FINANCIAL STATEMENTS
|------- |  | --------------------



The accompanying Consolidated Financial Statements as of and for the three and nine month periods ended September 30, 2003, have not been audited by independent certified
public accountants, but in the opinion of the management of Transcontinental Realty Investors, Inc. (TCI), all adjustments (consisting of normal recurring accruals) necessary for a fair presentation of TCIs consolidated financial
position, consolidated results of operations and consolidated cash flows at the dates and for the periods indicated, have been included.



TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED BALANCE SHEETS



|                                                                                                 |  | September 30,2003                       |         |   | December 31,2002 |  
|------------------------------------------------------------------------------------------------ |  | --------------------------------------- | ------- | - | ---------------- | -
|                                                                                                 |  | (dollars in thousands,except per share) |        
|Assets                                                                                           |  |                                         |         |   |                  |  
|Real estate held for investment                                                                  |  | $                                       | 800,295 |   |                  | $
|Lessaccumulated depreciation                                                                    |  |                                         | <82,337 | > |                  |  
|                                                                                                 |  |                                         |         |   |                  |  
|                                                                                                 |  |                                         | 717,958 |   |                  |  
|                                                                                                 |  |                                        
|Real estate held for sale                                                                        |  |                                         | 28,725  |   |                  |  
|                                                                                                 |  |                                        
|Notes and interest receivable                                                                    |  |                                         |         |   |                  |  
|Performing (including $16,840 in 2003 and $12,574 in 2002 from affiliates and related parties)   |  |                                         | 24,820  |   |                  |  
|Nonperforming, nonaccruing                                                                       |  |                                         | 4,303   |   |                  |  
|                                                                                                 |  |                                         |         |   |                  |  
|                                                                                                 |  |                                         | 29,123  |   |                  |  
|Lessallowance for estimated losses                                                              |  |                                         | <1,456  | > |                  |  
|                                                                                                 |  |                                         |         |   |                  |  
|                                                                                                 |  |                                         | 27,667  |   |                  |  
|                                                                                                 |  |                                        
|Investment in real estate entities                                                               |  |                                         | 13,911  |   |                  |  
|Marketable equity securities, at market value                                                    |  |                                         | 5,000   |   |                  |  
|Cash and cash equivalents                                                                        |  |                                         | 5,188   |   |                  |  
|Other assets (including $14,128 in 2003 and $19,187 in 2002 from affiliates and related parties) |  |                                         | 44,251  |   |                  |  
|                                                                                                 |  |                                         |         |   |                  |  
|                                                                                                 |  | $                                       | 842,700 |   |                  | $
|                                                                                                 |  |                                         |         |   |                  |  



The accompanying notes are an integral
part of these Consolidated Financial Statements.



2



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TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED BALANCE SHEETSContinued



|                                                                                                                                   |  | September 30,2003                       |         |   | December 31,2002 |  
|---------------------------------------------------------------------------------------------------------------------------------- |  | --------------------------------------- | ------- | - | ---------------- | -
|                                                                                                                                   |  | (dollars in thousands,except per share) |        
|Liabilities and Stockholders Equity                                                                                               |  |                                         |         |   |                  |  
|Liabilities                                                                                                                        |  |                                         |         |   |                  |  
|Notes and interest payable                                                                                                         |  | $                                       | 578,937 |   |                  | $
|Liabilities related to assets held for sale                                                                                        |  |                                         | 18,225  |   |                  |  
|Other liabilities (including $13,767 in 2003 and $5,272 in 2002 to related parties)                                                |  |                                         | 29,212  |   |                  |  
|                                                                                                                                   |  |                                         |         |   |                  |  
|                                                                                                                                   |  |                                         | 626,374 |   |                  |  
|                                                                                                                                   |  |                                        
|Commitments and contingencies                                                                                                      |  |                                         |         |   |                  |  
|                                                                                                                                   |  |                                        
|Minority interest                                                                                                                  |  |                                         | 2,399   |   |                  |  
|                                                                                                                                   |  |                                        
|Stockholders equity                                                                                                               |  |                                         |         |   |                  |  
|Preferred stock, $.01 par value; authorized, 10,000,000 shares                                                                     |  |                                         |         |   |                  |  
|Series A; $.01 par value; authorized, 6,000 shares; issued and outstanding 5,829 shares (liquidation preference
$583)              |  |                                         |        |   |                  |  
|Series C; $.01 par value; authorized, issued and outstanding 30,000 shares (liquidation preference $3,000)                         |  |                                         |        |   |                  |  
|Common stock, $.01 par value; authorized, 25,000,000 shares; issued and outstanding 8,072,594 shares in 2003 and 8,042,594 in
2002 |  |                                         | 81      |   |                  |  
|Paid-in capital                                                                                                                    |  |                                         | 256,905 |   |                  |  
|Accumulated deficit                                                                                                                |  |                                         | <42,477 | > |                  |  
|Accumulated other comprehensive loss                                                                                               |  |                                         | <582    | > |                  |  
|                                                                                                                                   |  |                                         |         |   |                  |  
|                                                                                                                                   |  |                                         | 213,927 |   |                  |  
|                                                                                                                                   |  |                                         |         |   |                  |  
|                                                                                                                                   |  | $                                       | 842,700 |   |                  | $
|                                                                                                                                   |  |                                         |         |   |                  |  



The
accompanying notes are an integral part of these Consolidated Financial Statements.



3



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TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS



|                                                                                                                                           |  | For the Three MonthsEnded September 30,  |         |   | For the Nine MonthsEnded September 30, |  
|------------------------------------------------------------------------------------------------------------------------------------------ |  | ---------------------------------------- | ------- | - | -------------------------------------- | -
|                                                                                                                                           |  | 2003                                     |         |   | 2002                                   |  
|                                                                                                                                           |  | (dollars in thousands, except per share) |        
|Property revenue                                                                                                                           |  |                                          |         |   |                                        |  
|Rents (including $34 for nine months of 2003 and 2002 from related parties)                                                                |  | $                                        | 29,851  |   |                                        | $
|Property expense                                                                                                                           |  |                                          |         |   |                                        |  
|Property operations (including $3,323 for nine months of 2003 and $3,799 for nine months of 2002 to affiliates and related
parties)        |  |                                          | 19,715  |   |                                        |  
|                                                                                                                                           |  |                                          |         |   |                                        |  
|Operating income                                                                                                                           |  |                                          | 10,136  |   |                                        |  
|Land Operations                                                                                                                            |  |                                          |         |   |                                        |  
|Sales                                                                                                                                      |  |                                          | 2,600   |   |                                        |  
|Cost of Sales                                                                                                                              |  |                                          | 1,983   |   |                                        |  
|                                                                                                                                           |  |                                          |         |   |                                        |  
|Gain on sales                                                                                                                              |  |                                          | 617     |   |                                        |  
|Other income <loss>                                                                                                                        |  |                                          |         |   |                                        |  
|Interest and other (including $632 for nine months of 2003 and $592 for nine months of 2002 from affiliates and related
parties)           |  |                                          | 486     |   |                                        |  
|Equity in loss of equity investees                                                                                                         |  |                                          | <1,174  | > |                                        |  
|                                                                                                                                           |  |                                          |         |   |                                        |  
|                                                                                                                                           |  |                                          | <688    | > |                                        |  
|Other expense                                                                                                                              |  |                                          |         |   |                                        |  
|Interest                                                                                                                                   |  |                                          | 11,193  |   |                                        |  
|Depreciation                                                                                                                               |  |                                          | 5,360   |   |                                        |  
|Provision for asset impairment                                                                                                             |  |                                          |        |   |                                        |  
|Discount on sale of note receivable                                                                                                        |  |                                          |        |   |                                        |  
|Advisory fee to affiliates                                                                                                                 |  |                                          | 1,743   |   |                                        |  
|General and administrative (including $1,226 for nine months of 2003 and $1,446 for nine months of 2002 to affiliates and related
parties) |  |                                          | 3,371   |   |                                        |  
|Loss on foreign currency transaction                                                                                                       |  |                                          | 966     |   |                                        |  
|Provision for loss                                                                                                                         |  |                                          |        |   |                                        |  
|Minority interest                                                                                                                          |  |                                          | <232    | > |                                        |  
|                                                                                                                                           |  |                                          |         |   |                                        |  
|                                                                                                                                           |  |                                          | 22,401  |   |                                        |  
|                                                                                                                                           |  |                                          |         |   |                                        |  
|Net loss from continuing operations                                                                                                        |  |                                          | <12,336 | > |                                        |  
|Discontinued operations:                                                                                                                   |  |                                          |         |   |                                        |  
|Income <loss> from operations                                                                                                              |  |                                          | <175    | > |                                        |  
|Gain on sale of operations                                                                                                                 |  |                                          | 9,948   |   |                                        |  
|Equity in investees gain on sale of real estate                                                                                            |  |                                          | 1,217   |   |                                        |  
|                                                                                                                                           |  |                                          |         |   |                                        |  
|                                                                                                                                           |  |                                          | 10,990  |   |                                        |  
|                                                                                                                                           |  |                                          |         |   |                                        |  
|Net income <loss>                                                                                                                          |  |                                          | <1,346  | > |                                        |  
|Preferred dividend requirement                                                                                                             |  |                                          | <45     | > |                                        |  
|                                                                                                                                           |  |                                          |         |   |                                        |  
|Net income <loss> applicable to common shares                                                                                              |  | $                                        | <1,391  | > |                                        | $
|                                                                                                                                           |  |                                          |         |   |                                        |  



The
accompanying notes are an integral part of these Consolidated Financial Statements.



4



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TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS



|                                                                    |  | For the Three MonthsEnded September 30,  |           |   | For the Nine MonthsEnded September 30, |  
|------------------------------------------------------------------- |  | ---------------------------------------- | --------- | - | -------------------------------------- | -
|                                                                    |  | 2003                                     |           |   | 2002                                   |  
|                                                                    |  | (dollars in thousands, except per share) |          
|Basic earnings per share                                            |  |                                          |           |   |                                        |  
|Net loss from continuing operations                                 |  | $                                        | <1.53     | > |                                        | $
|Discontinued operations                                             |  |                                          | 1.36      |   |                                        |  
|                                                                    |  |                                          |           |   |                                        |  
|Net income <loss> applicable to common shares                       |  | $                                        | <.17      | > |                                        | $
|                                                                    |  |                                          |           |   |                                        |  
|Diluted earnings per share                                          |  |                                          |           |   |                                        |  
|Net loss from continuing operations                                 |  | $                                        | <1.53     | > |                                        | $
|Discontinued operations                                             |  |                                          | 1.36      |   |                                        |  
|                                                                    |  |                                          |           |   |                                        |  
|Net income <loss> applicable to common shares                       |  | $                                        | <.17      | > |                                        | $
|                                                                    |  |                                          |           |   |                                        |  
|Weighted average common shares used in computing earnings per share |  |                                          |           |   |                                        |  
|Basic                                                               |  |                                          | 8,072,594 |   |                                        |  
|Diluted                                                             |  |                                          | 8,072,594 |   |                                        |  



The
accompanying notes are an integral part of these Consolidated Financial Statements.



5



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TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY



|                                                         |  | Common Stock                             |  | Paid-inCapital |    |  | AccumulatedDeficit |         |   | AccumulatedOtherComprehensiveIncome/(Loss) |   |         | StockholdersEquity | 
|-------------------------------------------------------- |  | ---------------------------------------- |  | -------------- | -- |  | ------------------ | ------- | - | ------------------------------------------ | - | ------- | ------------------- | 
|                                                         |  | Shares                                   |  | Amount         |    |  |                    |        
|                                                         |  | (dollars in thousands, except per share) | 
|                                                         |  |                                          |  |                |    | 
|Balance, January 1, 2003                                 |  | 8,072,594                                |  | $              | 81 |  | $                  | 257,040 |   |                                            | $ | <35,294 | >                   | 
|Unrealized loss on foreign currency translation          |  |                                         |  |                |   |  |                    |        |   |                                            |   |        |                     | 
|Net loss                                                 |  |                                         |  |                |   |  |                    |        |   |                                            |   | <7,183  | >                   | 
|                                                         |  |                                          |  |                |    |  |                    |         |   |                                            |   |         |                     | 
|Comprehensive loss                                       |  |                                          |  |                |    |  |                    |         |   |                                            |   |         |                     | 
|Series A Preferred Stock cash dividend ($4.50 per share) |  |                                         |  |                |   |  |                    | <23     | > |                                            |   |        |                     | 
|Series C Preferred Stock cash dividend ($4.50 per share) |  |                                         |  |                |   |  |                    | <112    | > |                                            |   |        |                     | 
|                                                         |  |                                          |  |                |    |  |                    |         |   |                                            |   |         |                     | 
|Balance, September 30, 2003                              |  | 8,072,594                                |  | $              | 81 |  | $                  | 256,905 |   |                                            | $ | <42,477 | >                   | 
|                                                         |  |                                          |  |                |    |  |                    |         |   |                                            |   |         |                     | 



The
accompanying notes are an integral part of these Consolidated Financial Statements.



6



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TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS



|                                                                                      |  | For the Nine MonthsEnded September 30, |        
|------------------------------------------------------------------------------------- |  | -------------------------------------- | -------
|                                                                                      |  | 2003                                   |        
|                                                                                      |  | (dollars in thousands)                 |        
|Cash Flows from Operating Activities                                                  |  |                                        |        
|Reconciliation of net loss to net cash used by operating activities                   |  |                                        |        
|Net loss                                                                              |  | $                                      | <7,183 
|Adjustments to reconcile net loss to net cash used by operating activities            |  |                                        |        
|Depreciation and amortization                                                         |  |                                        | 16,449 
|Provision for loss                                                                    |  |                                        |       
|Amortization of deferred borrowing costs                                              |  |                                        | 2,264  
|Gain on sale of real estate                                                           |  |                                        | <21,996
|Provision for asset impairment                                                        |  |                                        |       
|Equity in loss of equity investees                                                    |  |                                        | 2,766  
|Loss on foreign currency transaction                                                  |  |                                        | 966    
|Loss allocated to minority interest                                                   |  |                                        | <333   
|Increase in interest receivable                                                       |  |                                        | <1,345 
|Increase in other assets                                                              |  |                                        | <588   
|Increase <decrease> in interest payable                                               |  |                                        | <709   
|Increase <decrease> in other liabilities                                              |  |                                        | <357   
|                                                                                      |  |                                        |        
|Net cash used in operating activities                                                 |  | $                                      | <10,066
|                                                                                      |  |                                        |        
|Cash Flows from Investing Activities                                                  |  |                                        |        
|Collections on notes receivable (including $1,333 in 2002 from related parties)       |  | $                                      | 2,711  
|Funding of notes receivable (including $14,480 in 2002 to related parties)            |  |                                        | <685   
|Acquisition of real estate (including $690 in 2002 to affiliates and related parties) |  |                                        | <13,132
|Real estate improvements                                                              |  |                                        | <6,486 
|Payments made under interest rate swap agreement                                      |  |                                        | <87    
|Real estate construction                                                              |  |                                        | <28,733
|Proceeds from sale of real estate                                                     |  |                                        | 45,745 
|Advance from affiliate                                                                |  |                                        |       
|Contributions to equity investees, net                                                |  |                                        | <50    
|Payments <to> from advisor                                                            |  |                                        | 9,586  
|Deposits on pending purchases and financings                                          |  |                                        | <8,571 
|Purchase of marketable equity securities                                              |  |                                        | <5,000 
|                                                                                      |  |                                        |        
|Net cash used in investing activities                                                 |  |                                        | <4,702 
|Cash Flows from Financing Activities                                                  |  |                                        |        
|Payments on notes payable                                                             |  |                                        | <54,791
|Proceeds from notes payable                                                           |  |                                        | 65,574 
|Deferred financing costs (including $54 in 2002 to affiliates and related parties)    |  |                                        | <1,385 
|Dividends to stockholders                                                             |  |                                        |       
|Proceeds from exercise of stock options                                               |  |                                        |       
|                                                                                      |  |                                        |        
|Net cash provided by financing activities                                             |  |                                        | 9,398  
|Net decrease in cash and cash equivalents                                             |  |                                        | <5,370 
|Cash and cash equivalents, beginning of period                                        |  |                                        | 10,558 
|                                                                                      |  |                                        |        
|Cash and cash equivalents, end of period                                              |  | $                                      | 5,188  
|                                                                                      |  |                                        |        



The
accompanying notes are an integral part of these Consolidated Financial Statements.



7



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TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWSContinued



|                                                           |  | For the Nine MonthsEnded September 30,
|---------------------------------------------------------- |  | --------------------------------------
|                                                           |  | 2003                                  
|                                                           |  | (dollars in thousands)                
|Supplemental Disclosures of Cash Flow Information:         |  |                                       
|                                                           |  |                                       
|Cash paid for interest                                     |  | $                                     
|                                                           |  |                                       
|Schedule of noncash investing and financing activities:    |  |                                       
|Notes payable assumed on purchase of real estate           |  |                                       
|Notes payable assumed by buyer on sale of real estate      |  |                                       
|Funds collected by affiliate on sale of note receivable    |  |                                       
|Notes receivable provided on sale of real estate           |  |                                       
|Real estate received on exchange with related party        |  |                                       
|Real estate received from related party as payment of debt |  |                                       
|Real estate received as paydown of note receivable         |  |                                       
|Note paid by affiliate                                     |  |                                       
|Cash received by affiliate on sale of real estate          |  |                                       



The accompanying notes are an integral
part of these Consolidated Financial Statements.



8



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



NOTE 1. BASIS OF PRESENTATION



TCI is a Nevada corporation and successor to a California business trust which was organized on September 6, 1983. TCI invests in real estate through direct ownership,
leases and partnerships. TCI also invests in mortgage loans on real estate.



The accompanying Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. Dollar amounts in tables are
in thousands, except per share amounts. Certain balances for 2002 have been reclassified to conform to the 2003 presentation.



Operating results for the nine month period ended September 30, 2003, are not necessarily indicative of the results that may be expected for the year ending December 31,
2003. For further information, refer to the Consolidated Financial Statements and notes included in TCIs Annual Report on Form 10-K for the year ended December 31, 2002 (the 2002 Form 10-K).



Effective March 31, 2003, TCI financial results have been consolidated in the American Realty
Investors, Inc. (ARI) Form 10-Q and related consolidated financial statements. As of September 30, 2003, ARI owned 76.8% of the outstanding TCI common shares.



TCI provides stock options to certain directors. TCI accounts for these stock options using the intrinsic method pursuant to the Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB 25), and related interpretations. In December 2002, the Financial Accounting Standards Board issued SFAS No. 148, Accounting for Stock-Based
CompensationTransition and Disclosure (SFAS 148), which amended SFAS No. 123, Accounting for Stock-Based Compensation (SFAS No. 123). The new standard provides alternative methods of transition for a
voluntary change to the fair value based method of accounting for stock-based employee compensation. Additionally, the statement amends the disclosure requirements of SFAS 123 to require prominent disclosures in the annual and interim financial
statements for fiscal years ending after December 15, 2002. In compliance with SFAS No. 148, TCI has elected to continue to follow the intrinsic value method in accounting for its stock-based employee compensation arrangement as defined by APB 25.
If TCI had elected to recognize compensation cost for the issuance of options to directors of TCI based on the fair value at the grant dates for awards consistent with the fair value method prescribed by SFAS No. 123, net income <loss> and
income <loss> per share would have been impacted as follows:



|                                          |  | For the ThreeMonths EndedSeptember 30, |        | For the NineMonths EndedSeptember 30, |     
|----------------------------------------- |  | -------------------------------------- | ------ | ------------------------------------- | ----
|                                          |  | 2003                                   |        |                                       | 2002
|Net income <loss>                         |  |                                        |        |                                       |     
|As reported                               |  | $                                      | <1,346 | >                                     |     
|Proforma compensation expense, net of tax |  |                                        |       |                                       |     
|                                          |  |                                        |        |                                       |     
|Proforma                                  |  | $                                      | <1,346 | >                                     |     
|                                          |  |                                        |        |                                       |     
|Basic earnings <loss> per share:          |  |                                        |        |                                       |     
|As reported                               |  | $                                      | <.17   | >                                     |     
|Proforma                                  |  | $                                      | <.17   | >                                     |     
|Diluted earnings <loss> per share:        |  |                                        |        |                                       |     
|As reported                               |  | $                                      | <.17   | >                                     |     
|Proforma                                  |  | $                                      | <.17   | >                                     |     



Recent Accounting pronouncements.In November 2002, the FASB issued Interpretation No. 45, Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, which disclosures are effective for financial
statements issued after December 15, 2002. While TCI has various guarantees included in contracts in the normal course of business, these guarantees would not represent significant commitments or contingent liabilities of the indebtedness of
entities outside of the consolidated company.



In April 2002, the FASB issued
Statement 145, Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Correction (SFAS No. 145). Statement 4, Reporting Gains and Losses from Extinguishment of Debt
(SFAS No. 4), required that gains and losses from the extinguishment of debt that were included in the determination of net income be aggregated and, if material, classified as an extraordinary item. The provisions of SFAS No. 145
related to the rescission of SFAS No. 4 will require TCI to reclassify prior period items that do not meet the extraordinary classification. The provisions of SFAS No.



9



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



145 that relate to the rescission of SFAS No. 4 became effective in fiscal years beginning after May 15, 2002. The adoption of SFAS No. 145 is not expected
to have a material impact on the consolidated financial position or results of operations of TCI.



In June 2002, the FASB issued SFAS No. 146, Accounting for costs Associated with Exit or Disposal Activities, which addresses accounting for restructuring and similar costs. SFAS No. 146 supersedes
previous accounting guidance, principally Emerging Issues Task Force (EITF) Issue No. 94-3. TCI adopted the provisions of SFAS No. 146 for restructuring activities initiated after December 31, 2002. SFAS No. 146 requires that the
liability for costs associated with an exit or disposal activity be recognized when the liability is incurred. Under EITF No. 94-3, a liability for an exit cost was recognized at the date of a companys commitment to an exit plan. SFAS No. 146
also establishes that the liability should initially be measured and recorded at fair value. Accordingly, SFAS No. 146 may affect the timing of recognizing future restructuring costs as well as the amount recognized.



In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equity. This statement establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires the issuer to
classify a financial instrument that is within the scope of the standard as a liability if such financial instrument embodies an obligation of the issuer. The adoption of SFAS No. 150 is not expected to require TCI to reclass any financial
instruments currently on our balance sheet.



NOTE 2. REAL ESTATE



In 2003, TCI purchased the following properties:



|Property            |  | Location           |  | Units/Sq.Ft./Acres |  | PurchasePrice |       | Net CashPaid |   | DebtIncurred |  |   | InterestRate |     |  | MaturityDate |    
|------------------- |  | ------------------ |  | ------------------ |  | ------------- | ----- | ------------ | - | ------------ |  | - | ------------ | --- |  | ------------ | ---
|First Quarter       |  |                    |  |                    |  |               |       |              |   |              |  |   |              |     |  |              |    
|Apartments          |  |                    |  |                    |  |               |       |              |   |              |  |   |              |     |  |              |    
|Heather Creek(1)    |  | Mesquite, TX       |  | 200 Units          |  | $             | 2,523 |              | $ | 449          |  | $ | 2,074        |     |  | 6.15         | %  
|Capitol Hill(1)     |  | Little Rock, AR    |  | 156 Units          |  |               | 1,904 |              |   | 615          |  |   | 1,289        |     |  | 5.50         |    
|Kingsland Ranch(1)  |  | Houston, TX        |  | 398 Units          |  |               | 3,300 |              |   |             |  |   | 3,300        |     |  | 6.12         |    
|                    |  |                    |  |                    |  |               |      
|Shopping Center     |  |                    |  |                    |  |               |       |              |   |              |  |   |              |     |  |              |    
|Bridgeview Plaza(2) |  | LaCrosse, WI       |  | 116,008 Sq.Ft.     |  |               | 8,700 |              |   |             |  |   |             |     |  |             |    
|Cullman(2) (6)      |  | Cullman, AL        |  | 92,433 Sq.Ft.      |  |               | 2,000 |              |   |             |  |   | 2,650        | (4) |  | 16.75        |    
|                    |  |                    |  |                    |  |               |      
|Land                |  |                    |  |                    |  |               |       |              |   |              |  |   |              |     |  |              |    
|Maumelle            |  | Maumelle, AR       |  | 10.8 Acres         |  |               | 1,100 |              |   | 412          |  |   | 640          |     |  | 5.75         |    
|                    |  |                    |  |                    |  |               |      
|Second Quarter      |  |                    |  |                    |  |               |       |              |   |              |  |   |              |     |  |              |    
|Apartments          |  |                    |  |                    |  |               |       |              |   |              |  |   |              |     |  |              |    
|Breakwater Bay(1)   |  | Beaumont, TX       |  | 176 Units          |  |               | 1,979 |              |   | 383          |  |   | 1,554        |     |  | 5.50         |    
|                    |  |                    |  |                    |  |               |      
|Land                |  |                    |  |                    |  |               |       |              |   |              |  |   |              |     |  |              |    
|Pulaski             |  | Pulaski County, AR |  | 21.9 Acres         |  |               | 2,095 |              |   | 695          |  |   | 1,400        |     |  | 6.50         |    
|                    |  |                    |  |                    |  |               |      
|Third Quarter       |  |                    |  |                    |  |               |       |              |   |              |  |   |              |     |  |              |    
|Land                |  |                    |  |                    |  |               |       |              |   |              |  |   |              |     |  |              |    
|Sheffield Village   |  | Grand Prairie, TX  |  | 13.899 Acres       |  |               | 1,643 |              |   | 532          |  |   | 975          |     |  | 5.50         | (5)

---

|(1) | Land purchased for apartment construction.
|--- | ------------------------------------------

|(2) | Property received from a related party for forgiveness of debt.
|--- | ---------------------------------------------------------------

|(3) | Debt was paid off in April refinance. See NOTE 7. NOTES AND INTEREST PAYABLE.
|--- | -------------------------------------------------------------------------------

|(4) | Assumed debt.
|--- | -------------

|(5) | Variable interest rate.
|--- | -----------------------

|(6) | TCI assumed $2.65 million of debt along with receiving property valued at $2.0 million and a
note receivable valued at $650,000.
|--- | --------------------------------------------------------------------------------------------------------------------------------



10



---

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



In 2002, TCI purchased the following properties:



|Property             |  | Location           |  | Units/Sq.Ft./Acres |  | PurchasePrice |        | Net CashPaid |   | DebtIncurred |  |   | InterestRate |     |  | MaturityDate |    
|-------------------- |  | ------------------ |  | ------------------ |  | ------------- | ------ | ------------ | - | ------------ |  | - | ------------ | --- |  | ------------ | ---
|First Quarter        |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|Apartments           |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|Blue Lakes Villas(1) |  | Waxahachie, TX     |  | 186 Units          |  | $             | 1,012  |              | $ | 1,048        |  | $ |             |     |  |             | %  
|Echo Valley(1)       |  | Dallas, TX         |  | 216 Units          |  |               | 787    |              |   | 788          |  |   |             |     |  |             |    
|Spy Glass(1)         |  | Mansfield, TX      |  | 256 Units          |  |               | 1,280  |              |   | 1,042        |  |   | 208          |     |  | 7.50         |    
|Rasor(1) (2)         |  | Plano, TX          |  | 200 Units          |  |               | 2,319  |              |   | 310          |  |   |             |     |  |             |    
|                     |  |                    |  |                    |  |               |       
|Shopping Center      |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|Oak Tree Village(2)  |  | Lubbock, TX        |  | 45,623 Sq.Ft.      |  |               | 1,467  |              |   | 196          |  |   | 1,389        | (3) |  | 8.48         |    
|                     |  |                    |  |                    |  |               |       
|Land                 |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|Lakeshore Villas(2)  |  | Humble, TX         |  | 16.89 Acres        |  |               | 947    |              |   | 127          |  |   |             |     |  |             |    
|                     |  |                    |  |                    |  |               |       
|Second Quarter       |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|Apartments           |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|DeSoto Ranch(1)      |  | DeSoto, TX         |  | 248 Units          |  |               | 1,364  |              |   | 1,489        |  |   | 2,246        |     |  | 7.18         |    
|                     |  |                    |  |                    |  |               |       
|Office Building      |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|Centura(4)           |  | Farmers Branch, TX |  | 410,901 Sq.Ft.     |  |               | 50,000 |              |   |             |  |   | 43,739       | (3) |  | 13.00        | (5)
|                     |  |                    |  |                    |  |               |       
|Land                 |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|Hollywood Casino(4)  |  | Dallas, TX         |  | 42.64 Acres        |  |               | 16,987 |              |   |             |  |   | 6,222        | (3) |  | 9.50         | %  
|Marine Creek(4)      |  | Ft. Worth, TX      |  | 54 Acres           |  |               | 3,700  |              |   |             |  |   | 1,500        | (3) |  | 9.00         |    
|Mason Park(4)        |  | Houston, TX        |  | 18 Acres           |  |               | 2,790  |              |   |             |  |   | 2,600        | (3) |  | 14.00        |    
|Nashville(4)         |  | Nashville, TN      |  | 16.57 Acres        |  |               | 1,890  |              |   |             |  |   | 955          | (3) |  | 15.50        |    
|Palm Desert(4)       |  | Palm Desert, CA    |  | 61 Acres           |  |               | 3,920  |              |   |             |  |   |             |     |  |             |    
|                     |  |                    |  |                    |  |               |       
|Third Quarter        |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|Land                 |  |                    |  |                    |  |               |        |              |   |              |  |   |              |     |  |              |    
|2301 Valley Branch   |  | Farmers Branch, TX |  | 23.76 Acres        |  |               | 4,165  |              |   | 1,000        |  |   | 3,124        |     |  | 5.00         |    

---

|(1) | Land purchased for apartment construction.
|--- | ------------------------------------------

|(2) | Property exchanged with American Realty Investors, Inc. (ARI), a related party,
for the Plaza on Bachman Creek Retail Center.
|--- | -------------------------------------------------------------------------------------------------------------------------------

|(3) | Assumed debt.
|--- | -------------

|(4) | Property received from ARI, a related party, for forgiveness of debt.
|--- | ---------------------------------------------------------------------

|(5) | Weighted average. The Centura Tower is encumbered by two loans, one for $28.7 million at
10.5% and the other for $15.0 million at 17.9%.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------

|(6) | Extension negotiations are currently under way on these loans.
|--- | --------------------------------------------------------------

|(7) | Loan was paid in full in June 2003.
|--- | -----------------------------------



11



---

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



In 2003, TCI sold the following properties:



|Property              |  | Location          |  | Units/Acres/Rooms/Sq.Ft. |  | SalesPrice |        | Net CashReceived |   |       | DebtExtinguished |  |   | Gainon Sale |    
|--------------------- |  | ----------------- |  | ------------------------ |  | ---------- | ------ | ---------------- | - | ----- | ---------------- |  | - | ----------- | ---
|First Quarter         |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Office Building       |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|4135 Beltline         |  | Addison, TX       |  | 90,000 Sq.Ft.            |  | $          | 4,358  |                  | $ |      |                  |  | $ | 2,858       | (3)
|                      |  |                   |  |                          |  |           
|Hotel                 |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Majestic Inn          |  | San Francisco, CA |  | 57 Rooms                 |  |            | 5,348  |                  |   |      |                  |  |   | 5,255       | (3)
|                      |  |                   |  |                          |  |           
|Second Quarter        |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Apartments            |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Willow Wick           |  | North Augusta, SC |  | 104 Units                |  |            | 2,707  |                  |   | 255   |                  |  |   | 1,943       |    
|                      |  |                   |  |                          |  |           
|Industrial Warehouses |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|McLeod                |  | Orlando, FL       |  | 110,914 Sq.Ft.           |  |            | 5,450  |                  |   | 2,980 |                  |  |   | 1,902       |    
|Tricon                |  | Atlanta, GA       |  | 570,877 Sq.Ft.           |  |            | 13,084 |                  |   | 3,364 |                  |  |   | 9,395       |    
|                      |  |                   |  |                          |  |           
|Land                  |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Solco-Valley Ranch    |  | Dallas, TX        |  | 6.0693 Acres             |  |            | 1,999  |                  |   |      | (7)              |  |   |            |    
|                      |  |                   |  |                          |  |           
|Third Quarter         |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Apartments            |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Lincoln Court         |  | Dallas, TX        |  | 55 Units                 |  |            | 3,038  |                  |   | 1,834 |                  |  |   | 1,208       | (3)
|Quail Creek           |  | Lawrence, KS      |  | 95 Units                 |  |            | 4,700  |                  |   | 1,188 |                  |  |   | 3,260       |    
|Stone Oak             |  | San Antonio, TX   |  | 252 Units                |  |            | 6,930  |                  |   | 3,670 |                  |  |   | 2,699       |    
|                      |  |                   |  |                          |  |           
|Hotels                |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|City Suites           |  | Chicago, IL       |  | 45 Rooms                 |  |            | 4,806  |                  |   | 89    |                  |  |   | 4,081       | (3)
|Majestic              |  | Chicago, IL       |  | 52 Rooms                 |  |            | 3,550  |                  |   | 66    |                  |  |   | 2,448       | (3)
|Willows               |  | Chicago, IL       |  | 55 Rooms                 |  |            | 5,144  |                  |   | 95    |                  |  |   | 4,054       | (3)
|                      |  |                   |  |                          |  |           
|Office Building       |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Bonita Plaza          |  | Bonita, CA        |  | 47,777 Sq.Ft.            |  |            | 8,034  |                  |   | 1,698 |                  |  |   | 5,944       |    
|                      |  |                   |  |                          |  |           
|Shopping Center       |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|K-Mart                |  | Sheboygen, WI     |  | 74,532 Sq.Ft.            |  |            | 1,225  |                  |   | 669   |                  |  |   | 569         |    
|Oak Tree Village      |  | Lubbock, TX       |  | 45,623 Sq.Ft.            |  |            | 3,366  |                  |   | 1,528 |                  |  |   | 1,328       |    
|                      |  |                   |  |                          |  |           
|Land                  |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Palm Desert           |  | Palm Desert, CA   |  | 25.06 Acres              |  |            | 2,600  |                  |   |      | (8)              |  |   |            |    
|                      |  |                   |  |                          |  |           
|Fourth Quarter        |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Apartments            |  |                   |  |                          |  |            |        |                  |   |       |                  |  |   |             |    
|Summerfield           |  | Orlando, FL       |  | 224 Units                |  |            | 9,415  |                  |   | 4,845 |                  |  |   | 4,476       |    



|(1) | Excludes $178,000 deferred gain from sale to related party. See NOTE 3. NOTES AND INTEREST RECEIVABLE.
|--- | --------------------------------------------------------------------------------------------------------

|(2) | Excludes $427,000 deferred gain from sale to related party. See NOTE 3. NOTES AND INTEREST RECEIVABLE.
|--- | --------------------------------------------------------------------------------------------------------

|(3) | Debt assumed by purchaser.
|--- | --------------------------

|(4) | Excludes $386,000 deferred gain from sale to related party. See NOTE 3. NOTES AND INTEREST RECEIVABLE.
|--- | --------------------------------------------------------------------------------------------------------

|(5) | Excludes $282,000 deferred gain from sale to related party. See NOTE 3. NOTES AND INTEREST RECEIVABLE.
|--- | --------------------------------------------------------------------------------------------------------

|(6) | Excludes $412,000 deferred gain from sale to related party. See NOTE 3. NOTES AND INTEREST RECEIVABLE.
|--- | --------------------------------------------------------------------------------------------------------

|(7) | Funds received by an affiliate increasing the affiliate receivable balance by $1,999.
|--- | -------------------------------------------------------------------------------------

|(8) | Funds received by an affiliate increasing the affiliate receivable balance by $2,600.
|--- | -------------------------------------------------------------------------------------



12



---

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



In 2002, TCI sold the following properties:



|Property                  |  | Location         |  | Units/Sq.Ft./Acres |  | SalesPrice |        | Net CashReceived |   | DebtExtinguished |  | Gain/<Loss>on Sale |      
|------------------------- |  | ---------------- |  | ------------------ |  | ---------- | ------ | ---------------- | - | ---------------- |  | ------------------ | -----
|First Quarter             |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Apartments                |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Primrose                  |  | Bakersfield, CA  |  | 162 Units          |  | $          | 5,000  |                  | $ | 1,722            |  | $                  | 2,920
|                          |  |                  |  |                    |  |           
|Office Building           |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Hartford                  |  | Dallas, TX       |  | 174,513 Sq.Ft.     |  |            | 4,000  |                  |   |                 |  |                    |     
|                          |  |                  |  |                    |  |           
|Industrial Warehouse      |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Central Storage           |  | Dallas, TX       |  | 216,035 Sq.Ft.     |  |            | 4,000  |                  |   | 2,095            |  |                    | 1,063
|                          |  |                  |  |                    |  |           
|Shopping Center           |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Plaza on Bachman Creek(2) |  | Dallas, TX       |  | 80,278 Sq.Ft.      |  |            | 4,707  |                  |   |                 |  |                    |     
|                          |  |                  |  |                    |  |           
|Second Quarter            |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Apartments                |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Southgreen                |  | Bakersfield, CA  |  | 80 Units           |  |            | 3,600  |                  |   | 1,011            |  |                    | 2,381
|                          |  |                  |  |                    |  |           
|Office Building           |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Jefferson                 |  | Washington, DC   |  | 78,159 Sq.Ft.      |  |            | 16,550 |                  |   | 5,957            |  |                    | 9,679
|Nasa                      |  | Clear Lake, TX   |  | 71,877 Sq.Ft.      |  |            | 2,600  |                  |   | 2,341            |  |                    |     
|Windsor Plaza             |  | Windcrest, TX    |  | 80,522 Sq.Ft.      |  |            | 4,250  |                  |   | 3,813            |  |                    |     
|                          |  |                  |  |                    |  |           
|Third Quarter             |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Apartments                |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|4242 Cedar Springs        |  | Dallas, TX       |  | 76 Units           |  |            | 2,600  |                  |   | 971              |  |                    | 1,288
|Camelot                   |  | Largo, FL        |  | 120 Units          |  |            | 5,263  |                  |   | 1,616            |  |                    | 3,298
|Country Crossing          |  | Tampa, FL        |  | 227 Units          |  |            | 5,800  |                  |   | 1,836            |  |                    | 3,726
|Gladstell Forest          |  | Conroe, TX       |  | 168 Units          |  |            | 4,875  |                  |   | 1,713            |  |                    | 2,360
|Heritage on the River     |  | Jacksonville, FL |  | 301 Units          |  |            | 12,475 |                  |   | 4,317            |  |                    | 7,606
|                          |  |                  |  |                    |  |           
|Office Building           |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Savings of America        |  | Houston, TX      |  | 68,634 Sq.Ft.      |  |            | 2,800  |                  |   | 1,104            |  |                    | 1,185
|                          |  |                  |  |                    |  |           
|Land                      |  |                  |  |                    |  |            |        |                  |   |                  |  |                    |      
|Palm Desert               |  | Palm Desert, CA  |  | 36 Acres           |  |            | 3,600  |                  |   | 685              |  |                    |     

---

|(1) | Excludes a $920,000 deferred gain from seller financing. See NOTE 3. NOTES AND INTEREST RECEIVABLE.
|--- | -----------------------------------------------------------------------------------------------------

|(2) | Property was exchanged with ARI, a related party, for the Oak Tree Village Shopping Center and two parcels of land; the Rasor land parcel and Lakeshore Villas land
parcel.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) | Excludes a $666,000 deferred gain from seller financing. See NOTE 3. NOTES AND INTEREST RECEIVABLE.
|--- | -----------------------------------------------------------------------------------------------------



13



---

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



At September 30, 2003, TCI had the following properties under construction:



|Property                |  | Location        |  | Units     |  | AmountExpended |        | AdditionalAmountto Expend |   | ConstructionLoanFunding
|----------------------- |  | --------------- |  | --------- |  | -------------- | ------ | ------------------------- | - | -----------------------
|                        |  |                 |  |           | 
|Apartments              |  |                 |  |           |  |                |        |                           |   |                        
|Breakwater Bay          |  | Beaumont, TX    |  | 176 Units |  | $              | 2,487  |                           | $ | 7,980                  
|Capitol Hill            |  | Little Rock, AR |  | 156 Units |  |                | 3,111  |                           |   | 7,468                  
|DeSoto Ranch            |  | DeSoto, TX      |  | 248 Units |  |                | 15,872 |                           |   | 2,348                  
|Echo Valley             |  | Dallas, TX      |  | 216 Units |  |                | 10,031 |                           |   | 4,189                  
|Heather Creek           |  | Mesquite, TX    |  | 200 Units |  |                | 3,073  |                           |   | 10,229                 
|Kingsland Ranch         |  | Houston, TX     |  | 398 Units |  |                | 4,323  |                           |   | 21,332                 
|Verandas at City View   |  | Fort Worth, TX  |  | 314 Units |  |                | 13,745 |                           |   | 9,099                  
|Vistas at Pinnacle Park |  | Dallas, TX      |  | 322 Units |  |                | 2,788  |                           |   | 18,394                 



For the nine months ended September
30, 2003, TCI completed the 186 unit Blue Lake Villas in Waxahachie, Texas, the 284 unit Falcon Lakes in Arlington, Texas, the 180 unit River Oaks Apartments in Wiley, Texas, the 384 unit Sendero Ridge Apartments in San Antonio, Texas and the 256
unit Spyglass Apartments in Mansfield, Texas.



NOTE 3. NOTES AND INTEREST RECEIVABLE



In March 2003,
TCI sold the 57 room Majestic Inn in San Francisco, California, to One Realco Hotel Corp., a related party, for $5.3 million and provided $100,000 of the purchase price as seller financing. The note bears interest at a fixed interest rate of 12%,
requires quarterly interest only payments and matures in March 2004. In September 2003, One Realco Hotel filed for bankruptcy protection under Chapter 11. Management believes the hotel will emerge from bankruptcy as a viable asset and has not
established a reserve or classified the note receivable as nonperforming.



Also
in March 2003, TCI sold the 90,000 sq. ft., 4135 Beltline Office Building in Addison, Texas, for $4.4 million and provided $1.5 million of the purchase price as seller financing. The note bears interest at a fixed rate of 12%, requires quarterly
interest only payments and matures in March 2004.



In June 2003, TCI sold the
104 unit Willow Wick Apartments in North Augusta, South Carolina, for $2.7 million and provided $42,000 of the purchasers closing costs as seller financing. The note bears interest at a fixed rate of 5% and requires all interest and principal
payments be paid at maturity on December 2003.



In August 2003, TCI sold the 45
room City Suites Hotel, the 52 room Majestic Hotel and the 55 room Willows Hotel in Chicago, Illinois, to One Realco Hotel Corp., a related party, for $13.5 million and provided $2.7 million of the purchase price as seller financing. The note bears
interest at a fixed interest rate of 12%, requires semi-annual principal and interest payments and matures in August 2006. In September 2003, One Realco Hotel filed for bankruptcy protection under Chapter 11. The parent company of One Realco Hotel
has guaranteed the notes; therefore, management has not established reserves or classified the note receivables as nonperforming.



In January 2002, TCI purchased 100% of the outstanding common shares of ART Two Hickory Corporation (Two Hickory), a wholly-owned subsidiary of ARI, a related
party, for $4.4 million cash. Two Hickory owns the 96,217 sq. ft. Two Hickory Center Office Building in Farmers Branch, Texas. ARI has guaranteed that the asset shall produce at least a 12% annual return of the purchase price for a period of three
years from the purchase date. If the asset fails to produce the 12% annual return, ARI shall pay TCI any shortfall. In addition, if the asset fails to produce the 12% return for a calendar year and ARI fails to pay the shortfall, TCI may require ARI
to repurchase the shares of Two Hickory for the purchase price. Because ARI has guaranteed the 12% return and TCI has the option of requiring ARI to repurchase the entities, management has classified this related party transaction as a note
receivable from ARI. In June 2002, the asset was refinanced. TCI received $1.3 million of the proceeds as a principal reduction on its note receivable from ARI.



Also in January 2002, a mortgage loan with a principal balance of $608,000 was paid off, including accrued but unpaid interest. With the payoff of the note, TCI
recognized a previously deferred gain on the sale of the property of $608,000.



In August 2001, TCI agreed to fund up to $5.6 million secured by a second lien on an office building in Dallas, Texas. The note receivable bears interest at a variable rate, currently 9.0% per annum, requires monthly interest only payments
and matured in January 2003. As of September 2003, TCI has funded a total of $4.3 million and the note is classified as nonperforming. Management is



14



---

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



continuing collection efforts and continuing to negotiate new terms for this note. Management also believes new collateral will be secured to cover the note
balance; therefore no reserve has been established for this note.



In July
2001, TCI agreed to fund a $4.4 million line of credit secured by a second lien on 1,714.16 acres of unimproved land in Tarrant County, Texas. As of April 2003, TCI had funded $2.9 million of the line of credit and it was classified as
nonperforming. In May 2003, TCI received a $433,000 principal paydown. Also during May 2003, TCI received 14.373 acres of unimproved land in Tarrant County, Texas, valued at $1.1 million, as a principal paydown. As of July 2003, the loan has been
paid in full.



In March 2002, TCI sold the 174,513 sq.ft. Hartford Office
Building in Dallas, Texas, for $4.0 million and provided the $4.0 million purchase price as seller financing and an additional $1.4 million line of credit for leasehold improvements in the form of a first lien mortgage note. The note bears interest
at a variable interest rate, currently 6.0% per annum, requires monthly interest only payments of $14,667 and matures in March 2007. As of September 2003, TCI funded $282,000 of the additional line of credit.



In April 2002, TCI purchased 100% of the following entities: ART One Hickory Corporation
(One Hickory), Garden Confederate Point, LP (Confederate Point), Garden Foxwood, LP (Foxwood), and Garden Woodsong, LP (Woodsong), all wholly-owned subsidiaries of ARI, a related party, for $10.0
million. One Hickory owns the 120,615 sq. ft. One Hickory Center Office Building in Farmers Branch, Texas. Confederate Point owns the 206 unit Confederate Apartments in Jacksonville, Florida. Foxwood owns the 220 unit Foxwood Apartments in Memphis,
Tennessee. Woodsong owned the 190 unit Woodsong Apartments in Smyrna, Georgia. ARI has guaranteed that these assets shall produce at least a 12% return annually of the purchase price for a period of three years from the purchase date. If the assets
fail to produce the 12% return, ARI shall pay TCI any shortfall. In addition, if the assets fail to produce the 12% return for a calendar year and ARI fails to pay the shortfall, TCI may require ARI to repurchase the entities for the purchase price.
Because ARI has guaranteed the 12% return and TCI has the option of requiring ARI to repurchase the entities, management has classified this related party transaction as a note receivable from ARI.



In July 2002, TCI entered into an agreement to fund up to $300,000 under a revolving line of
credit secured by 100% interest in a partnership of the borrower. The line of credit bears interest at 12.0% per annum and requires monthly interest only payments, and matures in June 2005. As of September 2003, TCI has funded $267,000 of the line
of credit.



In September 2002, TCI sold a 36 acre tract of the Palm Desert land
parcel for $3.6 million and provided $2.7 million as seller financing in the form of a first lien mortgage note. The note bears interest at 8.0% per annum, requires quarterly interest only payments of $54,000 and matures in September 2004. In March
2003, the note was sold to a financial institution for $2.6 million.



In May
2002, a mortgage loan with a principal balance of $1.5 million was paid off, including accrued but unpaid interest. TCI agreed to a 5% discount on the note and recognized a loss of $75,000 from the note. TCI also recognized a previously deferred
gain of $1.5 million on the sale of the property.



In July 2002, a mortgage
loan with a principal balance of $2.2 million was paid off, including accrued but unpaid interest.



NOTE 4. INVESTMENT IN REAL ESTATE ENTITIES



Real estate entities. TCIs investment in real estate entities at September 30, 2003, included equity securities of two publicly
traded real estate entities, Income Opportunity Realty Investors, Inc. (IORI) and ARI, related parties, and interests in real estate joint venture partnerships. Basic Capital Management, Inc. (BCM), TCIs advisor until
July 1, 2003, also served as advisor to IORI and ARI until July 1, 2003. ARI is a related party that owns over 50% of TCIs common stock and consolidates TCIs financial accounts and operations.



Effective July 1, 2003, Prime Asset Management, Inc., (Prime) became the advisor
to TCI and ARI. Prime is owned by Realty Advisors (79%) and Syntek West, Inc. (21%), related parties. Syntek West, Inc. is owned by Gene Phillips. Effective August 18, 2003, Prime changed its name to Prime Income Asset Management, Inc. On October 1,
2003, Prime Income Asset Management, LLC (Prime LLC), which is 100% owned by Prime, replaced Prime as the advisor to TCI.



TCI accounts for its investment in IORI and ARI and the joint venture partnerships using the equity method.



15



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



TCIs investment in real estate entities, accounted for using the equity method, at September 30, 2003, was as
follows:



|Investee |  | Percentage ofTCIsOwnership atSeptember 30, 2003 |   |  | Carrying Value ofInvestment atSeptember 30, 2003 |        | EquivalentInvesteeBook Value atSeptember 30, 2003 |   | Market Value ofInvestment atSeptember 30, 2003
|-------- |  | ------------------------------------------------ | - |  | ------------------------------------------------ | ------ | ------------------------------------------------- | - | ----------------------------------------------
|IORI     |  | 24.0                                             | % |  | $                                                | 3,660  |                                                   | $ | 8,642                                         
|ARI      |  | 6.5                                              | % |  |                                                  | 10,014 |                                                   |   | 5,300                                         
|         |  |                                                  |   |  |                                                  |        |                                                   |   |                                               
|         |  |                                                  |   |  |                                                  | 13,674 |                                                   | $ | 13,942                                        
|         |  |                                                  |   |  |                                                  |        |                                                   |   |                                               
|Other    |  |                                                  |   |  |                                                  | 237    |                                                   |   |                                               
|         |  |                                                  |   |  |                                                  |        |                                                   |   |                                               
|         |  |                                                  |   |  | $                                                | 13,911 |                                                   |   |                                               
|         |  |                                                  |   |  |                                                  |        |                                                   |   |                                               



Management continues to believe that
the market value of each of IORI and ARI undervalues their assets and, therefore, TCI may continue to increase its ownership in these entities.



Set forth below is summarized results of operations of equity investees for the first nine months of 2003 and 2002.



|                                         |  | 2003 |          |   | 2002 |  
|---------------------------------------- |  | ---- | -------- | - | ---- | -
|Revenues                                 |  | $    | 110,676  |   |      | $
|Equity in income of partnerships         |  |      | <4,367   | > |      |  
|Property operating expenses              |  |      | <101,185 | > |      |  
|Depreciation                             |  |      | <8,486   | > |      |  
|Interest expense                         |  |      | <38,234  | > |      |  
|                                         |  |      |          |   |      |  
|Loss before gains on sale of real estate |  |      | <41,596  | > |      |  
|Gain on sale of real estate              |  |      | 47,058   |   |      |  
|                                         |  |      |          |   |      |  
|Net income <loss>                        |  | $    | 5,462    |   |      | $
|                                         |  |      |          |   |      |  



NOTE 5. MARKETABLE EQUITY SECURITIES



In March 2003,
TCI obtained a loan in the amount of $5.0 million to acquire equity securities of Realty Korea CR-REIT Co., Ltd. No. 1 representing approximately a 9.2% ownership interest. As of May 2003, the loan was paid in full. This investment is considered an
available-for-sale security. The change in market value between the date of purchase and September 30, 2003 was not material.



NOTE 6. RELATED PARTIES



On September 19, 2002, TCIs Board of Directors authorized the Chief Financial Officer of TCI to advance funds either to or from TCI, through BCM, in an amount up to
$15.0 million on the condition that such advances shall be repaid in cash or transfers of assets within 90 days. These advances are unsecured and bear no interest and generally have not had specific repayment terms and have been reflected in
TCIs financial statements as other assets and other liabilities.



In
March 2003, TCI purchased two properties from an affiliate with a net purchase price of $10.7 million, reducing the affiliate receivable balance by $8.1 million after the assumption of debt of $2.65 million.



In June 2003, TCI received funds of $757,000 from an affiliate reducing the affiliate
receivable. The funds paid down a note secured by undeveloped land in Harris County, Texas.



In July 2003, TCI paid $1.7 million to an affiliate for prior years legal fees incurred by Gene Phillips. Mr. Phillips is a related party and advisor to TCI.



In October 2003, TCI purchased a tract of land from an affiliate with a net purchase price of
$2.6 million, reducing the affiliate receivable balance.



In November 2003, ARI
paid $6.3 million in principal, accrued interest and closing costs on behalf of TCI as payment of the notes payables on five land tracts in Collin County. These funds were applied to the affiliate receivable balance.



16



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



The following table reconciles the beginning and ending balances of Accounts Receivable from Affiliates as of
September 30, 2003.



|                                        |  | PRIME |         |   | BCM |   |         | ARI |  |   | IORI  |  
|--------------------------------------- |  | ----- | ------- | - | --- | - | ------- | --- |  | - | ----- | -
|Balance, December 31, 2002              |  | $     |        |   |     | $ | 11,398  |     |  | $ | 6,039 |  
|Cash transfers                          |  |       | 17,329  |   |     |   | 31,809  |     |  |   |      |  
|Cash repayments                         |  |       | <27,131 | > |     |   | <31,484 | >   |  |   |      |  
|Repayments through property transfers   |  |       |        |   |     |   | <8,050  | >   |  |   |      |  
|Repayment through affiliate refinance   |  |       |        |   |     |   | <757    | >   |  |   |      |  
|Advance through sale of note receivable |  |       |        |   |     |   | 2,633   |     |  |   |      |  
|Other additions                         |  |       | 8,019   |   |     |   | 29,724  |     |  |   | <31   | >
|Other repayments                        |  |       | <7,724  | > |     |   | <27,153 | >   |  |   |      |  
|                                        |  |       |         |   |     |   |         |     |  |   |       |  
|Balance, September 30, 2003             |  | $     | <9,507  | > |     | $ | 8,120   |     |  | $ | 6,008 |  
|                                        |  |       |         |   |     |   |         |     |  |   |       |  



NOTE 7. NOTES AND INTEREST PAYABLE



In August 2003, TCI
received a loan for $5.0 million that is secured by its investment in equity securities of Realty Korea CR-REIT Co., Ltd. No. 1. The loan is also secured by a second deed of trust on commercial properties in North Carolina and Texas. The loan bears
interest at the prime rate plus 1%, requires monthly interest only payments and matures in August 2004.



In September 2003, the lender on one of TCIs commercial properties located in Oklahoma notified TCI that the loan on the property was in default, due to TCIs failure to make timely debt service payments.
The balance owed on the loan is $3.3 million. At November 2003, negotiations with the lender are ongoing.



In October 2003, TCI received a construction loan for $15.5 million for the construction of a new apartment development in Lewisville, Texas.



17



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



In 2003, TCI refinanced or financed the following properties:



|Property             |  | Location        |  | Sq.Ft./Units/Acres |  | DebtIncurred |       | DebtDischarged |   | Net CashReceived/(Paid) |  |   | InterestRate |     |  | MaturityDate |     
|-------------------- |  | --------------- |  | ------------------ |  | ------------ | ----- | -------------- | - | ----------------------- |  | - | ------------ | --- |  | ------------ | ----
|First Quarter        |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Apartments           |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Mountain Plaza       |  | El Paso, TX     |  | 188 Units          |  | $            | 4,350 |                | $ | 4,034                   |  | $ | <29          | >   |  | 6.63         | %(1)
|Stone Oak            |  | San Antonio, TX |  | 252 Units          |  |              | 2,500 |                |   |                        |  |   | 2,500        |     |  | 5.00         |     
|                     |  |                 |  |                    |  |              |      
|Office Building      |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Bonita Plaza         |  | Bonita, CA      |  | 47,777 Sq.Ft.      |  |              | 6,000 |                |   | 4,824                   |  |   | 1,134        |     |  | 5.25         | (1) 
|                     |  |                 |  |                    |  |              |      
|Second Quarter       |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Apartments           |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Plantation           |  | Tulsa, OK       |  | 138 Units          |  |              | 2,320 |                |   | 1,924                   |  |   | 173          |     |  | 5.60         |     
|                     |  |                 |  |                    |  |              |      
|Shopping Centers     |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Bridgeview           |  | La Crosse, WI   |  | 116,008 Sq.Ft.     |  |              | 6,500 |                |   |                        |  |   | 6,152        |     |  | 6.25         | (1) 
|Cullman              |  | Cullman, AL     |  | 92,433 Sq.Ft.      |  |              | 1,700 |                |   | 2,650                   |  |   | 1,048        |     |  | 6.25         | (1) 
|                     |  |                 |  |                    |  |              |      
|Industrial Warehouse |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Ogden Industrial     |  | Ogden, UT       |  | 107,112 Sq.Ft.     |  |              | 1,800 |                |   |                        |  |   | 1,722        |     |  | 6.25         | (1) 
|                     |  |                 |  |                    |  |              |      
|Third Quarter        |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Apartments           |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Tree House           |  | Irving, TX      |  | 160 Units          |  |              | 5,100 |                |   | 2,518                   |  |   | 2,132        |     |  | 5.00         | (1) 
|                     |  |                 |  |                    |  |              |      
|Fourth Quarter       |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Land                 |  |                 |  |                    |  |              |       |                |   |                         |  |   |              |     |  |              |     
|Rasor                |  | Plano, TX       |  | 24.5 Acres         |  |              | 1,260 |                |   |                        |  |   |             | (3) |  | 7.00         | (1) 

---

|(1) | Variable rate.
|--- | --------------

|(2) | Loan paid in full during July 2003.
|--- | -----------------------------------

|(3) | Funds received by an affiliate increasing the affiliate receivable balance by $1,226.
|--- | -------------------------------------------------------------------------------------



18



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



In 2002, TCI refinanced the following properties:



|Property              |  | Location           |  | Sq.Ft./Units  |  | DebtIncurred |       |     | DebtDischarged |   | Net CashReceived/<Paid> |  |   | InterestRate |   |  | MaturityDate
|--------------------- |  | ------------------ |  | ------------- |  | ------------ | ----- | --- | -------------- | - | ----------------------- |  | - | ------------ | - |  | ------------
|First Quarter         |  |                    |  |               |  |              |       |     |                |   |                         |  |   |              |   |  |             
|Industrial Warehouse  |  |                    |  |               |  |              |       |     |                |   |                         |  |   |              |   |  |             
|Addison Hanger(1)     |  | Addison, TX        |  | 23,650 Sq.Ft. |  | $            | 2,687 |     |                | $ | 1,580                   |  | $ | 942          |   |  | 6.75        
|                      |  |                    |  |               |  |              |      
|Second Quarter        |  |                    |  |               |  |              |       |     |                |   |                         |  |   |              |   |  |             
|Apartments            |  |                    |  |               |  |              |       |     |                |   |                         |  |   |              |   |  |             
|Paramount Terrace     |  | Amarillo, TX       |  | 181 Units     |  |              | 2,700 |     |                |   | 2,797                   |  |   | <214         | > |  | 6.63        
|Verandas at City View |  | Ft. Worth, TX      |  | 314 Units     |  |              | 2,779 | (3) |                |   | 2,197                   |  |   | <2,224       | > |  | 7.00        
|                      |  |                    |  |               |  |              |      
|Third Quarter         |  |                    |  |               |  |              |       |     |                |   |                         |  |   |              |   |  |             
|Apartments            |  |                    |  |               |  |              |       |     |                |   |                         |  |   |              |   |  |             
|Echo Valley           |  | Dallas, TX         |  | 216 Units     |  |              | 1,639 | (4) |                |   |                        |  |   | 448          |   |  | 6.65        
|Quail Creek           |  | Lawrence, KS       |  | 95 Units      |  |              | 3,300 |     |                |   | 2,157                   |  |   | 924          |   |  | 6.63        
|                      |  |                    |  |               |  |              |      
|Land                  |  |                    |  |               |  |              |       |     |                |   |                         |  |   |              |   |  |             
|McKinney 36(5)        |  | Collin County, TX  |  | 34.58 Acres   |  |              | 425   |     |                |   | 956                     |  |   | <539         | > |  | 9.50        
|Sandison(5)           |  | Collin County, TX  |  | 97.97 Acres   |  |              | 1,199 |     |                |   | 1,040                   |  |   | 145          |   |  | 9.50        
|Solco-Allen(5)        |  | Collin County, TX  |  | 55.80 Acres   |  |              | 686   |     |                |   | 305                     |  |   | 374          |   |  | 9.50        
|Stacy Road(5)         |  | Allen, TX          |  | 160.38 Acres  |  |              | 1,979 |     |                |   | 1,345                   |  |   | 613          |   |  | 9.50        
|State Highway 121(5)  |  | Collin County, TX  |  | 101.94 Acres  |  |              | 1,475 |     |                |   | 873                     |  |   | 582          |   |  | 9.50        
|Watters Road(5)       |  | Collin County, TX  |  | 97.00 Acres   |  |              | 1,189 |     |                |   |                        |  |   | 1,180        |   |  | 9.50        
|Whisenant(5)          |  | Collin County, TX  |  | 16.16 Acres   |  |              | 199   |     |                |   | 133                     |  |   | 64           |   |  | 9.50        
|                      |  |                    |  |               |  |              |      
|Fourth Quarter        |  |                    |  |               |  |              |       |     |                |   |                         |  |   |              |   |  |             
|Land                  |  |                    |  |               |  |              |       |     |                |   |                         |  |   |              |   |  |             
|Dominion(6)           |  | Dallas, TX         |  | 14.39 Acres   |  |              | 772   |     |                |   |                        |  |   | 758          |   |  | 13.00       
|Manhattan(6)          |  | Farmers Branch, TX |  | 108.9 Acres   |  |              | 5,846 |     |                |   |                        |  |   | 5,733        |   |  | 13.00       
|Pac Trust(6)          |  | Farmers Branch, TX |  | 7.11 Acres    |  |              | 382   |     |                |   |                        |  |   | 370          |   |  | 13.00       

---

|(1) | The mortgage is cross-collateralized with the 29,000 sq. ft. Addison Hanger II in Addison,
Texas.
|--- | -------------------------------------------------------------------------------------------------

|(2) | Variable interest rate.
|--- | -----------------------

|(3) | The Verandas at City View Apartments are under construction. The $2.8 million debt incurred
was to fund construction to date. The total construction funding for the project is $19.4 million.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(4) | The Echo Valley Apartments are under construction. The $1.6 million debt incurred was to fund
construction to date. The total construction funding for the project is $12.7 million.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(5) | The mortgages are cross-collateralized.
|--- | ---------------------------------------

|(6) | The mortgages are cross-collateralized.
|--- | ---------------------------------------



NOTE 8. OPERATING SEGMENTS



Significant differences among the accounting policies of the operating segments as compared
to the Consolidated Financial Statements principally involve the calculation and allocation of administrative expenses. Management evaluates the performance of each of the operating segments and allocates resources to them based on their operating
income and cash flow. Items of income that are not reflected in the segments are interest, equity in partnerships and equity gains on sales of real estate which totaled $529,000 and $2.2 million for the three and nine months ended September 30,
2003, respectively, and a loss of $423,000 and income of $3.2 million for the three and nine months ended September 30, 2002, respectively. Expenses that are not reflected in the segments are general and administrative expenses, discount on sale of
note receivable, provision for asset impairment, provision for loss, minority interest, incentive, advisory and net income fees which totaled $4.9 million and $11.2 million for the three and nine months ended September 30, 2003, respectively, and
$4.1 million and $13.4 million for the three and nine months ended September 30, 2002, respectively. Also excluded from segment assets are assets of $96.0 million at September 30, 2003, and $148.7 million at September 30, 2002, which are not
identifiable with an operating segment. There are no intersegment revenues and expenses.



19



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



Presented below is the operating income of each operating segment for the three and nine months ended September 30,
2003 and 2002, and each segments assets at September 30.



|Three Months EndedSeptember 30, 2003 |  | Land |         |   | CommercialProperties |   | Apartments |  | Hotels |         |  | Total |       
|------------------------------------ |  | ---- | ------- | - | -------------------- | - | ---------- |  | ------ | ------- |  | ----- | ------
|Rents                                |  | $    | 200     |   |                      | $ | 14,548     |  | $      | 14,177  |  | $     | 926   
|Property operating expenses          |  |      | 403     |   |                      |   | 7,998      |  |        | 10,677  |  |       | 637   
|                                     |  |      |         |   |                      |   |            |  |        |         |  |       |       
|Operating income <loss>              |  | $    | <203    | > |                      | $ | 6,550      |  | $      | 3,500   |  | $     | 289   
|                                     |  |      |         |   |                      |   |            |  |        |         |  |       |       
|Interest                             |  | $    | 1,192   |   |                      | $ | 5,201      |  | $      | 4,665   |  | $     | 135   
|Depreciation                         |  |      |        |   |                      |   | 4,101      |  |        | 1,101   |  |       | 158   
|Real estate improvements             |  |      | 261     |   |                      |   | 1,845      |  |        | 3,275   |  |       | 1,105 
|Assets                               |  |      | 122,263 |   |                      |   | 286,355    |  |        | 321,523 |  |       | 16,542
|                                     |  |      |         |   |                     
|Property Sales:                      |  | Land |         |   | CommercialProperties |   | Apartments |  | Hotels |         |  | Total |       
|Sales price                          |  | $    | 2,600   |   |                      | $ | 12,625     |  | $      | 14,668  |  | $     | 13,500
|Cost of sales                        |  |      | 1,983   |   |                      |   | 9,883      |  |        | 7,462   |  |       | 13,500
|                                     |  |      |         |   |                      |   |            |  |        |         |  |       |       
|Gain on sale                         |  | $    | 617     |   |                      | $ | 2,742      |  | $      | 7,206   |  | $     |      
|                                     |  |      |         |   |                      |   |            |  |        |         |  |       |       
|                                     |  |      |         |   |                     
|Nine Months EndedSeptember 2003      |  | Land |         |   | CommercialProperties |   | Apartments |  | Hotels |         |  | Total |       
|Rents                                |  | $    | 496     |   |                      | $ | 43,309     |  | $      | 36,654  |  | $     | 2,393 
|Property operating expenses          |  |      | 1,254   |   |                      |   | 23,984     |  |        | 26,435  |  |       | 1,515 
|                                     |  |      |         |   |                      |   |            |  |        |         |  |       |       
|Operating income <loss>              |  | $    | <758    | > |                      | $ | 19,325     |  | $      | 10,219  |  | $     | 878   
|                                     |  |      |         |   |                      |   |            |  |        |         |  |       |       
|Interest                             |  | $    | 2,807   |   |                      | $ | 15,896     |  | $      | 10,842  |  | $     | 258   
|Depreciation                         |  |      | 34      |   |                      |   | 10,950     |  |        | 3,628   |  |       | 491   
|Real estate improvements             |  |      | 382     |   |                      |   | 3,674      |  |        | 29,282  |  |       | 1,881 
|Assets                               |  |      | 122,263 |   |                      |   | 286,355    |  |        | 321,523 |  |       | 16,542
|                                     |  |      |         |   |                     
|Property Sales:                      |  | Land |         |   | CommercialProperties |   | Apartments |  | Hotels |         |  | Total |       
|Sales price                          |  | $    | 4,599   |   |                      | $ | 35,517     |  | $      | 17,375  |  | $     | 18,848
|Cost of sales                        |  |      | 3,595   |   |                      |   | 25,699     |  |        | 9,171   |  |       | 18,848
|                                     |  |      |         |   |                      |   |            |  |        |         |  |       |       
|Gain on sale                         |  | $    | 1,004   |   |                      | $ | 9,818      |  | $      | 8,204   |  | $     |      
|                                     |  |      |         |   |                      |   |            |  |        |         |  |       |       



|(1) | Excludes $1.1 million of deferred gains on the sale of real estate.
|--- | -------------------------------------------------------------------

|(2) | Excludes $1.5 million of deferred gains on the sale of real estate.
|--- | -------------------------------------------------------------------



20



---

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



NOTE 8. OPERATING SEGMENTS (Continued)



|Three Months EndedSeptember 30, 2002 |  | Land |        |     | CommercialProperties |   | Apartments |  | Hotels |         |  | Total |       
|------------------------------------ |  | ---- | ------ | --- | -------------------- | - | ---------- |  | ------ | ------- |  | ----- | ------
|Rents                                |  | $    | 130    |     |                      | $ | 14,062     |  | $      | 10,036  |  | $     | 398   
|Property operating expenses          |  |      | 414    |     |                      |   | 9,090      |  |        | 7,478   |  |       | 485   
|                                     |  |      |        |     |                      |   |            |  |        |         |  |       |       
|Operating income <loss>              |  | $    | <284   | >   |                      | $ | 4,972      |  | $      | 2,558   |  | $     | <87   
|                                     |  |      |        |     |                      |   |            |  |        |         |  |       |       
|Interest                             |  | $    | 372    |     |                      | $ | 6,309      |  | $      | 3,771   |  | $     | 206   
|Depreciation                         |  |      | 11     |     |                      |   | 2,947      |  |        | 1,077   |  |       | 96    
|Real estate improvements             |  |      | 2      |     |                      |   | 1,002      |  |        | 277     |  |       |      
|Real estate construction             |  |      |       |     |                      |   |           |  |        | 25,871  |  |       |      
|Provision for asset impairment       |  |      |       |     |                      |   |           |  |        | 351     |  |       |      
|Assets                               |  |      | 91,723 |     |                      |   | 325,965    |  |        | 256,842 |  |       | 35,237
|                                     |  |      |        |     |                     
|Property Sales:                      |  | Land |        |     | CommercialProperties |   | Apartments |  |        |         |  | Total |       
|Sales price                          |  | $    | 3,600  |     |                      | $ | 2,800      |  | $      | 31,013  |  |       |       
|Cost of sales                        |  |      | 3,600  |     |                      |   | 2,179      |  |        | 17,890  |  |       |       
|                                     |  |      |        |     |                      |   |            |  |        |         |  |       |       
|Gain on sale                         |  | $    |       | (3) |                      | $ | 621        |  | $      | 13,123  |  |       |       
|                                     |  |      |        |     |                      |   |            |  |        |         |  |       |       
|                                     |  |      |        |     |                     
|Nine Months EndedSeptember 30, 2002  |  | Land |        |     | CommercialProperties |   | Apartments |  | Hotels |         |  | Total |       
|Rents                                |  | $    | 411    |     |                      | $ | 39,719     |  | $      | 29,747  |  | $     | 579   
|Property operating expenses          |  |      | 1,185  |     |                      |   | 23,640     |  |        | 20,720  |  |       | 926   
|                                     |  |      |        |     |                      |   |            |  |        |         |  |       |       
|Operating income <loss>              |  | $    | <774   | >   |                      | $ | 16,079     |  | $      | 9,027   |  | $     | <397  
|                                     |  |      |        |     |                      |   |            |  |        |         |  |       |       
|Interest                             |  | $    | 1,355  |     |                      | $ | 13,854     |  | $      | 10,292  |  | $     | 344   
|Depreciation                         |  |      | 19     |     |                      |   | 8,656      |  |        | 3,199   |  |       | 123   
|Real estate improvements             |  |      | 104    |     |                      |   | 3,632      |  |        | 277     |  |       | 26    
|Real estate construction             |  |      |       |     |                      |   |           |  |        | 48,938  |  |       | 5,417 
|Provisions for asset impairment      |  |      | 707    |     |                      |   |           |  |        | 1,872   |  |       |      
|Assets                               |  |      | 91,723 |     |                      |   | 325,965    |  |        | 256,842 |  |       | 35,237
|                                     |  |      |        |     |                     
|Property Sales:                      |  | Land |        |     | CommercialProperties |   | Apartments |  |        |         |  | Total |       
|Sales price                          |  | $    | 3,600  |     |                      | $ | 38,907     |  | $      | 39,613  |  |       |       
|Cost of sales                        |  |      | 3,600  |     |                      |   | 31,388     |  |        | 23,795  |  |       |       
|                                     |  |      |        |     |                      |   |            |  |        |         |  |       |       
|Gain on sale                         |  | $    |       | (3) |                      | $ | 7,519      |  | $      | 15,818  |  |       |       
|                                     |  |      |        |     |                      |   |            |  |        |         |  |       |       

---

|(3) | Excludes $660,000 of deferred gains on the sale of real estate.
|--- | ---------------------------------------------------------------

|(4) | Excludes $2.1 million of previously deferred gains on sale of real estate.
|--- | --------------------------------------------------------------------------



NOTE 9. DISCONTINUED OPERATIONS



Effective January 1, 2002, TCI adopted Financial Accounting Standards Board Statement No.
144, Accounting for the Impairment or Disposal of Long-Lived Assets, which established a single accounting model for the impairment or disposal of long-lived assets including discontinued operations. This statement requires that the operations
related to properties that have been sold, or properties that are intended to be sold, be presented as discontinued operations in the statement of operations for all periods presented, and the properties intended to be sold are to be designated as
held-for-sale on the balance sheet.



21



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTSContinued



For the three and nine months ended September 30, 2003 and 2002, income from discontinued operations relates to 15
properties that TCI sold during 2003 and 19 properties that TCI sold during 2002. The following table summarizes revenue and expense information for these properties sold and held-for-sale.



|                                                                          |  | For the ThreeMonths EndedSeptember 30, |        | For the NineMonths EndedSeptember 30, |     
|------------------------------------------------------------------------- |  | -------------------------------------- | ------ | ------------------------------------- | ----
|                                                                          |  | 2003                                   |        |                                       | 2002
|Revenue                                                                   |  |                                        |        |                                       |     
|Rental                                                                    |  | $                                      | 1,569  |                                       |     
|Property operations                                                       |  |                                        | 1,127  |                                       |     
|                                                                          |  |                                        |        |                                       |     
|                                                                          |  |                                        | 442    |                                       |     
|Expenses                                                                  |  |                                        |        |                                       |     
|Interest                                                                  |  |                                        | 381    |                                       |     
|Depreciation                                                              |  |                                        | 236    |                                       |     
|                                                                          |  |                                        |        |                                       |     
|                                                                          |  |                                        | 617    |                                       |     
|                                                                          |  |                                        |        |                                       |     
|Net loss from discontinued operations before gains on sale of real estate |  |                                        | <175   | >                                     |     
|Gain on sale of operations                                                |  |                                        | 9,948  |                                       |     
|Equity in investees gain on sale of real estate                           |  |                                        | 1,217  |                                       |     
|                                                                          |  |                                        |        |                                       |     
|Net income from discontinued operations                                   |  | $                                      | 10,990 |                                       |     
|                                                                          |  |                                        |        |                                       |     



Discontinued operations have not been
segregated in the consolidated statements of cash flows. Therefore, amounts for certain captions will not agree with respective consolidated statements of operations.



NOTE 10. COMMITMENTS AND CONTINGENCIES



Liquidity. Management anticipates that TCI will generate excess cash from operations
in 2003 due to increased rental rates and occupancy at its properties, however, such excess will not be sufficient to discharge all of TCIs debt obligations as they mature. Management intends to selectively sell income producing real estate,
refinance real estate and incur additional borrowings against real estate to meet its cash requirements.



Commitments. In January 2001, TCI exercised its option to extend the maturity date of three loans with a principal balance of $30.6 million secured by three office buildings in New Orleans, Louisiana. The
lender disputed TCIs right to extend the loans. This dispute was subject to litigation which is pending in the United States District Court for the Eastern District of Louisiana. In September 2003, the parties settled the dispute and the
litigation has been dismissed with prejudice.



Litigation. TCI is
involved in various lawsuits arising in the ordinary course of business. Management is of the opinion that the outcome of these lawsuits will have no material impact on TCIs financial condition, results of operations or liquidity.



22



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|ITEM 2. |  | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|------- |  | -------------------------------------------------------------------------------------



Introduction



TCI invests in real estate through acquisitions, leases and partnerships. TCI also invests in mortgage loans. TCI is the successor to a
business trust organized on September 6, 1983, and commenced operations on January 31, 1984.



Liquidity and Capital Resources



TCI reported a net loss of $1.3 million for the three months ended September 30, 2003, which included the following non-cash charges: depreciation and amortization from
real estate held for investment of $5.4 million, equity loss of equity investees of $1.2 million, equity investees gain on sale of real estate of $1.2 million and gain on sale of operations of $10.6 million. For the nine months ended September 30,
2003, TCI reported a net loss of $7.2 million, which included the following non-cash charges: depreciation from real estate held for investment of $15.1 million, equity loss of equity investees of $2.8 million, equity investees gain on sale of real
estate of $3.0 million, gain on sale of operations of $19.0 million and discount on sale of note receivable of $104,000.



For the nine months ended September 30, 2003, net cash used in operating activities amounted to $10.1 million, interest receivable increased by $1.3 million due to
additional notes receivable from seller financings, other assets decreased by $588,000, interest payable decreased by $709,000 due to notes paid or assumed on property sales and other liabilities decreased by $357,000 primarily due to an increase in
deferred gains on property sales, which is offset by a decrease in affiliated payables.



Also for the nine months ended September 30, 2003, net cash used in investing activities was $4.7 million primarily due to real estate improvements of $35.2 million, payments for real estate acquisitions of $13.1 million, deposits on
pending purchases of $8.6 million, additional fundings on notes receivable of $685,000, payments to purchase marketable securities of $5.0 million, and payments made under interest rate swap agreement. These outflows for investing activities were
offset by the collection of $2.7 million on notes receivable, $50,000 contributed to equity investees, payments from advisor of $9.6 million and proceeds from sale of real estate of $45.7 million.



Net cash provided by financing activities of $9.4 million was due to proceeds received from
the funding or refinancing of notes payable of $65.6 million; offset by cash payments of $54.8 million to paydown existing notes payable and $1.4 million for financing costs.



In the first nine months of 2003, TCI sold four apartments, four hotels, two shopping centers, two industrial warehouses, two land parcels
and two office buildings for a total of $76.3 million, receiving $45.7 million in cash and extinguishing debt of $46.9 million after the payment of various closing costs.



Also in the first nine months of 2003, TCI financed or refinanced one office building, four apartments, two shopping centers and one
industrial warehouse for a total of $30.3 million, receiving $14.9 million in cash after the payment of various closing costs.



Further in the first nine months of 2003, TCI purchased seven parcels of unimproved land, including the Maumelle, the Pulaski and the Sheffield Village land tracts for
apartment construction and two shopping centers for $25.0 million. TCI paid $3.0 million in cash, including various closing costs, assumed existing mortgage debt of $2.7 million, acquired new debt of $3.0 million for the purchases of Maumelle,
Pulaski and Sheffield Village and another $8.2 million for the new construction properties. TCI also incurred $28.7 million on property construction, of which $25.5 million was funded by debt. For the remainder of 2003 and the first half of 2004,
TCI expects to spend an additional $81.0 million on property construction projects, of which $72.2 million will be funded by debt.



Management reviews the carrying values of TCIs properties and mortgage notes receivable at least annually and whenever events or a change in circumstances indicate
that impairment may exist. Impairment is considered to exist if, in the case of a property, the future cash flow from the property (undiscounted and without interest) is less than the carrying amount of the property. For notes receivable, impairment
is considered to exist if it is probable that all amounts due under the terms of the note will not be collected. If impairment is found to exist, a provision for loss is recorded by a charge against earnings. The mortgage note receivable review
includes an evaluation of the collateral property securing each note. The property review generally includes: (1) selective property inspections; (2) a review of the propertys current rents compared to market rents; (3) a review of the
propertys expenses; (4) a review of maintenance requirements; (5) a review of the propertys cash flow; (6) discussions with the manager of the property; and (7) a review of properties in the surrounding area.



23



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|ITEM 2. |  | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Continued)
|------- |  | ------------------------------------------------------------------------------------------------



Results of Operations



TCI had a net loss of $1.3 million and $7.2 million in the three and nine months ended
September 30, 2003, including gains on the sale of real estate totaling $9.9 million and $18.0 million, and a loss from discontinued operations of $175,000 and $1.0 million, respectively, compared to net income of $1.8 million and a net loss of $1.5
million in the corresponding periods in 2002, including gains on sale of real estate totaling $13.7 million and a gain from discontinued operations of $260,000, respectively, and $23.3 million gain on sale of real estate, and a loss from
discontinued operations of $630,000, respectively. Fluctuations in this and other components of revenues and expense between the 2003 and 2002 periods are discussed below.



Rents in the three months ended September 30, 2003, increased to $29.9 million compared to $24.6 million in 2002. Of this increase, $1.8
million was due to the completion of five construction properties in 2003, and $500,000 was due to the completion of the Limestone Ranch Apartments and Hotel Akademia in 2002. Rents also increased by $1.5 million due to increased rent at TCIs
apartments and $1.2 million at TCIs commercial properties.



Rents in the
nine months ended September 30, 2003, increased to $82.9 million compared to $70.5 million in 2002. Of this increase, $4.0 million was due to the completion of five construction properties in 2003 and 2002. Rents also increased by $2.4 million and
$4.0 million due to overall increased rents and occupancies at TCIs apartments and commercial properties. Rents also increased by $1.8 million due to increased occupancies at the Hotel Akademia in Poland.



Property operations expense increased to $19.7 million and $53.2 million in the three and
nine months ended September 30, 2003, compared to $17.5 million and $46.5 million in 2002. Of these three and nine month increases, $1.4 million and $2.8 million was due to the completion of the five construction properties in 2003 and 2002.
Property operations expenses for TCIs commercial properties increased by $1.3 million in the nine months ended September 30, 2003 due mainly to the purchase of Centura Office Tower in 2002. Property operations expenses for the remaining
quarters of 2003 are expected to increase as TCI continues to upgrade the quality of apartments and commercial properties.



Interest and other income decreased to $486,000 and $2.0 million in the three and nine months ended September 30, 2003, compared to $756,000 and $2.8 million in 2002. The
decrease was primarily due to collections of four loans in 2003 and 2002. Interest income for the remaining quarters of 2003 are expected to decrease due to the loans that were collected in 2003 and 2002.



Equity in losses of investees was $1.2 million and $2.8 million in the three and nine months
ended September 30, 2003 compared to $1.2 million and $2.8 million in the three and nine months ended September 30, 2002. ARI had net income for 2003 compared to a loss for 2002 and IORIs loss was less in 2003 than in 2002; however, these
gains were offset by investees that recorded income in 2002 but have no income for 2003.



Interest expense increased to $11.2 million in the three months ended September 30, 2003, from $10.7 million in 2002. Of this increase, $1.0 million was due to the completion of two construction properties subject to
debt in 2003 and 2002, and $820,000 was due to the purchase of multiple land tracts over the past 21 months. The increases were offset by decreases of $363,000 and $500,000 due to lower variable rates and principal paydowns at TCIs apartments
and commercial properties, respectively.



Interest expense increased to $29.8
million in the nine months ended September 30, 2003, compared to $25.8 million in 2002. Of this increase, $1.3 million was due to the purchase of five apartments, $3.2 million was due to purchase of three commercial properties and $800,000 was due
to purchases and financings of eight land tracts. These increases were offset by decreases of $417,000 due to lower variable interest rates and $535,000 due to principal paydowns on TCIs apartments and commercial properties.



Depreciation expense increased to $5.4 million and $15.1 million in the three and nine months
ended September 30, 2003 from $4.1 million and $12.0 million in 2002. Of these increases, $1.0 million and $2.4 million were due to the purchase of four properties in 2003 and 2002 and $491,000 was due to the completion of Hotel Akademia in 2003.
Depreciation expense for the remaining quarters of 2003 is expected to increase as TCI completes its apartment construction projects.



24



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|ITEM 2. |  | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Continued)
|------- |  | ------------------------------------------------------------------------------------------------



Results of Operations (Continued)



For the three and nine months ended September 30, 2002, TCI recorded asset impairments of $700,000 and $1.9 million
representing the write down of certain operating properties to current estimated fair value. These assets include the following properties:



|Property               |  | Location     |  | Units/Acres |  | FairValue |       | PropertyBasis |   | Costs toSell |  | Impairment
|---------------------- |  | ------------ |  | ----------- |  | --------- | ----- | ------------- | - | ------------ |  | ----------
|Apartments             |  |              |  |             |  |           |       |               |   |              |  |           
|Apple Lane             |  | Lawrence, KS |  | 75 Units    |  | $         | 1,580 |               | $ | 1,593        |  | $         
|Fairway View           |  | El Paso, TX  |  | 264 Units   |  |           | 5,700 |               |   | 5,242        |  |           
|Fountains of Waterford |  | Midland, TX  |  | 172 Units   |  |           | 1,900 |               |   | 2,006        |  |           
|Sunchase               |  | Odessa, TX   |  | 300 Units   |  |           | 4,100 |               |   | 3,479        |  |           
|Land                   |  |              |  |             |  |           |       |               |   |              |  |           
|Red Cross              |  | Dallas, TX   |  | 2.89 Acres  |  |           | 8,400 |               |   | 8,348        |  |           



The Red Cross land was under contract
to sell and the sales price was used as fair value. The fair value determined for the four apartments above were agreed upon purchase prices as part of the refinancing transaction with Metra Capital, LLC. The costs to sell were actual fees paid to
refinance the properties.



Advisory fees was $1.7 million and $5.1 million for
the three and nine months ended September 30, 2003 compared to $1.5 million and $4.2 million for the same period ending September 30, 2002. Advisory fees are higher due to TCI increasing its total assets over the past year, which is the basis
for the advisory fee calculation.



There was no net income fee due to affiliate
in the three and nine months ended September 30, 2003. The net income fee is payable to TCIs advisor based on 7.5% of TCIs net income. TCI had a net loss for the nine months ended September 30, 2003 and September 30, 2002 and no such fee
has been accrued.



Incentive fee to affiliate criteria was not met in the three
and nine months ended September 30, 2003. The incentive fee is payable to TCIs advisor based on 10% of aggregate sales consideration less TCIs cost of all properties sold during the year. In the nine months ended September 30, 2002, the
criteria for the fee was not met.



General and administrative expenses
increased to $3.4 million and $6.4 million in the three and nine months ended September 30, 2003, from $2.3 million and $6.7 million in 2002. These increases were mainly due to an increase in legal fees due to TCI reimbursing its advisor, BCM,
$1.7 million for prior year legal fees for Gene Phillips.



In the three and
nine months of 2003, gains on sale of real estate totaling $10.6 million and $19.0 million were recognized, including $999,000 on the sale of the Willow Wick Apartments, $2.5 million on the sale of the McLeod Industrial Warehouse, $4.6 million on
the sale of the Tricon Portfolio, $384,000 on the sale of Solco-Valley Ranch land, $1.7 million on the sale of the Lincoln Court Apartments, $1.4 million on the sale of the Quail Creek Apartments, $4.2 million on the sale of the Stone Oak
Apartments, $2.1 million on the sale of Bonita Plaza, $12,000 on the sale of the K-Mart, $590,000 on the sale of the Oak Tree Village Shopping Center and $617,000 on the sale of the Palm Desert land. Also, not calculated into the gains on sale of
real estate is a $178,000 deferred gain on the sale of 4135 Beltline, a $427,000 deferred gain on the sale of the Majestic Inn, a $386,000 deferred gain on the sale of the City Suites hotel, a $282,000 deferred gain on the sale of The Majestic
hotel, and a $412,000 deferred gain on the sale of the Willows hotel.



Tax Matters



Financial statement income
varies from taxable income principally due to the accounting for income and losses of investees, gains and losses from asset sales, depreciation on owned properties, amortization of discounts on notes receivable and payable and the difference in the
allowance for estimated losses. TCI had a loss for federal income tax purposes in the first nine months of 2003 and 2002; therefore, it recorded no provision for income taxes.



At September 30, 2003, TCI had a net deferred tax asset of $32.7 million due to tax deductions available to it in future years. However, as
management cannot determine that it is more likely than not that TCI will realize the benefit of the deferred tax assets, a 100% valuation allowance has been established.



25



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|ITEM 2. |  | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Continued)
|------- |  | ------------------------------------------------------------------------------------------------



Inflation



The effects of inflation on TCIs operations are not quantifiable. Revenues from property operations tend to fluctuate proportionately
with inflationary increases and decreases in housing costs. Fluctuations in the rate of inflation also affect sales values of properties and the ultimate gain to be realized from property sales. To the extent that inflation affects interest rates,
TCIs earnings from short-term investments and the cost of new financings as well as the cost of variable interest rate debt, will be affected.



Environmental Matters



Under various federal, state and local environmental laws, ordinances and regulations, TCI may be potentially liable for removal or remediation costs, as well as certain
other potential costs, relating to hazardous or toxic substances (including governmental fines and injuries to persons and property) where property-level managers have arranged for the removal, disposal or treatment of hazardous or toxic substances.
In addition, certain environmental laws impose liability for release of asbestos-containing materials into the air, and third parties may seek recovery for personal injury associated with such materials.



Management is not aware of any environmental liability relating to the above matters that
would have a material adverse effect on TCIs business, assets or results of operations.



|ITEM 3. |  | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
|------- |  | -----------------------------------------------------------



At September 30, 2003, TCIs exposure to a change in interest rates on its debt is as follows:



|                                          |  | Balance |         | Weighted AverageInterest Rate |      |   | Effect of 1%Increase InBase Rates
|----------------------------------------- |  | ------- | ------- | ----------------------------- | ---- | - | ---------------------------------
|Notes payable:                            |  |         |         |                               |      |   |                                  
|Variable rate                             |  | $       | 185,323 |                               | 6.41 | % |                                  
|                                          |  |         |         |                               |      |   |                                  
|Total decrease in TCIs annual net income |  |         |         |                               |      |   |                                  
|                                          |  |         |         |                               |      |   |                                  
|Per share                                 |  |         |         |                               |      |   |                                  
|                                          |  |         |         |                               |      |   |                                  



|ITEM 4. |  | CONTROLS AND PROCEDURES
|------- |  | -----------------------



|(a) | As of the end of the period covered by this report, TCI carried out an evaluation, under the supervision and with the participation of TCIs management, including TCIs
Acting Principal Executive Officer and principal accounting officer, of the effectiveness of the design and operation of TCIs disclosure controls and procedures pursuant to Exchange Act Rule 13a-14. Based upon the evaluation, TCIs Acting
Principal Executive Officer and principal accounting officer concluded that TCIs disclosure controls and procedures are effective in timely alerting him to material information relating to TCI (including its consolidated subsidiaries) required
to be included in TCIs periodic SEC filings.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(b) | There have been no significant changes in TCIs internal controls or in other factors that could significantly affect TCIs internal controls subsequent to the date TCI
carried out this evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



26



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PART II. OTHER INFORMATION



|ITEM 1. |  | LEGAL PROCEEDINGS
|------- |  | -----------------



Sunset Management Litigation. On September 17, 2001, American Realty Trust, Inc., a Georgia corporation (ART), ART Williamsburg, Inc., a Nevada
corporation (AWI), Basic Capital Management, Inc., a Nevada corporation (BCM) and EQK Holdings, Inc., a Nevada corporation (EQK) obtained a $30.0 million loan from Sunset Management, LLC (Sunset). The
initial maturity date of the loan was September 17, 2002, and the borrowers were entitled to a one-year extension of the loan to September 17, 2003 for a pay-down of the outstanding principal balance to $15.0 million. As part of the collateral for
the loan, EQK pledged 2,129,701 shares of Common Stock of TCI, BCM pledged 920,507 shares of TCI Common Stock and ART pledged 472,097 shares of TCI Common Stock, at February 25, 2002, ART pledged an additional 150,000 shares of TCI Common Stock. The
total of 3,672,305 shares pledged (approximately 45% of the total outstanding shares) were held by Commonwealth Land Title as Pledge Holder (Commonwealth). The loan was also secured by a lien on real property owned by AWI and
a security agreement covering certain accounts receivable and other personalty owned by BCM and two other entities. Pursuant to the loan documents, Sunset advanced approximately $30.0 million to EQK and BCM. Sunset orally agreed in September 2002 to
extend the maturity date of the loan and accept substitute collateral for the shares of TCI Common Stock after a paydown of $15.0 million which was made by the borrowers. Sunset did not honor the agreement, which resulted in litigation filed in
Texas state court during October 2002, styled American Realty Trust, Inc., ART Williamsburg, Inc., Basic Capital Management, Inc. and EQK Holdings, Inc. v. Sunset Management, LLC, et al.,Cause No. 02-09433-I in the 162nd Judicial Court of
Dallas County, Texas (the Texas Litigation).



The Texas Litigation
alleged breach of contract, misrepresentation, breach of duty to good faith and fair dealing and slander of title by Sunset and sought certain declaratory relief against Sunset as well as a temporary and permanent anti-suit injunction against
Sunset.



During January 2003, without notice to the plaintiffs in the Texas
Litigation, Sunset instituted an action in a federal district court in Las Vegas, Nevada against Commonwealth Land Title (Commonwealth) seeking disposition of the TCI Common Stock held by Commonwealth as Pledge Holder. On January 31,
2003, after a Temporary Restraining Order was issued in the Texas Litigation, Sunset instigated a separate lawsuit in state court in Nevada styled Sunset Management, LLC v. American Realty Trust, Inc. et al., Case No. A462587 pending in the
District Court of Clark County, Nevada (the Nevada Litigation). On February 12, 2003, the Nevada state court held a hearing on Sunsets request for emergency relief and denied all Sunsets requested relief and indicated that a
stay of the Nevada Litigation may be appropriate, which stay of litigation (including claims against TCI) was granted on May 2, 2003. Notwithstanding the stay of the Nevada Litigation, Sunset continued to seek to relitigate the underlying fact
issues already determined in the Texas Litigation and the Nevada Litigation through cross-claims and counterclaims in the Texas Litigation and a renewed motion for preliminary injunction and appointment of receiver over TCI in the Nevada Litigation.



Sunset has sought expedited relief and an expedited hearing of the Texas
Litigation which the court refused to grant. The matter was set for a jury trial on December 8, 2003. In addition, the borrowers on the loan have sought to tender cash collateral to the court in lieu of the TCI stock, which motion was denied. TCI
has only recently been added to the Texas Litigation party.



Even though the
relief sought by Sunset in the Texas Litigation and the Nevada Litigation has either been denied or stayed, on June 10, 2003, an attorney representing Sunset appeared at the Annual Meeting of Shareholders of TCI attempting to vote 3,673,115 Shares
of Common Stock of TCI under purported irrevocable proxies against the election of the four directors nominated in favor of the election of four affiliates of Sunset that Sunset seeks to nominate to serve as directors of TCI. The Inspector of
Election at the Annual Meeting advised that Sunsets attempt to exercise voting rights under proxies for the 3,673,115 shares was improper and would not be allowed, advising that EQK, BCM and ART held the absolute right to vote the 3,673,115
shares of TCI Common Stock so long as there was no event of default under the Sunset loan agreement. The Inspector of Election also observed at the Stockholders meeting that no evidence was before the Inspector from a court of law finding an event
of default had occurred with respect to the Sunset loan documents, and therefore, such proxies would not be honored at that time. Subsequently, representatives of Sunset delivered on July 7, 2003 to TCI a form captioned Schedule 13D for an event
occurring June 10, 2003, making certain disclosures, including an allegation that Sunset acquired voting rights to 3,673,115 shares of TCI to protect the value of Sunsets security interest in the 3,673,115 shares of TCI pledged as
collateral for . . . obligations to Sunset. Actually, only 3,672,305 shares of TCI Common Stock were pledged [810 shares less than Sunset alleges]. Such schedule 13D also provides that Sunset plans to foreclose on the pledged TCI shares
as soon as possible. Such Schedule 13D advises that Sunset would prefer to replace the four management directors [of TCI] with neutral individuals . . . or if neutral individuals are unavailable, Sunset intends to nominate and [vote] for
the election of affiliates of Sunset as directors of TCI on an interim basis until neutral individuals with satisfactory backgrounds and knowledge can be elected as directors.



On September 10, 2003, AWI removed the Texas Litigation to the bankruptcy court for the Northern District of Texas. On September 25, 2003,
the Texas Litigation was transferred to the Eastern District of Texas. A conference on this matter is set for December 3, 2003.



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For further information refer to NOTE 21. COMMITMENTS AND CONTINGENCIES AND LIQUIDITY, included in TCIs
Form 10-K for the year ended December 31, 2002.



|ITEM 6. |  | EXHIBITS AND REPORTS ON FORM 8-K
|------- |  | --------------------------------



|(a) | Exhibits:
|--- | ---------



|ExhibitNumber |  | Description                                                                                                                                                                       
|------------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|              | 
|31.1          |  | Certification Pursuant to Rules 13a-14 and 15d-14 Under the Securities Exchange Act of 1934, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed
herewith.
|              | 
|32.1          |  | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, filed herewith.                                           



|(b) | Reports on Form 8-K as follows:
|--- | -------------------------------



A Current Report on Form 8-K, dated July 9, 2003, was filed with respect to Item 5. Other Events and Item 7. Financial Statements and
Exhibits, which reports the termination of TCIs Advisory Agreement with BCM and the establishment of TCIs Advisory Agreement with Prime.



A Current Report on Form 8-K, dated July 24, 2003, was filed with respect to Item 5. Other Events, which reports the litigation filed in Texas
between American Realty Trust, Inc., ART Williamsburg, Inc., Basic Capital Management, Inc. and EQK Holdings, Inc. v. Sunset Management, LLC, et al., Cause No. 02- 09433-I in the 162nd Judicial District Court of Dallas County, Texas.



A Current Report on Form 8-K, dated October 14, 2003, was
filed with respect to Item 5. Other Events and Item 7. Financial Statements and Exhibits, which reports the assignment of TCIs Advisory Agreement with Prime to Prime LLC effective October 1, 2003.



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SIGNATURES



Pursuant to the requirements 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.



|                        |  |  |  |     |  | TRANSCONTINENTAL REALTY INVESTORS, INC.
|----------------------- |  |  |  | --- |  | ---------------------------------------
|                        |  |  | 
|Date: November 14, 2003 |  |  |  | By: |  | /s/ Ronald E. Kimbrough                
|                        |  |  |  |     |  |                                        



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TRANSCONTINENTAL REALTY INVESTORS, INC.



EXHIBITS TO



QUARTERLY REPORT ON FORM 10-Q



For the Quarter ended September 30, 2003



|ExhibitNumber |  | Description                                                                                                                                                        |  | PageNumber
|------------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ----------
|              |  |                                                                                                                                                                   
|31.1          |  | Certification Pursuant to Rules 13a-14 and 15d-14 Under the Securities Exchange Act of 1934, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |  |           
|              |  |                                                                                                                                                                   
|32.1          |  | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                            |  |           



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