SECURITIES AND EXCHANGE COMMISSION
                                               Washington, D.C. 20549

                                                      FORM 10-K


  X                                      ANNUAL REPORT PURSUANT TO SECTION
                             13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
                                  For the fiscal year ended August 29, 1998
                                                        OR
                     TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                                     SECURITIES EXCHANGE ACT OF 1934
                            For the transition period from _______ to _______


                                       Commission File Number: 0-19194

                                              RAG SHOPS, INC.                   
                        (Exact name of registrant as specified in its charter)

                              DELAWARE                       51-0333503     
                   (State or other jurisdiction          (I.R.S. Employer
                of incorporation or organization)     Identification Number)

                         111 WAGARAW ROAD
                      HAWTHORNE, NEW JERSEY                    07506   
                (Address of principal executive             (Zip Code)
                            offices)

              Registrant's telephone number including area code: (973) 423-1303

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

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

                                     COMMON STOCK, $.01 PAR VALUE
                                            (Title of Class)

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

                  Indicate by check mark if disclosure of delinquent filers
               pursuant to Item 405 of Regulation S-K is not contained herein,
               and will not be contained, to the best of registrant's knowledge,
               in definitive proxy or information statements incorporated by
               reference in Part III of this Form 10-K or any amendment to this
               Form 10-K.  Yes    x       No       <PAGE>
  

                 As of October 30, 1998, there were outstanding 4,514,400 shares
               of Common Stock.  Based on the price at which such stock was sold
               on that date, the approximate aggregate market value of such
               shares held by non-affiliates was $5,173,500.


                                  DOCUMENTS INCORPORATED BY REFERENCE

                 Portions of the Registrant's 1998 Definitive Proxy Statement,
               which statement will be filed not later than 120 days after the
               end of the fiscal year covered by this Report, are incorporated
               by reference in Part III hereof.

                 Certain exhibits are incorporated by reference to the
               Company's Registration Statement on Form S-1 and Amendment No. 1
               thereto, as listed in response to Item 14(a)(3).

                   [The remainder of this page is intentionally blank.]<PAGE>

                                           PART I

ITEM 1. BUSINESS.

General

        Rag Shops, Inc., a Delaware corporation formed in April 1991,
is the successor by merger to a New Jersey corporation having the
same name which was incorporated in September 1984, as a holding
company for numerous subsidiaries that have operated retail stores
since 1963.  As of August 29, 1998, Rag Shops, Inc. operates 66
specialty retail stores which sell competitively priced craft and
fabric merchandise.  The Company caters to value conscious
consumers who create decorative accessories and sew.  The Company
believes that its wide selection of currently popular merchandise,
value-pricing policy and commitments to both customer service and
advertising are principal factors contributing to its
profitability.  The Company's stores are destination-oriented and
also attract shoppers from other stores located in the same
shopping center.

         As of August 29, 1998, the Company operated 33 retail stores
in New Jersey, 19 in Florida, seven in Pennsylvania, six in New
York and one in Connecticut. The Company anticipates opening five
to seven stores and closing one store during the remainder of its
fiscal year ending August 28, 1999. The Company's expansion
strategy is to grow by expanding within areas from which it
presently attracts customers and into contiguous market areas,
enabling the Company to capitalize on pre-existing advertising and
name recognition.  The following table sets forth information with
respect to store openings and closings since fiscal 1994:


                                                   Fiscal Years

                                      1998    1997    1996     1995    1994

Stores open at beginning of period     66      67      69       68      61
Stores opened during period             2       4       1        2       8
Stores closed during period             2       5       3        1       1
Stores open at end of period           66      66      67       69      68


Products

           The Company's stores offer a diverse and extensive assortment
of value-priced crafts, fabrics and related items to creative craft
and sewing consumers. For fiscal years 1996, 1997 and 1998, sales
of crafts accounted for approximately 65.3%, 67.3% and 68.2%
respectively, of the Company's net sales, and sales of fabrics
accounted for the remainder.

            Each of the Company's stores offers craft, fabric and related
products. Craft items include silk flowers, wicker, picture frames,
wood products, stitchery, yarn, wearable art, art supplies and
craft supplies. Fabric items available at the Company's stores
include apparel and home decorative fabrics, trimmings, patterns
and sewing notions. As of August 29, 1998, fifty-nine stores offer
custom picture framing. The Company also sells a wide variety of
seasonal merchandise with special emphasis on the Easter, Back-to-
School, Halloween and Christmas seasons.

             Through their purchase of craft, fabric and other items, used
either individually or in combination, the Company's customers can
hand make a wide variety of finished products for personal use,
gifts, home beautification and seasonal decoration.  For example,
fabrics can be made into career, leisure, children's, bridal and
special occasion fashions, draperies and upholstery for home
decoration and hand made quilts and, from the Company's selection
of craft items, customers can create needle point and stitchery,
personalized hand painted apparel, floral arrangements and dolls.

Merchandising and Advertising

              The Company's marketing and merchandising strategy emphasizes
the sale of multiple products to be used by the customer to create
a single project.  To assist customers in making their own
selections and to encourage their purchase of several products, the
Company's stores display finished models that incorporate a variety
of merchandise in close proximity to where the components are sold.
The models are created by employees at the stores conforming to
Company guidelines.

               Craft or sewing classes are offered every week at a select
number of each of the Company's stores to further promote both
specific products and store business.  During each class,
participants complete a project using materials purchased from the
store at which the class is offered.  Merchandise instructional
demonstrations are held periodically at charitable organizations,
conventions and schools as an effective method of attracting
customers and generating the purchase of fabrics, crafts and
related merchandise necessary for the customer to create the
featured apparel.

                Merchandise at the Company's stores is displayed on
conveniently arranged fabric tables and fixtures to facilitate
customer access.  The general layout of merchandise, adjusted
seasonally and as otherwise necessary to adapt to marketing
conditions, is planned by the Company's management to give
prominence to the types of merchandise currently in demand.

                Approximately five percent of the Company's sales is expended
for a 52 week per year advertising program. In September 1996 the
Company commenced utilizing free standing newspaper inserts,
alternating with newspaper print advertisements. These newspaper
inserts are also displayed at the front of each store and describe
a calendar of promotions emphasizing special sale items, seasonal
products and other currently popular merchandise. Previously the
Company utilized direct mail, newspaper print, weekly in-store
promotions and television in the New Jersey metropolitan area and
in Florida. The free standing newspaper inserts are received by
approximately 3 million people as compared to the direct mail
previously utilized that was received by approximately 1 million
people.

              For the Back-to-School season and holiday seasons of Easter,
Halloween and Christmas, the Company utilizes a fully developed
merchandising program including special inventory, layout,
instructional ideas and promotions with highly focused displays. 
During these peak seasons approximately 25% of store selling space
is devoted to seasonal merchandise.

Seasonality

               The Company's business is seasonal, which the Company believes
is typical of the retail fabric and craft industry.  The Company's
highest sales and earnings levels historically occur between
September and December. The Company has generally operated at a
loss during its fourth fiscal quarter, the June through August
summer period. The Company's results of operations depend
significantly upon the sales generated from September through
December and any material decrease in sales for such period could
have a material adverse effect upon the Company's profitability. 
See "Management's Discussion and Analysis of Financial Condition
and Results of Operations--Seasonality."

Store Operations

               The Company's store operations are divided into six geographic
districts, each managed by a district manager.  Stores typically
are staffed with a manager, an assistant manager, one department
head each for fabrics and crafts, sales personnel, cashiers and
stock clerks.

               District managers supervise store management, monitor the
Company's stores to ensure compliance with procedures, policies and
budgets, determine whether adequate levels of merchandise are
available at the stores and reallocate merchandise among stores as
dictated by selling trends at individual stores.  Store managers
are responsible for operation of individual stores, including
recruiting and hiring store personnel.

               Store managers place orders to replenish inventory from the
Company's 85,000 square foot distribution center in Paterson, New
Jersey, and may also directly order certain core merchandise
designated by management from the Company's suppliers.  Orders for
merchandise stocked in the distribution center are placed by the
store manager on a regular basis through a computer in the store. 
Deliveries from the distribution center are made by Company-owned
vehicles or by independent trucking companies.

                 Stores are generally open from 10:00 A.M. to 9:00 P.M. Monday
through Saturday and 11:00 A.M. to 6:00 P.M. on Sunday, with
extended hours during the  Christmas season. All stores are
operating with point-of-sale cash register systems. Approximately
68% of receipts at the Company's stores are for cash or check, with
the balance paid for with MasterCard, Visa, Discover or American
Express. The average sale is approximately $12.30.

Expansion Strategy

                 While management does not believe there are significant
geographic constraints on the locations of future stores, the
Company's strategy is to grow by expanding within areas from which
it presently attracts customers and into contiguous market areas,
enabling the Company to capitalize on pre-existing advertising and
name recognition. When deciding whether to open a new store, the
principal factors the Company typically evaluates are the amount of
consumer traffic generated by the market area, the demographic
composition of the customer base in the market area, store position
in the shopping center, rent structure, available media,
advertising expense, and other costs associated with opening the
store.  Historically, stores tend to become profitable after six to
twenty-four months.

Sources of Supply

             The Company purchases its merchandise from more than 300
suppliers. The Company's merchandise is primarily purchased from
domestic suppliers (including distributors that import goods from
the Far East) and the balance is acquired directly from
manufacturers in the Far East, including Hong Kong, Taiwan, Korea,
China and the Philippines. All of the merchandise purchased
directly from foreign manufacturers, consisting primarily of silk
flowers, seasonal merchandise and staple craft products, is sold
under the Company's private label. As is customary in the industry,
the Company does not have any long-term or exclusive contracts with
any suppliers. The Company believes that alternate sources of
merchandise are readily available at comparable prices.

                 Consistent with industry practice, merchandise from
manufacturers in the Far East is ordered four to six months in
advance to assure delivery prior to the selling season for the
merchandise.  Letters of credit are issued to foreign manufacturers
with specific terms regarding the merchandise ordered, inspection
prior to shipment and time and place of delivery.  The Company
assumes the risk of loss on a F.O.B. basis when goods are delivered
to a shipper and is insured against casualty losses arising during
shipping.

<PAGE>
Competition

                The retail craft and fabric industry is highly competitive.
The Company competes with other national, regional and independent
specialty craft and/or fabric retailers and mass merchandisers,
some of which have greater financial and other resources than the
Company. The Company believes it competes on the basis of
merchandise selection, customer service, price and advertising.
Competitors include A.C. Moore Arts & Crafts, Inc., Jo-Ann Stores,
Inc., and Michaels Stores, Inc.

Employees

                 As of August 29, 1998, the Company has approximately 1,150
employees, consisting of approximately 310 full time and 840 part
time employees. Full time personnel consist of approximately 200
salaried and 110 hourly employees. All part time personnel are
hourly employees. During seasonal peak periods, the Company hires
temporary personnel. Approximately 38 employees in the Company's
distribution center are covered by a collective bargaining
agreement with Local 161 of the Union Of Needletrades, Industrial
And Textile Employees, AFL-CIO. This agreement expires in March
1999. The Company considers its relationships with its employees to
be good. 


Trademarks

                The Company's trademark "THE RAG SHOP" was registered in the
United States Patent Office on September 9, 1969 and thereafter
renewed.  This registration is renewable indefinitely so long as
the mark is used by the Company.  

ITEM 2.  PROPERTIES.

                 The Company's office facilities and its Hawthorne, New Jersey
store occupy approximately 15,900 and 17,600 square feet,
respectively, in the same strip shopping center in Hawthorne, New
Jersey. The store and offices are leased from Momar Realty L.L.C.,
the two members of which are Stanley Berenzweig, Chairman of the
Board and Doris Berenzweig, Secretary.  The Company's distribution
center and all of its other stores are leased from non-affiliates
of the Company.

                 The Company's 85,000 square foot distribution center is
located in Paterson, New Jersey. The Company believes that its
distribution center is adequate for its needs through the
expiration of the current term of the lease in July 2000. The
Company has one option to renew the lease for a period of two
years. The Company also leases approximately 50,000 square feet of
warehouse space to accommodate seasonal merchandise.

                 The Company's stores, all of which are located in leased
facilities, range in size from approximately 6,200 square feet to
17,600 square feet.  The average size of the Company's stores is
approximately 9,700 square feet with approximately 90% of the area
of each store representing selling space.  The Company seeks to
open new stores in the range of approximately 12,000 to 15,000
square feet.  However, the Company often maintains options to
expand store size and will exercise those options or otherwise
enlarge particular stores as circumstances warrant. The following
table sets forth the number of store leases due to expire,
including options to renew, during the year indicated.

                                    LEASE EXPIRATIONS
    Year                  Number                 Year                   Number

    2000                    1                    2013                      5
    2001                    2                    2014                      3
    2003                    2                    2015                      1
    2004                    2                    2016                      3
    2005                    2                    2017                     10
    2006                    2                    2018                      6
    2008                    3                    2019                      6
    2009                    1                    2020                      2
    2010                    2                    2021                      2
    2011                    4                    2023                      2
    2012                    2                    2026                      1
                                                 2027                      2

                 Sixty-three of the above stores are located in strip shopping
centers, and the remaining three are free-standing buildings.  The
stores generally are located in close proximity to population
centers and other retail operations and are usually on a major
highway or thoroughfare, making them easily accessible by
automobile.  All of the stores provide free parking.

                 The leases for the Company's stores are generally for a term
of five years, usually with four options to renew for five years
each. Under most leases, the Company is required to pay, in
addition to fixed minimum rental payments, additional rent based on
charges for real estate taxes, common area maintenance fees,
utility charges and insurance premiums.  

ITEM 3.  LEGAL PROCEEDINGS.

                 The Company is involved in various legal proceedings
incidental to the conduct of its business. The Company currently is
not engaged in any legal proceedings that is expected to have a
material adverse effect on the Company's results of operations or
financial position.

ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.

                 The Company did not submit any matters to vote of its
stockholders, through the solicitation of proxies or otherwise,
during the fourth quarter of the fiscal year ended August 29, 1998.<PAGE>

                                    PART II

ITEM 5.  MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED
                   STOCKHOLDER MATTERS.

                 The Company's Common Stock is traded on the NASDAQ National
Market System ("NASDAQ/NMS") under the symbol "RAGS."

                 The following table sets forth, for the periods indicated, the
range of high and low sale prices of the Common Stock as reported
by NASDAQ from September 1, 1996, through August 29, 1998. These
prices reflect interdealer prices and do not include retail mark-
ups, mark-downs or commissions, and do not necessarily represent
actual transactions.

                                                         High              Low

                   Fiscal Quarter Ended

                   November 29, 1997                    $ 3.50            $2.125
                   February 28, 1998                      3.438            2.625
                   May 30, 1998                           3.688            2.813
                   August 29, 1998                        3.75             2.50

                   Fiscal Quarter Ended

                   November 30, 1996                    $ 2.50            $1.938
                   March 1, 1997                          4.313            2.00
                   May 31, 1997                           3.75             2.688
                   August 30, 1997                        3.688            2.50

                 On October 30, 1998, the closing price of the Common Stock was
$2.50.

                 The approximate number of stockholders of record of the Common
Stock at October 30, 1998 was 287. The number of beneficial owners
whose shares are held by banks, brokers and other nominees exceeds
800.

                 The Company has not paid any dividends.  The Company presently
intends to retain all earnings for the operation and expansion of
its business and does not anticipate paying cash dividends on its
Common Stock in the foreseeable future.  Any future determination
as to the payment of dividends on the Common Stock will depend upon
future earnings, results of operations, capital requirements, the
financial condition of the Company and any other factors the Board
of Directors of the Company may consider.  In addition, pursuant to
the Company's bank line of credit, the Company is prohibited from
declaring dividends in any year in excess of its earnings for such
year or which would otherwise result in a violation of the
Company's covenant to maintain a tangible net worth (as defined in
the line of credit commitment letter) of $9,000,000.<PAGE>

ITEM 6.              SELECTED FINANCIAL DATA.

                                             Fiscal Year Ended(1)              
                  August 29,  August 30,  August 31,  September 2,  September 3,
                    1998         1997        1996        1995          1994    
                    (in thousands, except Common Stock Data and Statistics)

OPERATIONS

Net sales      $   90,566    $  86,528   $   83,767   $   86,089  $   89,529
Gross profit       32,772       31,044       30,440       31,592      33,886
Store expenses and
 general and 
 administrative
 expenses          31,167       30,578       29,500       30,566      32,504
Interest expense,
 net                   61          115          161          134         266
Income before income
 taxes              1,544          351          779          893       1,117
Income before 
 cumulative effect 
 of change in
 accounting
 principle             942         207          520          542         692
Net income      $      942   $     207     $    520      $   542   $     767

COMMON STOCK DATA (2)

Net income per 
 share before
 cumulative effect
 of change
 in accounting principle
    Basic        $     .21    $    .05     $     .12     $   .12   $     .15
    Diluted            .21         .05           .12         .12         .15
Net income per share
    Basic              .21         .05           .12         .12         .17
    Diluted            .21         .05           .12         .12         .17
Book value per 
 share           $    4.82    $   4.61     $    4.56     $  4.45   $    4.33
Weighted average
 shares and
 equivalents outstanding
    Basic         4,514,400  4,514,400     4,514,400   4,514,400   4,514,400
    Diluted       4,555,787  4,533,830     4,514,412   4,524,026   4,514,400

FINANCIAL POSITION

Working capital   $  17,095  $  16,256     $  16,985   $  15,161   $  13,851
Total assets         33,318     32,264        33,555      34,821      36,079
Short-term debt       2,194      3,119         1,762       4,735       6,555
Long-term debt            -        554         1,231           -           -
Stockholders' 
 equity           $  21,742  $  20,800     $  20,593   $  20,073   $  19,531

<PAGE>
                                         Fiscal Year Ended(1)                 
                 August 29,  August 30,   August 31,  September 2,   September 3
                   1998        1997          1996        1995           1994    
                     (in thousands, except Common Stock Data and Statistics)

STATISTICS

Net sales increase
 (decrease)          4.7%       3.3%        (2.7%)      (3.8%)          6.4%
Comparable store net
  sales increases
 (decreases) (4)     3.2%       3.8%        (4.9%)      (7.3%)         (4.1%)
Return on net sales,
  after income taxes 1.0%        .2%          .6%         .6%            .9%
Return on average
  stockholders'
  equity             4.4%       1.0%         2.6%        2.7%           4.0%
Average net sales per
  gross square foot
  (3)            $   143   $    139   $     135    $     141     $      154
Average net sales
 per store 
 (000's)(3)      $ 1,374   $   1,296  $   1,214    $    1,265    $    1,362
Stores open at end of
  period              66          66         67            69            68

  (1)         Fiscal year ended September 3, 1994 was a 53 week fiscal year,
              all other years are 52 week fiscal years.

  (2)         Per share data and the number of shares have been restated as
              required by Statement of Financial Accounting Standards No. 128
              "Earnings Per Share".

  (3)         For purposes of calculating these amounts, the number of stores
              and the amount of gross square footage have been adjusted to
              reflect the number of months during the period that new stores
              were open. These amounts have not been adjusted to reflect the
              seasonal nature of the Company's net sales or the resulting
              impact of opening stores in different periods during the year. 
              See "Management's Discussion and Analysis of Financial
              Information and Results of Operations--Seasonality."

  (4)         Comparable store sales increases for a fiscal year include stores
              commencing with their thirteenth consecutive entire fiscal month.<PAGE>

ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
          AND RESULTS OF OPERATIONS.

Results of Operations

            The following table sets forth as a percentage of net sales, certain
items appearing in the Company's Consolidated Income Statements for the
indicated years.

                                                     Year Ended        
                                              1998      1997     1996
      Net sales                              100.0%    100.0%   100.0%
      Cost of merchandise sold
       and occupancy costs                    63.8      64.1     63.7
      Gross profit                            36.2      35.9     36.3
      Store expenses                          23.4      23.9     23.8
      General and administrative
       expenses                               11.0      11.5     11.4
      Income from operations                   1.8       0.5      1.1
      Net income                               1.0%       .2%      .6%

            The Company's net sales increased in 1998 by $4,038,000 or 4.7% due
to increases in comparable store sales of $2,647,000 or 3.2% in addition
to new store sales of $3,891,000 net of the impact of closed store sales.
Management believes the increases in comparable store sales in 1998 were
primarily due to improved buying and timely inventory replenishment based
on information from the Company's point-of-sale cash register software,
data collection and computer systems ("point-of-sale systems") installed
in the prior year and from the continuation of its marketing plan that
commenced in the prior year. The Company's net sales increased in 1997 by
$2,761,000 or 3.3% due to increases in comparable store sales of
$3,038,000 or 3.8% in addition to new store sales of $3,417,000 net of
the impact of closed store sales. Management believes that the marketing
plan launched in September 1996 and the mild weather conditions in the
northeast region during the fiscal second quarter compared to the
comparable prior periods contributed significantly to the positive
comparable store sales results.

            Gross profit percentage increased by .3% in 1998 as compared to 1997
primarily as a result of a decrease in markdowns, which was partially
attributable to the improved buying and timely inventory replenishment
mentioned above. Gross profit percentage decreased by .4% in 1997 as
compared to 1996 as a result of an increase in the annual shrinkage of
inventory of .7% partially offset by a decrease in markdowns of .4% due
to improved control of promotions during the Christmas selling season.  

            Store expenses increased by $507,000 or 2.5% in 1998 as compared to
1997. The dollar increase was primarily the result of an increase in (i)
the cost of operating the point-of-sale systems for an entire fiscal
year, (ii) credit card processing costs principally due to accepting a
new credit card at the beginning of this fiscal year and (iii) payroll
and payroll related expenses. As a percentage of net sales, store
expenses decreased by .5% in 1998 as compared to 1997 principally due to
the Company leveraging these expenses against the increase in net sales.
Store expenses increased by $754,000 or 3.8% in 1997 as compared to 1996.
The dollar increase was primarily due to an increase in (i) payroll and
payroll related expenses, (ii) depreciation expense as a result of the
installation of the point-of-sale systems and (iii) advertising in
connection with the new marketing plan. As a percentage of net sales,
store expenses in 1997 remained relatively constant compared to 1996. 

            General and administrative expenses increased marginally in 1998 as
compared to 1997. As a percentage of net sales, general and
administrative expenses decreased by .5% as the Company was able to
leverage these costs against the increase in net sales. General and
administrative expenses increased by $324,000 or 3.4% in 1997 as compared
to 1996. The increase was primarily due to an increase in payroll and
payroll related expenses. As a percentage of net sales, general and
administrative expenses in 1997 remained relatively constant compared to
1996. 

             Interest expense, net decreased in 1998 as compared to 1997 as a
result of the reduction in the Company's term loan. Interest expense, net
decreased in 1997 as compared to 1996 as a result of lower borrowings on
the Company's line of credit. This decrease was net of additional
interest on the Company's term loan to finance its point-of-sale systems.
See "Liquidity and Capital Resources." 

            The effective tax rate for 1998 was 39.0% as compared to 41.0% in
1997. The decrease is primarily attributed to a tax settlement in 1997.
The effective tax rate for 1997 was 41.0% as compared to 33.2% in 1996.
The increase is primarily due to a $15,000 tax settlement paid in 1997
for the tax years 1993 through 1995 based upon the results of an Internal
Revenue Service audit. 

            Net income increased by $734,000 for 1998 as compared to 1997 due to
the increase in sales and the related increase in gross profit which was
partially offset by the increase in operating expenses. Net income
decreased by $313,000 for 1997 as compared to 1996 due to the increase in
operating expenses which was partially offset by the increase in sales
and the related increase in gross profit. 

Seasonality

           The Company's business is seasonal, which the Company believes is
typical of the retail fabric and craft industry. The Company's highest
sales and earnings levels historically occur between September and
December.  This period includes the Back-to-School, Halloween and
Christmas seasons. The Company has generally operated at a loss during
its fourth quarter, the June through August summer period. See "Business-
-Seasonality."

            Year to year comparisons of quarterly results and comparable store
sales can be affected by a variety of factors, including the timing and
duration of holiday selling seasons and the timing of new store openings
and promotional markdowns.  

Liquidity and Capital Resources

            The Company's primary needs for liquidity are to maintain inventory
for the Company's existing stores and to fund the costs of opening new
stores, including capital improvements, initial inventory and pre-opening
expenses. In 1998 and 1997, the Company relied on short-term borrowings, 
internally generated funds and credit made available by suppliers to
finance inventories and new store openings.

            The Company's working capital has increased $838,000 in 1998 as
compared to 1997 primarily as a result of the increase in its merchandise
inventories and reduction in note payable-bank which was partially offset
by an increase in accounts payable-trade.

            The Company maintains a $10 million credit facility with a bank. The
credit facility is renewable annually on or before each December 31 and
consists of a discretionary $8,000,000 unsecured line of credit for
direct borrowings and the issuance and refinance of letters of credit and
a $2,000,000 three (3) year term loan maturing May 1, 1999. Borrowings
under the line of credit bear interest  at the bank's prime rate (8.50%
at August 29, 1998) and under the term loan are fixed at seven and one-
half percent (7.5%) effective March 1, 1998, formerly at eight percent
(8%) since inception. The credit facility requires the Company to
maintain a compensating balance of $400,000 in addition to certain
financial covenants which require a minimum defined working capital and
tangible net worth, a maximum ratio of debt to tangible net worth and set
limits on the payment of dividends. As of August 29, 1998, the Company
was in compliance with such covenants. Historically, the amount borrowed
has varied based on the Company's seasonal requirements, generally
reaching a maximum amount outstanding during the fourth quarter of each
fiscal year.  The maximum amount borrowed under the line was $2,785,000,
$2,755,000 and $4,935,000  in 1998, 1997 and 1996, respectively. As of
August 29, 1998 and August 30, 1997, $1,635,000 and $2,435,000,
respectively, was outstanding under the line of credit for direct
borrowings and $548,000 and $1,227,000, respectively, was outstanding
under the term loan with $548,000 maturing in 1999. The Company intends
to maintain the availability of the line of credit for working capital
requirements and in order to be able to take advantage of future
opportunities and to continue to utilize the term loan to finance its new
point-of-sale systems. The Company completed installation of its point-
of-sale systems in all stores as of July 1997. In addition, the Company
is in the test phase of its automated store ordering and receiving
systems and anticipates having all stores fully operational by March
1999.

           The Company purchases merchandise directly from manufacturers in the
Far East.  Generally, these purchases are supported by letters of credit
payable in United States dollars.  The results of operations of the
Company have not been significantly affected by foreign currency
fluctuation. At August 29, 1998, the Company had outstanding letters of
credit in the approximate amount of $138,400.

            During 1998, 1997 and 1996, the Company had net cash provided by
operating activities of $2,443,000, $1,135,000 and $2,659,000,
respectively, and used $835,000, $1,877,000 and $1,001,000, respectively,
for purchases of property and equipment. Cash provided by operating
activities increased in 1998 primarily as a result of increases in net
income and accounts payable partially offset by an increase in
merchandise inventories. The Company expects to open five to seven stores
and close one existing store during 1999. Costs associated with opening
of new stores, including capital expenditures, inventory and pre-opening
expenses have approximated $350,000 per store. These costs will be
financed primarily from cash provided by operating activities, credit
made available by suppliers to finance inventories and, if necessary,
from the Company's bank line of credit. However, the Company will
redeploy assets of stores being closed to the new stores as opportunities
evolve in order to curtail the costs of opening stores.

Year 2000

             To conduct its business efficiently, the Company relies on several
critical information technology ("IT") systems for functions including
point-of-sale operations, inventory control, financial and accounting
management, communications, purchasing, records retention, and general
administrative procedures.  Beginning in 1997, the Company began an
internal review of its IT systems to ensure their viability in light of
the highly-publicized "Year 2000" problem.  The Company has also begun to
assess other, non-IT systems (such as security and electrical) to
identify potential Year 2000 issues that may arise from embedded chip
technology.  Because the Company's use of internal systems that include
such technology is limited, management does not expect its non-IT systems
to pose a material Year 2000 issue.

            Concurrently, management has been undertaking a general reevaluation
of the Company's IT systems in its effort to enhance efficiency and
increase profitability in a highly competitive marketplace.  In several
cases, this modernization program has allowed management to address Year
2000 compliance issues by entirely replacing certain obsolete technology
with new systems that are Year 2000-compliant.  Among the systems whose
modernization is completed or underway are those controlling inventory,
purchasing, point-of-sale data and central administration.

             As part of this review, management has also communicated with its
most important suppliers and other vendors to ensure their Year 2000
compliance.  The Company is cooperating with these vendors to upgrade
certain software and maintain Year 2000 compliance both internally and
externally.

            Management believes that its current efforts will allow the Company
to be fully Year 2000-compliant by June of 1999, including allowances for
integrated testing.  Management has allowed for further time in the event
certain system elements need additional upgrading.  However, management
believes that this possibility is unlikely as much of the necessary work
has already been completed and tested.

            Because the Company has focused its attention primarily on updating
its systems, it has not yet developed a contingency plan in the event of
any interruption of key internal or external services.  Management
currently expects to complete such a plan by the middle of calendar year
1999, subject to further review and refinement thereafter to reflect
changing circumstances.  In particular, the Company's plan will seek to
establish alternatives in the event of any disturbance in external
telecommunications, electric power, financial or transportation networks. 
Although at this time the Company cannot estimate the impact of an
interruption in any of these services, it is possible that a sustained
disruption would materially affect the Company's operations and financial
results.

             Since most of the Company's Year 2000 compliance expenses have
arisen in the context of a general IT modernization, management does not
believe that these remediation costs will rise to a material level.

Forward-Looking Statements

            Certain statements contained in this report that are not historical
facts are forward-looking statements that are subject to certain risks
and uncertainties that could cause actual results to differ materially
from those set forth in the forward-looking statement. These risks and
uncertainties include, but are not limited to, changes in customer
demand, changes in trends in the fabric and craft industry, changes in
competitive pricing for products, the impact of competitor store openings
and closings, the availability of merchandise, general economic
conditions, lease negotiations and other risk factors.

New Accounting Standards

            In June 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income" (SFAS No. 130) and No. 131 "Disclosure about
Segments of an Enterprise and Related Information" (SFAS No. 131). SFAS
No. 130 establishes standards for reporting the display of comprehensive
income and its components in a full set of general-purpose financial
statements. This Statement requires that an enterprise (a) classify items
of other comprehensive income by their nature in a financial statement
and (b) display the accumulated balance of other comprehensive income
separately from retained earnings and additional paid-in capital in the
equity section of a statement of financial position.

            SFAS No. 131 establishes standards for the way that public business
enterprises report information about operating segments in annual
financial statements and requires that those enterprises report selected
information about operating segments in interim financial reports issued
to shareholders. It also establishes standards for related disclosures
about products and services, geographic areas and major customers.

            Both SFAS No. 130 and SFAS No. 131 are effective for fiscal periods
beginning after December 15, 1997. The Company has not yet determined the
impact, if any, of adopting these standards.

            In April 1998, the FASB issued Statement of Position (SOP) No. 98-5
"Reporting on the Costs of Start-Up Activities". This SOP requires the
costs associated with start-up activities, such as opening a new store,
be expensed as incurred. This SOP is effective for financial statements
for fiscal years beginning after December 15, 1998. While a final
determination has not been made, it is anticipated that such adoption
will not have a material effect on the Company's results of operations.


ITEM 7A.      QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

            Market risk is the potential change in a financial instrument's
value caused by fluctuations in interest or currency exchange rates, or
in equity and commodity prices.  The Company's activities expose it to
certain risks that Management evaluates carefully to minimize earnings
volatility.  At August 29, 1998, the Company was not a party to any
derivative arrangement and the Company does not engage in trading,
market-making or other speculative activities in the derivatives markets. 
The Company's foreign currency exposure is not material and the Company
does not engage in regular hedging activities to minimize the impact of
foreign currency fluctuations.  As discussed in Notes 3 and 4 of the
Notes to Consolidated Financial Statements, loans outstanding under the
Company's unsecured line of credit bear interest at the bank's prime rate
(8.5% at August 29, 1998), and the Company's term loan is payable at a
fixed rate of 7.5% effective March 1, 1998, reduced from 8% previously.


ITEM 8.     FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.


            See Item 14(a)1 in Part IV.

ITEM 9.     CHANGES IN AND DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.


             Not Applicable.

<PAGE>

                                             PART III


ITEM 10.      DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.

            The information required for this item is incorporated by reference
to the Company's 1998 Definitive Proxy Statement which the Company will
file with the Securities and Exchange Commission no later than 120 days
subsequent to August 29, 1998.


ITEM 11.      EXECUTIVE COMPENSATION.

            The information required for this item is incorporated by reference
to the Company's 1998 Definitive Proxy Statement which the Company will
file with the Securities and Exchange Commission no later than 120 days
subsequent to August 29, 1998.


ITEM 12.      SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.

            The information required for this item is incorporated by reference
to the Company's 1998 Definitive Proxy Statement which the Company will
file with the Securities and Exchange Commission no later than 120 days
subsequent to August 29, 1998.



ITEM 13.      CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

            The information required for this item is incorporated by reference
to the Company's 1998 Definitive Proxy Statement which the Company will
file with the Securities and Exchange Commission no later than 120 days
subsequent to August 29, 1998.<PAGE>

                                    PART IV

ITEM 14.      EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.

      (a)     Documents filed as part of this report.

              1.Financial Statements                                      Page

                Independent Auditors' Report                               F-1

                Consolidated Balance Sheets as of August
                29, 1998 and August 30, 1997                               F-2

                Consolidated Statements of Income for the
                years ended August 29, 1998,
                August 30, 1997 and August 31, 1996                        F-3

                Consolidated Statements of Stockholders'
                Equity for the years ended August 29, 1998,
                August 30, 1997 and August 31, 1996                        F-4

                Consolidated Statements of Cash Flows for
                the years ended August 29, 1998, August 30,
                1997 and August 31, 1996                                   F-5

                Notes to Consolidated Financial Statements                 F-7


              2.Financial Statement Schedules

                None


              3.Exhibits

                3.1*Certificate of Incorporation of the Company

                3.2*By-Laws of the Company

                10.1*Promissory Note (Revolving) with Valley National
                     Bank

                10.2*1991 Stock Option Plan

                10.3*Lease between Momar Realty Co. and the Company,
                     dated as of March 1, 1991

                21.1List of subsidiaries of the Company

                23.1Consent of Deloitte & Touche LLP

<PAGE>
                24.1Power of Attorney to sign Form 10-K (set forth on
                    page 20)

                27Financial Data Schedule (Filed electronically with
                  SEC only)



________________________________

            *Incorporated by reference to the Company's Registration Statement
on Form S-1 and Amendment No. 1 thereto.

           (b)  The Company did not file a Current Report on Form 8-K during the
last quarter of the period covered by this Report.<PAGE>
 
                                      SIGNATURES

     Pursuant to the requirements of Section 13 or 15(d) of the Securities 
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned thereunto, duly authorized, in the City of 
Hawthorne, New Jersey, on November 24, 1998.

                                                     RAG SHOPS, INC.



                                          By:       /s/ Stanley Berenzweig
                                                   STANLEY BERENZWEIG, Chairman

                                 POWER OF ATTORNEY

     Each of the undersigned hereby appoints Stanley Berenzweig and Steven 
Barnett as his or her attorneys-in-fact to sign his or her name, in any and all 
capacities, to any amendments to this Form 10-K and any other documents filed in
connection therewith to be filed with the Securities and Exchange Commission.  
Each of such attorneys has the power to act with or without the others.

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

Signature                        Title(s)                           Date


/s/ Michael Aaronson             Director                     November 24, 1998
  Michael Aaronson

/s/ Steven Barnett               Principal Financial          November 24, 1998
  Steven Barnett                 Officer, Principal
                                 Accounting Officer and
                                 Director

/s/ Evan Berenzweig              Director                     November 24, 1998
  Evan Berenzweig

/s/ Stanley Berenzweig           Principal Executive          November 24, 1998
  Stanley Berenzweig             Officer and Director

/s/ Fred J. Damiano              Director                     November 24, 1998
  Fred J. Damiano

/s/ Judith Lombardo              Director                     November 24, 1998
  Judith Lombardo
 
/s/ Alan C. Mintz                Director                     November 24, 1998
  Alan C. Mintz

<PAGE>

                                            RAG SHOPS, INC.

                               Index to Consolidated Financial Statements
                                           INDEX TO EXHIBITS

                                         

Exhibit                                                    Sequentially
Number         Description of Exhibits                    Numbered Pages

3.1            Certificate of Incorporation of the Company       *

3.2            By-Laws of the Company                            *

10.1           Promissory Note (Revolving) with Valley National 
               Bank                                              *

10.2           1991 Stock Option Plan                            *

10.3           Lease between Momar Realty Co. and the Company, 
               dated as of March 1, 1991                         *

21.1          List of subsidiaries of the Company

23.1          Consent of Deloitte & Touche LLP

24.1          Power of Attorney to sign Form 10-K 
              (set forth on page 20)

27            Financial Data Schedule
              (Filed electronically with SEC only)



________________________________

*    Incorporated by reference to the Company's Registration Statement on Form
S-1 and Amendment No. 1 thereto.<PAGE>



INDEPENDENT AUDITORS' REPORT



To the Board of Directors
  and Stockholders
Rag Shops, Inc.
Hawthorne, New Jersey


We have audited the accompanying consolidated balance sheets of Rag
Shops, Inc. and its subsidiaries as of August 29, 1998 and August 30,
1997, and the related consolidated statements of income, changes in
stockholders' equity and cash flows for each of the three years in the
period ended August 29, 1998. These financial statements are the
responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.

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

In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Rag Shops, Inc. and
subsidiaries as of August 29, 1998 and August 30, 1997, and the results
of their operations and their cash flows for each of the three years in
the period ended August 29, 1998, in conformity with generally accepted
accounting principles.  


Deloitte & Touche LLP


Parsippany, New Jersey
November 11, 1998


                                                 F-1
<PAGE>

RAG SHOPS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

                                                  August 29,         August 30,
ASSETS                                               1998               1997    

CURRENT ASSETS:
        Cash                                  $    896,123        $    763,668
        Merchandise inventories                 26,458,628          25,123,037
        Prepaid expenses                           531,535             298,823
        Other current assets                        77,475             242,297
        Deferred taxes                             707,346             697,146

                 Total current assets           28,671,107          27,124,971

PROPERTY AND EQUIPMENT, NET                      4,327,559           4,885,520

OTHER ASSETS                                       319,690             253,198

                                                $33,318,356        $32,263,689

LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES:
        Note payable - bank                     $ 1,635,000        $ 2,435,000
        Accounts payable - trade                  6,555,499          5,080,546
        Accrued expenses and other current
                         liabilities              1,965,345          1,857,216
        Accrued salaries and wages                  618,112            812,028
        Income taxes payable                        243,821                  -
        Current portion of long-term debt           558,802            683,980

                 Total current liabilities       11,576,579         10,868,770

DEFERRED TAXES                                            -             40,361

LONG-TERM DEBT                                            -            554,298

COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS' EQUITY:
        Preferred stock, $.01 par value
          2,000,000 shares authorized;
          no shares issued or outstanding                 -                  - 
        Common stock, $.01 par value,
          13,000,000 shares authorized;
          4,514,400 shares issued and
          outstanding at August 29, 
          1998 and August 30, 1997                   45,144             45,144
        Additional paid-in capital                6,039,162          6,039,162
        Retained earnings                        15,657,471         14,715,954

        Total stockholders' equity               21,741,777         20,800,260

                                                $33,318,356        $32,263,689

See notes to the consolidated financial statements.<PAGE>

RAG SHOPS, INC. AND SUBSIDIARIES


CONSOLIDATED STATEMENTS OF INCOME


                                               Year Ended                       
                                August 29,      August 30,        August 31,
                                  1998             1997              1996     


NET SALES                  $90,565,996         $86,527,566        $83,766,651

COST OF MERCHANDISE SOLD
 AND OCCUPANCY COSTS        57,793,619          55,483,180         53,326,702

   Gross profit             32,772,377          31,044,386         30,439,949

OPERATING EXPENSES:
 Store expenses             21,199,678          20,692,692         19,938,761
 General and administrative
    expenses                 9,967,252           9,885,242          9,561,294

  Total operating expenses  31,166,930          30,577,934         29,500,055


INCOME FROM OPERATIONS       1,605,447             466,452            939,894

INTEREST EXPENSE, Net           61,430             115,129            160,887

INCOME BEFORE PROVISION FOR
   INCOME TAXES              1,544,017             351,323            779,007

PROVISION FOR INCOME TAXES     602,500             143,900            258,700

NET INCOME                 $   941,517          $  207,423        $   520,307

EARNINGS PER COMMON SHARE:
   Basic and diluted              $.21                $.05               $.12



See notes to the consolidated financial statements.<PAGE>

RAG SHOPS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY


                                                Additional
                                Common Stock     Paid-In   Retained
                              Shares  Dollars    Capital   Earnings      Total



BALANCE, SEPTEMBER 2, 1995 4,514,400 $45,144 $6,039,162  $13,988,224 $20,072,530

Net income                       -       -          -        520,307    520,307

BALANCE, AUGUST 31, 1996   4,514,400  45,144  6,039,162   14,508,531 20,592,837

Net income                       -       -          -        207,423    207,423

BALANCE, AUGUST 30, 1997   4,514,400  45,144  6,039,162   14,715,954 20,800,260

Net income                       -       -          -        941,517    941,517

BALANCE, AUGUST 29, 1998   4,514,400 $45,144 $6,039,162  $15,657,471 $21,741,777

See notes to the consolidated financial statements.<PAGE>

RAG SHOPS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

                                                Year Ended                      
                                  August 29,     August 30,     August 31,
                                     1998          1997            1996   
CASH FLOWS FROM OPERATING ACTIVITIES:
  Net income                    $  941,517      $  207,423     $  520,307
  Adjustments to reconcile 
      net income to net cash 
      provided by operating 
      activities:
     Depreciation and 
      amortization               1,366,589       1,406,285     1,273,770
     Deferred taxes                (73,200)          8,000      (132,900)
     Loss on disposition of 
      property and equipment        24,764          59,738        15,613
  Changes in assets and liabilities:
    (Increase) decrease in:
      Merchandise inventories   (1,335,591)     1,157,405      1,278,377
      Prepaid expenses            (232,712)        46,626        195,438
      Other current assets         164,822        231,682       (381,948)
      Other assets                 (45,924)       169,668       (129,917)
  Increase (decrease) in:
      Accounts payable - trade   1,474,953     (2,523,537)       156,121
      Accrued expenses and other 
       current liabilities         108,129        142,870        (66,206)
      Accrued salaries and wages  (193,916)       228,943        (69,211)
      Income taxes payable         243,821              -              -

      Net cash provided by
       operating activities      2,443,252      1,135,103      2,659,444

CASH FLOWS FROM INVESTING ACTIVITIES:
  Proceeds from sale of property
    and equipment                    3,350          4,331          3,895
  Payments for purchases of
    property and equipment        (834,671)    (1,877,180)    (1,000,511)

       Net cash used in investing
        activities                (831,321)    (1,872,849)      (996,616)

CASH FLOWS FROM FINANCING ACTIVITIES:
 Proceeds from issuance of note
   payable - bank               12,810,000     14,520,000     34,415,000
 Repayments of note 
   payable - bank              (13,610,000)   (13,215,000)   (38,020,000)
 Long-term borrowings                    -              -      2,000,000
 Repayments of long-term debt     (679,476)      (624,571)      (148,080)

        Net cash (used in) 
         provided by financing
         activities             (1,479,476)       680,429     (1,753,080)

NET INCREASE (DECREASE) IN CASH    132,455        (57,317)       (90,252)

CASH, BEGINNING OF YEAR            763,668        820,985        911,237

CASH, END OF YEAR              $   896,123    $   763,668    $   820,985









<PAGE>
                                                                     (continued)
RAG SHOPS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

SUPPLEMENTAL DISCLOSURES OF CASH FLOW
 INFORMATION:
   Cash paid during the year for:
     Interest                       $   120,725      $   165,922     $   232,667

     Income taxes                   $   464,206      $   532,087     $   200,013

SUPPLEMENTAL SCHEDULE OF NON-CASH
 INVESTING AND FINANCING ACTIVITIES:
   Purchase of property and 
    equipment in exchange for debt  $         -      $         -    $    10,929

See notes to the consolidated financial statements.<PAGE>

RAG SHOPS, INC. AND SUBSIDIARIES


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 1.         Summary Of Significant Accounting Policies

Organization and Nature of Business
Rag Shops, Inc. (the "Company"), a Delaware corporation formed in April 1991, is
the successor by merger to a New Jersey Corporation having the same name which 
was incorporated in 1984. The Company operates a chain of retail fabric and 
craft stores through its subsidiaries predominantly located in New Jersey, New 
York, Pennsylvania and Florida.

Principles of Consolidation
The consolidated financial statements include the accounts of the Company and 
its subsidiaries, all of which are wholly-owned. All significant intercompany 
transactions and balances have been eliminated.

Merchandise Inventories
Inventories are stated at the lower of cost (first-in, first-out method) or 
market as determined by the retail inventory method, and consist primarily of 
fabrics and crafts.

Property and Equipment
Property and equipment are stated at cost. Depreciation is computed over the 
estimated useful lives of the assets using straight-line and accelerated 
methods. Leasehold improvements are amortized by the straight-line method 
over an estimated useful life or the term of the related lease, whichever is 
shorter.

Effective September 1, 1996, the Company adopted Statement of Financial 
Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived 
Assets and for Long-Lived Assets to be Disposed of" (SFAS No. 121). This 
Statement establishes accounting standards for the impairment of long-lived 
assets, certain identifiable intangibles and goodwill related to those assets to
be held and used, and for long-lived assets and certain identifiable intangibles
to be held and used by an entity to be reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount of an asset may 
not be recoverable. The provisions of SFAS No. 121 did not have any impact on 
the Company's financial position or results of operations.

Pre-opening and Closing Store Expenses
All pre-opening costs incurred in connection with the opening of new retail 
stores are charged to expense on or before the stores opening. Costs associated
with closing stores, when material, are charged to expense at the time the 
decision to close a store is determined.

Amortization
Lease acquisition costs are being amortized on the straight-line method over the
remaining lives of the leases.

Recent Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board (FASB) issued Statement 
of Financial Accounting Standards No. 130, "Reporting Comprehensive Income" 
(SFAS No. 130) and No. 131 "Disclosure about Segments of an Enterprise and 
Related Information" (SFAS No. 131). SFAS No. 130 establishes standards for
reporting the display of comprehensive income and its components in a full set 
of general-purpose financial statements. This Statement requires that an 
enterprise (a) classify items of other comprehensive income by their nature in a
financial statement and (b) display the accumulated balance of other 
comprehensive income separately from retained earnings and additional paid-in 
capital in the equity section of a statement of financial position.

SFAS No. 131 establishes standards for the way that public business enterprises 
report information about operating segments in annual financial statements and 
requires that those enterprises report selected information about operating 
segments in interim financial reports issued to shareholders. It also 
establishes standards for related disclosures about products and services, 
geographic areas and major customers.

Both SFAS No. 130 and SFAS No. 131 are effective for fiscal periods beginning 
after December 15, 1997. The Company has not yet determined the impact, if any,
of adopting these standards. 

In April 1998, the FASB issued Statement of Position (SOP) No. 98-5 "Reporting 
on the Costs of Start-Up Activities". This SOP requires the costs associated 
with start-up activities, such as opening a new store, be expensed as incurred. 
This SOP is effective for financial statements for fiscal years beginning after 
December 15, 1998. While a final determination has not been made, it is 
anticipated that such adoption will not have a material effect on the Company's
results of operations.

Use Of Estimates
The preparation of financial statements in accordance with generally accepted 
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the Company's financial statements and 
accompanying notes to financial statements. Actual results could differ from 
those estimates.

Fair Value Of Financial Instruments
Management of the Company believes that the fair value of financial instruments 
approximates their cost as of August 29, 1998 and August 30, 1997. In 
management's opinion, the fair value of its fixed-rate term loan approximates 
book value based on borrowing rates currently available to the Company and 
amounts outstanding under its line of credit approximate fair value due to their
variable rate. 

Fiscal Year
The Company's fiscal year end is the Saturday closest to August 31. The 
financial statements for the fiscal years ended August 31, 1996, August 30, 1997
and August 29, 1998 were each comprised of 52 weeks.



Note 2.         Property And Equipment

Property and equipment consists of the following:

                                        Useful    August 29,    August 30,
                                         Lives      1998           1997    

    Furniture and fixtures            5-10 years  $7,506,894   $7,127,202
          Leasehold improvements        10 years   2,831,728    2,579,142
          Transportation equipmen      3-7 years     481,568      461,324
          Data processing equipment      5 years   3,383,206    3,295,785

                                                  14,203,396   13,463,453
          Less accumulated depreciation and
                          amortization             9,875,837    8,577,933

                                                 $ 4,327,559   $4,885,520


Note 3.         Note Payable - Bank

The Company maintains a $10,000,000 credit facility with a bank. The credit 
facility is renewable annually on or before each December 31 and consists of a 
discretionary $8,000,000 unsecured line of credit for direct borrowings and the
issuance and refinance of letters of credit and a $2,000,000 three year term 
loan (see Note 4). The facility requires the Company to maintain a compensating 
balance of $400,000 in addition to certain financial covenants which require a 
minimum defined working capital and tangible net worth, a maximum ratio of debt
to tangible net worth and set limits on the payment of dividends. As of August 
29, 1998, the Company was in compliance with such covenants. Borrowings under 
the line of credit bear interest payable quarterly at the bank's prime rate 
(8.50% at August 29, 1998). The borrowings outstanding under the line of credit 
as of<PAGE>
August 29, 1998 and August 30, 1997 were $1,635,000 and $2,435,000, 
respectively, and the unused line of credit for direct borrowings and the 
issuance of letters of credit at August 29, 1998 was $6,226,600.

Note 4.         Long-Term Debt

Long-term debt outstanding consists of the following:

                                               August 29,      August 30,
                                                 1998            1997   

        Term loan                            $  547,873        $1,227,349
        Other                                    10,929            10,929

                                                558,802         1,238,278
        Less current portion                    558,802           683,980

                                             $      -          $  554,298

During the year ended August 31, 1996, the Company borrowed $2,000,000 ("term 
loan") under the terms of its credit facility with a bank to finance its new 
point-of-sale cash register software, data collection and computer systems. 
Interest on the term loan is payable monthly at a fixed interest rate of 7.5% 
effective March 1, 1998, formerly at 8%. The term loan matures May 1, 1999, has 
monthly payments of $62,803 and is collateralized by equipment having a net book
value of $1,278,496 as of August 29, 1998.

Note 5.         Commitments And Contingencies

The Company leases its facilities in accordance with operating leases, having 
initial terms of more than one year, which expire in various years through 2012.
Substantially all of the leases contain renewal options. In addition, certain 
leases require that the Company pay its pro rata share of utilities, taxes, 
insurance and maintenance.  Rent expense for 1998, 1997 and 1996 amounted to 
$6,633,633, $6,140,557 and $5,863,758, respectively, and includes contingent 
rentals (computed on a percentage of sales, as defined in the leases) of
$17,287, $28,168 and $42,565, respectively.

The Company leases certain premises from an entity controlled by the majority 
stockholders of the Company. For the years ended 1998, 1997 and 1996, rental 
payments under this agreement amounted to $209,313, $307,695 and $288,897, 
respectively.

Future minimum annual rental commitments under noncancellable operating leases 
are as follows:

      Fiscal Year Ended
            1999                                                    $6,511,367
            2000                                                     5,929,787
            2001                                                     4,810,688
            2002                                                     3,692,244
            2003                                                     2,698,217
            Thereafter                                               4,400,161

                                                                   $28,042,464

In addition, at August 29, 1998 the Company has outstanding letters of credit 
for the purchase of merchandise inventories of approximately $138,400.

The Company is involved in various legal proceedings incidental to the conduct 
of its business. The Company currently is not engaged in any legal proceedings 
that is expected to have a material adverse effect on the Company's results of 
operations or financial position.<PAGE>

Note 6.         Earnings Per Share

In 1997, the Financial Accounting Standards Board issued Statement No. 128, 
Earnings per Share ("Statement 128"). Statement 128 replaced the previously 
reported primary and fully diluted earnings per share with basic and diluted 
earnings per share. Unlike primary earnings per share, basic earnings per share
excludes any dilutive effects of options, warrants, and convertible securities.
Diluted earnings per share is very similar to the previously reported fully 
diluted earnings per share. All earnings per share amounts for all periods have 
been restated to conform to the Statement 128 requirements. 

                                                   Year Ended                  

                                 August 29,        August 30,        August 31,
                                     1998              1997              1996   


Numerator:
  Net income for basic and
   diluted earnings per share  $   941,517        $  207,423        $  520,307

Denominator:
  Denominator for basic 
   earnings per share-weighted
   average shares                4,514,400         4,514,400         4,514,400

  Effect of dilutive securities:
   Employee stock options           41,387            19,430                12


  Denominator for diluted earnings
   per share-adjusted weighted
   average shares and assumed
   conversions                    4,555,787        4,533,830         4,514,412

Basic earnings per share       $        .21     $        .05      $        .12

Diluted earnings per share     $        .21     $        .05      $        .12




Note 7.         Stock Options And Warrants

In April 1991, the Company adopted the 1991 Stock Option Plan (the "Plan") 
covering employees and nonemployee directors. The plan permits options to 
purchase a total of 450,000 shares of common stock, of which 435,600 shares have
been reserved by the Company as of August 29, 1998. Such options may be
incentive stock options ("ISO") or nonqualified options. The term of an option
will not exceed ten years and an option is exercisable as determined by the 
Option Committee of the Board of Directors. The exercise price of the shares 
covered by an ISO may not be less than the fair market value of the shares at 
the time of grant. The exercise price of the shares covered by a nonqualified 
option is determined by the Option Committee. The options granted are generally 
exercisable 20% per year.

The Company has adopted the disclosure-only provisions of Statement of 
Financial Accounting Standards No. 123, "Accounting for Stock-Based 
Compensation" (SFAS No. 123). Accordingly, no compensation cost has been 
recognized for the stock options awarded. Had compensation cost for the 
Company's stock option plan been recorded based on the fair value at the grant 
date for awards in 1998 and the effect of grants in 1997, consistent with the 
provisions of SFAS No. 123, the Company's net income and income per share would 
have <PAGE>

been reduced to the pro forma amounts indicated below:
                                                         Year Ended         
                                                  August 29,   August 30,
                                                     1998         1997   


   Net income-as reported                          $941,517      $207,423
   Net income-pro forma                            $935,066      $201,139
   Net income per share-as reported, basic 
    and diluted                                    $    .21      $    .05
   Net income per share-pro forma, basic
    and diluted                                    $    .21      $    .04

The weighted-average fair value per share of options granted during the year is 
$2.01. The fair value of each option grant is estimated on the date of grant 
using the Black-Scholes option-pricing model with the followingweighted-average 
assumptions used for grants in 1998 and 1997: dividends yield of 0%, expected 
volatility of 50%, risk-free interest rate of 5.0% and 4.5%, respectively and 
expected lives of 7.5 years. 

Information with respect to options granted under the Plan is as follows:

                                  Number of  Exercise Price  Weighted-Average
                                    Shares      Per Share     Exercise Price

Outstanding, September 2, 1995     224,150  $2.375-$12.375       $5.601
Granted                             12,000      $2.125           $2.125
Canceled                           (21,400) $3.188-$12.375       $6.107

Outstanding, August 31, 1996       214,750  $2.125-$12.375       $5.356
Granted                            115,000  $2.34-$3.00          $2.362
Canceled                           (23,700) $2.125-$12.375       $7.228

Outstanding, August 30, 1997       306,050  $2.125-$12.375       $4.086
Granted                              2,000      $3.375           $3.375
Canceled                            (8,000) $2.125-$6.25         $3.672

Outstanding, August 29, 1998       300,050  $2.125-$12.375       $4.093

Exercisable, August 31, 1996       136,200  $6.00-$12.375        $6.726

Exercisable, August 30, 1997       145,050  $2.375-$12.375       $5.980

Exercisable, August 29, 1998       156,050  $2.125-$12.375       $5.658

The weighted-average remaining contractual life of stock options outstanding at 
August 29, 1998 is 5.8 years.

Note 8.         Income Taxes

          Income tax expense consists of the following:
                                                     Year Ended                 
                                         August 29,   August 30,   August 31,
                                           1998         1997          1996   
          Federal:
            Current                     $  570,200   $  135,900   $  362,800
            Deferred                       (73,200)       8,000     (115,800)

          State:
            Current                        105,500            -       28,800
            Deferred                             -            -      (17,100)

                                        $  602,500   $  143,900    $  258,700

The deferred income tax arises from the following temporary differences:

                                                      Year Ended                
                                          August 29,   August 30,   August 31,
                                             1998         1997         1996   

        Uniform inventory capitalization   $10,200     $(30,600)     $ 53,800
        Depreciation                        59,600       27,700        64,600
        Straight-line of leases              3,400       (5,100)       14,500

                                           $73,200     $ (8,000)     $132,900

The effective tax rate differs from the Federal statutory rate as follows:

                                                       Year Ended               
                                          August 29,   August 30,   August 31,
                                             1998         1997         1996    

        Statutory tax rate                   34.0%         34.0%       34.0%
        State and local income taxes,
          net of federal income tax
          benefit                             4.5            -          1.0
        Other                                  .5           7.0        (1.8)

        Effective tax rate                   39.0%         41.0%       33.2%


Deferred income taxes reflect the net tax effects of temporary differences 
between the carrying amounts of assets and liabilities for financial reporting 
purposes and the amounts used for income tax purposes. The Company's state 
deferred tax asset has been reduced by a valuation allowance based on current 
evidence indicating that it is not more likely than not that the future benefits
of these temporary differences will be realized.

The tax effect of significant items comprising the Company's deferred tax assets
and liabilities are as follows:

                                                         Year Ended            
                                            August 29,                August 30,
                                               1998                     1997    

Current deferred tax asset:
  Uniform inventory capitalization           $707,346                 $697,146

Non-current deferred tax assets:
  Straight-line of leases                     115,073                  111,673
  Difference between book and tax 
   depreciation methods                        19,239                        -
  Net operating losses for State purposes     441,100                  404,522
  Valuation allowance                        (366,400)                (329,822)

                                              916,358                  883,519
Non-current deferred tax liability:
  Difference between book and tax 
   depreciation methods                             -                   40,361
     
Net deferred tax asset                       $916,358                 $843,158

<PAGE>

Note 9.         Employee Benefit Plan

Effective January 1, 1996, the Company adopted a voluntary 401(k) savings plan. 
All non-union employees of the Company are eligible to participate on or after 
reaching age 21 and completing one year of eligibility service. The Company did 
not make any discretionary contributions to the 401(k) plan for the years ended
August 29, 1998, August 30, 1997 and August 31, 1996.

Note 10.  Quarterly Results (Unaudited)

The following is a summary of selected quarterly financial data (thousands of 
dollars, except per share amounts):


                                               Fiscal Quarter Ended             
                                     Nov. 29,   Feb. 28,   May 30,     Aug. 29,
     Fiscal 1998                       1997      1998       1998        1998

     Net sales                      $26,277     $24,998   $20,699      $18,592
     Gross profit                     9,741       9,047     7,490        6,494
     Net income (loss)                  982         431       224         (696)
     Earnings (loss) per common
       share (a):
         Basic                          .22         .10       .05         (.15)
         Diluted                        .22         .09       .05         (.15)

                                               Fiscal Quarter Ended             
                                      Nov. 30,   Mar. 1,   May 31,    Aug. 30,
     Fiscal 1997                        1996      1997      1997        1997

     Net sales                        $26,181   $23,707   $19,629    $17,011
     Gross profit                       9,791     8,718     7,120      5,415
     Net income (loss)                    921       218       167     (1,099)(b)
     Earnings (loss) per common
       share (a):
        Basic                             .20       .05       .04       (.24)(b)
        Diluted                           .20       .05       .04       (.24)(b)

    (a) Earnings (loss) per common share calculations for each quarter are 
    restated to reflect accounting changes required under Statement of
    Accounting Standards No. 128, Earnings per Share. See Note 6.

     (b) Included in the fiscal quarter ended August 30, 1997 was a charge of 
     $220,000 or $.05 per share, basic and diluted, based on the Company's 
     annual shrinkage results compared to those estimates.

The sum of the four quarters may not equal the full year computation due to 
rounding.

                               * * * * * *<PAGE>
    
                                                                EXHIBIT 21.1
                                RAG SHOPS, INC.
                         LIST OF SUBSIDIARY COMPANIES

Name                                                                 State
Incorporated

RSL, Inc.                                                           Delaware
Mobile Fabrics, Inc.                                                New Jersey
The Rag Shop/Glen Burnie, Inc.                                      Maryland
The Rag Shop, Inc.                                                  New York
Rag Shop/Wayne, Inc.                                                New Jersey
Rag Shop/Parsippany, Inc.                                           New Jersey
Rag Shop/Edison, Inc.                                               New Jersey
The Rag Shop/West Orange, Inc.                                      New Jersey
The Rag Shop/Middletown, Inc.                                       New Jersey
The Rag Shop/Toms River, Inc.                                       New Jersey
The Rag Shop/Hamilton Square, Inc.                                  New Jersey
The Rag Shop/Hazlet, Inc.                                           New Jersey
The Rag Shop/Howell, Inc.                                           New Jersey
The Rag Shop/Ocean, Inc.                                            New Jersey
The Rag Shop/Sayreville, Inc.                                       New Jersey
The Rag Shop/Bricktown, Inc.                                        New Jersey
The Rag Shop/Totowa, Inc.                                           New Jersey
The Rag Shop/North Lauderdale, Inc.                                 Florida
The Rag Shop/West Palm Beach, Inc.                                  Florida
The Rag Shop/Palm Beach Gardens, Inc.                               Florida
The Rag Shop/Lancaster, Inc.                                        Pennsylvania
The Rag Shop/Sunrise, Inc.                                          Florida
The Rag Shop/Lantana, Inc.                                          Florida
The Rag Shop/York, Inc.                                             Pennsylvania
The Rag Shop/Selinsgrove, Inc.                                      Pennsylvania
The Rag Shop/Pembroke Pines, Inc.                                   Florida
The Rag Shop/Jacksonville, Inc.                                     Florida
The Rag Shop/Olean, Inc.                                            New York
The Rag Shop/Boca Raton, Inc.                                       Florida
The Rag Shop/Port Richey, Inc.                                      Florida
The Rag Shop/Deptford, Inc.                                         New Jersey
The Rag Shop/Deerfield, Inc.                                        Florida
The Rag Shop/Jacksonville-San Jose, Inc.                            Florida
The Rag Shop/Rostraver, Inc.                                        Pennsylvania
The Rag Shop/Evesham, Inc.                                          New Jersey
The Rag Shop/Allentown, Inc.                                        Pennsylvania
The Rag Shop/Jensen Beach, Inc.                                     Florida
The Rag Shop/Jacksonville-Orange Park, Inc.                         Florida
The Rag Shop/Jacksonville-Regional, Inc.                            Florida
The Rag Shop/Boro Park, Inc.                                        New York
The Rag Shop/Secaucus, Inc.                                         New Jersey
The Rag Shop/North Bergen, Inc.                                     New Jersey
The Rag Shop/Coral Springs, Inc.                                    Florida
The Rag Shop/Turnersville, Inc.                                     New Jersey
The Rag Shop/Hialeah, Inc.                                          Florida
The Rag Shop/Hollywood, Inc.                                        Florida
The Rag Shop/Binghamton, Inc.                                       New York
                                                                   (continued)


                                                                   (continued)
                               RAG SHOPS, INC.
                        LIST OF SUBSIDIARY COMPANIES

Name                                                                State
                                                                    Incorporated


The Rag Shop/Lacey, Inc.                                            New Jersey
The Rag Shop/West Boca Raton, Inc.                                  Florida
The Rag Shop/Ocala, Inc.                                            Florida
The Rag Shop/Fishkill, Inc.                                         New York
The Rag Shop/Hampden, Inc.                                          Pennsylvania
The Rag Shop/East Norriton, Inc.                                    Pennsylvania
The Rag Shop/Wall Township, Inc.                                    New Jersey
The Rag Shop/Northern Lights, Inc.                                  New York
The Rag Shop/Linden, Inc.                                           New Jersey
The Rag Shop/Burlington, Inc.                                       New Jersey
The Rag Shop/Kingstown, Inc.                                        Rhode Island
The Rag Shop/Norwalk, Inc.                                          Connecticut
The Rag Shop/East Hollywood, Inc.                                   Florida
The Rag Shop/Edgewater, Inc.                                        New Jersey
The Rag Shop/Danbury, Inc.                                          Connecticut
The Rag Shop/Voorhees, Inc.                                         New Jersey
               

Each of the above does business under the name "The Rag Shop."<PAGE>

                                                                   EXHIBIT 23.1


                               RAG SHOPS, INC.


INDEPENDENT AUDITORS' CONSENT

We consent to the incorporation by reference in the Registration Statement of 
Rag Shops, Inc. on Form S-8 of our report dated November 11, 1998, appearing in 
this Annual Report on Form 10-K of Rag Shops, Inc. for the year ended August 29,
1998.


Deloitte & Touche LLP
Parsippany, New Jersey
November 24, 1998