<PAGE>   1
                UNITED STATES SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K

                  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
                     OF THE SECURITIES EXCHANGE ACT OF 1934

                   For the Fiscal Year Ended December 31, 1998

                           Commission File No. 1-9259


                 AIRLEASE LTD., A CALIFORNIA LIMITED PARTNERSHIP
--------------------------------------------------------------------------------
             (Exact name of registrant as specified in its charter)

         California                                   94-3008908 
  -----------------------               ------------------------------------
  (State of Organization)               (I.R.S. Employer Identification No.)

          555 California Street, Fourth Floor, San Francisco, CA   94104
          ------------------------------------------------------   -----
               (Address of principal executive offices)          (Zip Code)

       Registrant's telephone number, including area code: (415) 765-1814

           SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

        TITLE OF EACH CLASS:                     NAME OF EACH EXCHANGE
    Depositary Units Representing                  ON WHICH REGISTERED:
      Limited Partner Interests                   New York Stock Exchange

        SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE

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

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

        Aggregate market value of Depositary Units, held by non-affiliates of
the registrant as of the close of business at March 12, 1999 was $44,504,213.00.


<PAGE>   2
                                TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                                                               Page
                                                                               ----
<S>           <C>                                                              <C>
                                     PART I
ITEM 1.       BUSINESS.........................................................  3

ITEM 2.       PROPERTIES....................................................... 14

ITEM 3.       LEGAL PROCEEDINGS................................................ 14

ITEM 4.       SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.............. 14

                                     PART II

ITEM 5.       MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER 
              MATTERS.......................................................... 15

ITEM 6.       SELECTED FINANCIAL DATA.......................................... 18

ITEM 7.       MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND 
              RESULTS OF OPERATIONS............................................ 19

ITEM 7A.      QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT
              MARKET RISK...................................................... 23

ITEM 8.       FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA...................... 24

ITEM 9.       CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND 
              FINANCIAL DISCLOSURE............................................. 24

                                    PART III

ITEM 10.      DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT............... 24

ITEM 11.      EXECUTIVE COMPENSATION........................................... 26

ITEM 12.      SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT... 26

ITEM 13.      CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS................... 27

                                     PART IV

ITEM 14.      EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES AND REPORTS ON 
              FORM 8-K......................................................... 28

SIGNATURES..................................................................... 31

INDEX TO EXHIBITS.............................................................. A-14
</TABLE>



                                       2

<PAGE>   3
                 AIRLEASE LTD., A CALIFORNIA LIMITED PARTNERSHIP
                                    FORM 10-K


                   FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998


                                     PART I

ITEM 1. BUSINESS

GENERAL

        Airlease Ltd., A California Limited Partnership (the "Partnership" or
"Airlease"), was formed in 1986. The General Partner of the Partnership (the
"General Partner") is Airlease Management Services, Inc., a Delaware
corporation. Until October 31, 1996 the General Partner was a wholly owned
subsidiary of USL Capital Corporation ("USL Capital"), which in turn was an
indirect subsidiary of Ford Motor Company. On October 31, 1996, BA Leasing &
Capital Corporation, a California corporation ("BALCAP") purchased the stock of
the General Partner from USL Capital and now the General Partner is a wholly
owned subsidiary of BALCAP and USL Capital no longer has any affiliation with
the Partnership. BALCAP is a wholly owned indirect subsidiary of BankAmerica
Corporation. A total of 4,625,000 Depository Units representing limited
Partnership interests ("Units") in the partnership are outstanding, of which
3,600,000 are held by the public and 1,025,000 are owned by BALCAP and its
subsidiaries.

        The Partnership invests in commercial aircraft and leases the aircraft
to others, primarily airlines, pursuant to finance (full payout) or operating
leases.

PRINCIPAL INVESTMENT OBJECTIVES

        The business of the Partnership is to acquire and own, either directly
or through joint ventures, aircraft and to lease such aircraft primarily to
airlines. The Partnership's principal investment objectives are to generate
income for quarterly cash distributions to Unitholders and to own a portfolio of
leased aircraft. The Partnership's original intent was that until January 1,
2005, it would use a substantial portion of the cash derived from the sale,
refinancing or other disposition of aircraft to purchase additional aircraft if
attractive investment opportunities were available.



                                       3
<PAGE>   4

        As previously reported, as part of a plan to mitigate the adverse
financial effects of changes in tax law, in 1997 unitholders authorized the
General Partner to decide not to make new aircraft investments, to sell aircraft
when attractive opportunities arise, to distribute the proceeds and to liquidate
the Partnership when all assets are sold. The General Partner will consider
whether it is in the best interest of unitholders to cease making new aircraft
investments as opportunities arise, in light of market conditions and the
Partnership's competitive position. Based on its investment experience and its
knowledge of the market, the General Partner believes that attractive investment
opportunities like those made by the Partnership in the past probably will not
be available. In the event that aircraft are sold and appropriate alternative
investments are not available, the Partnership would distribute sale proceeds to
unitholders (after repaying debt and establishing appropriate reserves), and
this would result in a further reduction of the Partnership's portfolio.

AIRCRAFT PORTFOLIO

        The Partnership's aircraft portfolio consists of narrow-body
(single-aisle) twin and tri-jet commercial aircraft which were acquired as used
aircraft. Although the Partnership is permitted to do so, the Partnership does
not own interests in aircraft which were acquired as new aircraft; nor does the
Partnership own any wide-body aircraft, such as the Boeing 747 and MD-11, or any
turboprop or prop-fan powered aircraft.



                                       4
<PAGE>   5


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

<TABLE>
<CAPTION>
               Number &                                       Current          Purchase
             type; year        Ownership    Acquired by        lease             price          Type of          Noise
Lessee       of Delivery       Interest     Partnership      expiration      (in millions)       lease       compliance(1)
------       -----------       --------     -----------      ----------      -------------      -------      -------------
<S>           <C>              <C>          <C>              <C>             <C>                <C>          <C>
USAirways     5 MD-82            100%          1986             2001            $91.0            Direct       Stage III
              1981 (2)                                                                          finance

FedEx        1 727-200FH         100%          1987             2006            $18.5(3)         Direct       Stage III
                1979                                                                            finance

TWA           1 MD-82            100%(5)       1988(5)          2002            $15.8(4)         Direct       Stage III
                1984                                                                            finance
</TABLE>

(1)     See "Government Regulations-Aircraft Noise" below, for a description of
        laws and regulations governing aircraft noise.

(2)     The investment tax credits and the accelerated depreciation originally
        available upon delivery of the aircraft on lease to USAirways, Inc.
        (formerly USAir, Inc.) ("USAirways") were sold in 1981 pursuant to a tax
        benefit transfer lease, which terminated November, 1991. See Note 9 of
        Notes to Financial Statements.

(3)     The purchase price includes $6.9 million of conversion costs for the
        upgrade of the aircraft from a Stage II passenger to a Stage III
        freighter aircraft.

(4)     The Partnership originally acquired a 50% interest in this aircraft in
        1988 for a purchase price of $10.1 million. On January 31, 1997 the
        Partnership purchased the remaining 50% interest from USL Capital for a
        purchase price of $5.7 million.


        At December 31, 1998, the book value of aircraft by lessee as a percent
of total assets was as follows: US Airways, 71.9%; FedEx, 12.8%; and TWA, 14.8%.
Revenues by lessee as a percentage of total revenue for 1998 and 1997,
respectively, were as follows: US Airways, 77.4% and 73.5%; TWA, 17.0% and
15.2%; FedEx, 5.6% and 5.3%.

        See "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS" for a further discussion of the Partnership's lessees.



                                       5
<PAGE>   6
        The Partnership's lessees have the following fair market value renewal
options: US Airways has the right to renew its lease as to any of the aircraft
for up to three additional renewal terms of one year each at a fair market value
rental, provided that the number of aircraft to be returned at the end of any
renewal term may not be less than two; FedEx has the right to renew its lease
for one six-month term at the current rent payable under the lease, and
thereafter for four successive one year terms at a fair market value rental; and
TWA has the right to renew its lease for one term of one, two, three or four
years at fair market value rentals.

COMPETITIVE POSITION OF THE PARTNERSHIP

        The aircraft leasing industry has become increasingly competitive. In
making aircraft investments, leasing aircraft to lessees, and seeking purchasers
of aircraft, the Partnership competes with large leasing companies, aircraft
manufacturers, airlines and other operators, equipment managers, financial
institutions and other parties engaged in leasing, managing, marketing or
remarketing aircraft. Affiliates of the General Partner are engaged in many of
these businesses and may be deemed to be in competition with the Partnership.
There are many large leasing companies which have the financial strength to
borrow at very low rates and to obtain significant discounts when purchasing
large quantities of aircraft. The lower capital and acquisition costs enjoyed by
these large leasing companies permit them to offer airlines lower lease rates
than smaller leasing companies can offer. The Partnership does not have the
resources to purchase newer aircraft or to purchase aircraft at volume discounts
and has only a limited ability to use tax deferrals in its pricing.

        As previously reported to Unitholders, the Partnership's access to
capital is limited. Since all Cash Available from Operations, as defined in the
Limited Partnership Agreement, is distributed, there is no build up of equity
capital, and acquisitions must be funded from proceeds available when aircraft
are sold or from debt. Access to debt is limited because most of the
Partnership's aircraft are being used to collateralize existing borrowings. In
general, the Partnership's pricing is uncompetitive for new acquisitions because
of its limited sources and high cost of capital.

        Because of these factors, finding new aircraft investments like those
made by the Partnership in the past and that offer an appropriate balance of
risk and reward has been difficult. During the past six years the Partnership
has made only two aircraft investments, both of which were possible because of
special circumstances.

        In 1996 and 1997, the Partnership sold interests in eight aircraft (a
50% interest in an aircraft on lease to Finnair, a one-third interest in six
aircraft on lease to Continental, and a 50% interest in one aircraft leased to
Sun Jet International, Inc.) at a profit. See "Disposition of Aircraft" below.
However because of the factors described above, the Partnership was unable to
reinvest the proceeds in aircraft at an acceptable return, and the General
Partner determined that the best use of the net proceeds was to distribute them
to Unitholders. These sales and distributions have reduced the size of the
Partnership's portfolio.



                                       6
<PAGE>   7
EXISTING PARTICIPANTS IN LEASES

        USL Capital originally participated equally with the Partnership in all
aircraft now owned by the Partnership except the aircraft on lease to US Airways
(the "US Airways Aircraft"). In April 1993 the Partnership leased two aircraft
(held jointly with USL Capital), which were previously off lease, to FedEx. In
September 1993 the Partnership exchanged its 50% interest in the two aircraft
for a 100% interest in one aircraft and pledged the aircraft and the lease as
collateral to obtain funds to upgrade the aircraft from a Stage II passenger
aircraft to a Stage III freighter. In January 1997, the Partnership purchased a
50% interest in the TWA Aircraft formerly owned by USL Capital, and now owns a
100% interest in this aircraft.


DESCRIPTION OF LEASES

        All aircraft now owned by the Partnership are leased to third parties
pursuant to full-payout leases (direct finance). The Sun Jet Aircraft was
jointly owned by BALCAP (which purchased USL Capital's interest in this aircraft
in 1996) and the Partnership until it was sold on September 29, 1997. Generally,
operating leases are for a shorter term than full-payout leases and, therefore,
it is necessary to remarket the aircraft in order to recover the full
investment. Full-payout leases are generally for a longer term and hence provide
more predictable revenue than do operating leases.

        All of the Partnership's leases are net leases, which provide that the
lessee will bear the direct operating costs and the risk of physical loss of the
aircraft; pay sales, use or other similar taxes relating to the lease or use of
the aircraft; maintain the aircraft; indemnify the Partnership-lessor against
any liability suffered by the Partnership as the result of any act or omission
of the lessee or its agents; maintain casualty insurance in an amount equal to
the specific amount set forth in the lease (which may be less than the market
value of the aircraft); and maintain liability insurance naming the Partnership
as an additional insured with a minimum coverage which the General Partner deems
appropriate. In general, substantially all obligations connected with the
ownership and operation of the leased aircraft are assumed by the lessee and
minimal obligations are imposed upon the Partnership. Default by a lessee may
cause the Partnership to incur unanticipated expenses. See "Government
Regulation" below.

        Certain provisions of the Partnership's leases may not be enforceable
upon a default by a lessee or in the event of a lessee's bankruptcy. The
enforceability of leases will be subject to limitations imposed by Federal,
California, or other applicable state law and equitable principles.

        In order to encourage equipment financing to certain transportation
industries, Federal bankruptcy laws traditionally have afforded special
treatment to certain lenders or lessors who have provided such financing.
Section 1110 ("Section 1110") of the United States Bankruptcy Code, as amended
(the "Bankruptcy Code"), implements this policy by creating a category of
aircraft lenders and lessors whose rights to repossession are substantially
improved. If a



                                       7
<PAGE>   8
transaction complies with Section 1110, the transaction is not affected by the
automatic stay provisions of the Bankruptcy Code (and thus, the lender or lessor
may repossess the equipment), unless within 60 days after commencement of a
bankruptcy proceeding the trustee agrees to perform all obligations of the
debtor under the agreement or lease and all defaults (except those relating to
insolvency or insolvency proceedings) are cured within such 60-day period. One
court has recently held that section 1110 does not apply after the 60-day
period, and thus the automatic stay may apply after such 60-day period.

        On October 22, 1994, the President signed the Bankruptcy Reform Act of
1994 (the "Reform Act"). The Reform Act made several changes to Section 1110,
such that it now protects all transactions involving qualifying equipment,
whether the transaction is a lease, conditional sale, purchase money financing
or customary refinancing. For equipment first placed in service on or prior to
the date of enactment, the requirement that the lender provide purchase money
financing continues to apply, but there is a "safe harbor" definition for
leases, so that Section 1110 benefits will be available to the lessor without
regard to whether or not the lease is ultimately determined to be a "true"
lease. This safe harbor is not the exclusive test so that other leases which do
not qualify under the safe harbor, but which are true leases, will continue to
be covered as leases by Section 1110. The Partnership may not be entitled to the
benefits of Section 1110 upon insolvency of a lessee airline under all of its
leases.

        In the past, the Partnership had interests in aircraft leased to
operators based outside the United States. It is possible that the Partnership's
aircraft could be leased or subleased to foreign airlines. Aircraft on lease to
such foreign operators are not registered in the United States and it is not
possible to file liens on such foreign aircraft with the Federal Aviation
Administration (the "FAA"). Further, in the event of a lessee default or
bankruptcy, repossession and claims would be subject to laws other than those of
the United States.

AIRCRAFT REMARKETING

        On termination of a lease and return of the aircraft to the Partnership,
the Partnership must remarket the aircraft to realize its full investment. Under
the Amended and Restated Agreement of Limited Partnership, as amended ("Limited
Partnership Agreement"), the remarketing of aircraft may be through a lease or
sale. The terms and conditions of any such lease would be determined at the time
of the re-lease, and it is possible (although not anticipated at this time) that
the lease may not be a net lease. The General Partner will evaluate the risks
associated with leases which are not net leases prior to entering into any such
lease. The General Partner has not established any standards for lessees to
which it will lease aircraft and, as a result, there is no investment
restriction prohibiting the Partnership from doing business with any lessee,
including "start-up" airlines. However, the General Partner will analyze the
credit of a potential lessee and evaluate the aircraft's potential value prior
to entering into any lease.




                                       8
<PAGE>   9

DISPOSITION OF AIRCRAFT

        The Partnership's original intent was to dispose of all its aircraft by
the year 2011, subject to prevailing market conditions and other factors.
However, in 1997 unitholders authorized the General Partner not to make new
investments, to sell aircraft when attractive opportunities arise, to distribute
the proceeds and to liquidate the Partnership when all assets are sold. See
"Principal Investment Objectives."

        Under the Limited Partnership Agreement, aircraft may be sold at any
time whether or not the aircraft are subject to leases if, in the judgment of
the General Partner, it is in the best interest of the Partnership to do so.

        In March 1996, the Partnership sold its 50% interest in one MD-82 on
lease to Finnair to a third party for approximately $6.9 million, resulting in a
net gain of approximately $556,000. The Partnership had acquired its interest in
this aircraft in April 1992, for approximately $8.5 million. A portion of the
sale proceeds were used to pay off the outstanding balance under a non-recourse
loan which was collateralized by this aircraft and the balance, after retaining
a reserve for liquidity purposes, was distributed to Unitholders. See
"Competitive Position of the Partnership" above.

        The Partnership sold its one-third interest in six 737-200 aircraft on
lease to Continental at lease expiration on December 31, 1996, at a sale price
of approximately $3.1 million, resulting in a net gain of approximately $1.9
million. The proceeds were distributed to Unitholders in the first quarter of
1997. See "Competitive Position of the Partnership" above.

        On September 29, 1997 the Partnership sold its one-half ownership
interest in a DC9-51 aircraft on lease to Sun Jet International, Inc. The sale
price was $1.2 million, resulting in a gain of $393,000 even though the lessee
had filed for bankruptcy in June 1997, and had ceased making the rent payments.
The proceeds were distributed to Unitholders in the fourth quarter of 1997. See
"Competitive Position of the Partnership" above.

        The Partnership is permitted to sell aircraft to affiliates of the
General Partner at the fair market value of the aircraft at the time of sale as
established by an independent appraisal. The General Partner will receive a
Disposition or Remarketing Fee for any such sale.

JOINT VENTURES/GENERAL ARRANGEMENTS

        Under the Limited Partnership Agreement, the Partnership may enter into
joint ventures with third parties to acquire or own aircraft. No such joint
ventures presently exist. Generally, each party to a joint venture is jointly
responsible for all debts and obligations incurred by the joint venture, and the
joint venture will be treated as a single entity by third parties. The
Partnership may become liable to third parties for obligations of the joint
venture in excess of those contemplated by the terms of the joint venture
agreement. There can be no assurance that



                                       9
<PAGE>   10
the Partnership will be able to obtain control in any joint ventures, or that,
even with such control the Partnership will not be adversely affected by the
decisions and actions of the co-venturers. The General Partner attempts to
ensure that all such agreements will be fair and reasonable to the Partnership,
although joint ventures with affiliates of the General Partner may involve
potential conflicts of interest.

BORROWING POLICIES

        Under the Limited Partnership Agreement, the Partnership may borrow
funds or assume financing in an aggregate amount equal to less than 50% of the
higher of the cost or fair market value at the time of the borrowing of all
aircraft owned by the Partnership. The Partnership may exceed such 50% limit for
short-term borrowing so long as the General Partner uses its best efforts to
comply with such 50% limit within 120 days from the date such indebtedness is
incurred or if the borrowed funds are necessary to prevent foreclosure on any
Partnership asset. There is no limitation on the amount of such short-term
indebtedness. The General Partner is authorized to borrow for working capital
purposes and to make distributions. See "MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS--Liquidity and Capital Resources"
and Note 4- of Notes to Financial Statements.

MANAGEMENT OF AIRCRAFT PORTFOLIO

        Aircraft management services are provided by the General Partner and its
affiliates. The fees and expenses for these services are reviewed annually and
are subject to approval by the Audit Committee of the Partnership. See Note 7 of
Notes to Financial Statements.

REGISTRATION OF AIRCRAFT; UNITED STATES PERSON

        Under the Federal Aviation Act, as amended (the "FAA Act"), the
operation of an aircraft not registered with the Federal Aviation Administration
(the "FAA") in the United States is generally unlawful. Subject to certain
limited exceptions, an aircraft may not be registered under the FAA Act unless
it is owned by a "citizen of the United States" or a "resident alien" of the
United States. In order to attempt to ensure compliance with the citizenship
requirements of the FAA Act, the Limited Partnership Agreement requires that all
Unitholders (and all transferees of Units) be United States citizens or resident
aliens within the meaning of the FAA Act.



                                       10
<PAGE>   11

GOVERNMENT REGULATION

        GENERAL

        The ownership and operation of aircraft in the United States are
strictly regulated by the FAA, which imposes certain minimum restrictions and
economic burdens upon the use, maintenance and ownership of aircraft. The FAA
Act and FAA regulations contain strict provisions governing various aspects of
aircraft ownership and operation, including aircraft inspection and
certification, maintenance, equipment requirements, general operating and flight
rules, noise levels, certification of personnel and record keeping in connection
with aircraft maintenance. FAA policy has given high priority to aviation
safety, and a primary objective of FAA regulations is that an aircraft be
maintained properly during its service life. FAA regulations establish standards
for repairs, periodic overhauls and alterations and require that the owner or
operator of an aircraft establish an airworthiness inspection program to be
carried out by certified mechanics qualified to perform aircraft repairs. Each
aircraft in operation is required to have a Standard Airworthiness Certificate
issued by the FAA.

        MAINTENANCE

        The Partnership, as the beneficial owner of aircraft, bears the ultimate
responsibility for compliance with certain federal regulations. However, under
all of the Partnership's aircraft leases, the lessee has the primary obligation
to ensure that at all times the use, operation, maintenance and repair of the
aircraft are in compliance with all applicable governmental rules and
regulations and that the Partnership/lessor is indemnified from loss by the
lessee for breach of any of these lessee responsibilities. Changes in government
regulations after the Partnership's acquisition of aircraft may increase the
cost to, and other burdens on, the Partnership of complying with such
regulations.

        The General Partner monitors the physical condition of the Partnership's
aircraft and periodically inspects them to attempt to ensure that the lessees
comply with their maintenance and repair obligations under their respective
leases. Maintenance is further regulated by the FAA which also monitors
compliance. At lease termination, the lessees are required to return the
aircraft in airworthy condition. The Partnership may incur unanticipated
maintenance expenses if a lessee were to default under a lease and the
Partnership were to take possession of the leased aircraft without such
maintenance having been completed. If the lessee defaulting is in bankruptcy,
the General Partner will file a proof of claim for the required maintenance
expenses in the lessee's bankruptcy proceedings and attempt to negotiate payment
and reimbursement of a portion of these expenses. The bankruptcy of a lessee
could adversely impact the Partnership's ability to recover maintenance expense.

        From time to time, aircraft manufacturers issue service bulletins and
the FAA issues airworthiness directives. These bulletins and directives provide
instructions to aircraft operators in the maintenance of aircraft and are
intended to prevent the occurrence of accidents arising 



                                       11
<PAGE>   12
from flaws discovered during maintenance or as the result of aircraft incidents.
Compliance with airworthiness directives is mandatory.

        A formal program to control corrosion in all aircraft is included in the
FAA mandatory requirements for maintenance for each type of aircraft. These FAA
rules and proposed rules evidence the current approach to aircraft maintenance
developed by the manufacturers and supported by the FAA in conjunction with an
aircraft industry group. The Partnership may be required to pay for these FAA
requirements if a lessee defaults or if necessary to re-lease or sell the
aircraft.

        In January 1999 the FAA issued an airworthiness directive setting
payload weight limitations on the Boeing 727 aircraft which were converted from
passenger to freight configuration. The directive requires extensive structural
modifications to strengthen the aircraft's floor, if the aircraft is to continue
to operate under the existing payload limits. If these modifications are not
performed, the directive sets substantially reduced payload limits. This
airworthiness directive applies to the aircraft on lease to FedEx. Under the
lease covering this aircraft, FedEx is required to take the steps necessary to
comply with airworthiness directives imposed during the lease term. However,
airworthiness directives may affect the residual value of the aircraft or
FedEx's decision to exercise fair market value renewal options under the lease.


        AIRCRAFT NOISE

        The FAA, through regulations, has categorized certain aircraft types as
Stage I, Stage II and Stage III according to the noise level as measured at
three designated points. Stage I aircraft create the highest measured noise
levels. Aircraft which exceed Stage I noise maximums are no longer allowed to
operate from civil airports in the United States.

        In general, the Aviation Safety and Capacity Act of 1990 bans the
operation of Stage II aircraft after December 31, 1999 for aircraft operated
within the continental United States. The Act also allows United States airports
to impose their own Stage II noise bans before the formal cut-off date, provided
that an analysis of the costs and benefits of the restriction is presented and
180 days are allowed for public comment. The Act affects about 2,500 Stage II
aircraft operated by United States airlines.


        See "Aircraft Portfolio" above, for a description of the Partnership's
aircraft portfolio. At December 31, 1998, all of the aircraft in the
Partnership's portfolio were Stage III aircraft

ACQUISITION OF ADDITIONAL AIRCRAFT

        In 1997 unitholders authorized the General Partner to decide not to make
new aircraft investments, to sell aircraft when attractive opportunities arise,
to distribute the proceeds and to liquidate the Partnership when all assets are
sold. See "Principal Investment Objectives" above.



                                       12
<PAGE>   13

        If the Partnership were to acquire additional aircraft, it could do so
in many different forms, such as in sale/leaseback transactions, by purchasing
interests in existing leases from other lessors, by making loans secured by
aircraft or by acquiring or financing leasehold interests in aircraft. The
Partnership is permitted to acquire aircraft from affiliates of the General
Partner subject to limitations set forth in the Limited Partnership Agreement.

        Prior to September 30, 1991, the General Partner and USL Capital were
required to offer the Partnership a 50% participation interest in certain
aircraft leasing investments made by Related Entities, as defined in the Limited
Partnership Agreement. After September 30, 1991 and while the General Partner
was an affiliate of USL Capital, the General Partner and USL Capital could, but
were not obligated to, offer investment opportunities to the Partnership. The
Partnership was required to accept suitable opportunities provided that the
General Partner and Related Entities made at least 20% (including their
investment through ownership of Units and the General Partner's interest) of the
total investment made by Related Entities and the Partnership in such
transactions. In the event that the Partnership elected not to make or to make
only a portion of an investment offered to it by an affiliate, the remaining
investment could be made by affiliates of the General Partner or third parties.

        The General Partner believes that since it is no longer affiliated with
USL Capital, the limitation as to making investments with Related Entities
should no longer apply and that the Partnership should be able to invest in any
aircraft leasing transactions deemed suitable by the General Partner. In
determining whether an investment is suitable for the Partnership, the General
Partner will consider the following factors: the expected cash flow from the
investment and whether existing Unitholders' investment will be diluted; the
existing portfolio of the Partnership and the effect of the investment on the
diversification of the Partnership's assets; the amount of funds available to
finance the investment; the ability of the Partnership to obtain additional
funds through debt financing, by issuing Units, or otherwise; the cost of such
additional funds and the time needed to obtain such funds; the amount of time
available to remove contingencies prior to making the investment; projected
Federal income tax effect of the investment; projected residual value, if any;
any legal or regulatory restrictions; and other factors deemed relevant by the
General Partner.

        The General Partner and its affiliates are not obligated to make any
investment opportunity available to the Partnership, and if any of them are
presented with a potential investment opportunity, it may be made by any of them
without being offered to the Partnership. In addition, in determining which
entity should invest in a particular transaction, it may be possible to
structure the transaction in various ways to make the acquisition more or less
suitable for the Partnership or for the General Partner or its affiliates.

FEDERAL INCOME TAXATION

The Partnership is considered a publicly traded Partnership ("PTP") under the
Revenue Act of 1987 with a special tax status, whereby it has not been subject
to federal income taxation. This 



                                       13
<PAGE>   14

special tax status was scheduled to expire at the beginning of 1998. However,
during 1997 federal and California tax laws were amended to provide that
publicly traded Partnerships may elect to continue to be publicly traded and
retain their Partnership tax status if they pay a federal tax of 3.5% and state
tax of 1% on their annual gross income beginning in January 1998. The
Partnership made an election to pay this tax beginning in 1998.

ITEM 2. PROPERTIES

        The Partnership does not own any real property, and shares office space
in the offices of BALCAP and its affiliates.

ITEM 3. LEGAL PROCEEDINGS

        None.

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

        None.



                                       14
<PAGE>   15
                                     PART II

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

UNITS OUTSTANDING

        The Units are traded on the New York Stock Exchange under the symbol
FLY. As of March 9, 1999, there were 1,104 holders of record of Units.

MARKET PRICE

        The following chart sets forth the high and low closing prices on the
New York Stock Exchange and the trading volume for each of the quarters in the
years ended December 31, 1997 and 1998.

<TABLE>
<CAPTION>
                                 Trading Volume
Quarter Ended                    (in thousands)            Unit Prices (high-low)
-------------                    --------------            ----------------------
<S>                              <C>                       <C>
March 31, 1997                       1,104                  $17 5/8   - $10
June 30, 1997                         757                   $12 1/2   - $10  1/4
September 30, 1997                    993                   $12 1/16  - $ 9 15/16
December 31, 1997                     855                   $13 11/16 - $11  1/4

March 31, 1998                        343                   $14 1/2   - $12  5/8
June 30, 1998                         303                   $14       - $12  1/2
September 30, 1998                    302                   $13 7/16  - $12  1/2
December 31, 1998                     281                   $13 3/8   - $12  3/8
</TABLE>

DISTRIBUTIONS TO UNITHOLDERS

        CASH DISTRIBUTIONS

        The Partnership makes quarterly cash distributions to Unitholders which
are based on Cash Available from Operations (as defined in the Limited
Partnership Agreement) and are partially tax sheltered. Form time to time the
Partnership also has made cash distributions from cash available from Sale or
Refinancing (as defined in the Limited Partnership Agreement.) Information on
the tax status of such payments, which is necessary in the preparation of
individual tax returns, is prepared and mailed to Unitholders as quickly as
practical after the close of each year. The size of the Partnership's portfolio
and future aircraft sales will affect distributions.



                                       15
<PAGE>   16

        Distributions declared during 1997 and 1998 were as follows:

<TABLE>
<CAPTION>
        Record Date                      Payment Date                        Per Unit
        -----------                      ------------                        --------
<S>                                      <C>                                 <C>
        January 15, 1997                 January 31, 1997                    63 cents(1)
        March 31, 1997                   May 15, 1997                        45 cents
        June 30, 1997                    August 15, 1997                     45 cents
        September 30, 1997               November 14, 1997                   45 cents
        October 20, 1997                 November 4, 1997                    22 cents(1)
        December 31, 1997                February 13, 1998                   45 cents

        March 31, 1998                   May 15, 1998                        41 cents
        June 30, 1998                    August 14, 1998                     41 cents
        September 30, 1998               November 13, 1998                   41 cents
        December 31, 1998                February 15, 1999                   41 cents
</TABLE>

(1) Special cash distribution from sale proceeds.


        CASH AVAILABLE FROM OPERATIONS

        The Partnership distributes all Cash Available from Operations (as
defined in the Limited Partnership Agreement). The Partnership is authorized to
make distributions from any source, including reserves and borrowed funds.
Distributions of Cash Available from Operations are allocated 99% to Unitholders
and 1% to the General Partner. The Partnership makes distributions of Cash
Available from Operations generally on the fifteenth day of each February, May,
August and November to Unitholders of record on the last business day of the
calendar quarter preceding payment.

        CASH AVAILABLE FROM SALE OR REFINANCING

        The Partnership's original intent was that Cash Available From Sale or
Refinancing (as defined in the Limited Partnership Agreement) received prior to
January 1, 2005 would be retained for use in the Partnership's business,
provided that if the General Partner did not believe that attractive investment
opportunities exist for the Partnership, the Partnership could distribute Cash
Available from Sale or Refinancing. Any Cash Available from Sale or Refinancing
received after January 1, 2005 was not to be reinvested but was to be
distributed. However, in 1997, unitholders authorized the General Partner to
decide not to make new aircraft investments, to sell aircraft when attractive
opportunities arise, to distribute the proceeds and to liquidate the Partnership
when all assets are sold. See "BUSINESS-- Principal Investment Objectives." For
information as to the sales giving rise to distributions from Cash Available
from Sales or Refinancing, see "BUSINESS--Disposition of Aircraft."



                                       16
<PAGE>   17

        TAX ALLOCATIONS

        Allocations for tax purposes of income, gain, loss deduction, credit and
tax preference are made on a monthly basis to Unitholders who owned Units on the
first day of each month. Thus, for example, if an aircraft were sold at a gain,
that gain would be allocated to Unitholders who owned Units on the first day of
the month in which the sale occurred. If proceeds from this sale were
distributed to Unitholders, such proceeds would be distributed to Unitholders
who owned Units on the record date for such distribution, which, because of
notice requirements, likely would not occur in the same month as the sale. In
addition, a Unitholder who transfers his or her Units after the commencement of
a quarter but prior to the record date for that quarter will be allocated a
share of tax items for the first two months of that quarter without any
corresponding distribution of Cash Available from Operations for, among other
things, payment of any resulting tax.



                                       17
<PAGE>   18
ITEM 6. SELECTED FINANCIAL DATA

        The following table sets forth selected financial data and other data
concerning the Partnership for each of the last five years:


<TABLE>
<CAPTION>
                                                                For years ended December 31,
(In thousands except per-unit amounts)         1998           1997          1996         1995          1994
-------------------------------------------------------------------------------------------------------------
<S>                                          <C>           <C>           <C>           <C>           <C>     
OPERATING RESULTS

Lease and other income                       $  8,400      $  9,210      $ 10,747      $ 12,492      $ 12,538

Gain on disposition of aircraft                    --           393         2,501            21            --
                                             ----------------------------------------------------------------

Total Revenues                                  8,400         9,603        13,248        12,513        12,538
                                             ----------------------------------------------------------------

Interest Expense                                1,704         2,028         1,830         2,366         2,660

Depreciation expense                               --           273         1,500         2,129         2,146

Other expenses                                  1,123         1,820         1,266         1,196         1,401

Tax on gross income(1)                            699             0             0             0             0
                                             ----------------------------------------------------------------

Total Expenses                                  3,526         4,121         4,596         5,691         6,207
                                             ----------------------------------------------------------------

Net income                                   $  4,874      $  5,482      $  8,652      $  6,822      $  6,331
                                             ----------------------------------------------------------------

Net income per unit(2)                       $   1.04      $   1.17      $   1.85      $   1.46      $   1.36

Cash distributions declared per unit(3)      $   1.64      $   2.02      $   3.28      $   2.07      $   1.85



FINANCIAL POSITION

Total Assets                                 $ 75,813      $ 82,859      $ 85,130      $103,021      $107,542

Long-term obligations                        $ 14,505      $ 19,115      $ 14,071      $ 27,483      $ 29,525

Total partners' equity                       $ 58,301      $ 61,089      $ 65,042      $ 71,712      $ 74,562

Limited Partners' equity per unit(2)         $  12.48      $  13.08      $  13.92      $  15.35      $  15.96
</TABLE>


(1)     Represents the new tax on gross income (4.5% of Airlease's total 1998
        rental receipts of $15.5 million)

(2)     After allocation of the 1% General Partner's interest.

(3)     Includes special cash distributions of $.10 per unit in 1995, $1.43 per
        unit in 1996, of which $.63 was paid in January 1997 and $.22 per unit
        in 1997.



                                       18
<PAGE>   19
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATIONS 

FORWARD-LOOKING STATEMENTS

The information set forth below and elsewhere in this Annual Report contains
certain forward-looking statements, which reflect the current view of the
partnership with respect to future events and financial performance. The words,
"expect", "intend", "believe", "anticipate", "likely" and "will" and similar
expressions generally identify forward-looking statements. These statements,
including the ones discussing the Year 2000 issue are subject to certain risks
and uncertainties, which could cause actual results, and events to differ
materially from those anticipated in the forward-looking statements.

Factors that could cause the partnership's actual results to differ from current
expectations include, among others, changes in the aircraft or aircraft leasing
market, economic downturn in the airline industry, default by lessees under
leases causing the partnership to incur uncontemplated expenses or not to
receive rental income as and when expected, changes in interest rates and
legislative or regulatory changes that adversely affect the value of aircraft.

LIQUIDITY AND CAPITAL RESOURCES

        The Partnership presently has three long-term debt facilities. At
December 31, 1998, the following amounts were outstanding: $5.1 million on a
7.4% non-recourse note collateralized by one aircraft leased to FedEx; $5.2
million on a 9.35% non-recourse note collateralized by one aircraft on lease to
Trans World Airlines; and $4.3 million on a long-term variable rate revolving
loan facility guaranteed by the Partnership and collateralized by two aircraft
on lease to USAirways. At December 31, 1998 and 1997, $14.5 million and $19.1
million, respectively, was outstanding under the Partnership's loan facilities.
At December 31, 1998 approximately $6.5 million remained available under the
revolving loan facility.

        In December 1998, the Partnership modified the fixed-rate loan
collateralized by the TWA aircraft. As a result of these modifications, the loan
was paid down by $2 million and the average life of the loan was reduced. In
addition, the interest rate on the remaining principal of $5.2 million was
reduced from 9.85% to 9.35%.

        In December 1998, the Partnership expanded its variable-rate revolving
loan facility by $5 million, $2 million of which was used to prepay the TWA debt
mentioned above. In addition, the interest rate on this loan facility was
reduced slightly.

        Long-term borrowings at December 31, 1998 represented 12% of the
original cost of the aircraft presently owned by the Partnership, including
capital expenditures for upgrades. The terms of the Partnership Agreement permit
debt to be at a level not exceeding 50% of such cost.

        Total scheduled debt service (principal and interest) on the fixed loans
in 1999 is $2.7 million, and the principal payment on the floating loan in 1999
is projected to be $2.1 million (if 



                                       19
<PAGE>   20
no purchase or sale of aircraft, or any unforeseen business events occur). Debt
service will be paid primarily from the rental payments received under aircraft
leases.

        Net cash provided by operating activities was $7.3 million for 1996,
$5.1 million for 1997, and $5.3 million for 1998. The decrease in net cash
provided by operating activities in 1997 and 1998 as compared with 1996 was due
to reduced rentals as a result of a smaller portfolio. In December 1996, the
Partnership sold its interest in six aircraft, reducing 1997 rentals by $1.3
million compared with 1996. The slight increase in 1998 reflects lower 1998
expenses as compared with 1997.

        Total debt service on the fixed loans as a percentage of net cash
provided by operating activities was 107%, 152%, and 166% for 1996, 1997 and
1998, respectively. However, cash flow from operating activities does not fully
reflect cash receipts from lease payments. When the excess of rental receipts
above finance lease income is added to cash flow from operating activities, the
ratios become 50%, 68%, and 71% respectively. The higher 1998 ratio as compared
with 1997 primarily reflects the $2 million early principal pay-down of a fixed
loan in 1998. The pay-down was mainly financed by the variable line of credit.
The higher 1997 ratio as compared with the 1996 ratio is the result of the
decrease in the net cash from operations due to a smaller portfolio, while the
debt service (principal and interest) remained at about the same level.

        Cash distributions paid by the Partnership were $12.6 million ($2.70 per
unit) in 1996, $12.4 million ($2.65 per unit) in 1997, and $7.8 million ($1.68
per unit) in 1998. Distributions paid in 1996 included a special cash
distribution of 80 cents per unit made from a portion of the sale proceeds
received from the sale of a 50% interest in one MD-82 aircraft. Distributions
paid in 1997 included two special cash distributions. The first, was a
distribution of 63 cents per unit made from the proceeds received from the
December 31, 1996 sale of the Partnership's interest in six 737-200 aircraft,
and the second was a distribution of 22 cents per unit made from the proceeds
received from the September 29, 1997 sale of the Partnership's 50% interest of
one DC9-51. There were no special cash distributions paid in 1998.

        Partnership net income was $8.7 million in 1996, $5.5 million in 1997,
and $4.9 million in 1998. The decline in net income from 1996 to 1997 largely
reflects fewer gains on sale, whereas the decline from 1997 to 1998 primarily
reflects the imposition of federal taxation at the Partnership level. Pursuant
to the Limited Partnership Agreement, the Partnership distributed all Cash
Available from Operations and also made special cash distributions, as described
above. Since such distributions were in excess of earnings, Partnership equity
declined from $61.1 million at December 31, 1997 to $58.3 million at December
31, 1998, and limited partner equity per unit declined from $13.08 to $12.48.
From a limited partner perspective, the portion of the distribution in excess of
net income constitutes a return of capital. Total cash distributions declared
since inception of the Partnership have exceeded total net income by $6.31 per
unit.

RESULTS OF OPERATIONS

1996



                                       20
<PAGE>   21

        In 1996, revenues were earned from fifteen aircraft, seven of which were
subject to finance leases (US Airways, TWA, and FedEx), and eight of were
subject to operating leases (Continental, Finnair, and Sun Jet). The aircraft
leased to Finnair was sold in March 1996. On December 31, 1996, the operating
lease with Continental covering six aircraft expired, and the aircraft were sold
on that date. At year-end 1996, all of the Partnership's lessees were current
under their lease agreements and none was in bankruptcy. The sales of the
Partnership's interests in aircraft on lease to Finnair and Continental produced
gains of $556,000 and $1.9 million, respectively.

1997 vs. 1996

        In 1997, revenues were earned from seven aircraft subject to finance
leases (US Airways, TWA, and FedEx). Finance lease income increased from 1996
due to the Partnership's purchase in January 1997 of an additional 50% interest
in the MD-82 aircraft on lease to TWA. In 1997 revenues were also earned from
one aircraft subject to an operating lease (Sun Jet). Sun Jet filed for
bankruptcy in June 1997, and the 22-year old aircraft was sold in September
1997, at a gain of $393,000. As of December 31, 1997, the Partnership no longer
owned interests in any aircraft subject to operating leases. At year-end 1997,
all of the Partnership's lessees were current under their lease agreements and
none was in bankruptcy.

1998 vs. 1997

        In 1998, all revenues were earned from aircraft subject to finance
leases. The revenue reduction in 1998 as compared with 1997 is primarily due to
the scheduled decline in finance lease income as the asset base declined. In
addition in 1997, the Partnership earned revenue from an aircraft on an
operating lease and from a gain on sale of such aircraft. No such revenues were
earned in 1998. At year-end 1998, all the Partnership's lessees were current
under their lease agreements and none was in bankruptcy.

        US Airways, the Partnership's major lessee (72% of total year-end
assets) reported profits of $538 million on revenues of $8.7 billion for 1998,
compared with profits of $1.0 billion on revenues of $8.5 billion for 1997.

        FedEx (13% of total year-end assets) reported profits of $421 million on
revenues of $13.3 billion for 1998 (fiscal year ended May 31, 1998), compared
with profits of $361 million on revenues of $11.5 billion for 1997.

        TWA (15% of total year-end assets), reported a net loss of $120 million
on revenues of $3.3 billion for 1998, compared with a net loss of $127 million
on revenues of $3.3 billion for 1997.

        For information regarding the percentage of total Partnership assets and
revenues represented by aircraft owned and leased by the Partnership, see
BUSINESS -- "Aircraft Portfolio."

        The Partnership believes that its revenues and income have not been
materially affected 



                                       21
<PAGE>   22

by inflation and changing prices because its principal items of revenue (rental
payments) and a majority of its expenses (interest) are at fixed long-term
rates.

        Expenses before taxes in 1998 were $2.8 million or $1.3 million lower
than the 1997 expenses of $4.1 million. In 1997, the Partnership incurred
investor reporting expenses in connection with the solicitation of unitholder
consents and depreciation expense related to the aircraft that was sold in
September 1997. Expenses in 1997 also included a provision for doubtful
accounts. No similar expenses were incurred in 1998. In January 1998 the
Partnership made an election to pay an annual tax at the Partnership level of
4.5% on its gross income beginning in 1998 in order to remain publicly traded.
As such, in 1998 the Partnership recorded a tax provision of $699,000, pursuant
to the newly imposed federal and state gross income tax.

YEAR 2000 ISSUE

        The year 2000 issue results from older computer programs using two,
rather than four digits to define a year, thus the programs do not recognize a
year that begins with "20" rather than the familiar "19." If not corrected, many
computer applications could fail or create erroneous results.

        Since the Partnership's operations consist primarily of collecting
periodic lease payments on a limited number of leases and making periodic debt
payments and distributions to its partners, the General Partner believes that
the Partnership's exposure to the Year 2000 problem is limited to the software
programs and services it obtains from suppliers and vendors. The Partnership's
leases and loans are supported by amortization schedules generated at the
inception of these transactions, generally making the tracking of payments and
recording of income and interest expense a manual process and thus independent
of computer software.

        The Partnership relies on third parties ("external relationships") such
as banks, financial intermediaries, and tax services to facilitate certain
business transactions. The Partnership has reviewed the impact of these external
relationships on its business and concluded that the two most critical service
providers are: the provider of the tax service that generates the K1 tax
statements to be used by our limited partners to complete their tax returns and
the stock transfer agent that facilitates the public trading of the
Partnership's units. In 1998, the Partnership contacted both vendors and has
been advised their systems either are Year 2000 compliant or will be compliant
prior to December 31, 1999.

        The Partnership believes that due to its minimal reliance on computer
software to conduct its internal day to day transactions processing, the Year
2000 projected costs are negligible. However, the Partnership is also dependent
on third parties to fully conduct its business transactions as described above.
If these or other third parties fail to adequately resolve their Year 2000
issues, the Partnership could experience significantly increased administrative
costs or delays in unit transfer or tax preparation functions. The Partnership
anticipates that such costs would be incurred in locating alternative third
party vendors (which the Partnership believes exist) and transferring data to
such alternative vendors. The amount of such costs or potential 



                                       22
<PAGE>   23

delays is difficult to quantify.

        The Partnership will continue to monitor the progress of its third party
vendors, relative to the Year 2000 compliance, to attempt to ensure minimal
disruptions to its operations.

        The year 2000 compliance of each of the Partnership's lessees is
available from reports filed by the lessees with the Securities and Exchange
Commission.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

        The Partnership's assets consist of aircraft subject to leases accounted
for as financing leases, and thus consist of a future stream of fixed rental
payments and a residual interest in the aircraft. See Note 2 to Financial
Statements for information as to finance lease receivables. At December 31,
1998, the Partnership had long-term fixed-rate notes payable of $10,248,000 and
a revolving variable rate loan facility with $4,257,000 outstanding and
approximately $6,500,000 of credit available. See Note 4 to Financial Statements
for information as to minimum future principal payments due and the interest
rates applicable to the notes and revolving credit facility. Since the rental
payments under its leases are fixed, but a portion of its liabilities are based
on a variable interest rate, the assets and liabilities of the Partnership are
not perfectly hedged and the Partnership bears some risk of interest rate
fluctuations. Since a portion of its debt under the revolving credit facility is
for variable working capital needs, the General Partner believes that the risk
of interest fluctuations is appropriate under the circumstances.



                                       23
<PAGE>   24

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

        The financial statements and Notes to Financial Statements described in
Item 14(a) are set forth in Appendix A and are filed as part of this report.

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

        On June 29, 1998, the Partnership engaged Ernst & Young L.L.P. as
independent auditors of the Partnership for the year ending December 31, 1998,
and dismissed Coopers & Lybrand L.L.P. (PriceWaterhouseCoopers L.L.P. after June
30, 1998.) This action was taken on the unanimous approval by the board of
directors of Airlease Management Services, Inc., the General Partner of the
Partnership, which acted on the recommendation of the audit committee of the
board of directors. The change was made primarily to achieve efficiencies in the
audit process and to reduce costs.

                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

GENERAL

        The Partnership has no directors or executive officers. Under the
Limited Partnership Agreement, the General Partner has full power and authority
in the management and control of the business of the Partnership, subject to
certain provisions requiring the consent of the Limited Partners.

DIRECTORS AND EXECUTIVE OFFICERS

        Set forth below is certain information about the directors and executive
officers of the General Partner as of March 11, 1999.


<TABLE>
<CAPTION>
                          POSITION WITH                PRINCIPAL OCCUPATION AND
       NAME              GENERAL PARTNER   AGE        EMPLOYMENT FOR LAST 5 YEARS
       ----              ---------------   ---        ---------------------------
<S>                    <C>                 <C>   <C>
David B. Gebler        Chairman of the     49    Mr. Gebler is Managing Director of Bank
                       Board,                    of America National Trust and Savings  
                       President, Chief          Association ("Bank of America") and a  
                       Executive                 Senior Vice President of BALCAP. He has
                       Officer and a             been with BALCAP since September 1996. 
                       Director                  From 1993 to September 1996 he was     
                                                 Senior Vice President of the           
                                                 Transportation and Industrial Financing
                                                 business unit of USL Capital. Mr.      
                                                 Gebler has been President of the       
                                                 General Partner since 1989 and a       
                                                 Director since 1990. Mr. Gebler holds a
                                                 bachelors degree in mathematics from   
                                                 Clarkson University and graduate       
                                                 degrees in Engineering and Management  
                                                 from the University of Michigan.       
                                                 
Richard V. Harris      Director            50    Mr. Harris is Managing Director of Bank
                                                 of America and Chairman and President
                                                 of BALCAP. He was elected President and
                                                 CEO in 1982, adding the title of
                                                 Chairman in 1988. He has 
</TABLE>


                                           24
<PAGE>   25
<TABLE>
<CAPTION>
                          POSITION WITH                PRINCIPAL OCCUPATION AND
       NAME              GENERAL PARTNER   AGE        EMPLOYMENT FOR LAST 5 YEARS
       ----              ---------------   ---        ---------------------------
<S>                    <C>                 <C>   <C>
                                                 been a Director of the General Partner
                                                 since October 1996. Other assignments
                                                 at Bank of America have included
                                                 responsibilities for Project Finance
                                                 and Asset-Backed Finance along with
                                                 Leasing. Prior to assuming his present
                                                 responsibilities, Mr. Harris held both
                                                 transactional and marketing management
                                                 positions at BankAmerica Leasing. Mr.
                                                 Harris holds a B.S.E.E. degree in
                                                 Electrical Engineering from Brigham
                                                 Young University and a Master of
                                                 Business Administration degree also
                                                 from BYU.

William A. Hasler      Director            57    Mr. Hasler has been the Co-Chief
                                                 Executive Officer of Aphton Corporation
                                                 since July 1998 and a Director of the
                                                 General Partner since 1995. From August
                                                 1991 to June 1998 he was the Dean of
                                                 the Haas School of Business at the
                                                 University of California at Berkeley.
                                                 From 1984 to 1991, he was vice chairman
                                                 and director of KPMG Peat Marwick and
                                                 was responsible for its worldwide
                                                 consulting business. He is a member of
                                                 the board of governors of The Pacific
                                                 Stock Exchange and of the board of
                                                 directors of Selectron Corp., TCSI,
                                                 Tenera, Walker Interactive, and Aphton
                                                 Corporation. He serves on a
                                                 presidential advisory board on critical
                                                 technologies. He is a 1963 graduate of
                                                 Pomona College and earned his MBA from
                                                 Harvard in 1967.

Richard P. Powers      Director            58    Mr. Powers has been Executive Vice
                                                 President of CardioGenesis Corporation,
                                                 a medical device company, since 1996
                                                 and a Director of the General Partner
                                                 since 1996. From 1981 to 1994, he was
                                                 with Syntex Corporation, a
                                                 pharmaceutical company, serving as
                                                 Senior Vice President and Chief
                                                 Financial Officer of that company from
                                                 1986 to 1994. From 1994 to 1996 he
                                                 served as consultant to various
                                                 companies, including advising and
                                                 assisting in the sale of Syntex
                                                 Corporation to Roche Corporation in
                                                 1994. Mr. Powers holds a Bachelor of
                                                 Science degree in Accounting from
                                                 Canisius College and a Masters in
                                                 Business Administration from the
                                                 University of Rochester.

K. Thomas Rose         Director            53    Mr. Rose has been Executive Vice
                                                 President and Chief Operating Officer
                                                 of BALCAP since 1992, responsible for
                                                 all non-marketing areas of BALCAP. He
                                                 also is the chief credit officer for
                                                 the subsidiaries of BankAmerica
                                                 Corporation which comprise the leasing
                                                 group. He has been a Director of the
                                                 General Partner since October 1996.
                                                 Prior to his present responsibilities,
                                                 Mr. Rose was with Security Pacific
                                                 Leasing Corporation as Executive Vice
                                                 President - Lease Services since 1973.
                                                 Mr. Rose holds a B.A. from California
                                                 State University, Fullerton and a Juris
                                                 Doctorate degree from Golden Gate
                                                 University, School of Law.

Richard C. Walter      Chief Financial     53    Mr. Walter has been Senior Vice        
                       Officer and a             President and Controller of BALCAP     
                       Director                  since 1992. He has been a director of
                                                 the General Partner since October 1996.
                                                 Prior to assuming his present
                                                 responsibilities at BALCAP, Mr. Walter
                                                 was with Security Pacific Leasing
                                                 Corporation as Senior Vice President,
                                                 Financial Administration since 1973. He
                                                 holds a Bachelor of Science degree in
                                                 Business Administration and Accounting
                                                 from Montana State University.
</TABLE>



                                           25
<PAGE>   26

ITEM 11. EXECUTIVE COMPENSATION

         The Partnership does not pay or employ directly any directors or
officers. Each of the officers of the General Partner is also an officer or
employee of BALCAP and is not separately compensated by the General Partner or
the Partnership for services on behalf of the Partnership. Thus, there were no
deliberations of the General Partner's Board of Directors with respect to
compensation of any officer or employee.

         The Partnership reimburses the General Partner for fees paid to
Directors of the General Partner who are not otherwise affiliated with the
General Partner or its affiliates. In 1998, such unaffiliated directors were
paid an annual fee of $14,500 plus $500 for each meeting attended.

         The Partnership has not established any plans pursuant to which cash or
non-cash compensation has been paid or distributed during the last fiscal year
or is proposed to be paid or distributed in the future. The Partnership has not
issued or established any options or rights relating to the acquisition of its
securities or any plans therefor.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

UNIT OWNERSHIP BY CERTAIN BENEFICIAL OWNERS

         As of February 28, 1999, the following persons were known to the
Partnership to be beneficial owners of more than five percent of the
Partnership's equity securities:

<TABLE>
<CAPTION>
                          Name and Address           Amount and Nature of
 Title of Class          Of Beneficial Owner         Beneficial Ownership    Percent of Class
 --------------          -------------------         --------------------    ----------------
<S>                  <C>                             <C>                     <C>
Depositary Units       United States Airlease             231,250(1)                5%
                            Holding, Inc.
                        555 California Street
                     San Francisco, CA 94104(2)
Depositary Units               BALCAP                     793,750(3)               17.2%
                        555 California Street
                     San Francisco, CA 94104(2)
</TABLE>

-----------

(1)     United States Airlease Holding, Inc. ("Holding") reported that it had
        sole voting and dispositive power over these Units.

(2)     BALCAP owns all of the outstanding stock of Holding. Therefore, BALCAP
        may be deemed also to be the indirect beneficial owner of the Units
        owned by Holding. In addition, BALCAP owns all the outstanding stock of
        the General Partner. Therefore, BALCAP may be deemed to be the indirect
        beneficial owner of the 



                                       26
<PAGE>   27

        General Partner's 1% General Partner interest. BALCAP is a wholly owned
        indirect subsidiary of BankAmerica Corporation. Therefore, BankAmerica
        Corporation and each BankAmerica Corporation subsidiary which is the
        direct or indirect parent of BALCAP is also indirectly the beneficial
        owner of all Units and of the General Partner's 1% General Partner
        interest owned or deemed owned by BALCAP.

(3)     BALCAP reported that it had sole voting and dispositive power over these
        Units.

UNIT OWNERSHIP BY MANAGEMENT

        Set forth below is information regarding interests in the Partnership
owned by each director of and all directors and executive officers, as a group,
of the General Partner. Unless otherwise noted, each person has sole voting and
investment power over all units owned.

<TABLE>
<CAPTION>
                               Name of               Amount and Nature of
 Title of Class           Beneficial Owner           Beneficial Ownership    Percent of Class
 --------------           ----------------           --------------------    ----------------
<S>                  <C>                             <C>                     <C>
Depositary Units           David B. Gebler                  700(1)                  (2)

Depositary Units          William A Hasler                   3,000                  (2)
                     All directors and executive             3,700                  (2)
                         Officers as a group
</TABLE>

----------

(1)     Includes 200 Units held by Mr. Gebler as custodian for a minor child as
        to which Mr. Gebler has shared voting and dispositive power and as to
        which beneficial ownership is disclaimed.

(2)     Represents less than 1%.


ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

        For a discussion of certain fees, expenses and reimbursements payable
and paid to the General Partner and its affiliates by the Partnership, see Note
7 of Notes to Financial Statements. From time to time, the Partnership has
borrowed funds from BALCAP, including advances for expense payments. All such
borrowings were unsecured and bore interest at a floating rate not exceeding the
prime rate. At December 31, 1998 Airlease owed BALCAP $130,921 for such
borrowings.

        For a discussion of certain terms of the Partnership Agreement regarding
the Partnership's participation in aircraft leasing investments made by USL
Capital and its Related Entities, see "BUSINESS-Acquisition of Additional
Aircraft." For a discussion of aircraft held jointly between the Partnership and
BALCAP or formerly held jointly between the Partnership and USL Capital, see
"BUSINESS-Existing Participants in Leases."



                                       27
<PAGE>   28
                                     PART IV

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

        (a)  1.   The following financial statements of the Partnership are 
                  included in this report as Appendix A:

<TABLE>
<CAPTION>
                                                                                          Page
                                                                                          ----
<S>                                                                                       <C>
               Management's Responsibility for Financial Statements.................       A-1

               Independent Auditors' Report.........................................  A-2, A-3

               Financial Statements:

                      Statements of Income for the Years Ended December 31, 1998,
                      1997 and 1996 ................................................       A-4

                      Balance Sheets, as of December 31, 1998 and 1997..............       A-5

                      Statements of Cash Flows for the Years Ended December 31,
                      1998, 1997 and 1996...........................................       A-6

                      Statements of Changes in Partners' Equity for the Years Ended
                      December 31, 1998, 1997 and 1996..............................       A-7

               Notes to Financial Statements .......................................       A-7
</TABLE>

               Financial statement schedules other than those listed above are
               omitted because the required information is included in the
               financial statements or the notes thereto or because of the
               absence of conditions under which they are required.

        (b)    The Partnership did not file any reports on Form 8-K during the
               last quarter of the fiscal year ended December 31, 1998.



                                       28
<PAGE>   29

        (c)     Exhibits required by Item 601 of Regulation S-K:

<TABLE>
<CAPTION>
     Exhibit No.  Description
<S>               <C>
         3.1(1)   Amended and Restated Agreement of Limited Partnership of
                  Partnership.

         3.2(1)   Form of Certificate for Limited Partnership Units of
                  Partnership.

         3.3(1)   Form of Depositary Agreement among Partnership, Chase-Mellon
                  Shareholder Services (formerly Manufacturers Hanover Trust
                  Company), the General Partner and Limited Partners and
                  Assignees holding Depositary Receipts.

         3.4(1)   Form of Depositary Receipt for Units of Limited Partners'
                  Interest in the Partnership

         3.5(2)   Amendments to Amended and Restated Partnership Agreement.

         4.1(1)   Form of Application for Transfer of Depositary Unit.

         4.2(2)   Loan and Security Agreement dated as of March 20, 1987 between
                  Meridian Trust Company, as Trustee, as Borrower and The World
                  Wing Company Limited, as Lender.

         4.3(2)   8.75% Secured Non-recourse Note of Meridian Trust Company
                  dated March 31, 1987 in favor of The World Wing Company
                  Limited.

         4.4(2)   Instructions and Consent Agreement dated as of March 31, 1987
                  between the Registrant and The World Wing Company Limited.

         10.1(1)  Trust Agreement, together with Trust Agreement Supplement No.
                  1-5, dated as of July 10, 1986, between the Registrant,
                  Meridian Trust Company and the General Partner.

         10.3(1)  Lease Agreement, together with Lease Supplement Nos. 1-5,
                  dated as of July 10, 1986, between Meridian Trust Company, not
                  in its individual capacity but solely as Trustee, and Pacific
                  Southwest Airlines.
</TABLE>


----------

(1)     Incorporated by reference to the Partnership's Registration Statement on
        Form S-1 (File No. 33-7985), as amended.

(2)     Incorporated by reference to the Partnership's Annual Report on Form
        10-K for the year ended December 31, 1995.



                                       29
<PAGE>   30

<TABLE>
<S>      <C>
         10.44(3) Aircraft Lease Agreement dated as of April 15, 1993 between
                  Taurus Trust Company, Inc. (formerly Trust Company for USL,
                  Inc.) as Owner Trustee, Lessor, and Federal Express
                  Corporation, Lessee with respect to one (1) Boeing 727-2D4
                  Aircraft, U.S. Registration No. 362PA (manufacture serial no.
                  21850).

         10.49(4) Assignment and Assumption Agreement dated as of January 31,
                  1997 between USL Capital Corporation and the Registrant.

         10.50(4) Lease, together with Lease Supplement No. 1, dated as of March
                  15, 1984 between DC-9T-III, Inc., as Lessor, and Trans World
                  Airlines, Inc., as Lessee, with respect to one (1) McDonnell
                  Douglas DC-9-82 Aircraft, as amended by Amendment Agreement
                  dated as of December 15, 1986.

         10.51    Loan agreement secured by two aircraft leased to US Airways
                  aircraft dated as of December 22, 1997, amended and restated
                  as of December 15, 1998 between Meridian Trust Company, as
                  Trustee, as Borrower and Credit Lyonnais/PK AIRFINANCE, as
                  Lender.

            27    Financial Data Schedule
</TABLE>

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

(2)     Incorporated by reference to the Partnership's Annual Report on Form
        10-K for the year ended December 31, 1995.

(3)     Incorporated by reference to the Partnership's Annual Report on Form
        10-K for the year ended December 31, 1993.

(4)     Incorporated by reference to the Partnership's Annual Report on Form
        10-K for the year ended December 31, 1996.



                                       30
<PAGE>   31
                                   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 on March 18, 1999.

                                       AIRLEASE LTD., A CALIFORNIA LIMITED
                                       PARTNERSHIP
                                       (Registrant)

                                       By:   Airlease Management Services, Inc.,
                                             General Partner

                                       By:   /s/ David B. Gebler
                                             -----------------------------------
                                             David B. Gebler
                                             Chairman, Chief Executive Officer
                                             and President



                                       31
<PAGE>   32
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant in
the capacities and on the dates indicated.

For Airlease Management
Services, Inc. ("AMSI"), General Partner



 /s/ David B. Gebler                                      March 18, 1999
--------------------------------------------
David B. Gebler
Chairman, Chief Executive Officer, President
and Director of AMSI



 /s/ Richard C. Walter                                    March 18, 1999
--------------------------------------------
Richard C. Walter
Chief Financial Officer and Director of AMSI 
(Principal Financial Officer and Accounting Officer)



 /s/ Richard V. Harris                                    March 18, 1999
---------------------------------------------
Richard V. Harris
Director of AMSI



 /s/ K. Thomas Rose                                       March 18, 1999
---------------------------------------------
K. Thomas Rose
Director of AMSI


The foregoing constitute a majority of the members of the Board of Directors of
Airlease Management Services, Inc. (the General Partner).



                                       32
<PAGE>   33
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS

Airlease Management Services, Inc. ("AMSI"), the General Partner of the
Partnership was a wholly owned subsidiary of USL Capital Corporation until
October 31, 1996, when BA Leasing and Capital Corporation ("BALCAP") purchased
100% of the stock of AMSI, AMSI is responsible for the preparation of the
Partnership's financial statements and the other financial information in this
report. This responsibility includes maintaining the integrity and objectivity
of the financial records and the presentation of the Partnership's financial
statements in accordance with generally accepted accounting principles.

The General Partner maintains an internal control structure designed to provide,
among other things, reasonable assurance that Partnership records include the
transactions of its operations in all material respects and to provide
protection against significant misuse or loss of Partnership assets. The
internal control structure is supported by careful selection and training of
financial management personnel, by written procedures that communicate the
details of the control structure to the Partnership's activities, and by
BALCAP's staff of operating control specialists who conduct reviews of adherence
to the Partnership's procedures and policies.

The Partnership's financial statements have been audited by Ernst & Young
L.L.P., independent auditors for the year ended December 31, 1998, and by
Coopers & Lybrand L.L.P., independent auditors for the years ended December 31,
1997 and 1996. Their audits were conducted in accordance with generally accepted
auditing standards which included consideration of the General Partner's
internal control structure. The Independent Auditor's Report appears on page A2.

The board of directors of the General Partner, acting through its Audit
Committee composed solely of directors who are not employees of the General
Partner, is responsible for overseeing the General Partner's fulfillment of its
responsibilities in the preparation of the Partnership's financial statements
and the financial control of its operations. The independent auditors have full
and free access to the Audit Committee and meet with it to discuss their audit
work, the Partnership's internal controls, and financial reporting matters.


 /s/ David B. Gebler
-----------------------------------------------
David B. Gebler
Chairman, Chief Executive Officer and President
Airlease Management Services, Inc.


 /s/ Richard C. Walter
-----------------------------------------------
Richard C. Walter
Chief Financial Officer
Airlease Management Services, Inc.



                                      A-1
<PAGE>   34
INDEPENDENT AUDITORS' REPORT

To the Partners of Airlease Ltd.,
A California Limited Partnership:

We have audited the accompanying balance sheet of Airlease Ltd. as of December
31, 1998 and the related statements of income, changes in Partners'equity, and
cash flows for the year then ended. These financial statements are the
responsibility of the Partnership's management. Our responsibility is to express
an opinion on these financial statements based on our audit. The financial
statements of Airlease Ltd. for the years ended December 31, 1997 and 1996, were
audited by other auditors whose report dated January 21, 1998, expressed an
unqualified opinion on those statements.

We conducted our audit 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 audit provides a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Airlease Ltd. at December 31,
1998, and the results of its operations and its cash flows for the year then
ended in conformity with generally accepted accounting principles.


/s/ Ernst & Young L.L.P.
----------------------------
Ernst & Young L.L.P.
San Francisco, California
January 29, 1999



                                      A-2
<PAGE>   35


INDEPENDENT AUDITORS' REPORT

To the Partners of Airlease Ltd.,
A California Limited Partnership:

We have audited the financial statements of Airlease Ltd., a California Limited
Partnership listed in Part IV 14(A) of this form 10-K for the year ended
December 31, 1997 and for each of the two years in the period ended December 31,
1997. These financial statements are the responsibility of the Partnership's
management. Our responsibility is to express an opinion on these financial
statements based on our audit.

We conducted our audit 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 audit provides a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of the Partnership at December 31,
1997, and the results of its operations and its cash flows for each of the two
years in the period ended December 31, 1997, in conformity with generally
accepted accounting principles.


/s/ Coopers and Lybrand L.L.P.
----------------------------------
Coopers & Lybrand L.L.P.
San Francisco, California
January 21, 1998



                                      A-3
<PAGE>   36
                 AIRLEASE LTD., A CALIFORNIA LIMITED PARTNERSHIP

                              STATEMENTS OF INCOME


<TABLE>
<CAPTION>
                                                      For the years ended
                                                         December 31,
(In thousands except per-unit amounts)         1998         1997         1996
------------------------------------------------------------------------------
<S>                                          <C>          <C>          <C>
REVENUES

Finance lease income                         $ 8,400      $ 9,028      $ 8,800
Operating lease rentals                            0          170        1,798
Gain on sale of equipment                          0          393        2,501
Other income                                       0           12          149

                                             ---------------------------------
Total revenues                                 8,400        9,603       13,248
                                             ---------------------------------


EXPENSES

Interest                                       1,704        2,028        1,830
Depreciation - operating leases                    0          273        1,500
Bad debt expense                                   0          228            0
Management fee - General Partner                 651          679          740
Investor reporting                               298          771          254
General and administrative                       174          142          271
Tax on gross income                              699            0            0

                                             ---------------------------------
Total expenses                                 3,526        4,121        4,596
                                             ---------------------------------
NET INCOME                                   $ 4,874      $ 5,482      $ 8,652
                                             ---------------------------------

NET INCOME ALLOCATED TO:

GENERAL PARTNER                              $    49      $    55      $    87
                                             ---------------------------------
Limited partners                               4,825        5,427        8,565
                                             ---------------------------------
NET INCOME PER LIMITED PARTNERSHIP UNIT      $  1.04      $  1.17      $  1.85
                                             ---------------------------------
</TABLE>


See notes to financial statements




                                      A-4
<PAGE>   37
                 AIRLEASE LTD., A CALIFORNIA LIMITED PARTNERSHIP

                                 BALANCE SHEETS


<TABLE>
<CAPTION>
                                                      As of December 31,
(IN THOUSANDS EXCEPT UNIT DATA)                       1998         1997
------------------------------------------------------------------------
<S>                                                 <C>          <C>
ASSETS

Cash                                                $     9      $     1
Finance leases - net                                 75,443       82,590
Prepaid expenses and other assets                       361          268
                                                    --------------------

Total Assets                                        $75,813      $82,859
                                                    --------------------

LIABILITIES AND PARTNERS' EQUITY

LIABILITIES:

Distribution payable to partners                    $ 1,915      $ 2,102
Accounts payable and accrued liabilities                393          553
Taxes Payable                                           699            0
Long-term notes payable                              14,505       19,115
                                                    --------------------

Total liabilities                                    17,512       21,770
                                                    --------------------

COMMITMENTS AND CONTINGENCIES

PARTNERS' EQUITY:

Limited partners (4,625,000 units outstanding)       57,718       60,478
General Partner                                         583          611
                                                    --------------------

Total partners' equity                               58,301       61,089
                                                    --------------------

TOTAL LIABILITIES AND PARTNERS' EQUITY              $75,813      $82,859
                                                    --------------------
</TABLE>



See notes to financial statements



                                      A-5
<PAGE>   38
                 AIRLEASE LTD., A CALIFORNIA LIMITED PARTNERSHIP

                            STATEMENTS OF CASH FLOWS


<TABLE>
<CAPTION>
                                                                     For the years ended December 31,
(In thousands)                                                     1998            1997             1996
----------------------------------------------------------------------------------------------------------
<S>                                                             <C>              <C>              <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income                                                      $  4,874         $  5,482         $  8,652
Adjustments to reconcile net income to net cash
     provided by operating activities:
   Depreciation                                                        0              273            1,500
   Increase (decrease) in accounts payable and accrued
     Liabilities                                                    (160)            (390)            (518)
   Decrease (increase) in prepaid expenses and other                 (93)             (99)              97
     assets
   Decrease (increase) in accounts                                     0                0              111
   receivable
   Increase (Decrease) in taxes Payable                              699                0                0
   Provision for doubtful account                                      0              228                0
   Gain on disposition of equipment                                    0             (393)          (2,501)
                                                                ------------------------------------------

Net cash provided by operating activities                          5,320            5,101            7,341
                                                                ------------------------------------------

CASH FLOWS FROM INVESTING ACTIVITIES
Aircraft equipment purchase                                            0           (5,753)               0
Proceeds from sale of equipment                                        0            1,182           10,060
Increase (decrease) in notes receivable                                0                8              697
Rental receipts in excess of earned finance lease income           7,147            6,219            8,508
                                                                ------------------------------------------

Net cash provided by investing activities                          7,147            1,656           19,265
                                                                ------------------------------------------

CASH FLOWS FROM FINANCING ACTIVITIES
Revolving credit borrowing (repayment) - net                       2,509            1,748           (7,381)
Proceeds from issuance of long-term debt                               0            9,000                0
Repayment of long-term debt                                       (7,119)          (5,704)          (6,031)
Distributions paid to partners                                    (7,849)         (12,379)         (12,614)
                                                                ------------------------------------------

Net cash used by financing activities                            (12,459)          (7,335)         (26,026)
                                                                ------------------------------------------

Increase (decrease) in cash                                            8             (579)             580
Cash at beginning of year                                              1              580                0
                                                                ------------------------------------------

Cash at end of year                                             $      9         $      1         $    580
                                                                ------------------------------------------

Additional information:
    Cash paid for interest                                      $  1,775         $  1,861         $  2,097
                                                                ------------------------------------------
</TABLE>

NON - CASH INVESTING ACTIVITY

During 1997, unpaid accrued costs were reduced by $28,000 and included in the
gain on sale of aircraft.


See notes to financial statements


                                      A-6
<PAGE>   39

                 AIRLEASE LTD., A CALIFORNIA LIMITED PARTNERSHIP

                    STATEMENTS OF CHANGES IN PARTNERS' EQUITY

<TABLE>
<CAPTION>
                                     For the years ended December 31, 1998, 1997, and 1996
                                                 General         Limited
(In thousands except per-unit amounts)           Partner         Partners          Total
------------------------------------------------------------------------------------------
<S>                                              <C>             <C>               <C>
Balance, December 31, 1995                           717           70,995           71,712
Net Income - 1996                                     87            8,565            8,652
Distributions to partners declared
    ($3.28 per limited Partnership unit)            (153)         (15,169)         (15,322)
------------------------------------------------------------------------------------------

Balance, December 31, 1996                           651           64,391           65,042
Net Income - 1997                                     55            5,427            5,482
Distributions to partners declared
    ($2.02 per limited Partnership unit)             (95)          (9,340)          (9,435)
------------------------------------------------------------------------------------------

Balance, December 31, 1997                           611           60,478           61,089
Net Income - 1998                                     49            4,825            4,874
Distributions to partners declared
    ($1.64 per limited Partnership unit)             (77)          (7,585)          (7,662)
------------------------------------------------------------------------------------------

BALANCE, DECEMBER 31, 1998                      $    583         $ 57,718         $ 58,301
==========================================================================================
</TABLE>



See notes to financial statements


                          NOTES TO FINANCIAL STATEMENTS

1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES

ORGANIZATION - Airlease Ltd., A California Limited Partnership (the
"Partnership") engages in the business of acquiring, either directly or through
joint ventures, commercial jet aircraft, spare or separate engines and related
rotable parts ("aircraft") and leasing such aircraft to domestic and foreign
airlines and freight carriers. The General Partner is Airlease Management
Services, Inc., a wholly owned subsidiary of BA Leasing and Capital Corporation
("BALCAP"). BALCAP also holds 793,750 limited Partnership units and United
States Airlease Holding, Inc. ("Holding"), a wholly owned subsidiary of BALCAP,
holds 231,250 limited Partnership units. An additional 3,600,000 units are
publicly held.

BASIS OF PRESENTATION - The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.



                                      A-7

<PAGE>   40

FINANCE LEASES - Lease agreements, under which the Partnership recovers
substantially all its investment from the minimum lease payments are accounted
for as finance leases. At lease commencement, the Partnership records the lease
receivable, estimated residual value of the leased aircraft, and unearned lease
income. The original unearned income is equal to the receivable plus the
residual value less the cost of the aircraft (including the acquisition fee paid
to an affiliate of the General Partner). The remaining unearned income is
recognized as revenue over the lease term so as to approximate a level rate of
return on the investment.

OPERATING LEASES - Leases that do not meet the criteria for finance leases are
accounted for as operating leases. The Partnership's undivided interests in
aircraft subject to operating leases are recorded at cost which includes
acquisition fees paid to an affiliate of the General Partner. Aircraft are
depreciated over the related lease terms, generally five to nine years on a
straight-line basis to an estimated residual value, or over their useful lives
for aircraft held for lease or sale, on a straight-line basis to an estimated
salvage value.

DERIVATIVES - The Partnership accounts for derivative financial instruments on
an accrual basis when the cash flows generated from the hedging instruments
fulfill the objectives of the hedge strategy and when there is a high
correlation between the derivative and the hedged asset or liability. Under
accrual accounting interest differentials paid or received under interest rate
swap agreements are recognized as an adjustment to interest expense over the
life of the agreements. Termination gains or losses of such derivatives are
amortized to interest expense over the remaining life of the hedged transaction.

       When a derivative no longer fulfills the high correlation objective, it
is accounted for on a mark-to-market basis and termination of such derivatives
is recognized immediately in the Statement of Income as a component of interest
expense.

NET INCOME PER LIMITED PARTNERSHIP UNIT is computed by dividing the net income
allocated to the Limited Partners by the weighted average units outstanding
(4,625,000).

2. FINANCE LEASES

As of December 31, 1998, the Partnership owns seven aircraft which are all
leased under finance leases. Five of the aircraft are leased to US Airways, Inc.
In 1998, at the end of the initial 12-year term, US Airways, Inc. exercised its
option to renew the lease for an additional three years, which renewal period
was included in the original lease term for accounting under the generally
accepted accounting principals. In 1998, 1997, and 1996, leases with US Airways,
Inc. resulted in finance lease revenues of $6,498,000, $7,058,000, and
$7,559,000, respectively.

The sixth aircraft, wholly owned by the Partnership since January 31, 1997 when
it purchased USL Capital's 50% interest in this aircraft for $5.7 million, is
leased to Trans World Airlines (TWA) under a finance lease expiring in 2002. In
1998, 1997, and 1996 this lease with TWA, resulted in finance lease income of
$1,432,000, $1,463,000, and $697,000, respectively.

The seventh aircraft is leased to Federal Express Corporation (FedEx) under a
13-year finance lease which expires in 2006. In 1998, 1997, and 1996 this lease
with FedEx resulted in finance lease income of $470,000, $507,000, and $544,000,
respectively.

The finance leases at December 31, 1998 and 1997, are summarized as follows (in
thousands):



                                      A-8
<PAGE>   41

<TABLE>
<CAPTION>
                                    1998             1997
                                  --------         --------
<S>                               <C>              <C>     
Receivable in installments        $ 50,180         $ 65,727
Residual valuation                  45,500           45,500
Unearned lease income              (20,237)         (28,638)
                                  --------         --------
NET INVESTMENT                    $ 75,443         $ 82,590
                                  ========         ========
</TABLE>

Residual valuation, which is reviewed annually, represents the estimated amount
to be received from the disposition of aircraft after lease termination. If
necessary, residual adjustments are made which result in an immediate charge to
earnings and/or a reduction in earnings over the remaining term of the lease.

Finance lease receivables at December 31, 1998 are due in installments of
$15,548,000 annually through 2000, $12,589,000 in 2001, $1,710,000 in 2002,
$1,310,000 in 2003, and $3,274,000 thereafter.

3. OPERATING LEASES

At December 31, 1998, the Partnership did not own any aircraft subject to an
operating lease. The last aircraft that was subject to an operating lease was
sold in September 1997.

4. LONG-TERM NOTES PAYABLE

As of December 31, 1998 and 1997 long-term notes payable included the following:

            An 8.75% non-recourse note payable to a bank collateralized by three
            aircraft leased to US Airways, Inc. This note was paid in full in
            1998. At December 31, 1997 the note's outstanding balance was
            $3,589,000.

            A 7.4% non-recourse loan facility collateralized by the aircraft
            leased to FedEx, due in semi-annual installments of $451,000 through
            April 2006. At December 31, 1998 and 1997, $5,098,000 and
            $5,589,000, were outstanding, respectively.

            A 9.35% non-recourse loan facility collateralized by the aircraft
            leased to TWA, due in monthly installments of $150,000 through March
            2002. At December 31, 1998 and 1997, $5,150,000 and $8,189,000, were
            outstanding, respectively. During 1998, the Partnership renegotiated
            the terms of the 9.35% loan facility. As part of the re-negotiation,
            the Partnership was able to prepay $2.0 million in principal and
            reduce the interest rate 50 basis points from 9.85% to 9.35%.

            A non-recourse revolving variable rate loan facility, which was
            collateralized by one of the aircraft leased to US Airways, Inc. At
            December 31, 1998 no balance was outstanding as the loan facility
            expired earlier in the year. At December 31, 1997, $1,748,000 was
            outstanding. The Partnership held an interest rate swap agreement,
            which effectively fixed the interest rate on this non-recourse
            facility at 7.36% through the date the debt expired.



                                      A-9
<PAGE>   42



            A $7.5 million three-year revolving loan facility obtained in
            February 1998. The facility was initially collateralized by one
            aircraft on lease to US Airways, Inc., was guaranteed by the
            Partnership, and bore an interest rate of three-month Libor plus 225
            basis points. In December 1998, this loan facility was expanded by
            $5.0 million and the variable interest rate was lowered to 212.50
            basis points over the three-month Libor when another plane leased to
            US Airways was added as additional collateral. At December 31, 1998,
            $4,257,000 was outstanding and approximately $6,500,000 was
            available under this facility.

Based upon amounts outstanding at December 31, 1998, the minimum future
principal payments on all outstanding fixed-rate long-term notes payable are due
as follows (in thousands):

<TABLE>
<S>                                        <C>   
           1999                            $2,060
           2000                             2,093
           2001                             2,287
           2002                             1,078
           2003                               710
           Thereafter                       2,020
                                          -------
           Total Fixed Term Debt           10,248

           Revolving Line of Credit
             Outstanding at 12/31/98        4,257
                                          -------
           TOTAL LONG TERM DEBT           $14,505
                                          =======
</TABLE>

5. DERIVATIVE FINANCIAL INSTRUMENTS

Other than the interest rate swap agreement described in note 4, no other
derivative financial instruments were owned in 1998 and 1997.

6. FAIR VALUE OF FINANCIAL INSTRUMENTS

The following table presents carrying amounts and fair values of the
Partnership's financial instruments at December 31, 1998 and 1997. The fair
value of a financial instrument is defined as the amount at which the instrument
could be exchanged in a current transaction between willing parties, other than
in a forced or liquidation sale.

<TABLE>
<CAPTION>
                                                 1998                   1998
(In thousands)                             Carrying Amount           Fair Value
                                           ---------------           ----------
<S>                                        <C>                       <C>
Long-term notes payable (Note 4)               $14,505                $14,523
</TABLE>



                                      A-10
<PAGE>   43


<TABLE>
<CAPTION>
                                                 1997                   1997
(In thousands)                             Carrying Amount           Fair Value
                                           ---------------           ----------
<S>                                        <C>                       <C>
Long-term notes payable (Note 4)               $19,115                $19,026

Long-term debt (Note 5) 
  Derivatives relating to debt (Note 5)
  Interest rate swaps-net pay position           $(48)                   $(48)
</TABLE>

The carrying amounts presented in the table are included in the balance sheet
under the indicated captions.

The following notes summarize the major methods and assumptions used in
estimating the fair values of financial instruments:


     LONG-TERM DEBT is estimated by discounting the future cash flows using
     rates that are assumed would be charged to the Partnership for debt with
     similar terms and remaining maturities.

     DERIVATIVES are estimated as the amount that the Partnership would receive
     or pay to terminate the agreements at the reporting date, taking into
     account current market interest rates and corresponding borrowing spreads.

7. TRANSACTIONS WITH THE GENERAL PARTNER AND AFFILIATES

In accordance with the Agreement of Limited Partnership, the General Partner and
its affiliates receive expense reimbursement, fees and other compensation for
services provided to the Partnership.

Amounts earned by the General Partner and affiliates for the years ended
December 31, 1998, 1997, and 1996, were as follows (in thousands):

<TABLE>
<CAPTION>
                                               1998            1997          1996
                                               ----            ----        ------
<S>                                            <C>             <C>           <C> 
Management fees                                $599            $620          $673
Disposition and remarketing fees                 52             123           568
Acquisition fees                                  0              85             0
Reimbursement of other costs                     79              79            79
Reimbursement of interest costs                   7               5             6
                                               ----            ----        ------
TOTAL                                          $737            $912        $1,326
                                               ====            ====        ======
</TABLE>

The General Partner was allocated its 1% share of the Partnership net income and
cash distributions. Holding and BALCAP, each a limited partner and an affiliate
of the General Partner, were also allocated their share of income and cash
distributions.

8. FEDERAL INCOME TAX STATUS

The Partnership is considered a publicly traded Partnership ("PTP") under the
Revenue Act of 1987. Under that Act, the Partnership was not subject to federal
income tax as a Partnership until 1998. Effective January 1, 1998, PTP's were
required to choose to retain PTP status and be 



                                      A-11
<PAGE>   44

subjected to federal income tax as a corporation or to delist their units
thereby removing themselves from the scope of the PTP rules. Faced with these
alternatives, the Partnership initially recommended that its units be delisted.

In August and October 1997, respectively, federal and California tax laws were
amended to provide PTP's a third alternative. Under these amended laws, PTP's
are allowed to continue to be publicly traded during 1998 and subsequent years
without becoming subject to corporate income tax if they elect to pay a 3.5%
federal tax and a 1% California tax on gross income.

The board of directors of the General Partner unanimously concluded, after
authorization from the unitholders and consideration of a number of factors,
including the 1997 tax law changes and the benefits of liquidity, that is was in
the best interests of the unitholders for the Partnership to remain publicly
traded at that time. Accordingly, in January 1998 the Partnership made an
election to pay the annual 4.5% gross income tax at the Partnership level. Gross
income includes both earned lease finance income ($8,400,000 in 1998) and
receipts in excess of earned finance income ($7,147,000 in 1998) as well as
dispositions from the sale of property.

9. RECONCILIATION TO INCOME TAX METHOD OF ACCOUNTING

The aircraft on lease to US Airways, Inc. were purchased subject to a tax
benefit transfer lease ("TBT") which provided for the transfer of Federal income
tax ownership of these aircraft to a tax lessor until 1991. The transfer was
accomplished by the sale, for tax purposes only, of the aircraft to the tax
lessor for cash and a note and a leaseback of the aircraft for rental payments
which equalled the payments on the note. The rental payments resulted in tax
deductions and the interest was included in taxable income. In 1991, the TBT
lease agreement terminated and the tax attributes transferred under the TBT
lease reverted to the Partnership.

The difference between the method of accounting for income tax reporting and the
method of accounting used in the accompanying financial statements are as
follows (in thousands except per unit amounts):

<TABLE>
<CAPTION>
                                                               1998             1997             1996
                                                             --------         --------         --------
<S>                                                          <C>              <C>              <C>     
Net income per financial statements:                         $  4,874         $  5,482         $  8,652
Increases (decreases) resulting from:

     3.5% Gross Income Tax - non deductible                       544                0                0
     Gain on sale of equipment                                      0              482              777
     Lease rents earned less finance lease income               7,147            6,520            5,627
Depreciation and amortization                                  (6,071)          (5,557)          (6,242)
                                                             ------------------------------------------
Income per income tax method                                    6,494            6,927            8,814
Allocable to General Partner                                      (65)             (69)             (88)
                                                             ------------------------------------------

TAXABLE INCOME ALLOCABLE TO LIMITED PARTNERS                 $  6,429         $  6,858         $  8,726
Taxable income (loss) per limited Partnership unit
after giving effect to taxable income allocable
to General Partner (amount based on a unit owned from
October 10, 1986)                                            $   1.39         $   1.48         $   1.89
</TABLE>



                                      A-12
<PAGE>   45
<TABLE>
<S>                                                          <C>              <C>              <C>
Partner's equity per financial statements                    $ 58,301         $ 61,089         $ 65,042
Cumulative increases (decreases) resulting from:

       Gain on sale of equipment                                    0              482              777
     Lease rents less earned finance lease income              47,467           40,420           33,900
     Deferred underwriting discounts and commissions
     and organization costs                                     5,361            5,351            5,351

Accumulated depreciation and amortization                     (61,681)         (56,779)         (51,222)
TBT interest income less TBT rental expense                   (54,030)         (54,030)         (54,030)
                                                             ------------------------------------------

PARTNERS' EQUITY PER INCOME TAX METHOD                       $ (4,580)        $ (3,467)        $   (182)
</TABLE>



10. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)

The following is a summary of the quarterly results of operations for the years
ended December 31, 1998 and 1997 (in thousands, except per unit amounts):


<TABLE>
<CAPTION>
1998                                              MARCH 31              JUNE 30          SEPT. 30              DEC. 31
----                                              --------              -------          --------              -------
<S>                                         <C>                  <C>                 <C>                   <C>
Total Revenues                                       $2,170               $2,122              $2,079                $2,029
Net Income                                           $1,296               $1,190              $1,205                $1,183
Net Income Per Limited Partnership Unit               $0.28                $0.25               $0.26                 $0.25
Unit Trading Data:
Unit Prices (high-low) on NYSE              $14 1/2-$12 5/8          $14-$12 1/2     13 7/16-$12 1/2       $13 3/8-$12 3/8
Unit Trading Volumes on NYSE                            343                  303                 302                   281
</TABLE>


<TABLE>
<CAPTION>
1997                                               MARCH 31           JUNE 30           SEPT. 30              DEC. 31
----                                               --------           -------           --------              -------
<S>                                         <C>                  <C>                 <C>                   <C>
Total Revenues                                       $2,358               $2,354              $2,679                $2,212
Net Income                                           $1,167               $1,341              $1,630                $1,344
Net Income Per Limited Partnership Unit               $0.25                $0.28               $0.35                 $0.29
Unit Trading Data:
Unit Prices (high-low) on NYSE                  $17 5/8-$10      $12 1/2-$10 1/4    12 1/16-$9 15/16     $13 11/16-$11 1/4
Unit Trading Volumes on NYSE                          1,104                  757                 993                   855
</TABLE>



                                      A-13
<PAGE>   46
                                INDEX TO EXHIBITS

<TABLE>
<CAPTION>
  Exhibit No.     Description
  -----------     -----------
<S>               <C>
      10.51       Loan agreement secured by two aircraft leased to US Airways
                  aircraft dated as of December 22, 1997, amended and restated
                  as of December 15, 1998 between Meridian Trust Company, as
                  Trustee, as Borrower and Credit Lyonnais/PK AIRFINANCE, as
                  Lender.

        27.       Financial Data Schedule.

</TABLE>




                                      A-14