Table of Contents

|                                  
|----------------------------------
|UNITED STATES                     
|SECURITIES AND EXCHANGE COMMISSION
|WASHINGTON, D.C. 20549            
|                                  
|(MARK ONE)                        
|                                  
|FORM 10-K                         

| |                                                                                 |                                                                                      
| | ------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------
| | þ                                                                               | ANNUAL REPORT PURSUANT TO SECTION 13 OR
 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
| |                                                                                 |                                                                                      
| | FOR THE
 FISCAL YEAR ENDED DECEMBER 31, 2010                                   
| |                                                                                 |                                                                                      
| |                                                                                 | OR                                                                                   
| |                                                                                 |                                                                                      
| | o                                                                               | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
 EXCHANGE ACT OF 1934  
| |                                                                                 |                                                                                      
| | FOR THE TRANSITION PERIOD FROM __________________ TO __________________________
| | COMMISSION
 FILE NUMBER: 0-29192                                               
| |                                                                                 |                                                                                      
| | PURADYN FILTER TECHNOLOGIES INCORPORATED                                       
| |                                                                                 | (Name of registrant as specified in its charter)                                     

|                                                               |                                     
|-------------------------------------------------------------- | ------------------------------------
|DELAWARE                                                       | 14-1708544                          
|(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.)

|                                                     |             
|---------------------------------------------------- | ------------
|2017 HIGH
 RIDGE ROAD, BOYNTON BEACH, FLORIDA        | 33426       
|(Address of principal executive offices)             | (Zip Code)  
|                                                     |             
|REGISTRANTS TELEPHONE NUMBER, INCLUDING
 AREA CODE: | 561 547 9499

SECURITIES
REGISTERED UNDER SECTION 12(b) OF THE ACT:

|                    |                                          
|------------------- | -----------------------------------------
|TITLE OF EACH CLASS | NAME OF EACH EXCHANGE ON WHICH REGISTERED
|NONE                | NONE                                     

SECURITIES REGISTERED UNDER SECTION 12(g) OF THE ACT:

|                                       
|---------------------------------------
|COMMON STOCK, PAR VALUE $.001 PER SHARE
|(Title of class)                       

|                                                                                                                                                                                                                                                                                                                                                                         
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Indicate by
 check mark if the registrant is a well-known seasoned issuer, as defined in
 Rule 405 of the Securities Act.                                                                                                                                                                                                                                                
|þ Yes o No                                                                                                                                                                                                                                                                                                                                                               
|                                                                                                                                                                                                                                                                                                                                                                         
|Indicate by
 check mark if the registrant is not required to file reports pursuant to
 Section 13 or Section 15(d) of the Act.                                                                                                                                                                                                                                           
|o Yes þ No                                                                                                                                                                                                                                                                                                                                                               
|                                                                                                                                                                                                                                                                                                                                                                         
|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 þ  No o

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|                                                                                                                                                                                                                                                                                                                                                                                                       
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Indicate by
 check mark whether the registrant has submitted electronically and posted on
 its Corporate Website, if any, every Interactive Data File required to be
 submitted and posted pursuant to Rule 405 of Regulation S-T (§229.405 of this
 chapter) during the preceding 12 months (or for such shorter period that the
 registrant was required to submit and post such files). o Yes
  o 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 the registrants knowledge, in definitive proxy or
 information statements incorporated by reference in Part III of this Form
 10-K or any amendment to this Form 10-K.                                                          
|o                                                                                                                                                                                                                                                                                                                                                                                                      
|                                                                                                                                                                                                                                                                                                                                                                                                       
|Indicate by
 check mark whether the registrant is a large accelerated filer, an
 accelerated filer, a non-accelerated filer, or a smaller reporting company:                                                                                                                                                                                                                                           

|                                                                    |   |                            |   | 
|------------------------------------------------------------------- | - | -------------------------- | - | 
|Large
 accelerated filer                                            | o | Accelerated
 filer         | o | 
|Non-accelerated
 filer (Do not check if
 smaller reporting company) | o | Smaller
 reporting company | þ | 

|                                                                                                                 
|-----------------------------------------------------------------------------------------------------------------
|Indicate by
 check mark whether the registrant is a shell company (as defined in Rule
 12b-2 of the Exchange Act)
|Yes o  No þ                                                                                                      

The aggregate market value of the voting and non-voting common equity
held by non-affiliates computed by reference to the price at which the common
equity was sold, or the average bid and asked prices of such common equity, as
of the last business day of the registrants most recently completed second
fiscal quarter. $5,342,391 on June 30, 2010.

Indicate the number of shares outstanding of each of the registrants
classes of common stock, as of the latest practicable date. 46,482,621 shares
of common stock are issued and outstanding as of April 5, 2011.

DOCUMENTS INCORPORATED BY REFERENCE

List hereunder the following documents if incorporated by reference and
the Part of the Form 10-K (e.g., Part I, Part II, etc.) into which the document
is incorporated: (1) Any annual report to security holders; (2) Any proxy or
information statement; and (3) Any prospectus filed pursuant to Rule 424(b) or
(c) under the Securities Act of 1933. The listed documents should be clearly
described for identification purposes (e.g., annual report to security holders
for fiscal year ended December 24, 1980). None.

2

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TABLE OF CONTENTS

|         |                                                                                                                 |          | 
|-------- | --------------------------------------------------------------------------------------------------------------- | -------- | 
|         |                                                                                                                 | Page No. | 
|Part I  
|Item 1.  | Business.                                                                                                       | 4        | 
|Item 1A. | Risk Factors                                                                                                    | 11       | 
|Item 1B. | Unresolved
 Staff Comments.                                                                                     | 14       | 
|Item 2.  | Properties.                                                                                                     | 14       | 
|Item 3.  | Legal
 Proceedings.                                                                                             | 14       | 
|Item 4.  | (Removed and
 Reserved).                                                                                        | 14       | 
|Part II 
|Item 5.  | Market for
 Registrants Common Equity, Related Stockholder Matters and Issuer Purchases
 of Equity Securities. | 14       | 
|Item 6.  | Selected
 Financial Data                                                                                        | 15       | 
|Item 7.  | Managements
 Discussion and Analysis of Financial Condition and Results of Operation.                          | 15       | 
|Item 7A. | Quantitative
 and Qualitative Disclosures About Market Risk.                                                    | 23       | 
|Item 8.  | Financial
 Statements and Supplementary Data.                                                                   | 23       | 
|Item 9.  | Changes In and
 Disagreements With Accountants on Accounting and Financial Disclosure.                          | 23       | 
|Item 9A. | Controls and
 Procedures.                                                                                       | 23       | 
|Item 9B. | Other
 Information.                                                                                             | 25       | 
|Part III
|Item 10. | Directors,
 Executive Officers and Corporate Governance.                                                        | 25       | 
|Item 11. | Executive
 Compensation.                                                                                        | 28       | 
|Item 12. | Security
 Ownership of Certain Beneficial Owners and Management and Related Stockholder
 Matters.               | 33       | 
|Item 13. | Certain
 Relationships and Related Transactions, and Director Independence.                                     | 36       | 
|Item 14. | Principal
 Accountant Fees and Services.                                                                        | 36       | 
|Part IV  |                                                                                                                
|Item 15. | Exhibits,
 Financial Statement Schedules.                                                                       | 37       | 

3

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Table of Contents

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING
INFORMATION

Certain
statements in this annual report contain or may contain forward-looking
statements that are subject to known and unknown risks, uncertainties and other
factors which may cause actual results, performance or achievements to be
materially different from any future results, performance or achievements
expressed or implied by such forward-looking statements. These forward-looking
statements were based on various factors and were derived utilizing numerous
assumptions and other factors that could cause our actual results to differ
materially from those in the forward-looking statements. These factors include,
but are not limited to

| |   |                                                                                                    
| | - | ---------------------------------------------------------------------------------------------------
| |  | our
 history of losses and uncertainty that we will be able to continue as a going
 concern,       
| |  | our
 ability to generate net sales in an amount to pay our operating expenses,                     
| |  | our
 need for additional financing and uncertainties related to our ability to
 obtain these funds,
| |  | our
 ability to repay the outstanding debt of approximately $6.4 million to one of
 our Directors, 
| |  | our
 reliance on sales to a limited number of customers,                                           
| |  | our
 dependence on a limited number of distributors,                                               
| |  | our
 ability to compete,                                                                           
| |  | our
 ability to protect our intellectual property,                                                 
| |  | market
 overhang issues, and                                                                       
| |  | the
 application of Penny Stock Rules to the trading in our stock.                                 

Most
of these factors are difficult to predict accurately and are generally beyond
our control. You should consider
the areas of risk described in connection with any forward-looking statements
that may be made herein. Readers are cautioned not to place undue reliance on
these forward-looking statements and readers should carefully review this
annual report in its entirety, including the risks described in Part I. Item
1A. Risk Factors. Except for our ongoing obligations to disclose
material information under the Federal securities laws, we undertake no
obligation to release publicly any revisions to any forward-looking statements,
to report events or to report the occurrence of unanticipated events. These
forward-looking statements speak only as of the date of this annual report, and
you should not rely on these statements without also considering the risks and
uncertainties associated with these statements and our business.

OTHER PERTINENT INFORMATION

Our
website is www.puradyn.com. The information which appears on our website
is not part of this report.

When
used in this annual report, the terms Puradyn, the Company, we, our,
and us refers to Puradyn Filter Technologies Incorporated, a Delaware
corporation, and our subsidiary.

PART I

|        |          
|------- | ---------
|ITEM 1. | BUSINESS.

The Company

Puradyn Filter Technologies Incorporated designs, manufactures, markets and distributes
worldwide the puraDYN® bypass oil filtration
system (the Puradyn) for use
with substantially all internal combustion engines and hydraulic equipment that
use lubricating oil. Working in conjunction with the equipments full-flow oil
filter, the Puradynsystem cleans
oil by continually removing solid, liquid and gaseous contaminants from the oil
through a sophisticated and unique filtration and evaporation process. For
engine lubricating oil, our filters are unique in that it incorporates an
additive package. Because Puradyn
filtered lubricating oil is kept in a continually clean state, our system has been used effectively to safely
extend oil-drain intervals and to extend the time between engine overhauls. We
are the exclusive manufacturer of the disposable replacement filter elements
(Element) for the Puradyn.

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Products

The core
product, the patented Puradynbypass
oil filtration system, is offered in two families of models, TF and PFT, and
can be attached to almost any engine and hydraulic system. The concept of the
Puradyn bypass filtration system is similar to a kidney dialysis machine that
filters blood to rid it of impurities, keeping the oil continually clean.
Whenever the engine or machinery is operating, the Puradynis extracting from the oil solid particles down to
less than one micron (1/39 millionth of an inch), as well as gaseous and liquid
contaminants, protecting the engine or hydraulic equipment from harmful wear
caused by these contaminants. Replacement elements used for filtration of
engine oil contain an additive package in which base additives are replenished
in the oil, helping to maintain the oils proper chemical balance and
viscosity.

The
condition of the oil is monitored through use of a simple oil analysis sample
taken at the time the Element is changed in lieu of performing a regularly
scheduled oil change. If the sample results, typically received in five to
seven days, show that the condition of the oil is considered good for continued
use, there is no need to change the oil.

Consequently,
the Puradynsignificantly reduces
maintenance costs by decreasing oil consumption, engine wear and certain other
types of general maintenance as well as reducing environmental concerns and
costs associated with the storage and disposal of waste oil. These potential
savings are achieved from utilizing the Puradyn,
which generally has a relatively short payback period of, on average, six to 14
months, depending upon the application.

The Puradynsystem is currently manufactured
in six different sizes suitable for placement on engines or equipment with oil
sump capacities ranging from a minimum of eight to a maximum of 300 quarts. The
later generation PFT model uses the same filter and offers the same benefits
and features of the original TF model, with the added enhancements of easier
serviceability and the main component of the system being more
corrosion-resistant.

All Puradynsystems are compatible with
virtually all standard and synthetic oils on the market and they work with
engines using gasoline, diesel, propane or natural gas. The Puradynsystem, ordinarily, cannot be used
on engines that do not have a pressurized lubricating system.

We also
manufacture and distribute Elements for the Puradynsystem. Depending upon the application, we generally recommend that
the Element be replaced at the engine manufacturers recommended/approved
periodic oil change interval or as oil analysis dictates. The type of Element
used also depends upon the specific type of engine or hydraulic application. A
customer can change the Element and take the required oil sample in
approximately five to 10 minutes.

The Company
has implemented patented and/or proprietary technology in the filter Elements
that provides several advantages including:

|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | An additive package in which pellet-encased chemicals are
 incorporated in the replaceable filter element to replenish additives in the
 oil. This additive package helps to maintain the oils chemical balance and
 viscosity. In 2006, the Company re-engineered the additive package to be
 compatible with new oils designed to meet EPA 2007 and 2010 on-highway
 exhaust emission standards and be simultaneously backwards-compatible
 with all older API diesel lubrication oil service categories.                                                           
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | In late 2009, the Extreme Duty (XD) Element, specifically formulated
 to meet the needs of diesel engine lubricating oils operating in the harsh
 environments including relatively high levels of sulfur content in fuel, is
 targeted to receive enhancements to its additive package. The new XD filter
 Element, with an increased additive package level, also addressed the next
 level of emissions reduction that began in 2010.                                                                                                                               
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | CGP® Extended Life Filter Element containing a
 patent-pending process for chemical grafting. This technology improves the
 attraction and retention of soot and other solid contaminants to the packed
 cotton filter material. CGP technology was developed over a three-year period
 inclusive of laboratory and field-testing. Consolidated results from across
 the country show that test vehicles on a fleet of 150 over the road trucks
 and 230 tractor trailers vehicles averaged more than 100,000,000 miles
 without the need for a traditional oil change.
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | Ease of maintenance: The filter Element can be replaced in a matter
 of minutes.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       

When the
Element is changed, a small amount of make-up oil is added to replace any oil
retained in the used

5

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Element or consumed during the normal engine combustion process. The
Companys performance warranties require the user to change the Puradynfilter element and take a small
sample of the oil for submission to an oil-testing laboratory at the same
intervals that the original equipment manufacturer (OEM) recommends for an
oil change, or as oil analysis dictates. The oil analysis allows end users to
monitor oil quality and, to some degree, engine condition and provides a trend
and timeline for both the Company and end user should a problem arise.

The Puradynhas no moving parts and
consequently requires no significant ongoing maintenance. As long as Elements
are changed at the recommended intervals and other standard preventive
maintenance procedures such as changing factory full flow and air filters and
oil analysis are completed, the Company believes the Puradynwill perform as designed.

Warranties

The Puradyncarries a six-month money-back
performance guarantee, and is currently warranted to the original user to be
free of defects in material and workmanship for five years from date of
purchase, with a one-year limited warranty on the heating element.

For the
Companys performance guarantee and warranty to remain in effect, users must,
among other things, maintain a record of the laboratory oil analysis results
and use Puradyn
replacement parts. Oil analysis is a standard industry practice endorsed by
OEMs and various fleet maintenance organizations and most engine manufacturers
will accept oil analyses as alternatives to their recommended oil change
intervals.

The Company
has received letters from numerous OEMs which have all stated that the
installation and use of the Puradyndoes
not void their manufacturer warranties if there is no oil related engine
failure or malfunction attributed to the Puradyn. To date, there have been no
significant warranty claims, although there can be no assurances that such a
trend will continue.

Marketing

The Company
has established an in-house marketing department.

The
Companys products are marketed to numerous industries including but not limited
to, oil and gas services, agricultural, bus, generator, construction, mining,
industrial, and a multitude of hydraulic applications, and other users of
engines or equipment that utilize up to 50 weight oil for lubrication.
Currently, the Companys primary focus is on the oil and gas services,
industrial/construction, generator set, and OEM segments.

Instead of
traditional media advertising campaigns, the Company is concentrating instead
on direct sales contacts, trade shows, white papers and other methods of
demonstration, such as Internet-based marketing, to promote its products,
generate awareness and stimulate sales.

We
rely on managements ability to determine the existence and extent of available
markets for our product. Company management has considerable sales and
marketing backgrounds and devote a significant portion of their time to
sales-related activities.

One of our
marketing strategies is based on creating customer pull-through, a sustained
level of request for our product on the OEM level from end-users. To date,
customer pull-through has resulted in a growing number of our systems being
factory-installed at individual Kenworth and Freightliner truck facilities as
well as at the John Deere Forestry Division facility in Joensuu, Finland.

Taking a
long-term approach, management believes that federal government entities and
the U.S. military are markets that can be successfully cultivated, based on the
following:

| |   |                                                                                                                                            
| | - | -------------------------------------------------------------------------------------------------------------------------------------------
| |  | 2010 continuing orders placed by the U.S. Military for installation
 on new trucks supplied by Freightliner LLC for foreign military sales.
| |  | 2009 renewal of the Companys General Services Administration (GSA)
 contract, GS-30F-0007R.                                               

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| |   |                                                                                                                                                                                                                                                                                      
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | 2008 contract received from the U.S. Army to supply 70 Puradyn
 systems to outfit the JERRV, part of MRAP (Mine Resistant Ambush Protected)
 vehicle family.                                                                                                                         
| |  | 2007 National Stocking Number (NSN) assigned to a specific Puradyn
 system kit to be installed on the U.S. Armys Mine Protection Vehicle family.                                                                                                                                    
| |  | 2007 received first order from Freightliner LLC for the Foreign
 Military Sales Line Haul Trucks                                                                                                                                                                                     
| |  | 2006 final test results from the US Department of Energy, which shows
 that the systems used in evaluation of the benefits and cost analysis of bypass
 oil filtration, have produced an estimated savings of 89% in oil usage and
 purchases when used on heavy-duty diesel engines.

Distribution

Distributors
maintain minimum product inventory levels, maintain a storefront and service
bay(s), and retain access to qualified technicians trained by our technical
personnel in product installation and service. All distributors must pay in a
timely fashion, and with respect to international distributors, the agreements
typically establish the minimum dollar amount of inventory to be purchased as
well as shipping terms.

We
currently have approximately 106 domestic and international active
distributors. However there are additional potential distributors, such as
Freightliner, Paccar, and John Deere, which participate in other programs.
While not all of these potential distributors actively promote our products,
all distributors have access to our product and have the capability to sell our
product.

The Company
has warehouse distributors located throughout North America and we previously
utilized inventory storage space in the U.K. provided by Filter Solutions Ltd.,
a master distributor during 2008-2009. Following the termination of this
arrangement in February 2009, Filter Solutions Ltd. informed the Company that
they wanted to focus their sales efforts only within the United Kingdom, as a
standard Distributor. Until the Company identifies a replacement, sales in
Europe will be administered by Puradyn in the United States. Shipping costs may
not be dramatically higher than when the product was dispensed from our U.K.
warehouse, as shipping costs from the U.S. was typically already included in
the prices charged to the distributors.

Although
this distributor will continue to maintain standard distributor inventory
levels, the bulk of the inventory held in their warehouse was returned to the
U.S. in March 2009, since customer service and shipments will be administered
from the U.S. The remaining international distributors are located primarily in
South America, Europe, and Asia. These distributors purchase product directly
from the Company and sell to their existing or new customers. The Company will
accept returns of products that are defective at the time of sale to the distributor
or prove to be defective during the limited warranty period. Returns are
subject to specific conditions.

As
a significant portion of our products are sold to distributors, this could
unfavorably affect our overall exposure to credit risk as these customers could
be affected by potential economic or other conditions.

There can
be no assurance that such distributors will be successful in introducing the Puradyn in their territories as they will
face obstacles similar to those any Company and its distributors would have
encountered when introducing an innovative technology in their territories.

Sales

Direct
Sales

The Company
directly and/or with the assistance of its manufacturers representatives,
distributors or other agents, markets its products directly to OEMs, other
distributors and national accounts. Typically, larger customers require an
evaluation period to operate the system on their equipment. While set for a
specific period of time, usually ranging from three to 12 months, evaluations
are often influenced by a number of variables including equipment downtime or
servicing which may extend the evaluation period. Consequently, the sales
period can be relatively long; however, we have seen this evaluation period
continue to shorten as the Companys products gain wider acceptance and support
from well-known end users and OEMs.

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Currently,
our products are being evaluated (in various stages of progress) by numerous
potential end users and existing customers including, among others:

| |   |                            
| | - | ---------------------------
| |  | A major
 engine OEM        
| |  | A major
 transmission OEM  
| |  | Two leading
 food companies
| |  | The U.S.
 Military         

In December
2009 we were awarded a renewal of a five-year contract on the Vehicular
Multiple Award Schedule, New Technologies with a six-month option predicated
upon sales. This enables us to offer our Puradynsystem to all federal, state and local government agencies. The new
schedule allows easy access to our products without the usual lengthy bid
process to all federal agencies that purchase vehicles, including construction
equipment, medium and heavy trucks, waste disposal vehicles, aerial lift
vehicles and fire trucks. The contract period is for five years from the date
of the award.

We are
dependent upon sales to a limited number of customers. During 2010 and 2009 two
customers together accounted for approximately 53% and 34%, respectively, of
the Companys consolidated net sales. These two customers individually
accounted for greater than 10% each of net sales, or approximately $1,619,000
and approximately $622,000, respectively in 2010 and 2009.

At December
31, 2009 there were three customers, whose trade receivable balances equaled or
exceeded 5% of total receivables, representing approximately 36%, 14%, and 13%
for a total of 63% of total accounts receivable. The loss of business from one
or a combination of our significant customers could adversely affect our
operations.

The
Companys domestic sales are made on credit terms, which vary depending on the
nature of the sale. The Company believes it has established sufficient reserves
to accurately reflect the amount or likelihood of product returns or credits
and uncollectible receivables. However, there can be no assurance that actual
returns and uncollectible receivables will not exceed the Companys recorded
reserves.

International
Sales

The
Company, directly and/or with the assistance of commission-based manufacturers
representatives, has established primarily non-exclusive distributors and sales
representation in various countries, including Denmark, Germany, South Africa,
Nigeria, United Kingdom, Thailand, Colombia, and others. The ultimate success
of these and other distributors depends upon, among other things, their
abilities to successfully introduce and sell the product in their territories
including obtaining local evaluations, establishing distribution and other
factors similar to those faced by the Company in the United States. Unlike
domestic sales, the Company has a policy on international sales for them to be
paid in advance before shipping or secured by a letter of credit. The Companys
credit risk is minimal with international sales as a result of this policy.
Total international sales amounted to approximately 17% and 24% of consolidated
net sales in 2010 and 2009, respectively.

Manufacturing and Production

The Company
purchases component parts for its Puradynsystems
and manufactures its entire line of filter Elements. The component parts are
assembled, packed and shipped from our facility in Boynton Beach, Florida.

We
currently source (i.e., purchase each raw material and component part from a
specific vendor) substantially all of our raw materials and component parts
from various vendors in the United States. Substantially all the tools and dies
used by certain of our vendors are owned by the Company. We have researched
alternative sources of supply and do not anticipate that the loss of any single
supplier would have a material long-term adverse effect on our business,
operations or financial condition.

Since
January 2004, we have maintained ISO 9001:2000 certification from the
International Organization for Standardization. ISO 9001:2000 is a series of
internationally accepted, multi-part quality management systems for
industry-wide standardization applied to manufacturing and service
organizations.

In December
2010, the Company completed a surveillance audit to achieve 9001:2008
certification, validating its Quality Management Standards process for design,
manufacture, sales and distribution of bypass oil filtration systems and

8

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Table of Contents

replacement filters for various industries. Management believes
this certification reinforces recognition of its tangible commitment to quality
control from OEMs and other potential large customers.

Competition

Our primary
competitors are Premo Lubrication Technologies, Inc., OilGuard, Amsoil Inc.,
and Oil Purification Systems, Inc. Competitive bypass oil filters produced by
other companies in varying degrees address the issues of solid or liquid
contaminant filtration through centrifugal design, media filtration or
evaporation. However, Puradyn believes that it designs and manufactures the
only bypass oil filtration system that incorporates all of the following
features which we believe provides us with a competitive advantage:

| |   |                                                                                                                                                         
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Filtering solid contaminants to below one micron, including enhanced
 soot retention through the use of a patent-pending process for chemical
 grafting;
| |  | Effectively removing harmful gaseous and liquid contaminants through
 a heated evaporation chamber; and                                                 
| |  | Replenishing the base additives so as to maintain proper oil total
 base number (TBN) and viscosity                                                     

Tests
performed by a leading independent testing facility demonstrated that the Puradynsystem surpassed the capacity,
efficiency and overall performance of one of its leading competitors. Using our
standard filter with additives, the Puradyn
system tested 92.05% efficient under the SAE HS806-95 (modified) standards for
filter capacity and contaminant removal. This test was rerun a year later using
the patent-pending process for chemical grafting, improving the filter
efficiency to 100%. Efficiency reflects the ability to remove particles and
other chemicals from the oil. While efficiency is not necessarily a standard of
comparison to other products, it does demonstrate the filtering capability of
thePuradynunit.

The proper
use of our products reduces the need for oil maintenance services, replacement
parts, original oil sales and consumption and waste oil disposal.

Intellectual Property

The Company
owns patents for the Puradyn
system; filter Elements, oil flow meter, and two patents for technology, which
include a manifold type full-flow filter/bypass filtration unit (side-by-side)
in the U.S. and certain other countries. The expiration dates of these patents
range from May 2014 to October 2016. The following table provides information
on our current U.S. patents.

|           |                                                                          |                  
|---------- | ------------------------------------------------------------------------ | -----------------
|Patent No. | Description                                                              | Date Issued      
|5,630,912  | oil reclamation device with evaporator base and head mounted filter      | May 20, 1997     
|5,591,330  | oil filter containing a soluble thermoplastic additive material
 therein | July 7, 1997     
|5,639,965  | oil reclamation system flow meter                                        | July 17, 1997    
|5,718,258  | releasing additives into engine oil                                      | February 17, 1998
|6,139,725  | oil reclamation device with vaporization chamber                         | October 31, 2000 

We
believe our patented technology is especially important on engines built since
the enactment of the Clean Air Act of 1992, which requires tighter
specifications for diesel engines. We have also applied for and received
patents on these technologies in a number of foreign counties.

During
2008-2010, we applied for the following patents:

| |   |                                                                                                                                                                                                                                                                                         
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | A new patent for a multi-filter lubricant purification system which
 can be serviced while the engine is running.                                                                                                                                                                       
| |  | A new patent for an oil-soluble additive injection apparatus, which
 will increase the efficacy of the replacement filter element.                                                                                                                                                      
| |  | A new patent for micro-fine filtration. This patent incorporates
 technology that includes a means to remove liquid and gaseous contaminants
 within a closed system where the Companys legacy evaporation chamber may be
 counter-indicated due to physical or regulatory limitations.
| |  | A new patent for a technologically advanced engine-mounted full-flow
 filter/micro-fine bypass filter system with smart sensor capability not
 available from any other competitive device.                                                                                             

9

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There
can be no assurance that such patents will withstand competitive threats to
their patentability or, in the case of the redesigned Puradyn, be developed into commercially
viable products.

We have
registered the product trademark Puradyn
in the United States and other countries where the Purifiner trademark was registered, and have registered the
product trademarks CGP and Keep It Clean!in the United States.

We have
also obtained the rights to the domain name www.puradyn.com as well as the
domain names puradyn.asia, puradyn.org, puradyn.us, puradyn.info and
puradyn.biz. As with telephone numbers, we do not have and cannot acquire any
property rights in an Internet address. We do not expect to lose the ability to
use these Internet addresses; however, there can be no assurance in this
regard.

Governmental Influence

Our
products typically do not require any governmental approvals. As part of the
certification process under the California Environmental Protection Agencys
Department of Toxic Substances in July 1994 and subsequent re-certifications in
July 1998 and August 2003, the Company obtained an Executive Order issued by
the State of California Air Resources Board stating that the Puradyn does not reduce the effectiveness
of applicable vehicle pollution control systems, and may be installed on all
2002 and older model vehicles with pressure oil systems. While this
certification is no longer in use by the California EPA, the Puradyn
remains the only technology of its kind to have been designated as a Pollution
Prevention technology.

2007
emissions standards represented landmark regulations affecting engines using
catalytic converters and particulate traps in addition to that using exhaust
gas recirculation (EGR). Due to these after-treatment devices and their
sensitivity to ash content, the oil industry developed entirely new additive
formulations removing any additives that produced ash as a byproduct. In order
to be compatible with the new oil formulation, we developed an entirely new
additive package for 2007. In addition, this new additive package is
backwards-compatible in that it is also compatible with the pre-2007 oils. Both
lab and field tests of the newer additive package have demonstrated excellent
results and a next-generation additive package has been formulated to meet more
stringent regulations that were introduced in 2010.

As
more engine manufacturers move to newer methods, including EGR, the oil is
being subjected to more extreme conditions increasing the need for finer
filtration of contaminants such as soot; reduction of water and gaseous
contaminants, and constant replenishment of oil additives to combat oxidation
and acid.

We
believe that engine manufacturers can capitalize on our enhanced technology to
remove soot from their oil to maintain their extended drain intervals by
operating on constantly clean oil.

The
conservation of energy, oil, and natural resources has become an important part
of the national energy and environment agenda. We believe the current U.S.
administrations agenda, which in part, makes the commitment to conserve more
oil over the next ten years than the U.S. currently imports from Middle East
and Venezuela combined, could result in a mandate of federal fleets to use
bypass filtration technology as a means to immediately conserve resources while
alternative means of energy and environmental conservation are researched.

Employees

At March
30, 2011, the Company had 23 full-time employees, including our executive
officers.

None of the
employees are covered by collective bargaining agreements, and we believe our
relationships with our employees to be good.

History of our Company

The patents
issued on the oil filtration system that, after further development, has
evolved into the current Puradyn bypass oil filtration system, were
issued in the early 1980s. The owners of these patents attempted to market and
sell the original system under various other trade names, but were not
successful. In 1987, T/F Systems, Inc., a Delaware corporation, of which
Messrs. Richard C. Ford and Willard H. Taylor (deceased) were equal
stockholders, obtained certain

10

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limited distribution rights to the Puradyn bypass oil filtration system,
previously known as the Purifiner in several states from Refineco
Manufacturing Company, Inc. Mr. Ford served as an executive officer and
director of our company from inception to October 2006. In 1988, T/F Systems,
Inc. obtained an option to acquire the exclusive manufacturing and marketing
rights to the Purifiner in the event Refineco Manufacturing Company, Inc., and
subsequently, Purifiner Distribution Corporation of Chicago, Illinois, were
unable to meet their commitments to supply Purifiners to T/F Systems, Inc. As a
result of a default, and a failure of the manufacturer to meet this supply
commitment, T/F Systems, Inc. obtained the worldwide manufacturing and
marketing rights to the Purifiner in 1990.

In February
1988, we were incorporated in Delaware under the name Econology Systems, Inc.
On October 16, 1990, the name was changed to T/F Purifiner, Inc. We were
inactive until 1991, when we obtained the distribution and marketing rights to
the Purifiner by virtue of an assignment from T/F Systems, Inc. However, T/F
System, Inc.s ownership of the rights to the Purifiner were contested in court
by other third parties who were also manufacturing and marketing a device
similar to the Purifiner and using the Purifiner trademark. Eventually, the
court ruled in favor of T/F Systems, Inc. with respect to its manufacturing and
marketing rights, and in May 1993 all appeals by the other parties were
exhausted. During the period of this litigation, we continued to market the
Purifiner, but success was limited due to various factors including the pending
litigation and the actions by these other parties in the marketplace.

Prior to
December 31, 1995, we were the exclusive distributor and T/F Systems, Inc. was
the exclusive manufacturer of the Purifiner. On December 31, 1995, in exchange
for any claims we had in the delay damage award, we purchased all operating
assets and assumed all operating liabilities of T/F Systems, Inc. except for
any benefits and/or liabilities related to a delay damage judgment awarded in
December 1994 against the other parties discussed above, and liabilities
related to certain stockholder advances made to T/F Systems, Inc. by Messrs.
Ford and Taylor.

On February
4, 1998, the company filed a Certificate of Amendment to its Certificate of
Incorporation, which changed its name from T/F Purifiner, Inc. to Puradyn
Filter Technologies Incorporated.

|         |               
|-------- | --------------
|ITEM 1A. | RISK
 FACTORS.

An
investment in our common stock involves a significant degree of risk. You should
not invest in our common stock unless you can afford to lose your entire
investment. You should consider carefully the following risk factors and other
information in this annual report before deciding to invest in our common
stock. If any of the following
risks and uncertainties develop into actual events, our business, financial
condition or results of operations could be materially adversely affected and
you could lose your entire investment in our company.

WE HAVE A HISTORY OF LOSSES AND OUR INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM HAS SUBSTANTIAL DOUBTS ABOUT OUR ABILITY TO
CONTINUE AS A GOING CONCERN.

We have incurred substantial operating and net losses, as well as
negative operating cash flows, since our inception through December 31, 2010.
For the years ended December 31, 2010 and 2009, we reported net losses of
$1,574,056 and $2,070,598. At December 31, 2010, we had an accumulated deficit
of approximately $52.1 million. These recurring operating losses, liabilities
exceeding assets and the reliance on cash inflows from an institutional
investor and current stockholder have led our independent registered public
accounting firm to include a statement in its audit report relating to our
audited consolidated financial statements for the years ended December 31, 2010
and 2009 expressing substantial doubt about our ability to continue as a going
concern. Our ability to continue as a going concern is dependent upon our
ability to obtain the necessary financing to meet our obligations and repay our
liabilities when they become due and to generate profitable operations in the
future. We have no firm commitments from any third party to provide this
financing and we cannot assure you we will be successful in raising working
capital as needed. There are no assurances that we will have sufficient funds
to execute our business plan, pay our obligations as they become due or
generate positive operating results and it is possible that we will be required
to cease some or all of our operations if we are not successful in raising
capital as needed. In that event, you could lose your entire investment in our
company.

OUR NET SALES ARE NOT SUFFICIENT TO FUND OUR
OPERATING EXPENSES. THERE ARE NO ASSURANCES WE WILL BE ABLE TO INCREASE OUR
SALES, IN THE NEAR FUTURE, TO A LEVEL WHICH WILL FUND OUR OPERATING EXPENSES.

We used cash in operations of approximately $1.2 million and
approximately $1.1 million in 2010 and 2009, respectively.

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Our operating expenses increased approximately 13% in 2010 from 2009.
Our net sales have never been sufficient to fund our operating expenses. During
2010 and in to 2011 we continue to implement cost reductions in an effort to
improve margins, including securing alternative suppliers for raw materials and
manufacturing and we anticipate these cost reductions will impact our results
of operations in future periods. As long as our cash flow from operations
remains insufficient to fund our operations, we will continue depleting our
cash and other financial resources. Our failure to achieve profitable
operations in future periods will adversely affect our ability to continue as a
going concern. In this event, you could lose all of your investment in our
company.

WE NEED ADDITIONAL FINANCING WHICH WE MAY NOT
BE ABLE TO OBTAIN ON ACCEPTABLE TERMS. IF WE CANNOT RAISE ADDITIONAL CAPITAL AS
NEEDED, OUR ABILITY TO EXECUTE OUR GROWTH STRATEGY AND FUND OUR ONGOING
OPERATIONS WILL BE IN JEOPARDY.

Historically, our operations have been financed primarily through a
credit line from our Chairman, as well as the issuance of equity and short-term
loans. Our future capital requirements, however, depend on a number of factors,
including our ability to internally grow our revenues, manage our business and
control our expenses. At December 31, 2010, we had working capital deficit of
$440,952 as compared to working capital deficit of $198,476 at December 31,
2009. We need to raise additional capital to fund our ongoing operations, pay
our existing obligations and for future growth of our company. We do not have
any commitments for additional capital and we cannot assure you that any
additional capital will be available to us in the future upon terms acceptable
to us. Given our history of losses, debt levels and general uncertainties of
the capital markets, we face a number of challenges in our ability to raise
capital. If we do not raise funds as needed, our ability to provide for current
working capital needs, pay our obligations as they become due, grow our
company, and continue our existing business and operations is in jeopardy. In
this event, you could lose all of your investment in our company.

WE OWE ONE OF OUR DIRECTORS APPROXIMATELY $6.4 MILLION WHICH
IS DUE BY DECEMBER 31, 2012.

Since March 2002, one of our Directors has been providing funding to us
for working capital on an unsecured basis. At December 31, 2010, we owed him
approximately $6.4 million. As extended, this loan is due on December 31, 2012
or (i) at such time as we have raised an additional $7 million over the $3.5
million raised in prior offerings, or (ii) at such time as we are operating
within sufficient cash flow parameters to sustain operations, or (iii) until a
disposition of our company, such as an acquisition or merger, occurs. We do not
have sufficient funds to pay this loan when it becomes due and there are no
assurances our CEO will extend the due date. While the loan is unsecured, this
obligation makes it more difficult for us to secure the additional financing we
need to fund our operations.

WE RELY ON SALES TO A LIMITED NUMBER OF CUSTOMERS AND THERE
ARE NO ASSURANCES THAT THESE CUSTOMERS WILL CONTINUE TO PURCHASE PRODUCTS FROM
US.

We are dependent upon sales to a limited number of customers. During
2010 two customers individually accounted for approximately 40% and
approximately 13% (for a total of 53%) of our net sales. During 2009 two
customers individually accounted for approximately 23% and approximately 11%
(for a total of approximately 34%) of our net sales. We do not have contracts
with our customers and the loss of sales from one or more of these customers
could materially impact our results of operations in future periods.

WE ARE DEPENDENT ON A LIMITED NUMBER OF SUPPLIERS. WHILE WE
HAVE IDENTIFIED ALTERNATIVE SOURCES FOR VARIOUS MATERIALS WE USE, A TEMPORARY
DISRUPTION IN OUR ABILITY TO PROCURE NECESSARY MATERIALS AND PARTS COULD
ADVERSELY IMPACT OUR NET SALES IN FUTURE PERIODS.

A substantial portion of the component parts to our products are
manufactured by various suppliers for assembly by us. We believe the
relationships with our suppliers are satisfactory and that alternative
suppliers are available if relationships falter or existing suppliers should
become unable to keep up with our requirements. However, there can be no
assurance that our current or future suppliers will be able to meet our
requirements on commercially reasonable terms or within scheduled delivery
times. An interruption of our arrangements with suppliers could cause a delay
in the production of our products for timely delivery to distributors and customers
which could result in a loss of sales revenue in future periods.

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WE FACE COMPETITION FROM A NUMBER OF
COMPANIES AND THERE ARE NO ASSURANCES WE CAN EFFECTIVELY COMPETE IN OUR SECTOR.

There are a number of companies which sell bypass oil filtration
systems. Most of our competitors have more capital, greater brand recognition,
larger customer bases and significantly greater financial, technical and
marketing resources than we do. These competitors may also engage in more
extensive development of their technologies, adopt more aggressive pricing
policies and establish more comprehensive marketing and advertising campaigns
than we can. While we believe that our product is superior in performance to
our competitors products, there are no assurances our belief is correct. For
these and other reasons, our competitors products may achieve greater
acceptance in the marketplace than our own, limiting our ability to gain market
share and customer loyalty and to generate sufficient revenues to achieve a
profitable level of operations.

IF WE ARE UNABLE TO PROTECT OUR INTELLECTUAL
PROPERTY OUR ABILITY TO CONDUCT OUR BUSINESS AS IT IS PRESENTLY CONDUCTED IS IN
JEOPARDY.

Our success is heavily dependent on our proprietary technology and we
rely on a combination of contractual rights, patents, trade secrets, trademarks
and non-disclosure agreements to establish and protect our proprietary rights.
There can be no assurances that the steps we take to protect our proprietary
rights will be adequate to prevent misappropriation of the technology or
independent development by others of products with features based upon, or
otherwise similar to, our products. In addition, although we believe that any
new technology currently in development or patent pending has been
independently developed and does not infringe on the proprietary rights of
others, there can be no assurance that we are correct or that third parties
will not assert infringement claims against us in the future. If instituted,
there can be no assurances we will have adequate resources to defend a patent
infringement or other proprietary rights infringement action. If we are unable
to adequately protect our proprietary rights or if other products should be
developed which are substantially similar to ours, our ability to continue our
operations as they are presently conducted could be in jeopardy and we could be
forced to cease operations.

THE
EXERCISE OF OUTSTANDING WARRANTS AND OPTIONS WILL BE DILUTIVE TO OUR EXISTING
STOCKHOLDERS.

At December
31, 2010, we had 46,070,076 shares
of our common stock issued and outstanding and the following securities, which
are exercisable into shares of our common stock, were outstanding:

| |   |                                                                                                                                                 
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------
| |  | 4,558,975 shares of our common stock issuable upon the exercise of
 warrants with exercise prices ranging from $0.50 to $1.25 per share; and    
| |   |                                                                                                                                                 
| |  | 2,161,583 shares of our common stock issuable upon the exercise of
 options with exercise prices ranging from $.14 per share to $2.60 per share.

The
issuance of these shares will be dilutive to our existing stockholders.

BECAUSE
OUR STOCK CURRENTLY TRADES BELOW $5.00 PER SHARE, AND IS QUOTED ON THE OTCQB,
OUR STOCK IS CONSIDERED A PENNY STOCK WHICH CAN ADVERSELY AFFECT ITS
LIQUIDITY.

As the
trading price of our common stock is less than $5.00 per share, our common
stock is considered a penny stock, and trading in our common stock is subject
to the requirements of Rule 15g-9 under the Securities Exchange Act of 1934.
Under this rule, broker/dealers who recommend low-priced securities to persons
other than established customers and accredited investors must satisfy special
sales practice requirements. The broker/dealer must make an individualized
written suitability determination for the purchaser and receive the purchasers
written consent prior to the transaction.

Securities
and Exchange Commission regulations also require additional disclosure in
connection with any trades involving a penny stock, including the delivery,
prior to any penny stock transaction, of a disclosure schedule explaining the
penny stock market and its associated risks. These requirements severely limit
the liquidity of our common stock in the secondary market because few brokers
or dealers are likely to undertake these compliance activities. Purchasers of
our common stock may find it difficult to resell the shares in the secondary
market.

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|         |                           
|-------- | --------------------------
|ITEM 1B. | UNRESOLVED STAFF COMMENTS.

Not
applicable to a smaller reporting company.

|        |            
|------- | -----------
|ITEM 2. | PROPERTIES.

We
lease approximately 25,500 square feet of office and warehouse space in Boynton
Beach, Florida which serves as our principal executive offices, from an
unrelated third party. Under the terms of the five year lease, which expires on
July 31, 2013, we pay an average rent of approximately $188,000 per year, with
a 3% increase annually during the remaining term of the lease.

|        |                   
|------- | ------------------
|ITEM 3. | LEGAL PROCEEDINGS.

On July 7, 2009 the Company filed a lawsuit
in the Circuit Courts in 15th Judicial District in and for Palm Beach County,
Florida, styled Puradyn Filter Technologies, Inc. versus Richard C. Ford case
number 502009CA023128XXXXMB. In this action against Mr. Ford, our former Chief
Executive Officer, the Company is alleging non-payment of three promissory
notes totaling $756,250 with interest at a rate of 5.63% per annum since July 25,
2001, the execution date of the notes. As of November 13, 2009 interest on all
three notes amounts to $353,796, for an aggregate amount owing of $1,110,046.
At the time of the execution of these promissory notes, Mr. Ford was Chief
Executive Officer of the Company and these notes were drafted under Mr. Fords
direction. The Company is seeking payment of the promissory notes and accrued
interest.

On
August 7, 2009, Mr. Ford responded by filing a Motion to Disqualify the
Companys legal counsel, Gary E. Susser and request a staying action until such
time as the Company obtains new legal counsel. On September 16, 2009 a hearing
on Order to Show Cause occurred. On October 26, 2009 a ruling was issued,
denying the Companys request for custody of the collateral. On November 5,
2009 Richard Ford filed a motion to stay proceeding pending payment of
documentary stamps and amendment of the complaint and relief from prior orders
relating to production of information pertaining to the sale of stock. On November
5, 2009, the Company filed a Motion for Rehearing on Plaintiffs Request for
Possession to obtain custody of the collateral. This was heard on November 12,
2009, and the Company is awaiting a ruling. On September 10, 2010, Fords
attorney filed a Motion to Withdraw from representation. On September 27, 2010
the Motion to Disqualify Attorney Susser was denied. The Company is still vigorously pursuing these matters.

|        |                        
|------- | -----------------------
|ITEM 4. | (REMOVED AND RESERVED).

None.

PART II

|        |                                                                                                               
|------- | --------------------------------------------------------------------------------------------------------------
|ITEM 5. | STOCKHOLDER MARKET FOR REGISTRANTS COMMON
 EQUITY, RELATED MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.

Our
common stock is quoted on the OTCQB under the symbol PFTI. The reported high
and low sales prices for the common stock as reported on the OTCQB are shown
below for the periods indicated. The quotations reflect inter-dealer prices,
without retail mark-up, markdown or commission, and may not represent actual
transactions.

|                                       |       |      
|-------------------------------------- | ----- | -----
|                                       | High  | Low  
|Fiscal 2009                            |       |      
|First quarter ended March 31, 2009     | $0.41 | $0.14
|Second quarter ended June 30, 2009     | $0.33 | $0.14
|Third quarter ended September 30, 2009 | $0.47 | $0.22
|Fourth quarter ended December 31, 2009 | $0.41 | $0.14
|                                       |       |      
|Fiscal 2010                            |       |      
|First quarter ended March 31, 2010     | $0.24 | $0.15
|Second quarter ended June 30, 2010     | $0.22 | $0.15
|Third quarter ended September 30, 2010 | $0.44 | $0.14
|Fourth quarter ended December 31, 2010 | $0.33 | $0.22

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On
March 25, 2011, the last sale price of our common stock as reported on the
OTCQB was $0.33. As of March 25, 2011, there were 312 record owners of our
common stock. The transfer agent for the Companys common stock is
Pacific Stock Transfer, 4045 South Spencer Street, Suite 403, Las
Vegas, NV 89119.

Dividend
Policy

The Company
has never declared or paid cash dividends on its common stock. Under Delaware
law, we may declare and pay dividends on our capital stock either out of our
surplus, as defined in the relevant Delaware statutes, or if there is no such
surplus, out of our net profits for the fiscal year in which the dividend is
declared and/or the preceding fiscal year. If, however, the capital of our
company, computed in accordance with the relevant Delaware statutes, has been
diminished by depreciation in the value of our property, or by losses, or
otherwise, to an amount less than the aggregate amount of the capital represented
by the issued and outstanding stock of all classes having a preference upon the
distribution of assets, we are prohibited from declaring and paying out of such
net profits and dividends upon any shares of our capital stock until the
deficiency in the amount of capital represented by the issued and outstanding
stock of all classes having a preference upon the distribution of assets shall
have been repaired.

The Company
presently intends to retain future earnings, if any, to finance the expansion
of its business and does not anticipate any cash dividends will be paid in the
foreseeable future. The future dividend policy will depend on our earnings,
capital requirements, expansion plans, financial condition and other relevant
factors.

Recent Sales of Unregistered Securities

On
January 10, 2011, the Company received proceeds of $50,000 from the Companys
Chairman and CEO, for the sale of 204,918 shares of common stock at a price of $0.244 per share and, as part
of the offering, issued warrants to purchase 20,492 shares of common stock at
an exercise price of $0.50, which expire on January 10, 2016. The purchaser was
an accredited investor and the transaction was exempt from registration under
the Securities Act of 1933 in reliance on an exemption provided by Section 4(2)
of that act. We did not pay any commissions or finders fees and we are using
the proceeds for general working capital.

On
February 1, 2011, the Company received proceeds of $50,000 from the sale of
187,266 shares of common stock to purchasers at a price of $0.267 per share and, as part
of the offering, issued warrants to purchase 18,727 shares of common stock at
an exercise price of $0.50, which expire on February 1, 2016. The purchaser was
an accredited investor and the transaction was exempt from registration under
the Securities Act of 1933 in reliance on an exemption provided by Section 4(2)
of that act. We did not pay any commissions or finders fees and we are using
the proceeds for general working capital.

|        |                          
|------- | -------------------------
|ITEM 6. | SELECTED FINANCIAL
 DATA.

Not
applicable to a smaller reporting company.

|        |                                                                                       
|------- | --------------------------------------------------------------------------------------
|ITEM 7. | MANAGEMENTS DISCUSSION AND ANALYSIS OF
 FINANCIAL CONDITION AND RESULTS OF OPERATION.

General

Sales of
the Companys products, the puraDYN® bypass oil filtration
system and replaceable filter elements will depend principally upon end user
demand for such products and acceptance of the Companys products by OEMs. The
oil filtration industry has historically been competitive and, as is typically
the case with innovative products, the ultimate level of demand for the
Companys products is subject to a high degree of uncertainty. Developing
market acceptance for the

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Companys existing and proposed products will require substantial
marketing and sales efforts and the expenditure of a significant amount of
funds to inform customers of the perceived benefits and cost advantages of its
products. As a result of our limited resources, to date we have not had
adequate funds available to undertake these necessary marketing efforts.

Currently
no bypass oil filtration system has captured a substantial share of the
estimated recurring $15 billion potential market, based upon figures supplied
by The Rhein Report, a diesel engine industry consulting, publishing and market
research company. We believe we are in a unique position to capitalize on the
growing acceptance of bypass oil filtration given that our product and our
Company are positioned as, including, but not limited to:

| |   |                                                                                                                                                                                                                                                                                                                                                                              
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | A competitively priced, value-added product based on an advanced,
 patented technology;                                                                                                                                                                                                                                                                                      
| |  | An alternative solution to the rising costs and national concerns
 over dependence on foreign oil; and                                                                                                                                                                                                                                                                       
| |  | Providing an operational maintenance solution to end users in conjunction
 with existing and reasonably foreseeable federal environmental legislation
 such as new regulation affecting diesel engines and diesel fuels, mandating
 cleaner diesel engines which first went into effect January 1, 2007.
 Additional and more stringent legislation went into effect in 2010.

We focus
our sales strategy on individual sales and distribution efforts as well as on
the development of a nationwide distribution network that will not only sell
but also install and support our product. We currently have approximately 106
active distributors in the U.S. and internationally. The number of distributors
will frequently change as we add new distributors as well as when OEMs come
onboard with their distribution network.

We continue
to focus our sales and marketing efforts to target industries more open to
innovative methods to reduce oil maintenance operating costs. These industries
were searching for new and progressive ways to maintain their equipment,
including bypass oil filtration. This strategy includes focus on:

| |   |                                                                                                                                                                                                             
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | The expansion of existing strategic relationships we have with John
 Deere, Avis, and others;                                                                                                               
| |  | Continued development and expansion of our distribution network with
 distributors who are trained by us and stock inventory in order to establish
 a sales- and service-oriented nationwide infrastructure;
| |  | Continuing to target existing and new industrial/construction
 equipment fleets and major diesel engine and generator set OEMs;                                                                             
| |  | Creating customer pull-through, a sustained level of request for
 our product on the OEM level; and                                                                                                       
| |  | Converting customer evaluations into sales, both immediate and long
 term.                                                                                                                                  

While this
is a long-term and ongoing commitment, we believe we have achieved a limited
amount of industry acceptance based on recent accomplishments:

| |   |                                                                                                                                                                                                                                                                                                                                                                                                              
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | In November 2010, we announced that Komatsu Equipment Company, the
 exclusive distributor for Komatsu mining and construction equipment Utah,
 Nevada, and portions of Wyoming, has joined our distributor network.                                                                                                                                                                                          
| |  | In the third quarter of 2010, we achieved record sales and order
 levels. The record-setting month of August 2010 marked the first time we
 recorded orders in excess of $800,000 in a single month.                                                                                                                                                                                                         
| |  | Increasing demand for our technology from industries in need of
 microfiltration for engines that run extended periods of time with high oil
 usage. These industries typically operate massive equipment with immense oil
 capacities and to our knowledge we are the only bypass oil filtration company
 providing this type of technology for engines and hydraulics using these
 large quantities of oil.
| |  | Increased activity in the open pit mining industry for large haul
 trucks carrying upwards of 250 tons of material from the mine face.                                                                                                                                                                                                                                                                       
| |  | Increased activity in South and Central America..                                                                                                                                                                                                                                                                                                                                                            

We believe
that the renewed interest shown in the technology of bypass oil filtration as
an economic alternative to significantly rising oil prices, dependence upon
foreign oil, coupled with the added benefits of being environmentally

16

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beneficial and a means to conserve oil, has timely and favorably
positioned the Company as a manufacturer of a cost efficient green product.

Our
customers have found that bypass oil filtration technology affords the same
benefits of the claims made by alternative energy source providers  reduce
significant oil consumption and minimize a companys carbon footprint.

Recognizing
that a level of oil consumption is not 100% avoidable, we promote our
technology as environmentally-friendly in that it provides a practical and more
intelligent use of oil as opposed to the accepted norm of oil as a disposable
and infinite resource. By keeping engine and hydraulic oil continuously clean,
equipment runs at optimum efficiency and the oil can be kept in use, extending
the life of the oil several cycles.

We
believe that industry acceptance resulting in sales will continue to grow in
2011; however, there can be no assurance that any of our sales efforts or
strategic relationships will meet managements expectations or result in actual
revenues. Even with the above announcements, business revenue in 2010 was below
management expectations, which we believe is attributable to the sluggish
economic environment.

The
Companys sales effort not only involves educating the potential customer on
the benefits of our product, but also allowing the end-user to test and
evaluate the Puradyn system on its fleet equipment. While set for a
specific period of time, typically ranging from three to twelve months,
evaluations are often influenced by a number of variables including equipment
applications downtime or servicing, which may extend the evaluation period.
Consequently, the sales cycle can be relatively long.

We believe
international sales are especially well suited to our product given that
environmental controls are not as regulated in countries outside North America.
Certain applications representing a higher return on investment are more
prevalent in use outside of North America and end-users consequently are more
receptive to the total maintenance package, including the use of oil analysis,
which the Puradyn
system requires to verify oil condition. In 2009, total international sales
accounted for 24% of the Companys consolidated net sales. However, we believe
that the substantial decline in international sales to approximately 17% of our
total net revenues in 2010 is attributable to the recession impacting the economy
during 2010.

Our focus
on specific industries throughout 2010 continued to pay dividends through 2010.
These industries demonstrated early signs of recovery from the economys
current situation, and we are beginning to benefit from their recovery. We also
saw signs from our international business of increasing activity and orders
throughout 2010. Our activity with an OEM substantially increased in 2010 and
should provide benefits throughout 2011.

Optimizing
our limited resources and obtaining sufficient capital is key to accomplishing
our goals. We will need to remain focused on working with OEMs, continue
developing the independent distributors we have onboard and maintain growth
within the specific niche industries using our system. To accomplish these
tasks, we may need to obtain capital funding and add appropriate sales and
marketing support to be sure our distributors and customers are served. As a
response to our growing sales, in early 2010, we hired an additional sales person
and anticipate the need for at least one more sales person plus one sales
support person. We added an applications engineer in the last quarter of 2009
and a product engineer in the first quarter of 2011 as our OEM account list
continued to grow. The expansion into the OEM area is rewarding in the aspect
that it provides a steady flow of material requirements for our manufacturing
facility. Additionally, OEM business allows us more stability in retaining
trained manufacturing personnel, a stronger supply chain with steady
production, economies of scale, and the ability to better utilize our overhead
with higher average material turn rates.

We continue
to address our liquidity and working capital issues as we continue to seek to
raise additional capital from institutional and private investors and current
stockholders. Historically, we have faced difficulties in raising adequate
capital and we anticipate that those efforts will continue given the
uncertainties facing the capital markets in the U.S. We also continue to
implement cost reductions in an effort to improve margins, including securing
alternative suppliers for raw materials and manufacturing and we anticipate
these costs reductions will impact our results of operations during the balance
of 2011 and beyond. We also continue to review cost of material increases, some
of which are passed through to our customers as product price increases
beginning in January in each of the past few years. As a result of the
declining economy, in January 2010 we elected not to implement a yearly price
increase. As of the date of this report we have not implemented one for 2011,
however, we may revisit this issue if the economy continues to improve and raw
material costs increase.

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Going Concern

Our
financial statements have been prepared on the basis that we will operate as a
going concern, which contemplates the realization of assets and satisfaction of
liabilities in the normal course of business. We have incurred net losses each
year since inception and have relied on the sale of our stock from time to time
and loans from third parties and from related parties to fund our operations.
These recurring operating losses, liabilities exceeding assets and the reliance
on cash inflows from an institutional investor and current stockholder have led
our independent registered public accounting firm Webb & Company P.A. to
include a statement in its audit report relating to our audited consolidated
financial statements for the years ended December 31, 2010 and 2009 expressing
substantial doubt about our ability to continue as a going concern. Our ability
to continue as a going concern is dependent upon our ability to obtain the
necessary financing to meet our obligations and repay our liabilities when they
become due and to generate profitable operations in the future. We plan to
continue to provide for our capital requirements through the sale of equity
securities, however, we have no firm commitments from any third party to
provide this financing and we cannot assure you we will be successful in
raising working capital as needed. There are no assurances that we will have
sufficient funds to execute our business plan, pay our obligations as they
become due or generate positive operating results.

Critical Accounting Policies and Estimates

The
Companys discussion and analysis of its financial condition and results of
operations are based upon the Companys consolidated financial statements,
which have been prepared in accordance with accounting principles generally
accepted in the United States. The preparation of these financial statements
requires the Company to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues and expenses, and related disclosure
of contingent assets and liabilities. On an on-going basis, the Company
evaluates its estimates, including those related to product returns, bad debts,
inventories, financing operations, warranty obligations and contingencies and
litigation. The Company bases its estimates on historical experience and on
various other assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent
from other sources. Actual results may differ from these estimates under
different assumptions or conditions.

The Company
believes the following critical accounting policies affect its more significant
judgments and estimates used in the preparation of its consolidated financial
statements.

Allowance for Doubtful Accounts

The Company
maintains allowances for doubtful accounts for estimated losses resulting from
the inability of its customers to make required payments. If the financial
conditions of the Companys customers were to deteriorate, resulting in an
impairment of their ability to make payments, additional allowances may be
required. The Company provides for potential uncollectible accounts receivable
based on customer specific identification and historical collection experience.
If market conditions decline, actual collection experience may not meet
expectations and may result in decreased cash flows and increased bad debt
expense.

The policy
for determining past due status is based on the contractual payment terms of
each customer, which is generally net 30 or net 60 days. Once collection
efforts by the Company and its collection agency are exhausted, the
determination for charging off uncollectible receivables is made.

Estimation of Product Warranty Cost

The Company
provides for the estimated cost of product warranties at the time revenue is
recognized. While the Company engages in product quality programs and
processes, including actively monitoring and evaluating the quality of its
component suppliers, the Companys warranty obligation is affected by product
failure rates, material usage and service delivery costs incurred in correcting
a product failure. Should actual product failure rates, material usage or
service delivery costs differ from the Companys estimates, revisions to the
estimated warranty liability would be required.

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Estimation of Inventory Obsolescence

The Company
provides for estimated inventory obsolescence or unmarketable inventory in
amounts equal to the difference between the cost of inventory and the estimated
market value based upon assumptions about future demand and market conditions.
If actual market conditions are less favorable than those projected by management,
additional inventory write-downs may be required.

Impairment of Long-Lived Assets

The
Company periodically evaluates the recoverability of the carrying amount of its
long-lived assets under the guidelines of FASB ASC 360, Property, Plant, and Equipment. Factors
that the Company considers in making this evaluation include estimating the undiscounted
net cash flows estimated to result from the assets over their remaining useful
life. Should the Companys estimates of
these factors change the Companys results of operations and financial
condition could be adversely impacted.

Revenue Recognition

Revenue is
recognized when earned. The Companys revenue recognition policies are in
compliance with the provisions issued in FASB ASC 605, Revenue Recognition. Revenue from product
sales to customers, distributors and resellers is recorded when products that
do not require further services or installation by the Company are shipped,
when there are no uncertainties surrounding customer acceptance and for which
collectibility is reasonably assured. The Company provides for sales returns
based on an historical analysis of returns. The estimate is updated for current
return activity and the provision is adjusted accordingly. Should actual
returns exceed managements estimates, the provision may require further
adjustment and accordingly, net sales may decrease.

Recent Accounting Pronouncements

Information
concerning recently issued accounting pronouncements is set forth in Note 1 of
our Notes to Consolidated Financial Statements under Item 8. Financial
Statements and Supplementary Data and is incorporated herein by reference.

Impact of inflation and foreign currency
translation gains and losses

Inflation
has not had a significant impact on our operations. However, any significant
decrease in the price for oil or labor, environmental compliance costs, and
engine replacement costs could adversely impact the end users cost/benefit
analysis as to the use of our products.

The
financial statements of our U.K. subsidiary have been translated into U.S.
dollars in accordance with FASB ASC 830, Foreign
Currency Matters. All balance sheet accounts have been translated
using the exchange rate in effect at the balance sheet date. Income statement
amounts have been translated using an appropriately weighted average exchange
rate for the year. The translation gains and losses resulting from the changes
in exchange rates during the year ended December 31, 2010 as well as 2009 have
been reported in accumulated other comprehensive income, except for gains and
losses resulting from the translation of intercompany receivables and payables,
which are included in earnings for the period. During the years ending December
31, 2010 and 2009, we recorded a foreign currency exchange rate gain of $0 and
approximately $121,000, respectively, which is included in selling and
administrative expenses in the consolidated statements of operations for each
period which appear elsewhere herein. The exchange rate of the British pound to
the U.S. dollar fluctuated from 1.5928 on December 31, 2009 to 1.55 on December
31, 2010 as compared to 1.4479 on December 31, 2008 to 1.5928 on December 31,
2009.

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Results of Operations

Year Ended December 31, 2010 (2010) as
Compared to Year Ended December 31, 2009 (2009)

The following table sets forth
(amounts in thousands) the Companys operating information for 2010 and 2009:

|                              |  |                |        |      |   |                       |   |   |       |  
|----------------------------- |  | -------------- | ------ | ---- | - | --------------------- | - | - | ----- | -
|                              |  | (in thousands) |       
|                              |  | 2010           |        | 2009 |   | Increase 
 (Decrease) |  
|Net sales                     |  | $              | 3,106  |      | $ | 1,911                 |   | $ | 1,195 |  
|Operating costs and expenses: |  |                |        |      |   |                       |   |   |       |  
|Cost of products sold         |  |                | 2,355  |      |   | 1,766                 |   |   | 589   |  
|Salaries and wages            |  |                | 1,035  |      |   | 1,001                 |   |   | 34    |  
|Selling and administrative    |  |                | 1,094  |      |   | 881                   |   |   | 213   |  
|                              |  |                | 4,484  |      |   | 3,648                 |   |   | 836   |  
|                              |  |                |        |      |   |                       |   |   |       |  
|Loss from operations          |  |                | (1,378 | )    |   | (1,737                | ) |   | (359  | )
|                              |  |                |        |      |   |                       |   |   |       |  
|Other income (expense):       |  |                |        |      |   |                       |   |   |       |  
|Interest income               |  |                |       |      |   |                      |   |   |      |  
|Interest expense              |  |                | (163   | )    |   | (157                  | ) |   | 6     |  
|Other expense                 |  |                | (34    | )    |   | (176                  | ) |   | (142  | )
|                              |  |                |        |      |   |                       |   |   |       |  
|Total other expense           |  |                | (197   | )    |   | (333                  | ) |   | 136   |  
|Net loss                      |  |                | (1,575 | )    | $ | (2,071)               |   |   | 496   |  



|                             |  |      |       |      |   |        |   |   |       |  
|---------------------------- |  | ---- | ----- | ---- | - | ------ | - | - | ----- | -
|(in thousands)               |  |      |       |      |   |        |   |   |       |  
|                             |  | 2010 |       | 2009 |   | Change |  
|Gross sales                  |  | $    | 3,120 |      | $ | 1,936  |   | $ | 1,184 |  
|Sales returns and allowances |  |      | (14   | )    |   | (25    | ) |   | 11    |  
|Net Sales                    |  |      | 3,106 |      |   | 1,911  |   |   | 1,195 |  
|US domestic sales            |  |      | 2,576 |      |   | 1,451  |   |   | 1,125 |  
|US international sales       |  |      | 530   |      |   | 388    |   |   | 142   |  
|UK sales                     |  |      |      |      |   | 72     |   |   | (72   | )
|Net Sales                    |  |      | 3,106 |      | $ | 1,911  |   |   | 1,195 |  

Net Sales
Net sales increased 62.5% in 2010 compared to 2009. This increase was
attributable primarily to one customers increased purchases. During 2009 this
customer represented approximately 23% of sales; during 2010 this customer
represented approximately 40% of sales. We anticipate this customer will provide
a lower percentage of our sales in 2011, but will represent a substantial
percentage of our sales. We expect sales to increase overall in 2011, based
upon information from existing customers on their planned 2011 product
purchases.

International
sales increased approximately 15.2% in 2010 compared to 2009. As a percentage
of sales, international sales represented 17.1% of net sales in 2010 compared
to 24.1% in 2009. Domestic sales increased approximately 77.5% in 2010 compared
to 2009. Included in international sales for 2009 are sales of our UK
subsidiary, whose offices were closed in March, 2009. We anticipate that
international sales will increase in 2011, but remain at the same proportion of
sales as in 2010.

Sales to
two customers individually accounted for approximately 40% and 13% (for a total
of 53%) in 2010 and approximately 23% and 11% (for a total of 34%) in 2009.

Product mix
shifted in 2010 compared to 2009. Oil filtration units composed 8% of total
filter and unit sales in 2010 compared to 6% in 2009. We believe this increase
is attributed to an improving economy and customers willing to make longer term
investments in the more expensive capital addition of new units, for greater
payback benefit, over short term maintenance expense.

Cost
of Sales Cost of products sold, as a percentage of
sales, decreased from approximately 92% for 2009 to approximately 76% for 2010.
The majority of the decrease in our overall cost of sales is attributable to
the higher sales

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volume, which
permitted our overhead costs to be applied to more units produced. The
following table sets forth the components of cost of sales:

|                                      |  |      |           |      |   |           |   |   |         |  
|------------------------------------- |  | ---- | --------- | ---- | - | --------- | - | - | ------- | -
|                                      |  | 2010 |           | 2009 |   | Change    |  
|Materials & Overhead                  |  | $    | 1,505,628 |      | $ | 1,031,268 |   | $ | 474,360 |  
|Freight Out & Fees                    |  |      | 118,790   |      |   | 41,974    |   |   | 76,815  |  
|Scrap, Rework and Warranty adjustment |  |      | 24,896    |      |   | (70,086   | ) |   | 94,982  |  
|Adjustment to Inventory Reserves      |  |      | 94,404    |      |   | 113,604   |   |   | (19,200 | )
|Manufacturing Wages & Benefits        |  |      | 284,326   |      |   | 290,274   |   |   | (5,948  | )
|Occupancy Expense                     |  |      | 292,841   |      |   | 284,244   |   |   | 8,595   |  
|Depreciation and Amortization         |  |      | 10,057    |      |   | 8,611     |   |   | 1,447   |  
|Other Expenses                        |  |      | 24,255    |      |   | 15,710    |   |   | 8,545   |  
|                                      |  |      |           |      |   |           |   |   |         |  
|                                      |  | $    | 2,355,197 |      | $ | 1,715,601 |   | $ | 639,596 |  

Materials
and Overhead applied increased in 2010 as compared to 2009 as a result of
higher sales. The substantial increase in freight out resulted from higher
shipping costs along with higher shipping volume. Accordingly, shipping charges
collected from customers included in sales revenues were 41% higher in 2010
compared to 2009. The increase in scrap, rework and warranty adjustment expense
catagory was primarily a result of the variance in the warranty reserve. During
2009 the warranty reserve was substantially reduced which gave rise to a
negative amount in the expense line item in the amount of $103,596. The current
year provision resulted in an expense of $1,345.

Although
sales increased 62.5% in 2010 compared to 2009, cost of sales increased only
33.3%, indicating improved performance in cost containment and buying. We
anticipate improved performance in 2011.

Salaries
and WagesSalaries
and wages increased approximately 3.4% in 2010 as compared to 2009. This
increase resulted from one engineer hired at the end of 2009, the addition to
our sales staff, hired March 2010 and a member of our production team hired
April, 2010. The increase in payroll expense was offset by the departure of
accounting personnel in April, 2010. Salaries and wages, as a percentage of sales,
were 33.3% for 2010 and 52.3% for 2009. Management anticipates minimal hiring
if the OEM and niche industry targets increase sales. Otherwise, management
does not anticipate any changes to our salaries and wages at our current sales
volume.

Selling
and Administrative Expenses Selling and administrative
expenses increased by approximately 24.2% in 2010 from 2009. This increase is
due to a decrease in exchange rate gains experienced in 2009 and increases in
professional fees, investor relations expenses and travel and marketing
expenses. Those increases were offset by a decrease in stock compensation
expenses. The following table sets forth the components of selling and
administrative expenses:

|                          |  |      |           |      |   |          |   |   |          |  
|------------------------- |  | ---- | --------- | ---- | - | -------- | - | - | -------- | -
|                          |  | 2010 |           | 2009 |   | Change   |  
|Employee Benefits         |  | $    | 173,110   |      | $ | 146,434  |   | $ | 26,676   |  
|Travel & Marketing        |  |      | 208,472   |      |   | 161,999  |   |   | 46,474   |  
|Depreciation/Amortization |  |      | 34,822    |      |   | 29,814   |   |   | 5,008    |  
|Engineering               |  |      | 55,751    |      |   | 57,503   |   |   | (1,752   | )
|Professional Fees         |  |      | 267,884   |      |   | 121,605  |   |   | 146,279  |  
|Investor Relations        |  |      | 68,630    |      |   | 1,864    |   |   | 66,767   |  
|Occupancy Expense         |  |      | 109,195   |      |   | 100,374  |   |   | 8,821    |  
|Patent Expense            |  |      | 78,756    |      |   | 80,000   |   |   | (1,243   | )
|Stock Compensation        |  |      | 39,167    |      |   | 207,016  |   |   | (167,850 | )
|Bad Debts                 |  |      | (3,321    | )    |   | 6,127    |   |   | (9,448   | )
|Exchange (Gain)/Loss      |  |      |          |      |   | (121,003 | ) |   | 121,003  |  
|Other Expenses            |  |      | 61,216    |      |   | 89,166   |   |   | (27,952  | )
|                          |  |      |           |      |   |          |   |   |          |  
|Total                     |  | $    | 1,093,682 |      | $ | 880,899  |   | $ | 212,782  |  

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The
increase in travel and marketing was due to the addition of a salesperson and
higher marketing efforts. Professional fees increased as a result of employing
outside consultants to perform activities handled by former employees. The
increase in investor relations was due to our contract with an investment
relations firm that became effective in 2010. All amounts paid under the
investment relations contract were paid in common stock. In 2010 we did not pay
any compensation to employees in stock, only options. This resulted in the
decrease in stock compensation in 2010 compared to 2009. We anticipate that our
selling and administration expenses will remain at the same level in 2011 as
2010.

Interest
Expense Interest expense increased in 2010 as compared
to 2009 as a result of increased borrowings in 2010. The Company pays interest
monthly on the notes payable to our Chairman and CEO at prime rate less .5%,
with rates reset as often as the Federal Reserve changes interest rates, which
was a weighted average of 2.568% for 2010, as compared to an average of 2.45%
for 2009.

Other
(Expense)For 2010 this amount represents the reversal
of prior accrued interest on a loan connected with a 2001 stock option
exercise, that was cancelled in 2008. In 2009 this item is attributable to a
reserve established against shareholder loan interest due that was previously
accrued on a principal balance of $756,250 at 5.63% beginning July 25, 2001.
This relates to three promissory notes
totaling $756,250 due from our former Chief Executive Officer, Richard C. Ford.
The Company is presently in litigation for collection of the note and interest
due from Mr. Ford.

Liquidity and Capital Resources

Liquidity
is the ability of a company to generate adequate amounts of cash to meet its
needs for cash. As of December 31, 2010, we had cash and cash equivalents of
approximately $50,000 as compared to cash and cash equivalents of approximately
$140,000 at December 31, 2009.At
December 31 2010, we had negative working capital of approximately $441,000 and
our current ratio (current assets to current liabilities) was .70 to 1. At
December 31, 2009 we had negative working capital of approximately $198,000 and
our current ratio was .86 to 1. The decrease in working capital and current
ratio is primarily attributable to decreases in cash, inventory and prepaid
expenses, an increase in accrued liabilities offset by a decrease in deferred
revenues, as well as an increase in inventory allowance.

We have
incurred net losses each year since inception and at December 31, 2010 we had
an accumulated deficit of $52,114,411. Our net sales are not sufficient to fund
our operating expenses. Historically, we have relied on the sales of our stock
from time to time and loans from third parties and from related parties to fund
our operations. During 2010, we raised a total of $450,000 in capital from two
institutional investors and current stockholders and during 2009 we raised a
net additional $1.983 million. In addition, as of December 31, 2010, we owe our
stockholder approximately $6.4 million for funds he has advanced to us from
time to time for working capital. Interest expense on this loan was $157,866
for the year ended December 31, 2010.

We
do not currently have any commitments for capital expenditures. Our current
cash position is insufficient to cover our current operating needs. While
we anticipate cash flows from 2011 sales activity, additional cash will still
be needed to support operations, meet our working capital needs and satisfy our
obligations as they become due. In addition, as set forth above, we owe our
stockholder approximately $6.3 million which is due on December 31, 2012 or (i)
at such time as we have raised an additional $7 million over the $3.5 million
raised in prior offerings, or (ii) at such time as we are operating within
sufficient cash flow parameters to sustain operations, or (iii) until a
disposition of our company, such as an acquisition or merger, occurs. We do not
have sufficient funds to pay this loan when it becomes due and there are no
assurances our stockholder will extend the due date. We continue to address
liquidity concerns because of inadequate revenue growth. As a result, cash flow
from operations is insufficient to cover our liquidity needs for the immediate
future. We have implemented measures to preserve our ability to operate,
including organizational changes, a reduction and/or deferral of salaries,
reduction in personnel and renegotiating creditor and collection arrangements.
If budgeted sales levels are not achieved and/or significant unanticipated
expenditures occur, or if we are not able to raise additional investment
capital, we may have to modify our business plan, reduce or discontinue some of
our operations or seek a buyer for part of its assets to continue as a going
concern through 2011. There can be no assurance that we will be able to raise
additional capital or that sales will

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increase
to the level required to generate profitable operations to provide positive
cash flow from operations. In that event, it is possible that stockholders
could lose their entire investment in our company.

Operating activities

Net cash used in operating activities during 2010 was $1,197,564, as
compared to $1,136,119 for 2009. This was primarily the result from the net
loss of $1,574,056 and $2,070,598 for 2010 and 2009, respectively. During 2010,
the effect of the net loss on working capital is offset by an increase in the
provision for obsolete and slow moving inventory, deferred compensation and
compensation expense paid in stock based arrangements and prepaid expenses.
During 2009, the effect of the net loss on working capital is offset by a
decrease in inventories, accounts payables and deferred compensation.,

Investing activities

Net cash used in investing activities during 2010 was $35,531, as
compared to $49,260 for 2009. The majority of the 2010 and 2009 investments
related to computer and software acquisitions.

Financing activities

Net
cash provided by financing activities was $1,143,328 for 2010, as compared to
$1,323,610 for 2009. During 2010 the net amount of $445,100 was received from
private stock transactions issued for cash, as compared to $1,982,776 for 2009.
During 2010 $676,500 was received from a shareholder credit line, as compared
to $355,713 which was received in 2009. $1,013,000 was used to pay down the credit
line in 2009. This loan is a line of credit made available to us by a member of
our Board of Directors. Additionally, $25,000 was received from a stockholder
and director. During 2010 this amount plus $25,000 loaned in the prior year was
forgiven.

Impact of Inflation

Inflation has not had a significant impact on the Companys operations.
However, any significant decrease in the price for oil or labor, environmental
compliance costs, and engine replacement costs could adversely impact the
Companys end users cost/benefit analysis as to the use of the Companys
products.

Off Balance Sheet Arrangements

None.

|         |                                                           
|-------- | ----------------------------------------------------------
|ITEM 7A. | QUANTATIVE
 AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

Not
applicable to smaller reporting companies.

|        |                                              
|------- | ---------------------------------------------
|ITEM 8. | FINANCIAL STATEMENTS AND SUPPLEMENTARY
 DATA.

Our
financial statements are contained later in this report beginning on page F-1.

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

None.

|         |                         
|-------- | ------------------------
|ITEM 9A. | CONTROLS AND PROCEDURES.

Evaluation
of Disclosure Controls and Procedures

Our management, which includes our Chief Executive Officer and our Vice
President who serves as our principal financial officer, have conducted an
evaluation of the effectiveness of our disclosure controls and procedures (as
defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of
1934, as amended) as of December 31, 2010. Based on that

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evaluation, our Chief Executive Officer and our Vice President who serves
as our principal financial officer, concluded that as of December 31,
2010, there is a material weakness in internal control in relation to our
inventory and therefore disclosure controls and procedures are not effective in
providing reasonable assurance that information required to be disclosed in our
reports under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported within the time periods prescribed by SEC rules and
regulations, and that such information is accumulated and communicated to our
management to allow timely decisions regarding required disclosure.

Our management does not expect that our disclosure controls or our
internal controls will prevent all error and fraud. A control system, no matter
how well conceived and operated, can provide only reasonable, not absolute,
assurance that the objectives of the control system are met. In addition, the
design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their
costs. Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within a company have been detected. These
inherent limitations include the realities that judgments in decision-making
can be faulty, and that breakdowns can occur because of simple error or
mistake. Additionally, controls can be circumvented by the individual acts of
some persons, by collusion of two or more people or by management override of
the control. The design of any systems of controls also is based in part upon
certain assumptions about the likelihood of future events, and there can be no
assurance that any design will succeed in achieving its stated goals under all
potential future conditions. Over time, controls may become inadequate because
of changes in conditions, or the degree of compliance with the policies or
procedures may deteriorate. Because of these inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur
and not be detected.

Managements Report on Internal Control over
Financial Reporting

Our management, including our Chief Executive Officer and our Vice
President who serves as our principal financial officer, are responsible for
establishing and maintaining adequate internal control over financial reporting
as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934. Our
management assessed the effectiveness of our internal control over financial
reporting as of December 31, 2010. In making its assessment of internal control
over financial reporting, management used the criteria set forth by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal ControlIntegrated Framework.

A material weakness is a deficiency, or combination of deficiencies, in
internal control over financial reporting, such that there is a reasonable
possibility that a material misstatement of the Companys annual or interim
financial statements will not be prevented or detected on a timely basis. In
its assessment of the effectiveness of internal control over financial
reporting as of December 31, 2010, the Company determined that there were
control deficiencies that constituted material weaknesses, as described below.

The specific material weakness identified by our management was that we
did not maintain effective controls to timely monitor and review the
performance of our physical inventory observations and counting procedures and
related count adjustments in our automated inventory system, resulting in
errors in the recorded inventory balances. Additionally, management did not
properly review and identify slow moving and obsolete inventory.

Changes in
Internal Controls Over Financial Reporting

There have been no changes in our internal control over financial
reporting during our fourth fiscal quarter that has materially affected, or is
reasonably likely to materially affect, our internal control over financial
reporting.

To remediate the material weakness surrounding the inventory issue
described above, we have taken the following actions during the period ended
March 31, 2011:

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|  |                                                                                                               
|- | --------------------------------------------------------------------------------------------------------------
| | Completed a
 full wall-to-wall physical inventory count at March 31, 2011;                                    
|  |                                                                                                               
| | Commenced
 periodic review and additional analysis procedures to identify slow moving
 and obsolete items;    
|  |                                                                                                               
| | Provided
 related training to staff to help ensure that these procedures are properly
 performed; and         
|  |                                                                                                               
| | Revised the
 physical counting procedure to provide second and third tier recounts to
 verify observed counts.

Additionally,
we will perform a complete review of inventory processes and procedures to
identify and adopt measures to further improve and strengthen our overall
control environment, and will continue to monitor vigorously the effectiveness
of these processes, procedures and controls.

|         |                   
|-------- | ------------------
|ITEM 9B. | OTHER INFORMATION.

None.

PART III

|         |                                                         
|-------- | --------------------------------------------------------
|ITEM 10. | DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE
 GOVERNANCE.

Directors and Executive Officers

The
following individuals serve as our executive officers and/or members of our
Board of Directors:

|                           |     |                                                                                                    
|-------------------------- | --- | ---------------------------------------------------------------------------------------------------
|Name                       | Age | Positions                                                                                          
|Joseph
 V. Vittoria        | 75  | Chairman
 of the Board of Directors and Chief Executive Officer                                    
|Kevin
 G. Kroger           | 59  | President,
 Chief Operating Officer and Director                                                   
|John
 S. Caldwell (2)      | 66  | Director                                                                                           
|Forrest
 D. Hayes (1), (2) | 78  | Director                                                                                           
|Dominick
 Telesco          | 80  | Director                                                                                           
|Charles
 W. Walton (1)     | 78  | Director                                                                                           
|Alan
 J. Sandler           | 72  | Principal
 Financial Officer, Vice President, Chief Administrative Officer and Corporate
 Secretary

|    |                               
|--- | ------------------------------
|(1) | Audit
 Committee member       
|(2) | Compensation
 Committee member

Joseph
V. Vittoria was appointed to the Puradyn Board of
Directors as Chairman on February 8, 2000 and to the office of Chief Executive
Officer on October 24, 2006. Mr. Vittoria was Chairman and Chief Executive
Officer of Travel Services International, Inc. from 1997 until it was sold in
2000. From 1987 to 1997, Mr. Vittoria served as Chairman and Chief Executive
Officer of Avis, Inc., and was its President and Chief Operating Officer from
1982 to 1987. Mr. Vittoria also serves as Chairman of the Boards of Great Wolf
Resort and Greenjets, and as a member of the board of City Car Services, Inc.

Mr.
Vittorias extensive management, banking, organizational growth and experience
brings oversight and guidance to the Companys entire organization. The Board
believes that Mr. Vittoria has the experience, qualifications, attributes and
skills necessary to serve as a Director.

Kevin
G. Kroger joined Puradyn July 3, 2000 as President and
Chief Operating Officer and was appointed to the Board of Directors in November
2000. He was also appointed to the Board of Puradyn, Ltd. In December 2000, Mr.
Kroger was with Detroit Diesel Corporation from 1989 to the time he joined our
company, serving in various executive positions prior to his appointment in
1998 to the position of Vice President and General Manager of Series 30/40
Product. From 1987 to 1989 he was Vice President of R.E.S. Leasing and of VE
Corporation. Prior to this, from 1971 to 1987, he held several management positions
with Caterpillar Corporation.

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With vast
experience in the automotive and trucking industries, Mr. Kroger provides our
company with operations oversight and guidance in sales and marketing. Mr.
Kroger also holds a degree in engineering which facilitates our research and
development area, along with a deeper understanding in configuring our product
to the customers needs. The Board believes that Mr. Kroger has the experience,
qualifications, attributes and skills necessary to serve as a Director.

Lieutenant
General (Retired) John S. Caldwell, Jr. was appointed
to the Puradyn Board of Directors on August 25, 2005 and is also the Chairman
of the Compensation Committee. Gen. Caldwell served as the Armys top ranking
officer for Acquisition, Logistics and Technology when he retired in January
2004. Also served as Director of the 50,000-person Army Acquisition Workforce,
responsible for personnel development and training policy and key assignment
recommendations. Prior to these positions, Gen. Caldwell served as the
Commanding General of the US Army Tank-Automotive and Armaments Command
(TACOM), in which capacity he developed, fielded and supported lethality,
survivability and mobility capabilities for approximately 70% of the Armys
ground force. Served 4 years as the Project Manager, Abrams Tank System,
leading R&D, production, quality assurance, procurement and logistical
support of the Armys tank program, a $600 million R&D, $15 billion
procurement program with major international components. General Caldwell
currently consults in various capacities, including Senior Vice President, The
Spectrum Group. General Caldwell holds the degrees of Bachelor of Science from
the US Military Academy, West Point, in New York; Master in Mechanical
Engineering from Georgia Institute of Technology in Atlanta, GA, and the
Industrial College of the Armed Forces. General Caldwell has been a member of
the board of Taser International since 2007.

Gen.
Caldwells logistic and military background brings to our organization
oversight and guidance in the planning and execution of our financial and
operational growth plan. The Board believes that Gen. Caldwell has the
experience, qualifications, attributes and skills necessary to serve as a Director.

Forrest
D. Hayeswas
appointed to the Board of Directors in 2005; Chairman of the Audit
Committee and a member of the Compensation Committee.Mr. Hayes served as Vice President and CFO of
Wastequip, Inc., a privately owned manufacturer of waste equipment in 1990 and
1991, and from 1992 to 2000, as a member of the Wastequip Board of Directors.
Mr. Hayes was President and CEO of Brittany Corporation, a privately owned
manufacturer of auto/truck parts and HVAC parts from 1992 to 2000, and as
Vice-Chairman through 2003. Prior to this, Mr. Hayes served as a CPA with
Arthur Andersen from 1954 to 1990 in various capacities including Managing
Partner of Cleveland and Cincinnati, Ohio offices. Mr. Hayes was a member of
the board of The Town and Country Trust from 2005-2006 and currently serves on
the board of Polychem Corporation and Brittany Stamping, LLC.

Mr. Hays
depth of experience and credentials in the financial arena and his experience
as CEO of a manufacturer of auto and truck parts provides insight and a
knowledge base to the company on finance, production and marketing which is
extremely valuable to the operation. The Board believes that Mr. Hayes has the
experience, qualifications, attributes and skills necessary to serve as a Director.

Dominick
Telesco was appointed to the Puradyn Board of
Directors on December 19, 2006. In addition to Puradyn, Mr. Telesco also serves
on the Boards of Lydian Private Bank, the Palm Beach County Cultural Council
and the United Way of Palm Beach. Mr. Telesco is Chairman of the Board of 3
Logistics Corporation and Datelco, Inc. Mr. Telesco is also a member of the
Board of Governors of the Palm Beach Branch of John Hopkins Hospital; and
President of Boxwood Association, Inc.

Mr. Telesco
brings to the Company many years of finance and banking experience along with
strategic and corporate oversight guidance. The Board believes that Mr. Telesco
has the experience, qualifications, attributes and skills necessary to serve as
a Director.

Charles W. Walton, Ph.D. was appointed to
the Puradyn Board of Directors on August 25, 2005 and is a member of the Audit
Committee. Dr. Walton is retired. He was Chairman of Wastequip, Inc., which he
founded in 1989. As a result of over 35 successful acquisitions and internal
growth, Wastequip is now the largest supplier of equipment for the waste
management industry in North America. Prior to founding Wastequip, Dr. Walton
was President and Chief Executive Officer of Sudbury, Inc., a Fortune 500
diversified manufacturing company, which he co-founded in 1983. Dr. Walton
holds the degrees of Bachelor of Science in Foreign Service and PhD. in
economics from Georgetown University, Washington, D.C

26

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Dr.
Waltons experience as the Chief Executive Officer of a fortune 500 company and
his successful acquisition record provides the company with leadership, insight
and financial/strategic guidance. The Board believes that Dr. Walton has the experience, qualifications, attributes and skills necessary to
serve as a Director.

Alan
J. Sandler joined our company in June 1998 and has
served in various positions including President (June 1998 until January 2000),
principal financial officer (April 2010 to present), Vice President (January
2000 to present), Chief Operating Officer (June 1998 to January 2000), Chief
Administrative Officer (February 2000 to present) Secretary (June 1998 to
present), Chief Financial Officer (June 1998 to March 2001 and August 2001 to
March 2002), and Director (June 1998 to December 2004). Prior to joining our
company, from 1995 until 1997 Mr. Sandler served as President and Chief
Executive Officer to Hood Depot, Inc., a national restaurant supply
manufacturer/distributor. From 1979 to 1995 he was President and Chief
Executive Officer of Sandler & Sons Dental Supply Company, a regional
dental supply and equipment distributor. Previous to this position he was a
Vice President of Gardner Advertising Company, a national advertising agency,
from 1965 to 1979.

There
are no family relationships between any of the executive officers and
directors, except as set forth above. Each director is elected at our annual
meeting of stockholders and holds office until the next annual meeting of
stockholders, or until his successor is elected and qualified.

Compliance With Section 16(a) of the Exchange Act

Based
solely upon a review of Forms 3 and 4 and amendments thereto furnished to us
under Rule 16a-3(d) of the Securities Exchange Act during the fiscal year ended
December 31, 2010 and Forms 5 and amendments thereto furnished to us with
respect to the fiscal year ended December 31, 2010, as well as any written
representation from a reporting person that no Form 5 is required, we are aware
of no officer, director or 10% or greater stockholder that failed to file on a
timely basis, as disclosed in the aforementioned Forms, reports required by
Section 16(a) of the Securities Exchange Act during the fiscal year ended
December 31, 2010 except Mr. Caldwell, Mr. Hayes, Mr. Walton and Mr. Telesco,
members of our Board of Directors, and Mr. Kroger and Mr. Sandler, officers,
who failed to timely file Form 4 reporting one transaction each except for Mr.
Telesco, who failed to timely file two Form 4 reports reporting one transaction
on each filing. These reports were subsequently filed.

Code of Ethics

We
have adopted a Business Ethics and Conflicts of Interest Statement outlining
business ethics and conflicts of interest for all officers, directors and
employees of the Company, including procedures for prompt internal reporting of
violations of the code to the appropriate persons.

You
will find a copy of our Business Ethics and Conflicts of Interest Statement
posted on our website at http://www.puradyn.com under Investor Relations,
or you may write to us at Puradyn Investor Relations, 2017 High Ridge Road,
Boynton Beach, FL 33426. Our Code of Ethics applies to all directors, officers
and employees. We will provide a copy to you upon request at no charge.

Committees of the Board of Directors

We
do not have a policy regarding the consideration of any director candidates
which may be recommended by our stockholders, including the minimum
qualifications for director candidates, nor has our Board of Directors
established a process for identifying and evaluating director nominees. We have
not adopted a policy regarding the handling of any potential recommendation of
director candidates by our stockholders, including the procedures to be
followed. Our Board has not considered or adopted any of these policies as we
have never received a recommendation from any stockholder for any candidate to
serve on our Board of Directors. We do not anticipate that any of our
stockholders will make such a recommendation in the near future. While there
have been no nominations of additional directors proposed, in the event such a
proposal is made, all members of our Board will participate in the
consideration of director nominees.

Our Board
of Directors has created both an Audit Committee and a Compensation Committee.

27

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Table of Contents

Audit Committee

The
Audit Committee of the Board of Directors, which operates under a written
charter, reviews our financial reporting process on behalf of the Board of
Directors. Management has the primary responsibility for the financial
statements and the reporting process including the system of internal controls.
The Audit Committee of the Board of Directors is composed of two independent
directors, Mr. Forrest D. Hayes (Chairperson) and Dr. Charles W. Walton.

The Board
has determined that Mr. Hayes satisfies the criteria as an audit committee
financial expert as established by the SEC under 407(d) (5) of Regulation S-K.
In general, an audit committee financial expert is an individual member of
the audit committee or Board of Directors who:

| |   |                                                                                                                                                         
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | understands
 generally accepted accounting principles and financial statements,                                                                         
| |  | is
 able to assess the general application of such principles in connection with
 accounting for estimates, accruals and reserves,                      
| |  | has
 experience preparing, auditing, analyzing or evaluating financial statements
 comparable to the breadth and complexity to our financial statements,
| |  | understands
 internal controls over financial reporting, and                                                                                            
| |  | understands
 audit committee functions.                                                                                                                 

The audit
committee met four times in 2010.

Compensation
Committee

On
November 20, 2008, the Board of Directors formally adopted a compensation
committee charter that was incorporated into the by-laws of the Company. The
charter defines the purpose and responsibilities of the Compensation Committee.

The
Compensation Committee is a standing committee appointed by the Board of
Directors. The Committee is comprised of a minimum of two independent board members;
currently, General John S. Caldwell (Chairperson) and Mr. Forrest D. Hayes, one
of which shall be designated as Chairperson, The Committee has the authority to
determine the compensation of the organizations executive officers and other
employees as the Committee deems appropriate.

In
consultation with senior management, the Committee may review, establish, or
approve general compensation philosophy, policies and implementation of
compensation, with respect to employees or independent contractors. In addition
to the salary compensation, the Committee may review and approve other forms of
compensation, such as incentive compensation, equity-based, deferred
compensation and benefit plans. The Committee shall meet a minimum of once per
year and prepare minutes of all meetings and shall distribute said minutes to
all Board of Directors for approval.

You
will find a copy of our Compensation Committee Charter posted on our website at
http://www.puradyn.com under Investor Relations, or you may write to us at
Puradyn Investor Relations, 2017 High Ridge Road, Boynton Beach, FL 33426. We
will provide a copy to you upon request at no charge.

|         |                         
|-------- | ------------------------
|ITEM 11. | EXECUTIVE
 COMPENSATION.

The following table summarizes all compensation recorded by us in the
last completed fiscal year for

| |   |                                                                                                                                                                                                                                                                                                                         
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | our principal executive officer or other individual serving in a
 similar capacity,                                                                                                                                                                                                                                     
| |  | our two most highly compensated executive officers other than our
 principal executive officer who were serving as executive officers at
 December 31, 2010 as that term is defined under Rule 3b-7 of the Securities
 Exchange Act of 1934. In the case of our company this includes two key
 employees of our company.

For definitional purposes in this annual report these individuals are sometimes
referred to as the named executive officers. The value attributable to any option awards is
computed in accordance with FASB ASC 718, Compensation-Stock
Compensation. During each of fiscal 2009 and fiscal 2010, two
of the executive officers listed below have deferred approximately 50% of their
base wages and/or annual increases. The amounts included below reflect wages
actually earned during the respective periods.

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|                                     |  |  |           |  |  |                  |  |  |                 |  |  |                         |  |  |                          |  |  |                                                    |  |  |                                                         |  |  |                                    |  |  |                 | 
|------------------------------------ |  |  | --------- |  |  | ---------------- |  |  | --------------- |  |  | ----------------------- |  |  | ------------------------ |  |  | -------------------------------------------------- |  |  | ------------------------------------------------------- |  |  | ---------------------------------- |  |  | --------------- | 
|SUMMARY COMPENSATION TABLE          
|NAME
 AND
 PRINCIPAL
 POSITION 
 (A) |  |  | YEAR
 (B) |  |  | SALARY
 ($)
 (C) |  |  | BONUS
 ($)
 (D) |  |  | STOCK
 AWARDS
 ($)
 (E) |  |  | OPTION
 AWARDS
 ($)
 (F) |  |  | NON-EQUITY
 INCENTIVE PLAN
 COMPENSATION
 ($)
 (G) |  |  | NONQUALIFIED
 DEFERRED
 COMPENSATION
 EARNINGS ($)
 (H) |  |  | ALL
 OTHER
 COMPENSATION
 ($)
 (I) |  |  | TOTAL
 ($)
 (J) | 
|                                     |  |  |           |  |  |                  |  |  |                 |  |  |                         |  |  |                          |  |  |                                                    |  |  |                                                         |  |  |                                    |  |  |                 | 
|Joseph V. Vittoria 1                 |  |  | 2010      |  |  |                 |  |  |                |  |  |                        |  |  |                         |  |  |                                                   |  |  |                                                        |  |  |                                   |  |  |                | 
|                                     |  |  |           |  |  |                  |  |  |                 |  |  |                         |  |  |                          |  |  |                                                    |  |  |                                                         |  |  |                                    |  |  |                 | 
|                                     |  |  | 2009      |  |  |                 |  |  |                |  |  |                        |  |  |                         |  |  |                                                   |  |  |                                                        |  |  |                                   |  |  |                | 
|                                     |  |  |           |  |  |                  |  |  |                 |  |  |                         |  |  |                          |  |  |                                                    |  |  |                                                         |  |  |                                    |  |  |                 | 
|Kevin Kroger 2                       |  |  | 2010      |  |  | 185,920          |  |  |                 |  |  |                         |  |  |                          |  |  |                                                    |  |  |                                                         |  |  | 17,341                             |  |  | 203,261         | 
|                                     |  |  |           |  |  |                  |  |  |                 |  |  |                         |  |  |                          |  |  |                                                    |  |  |                                                         |  |  |                                    |  |  |                 | 
|                                     |  |  | 2009      |  |  | 185,920          |  |  |                |  |  |                        |  |  |                         |  |  |                                                   |  |  |                                                        |  |  | 11,656                             |  |  | 197,576         | 
|                                     |  |  |           |  |  |                  |  |  |                 |  |  |                         |  |  |                          |  |  |                                                    |  |  |                                                         |  |  |                                    |  |  |                 | 
|Alan Sandler 3                       |  |  | 2010      |  |  | 112,000          |  |  |                 |  |  |                         |  |  |                          |  |  |                                                    |  |  |                                                         |  |  | 1,205                              |  |  | 113,205         | 
|                                     |  |  |           |  |  |                  |  |  |                 |  |  |                         |  |  |                          |  |  |                                                    |  |  |                                                         |  |  |                                    |  |  |                 | 
|                                     |  |  | 2009      |  |  | 112,238          |  |  |                |  |  |                        |  |  |                         |  |  |                                                   |  |  |                                                        |  |  | 627                                |  |  | 112,865         | 

1          Mr.
Vittoria, who is also the Chairman of our Board of Directors, serves as our
Chief Executive Officer.

2          Mr.
Kroger serves as our President and Chief Operating Officer. All Other
Compensation in the foregoing table represents the aggregate dollar amount of a
car allowance received by Mr. Kroger during each fiscal year, disability and
life insurance premiums we pay on his behalf, as well as 95%, of the $6,750
annual lease of the Florida apartment to provide accommodations for Company
use. This percentage is based on his usage of the apartment, which was leased
throughout 2008, expired on December 31, 2008 and was not renewed until December,
2009, effective beginning January 1, 2010. Annual salary deferral of $102,920,
which is included in his salary for 2009 and 2010 in the foregoing table, is
payable at such time as the company achieves a positive cash flow or on an
emergency basis, as approved by the CEO.

3          Mr.
Sandler serves as our principal financial officer, Vice President, and Chief
Administrative Officer. All Other Compensation in the foregoing table
represents the amounts for reimbursement of Social Security and Medicare
premiums. Annual salary deferral of $62,000, which is included in his salary
for 2009 and 2010 in the foregoing table, is payable at such time as the
company achieves a positive cash flow or on an emergency basis, as approved by
the CEO. In 2010, accrued but unpaid interest due from Mr. Sandler in the
amount of $33,958 was cancelled in connection with the July 3, 2008 return of a
stock certificate and cancellation of the loan secured by that stock
certificate.

How our Executive Officers
Compensation is Determined

Mr.
Vittoria, who has served as our Chief Executive Officer since October 2006, is
not a party to an employment agreement with the Company. He receives no
compensation and does not participate in any of the Companys insurance plans.

On July 3,
2000, the Company entered into an employment agreement, with an initial term of
three years, with Mr. Kroger, who serves as our President and Chief Operating
Officer. Thereafter, the contract was amended on December 23, 2002 and July 3,
2003. The contract provided for an annual salary of $166,000, minimum bonuses
of $50,000, $80,000 and $80,000, respectively, for the years 2000 through 2002;
300,000 qualified stock options; a one-year salary severance clause, and
certain insurance and auto allowance compensations. On December 23, 2002, it
was agreed that the President receive 100,000 shares of common stock in lieu of
the $80,000 bonus due to be paid. Mr. Kroger is also entitled to paid health
insurance, a life insurance and disability policy, a $1,000 per month car
allowance, four weeks paid vacation and other executive benefits which may be
made available from time to time. During 2008, the Company paid a $6,750
Florida apartment lease to provide accommodations for Company use by Mr. Kroger,
of which 95% has been allocated to Mr. Kroger, based on his usage. This lease
was not effective during 2009, however, was renewed in December, 2009,
effective beginning January 1, 2010. Upon entering into the agreement we
granted Mr. Kroger 10-year options to purchase 300,000 shares of our common
stock at the then fair market value of our common stock which vested in equal
installments on the first, second, third and fourth anniversary date of the
agreement. The agreement also contains customary indemnification, non-compete,
confidentiality and invention assignment clauses. The term of the agreement
continues on a year-to-year basis

29

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Table of Contents

on the same terms and conditions as were in effect at the time of
renewal. The agreement may be terminated by us upon Mr. Krogers death or
disability, by us for good cause as defined in the agreement, or by either
party without cause. In the event the agreement is terminated on Mr. Krogers
death, by us for cause or by him without cause, we do not owe any severance
benefits. If the agreement is terminated as a result of his disability, we are
required to pay him a lump sum equal to the greater of the base salary then in
effect for the remaining term of the agreement or for one year. If the
agreement is terminated by us without cause or by Mr. Kroger in the event of a
change of control of our company, we are required to pay him a lump sum equal
to the greater of the base salary then in effect for the remaining term of the
agreement or for one year, together with any declared but unpaid bonus. The
addendum dated July 3, 2003 discontinued the bonus provision of the contract
but all other terms and conditions of the contract remain in effect. During the
fiscal year 2009, Mr. Krogers base annual salary was $185,920 with approximately
$102,920 deferred annually, with all other terms and conditions of his
employment agreement intact.

Mr.
Sandler, who has served as our principal financial officer since April 2010 and
Vice President and Chief Administrative Officer since January 2000, is not a
party to an employment agreement with the Company. His compensation was
determined by the Compensation Committee of our Board of Directors. The
Compensation Committee considered a number of factors in determining Mr.
Sandlers compensation including the scope of his duties and responsibilities
to our company and the time he devotes to our business. The Compensation
Committee did not consult with any experts or other third parties in
determining the amount of Mr. Sandlers compensation. During the fiscal year
2009 Mr. Sandlers compensation package included a base annual salary of
$112,000, with approximately $62,000 deferred annually, deferred until such
time as the company reaches a positive cash flow, 100,000 employee stock
options, exercisable at $.26 per share, with a four-year vesting period from
date of grant, 100,000 employee stock options exercisable at $.30 per share
with a two-year vesting period from date of grant, and company-provided
insurance benefits and reimbursement of his Social Security and Medicare
premiums. The amount of payable to Mr. Sandler can be increased at any time
upon the determination of the Compensation Committee of our Board of Directors.

Outstanding Equity Awards at Fiscal
Year End

The
following table provides information concerning unexercised options, stock that
has not vested and equity incentive plan awards for each named executive
officer outstanding as of December 31, 2010:

|                   |  |  |                                                                           |  |  |                                                                            |  |  |                                                                                                         |  |  |                              |  |  |                          |  |  |                                                                     |  |  |                                                                           |  |  |                                                                                                                   |  |  |                                                                                                                                     | 
|------------------ |  |  | ------------------------------------------------------------------------- |  |  | -------------------------------------------------------------------------- |  |  | ------------------------------------------------------------------------------------------------------- |  |  | ---------------------------- |  |  | ------------------------ |  |  | ------------------------------------------------------------------- |  |  | ------------------------------------------------------------------------- |  |  | ----------------------------------------------------------------------------------------------------------------- |  |  | ----------------------------------------------------------------------------------------------------------------------------------- | 
|                   |  |  | OPTION AWARDS                                                             |  |  |                                                                            |  |  |                                                                                                         |  |  | STOCK AWARDS                 | 
|Name               |  |  | Number of
 securities
 underlying
 unexercised
 options
 (#)
 exercisable |  |  | Number of
 securities
 underlying
 unexercised
 options
 (#) unexercisable |  |  | Equity
 incentive plan
 awards:
 Number of
 securities
 underlying
 unexercised
 unearned
 options
 (#) |  |  | Option
 exercise
 price
 ($) |  |  | Option
 expiration
 date |  |  | Number
 of shares
 or units
 of stock 
 that have
 not
 vested
 (#) |  |  | Market
 value of
 shares or
 units of
 stock
 that
 have not
 vested
 ($) |  |  | Equity
 incentive
 plan awards:
 Number of
 unearned
 shares, units
 or other
 rights that 
 have not
 vested (#) |  |  | Equity
 incentive
 plan awards:
 Market or 
 payout value
 of unearned
 shares, units
 or other
 rights that
 have not 
 vested (#) | 
|                   |  |  |                                                                           |  |  |                                                                            |  |  |                                                                                                         |  |  |                              |  |  |                          |  |  |                                                                     |  |  |                                                                           |  |  |                                                                                                                   |  |  |                                                                                                                                     | 
|(a)                |  |  | (b)                                                                       |  |  | (c)                                                                        |  |  | (d)                                                                                                     |  |  | (e)                          |  |  | (f)                      |  |  | (g)                                                                 |  |  | (h)                                                                       |  |  | (i)                                                                                                               |  |  | (j)                                                                                                                                 | 
|                   |  |  |                                                                           |  |  |                                                                            |  |  |                                                                                                         |  |  |                              |  |  |                          |  |  |                                                                     |  |  |                                                                           |  |  |                                                                                                                   |  |  |                                                                                                                                     | 
|Joseph V. Vittoria |  |  |                                                                           |  |  |                                                                            |  |  |                                                                                                         |  |  |                              |  |  |                          |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  | 80,000                                                                    |  |  |                                                                           |  |  |                                                                                                        |  |  | 1.25                         |  |  | 11/15/11                 |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  | 150,000                                                                   |  |  |                                                                           |  |  |                                                                                                        |  |  | 1.25                         |  |  | 3/24/13                  |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  | 71,429                                                                    |  |  |                                                                           |  |  |                                                                                                        |  |  | 1.25                         |  |  | 3/26/13                  |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  | 80,645                                                                    |  |  |                                                                           |  |  |                                                                                                        |  |  | 1.25                         |  |  | 4/4/13                   |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  | 86,207                                                                    |  |  |                                                                           |  |  |                                                                                                        |  |  | 1.25                         |  |  | 5/9/13                   |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  | 92,593                                                                    |  |  |                                                                           |  |  |                                                                                                        |  |  | .50                          |  |  | 7/17/14                  |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  | 21,008                                                                    |  |  |                                                                           |  |  |                                                                                                        |  |  | .50                          |  |  | 8/6/15                   |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  |                                                                           |  |  |                                                                            |  |  |                                                                                                         |  |  |                              |  |  |                          |  |  |                                                                     |  |  |                                                                           |  |  |                                                                                                                   |  |  |                                                                                                                                     | 
|Kevin Kroger       |  |  | 50,000                                                                    |  |  | 50,000                                                                     |  |  |                                                                                                        |  |  | 0.26                         |  |  | 06/10/18                 |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  | 100,000                                                                   |  |  |                                                                           |  |  |                                                                                                        |  |  | 1.70                         |  |  | 01/10/13                 |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  |                                                                          |  |  | 100,000                                                                    |  |  |                                                                                                        |  |  | 0.21                         |  |  | 9/8/20                   |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  |                                                                           |  |  |                                                                            |  |  |                                                                                                         |  |  |                              |  |  |                          |  |  |                                                                     |  |  |                                                                           |  |  |                                                                                                                   |  |  |                                                                                                                                     | 
|Alan Sandler       |  |  | 50,000                                                                    |  |  | 50,000                                                                     |  |  |                                                                                                        |  |  | 0.26                         |  |  | 06/10/18                 |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  | 50,000                                                                    |  |  | 50,000                                                                     |  |  |                                                                                                        |  |  | 0.30                         |  |  | 08/05/18                 |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 
|                   |  |  |                                                                          |  |  | 75,000                                                                     |  |  |                                                                                                        |  |  | 0.21                         |  |  | 9/8/20                   |  |  |                                                                    |  |  |                                                                          |  |  |                                                                                                                  |  |  |                                                                                                                                    | 

30

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Table of Contents

Incentive and Non-qualified Stock Option and
Stock Award Plans

On July 29,
2010, the Board of Directors approved the adoption of a stock option plan (the
2010 Option Plan), which provides for the granting of up to 2,000,000
options, subject to stockholder approval, (for both incentive and non-qualified
stock options to key personnel, including officers, directors, consultants and
advisors to the Company, based upon the determination of the Board of
Directors.

The Board
of Directors adopted the 2000 Non-Employee Directors Plan (the Directors
Plan) on November 8, 2000 under which options to purchase 400,000 shares have
been authorized for issuance. The Directors Plan will provide a means for us
to attract and retain highly qualified persons to serve as non-employee
directors and advisory directors.

Each member
of the Board of Directors was automatically granted 5,000 options at the date
of commencement of the Directors Plan and on their initial election as new
members to the Board of Directors. Each director receives an additional 5,000
options at the close of each annual meeting of stockholders. Additionally, each
director automatically receives 2,500 options for each committee of the Board
on which the director serves. Options are granted at a price equal to the fair
market value of the stock on the date of grant, are exercisable commencing two
years following grant, and will expire five years from the date of grant. In
the event a person ceases to serve on the Board of Directors, the outstanding
options expire one year from the date of cessation of service. The Board of
Directors administers the Directors Plan.

Our 1999
Stock Option Plan (the 1999 Plan) was adopted on September 15, 1999 and
amended in June 2000. The plan were adopted to increase proprietary interest in
our company of our employees, consultants, and non-employee directors and to
align more closely their interests with the interests of our stockholders. The
plans may also serve to enhance our ability to attract and retain the services
of experienced and highly qualified employees and non-employee directors. The
1999 Stock Option Plan expired on September 15, 2009.

Under the
1999 Plan and 1996 Plan, we reserved an aggregate of 3,000,000 and 2,200,000
shares, respectively, of common stock for issuance pursuant to options granted
under the plans. The Compensation Committee of the Board of Directors administers
the plans including, without limitation, the selection of the persons who will
be granted plan options under the plans, the type of plan options to be
granted, the number of shares subject to each plan option and the plan option
price.

Options
granted under the 1996 Plan and the 1999 Plan may either be options qualifying
as incentive stock options under Section 422 of the Internal Revenue Code of
1986, as amended, or non-qualified options. In addition, the plans also allow
for the inclusion of a reload option provision, which permits an eligible
person to pay the exercise price of the plan option with shares of common stock
owned by the eligible person and receive a new plan option to purchase shares
of common stock equal in number to the tendered shares. Any incentive option
granted under the plans must provide for an exercise price of not less than
100% of the fair market value of the underlying shares on the date of such
grant, but the exercise price of any incentive option granted to an eligible
employee owning more than 10% of our common stock must be at least 110% of such
fair market value as determined on the date of the grant. The term of each plan
option and the manner in which it may be exercised is determined by the Board
of the Directors or the Committee, provided that no plan option may be
exercisable more than 10 years after the date of its grant and, in the case of
an incentive option granted to an eligible employee owning more than 10% of our
common stock, no more than five years after the date of the grant.

The
exercise price of non-qualified options is determined by the Board of Directors
or the Committee and cannot be less than the par value of our common stock. The
per share purchase price of shares subject to plan options granted under the
plans may be adjusted in the event of certain changes in our capitalization,
but any such adjustment will not change the total purchase price payable upon
the exercise in full of plan options granted under the plans. Our officers,
directors, key

31

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employees and consultants are eligible to receive non-qualified options
under the plans. Only our officers, directors and employees who are employed by
us are eligible to receive incentive options.

All plan
options are generally non-assignable and nontransferable, except by will or by
the laws of descent and distribution, and during the lifetime of the optionee,
may be exercised only by such optionee. If an optionees employment is
terminated for any reason, other than his death or disability or termination
for cause, or if an optionee is not our employee but is a member of our Board
of Directors and his service as a director is terminated for any reason, other
than death or disability, the plan option granted to him generally will lapse
to the extent unexercised on the earlier of the expiration date or one year
following the date of termination. If the optionee dies during the term of his
employment, the plan option granted to him generally will lapse to the extent
unexercised on the earlier of the expiration date of the plan option or the
date one year following the date of the optionees death. If the optionee is
permanently and totally disabled within the meaning of Section 22 (c)(3) of the
Internal Revenue Code of 1986, the plan option granted to him generally lapses
to the extent unexercised on the earlier of the expiration date of the option
or one year following the date of such disability.

The Board
of Directors or the Committee may amend, suspend or terminate the plans at any
time, except that no amendment shall be made which:

| |   |                                                                                                                                                                                                       
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | increases the total number of shares subject to the plans or changes
 the minimum purchase price therefore (except in either case in the event of
 adjustments due to changes in ours capitalization),
| |  | extends the term of any plan option beyond 10 years, or                                                                                                                                               
| |  | extends the termination date of the plan.                                                                                                                                                             

The 1996
Plan terminated on July 31, 2006. During 2009, options to purchase 5,150 which
were granted under the 1996 Plan prior to its termination expired. The 1999
plan terminated on September 15, 2009.

As of
December 31, 2009, under the Directors Plan, options to purchase 145,000
shares of common stock were outstanding. As of December 31, 2009, under the
1996 Plan, there were no non-qualified options outstanding and, under the 1999
Plan, incentive stock options to purchase 1,685,075 shares of common stock were
outstanding and non-qualified options to purchase 80,000 shares of common stock
were outstanding.

Director Compensation

Each member of the Board of Directors is automatically granted 5,000
options upon election or appointment as a new member of the Board of Directors.
Each director receives an additional 5,000 options at the close of each annual
meeting of stockholders or on the anniversary of their appointment to the
Board. Additionally, each director automatically received 2,500 options for
each committee of the Board on which the director serves. Options are granted
at a price equal to the fair market value of the stock on the date of grant,
are exercisable commencing two years following grant, and will expire five
years from the date of grant. In the event a person ceases to serve on the
Board of Directors, the outstanding options expire one year from the date of
cessation of service.

The following table provides information concerning the compensation of
our Board members for their services as members of our Board of Directors for
2010. The value
attributable to any option awards is computed in accordance with FASB ASC Topic
718.

|                      |  |  |                                     |  |  |                        |  |  |                   |  |  |                                                |  |  |                                                     |  |  |                               |  |  |            | 
|--------------------- |  |  | ----------------------------------- |  |  | ---------------------- |  |  | ----------------- |  |  | ---------------------------------------------- |  |  | --------------------------------------------------- |  |  | ----------------------------- |  |  | ---------- | 
|                      |  |  |                                     |  |  | Director
 Compensation |  |  |                   |  |  |                                                |  |  |                                                     | 
|Name                  |  |  | Fees
 earned
 or paid in
 cash
 ($) |  |  | Stock
 awards
 ($)     |  |  | Option
 awards($) |  |  | Non-equity
 incentive
 plan
 compensation
 ($) |  |  | Nonqualified
 deferred
 compensation
 earnings
 ($) |  |  | All
 other
 compensation
 ($) |  |  | Total
 ($) | 
|                      |  |  |                                     |  |  |                        |  |  |                   |  |  |                                                |  |  |                                                     |  |  |                               |  |  |            | 
|(a)                   |  |  | (b)                                 |  |  | (c)                    |  |  | (d)               |  |  | (e)                                            |  |  | (f)                                                 |  |  | (g)                           |  |  | (h)        | 
|Joseph V. Vittoria    |  |  |                                    |  |  |                       |  |  |                  |  |  |                                               |  |  |                                                    |  |  |                              |  |  |           | 
|John S. Caldwell (1)  |  |  |                                    |  |  |                       |  |  | 1,454             |  |  |                                               |  |  |                                                    |  |  |                              |  |  | 1,454      | 
|Forrest D. Hayes (2)  |  |  |                                    |  |  |                       |  |  | 2,257             |  |  |                                               |  |  |                                                    |  |  |                              |  |  | 2,257      | 
|Kevin G. Kroger       |  |  |                                    |  |  |                       |  |  |                  |  |  |                                               |  |  |                                                    |  |  |                              |  |  |           | 
|Dominick Telesco (3)  |  |  | 24,000                              |  |  |                       |  |  | 1,132             |  |  |                                               |  |  |                                                    |  |  |                              |  |  | 25,132     | 
|Charles W. Walton (4) |  |  |                                    |  |  |                       |  |  | 1,698             |  |  |                                               |  |  |                                                    |  |  |                              |  |  | 1,698      | 

32

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|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | On October 7,
 2010, General Caldwell was granted options to purchase 7,500 shares of common
 stock at an exercise price of $0.23 per share, vesting on August 25, 2012 and
 expiring on August 25, 2015.                                                                                                                                                                                                                                                                                                                                                                                                    
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|(2) | On November 17,
 2010, Mr. Hayes was granted options to purchase 10,000 shares of common stock
 at an exercise price of $0.27 per share, vesting on November 10, 2012 and
 expiring on November 10, 2015.                                                                                                                                                                                                                                                                                                                                                                                                    
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|(3) | On December 17,
 2010, Mr. Telesco was granted options to purchase 5,000 shares of common
 stock at an exercise price of $0.28 per share, vesting on December 17, 2012
 and expiring on December 17, 2015. On October 20, 2009, the Company entered
 into a consulting agreement with Boxwood Associates, Inc., whereby the
 Company pays $2,000 monthly for management and strategic development services
 performed. The contract will remain in effect until December 31, 2010, unless
 terminated by either party providing 30 days written notice. Mr. Telesco is
 President of Boxwood Associates, Inc.
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|(4) | On October 7,
 2010, Dr. Walton was granted options to purchase 7,500 shares of common stock
 at an exercise price of $0.23 per share, vesting on August 25, 2012 and
 expiring on August 25, 2015.                                                                                                                                                                                                                                                                                                                                                                                                          

|         |                                                                                                
|-------- | -----------------------------------------------------------------------------------------------
|ITEM 12. | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
 OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

At April 5,
2011 we had 46,482,621 shares of our common stock issued and outstanding. The
following table sets forth information regarding the beneficial ownership of
our common stock as April 5, 2011 by:

| |   |                                                                                         
| | - | ----------------------------------------------------------------------------------------
| |  | each person known by us to be the beneficial owner of more than 5% of
 our common stock;
| |  | each of our directors;                                                                  
| |  | each of our named executive officers; and                                               
| |  | our named executive officers, directors and director nominees as a
 group.              

Unless
otherwise indicated, the business address of each person listed is in care of
2017 High Ridge Road, Boynton Beach, Florida 33426. The percentages in the
table have been calculated on the basis of treating as outstanding for a
particular person, all shares of our common stock outstanding on that date and
all shares of our common stock issuable to that holder in the event of exercise
of outstanding options, warrants, rights or conversion privileges owned by that
person at that date which are exercisable within 60 days of that date. Except
as otherwise indicated, the persons listed below have sole voting and
investment power with respect to all shares of our common stock owned by them,
except to the extent that power may be shared with a spouse.

|                                                                             |  |  |                                            |  |  |             |  
|---------------------------------------------------------------------------- |  |  | ------------------------------------------ |  |  | ----------- | -
|NAME OF BENEFICIAL OWNER                                                     |  |  | AMOUNT AND NATURE OF
 BENEFICIAL OWNERSHIP |  |  | % OF
 CLASS |  
|Joseph V. Vittoria (1)                                                       |  |  | 6,033,691                                  |  |  | 12.8        | %
|Kevin G. Kroger (2)                                                          |  |  | 842,709                                    |  |  | 1.5         | %
|Alan J. Sandler (3)                                                          |  |  | 158,392                                    |  |  | *           |  
|Lieutenant General John S. Caldwell, Jr. US
 Army (retired)(4)               |  |  | 72,500                                     |  |  | *           |  
|Forrest D. Hayes (5)                                                         |  |  | 30,000                                     |  |  | *           |  
|Dominick Telesco (6)                                                         |  |  | 6,494,188                                  |  |  | 13.7        | %
|Dr. Charles W. Walton (7)                                                    |  |  | 422,857                                    |  |  | *           |  
|All officers and directors as a group
 (eight persons) (1)(2)(3)(4)(5)(6)(7) |  |  | 14,664,337                                 |  |  |             |  
|Quantum Industrial Partners, LDC (8)                                         |  |  | 4,570,000                                  |  |  | 9.8         | %
|Glenhill Capital Management, LP (9)                                          |  |  | 4,364,661                                  |  |  | 9.4         | %

|    |                                                                    |                                                                                                   
|--- | ------------------------------------------------------------------ | --------------------------------------------------------------------------------------------------
|*   | represents
 less than 1%                                          
|    |                                                                   
|(1) | The number
 of shares beneficially owned by Mr. Vittoria includes:
|    |                                                                   | warrants to
 purchase 80,000 shares of common stock at $1.25 per share through November
 15, 2011;
|    |                                                                   | warrants to
 purchase 150,000 shares of common stock at $1.25 per share through March 24,
 2013;  

33

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Table of Contents

|    |                                                                        |                                                                                                                                   
|--- | ---------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------------------------------------------
|    |                                                                       | warrants to purchase 71,429 shares of common stock at $1.25 per share
 through March 26, 2013;                                    
|    |                                                                       | warrants to purchase 80,645 shares of common stock at $1.25 per share
 through April 4, 2013;                                     
|    |                                                                       | warrants to purchase 86,207 shares of common stock at $1.25 per share
 through May 9, 2013;                                       
|    |                                                                       | warrants to purchase 92,593 shares of common stock at $.50 per share
 through July 17, 2014;                                      
|    |                                                                       | warrants to purchase 21,008 shares of common stock at $.50 per share
 through August 6, 2015; and                                 
|    |                                                                       | warrants to purchase 20,492 shares of common stock at $.50 per share
 through January 10, 2016                                    
|    |                                                                        |                                                                                                                                   
|(2) | The number
 of shares beneficially owned by Mr. Kroger includes:      
|    |                                                                       | options to purchase 100,000 shares of common stock at $1.70 per share
 through January 10, 2013;                                  
|    |                                                                       | options to purchase 50,000 shares of common stock at $.26 per share
 through June 10, 2018;                                       
|   
|    | The number of shares beneficially owned by Mr. Kroger excludes:       
|    |                                                                       | unvested options to purchase 50,000 shares of our common stock at an
 exercise price of $.26 per share through June 10, 2018.     
|    |                                                                       | unvested options to purchase 100,000 shares of our common stock at an
 exercise price of $.21 per share through September 8, 2020.
|    |                                                                       | unvested options to purchase 150,000 shares of our common stock at an
 exercise price of $.28 per share through February 4, 2021. 
|    |                                                                        |                                                                                                                                   
|(3) | The number
 of shares beneficially owned by Mr. Sandler includes:     
|    |                                                                       | options to purchase 100,000 shares of common stock at $.30 per share
 through August 5, 2018;                                     
|    |                                                                       | options to purchase 25,000 shares of common stock at $.26 per share
 through June 10, 2018;                                       
|   
|    | The number of shares beneficially owned by Mr. Sandler excludes:      
|    |                                                                       | unvested options to purchase 50,000 shares of our common stock at an
 exercise price of $.26 per share through June 10, 2018.     
|    |                                                                       | unvested options to purchase 50,000 shares of our common stock at an
 exercise price of $.30 per share through August 5, 2018.    
|    |                                                                       | unvested options to purchase 75,000 shares of our common stock at an
 exercise price of $.21 per share through September 8, 2020. 
|    |                                                                       | unvested options to purchase 75,000 shares of our common stock at an
 exercise price of $.28 per share through February 4, 2021.  
|    |                                                                        |                                                                                                                                   
|(4) | The number
 of shares beneficially owned by General Caldwell excludes:
|    |                                                                       | unvested options to purchase 7,500 shares of common stock at $0.34
 per share through August 28, 2014.                            
|    |                                                                       | unvested options to purchase 7,500 shares of common stock at $0.23
 per share through August 25, 2015                             
|    |                                                                       
|(5) | The number
 of shares beneficially owned by Mr. Hayes includes:       
|    |                                                                       | options to purchase 10,000 shares of common stock at $0.37 per share
 through November 10, 2011;                                  
|    |                                                                       | options to purchase 10,000 shares of common stock at $0.37 per share
 through November 10, 2012.                                  
|    |                                                                       | options to purchase 10,000 shares of common stock at $0.38 per share
 through September 22, 2013                                  
|   
|    | The number of shares beneficially owned by Mr. Hayes excludes:        
|    |                                                                       | unvested options to purchase 10,000 shares of common stock at $.25
 per share through November 10, 2014.                          
|    |                                                                       | unvested options to purchase 10,000 shares of common stock at $.27
 per share through November 10, 2015.                          
|    |                                                                       
|(6) | The number
 of shares beneficially owned by Mr. Telesco includes:     
|    |                                                                       | warrants to purchase 100,000 shares of common stock at $1.25 per
 share through October 1, 2011;                                  
|    |                                                                       | warrants to purchase 150,000 shares of common stock at $1.25 per
 share through March 24, 2013;                                   
|    |                                                                       | warrants to purchase 81,967 shares of common stock at $1.25 per share
 through May 14, 2013;                                      
|    |                                                                       | warrants to purchase 92,593 shares of common stock at $1.25 per share
 through July 1, 2013;                                      
|    |                                                                       | warrants to purchase 208,333 shares of common stock at $1.25 per
 share through November 20, 2013;                                
|    |                                                                       | warrants to purchase 100,000 shares of common stock at $.50 per share
 through February 3, 2014;                                  
|    |                                                                       | warrants to purchase 138,889 shares of common stock at $.50 per share
 through May 6, 2014;                                       
|    |                                                                       | warrants to purchase 18,727 shares of common stock at $.50 per share
 through January 24, 2016;                                   
|    |                                                                       | options to purchase 5,000 shares of common stock at $.66 per share
 through December 18, 2011;                                    

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|                                                                                                                                                                                                                                                                                                       |                                                                  |                                                                                                        
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | ---------------------------------------------------------------- | -------------------------------------------------------------------------------------------------------
|                                                                                                                                                                                                                                                                                                       |                                                                 | options to purchase 5,000 shares of common stock at $.47 per share
 through December 17, 2012          
|                                                                                                                                                                                                                                                                                                       |                                                                 | options to purchase 5,000 shares of common stock at $.47 per share
 through December 19, 2013          
|                                                                                                                                                                                                                                                                                                       |                                                                  |                                                                                                        
|                                                                                                                                                                                                                                                                                                       | The number of shares beneficially owned by Mr. Telesco excludes:
|                                                                                                                                                                                                                                                                                                       |                                                                 | unvested options to purchase 5,000 shares of common stock at $.16 per
 share through December 18, 2014.
|                                                                                                                                                                                                                                                                                                       |                                                                 | unvested options to purchase 5,000 shares of common stock at $0.28
 per share through December 17, 2015
|                                                                                                                                                                                                                                                                                                       |                                                                 
|(7)                                                                                                                                                                                                                                                                                                    | The number of shares beneficially owned by Dr. Walton includes: 
|                                                                                                                                                                                                                                                                                                       |                                                                 | options to purchase 5,000 shares of common stock at $0.42 per share
 through August 25, 2010;          
|                                                                                                                                                                                                                                                                                                       |                                                                 | options to purchase 2,500 shares of common stock $0.68 per share
 through November 30, 2010;           
|                                                                                                                                                                                                                                                                                                       |                                                                 | warrants to purchase 21,429 shares of common stock at $1.25 per share
 through October 1, 2011;        
|                                                                                                                                                                                                                                                                                                       |                                                                 | options to purchase 7,500 shares of common stock at $0.37 per share
 through August 25, 2011;          
|                                                                                                                                                                                                                                                                                                       |                                                                 | options to purchase 7,500 shares of common stock at $0.37 per share
 through August 25, 2012.          
|                                                                                                                                                                                                                                                                                                       |                                                                 | options to purchase 7,500 shares of common stock at $0.38 per share
 through September 22, 2013        
|                                                                                                                                                                                                                                                                                                       |                                                                 
|                                                                                                                                                                                                                                                                                                       | The number of shares beneficially owned by Dr. Walton excludes: 
|                                                                                                                                                                                                                                                                                                       |                                                                 | unvested options to purchase 7,500 shares of common stock at $0.34
 per share through August 25, 2014. 
|                                                                                                                                                                                                                                                                                                       |                                                                 | Unvested options to purchase 7,500 shares of common stock at $0.23
 per share through August 25, 2015. 
|                                                                                                                                                                                                                                                                                                      
|(8)     The
 address for Quantum Industrial Partners, LTDC is c/o Curacao Corporation
 Company, N.V., Kaya Flamboyan, Willenstad Curacao, Netherlands, Antilles.                                                                                                                                      
|                                                                                                                                                                                                                                                                                                      
|(9)      The
 address for Glenhill Capital Management, LP is 598 Madison Avenue, 12th
 Floor, New York, NY 10022. The number of shares beneficially owned by
 Glenhill Capital Management, LP includes warrants to purchase 89,286 shares
 of common stock at $1.25 per share through October 1, 2011.

Securities Authorized for Issuance under Equity Compensation
Plans

The
following table sets forth securities authorized for issuance under any equity
compensation plans approved by our stockholders as well as any equity
compensation plans not approved by our stockholders as of December 31, 2009.


|                                   |  |  |                                                                                                       |  |  |                                                                                      |  |  |                                                                                                                                                      | 
|---------------------------------- |  |  | ----------------------------------------------------------------------------------------------------- |  |  | ------------------------------------------------------------------------------------ |  |  | ---------------------------------------------------------------------------------------------------------------------------------------------------- | 
|                                   |  |  |                                                                                                       |  |  |                                                                                      |  |  |                                                                                                                                                      | 
|                                   |  |  | Number of
 securities to
 be issued upon exercise
 of outstanding options,
 warrants and rights 
 (a) |  |  | Weighted
 average
 exercise price of
 outstanding options,
 warrants and rights
 (b) |  |  | Number of
 securities
 remaining available for
 future issuance under equity
 compensation plans
 (excluding securities
 reflected in column (a) (c) | 
|Plan category                      |  |  |                                                                                                       |  |  |                                                                                      |  |  |                                                                                                                                                      | 
|Plans approved by stockholders:    |  |  |                                                                                                       |  |  |                                                                                      |  |  |                                                                                                                                                      | 
|1996 Stock Option Plan             |  |  |                                                                                                      |  |  |                                                                                     |  |  | NA                                                                                                                                                   | 
|1999 Stock Option Plan             |  |  | 1,245,075                                                                                             |  |  | .58                                                                                  |  |  |                                                                                                                                                     | 
|2010 Stock Option Plan             |  |  | 766,508                                                                                               |  |  | .16                                                                                  |  |  | 1,233,492                                                                                                                                            | 
|2000 Non-Employee Directors Plan   |  |  | 150,00                                                                                                |  |  | .34                                                                                  |  |  | 250,000                                                                                                                                              | 
|                                   |  |  |                                                                                                       |  |  |                                                                                      |  |  |                                                                                                                                                      | 
|Plans not approved by stockholders |  |  | 1                                                                                                     |  |  | N/A                                                                                  |  |  | N/A                                                                                                                                                  | 

A
description of each of these plans is contained earlier in this report under
Part III, Item 11. Executive Compensation - Stock Option Plans.

35

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Table of Contents

|         |                                                                           
|-------- | --------------------------------------------------------------------------
|ITEM 13. | CERTAIN RELATIONSHIPS AND RELATED
 TRANSACTION, AND DIRECTOR INDEPENDENCE.

In July
2001, we received promissory notes from two of our officers, Messrs. Richard C.
Ford and Alan J. Sandler, for the exercise of their vested stock options in the
amount of $875,256 and bearing interest of 5.63%. The principal and accrued
interest are due upon the earlier of the expiration of the original option
periods, which range from July 2008 to December 2009, or upon the sale of the
common stock acquired by the execution of the options. During 2009, we recorded
approximately $43,000 of interest reserves relating to these stockholder notes.

As of
December 31, 2009, all three notes, totaling $756,250, from Mr. Ford were
delinquent. The Company is in litigation with Mr. Ford, attempting to obtain
some or all of the underlying collateral or payment of the note.

In July
2008 we received from Mr. Sandler, an executive officer, a stock certificate
for 260,000 shares of our common stock, which served as collateral for a loan
in the principal amount of $97,500 made to him in July 2001 as satisfaction for
the principal amount of the loan. In 2010, accrued but unpaid interest in the
amount of $33,958 was cancelled in connection with the return of the stock
certificate and satisfaction of the loan.

On March
28, 2002, we executed a letter agreement with Mr. Vittoria, our CEO and
Chairman, whereby he agreed to initially fund up to $2.5 million. The letter
agreement, as currently amended, provides that he will fund up to $6.1 million
to us on a unsecured basis. During March of each year, 2006 through 2011,
the maturity date for the agreement was extended annually from December 31,
2007 to December 31, 2012.

Amounts
drawn bear interest at the prime rate per annum payable monthly and are due
December 31, 2012 or (i) at such time as we have raised an additional $7
million over the $3.5 million raised in prior offerings, or (ii) at such time
as we are operating within sufficient cash flow parameters to sustain operations,
or (iii) until a disposition of our company, such as an acquisition or merger,
occurs. In consideration entering into this loan agreement, we granted Mr.
Vittoria common stock purchase warrants to purchase a total of 475,000 shares
of our common stock at an exercise price equal to the closing market price on
the dates of grant. During 2010, the Company borrowed a total of $651,500. As
of December 31, 2010, we have drawn $6.4 million of the available funds, and
paid $157,866 in related interest.

On
May 8, 2009, the Company modified the exercise price of 100,000 warrants
previously issued to Mr. Dominick Telesco, a member of its Board of Directors,
on February 3, 2009 from $1.25 per share to $.50 per share. These warrants were
previously issued to Mr. Telesco as consideration for a loan to the Company. In
connection therewith, the Company recognized an expense of $11,000 as a result
of this modification.

On October
20, 2009, the Company entered into a consulting agreement with Boxwood
Associates, Inc., whereby the company pays $2,000 monthly for management and
strategic development services performed. The contract remains in effect until
December 31, 2011, unless terminated by either party providing 30 days written
notice. Mr. Dominick Telesco, a shareholder, is President of Boxwood
Associates, Inc.

On
November 10, 2009 and December 2010 the Company received  loans from Mr.
Dominick Telesco, a shareholder, who is also a Board member, in the amount of
$25,000 on each date. Mr. Telesco has instructed the Company to consider the
payments as a contribution to the capital of the company. The proceeds were
used for working capital.

Director Independence

John
S. Caldwell, Forrest D. Hayes, Dominick Telesco and Charles W. Walton qualify
as independent within the meaning of Rule 5605 of the NASDAQ Marketplace
Rules.

|         |                                        
|-------- | ---------------------------------------
|ITEM 14. | PRINCIPAL ACCOUNTANT FEES AND SERVICES.

Webb
and Company, P.A. served
as our independent registered public accounting firm for fiscal 2010 and fiscal
2009. The following table shows the fees that were billed for the audit and
other services provided by such firm for fiscal 2010 and fiscal 2009.

|                   |  |   |             |  |   |             | 
|------------------ |  | - | ----------- |  | - | ----------- | 
|                   |  |   | Fiscal 2010 |  |   | Fiscal 2009 | 
|                   |  |   |             |  |   |             | 
|Audit Fees         |  | $ | 57,608      |  | $ | 36,928      | 
|Audit-Related Fees |  |   |            |  |   | 930         | 
|Tax Fees           |  |   |            |  |   |            | 
|All Other Fees     |  |   |            |  |   |            | 
|Total              |  | $ | 57,608      |  | $ | 37,858      | 

36

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Table of Contents

Audit
Fees  This category
includes the audit of our annual financial statements, review of financial
statements included in our Form 10-Q Quarterly Reports and services that are
normally provided by the independent auditors in connection with engagements
for those fiscal years. This category also includes advice on audit and
accounting matters that arose during, or as a result of, the audit or the review
of interim financial statements.

Audit-Related
Fees  This category
consists of assurance and related services by the independent auditors that are
reasonably related to the performance of the audit or review of our financial
statements and are not reported above under Audit Fees. The services for the
fees disclosed under this category include consultation regarding our
correspondence with the SEC and other accounting consulting.

Tax
Fees  This category
consists of professional services rendered by our independent auditors for tax
compliance and tax advice. The services for the fees disclosed under this
category include tax return preparation and technical tax advice.

All
Other Fees  This
category consists of fees for other miscellaneous items.

Our
Board of Directors has adopted a procedure for pre-approval of all fees charged
by our independent auditors. Under the procedure, the Board approves the
engagement letter with respect to audit, tax and review services. Other fees
are subject to pre-approval by the Board, or, in the period between meetings,
by a designated member of Board. Any such approval by the designated member is
disclosed to the entire Board at the next meeting. The audit and tax fees paid
to the auditors with respect to fiscal year 2010 were pre-approved by the
entire Board of Directors.

PART IV

|         |                                        
|-------- | ---------------------------------------
|ITEM 15. | EXHIBITS, FINANCIAL STATEMENT SCHEDULES

The
following documents are filed as a part of this report or are incorporated by
reference to previous filings, if so indicated:

|             |  |             |                                                                                                                                             
|------------ |  | ----------- | --------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit
 No. |  | Description
|3.1          |  |             | Amended and Restated Certificate of Incorporation dated December 30,
 1996 (2)                                                              
|3.2          |  |             | Certificate of Amendment to Certificate of Incorporation dated
 February 3, 1998 (3)                                                        
|3.3          |  |             | Bylaws (1)                                                                                                                                  
|4.1          |  |             | Form of common stock certificate (8)                                                                                                        
|4.2          |  |             | Form of Class A Warrant issued to Mr. Vittoria (9)                                                                                          
|4.3          |  |             | Form of $1.25 common stock purchase warrant (7)                                                                                             
|10.1         |  |             | 1996 Stock Option Plan (1)                                                                                                                  
|10.2         |  |             | 1999 Stock Option Plan (4)                                                                                                                  
|10.3         |  |             | 2000 Non-Employee Directors Plan (5)                                                                                                       
|10.4         |  |             | 2002 Audit Committee Charter (6)                                                                                                            
|10.5         |  |             | Agreement between T/F Systems, Inc. and T/F Purifiner, Inc. dated
 March 1, 1991 (1)                                                        
|10.6         |  |             | Asset Purchase Agreement between T/F Systems, Inc. and T/F Purifiner,
 Inc. dated December 31, 1995 (1)                                     
|10.7         |  |             | Lease
 Amendment #2 between Puradyn Filter Technologies, Inc. and Premier Gateway
 Center at Quantum LLP (10)                               
|10.8         |  |             | Master Distributor Agreement dated February 18, 2008 by and between
 Puradyn Filter Technologies Incorporated and Filter Solutions Ltd. (11)
|10.9         |  |             | Employment Agreement dated July 3, 2000 between Puradyn Filter
 Technologies Incorporated and Kevin Kroger, as amended (11)                 
|10.10        |  |             | Extension of Note from Mr. Vittoria*                                                                                                        
|10.11        |  |             | Consulting Agreement dated October 20, 2009 between Puradyn Filter
 Technologies Incorporated and Boxwood Associates, Inc.*                 

37

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Table of Contents

|      |  |  |                                                          
|----- |  |  | ---------------------------------------------------------
|10.12 |  |  | 2010 Stock Option Plan (13)                              
|14.1  |  |  | Business Ethics and Conflicts of Interest Statement (6)  
|21.1  |  |  | Subsidiaries of the registrant (11)                      
|23.1  |  |  | Consent of Independent Registered Public Accounting Firm*
|31.1  |  |  | Section 302 certification of Chief Executive Officer *   
|31.2  |  |  | Section 302 certification of Chief Financial Officer *   
|32.1  |  |  | Section 906 certification of Chief Executive Officer *   
|32.2  |  |  | Section 906 certification of Chief Financial Officer *   
|99.1  |  |  | Form of Subscription Agreement (11)                      

|     |                                                                                                                                                                                                        | 
|---- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | 
|     |                                                                                                                                                                                                        | 
|*    | filed herewith                                                                                                                                                                                         | 
|     |                                                                                                                                                                                                       
|(1)  | Incorporated by reference from the exhibits to the registration
 statement on Form 10-SB, SEC File No. 001-11991, as filed with the Securities
 and Exchange Commission, on July 30, 1996, as amended.
|(2)  | Incorporated by reference from the exhibit to the Current Report on
 Form 8-K as filed on January 9, 1997.                                                                                            
|(3)  | Incorporated by reference from the exhibit to the Current Report on
 Form 8-K/A as filed on February 12, 1998.                                                                                        
|(4)  | Incorporated by reference to the registration statement on Form S-8,
 SEC File No. 333-91379, as filed with the Securities and Exchange Commission
 on November 22, 1999.                             
|(5)  | Incorporated by reference from the exhibits to the Annual Report on
 Form 10-KSB/A for the fiscal year ended December 31, 2000.                                                                       
|(6)  | Incorporated by reference from the exhibits to the Annual Report on
 Form 10-KSB for the fiscal year ended December 31, 2003.                                                                         
|(7)  | Incorporated by reference to the Current Report on Form 8-K as filed
 on October 10, 2006.                                                                                                            
|(8)  | Incorporated by reference to exhibits to the Form 8-A as filed with
 the Securities and Exchange Commission on December 6, 2001.                                                                      
|(9)  | Incorporated by reference to exhibits to the Quarterly Report on Form
 10-QSB for the period ended March 31, 2005.                                                                                    
|(10) | Incorporated by reference to the exhibits to the Quarterly Report on
 Form 10-Q for the period ended June 30, 2008.                                                                                   
|(11) | Incorporated by reference to the registration statement on Form S-1,
 SEC File No. 333-155,054, as declared effective on November 14, 2008, as
 amended.                                              
|(12) | Incorporated by reference to the Annual Report on Form 10-K for the
 fiscal year ended December 31, 2008.                                                                                             
|(13) | Incorporated by reference to the registration statement on Form S-8,
 SEC File No. 333-169441, as filed with the Securities and Exchange Commission
 on September 16, 2010.                           

38

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Table of Contents

SIGNATURES

In accordance with Section 13 or 15(d) of the
Exchange Act, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.

| |                                                       | 
| | ----------------------------------------------------- | 
| | Puradyn Filter Technologies Incorporated (Registrant) | 
| |                                                       | 
| | By: /s/  Joseph V. Vittoria                           | 
| | Chairman
 and Chief Executive Officer                 | 
| | Date:    April 8, 2011                                | 

In
accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.

Date:     April
8, 2011

|    |                                                                                                                                       
|--- | --------------------------------------------------------------------------------------------------------------------------------------
|By: | /s/ Joseph V. Vittoria                                                                                                                
|    | Joseph V. Vittoria                                                                                                                    
|    | Chief Executive Officer and Chairman of the
 Board, principal executive officer                                                       
|By: |                                                                                                                                       
|    | /s/ Alan J. Sandler                                                                                                                   
|    | Alan J. Sandler                                                                                                                       
|    | principal financial officer and principal accounting officer, Vice
 President, Chief Administrative Officer and Secretary to the Board
|By: |                                                                                                                                       
|    | /s/ Kevin G. Kroger                                                                                                                   
|    | Kevin G. Kroger, President and Chief                                                                                                  
|    | Operating Officer and Director                                                                                                        
|By: |                                                                                                                                       
|    | /s/ John S. Caldwell                                                                                                                  
|    | John S. Caldwell, Director                                                                                                            
|By: |                                                                                                                                       
|    | /s/ Forrest D. Hayes                                                                                                                  
|    | Forrest D. Hayes, Director                                                                                                            
|By: |                                                                                                                                       
|    | /s/ Charles W. Walton                                                                                                                 
|    | Charles W. Walton, Director                                                                                                           
|By: |                                                                                                                                       
|    | /s/ Dominick
 Telesco                                                                                                                 
|    | Dominick
 Telesco, Director                                                                                                           

39

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Table of Contents

Report of Independent Registered Public Accounting Firm

Board of
Directors and Stockholders
Puradyn Filter Technologies Incorporated

We have
audited the accompanying consolidated balance sheets of Puradyn Filter
Technologies Incorporated (the Company) as of December 31, 2010 and 2009, and
the related consolidated statements of operations, changes in stockholders
deficit and cash flows for the two years then ended. These financial statements
are the responsibility of the Companys management. Our responsibility is to
express an opinion on these financial statements based on our audits.

We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company has
determined that it is not required to have, nor were we engaged to perform, an
audit of its internal control over financial reporting. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as
well as evaluating the overall financial statement presentation. We believe
that our audits provide a reasonable basis for our opinion.

In our
opinion, the financial statements referred to above present fairly, in all
material respects, the consolidated financial position of Puradyn Filter
Technologies Incorporated at December 31, 2010 and 2009, and the results of
their operations and their cash flows for the two years then ended in
conformity with accounting principles generally accepted in the United States
of America.

The
accompanying financial statements have been prepared assuming that the Company
will continue as a going concern. As discussed in Note 2, the Company has
suffered recurring losses from operations, its total liabilities exceed its
total assets, and it has relied on cash inflows from an institutional investor
and current stockholder. These conditions raise substantial doubt about the
Companys ability to continue as a going concern. Managements plans in regards
to these matters are also described in Note 2. The financial statements do not
include any adjustments that might result from the outcome of this uncertainty.

| |                           
| | --------------------------
| | /s/ Webb and Company, P.A.

Boynton Beach,
Florida
April 7, 2011

F-1

---



Table of Contents

Puradyn Filter Technologies Incorporated
Consolidated Balance Sheets

|                                                                                                                                 |  |               |             |      |   |             |  
|-------------------------------------------------------------------------------------------------------------------------------- |  | ------------- | ----------- | ---- | - | ----------- | -
|                                                                                                                                 |  | December
 31, |            
|                                                                                                                                 |  |               |            
|                                                                                                                                 |  | 2010          |             | 2009 |  
|Assets                                                                                                                           |  |               |             |      |   |             |  
|Current assets:                                                                                                                  |  |               |             |      |   |             |  
|Cash and cash equivalents                                                                                                        |  | $             | 49,813      |      | $ | 140,266     |  
|Accounts receivable, net of allowance for uncollectible accounts of
 $32,654 and $36,772, respectively                           |  |               | 166,367     |      |   | 97,072      |  
|Inventories, net                                                                                                                 |  |               | 774,818     |      |   | 851,069     |  
|Prepaid expenses and other current assets                                                                                        |  |               | 52,828      |      |   | 115,074     |  
|Total current assets                                                                                                             |  |               | 1,043,826   |      |   | 1,203,481   |  
|                                                                                                                                 |  |               |             |      |   |             |  
|Property and equipment, net                                                                                                      |  |               | 123,506     |      |   | 132,856     |  
|Other noncurrent assets                                                                                                          |  |               | 78,625      |      |   | 40,725      |  
|Deferred financing costs, net                                                                                                    |  |               | 2,013       |      |   | 4,027       |  
|Total assets                                                                                                                     |  |               | 1,247,970   |      | $ | 1,381,089   |  
|                                                                                                                                 |  |               |             |      |   |             |  
|Liabilities and stockholders deficit                                                                                            |  |               |             |      |   |             |  
|Current liabilities:                                                                                                             |  |               |             |      |   |             |  
|Accounts payable                                                                                                                 |  | $             | 217,248     |      | $ | 177,032     |  
|Accrued liabilities                                                                                                              |  |               | 1,262,798   |      |   | 1,148,318   |  
|Current portion of capital lease obligation                                                                                      |  |               | 1,989       |      |   | 3,271       |  
|Deferred revenues                                                                                                                |  |               | 2,743       |      |   | 73,336      |  
|Total current liabilities                                                                                                        |  |               | 1,484,778   |      |   | 1,401,957   |  
|Capital lease obligation, less current portion                                                                                   |  |               |            |      |   | 1,989       |  
|Notes Payable - stockholders                                                                                                     |  |               | 6,361,914   |      |   | 5,710,414   |  
|Total Long Term Liabilities                                                                                                      |  |               | 6,361,914   |      |   | 5,712,403   |  
|Total Liabilities                                                                                                                |  |               | 7,846,692   |      |   | 7,114,360   |  
|Commitments and contingencies                                                                                                    |  |               |            |      |   |            |  
|Stockholders deficit:                                                                                                           |  |               |             |      |   |             |  
|Preferred stock, $.001 par value:                                                                                                |  |               |            |      |   |            |  
|Authorized shares  500,000; None issued and outstanding                                                                         |  |               |             |      |   |             |  
|Common stock, $.001 par value, Authorized shares  50,000,000; Issued
 and outstanding  46,070,437 and 43,370,935, respectively |  |               | 46,071      |      |   | 43,371      |  
|Additional paid-in capital                                                                                                       |  |               | 46,079,970  |      |   | 45,407,337  |  
|Notes receivable from stockholders                                                                                               |  |               | (756,250    | )    |   | (790,209    | )
|Accumulated deficit                                                                                                              |  |               | (52,114,411 | )    |   | (50,540,355 | )
|Accumulated other comprehensive income                                                                                           |  |               | 145,898     |      |   | 146,584     |  
|Total stockholders deficit                                                                                                      |  |               | (6,598,722  | )    |   | (5,733,272  | )
|Total liabilities and stockholders deficit                                                                                      |  |               | 1,247,970   |      | $ | 1,381,089   |  

See accompanying notes to consolidated financial
statements.

F-2

---



Table of Contents

Puradyn Filter Technologies Incorporated

Consolidated Statements of Operations

|                                                              |  |                         |            |      |   |            |  
|------------------------------------------------------------- |  | ----------------------- | ---------- | ---- | - | ---------- | -
|                                                              |  | Years Ended December 31 |           
|                                                              |  | 2010                    |            | 2009 |  
|Net sales                                                     |  | $                       | 3,106,492  |      | $ | 1,911,451  |  
|                                                              |  |                         |            |      |   |            |  
|Costs and expenses:                                           |  |                         |            |      |   |            |  
|Cost of products sold                                         |  |                         | 2,355,198  |      |   | 1,766,434  |  
|Salaries and wages                                            |  |                         | 1,034,556  |      |   | 1,001,438  |  
|Selling and administrative                                    |  |                         | 1,093,682  |      |   | 880,899    |  
|Total
 Operating Costs                                        |  |                         | 4,483,436  |      |   | 3,648,771  |  
|Loss from operations                                          |  |                         | (1,376,944 | )    |   | (1,737,320 | )
|                                                              |  |                         |            |      |   |            |  
|Other (expense) income:                                       |  |                         |            |      |   |            |  
|Interest
 income                                              |  |                         | 104        |      |   | 649        |  
|Interest
 expense                                             |  |                         | (163,258   | )    |   | (157,606   | )
|Other
 expense                                                |  |                         | (33,958    | )    |   | (176,321   | )
|Total other expense                                           |  |                         | (197,112   | )    |   | (333,278   | )
|                                                              |  |                         |            |      |   |            |  
|Income taxes                                                  |  |                         |           |      |   |           |  
|                                                              |  |                         |            |      |   |            |  
|Net loss                                                      |  | $                       | (1,574,056 | )    | $ | (2,070,598 | )
|                                                              |  |                         |            |      |   |            |  
|Basic and diluted loss per common share                       |  | $                       | (.04       | )    | $ | (.05       | )
|                                                              |  |                         |            |      |   |            |  
|Basic and
 diluted weighted average common shares Outstanding |  |                         | 44,865,168 |      |   | 39,963,227 |  

See accompanying notes to consolidated
financial statements.

F-3

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Table of Contents

Puradyn
Filter Technologies Incorporated
Consolidated Statements of Changes in Stockholders Deficit

|                                                             |  |                       |            |        |   |                              |  |                        |            |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   |            |  
|------------------------------------------------------------ |  | --------------------- | ---------- | ------ | - | ---------------------------- |  | ---------------------- | ---------- | ------------------------------------ | - | -------------------- | - | ------------------------------------------------ | -------- | ----------------------------- | - | ----------- | - | - | -------- | - | - | ---------- | -
|                                                             |  | Common
 Stock
 Shares |            | Amount |   | Additional
 Paid-in
 Capital |  | Deferred
 Compensation |            | Notes
 Receivable
 From Stockholders |   | Accumulated
 Deficit |   | Accumulated
 Other
 Comprehensive
 Income (Loss) |          | Total
 Stockholders
 Deficit |  
|                                                             |  |                       |            |        |   |                              |  |                        |            |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   |            |  
|Balance at
 December 31, 2008                                |  |                       | 35,838,351 |        | $ | 35,839                       |  | $                      | 43,301,010 |                                      | $ | (118,736             | ) | $                                                | (966,531 | )                             | $ | (48,469,757 | ) | $ | 262,078  |   | $ | (5,956,097 | )
|Foreign currency translation adjustment                      |  |                       |           |        |   |                             |  |                        |           |                                      |   |                      |   |                                                  |         |                               |   |            |   |   | (115,494 | ) |   | (115,494   | )
|Net loss                                                     |  |                       |           |        |   |                             |  |                        |           |                                      |   |                      |   |                                                  |         |                               |   | (2,070,598  | ) |   |         |   |   | (2,070,598 | )
|Total comprehensive loss                                     |  |                       |           |        |   |                             |  |                        |           |                                      |   |                      |   |                                                  |         |                               |   |            |   |   |         |   |   | (2,186,093 | )
|Issuance of common stock in private                          |  |                       |            |        |   |                              |  |                        |            |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   |            |  
|Placement, net of issuance costs                             |  |                       | 7,514,728  |        |   | 7,514                        |  |                        | 1,975,244  |                                      |   |                      |   |                                                  |         |                               |   |            |   |   |         |   |   | 1,982,758  |  
|Reserve accrued interest                                     |  |                       |           |        |   |                             |  |                        |           |                                      |   |                     |   |                                                  | 176,322  |                               |   |            |   |   |         |   |   | 176,322    |  
|Issuance of shares and warrants to vendors                   |  |                       | 17,856     |        |   | 18                           |  |                        | 94,232     |                                      |   | 118,736              |   |                                                  |         |                               |   |            |   |   |         |   |   | 212,986    |  
|Compensation expense
 associated with unvested option awards |  |                       |            |        |   |                              |  |                        | 36,851     |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   | 36,851     |  
|Balance at
 December 31, 2009                                |  |                       | 43,370,935 |        |   | 43,371                       |  |                        | 45,407,337 |                                      |   |                     |   |                                                  | (790,209 | )                             |   | (50,540,355 | ) |   | 146,584  |   |   | (5,733,272 | )
|Foreign currency translation adjustment                      |  |                       |            |        |   |                              |  |                        |            |                                      |   |                      |   |                                                  |          |                               |   |             |   |   | (686     | ) |   | (686       | )
|Net loss                                                     |  |                       |            |        |   |                              |  |                        |            |                                      |   |                      |   |                                                  |          |                               |   | (1,574,056  | ) |   |          |   |   | (1,574,056 | )
|Total comprehensive loss                                     |  |                       |            |        |   |                              |  |                        |            |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   | (1,574,742 | )
|Issuance of common stock in private                          |  |                       |            |        |   |                              |  |                        |            |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   |            |  
|Placement, net of issuance costs                             |  |                       | 2,329,502  |        |   | 2,330                        |  |                        | 440,670    |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   | 443,000    |  
|Interest on Stock Certificate Cancelled                      |  |                       |            |        |   |                              |  |                        |            |                                      |   |                      |   |                                                  | 33,959   |                               |   |             |   |   |          |   |   | 33,959     |  
|Cancelled stockholder note payable                           |  |                       |            |        |   |                              |  |                        | 50,000     |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   | 50,000     |  
|Exercise of Stock Options                                    |  |                       | 15,000     |        |   | 15                           |  |                        | 2,085      |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   | 2,100      |  
|Issuance of shares and warrants to vendors                   |  |                       | 355,000    |        |   | 355                          |  |                        | 114,300    |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   | 114,655    |  
|Compensation expense associated with unvested option awards  |  |                       |            |        |   |                              |  |                        | 65,578     |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   | 65,578     |  
|                                                             |  |                       |            |        |   |                              |  |                        |            |                                      |   |                      |   |                                                  |          |                               |   |             |   |   |          |   |   |            |  
|Balance at
 December 31, 2010                                |  |                       | 46,070,437 |        | $ | 46,071                       |  | $                      | 46,079,970 |                                      | $ |                     |   | $                                                | (756,250 | )                             | $ | (52,114,411 | ) | $ | 145,898  |   | $ | (6,598,722 | )

See accompanying notes to consolidated
financial statements.

F-4

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Table of Contents

Puradyn Filter Technologies IncorporatedConsolidated Statements of Cash Flows

|                                                                                |  |                           |            |      |   |            |  
|------------------------------------------------------------------------------- |  | ------------------------- | ---------- | ---- | - | ---------- | -
|                                                                                |  | Years Ended
 December 31, |           
|                                                                                |  | 2010                      |            | 2009 |  
|Operating activities                                                            |  |                           |            |      |   |            |  
|Net loss                                                                        |  | $                         | (1,574,056 | )    | $ | (2,070,598 | )
|Adjustments to reconcile net loss to net cash used in operating
 activities:    |  |                           |            |      |   |            |  
|Depreciation and amortization                                                   |  |                           | 44,880     |      |   | 38,593     |  
|Provision for bad debts                                                         |  |                           | (4,117     | )    |   | 13,801     |  
|Provision for obsolete and slow moving inventory                                |  |                           | 111,859    |      |   | 81,125     |  
|Amortization of deferred financing costs included in interest expense           |  |                           | 2,014      |      |   | 4,393      |  
|Interest receivable from stockholders notes                                    |  |                           | 33,959     |      |   | 176,321    |  
|Deferred Compensation                                                           |  |                           |           |      |   | 118,736    |  
|Compensation expense on stock-based arrangements with employees and
 investors  |  |                           | 180,233    |      |   | 131,084    |  
|Loss on disposal of fixed assets                                                |  |                           |            |      |   |           |  
|Changes in operating assets and liabilities:                                    |  |                           |            |      |   |            |  
|Accounts receivable                                                             |  |                           | (65,177    | )    |   | 71,786     |  
|Inventories                                                                     |  |                           | (35,607    | )    |   | 405,115    |  
|Prepaid expenses and other current assets                                       |  |                           | 62,246     |      |   | 69,463     |  
|Other noncurrent assets                                                         |  |                           | (37,900    | )    |   | 205        |  
|Accounts payable                                                                |  |                           | 40,215     |      |   | (128,613   | )
|Accrued liabilities                                                             |  |                           | 114,480    |      |   | (218       | )
|Deferred revenues                                                               |  |                           | (70,593    | )    |   | (47,312    | )
|Net cash used in operating activities                                           |  |                           | (1,197,564 | )    |   | (1,136,119 | )
|                                                                               
|Investing activities                                                            |  |                           |            |      |   |            |  
|Purchases of property and equipment                                             |  |                           | (35,531    | )    |   | (49,260    | )
|Net cash used in investing activities                                           |  |                           | (35,531    | )    |   | (49,260    | )
|Financing activities                                                            |  |                           |            |      |   |            |  
|Proceeds from sale of common stock (net)                                        |  |                           | 445,100    |      |   | 1,982,776  |  
|Proceeds from notes payable to stockholders                                     |  |                           | 701,500    |      |   | 355,713    |  
|Payment of notes payable to stockholder                                         |  |                           |           |      |   | (1,013,000 | )
|Payment of capital lease obligations                                            |  |                           | (3,272     | )    |   | (1,879     | )
|Net cash provided by financing activities                                       |  |                           | 1,143,328  |      |   | 1,323,610  |  
|Effect of exchange rate changes on cash and cash equivalents                    |  |                           | (686       | )    |   | 115,494    |  
|Net increase in cash and cash equivalents                                       |  |                           | (90,453    | )    |   | 23,464     |  
|Cash and cash equivalents at beginning of period                                |  |                           | 140,266    |      |   | 116,802    |  
|Cash and cash equivalents at end of period                                      |  | $                         | 49,813     |      | $ | 140,266    |  
|Supplemental cash flow information                                              |  |                           |            |      |   |            |  
|Cash paid for interest                                                          |  | $                         | 201,596    |      | $ | 147,871    |  
|Cash paid for taxes                                                             |  |                           |           |      | $ |           |  
|Noncash investing and financing activities                                      |  |                           |            |      |   |           |  
|During 2010, a related party and
 stockholder forgave $50,000 of a note payable |  | $                         | 50,000     |      |   |           |  
|Stock options issued in lieu of
 compensation                                   |  |                           |           |      | $ | 55,010     |  

See accompanying notes to consolidated
financial statements.

F-5

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Table of Contents

Puradyn Filter Technologies Incorporated

Notes to Consolidated Financial Statements

December 31, 2010 and 2009

1. Significant Accounting Policies

Organization

Puradyn
Filter Technologies Incorporated (the Company), a Delaware corporation, is
engaged in the manufacturing, distribution and sale of bypass oil filtration
systems under the trademark Puradyn® primarily to companies with
large fleets of vehicles and secondarily to original vehicle equipment
manufacturer aftermarket programs. The Company holds the exclusive worldwide
manufacturing and marketing rights for the Puradyn products pursuant to
licenses for two patents and through direct ownership of various other patents.

Puradyn
Filter Technologies, Ltd. (Ltd.), a wholly owned subsidiary in the United
Kingdom, was the distributor for the Companys products in Europe, the Middle
East and certain African countries. Ltds offices were closed in 2009. The
results of the operations of Ltd. have been included in the Companys
statements of operations since Ltd.s formation on June 1, 2000.

New Accounting Pronouncements

In
December 2010, the FASB issued amended guidance to clarify the acquisition
date that should be used for reporting pro-forma financial information for
business combinations. If comparative financial statements are presented, the
pro-forma revenue and earnings of the combined entity for the comparable prior
reporting period should be reported as though the acquisition date for all
business combinations that occurred during the current year had been completed as
of the beginning of the comparable prior annual reporting period. The
amendments in this guidance are effective prospectively for business
combinations for which the acquisition date is on or after January 1,
2011. There will be no impact in the Companys operations or financial
condition as the amendments relate only to additional disclosures.

In
December 2010, the FASB issued amendments to the guidance on goodwill
impairment testing. The amendments modify Step 1 of the goodwill impairment
test for reporting units with zero or negative carrying amounts. For those
reporting units, an entity is required to perform Step 2 of the goodwill
impairment test if it is more likely than not that a goodwill impairment
exists. In making that determination, an entity should consider whether there
are any adverse qualitative factors indicating that impairment may exist. The
amendments are effective for fiscal years and interim periods beginning
January 1, 2011 and are not expected to have a material impact on the
Companys consolidated financial statements.

Principles of Consolidation

The
consolidated financial statements include the accounts of the Company and its
wholly owned subsidiary, Puradyn Filter Technologies, Ltd. All significant
intercompany transactions and balances have been eliminated.

Revenue Recognition

The
Company recognizes revenue from product sales to customers, distributors and
resellers when products that do not require further services or installation by
the Company are shipped, when there are no uncertainties surrounding customer
acceptance and when collectability is reasonably assured in accordance with
FASB ASC 605, Revenue Recognition,
as amended and interpreted. Cash received by the Company prior to shipment is
recorded as deferred revenue. Sales are made to customers under terms allowing
certain limited rights of return and other limited product and performance
warranties for which provision has been made in the accompanying consolidated
financial statements.

Amounts
billed to customers in sales transactions related to shipping and handling,
represent revenues earned for the goods provided and are included in net sales.
Costs of shipping and handling are included in cost of products sold.

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Table of Contents

Use of Estimates

The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the amounts reported in the consolidated financial
statements. Actual results could differ from those estimates.

Cash and Cash Equivalents

Cash and cash equivalents include all highly liquid investments with
original maturities of three months or less at the time of purchase. At
December 31, 2010 and December 31, 2009, the Company did not have any cash
equivalents.

Fair Value of Financial Instruments

The carrying amounts of cash and cash equivalents, accounts receivable,
prepaid expenses and other assets, accounts payable, accrued liabilities and
notes payable to stockholder approximate their fair values as of December 31,
2010 and December 31, 2009, respectively, because of their short-term natures.

Accounts Receivable

Accounts receivable are recorded at fair value on the date revenue is
recognized. The Company provides allowances for doubtful accounts for estimated
losses resulting from the inability of its customers to repay their obligation.
If the financial condition of the Companys customers were to deteriorate,
resulting in an impairment of their ability to repay, additional allowances may
be required. The Company provides for potential uncollectible accounts
receivable based on specific customer identification and historical collection
experience adjusted for existing market conditions. If market conditions
decline, actual collection experience may not meet expectations and may result
in decreased cash flows and increased bad debt expense.

The policy for determining past due status is based on the contractual
payment terms of each customer, which are generally net 30 or net 60 days. Once
collection efforts by the Company and its collection agency are exhausted, the
determination for charging off uncollectible receivables is made.

Inventories

Inventories
are stated at the lower of cost or market using the first in, first out (FIFO)
method. Production costs, consisting of labor and overhead, are applied to
ending finished goods inventories at a rate based on estimated production
capacity. Excess production costs are charged to cost of products sold.
Provisions have been made to reduce excess or obsolete inventories to their net
realizable value.

Deferred Financing Costs

The
Company capitalizes financing costs and amortizes them using the effective
interest method over the term of the related debt. Amortization of deferred
financing costs is included in interest expense and totaled $2,454 and $4,392
for the years ended December 31, 2010 and 2009, respectively. Accumulated
amortization of deferred financing costs as of December 31, 2010 and December
31, 2009 was $679,136 and $677,123, respectively.

Property and Equipment

Property
and equipment are stated at cost. Depreciation and amortization are provided
using the straight-line method over the estimated useful lives of the related
assets, except for assets held under capital leases, for which the Company
records depreciation and amortization based on the shorter of the assets
useful life or the term of the lease. The estimated useful lives of property
and equipment range from 3 to 5 years. Upon sale or retirement, the cost and
related accumulated depreciation and amortization are eliminated from their
respective accounts, and the resulting gain or loss is included in results of
operations. Repairs and maintenance charges, which do not increase the useful
lives of the assets, are charged to operations as incurred.

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Table of Contents

Impairment of Long-Lived Assets

Management assesses the recoverability of its
long-lived assets when indicators of impairment are present. If such indicators
are present, recoverability of these assets is determined by comparing the
undiscounted net cash flows estimated to result from those assets over the
remaining life to the assets net carrying amounts. If the estimated
undiscounted net cash flows are less than the net carrying amount, the assets
would be adjusted to their fair value, based on appraisal or the present value
of the undiscounted net cash flows.

Product Warranty Costs

As required by FASB ASC 460, Guarantees,
the Company is including the following disclosure applicable to its product
warranties.

The Company accrues for warranty costs based on the expected material
and labor costs to provide warranty replacement products. The methodology used
in determining the liability for warranty cost is based upon historical
information and experience. The Companys warranty reserve is calculated as the
gross sales multiplied by the historical warranty expense return rate.

The following table shows the changes in the aggregate product warranty
liability for the year ended December 31, 2010 and December 31, 2009,
respectively:

|                                              |  |                   |        |                   |   |          |  
|--------------------------------------------- |  | ----------------- | ------ | ----------------- | - | -------- | -
|                                              |  | December 31, 2010 |        | December 31, 2009 |  
|Balance as of beginning of year               |  | $                 | 40,000 |                   | $ | 148,149  |  
|Less: Payments made                           |  |                   | (2,561 | )                 |   | (7,050   | )
|Change in prior period
 estimate              |  |                   |       |                   |   | (108,533 | )
|Add: Provision for current
 period warranties |  |                   | 1,348  |                   |   | 7,434    |  
|Balance as of end of year                     |  | $                 | 38,787 |                   | $ | 40,000   |  

Guarantees

None

Comprehensive Income

FASB
ASC 220, Comprehensive Income,
establishes rules for reporting and displaying of comprehensive income and its
components. Comprehensive income is the sum of net loss as reported in the
consolidated statements of operations and other comprehensive income
transactions Other comprehensive income transactions that currently apply to
the Company result from changes in exchange rates used in translating the
financial statements of its wholly owned subsidiary, Ltd. Comprehensive income
as of December 31, 2010 and 2009 is not shown net of taxes because the
Companys deferred tax asset has been fully offset by a 100% valuation
allowance.

Advertising Costs

Advertising
costs are expensed as incurred. During the years ended December 31, 2010 and
2009, advertising costs incurred by the Company totaled approximately $19,000
and $10,000, respectively, and are included in selling and administrative
expenses in the accompanying consolidated statements of operations.

Engineering and Development

Engineering and development costs are expensed as incurred. During the
years ended December 31, 2010 and 2009, engineering and development costs
incurred by the Company totaled approximately $74,000 and $41,000,
respectively, and are included in selling and administrative expenses in the
accompanying consolidated statements of operations.

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Table of Contents

Foreign Currency Translation

The
financial statements of the Companys foreign subsidiary have been translated
into U.S. dollars in accordance with FASB ASC 830, Foreign Currency Matters.All balance sheet accounts have
been translated using the exchange rate in effect at the balance sheet date.
Income statement amounts have been translated using an appropriately weighted
average exchange rate for the year. The translation gains and losses resulting
from the changes in exchange rates during 2010 and 2009 have been reported in
accumulated other comprehensive income, except for gains and losses resulting
from the translation of intercompany receivables and payables, which are
included in earnings for the period. During the years ended December 31, 2010
and 2009, the Company recorded a foreign currency exchange rate gains and
losses of approximately $-0- and approximately $121,000, respectively, which is
included in selling and administrative expenses in the accompanying
consolidated statements of operations.

Income Taxes

The
Company accounts for income taxes under FASB ASC 740, Income Taxes. Deferred income tax assets
and liabilities are determined based upon differences between financial
reporting and tax bases of assets and liabilities and are measured using the
enacted tax rates and laws that will be in effect when the differences are
expected to reverse.

Stock Option Plans

We
adopted FASB ASC 718, Compensation-Stock
Compensation, effective January 1, 2006 using the modified
prospective application method of adoption which requires us to record
compensation cost related to unvested stock awards as of December 31, 2005 by
recognizing the amortized grant date fair value in accordance with provisions
of FASB ASC 718 on straight line basis over the service periods of each award.
We have estimated forfeiture rates based on our historical experience. Stock
option compensation expense for the year ended December 31, 2010 has been
recognized as a component of cost of goods sold and general and administrative
expenses in the accompanying Consolidated Financial Statements.

In
2010 and 2009, respectively, 796,508 and 334,575 options were granted at fair
market value on the date of grant pursuant to the Stock Option Plan.

The Company leases its employees from a payroll leasing company. The
Companys leased employees meet the definition of employees as specified by FIN
44 for purposes of applying FASB ASC 718.

Stock
options and warrants issued to consultants and other non-employees as
compensation for services provided to the Company are accounted for based on
the fair value of the services provided or the estimated fair market value of
the option or warrant, whichever is more reliably measurable in accordance with FASB ASC 505, Equity,and FASB ASC 718,
Compensation-Stock Compensation, including related amendments and
interpretations. The related expense is recognized over the period the services
are provided.

Credit Risk

The
Company minimizes the concentration of credit risk associated with its cash and
cash equivalents by maintaining its cash and cash equivalents with high quality
federally insured financial institutions. However, cash balances in excess of
the FDIC insured limit of $250,000 are at risk. At December 31, 2010 and
December 31, 2009, respectively, the Company did not have cash balances above
the FDIC insured limit. The Company performs ongoing evaluations of its
significant trade accounts receivable customers and generally does not require
collateral. An allowance for doubtful accounts is maintained against trade accounts
receivable at levels which management believes is sufficient to cover probable
credit losses. There are concentrations of credit risk with respect to trade
receivables due to the amounts owed by three customers at December 31, 2010
whose trade receivable balances each represented approximately 36%, 14%, and
13% for a total of 63% of total accounts receivable. There are concentrations
of credit risk with respect to trade receivables due to the amounts owed by
four customers at December 31, 2009 whose trade receivable balances each
represented approximately 22%, 19%, 13%, and 12% for a total of 66% of total
accounts receivable. The loss of business from one or a combination of the
Companys significant customers, or an unexpected deterioration in their
financial condition, could adversely affect the Companys operations.

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Table of Contents

Basic and Diluted Loss Per Share

FASB ASC 260, Earnings per Share,
requires a dual presentation of basic and diluted earnings per share.
However, because of the Companys net losses, the effects of stock options and
warrants would be anti-dilutive and, accordingly, are excluded from the
computation of earnings per share. The number of such shares excluded from the
computations of diluted loss per share totaled 6,720,558 in 2010 and 6,336,100
in 2009.

Reclassifications

Certain prior year amounts have been reclassified to conform to the
current year presentation.

2. Issues Affecting Liquidity and
Managements Plans

The Companys financial
statements have been prepared on the basis that it will operate as a going
concern, which contemplates the realization of assets and satisfaction of
liabilities in the normal course of business. The Company has incurred net
losses each year since inception and has relied on the sale of its stock from
time to time and loans from third parties and from related parties to fund its
operations.

These recurring operating losses, liabilities exceeding assets and the
reliance on cash inflows from an institutional investor and current stockholder
have led the Companys independent registered public accounting firm Webb &
Company to include a statement in its audit report relating to the Companys
audited consolidated financial statements for the year ended December 31, 2010
expressing substantial doubt about the Companys ability to continue as a going
concern.

The Company has been addressing the liquidity and working capital
issues and continues to attempt to raise additional capital with institutional
and private investors and current stockholders. Cost reductions were and
continue to be implemented by the Company, including acquiring alternative
suppliers for raw materials and volume purchase discounts when appropriate, and
the company expects to see results from these reductions, as well as other cost
reduction plans through 2011.

Additionally, the company continues to address liquidity concerns
because of inadequate revenue growth. As a result, cash flow from operations is
insufficient to cover our liquidity needs for the immediate future. The Company
is in the process of aggressively seeking to raise capital and is exploring
financing availability and options with investment bankers, funds, private
sources, members of management and existing shareholders. The Company has
implemented further measures to preserve its ability to operate, including
organizational changes, deferral of salaries, reduction in personnel and
renegotiating creditor and collection arrangement. There can be no assurance
that the Company will be able to raise the additional capital needed or reduce
the level of expenditures in order to sustain operations.

The Company has sustained losses since inception in 1987 and used net
cash in operations of approximately $1,198,000 and $1,136,000 during the years
ended December 31, 2010 and 2009, respectively. As a result, the Company has
had to rely principally on private equity funding, including the conversion of
debt into stock, as well as stockholder loans to fund its activities to date.

On
February 2, 2004, the stockholder amended the original loan agreements to
extend the maturity dates to December 31, 2005 and to waive the funding
requirement mandating maturity terms until such time as the Company has raised
an additional $7.0 million over the $3.5 million raised in the Companys recent
private placement offering; or until such time as the Company is operating
within sufficient cash flow parameters, as defined, to sustain its operations;
or until a disposition of the Company occurs.

In
April 2005, the maturity date of the loan agreement was extended to December
31, 2006. As consideration of this extension, this stockholder was granted an
additional 100,000 common stock purchase warrants at an exercise price equal to
the closing market price of the Companys stock on the date of grant. In March
of 2006 and in subsequent Marchs through 2011, the stockholder extended the
maturity date of the loan agreement annually, which currently expires on
December 31, 2012.

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Table of Contents

The Company experienced a decrease in cash used in operations in 2010
and anticipates this will continue to decrease in 2011; however, additional
cash will still be needed to support operations. Management believes that
through the raise of additional capital, cash from sales and current working
capital the company will have sufficient resources to sustain its operations at
its current level through the end of 2011. However, if budgeted sales levels
are not achieved and/or significant unanticipated expenditures occur, the
Company may have to modify its business plan, reduce or discontinue some of its
operations or seek a buyer for all or part of its assets to continue as a going
concern through 2011. There can be no assurance that the Company will be able
to raise the additional capital needed to continue as a going concern.

3. Inventories

At December 31, 2010 and December 31, 2009 inventories consisted of the
following:

|                    |  |                   |          |                   |   |          |  
|------------------- |  | ----------------- | -------- | ----------------- | - | -------- | -
|                    |  | December 31, 2010 |          | December 31, 2009 |  
|                   
|Raw materials       |  | $                 | 864,812  |                   | $ | 942,135  |  
|Work In Process     |  |                   | 11,682   |                   |   |         |  
|Finished goods      |  |                   | 169,413  |                   |   | 68,164   |  
|Valuation allowance |  |                   | (271,089 | )                 |   | (159,230 | )
|                    |  | $                 | 774,818  |                   | $ | 851,069  |  

4. Prepaid Expenses and Other Current Assets

At
December 31, 2010 and December 31, 2009, prepaid expenses and other current
assets consisted of the following:

|                                           |  |                   |        |                   |   |         | 
|------------------------------------------ |  | ----------------- | ------ | ----------------- | - | ------- | 
|                                           |  | December 31, 2010 |        | December 31, 2009 |  
|                                          
|Prepaid expenses                           |  | $                 | 51,227 |                   | $ | 72,289  | 
|Deferred costs related to deferred revenue |  |                   | 1,601  |                   |   | 42,785  | 
|                                           |  | $                 | 52,828 |                   | $ | 115,074 | 

5. Property and Equipment

At December 31, 2010 and December 31, 2009, property and equipment
consisted of the following:

|                                                |  |                   |            |                   |   |            |  
|----------------------------------------------- |  | ----------------- | ---------- | ----------------- | - | ---------- | -
|                                                |  | December 31, 2010 |            | December 31, 2009 |  
|                                               
|Machinery
 and equipment                        |  | $                 | 987,074    |                   | $ | 977,129    |  
|Furniture
 and fixtures                         |  |                   | 55,827     |                   |   | 54,870     |  
|Leasehold improvements                          |  |                   | 127,332    |                   |   | 122,622    |  
|Software and website
 development               |  |                   | 81,609     |                   |   | 72,960     |  
|Computer hardware and
 software                 |  |                   | 112,920    |                   |   | 101,651    |  
|                                                |  |                   | 1,364,762  |                   |   | 1,329,232  |  
|Less
 accumulated depreciation and amortization |  |                   | (1,241,256 | )                 |   | (1,196,376 | )
|                                                |  | $                 | 123,506    |                   | $ | 132,856    |  

Depreciation
and amortization expense of property and equipment for the years ended December
31, 2009 and 2008 is $44,880 and $38,593, respectively, of which approximately
$10,000 and $9,000 is included in cost of products sold and approximately
$35,000 and $30,000 is included in selling and administrative costs,
respectively, in the accompanying consolidated statements of operations.

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Table of Contents

6. Leases

The
Company leases its office and warehouse facilities in Boynton Beach, Florida
under a long-term non-cancellable lease agreement, which contains renewal
options and rent escalation clauses. A $235,000 security deposit was paid in
2002, which was refunded ratably on an annual basis over the first three years
of the lease term beginning on the last day of the first lease year, provided
there has been no Event of Default, as defined, by the Company. Of this amount,
$66,667 was paid to the Company in November 2003, January 2005 and January
2006, respectively. As of December 31, 2009, $29,275 is included in noncurrent assets
in the accompanying consolidated balance sheet. During 2008, this lease was
renewed effective August 1, 2008 and expires July 31, 2013 and
contains an annual increase of 3%. During June 2009, an amendment to the lease
agreement was reached, temporarily reducing the monthly rent. The total minimum
lease payments over the term of the lease was reduced from an aggregate of
approximately $956,000 to approximately $925,000, or approximately 3%.

The
Company leased a condominium in Ocean Ridge, Florida to provide accommodations
for Company use, primarily for Mr. Kevin Kroger, the Companys Chief Operating
Officer. The lease, which expired on December 31, 2009, had an annual expense
of $6,750, in 2010 the lease was renewed until December, 2011 at the same annual
expense.

The Companys wholly owned subsidiary, Ltd., rented office space in
Devon, England under a lease that extended through March 31, 2002 and was
subsequently extended on a month-to-month basis. In September 2003, Ltd. moved
to new office space by assuming the existing lease, which expired in August
2004, was renegotiated in September 2005 and expires in September 2010, but
contained a cancellation clause, which was exercised during 2008. Effective
August 15, 2008, the Companys lease for the facility in Exeter was terminated
and the Company relocated its office from Exeter to Newbury, to the facility of
its Master Distributor, Filter Solutions Ltd. In March, 2009, all remaining
assets from that facility, including inventory, was returned to our Boynton
Beach facility.



Rent
expense under all operating leases for the years ended December 31, 2010 and
2009 totaled approximately $316,000 and $288,000, respectively, of which
approximately $243,000 and $226,000 is included in cost of products sold and approximately
$73,000 and $62,000 is included in selling and administrative costs,
respectively, in the accompanying consolidated statements of operations.

In
May 2007, the Company entered into a capital lease obligation for the purchase
of approximately $8,525 of office equipment, which is included in property and
equipment, net of approximately $6,110 of accumulated amortization, in the
accompanying consolidated balance sheet.

Future
minimum lease commitments due for facilities and equipment leases under non-cancellable
capital and operating leases at December 31, 2010 are as follows:

|                                        |  |                |       |                  |   |         | 
|--------------------------------------- |  | -------------- | ----- | ---------------- | - | ------- | 
|                                        |  | Capital Leases |       | Operating Leases |  
|2011                                    |  |                | 2,269 |                  |   | 192,054 | 
|2012                                    |  |                |      |                  |   | 197,812 | 
|2013                                    |  |                |      |                  |   | 117,383 | 
|2014                                    |  |                |      |                  |   |        | 
|2015 and thereafter                     |  |                |      |                  |   |        | 
|Total minimum lease payments            |  |                | 2,269 |                  | $ | 507,249 | 
|Less amount representing interest       |  |                | (280  | )                |   |         | 
|                                       
|Present value of minimum lease payments |  | $              | 1,989 |                  |   |         | 

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Table of Contents

Future
minimum lease commitments due for facilities and equipment leases under
non-cancellable capital and operating leases at December 31, 2009 are as
follows:

|                                        |  |                |        |                  |   |         | 
|--------------------------------------- |  | -------------- | ------ | ---------------- | - | ------- | 
|                                        |  | Capital Leases |        | Operating Leases |  
|2010                                    |  | $              | 5,445  |                  | $ | 186,457 | 
|2011                                    |  |                | 2,269  |                  |   | 192,054 | 
|2012                                    |  |                |       |                  |   | 197,812 | 
|2013                                    |  |                |       |                  |   | 117,383 | 
|2014 and thereafter                     |  |                |       |                  |   |        | 
|Total minimum lease payments            |  |                | 7,714  |                  | $ | 693,706 | 
|Less amount representing interest       |  |                | (2,454 | )                |   |         | 
|                                        |  |                |        |                  |   |         | 
|Present value of minimum lease payments |  | $              | 5,260  |                  |   |         | 

7. Accrued Liabilities

At
December 31, 2010 and December 31, 2009, accrued liabilities consisted of the
following:

|                                                        |  |                   |           |                   |   |           | 
|------------------------------------------------------- |  | ----------------- | --------- | ----------------- | - | --------- | 
|                                                        |  | December 31, 2010 |           | December 31, 2009 |  
|Accrued wages and benefits                              |  | $                 | 1,075,538 |                   | $ | 918,788   | 
|Accrued expenses relating to vendors and
 others        |  |                   | 135,168   |                   |   | 135,874   | 
|Accrued warranty costs                                  |  |                   | 38,787    |                   |   | 40,000    | 
|Accrued interest payable relating to
 stockholder notes |  |                   | 13,305    |                   |   | 53,656    | 
|                                                        |  |                   | 1,262,798 |                   | $ | 1,148,318 | 

8. Long-Term Debt

Notes Payable to Stockholder

Beginning
on March 28, 2002 the Company executed a binding agreement with one of its
stockholders, who is also a Board member, to fund up to $6.1 million. Under the
terms of the agreements, the Company can draw amounts as needed to fund
operations. Amounts drawn bear interest at the prime rate per annum (2.45% at
December 31, 2009), payable monthly and were to become due and payable on
December 31, 2005 or upon a change in control of the Company or consummation of
any other financing over $7.0 million. Beginning in March 2006, annually,
through February 2011, the maturity date for the agreement was extended
annually from December 31, 2007, to December 31, 2012.

At
December 31, 2010 the Company had drawn the full funding amount under the
agreement of approximately $6.1 million plus an additional $261,914. At December
31, 2009, the Company had drawn $5.7 million under the funding agreement.

Additionally,
the Company has loans outstanding from one board member totaling $-0- and
$25,000 at December 31, 2010 and 2009. During 2010 this board member loaned the
Company an additional $25,000 and forgave the entire debt in the amount of
$50,000 as a contribution to capital.

During the years ended December 31, 2010 and 2009, the Company incurred
interest expense of approximately $158,000 and $148,000, respectively, on its
draws, which is included in interest expense in the accompanying consolidated
statements of operations.

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Table of Contents

Maturities of
Long-Term Obligations for Five Years and Beyond

Long-term obligations consisted of the following at December 31, 2010
and December 31, 2009:

|                             |  |                   |           |                   |   |           |  
|---------------------------- |  | ----------------- | --------- | ----------------- | - | --------- | -
|                             |  | December 31, 2010 |           | December 31, 2009 |  
|Notes payable to stockholder |  | $                 | 6,361,914 |                   | $ | 5,710,414 |  
|Capital lease obligation     |  |                   | 1,989     |                   |   | 5,260     |  
|                             |  |                   | 6,363,903 |                   |   | 5,715,674 |  
|Less: current maturities     |  |                   | (1,989    | )                 |   | (3,271    | )
|                             |  | $                 | 6,361,914 |                   | $ | 5,712,403 |  

The minimum annual principal payments of notes payable and capital
lease obligations at December 31, 2010 and December 31, 2009 were:

|     |  |                   |           |                   |   |           | 
|---- |  | ----------------- | --------- | ----------------- | - | --------- | 
|     |  | December 31, 2010 |           | December 31, 2009 |  
|2010 |  | $                 |          |                   | $ | 3,271     | 
|2011 |  |                   | 6,363,903 |                   |   | 5,712,403 | 
|2012 |  |                   |          |                   |   |          | 
|     |  | $                 | 6,363,903 |                   | $ | 5,715,674 | 

9. Income Taxes

The
United States and foreign components of loss from continuing operations before
income taxes are as follows for the years ended December 31:

|                                                     |  |      |            |      |   |            |  
|---------------------------------------------------- |  | ---- | ---------- | ---- | - | ---------- | -
|                                                     |  | 2010 |            | 2009 |  
|                                                    
|United
 States                                       |  | $    | (1,565,448 | )    | $ | (2,203,482 | )
|Foreign                                              |  |      | (8,608     | )    |   | 132,884    |  
|Intercompany
 elimination                            |  |      |           |      |   |           |  
|Loss from
 continuing operations before income taxes |  | $    | (1,574,056 | )    | $ | (2,070,598 | )

The
significant components of the Companys net deferred tax assets are as follows
for the years ended December 31:

|                                        |  |      |             |      |   |             |  
|--------------------------------------- |  | ---- | ----------- | ---- | - | ----------- | -
|                                        |  | 2010 |             | 2009 |  
|Deferred tax assets:                    |  |      |             |      |   |             |  
|                                        |  |      |             |      |   |             |  
|Net operating loss carryforwards        |  | $    | 16,253,503  |      | $ | 15,699,664  |  
|Depreciation and amortization           |  |      | 68,045      |      |   | 75,307      |  
|Accrued expenses and reserves           |  |      | 126,215     |      |   | 86,054      |  
|Impairment loss                         |  |      | 78,304      |      |   | 78,304      |  
|Compensatory stock options and warrants |  |      | 76,871      |      |   | 76,871      |  
|Capital Loss Carryover                  |  |      | 44,739      |      |   | 44,739      |  
|Other                                   |  |      | 18,544      |      |   | 18,544      |  
|Total deferred tax assets               |  |      | 16,666,222  |      |   | 16,079,483  |  
|Valuation allowance                     |  |      | (16,666,222 | )    |   | (16,079,483 | )
|Net deferred tax assets                 |  | $    |            |      | $ |            |  

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Table of Contents

FASB ASC 740, Income Taxes,requires
a valuation allowance to reduce the deferred tax assets reported if, based on
the weight of the evidence, it is more likely than not that some portion or all
of the deferred tax assets will not be realized. After consideration of all the
evidence, both positive and negative, management has determined that a full
valuation allowance of $16,666,222 and $16,079,483 against its net deferred
taxes is necessary as of December 31, 2010 and December 31, 2009, respectively.
The change in valuation allowance for the years ended December 31, 2010 and
2009 is $586,739 and $830,168 respectively.

At December 31, 2010 and December 31, 2009, respectively, the Company
had approximately $44,545,313 and $43,073,510, respectively, of U.S. net
operating loss carryforwards remaining, which expire beginning in 2017. The
Company will record the benefit of approximately $1,352,373 of the net
operating loss carryforwards through additional paid-in capital if and when the
net operating loss carryforwards are utilized, as such amounts relate to the
unrecognized tax benefit from stock option exercises.

As a result of certain ownership changes, the Company may be subject to
an annual limitation on the utilization of its U.S. net operating loss
carryforwards pursuant to Section 382 of the Internal Revenue Code. A study to
determine the effect, if any, of this change, has not been undertaken.

A reconciliation of the Companys income taxes to amounts calculated at
the federal statutory rate is as follows for the years ended December 31:

|                                                |  |      |        |      |  |        |   
|----------------------------------------------- |  | ---- | ------ | ---- |  | ------ | --
|                                                |  | 2010 |        | 2009 | 
|Federal
 statutory taxes                        |  |      | (34.00 | )%   |  | (34.00 | )%
|State income
 taxes, net of federal tax benefit |  |      | (3.63  | )    |  | (3.63  | ) 
|Nondeductible
 items                            |  |      | 0.15   |      |  | 0.09   |   
|Change in
 valuation allowance                  |  |      | 37.48  |      |  | 37.68  |   
|Other                                           |  |      |       |      |  | (.14   | ) 
|                                                |  |      |       | %    |  |       | % 

10. Commitments and Contingencies

Agreements

On October 20,
2009, the Company entered into a consulting agreement with Boxwood Associates,
Inc., whereby the Company pays $2,000 monthly for management and strategic
development services performed. The contract will remain in effect until
December 31, 2011, unless terminated by either party providing 30 days written
notice. Mr. Telesco is President of Boxwood Associates, Inc.

Litigation



On July 7, 2009 the Company
filed a lawsuit in the Circuit Courts in 15th Judicial District in and for Palm Beach County, Florida, styled Puradyn Filter Technologies,
Inc. versus Richard C. Ford case number 502009CA023128XXXXMB. In this action against Mr. Ford, our former Chief Executive Officer,
the Company is alleging non-payment of three promissory notes totaling $756,250 with interest at a rate of 5.63% per annum since
July 25, 2001, the execution date of the notes. As of November 13, 2009 interest on all three notes amounts to $353,796, for an
aggregate amount owing of $1,110,046. At the time of the execution of these promissory notes, Mr. Ford was Chief Executive Officer
of the Company and these notes were drafted under Mr. Ford’s direction. The Company is seeking payment of the promissory
notes and accrued interest.



On August 7, 2009, Mr. Ford responded by filing a Motion to Disqualify the
Company’s legal counsel, Gary E. Susser and request a staying action until such time as the Company obtains new legal counsel.
On September 16, 2009 a hearing on Order to Show Cause occurred. On October 26, 2009 a ruling was issued, denying the Company’s
request for custody of the collateral. On November 5, 2009 Richard Ford filed a motion to stay proceeding pending payment of documentary
stamps and amendment of the complaint and relief from prior orders relating to production of information pertaining to the sale
of stock. On November 5, 2009, the Company filed a Motion for Rehearing on Plaintiff’s Request for Possession to obtain
custody of the collateral. This was heard on November 12, 2009, and the Company is awaiting a ruling. On September 10, 2010, Ford’s
attorney filed a Motion to Withdraw from representation. On September 27, 2010 the Motion to Disqualify Attorney Susser was denied.
The Company is still vigorously pursuing these matters.



11. Stock Options

On July 29, 2010, the Companys Board of Directors approved the
adoption of a stock option plan (the 2010 Option Plan), which provides for
the granting of up to 2,000,000 options, subject to stockholder approval, (for
both incentive and non-qualified stock options to key personnel, including
officers, directors, consultants and advisors to the Company, based upon the
determination of the Board of Directors.

The Company has three stock option plans, one adopted in September 1999
and amended in June 2000 (the 1999 Option Plan), one adopted on November 8,
2000 (the Directors Plan), and one adopted in July 2010 (the 2010 Option
Plan). The 1999 Option Plan provides for the granting of up to 3,000,000
options, the Directors Plan provides for the granting of up to 400,000
options, and the 2010 Option Plan provides for the granting of 2,000,000
options.

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Table of Contents

The 1996, 1999 and 2010 Plans provide for the granting of both
incentive and non-qualified stock options to key personnel, including officers,
directors, consultants and advisors to the Company, at the discretion of the
Board of Directors. Each plan limits the exercise price of the options at no
less than the quoted market price of the common stock on the date of grant. The
option term is determined by the Board of the Directors or the Compensation
Committee, provided that no option may be exercisable more than 10 years after
the date of its grant and, in the case of an Incentive Option granted to an
eligible employee owning more than 10% of the Companys common stock, no more
than five years after the date of the grant. Generally, under all three plans,
options to employees vest over four years at 25% per annum, except for certain
grants to employees that vest 25% upon grant with remaining amounts over two
years at 50% and 25% per annum, respectively.

The Directors Plan provides for the granting of non-qualified options
to members of the Board of Directors at exercise prices not less than the
quoted market price of the common stock on the date of grant and options expire
five years from the date of grant. In the event a person ceases to serve on the
Board of Directors, the outstanding options expire one year from the date of
cessation of service. Such options may be exercised commencing two years from the
date of grant.

During each of 2010 and 2009, 30,000 of options were issued to
non-employee Directors.

At December 31, 1997 and 1996, 1,957,525 and 1,500,000 shares of Common
Stock were reserved for issuance under the 1996 Option Plan, respectively.

Additional information concerning the activity in the three option
plans is as follows:

|                                                 |  |         |           |                                    |  |         |  |                                    |           |   |   |      | 
|------------------------------------------------ |  | ------- | --------- | ---------------------------------- |  | ------- |  | ---------------------------------- | --------- | - | - | ---- | 
|                                                 |  | 2010    |           | 2009                               | 
|                                                 |  | Options |           | Weighted
 Average
 Exercise
 Price |  | Options |  | Weighted
 Average
 Exercise
 Price |          
|                                                 |  |         |           |                                    |  |         |  |                                    |           |   |   |      | 
|Outstanding,
 beginning of year                  |  |         | 1,910,075 |                                    |  | 1.95    |  |                                    | 1,767,900 |   | $ | 2.15 | 
|Granted                                          |  |         | 796,508   |                                    |  | .21     |  |                                    | 334,575   |   |   | .30  | 
|Exercised                                        |  |         | (15,000   | )                                  |  | .14     |  |                                    |          |   |   |      | 
|Cancelled                                        |  |         | (165,000  | )                                  |  | .47     |  |                                    | (105,000  | ) |   | .81  | 
|Expired                                          |  |         | (365,000  | )                                  |  | 7.96    |  |                                    | (87,400   | ) |   | 1.06 | 
|Outstanding,
 end of year                        |  |         | 2,161,583 |                                    |  | .42     |  |                                    | 1,910,075 |   |   | 1.95 | 
|Exercisable,
 end of year                        |  |         | 920,788   |                                    |  | .66     |  |                                    | 1,053,000 |   | $ | 3.30 | 
|Options
 available for future grant, end of year |  |         | 1,483,492 |                                    |  |         |  |                                    | 1,489,925 |   |   |      | 

Summarized information with respect to options outstanding under the
three option plans at December 31, 2010 is as follows:

|                         |  |                     |           |                                                  |  |                                   |  |                     |      |                                   |  |         |  |   |      | 
|------------------------ |  | ------------------- | --------- | ------------------------------------------------ |  | --------------------------------- |  | ------------------- | ---- | --------------------------------- |  | ------- |  | - | ---- | 
|                         |  | Options Outstanding |           | Options Exercisable                              | 
|Range of
 Exercise Price |  | Number
 Outstanding |           | Remaining
 Average
 Contractual
 Life (In Years) |  | Weighted
 Average
 Exercise Price |  | Number
 Exercisable |      | Weighted
 Average
 Exercise Price | 
|$0.14 
 $1.70           |  |                     | 2,113,583 |                                                  |  | 5.79                              |  | $                   | .37  |                                   |  | 872,788 |  | $ | .57  | 
|$1.99 $2.60             |  |                     | 48,000    |                                                  |  | 2.08                              |  |                     | 2.32 |                                   |  | 48,000  |  |   | 2.32 | 
|                         |  |                     |           |                                                  |  |                                   |  |                     |      |                                   |  |         |  |   |      | 
|Totals                   |  |                     | 2,161,583 |                                                  |  | 5.53                              |  | $                   | .41  |                                   |  | 920,788 |  | $ | .66  | 

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Table of Contents

Summarized information with respect to options outstanding under the
three option plans at December 31, 2009 is as follows:

|                         |  |                     |           |                                                  |  |                                   |  |                     |      |                                   |  |           |  |   |      | 
|------------------------ |  | ------------------- | --------- | ------------------------------------------------ |  | --------------------------------- |  | ------------------- | ---- | --------------------------------- |  | --------- |  | - | ---- | 
|Options Outstanding      |  | Options Exercisable |          
|Range of
 Exercise Price |  | Number
 Outstanding |           | Remaining
 Average
 Contractual
 Life (In Years) |  | Weighted
 Average
 Exercise Price |  | Number
 Exercisable |      | Weighted
 Average
 Exercise Price | 
|$0.14 
 $1.70           |  |                     | 1,522,075 |                                                  |  | 5.21                              |  | $                   | .47  |                                   |  | 665,000   |  | $ | .72  | 
|$1.86 $4.50             |  |                     | 88,000    |                                                  |  | 2.66                              |  |                     | 2.69 |                                   |  | 88,000    |  |   | 2.69 | 
|$8.50 $9.25             |  |                     | 300,000   |                                                  |  | .50                               |  |                     | 9.25 |                                   |  | 300,000   |  |   | 9.25 | 
|                         |  |                     |           |                                                  |  |                                   |  |                     |      |                                   |  |           |  |   |      | 
|Totals                   |  |                     | 1,910,075 |                                                  |  | 4.81                              |  | $                   | 2.15 |                                   |  | 1,053,000 |  | $ | 3.32 | 

12. Common Stock

On
January 5, 2010 the Company agreed to pay to Emerging Markets, LLC, 60,000
shares of common stock valued at $0.23 per share plus 20,000 shares of the
Companys common stock payable at the end of each month from February 2010 to
December 2010.

On
July 7, 2010, the Company awarded a consultant 75,000 shares of common stock,
which were issued as restricted shares under SEC Rule 144 at a price of $0.18
for legal services on behalf of the Company.

On July 9,
2010 the Company received proceeds of $100,000 from the sale of 571,429
shares of common stock restricted under SEC Rule 144, at a price of $0.175 per share and, as part of the offering, issued
warrants to purchase 57,143 shares of common stock at an exercise price of
$0.50, which expire on July 9, 2015.

On July 20,
2010 the Company received proceeds of $50,000 from the sale of 303,030 shares
of common stock restricted under SEC Rule 144, at a price of $0.165 per share and, as part of the offering, issued
warrants to purchase 30,303 shares of common stock at an exercise price of
$0.50, which expire on July 20, 2015.

On July 21,
2010, the Company received proceeds of $50,000 from the sale of 304,878 shares
of common stock restricted under SEC Rule 144, at a price of $0.164 per share and, as part of the offering, issued
warrants to purchase 30,488 shares of common stock at an exercise price of
$0.50, which expire on July 21, 2015.

On July 30,
2010, the Company received proceeds of $50,000 from the sale of 253,807 shares
of common stock restricted under SEC Rule 144, at a price of $0.197 per share and, as part of the offering, issued
warrants to purchase 25,381 shares of common stock at an exercise price of
$0.50, which expire on July 30, 2015.

On August
4, 2010, the Company received proceeds of $50,000 from the sale of 210,084 shares
of common stock restricted under SEC Rule 144, at a price of $0.238 per share and, as part of the offering, issued
warrants to purchase 21,008 shares of common stock at an exercise price of
$0.50, which expire on August 4, 2015.

On August
4, 2010, the Company received proceeds of $50,000 from the Companys Chairman
and CEO, for the sale of 210,084 shares of common stock
restricted under SEC Rule 144, at a
price of $0.238 per share and, as part of the offering, issued warrants to
purchase 21,008 shares of common stock at an exercise price of $0.50, which
expire on August 4, 2015.

F-17

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Table of Contents

13. Warrants

At December 31, 2010 and 2009, 4,558,975 and 4,426,025 shares,
respectively, of common stock have been reserved for issuance under outstanding
warrants. All of the warrants are fully vested and have expiration dates
ranging from October 1, 2011 to March 26, 2018. Information concerning the
Companys warrant activity is as follows:

|                                       |  |                            |           |                            |   |         |  |       |           |   |   |      | 
|-------------------------------------- |  | -------------------------- | --------- | -------------------------- | - | ------- |  | ----- | --------- | - | - | ---- | 
|                                       |  | 2010                       |           | 2009                       |  
|                                       |  | Weighted Average
 Exercise |           | Weighted Average
 Exercise |  
|                                       |  | Options                    |           | Price                      |   | Options |  | Price |          
|                                       |  |                            |           |                            |   |         |  |       |           |   |   |      | 
|Outstanding,
 at the beginning of year |  |                            | 4,426,025 |                            | $ | .99     |  |       | 3,214,072 |   | $ | 1.25 | 
|Granted                                |  |                            | 232,950   |                            |   | .50     |  |       | 1,361,953 |   |   | .50  | 
|Exercised                              |  |                            |          |                            |   |        |  |       |          |   |   |     | 
|Expired                                |  |                            | (100,000  | )                          |   | .95     |  |       | (150,000  | ) |   | 2.00 | 
|Outstanding,
 at the end of year       |  |                            | 4,558,975 |                            | $ | .97     |  |       | 4,426,025 |   | $ | .99  | 

In consideration of the stockholder loan agreement (Item 12), the
Company has granted the stockholder a total of 475,000 common stock purchase
warrants at an exercise price equal to the closing market price of the
Companys stock on the dates of grant. On March 28, 2002, the Company recorded
a deferred charge of $318,000. The deferred charge was initially amortized over
the commitment period and subsequently revised to include the repayment period,
as amended. During the years ended December 31, 2010 and 2009, the Company had
amortized approximately $1,000 and $2,000, respectively, of such costs, which
are included in interest expense in the accompanying consolidated statements of
operations.

On March 14, 2003, the Company recorded a deferred charge of $212,500.
The deferred charge is being amortized over the repayment period of 21.5
months. During the years ended December 31, 2010 and 2009, the Company had
amortized approximately $1,000 and $2,000 respectively, which is included in
interest expense in the accompanying consolidated statement of operations.

During 2010, the Company
received cash proceeds of $452,100 from eight investors for the purchase of
2,344,502 shares of common stock at prices ranging from $.14 to $.238. As part
of the offering, the Company awarded 232,950 warrants to purchase one share of
common stock at an exercise price of $.50 on or prior to various dates ranging
from January 5, 2015 through August 4, 2015.

14. Major Customers

During 2010 and 2009, two customers together accounted for
approximately 53% and 33%, respectively, of the Companys net sales. In 2010,
there were two customers that individually accounted for greater than 10% of
net sales, or approximately $1,219,000 and $400,000, while in 2010 there were
two customers that individually accounted for greater than 10% of net sales, or
approximately $417,000 and $205,000. There was one customer at December 31,
2010, whose trade receivable balance was 36% of total receivables. There were
four customers at December 31, 2009, whose trade receivable balances equaled or
exceeded 5% of total receivables, representing approximately 22%, 19%, 13%, and
12% respectively, of total accounts receivable. The loss of business from one
or a combination of the Companys significant customers could adversely affect
its operations.

F-18

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Table of Contents

15. Geographic Information

The
Company has two lines of product, which it manufactures and distributes from
its locations in the United States and the United Kingdom. Distribution from
the United Kingdom ceased in March, 2009, when the facility closed and the
remaining assets were shipped to the United States. Information with respect to
sales activity and long-lived assets (consisting entirely of property and
equipment) in the United States and United Kingdom is as follows:

|                            |  |                        |           |      |   |           | 
|--------------------------- |  | ---------------------- | --------- | ---- | - | --------- | 
|                            |  | Year Ended December 31 |          
|                            |  | 2010                   |           | 2009 |  
|Net sales:                  |  |                        |           |      |   |           | 
|United States               |  | $                      | 3,106,492 |      | $ | 1,864,345 | 
|United Kingdom              |  |                        |          |      |   | 71,598    | 
|                            |  | $                      | 3,106,492 |      | $ | 1,935,943 | 
|                            |  |                        |           |      |   |           | 
|Long-lived
 assets by area: |  |                        |           |      |   |           | 
|United States               |  | $                      | 123,506   |      | $ | 132,856   | 
|United Kingdom              |  |                        |          |      |   |          | 
|                            |  | $                      | 123,506   |      | $ | 132,856   | 

16. Subsequent Events

On January
10, 2011, the Company received proceeds of $50,000 from the Companys Chairman
and CEO, for the sale of 204,918 shares of common stock at a price of $0.244
per share and, as part of the offering, issued warrants to purchase 20,492
shares of common stock at an exercise price of $0.50, which expire on January
10, 2016. The purchaser was an accredited investor and the transaction was
exempt from registration under the Securities Act of 1933 in reliance on an
exemption provided by Section 4(2) of that act. The Company did not pay any
commissions or finders fees and we are using the proceeds for general working
capital.

On January
11,2011, pursuant to an obligation under an agreement dated January 5,2010, for
services rendered in December 2010, the Company paid to Emerging Markets LLC,
20,000 shares of common stock valued at $0.34 per share. The recipient was an
accredited investor and the issuances were exempt from registration under the
Securities Act of 1933 in reliance on an exemption provided by Section 4(2) of
that act.

On February
1, 2011, the Company received proceeds of $50,000 from a Board member, for the
sale of 187,266 shares of common stock at a price of $0.267 per share and, as
part of the offering, issued warrants to purchase 18,727 shares of common stock
at an exercise price of $0.50, which expire on February 1, 2016. The purchaser
was an accredited investor and the transaction was exempt from registration
under the Securities Act of 1933 in reliance on an exemption provided by
Section 4(2) of that act. The Company did not pay any commissions or finders
fees and we are using the proceeds for general working capital.

On February
7, 2011 an aggregate amount of 820,000 incentive stock options were awarded to
certain employees as partial payment for their services to the Company.

Between
February 9, 2011 and April 5, 2011, the Company received loans in various
amounts totaling $175,000, from the Companys Chairman and CEO, as advances for
working capital needs. The loans bear interest at the same rate of interest as
the credit facility provided by the stockholder under the note dated March 28,
2002.

On February
24, 2011, the repayment date of the stockholder loan was extended from December
31, 2011 to December 31, 2012.

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Table of Contents

On April 6,
2011, the Board of Directors passed a resolution forgiving accrued interest due
from Mr. Sandler, an executive officer, at December 31, 2010. The accrued
interest was cancelled in connection with the July 3, 2008 return of a stock
certificate and cancellation of the loan secured by that stock certificate.
This amount is included in other expense on the statement of operations.

F-20

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