UNITED STATES SECURITIES AND EXCHANGE COMMISSION

                            Washington, D.C.  20549
                      ----------------------------------


                                   FORM 10-Q


    X       QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
                        SECURITIES EXCHANGE ACT OF 1934

               For the quarterly period ended February 28, 1997

                                      OR

            TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
               SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)

            For the transition period from           to          .


                            Commission File Number    :  0-25880


                           ILM II LEASE CORPORATION
            (Exact name of registrant as specified in its charter)


        Virginia                                       04-3248639
(State or other jurisdiction of                       (I.R.S. Employer
  incorporation or organization)                    Identification No.)



265 Franklin Street, Boston, MA                                   02110
(Address of principal executive offices)                         (Zip Code)

Registrant's telephone number, including area code (800) 225-1174

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

Shares on common stock  outstanding  as of February 28, 1997:  5,180,952.  The
aggregate  sales price of the shares sold was $500,000.  This does not reflect
market value.  There is no current market for these shares.



<PAGE>

                           ILM II LEASE CORPORATION

                                 BALANCE SHEET
               February 28, 1997 and August 31, 1996 (Unaudited)
                                (In thousands)

                                    ASSETS


                                                      February 28    August 31
                                                      -----------    ---------

Cash and cash equivalents                               $   1,544    $  1,591
Accounts receivable                                            12           5
Prepaid expenses and other assets                              53         118
                                                        ---------    --------
      Total current assets                                  1,609       1,714

Furniture, fixtures and equipment                             299         197
Less:  accumulated depreciation                               (32)        (14)
                                                        ---------    --------
                                                              267         183

Deferred tax asset, net                                        23          38
                                                         --------    --------
                                                         $  1,899    $  1,935
                                                         ========    ========


                     LIABILITIES AND SHAREHOLDERS' EQUITY

Accounts payable and accrued expenses                    $    336    $    528
Real estate taxes payable                                     108         203
Accounts payable - affiliates                                 300         302
Security deposits                                              12          12
                                                         --------    --------
      Total current liabilities                               756       1,045

Deferred rent payable                                         115         131
                                                         --------    --------
      Total liabilities                                       871       1,176

Shareholders' equity                                        1,028         759
                                                         --------    --------
                                                         $  1,899    $  1,935
                                                         ========    ========
















                            See accompanying notes.


<PAGE>


                           ILM II LEASE CORPORATION

                             STATEMENTS OF INCOME
  For the three and six months ended February 28, 1997 and February 29, 1996
                                  (Unaudited)
                   (In thousands, except per share amounts)

                                   Three Months Ended      Six Months Ended
                                     February 28/29,        February 28/29,
                                   -------------------     -----------------
                                     1997       1996        1997        1996
                                     ----       ----        ----        ----

Revenues:
  Rental and other income         $ 3,582    $  3,233    $  7,158    $  6,398
  Interest income                       9          10          19          14
                                  -------    --------    --------    --------
                                    3,591       3,243       7,177       6,412

Expenses:
  Master lease rent expense         1,132       1,001       2,133       2,002
  Dietary salaries, wages and 
    food service expenses             656         606       1,315       1,153
  Administrative salaries, wages
    and expenses                      328         291         580         529
  Marketing salaries, wages
    and expenses                      143         173         295         333
  Utilities                           257         238         523         483
  Repairs and maintenance             118         132         244         259
  Real estate taxes                   129         125         254         248
  Property management fees            188         178         380         353
  Other property operating expenses   404         377         786         691
  General and administrative          137          20         164          40
  Advisory fees                        18          16          36          32
  Depreciation expense                 11           -          18           -
                                  -------    --------    --------    --------
                                    3,521       3,157       6,728       6,123
                                  -------    --------    --------    --------

Income before taxes                    70          86         449         289

Income tax expense (benefit):
  Current                              21          12         166         135
  Deferred                              7          23          14         (19)
                                  -------    --------    --------    --------
                                       28          35         180         116
                                  -------    --------    --------    --------

Net income                        $    42    $     51    $    269      $  173
                                  =======    ========    ========      ======


Earnings per share of 
  common stock                      $0.01       $0.01       $0.05       $0.03
                                    =====       =====       =====       =====

The above earnings per share of common stock is based upon the 5,180,952  shares
outstanding for each period.















                            See accompanying notes.


<PAGE>


                            ILM II LEASE CORPORATION

                  STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
  For the six months ended February 28, 1997 and February 29, 1996 (Unaudited)
                                 (In thousands)

<TABLE>
<CAPTION>
                                    Common Stock        Additional
                                   $.01 Par Value       Paid-in      Accumulated
                                   Shares   Amount      Capital      Earnings       Total
                                   ------   ------      -------      --------       -----
<S>                                <C>      <C>         <C>          <C>            <C>


Balance at August 31, 1995         15         $   -     $      1      $    (1)    $    -

Issuance of common stock        5,166            52          447            -        499

Net income                          -             -           -           173        173
                               ------        ------    --------       -------     ------

Balance at February 29, 199     5,181        $  52     $   448        $   172     $  672
                                =====        =====     =======        =======     ======

Balance at August 31, 1996      5,181        $  52     $   448        $   259     $  759

Net income                          -            -           -            269        269
                               ------        -----     -------        -------     ------

Balance at February 28, 1997    5,181        $  52     $   448        $   528     $1,028
                               ======        =====     =======         =======    ======

</TABLE>


























                            See accompanying notes.



<PAGE>


                            ILM II LEASE CORPORATION

                            STATEMENTS OF CASH FLOWS
  For the six months ended February 28, 1997 and February 29, 1996 (Unaudited)
                Increase (Decrease) in Cash and Cash Equivalents
                                 (In thousands)

                                                             1997        1996
                                                             ----        ----

Cash flows from operating activities:
   Net income                                           $     269     $   173
   Adjustments to reconcile net income to
    net cash provided by operating activities
     Depreciation expense                                      18           -
     Changes in assets and liabilities:
      Accounts receivable                                      (7)        (12)
      Prepaid expenses and other assets                        65         (34)
      Deferred tax asset, net                                  15         (19)
      Accounts payable and accrued expenses                  (192)        545
      Accounts payable - affiliates                            (2)         16
      Real estate taxes payable                               (95)        (10)
      Security deposits                                         -           -
      Deferred rent payable                                   (16)         66
      Income taxes payable                                      -         135
                                                         ---------   --------
         Total adjustments                                   (214)        687
                                                         --------    --------
         Net cash provided by operating activities             55         860

Cash flows from investing activities:
   Additions to furniture, fixtures and equipment            (102)          -
                                                         --------    --------
         Net cash used in investing activities               (102)          -

Cash flows from financing activities:
   Proceeds from issuance of common stock                       -         499
                                                         --------    --------
         Net cash provided by financing activities              -         499
                                                         --------    --------

Net (decrease) increase in cash and cash equivalents          (47)      1,359

Cash and cash equivalents, beginning of period              1,591           -
                                                         --------     -------

Cash and cash equivalents, end of period                 $  1,544     $ 1,359
                                                         ========     =======

Supplemental disclosure:

Cash paid during the period for income taxes            $     141     $     -
                                                        =========     =======











                           See accompanying notes.



<PAGE>


                           ILM II LEASE CORPORATION

                        Notes to Financial Statements
                                 (Unaudited)


1. General

     The accompanying financial statements,  footnotes and discussions should be
     read in conjunction with the financial  statements and footnotes  contained
     in the  Company's  Annual Report for the year ended August 31, 1996. In the
     opinion of management,  the accompanying  financial statements,  which have
     not been audited,  reflect all adjustments  necessary to present fairly the
     results for the interim period. All of the accounting adjustments reflected
     in the accompanying  interim financial statements are of a normal recurring
     nature.

        The accompanying  financial statements have been prepared on the accrual
     basis of  accounting  in  accordance  with  generally  accepted  accounting
     principles which requires management to make estimates and assumptions that
     affect the reported  amounts of assets and  liabilities  and disclosures of
     contingent  assets and  liabilities  as of February 28, 1997 and August 31,
     1996 and revenues and expenses for each of the three and six-month  periods
     ended February 28, 1997 and February 29, 1996.  Actual results could differ
     from the estimates and assumptions used.

        The Company was formed by PaineWebber  Independent  Living Mortgage Inc.
     II (ILM) to operate six rental  housing  projects  for  independent  senior
     citizens   ("the  Senior   Housing   Facilities")   under  a  master  lease
     arrangement.  ILM has elected to be taxed as a Real Estate Investment Trust
     ("REIT") under the Internal  Revenue Code of 1986, as amended ("the Code"),
     for each taxable year of  operations.  In order to maintain its status as a
     REIT,  75% of ILM's annual gross income must be Qualified  Rental Income as
     defined  by the Code.  The rent  paid by the  residents  of the  Facilities
     likely would not be deemed to be  Qualified  Rental  Income  because of the
     extent of services  provided to residents.  Consequently,  the operation of
     the Facilities by ILM or its  subsidiaries  over an extended period of time
     could adversely  affect ILM's status as a REIT.  Therefore,  ILM formed the
     Company  to  operate  the  Senior  Housing  Facilities,  and by  means of a
     distribution,  transferred the ownership of the common stock of the Company
     to the  holders of ILM common  stock on  September  1,  1995.  Because  the
     Company,  which  is  taxed  as a  regular  C  corporation,  is no  longer a
     subsidiary  of  ILM,  it  can  receive   service-related   income   without
     endangering the REIT status of ILM.

        At a  meeting  of the  ILM  Board  on  January  10,  1997,  the  Advisor
     recommended the immediate sale of the senior housing facilities held by ILM
     and an affiliated  entity,  PaineWebber  Independent  Living Mortgage Fund,
     Inc.  ("ILM1"),  by  means  of a  controlled  auction  to be  conducted  by
     PaineWebber,  at no additional  compensation,  with PaineWebber offering to
     purchase the properties for a specified  price,  thereby  guaranteeing  the
     shareholders a "floor"  price.  The Advisor also stated that if PaineWebber
     purchased  the  properties  at the  specified  price  and were then able to
     resell the properties at a higher price,  PaineWebber would pay any "excess
     profits" to the  shareholders.  To assist the Company and ILM in evaluating
     the Advisor's proposal, a disinterested, independent investment banker with
     expertise in healthcare REITs and  independent/assisted  living  financings
     was engaged.  Following a  comprehensive  analysis,  the investment  banker
     recommended that ILM decline the Advisor's proposal and instead investigate
     expansion and restructuring alternatives. The Company and ILM are presently
     analyzing  the  Advisor's  proposal  and  the   recommendations  and  other
     information provided by the independent investment banker.

        In addition,  the Company and ILM are  reviewing  various  restructuring
     alternatives.  The Company  and ILM are  analyzing a merger of ILM with ILM
     Holding  and are also  considering  possibly  merging ILM with ILM1 and the
     Company with ILM I Lease Corporation. In addition, ILM is exploring listing
     its shares on an exchange  or,  alternatively,  having  them trade  through
     NASDAQ.  The Company has not fully evaluated any of these  alternatives and
     is  not  in a  position  at  this  time  to  recommend  any  action  to its
     shareholders.  There can be no assurance  that the Company  will  recommend
     taking any of such actions.


<PAGE>


2.   The Master Lease Agreement

        The  Company's  sole  business is the  operation  of the Senior  Housing
     Facilities.  The Company has leased the Senior Housing  Facilities from ILM
     II  Holding,  Inc.  ("ILM  Holding"),  a  majority-owned  and  consolidated
     subsidiary of ILM which currently  holds title to the Facilities,  pursuant
     to a master  lease  which  commenced  on  September  1, 1995 and expires on
     December  31, 2000  (December  31, 1999 with  respect to the Santa  Barbara
     Facility).  The Company has entered  into a property  management  agreement
     with Capital  Senior  Management 2, Inc. of Dallas,  Texas  ("Capital")  to
     handle the  day-to-day  operations of the Senior  Housing  Facilities.  The
     management  contract  with Capital was  executed in July 1996.  In November
     1996,  Lawrence A. Cohen,  a Director of the Company and  President,  Chief
     Executive  Officer and Director of ILM, also became Vice Chairman and Chief
     Financial  Officer of Capital  Senior Living  Corporation,  an affiliate of
     Capital.  As a result, the management contract with Capital is considered a
     related party transaction (see Note 3).

      Descriptions  of the  properties  covered by the master lease  between the
   Company and ILM Holding are summarized as follows:


<TABLE>
                                                         Rentable       Date of
            Name                     Location            Units (1)      Construction (2)
            ----                     --------            ---------      ----------------
   <S>                               <C>                  <C>           <C>
          
      The Palms                     Fort Myers, FL         204              October 1988
      Crown Villa                   Omaha, NE              73               January 1992
      Overland Park Place           Overland Park, KS      137              June 1984
      Rio Las Palmas                Stockton, CA           162              June 1988
      The Villa at Riverwood        St. Louis County, MO   119              June 1985
      Villa Santa Barbara  (3)      Santa Barbara, CA      123              June 1979
</TABLE>

      (1)Represents  rentable  units as of April 1, 1994,  the effective date of
         the  transfer of  ownership  to ILM  Holding.  Rentable  units  exclude
         manager  units,  assistant  manager units and other units  converted to
         non-rental usage. These unit counts will be updated upon the completion
         of the new  property  management  team's  current  program  of  placing
         non-rental units back into service.

      (2)Date initial construction was completed.

      (3)The Company operates Villa Santa Barbara under a co-tenancy arrangement
         with an affiliated  company,  ILM I Lease Corporation.  The Company has
         entered into an agreement with ILM I Lease  Corporation  regarding such
         joint tenancy.  ILM I Lease Corporation was formed for similar purposes
         as the Company by an affiliated REIT,  PaineWebber  Independent  Living
         Mortgage Fund, Inc., whose subsidiary owns a portion of the Villa Santa
         Barbara  property.  The portion of the  Facility  leased by the Company
         represents 75% of the total project.

      Terms of the Master Lease Agreement
      -----------------------------------

      During the term of the master  lease,  the  Company  is  obligated  to pay
   annual base rent ("Base  Rent") for the  Facilities.  For calendar year 1995,
   the  annual  Base  Rent was  $3,548,700  (prorated  according  to the date of
   commencement  of the master  lease),  allocated as follows:  $849,836 for the
   Florida Facility, $541,010 for the Nebraska Facility, $720,252 for the Kansas
   Facility,  $591,429 for the Stockton,  California Facility,  $423,933 for the
   Missouri  Facility and $422,240 for the Santa Barbara,  California  Facility.
   For  calendar  years  1996  through  1999,  the  annual  Base  Rent  will  be
   $4,035,600, allocated as follows: $966,439 for the Florida Facility, $615,240
   for the Nebraska Facility, $819,074 for the Kansas Facility, $672,576 for the
   Stockton,  California  Facility,  $482,098  for  the  Missouri  Facility  and
   $480,173 for the Santa Barbara,  California Facility. For calendar year 2000,
   the annual Base Rent will be $3,555,427 (reflects rent reduction attributable
   to  termination  of lease for Villa Santa Barbara on December 31, 1999).  The
   master lease is a  "triple-net"  lease  whereby the Lessee pays all operating
   expenses,  governmental taxes and assessments,  utility charges and insurance
   premiums, as well as the costs of all required maintenance, personal property
   and  non-structural  repairs in  connection  with the operation of the Senior
   Housing  Facilities  ("Additional  Rent").  ILM  Holding,  as the Lessor,  is
   responsible  for major capital  improvements  and  structural  repairs to the
   Senior Housing  Facilities.  In addition,  beginning in the second quarter of
   fiscal  1997 and for the  remainder  of the lease  term,  the Company is also
   obligated to pay variable  rent  ("Variable  Rent") for each  Facility.  Such
   Variable Rent is payable  quarterly and equals 40% of the excess,  if any, of
   the aggregate total revenues for the Facilities, on an annualized basis, over
   $13,021,000.  Variable  rent  amounted to $131,000 for the three months ended
   February 28, 1997.
<PAGE>
      Under the master lease,  the Company's use of the Facilities is limited to
   use as a Senior Housing  Facility  unless the Lessor's  consent to some other
   use is obtained.  The Company has  responsibility  to obtain and maintain all
   licenses,  certificates and consents needed to use and operate each Facility,
   and to use and maintain each  Facility in compliance  with all local board of
   health and other  applicable  governmental  and  insurance  regulations.  The
   Facilities  located in  California,  Florida and Kansas are  licensed by such
   states to provide assisted living services.  Also,  various health and safety
   regulations and standards  which are enforced by state and local  authorities
   apply to the  operation of all of the  Facilities.  Violations of such health
   and safety standards could result in fines, penalties,  closure of a Facility
   or other sanctions.

3.    Related Party Transactions

      The  Advisor  receives a base fee in an amount  equal to 0.5% of the Gross
   Operating Revenues of the Facilities  operated by the Company as compensation
   for its services.  This fee amounted to $36,000 and $32,000 for the six-month
   periods  ended  February 28, 1997 and February  29,  1996,  respectively.  In
   addition,  an  affiliate  of the  Advisor is entitled  to  reimbursement  for
   expenses  incurred in providing  certain  financial,  accounting and investor
   communication services to the Company. Included in general and administrative
   expenses  for each of the  six-month  periods  ended  February  28,  1997 and
   February 29, 1996 is $30,000,  representing  reimbursements to this affiliate
   of the Advisor for providing such services to the Company.

      The Company has retained Capital Senior Management 2, Inc.  ("Capital") of
   Dallas,  Texas to be the property  manager of the Senior  Housing  Facilities
   pursuant to a Management  Agreement  which  commenced  on July 29, 1996.  The
   initial term of the Management  Agreement expires on December 31, 2000, which
   coincides  with the  expiration  of the master  lease  agreement  between the
   Company  and ILM  Holding  described  in  Note  2.  Under  the  terms  of the
   Management  Agreement,  in the  event  that the  master  lease  agreement  is
   extended beyond December 31, 2000, the Management  Agreement will be extended
   as well, but not beyond July 29, 2001.  Effective in November 1996,  Lawrence
   A. Cohen, a Director of the Company and President,  Chief  Executive  Officer
   and Director of ILM, was also named Vice Chairman and Chief Financial Officer
   of Capital  Senior  Living  Corporation,  an affiliate of Capital.  Under the
   terms of the Management Agreement,  Capital earns a Base Management Fee equal
   to 4% of the Gross Operating  Revenues of the Senior Housing  Facilities,  as
   defined.  Capital is also eligible to earn an Incentive  Management Fee equal
   to 25% of the amount by which the average monthly Net Cash Flow of the Senior
   Housing  Facilities,  as defined,  for the twelve month period  ending on the
   last day of each calendar month exceeds a specified Base Amount.  Each August
   31,  beginning on August 31, 1997, the Base Amount will be increased based on
   the percentage  increase in the Consumer Price Index.  ILM has guaranteed the
   payment  of all  fees  due to  Capital  under  the  terms  of the  Management
   Agreement.  Capital  earned  total  management  fees of $380,000  for the six
   months ended February 28, 1997.

      Accounts  payable -  affiliates  at February  28, 1997 and August 31, 1996
   includes advances of $233,000 and $225,000,  respectively,  received from ILM
   Holding,  primarily  for the  purchase  of  personal  property to operate the
   Senior  Housing  Facilities.  The  remaining  balance of  accounts  payable -
   affiliates at February 28, 1997 includes  management  fees payable to Capital
   of $48,000 and advisory fees payable to the Advisor of $19,000. The remaining
   balance  of  accounts  payable -  affiliates  at  August  31,  1996  includes
   management  fees of $60,000  payable to Capital and advisory  fees payable to
   the Advisor of $17,000.

4. Contingencies

      A management  agreement  between ILM Holding and Angeles Housing Concepts,
   Inc.  ("AHC")  which  covered  the  management  of  all  six  Senior  Housing
   Facilities was assigned to the Company  effective  September 1, 1995. On July
   29,  1996,  the Company  and ILM Holding  ("the  Companies")  terminated  the
   property  management   agreement  with  AHC.  The  management  agreement  was
   terminated  for cause  pursuant to the terms of the contract.  Simultaneously
   with the  termination of the management  agreement,  the Companies,  together
   with certain affiliated entities, filed suit against AHC in the United States
   District  Court for the Eastern  District of Virginia for breach of contract,
   breach of fiduciary duty and fraud. The Company and ILM Holding allege, among
   other things, that AHC willfully performed actions  specifically in violation
   of the  management  agreement  and that such  actions  caused  damages to the
   Companies.  Due to the termination of the agreement for cause, no termination
   fee  was  paid  to  AHC.  Subsequent  to the  termination  of the  management
   agreement,  AHC filed for protection under Chapter 11 of the U.S.  Bankruptcy
   Code in its domestic  state of  California.  The filing was challenged by the
   Companies,  and the Bankruptcy  Court dismissed AHC's case effective  October
   15, 1996. In November  1996,  AHC filed an Answer with the Virginia  District
   Court  in  response  to  the  litigation  initiated  by the  Companies  and a
   Counterclaim   against  ILM  Holding.   The  Counterclaim  alleges  that  the
   management agreement was wrongfully terminated for cause and requests damages
   which  include the payment of a  termination  fee in the amount of  $750,000,
   payment of  management  fees  pursuant  to the  contract  from August 1, 1996
   through October 15, 1996, and recovery of attorney's  fees and expenses.  ILM
   has  guaranteed  the  payment  of the  termination  fee  at  issue  in  these
   proceedings to the extent that any  termination  fee is deemed payable by the
   court and in the event  that the  Company  fails to perform  pursuant  to its
   contractual  obligations.  The discovery process is currently  underway.  The
   court  initially  set a trial date of April 28, 1997 but,  at AHC's  request,
   recently  rescheduled  the trial for June 23, 1997.  The Companies  intend to
   diligently prosecute the case and to vigorously defend the counterclaims made
   by AHC. The eventual outcome of this termination  dispute cannot presently be
   determined.  Accordingly,  no provision for any liability  which might result
   from the  outcome  of this  matter  has  been  recorded  in the  accompanying
   financial statements.

      On February 4, 1997,  AHC filed a Complaint in the  Superior  Court of the
   State of California against Capital, Lawrence Cohen, and others alleging that
   the  defendants  intentionally  interfered  with  AHC's  property  management
   agreement with ILM Holding by inducing ILM Holding to terminate the agreement
   (the  "California  litigation").  The  complaint  seeks  damages  of at least
   $2,000,000.  At a Board meeting on February 26, 1997, the Company's  Board of
   Directors  concluded  that since all of Mr. Cohen's  actions  relating to the
   California  litigation  were taken either on behalf of the Company  under the
   direction of the Board or as a PaineWebber  Properties employee,  the Company
   or its  affiliates  should  indemnify  Mr. Cohen with respect to any expenses
   arising from the California  litigation,  subject to any insurance recoveries
   for those  expenses.  The Company's  Board also  concluded  that,  subject to
   certain  conditions,  the  Company  or its  affiliates  should  advance up to
   $20,000 to pay reasonable legal fees and expenses  incurred by Capital in the
   California litigation.  The defendants intend to vigorously defend the claims
   made against them in the California litigation.  The eventual outcome of this
   litigation cannot presently be determined and, accordingly,  no provision for
   any liability has been recorded in the accompanying financial statements.

5. Federal Income Taxes

      The  Company is taxable as a regular C  corporation  and,  therefore,  its
   income is subject to tax at the federal and state levels. The Company reports
   on a  calendar  year  for  tax  purposes.  Income  taxes  at the  appropriate
   statutory  rates  have  been  provided  for  in  the  accompanying  financial
   statements.

      Deferred  income tax  expense  (benefit)  reflects  the net tax effects of
   temporary  differences between the carrying amounts of assets and liabilities
   for  financial  reporting  purposes  and the  amounts  used  for  income  tax
   purposes.  The Company's  deferred tax assets and  liabilities as of February
   28,  1997 and August 31,  1996 are  comprised  of the  following  amounts (in
   thousands):
                                                      February 28    August 31
                                                      -----------    ---------

            Deferred tax asset - straight-line 
               rent expense                             $   46          $  53
            Deferred tax liability - tax over 
               book amortization                            23             15
                                                        ------          -----
       

                 Net deferred tax asset                 $   23          $  38
                                                        ======          =====

      The  components  of income  tax  expense  (benefit)  for the three and six
   months  ended  February  28,  1997 and  February  29, 1996 are as follows (in
   thousands):

                                    Three Months Ended      Six Months Ended
                                      February 28/29,         February 28/29,
                                     -----------------     -------------------
                                     1997       1996        1997        1996
                                     ----       ----        ----        ----

            Current:
              Federal              $   18    $     10     $   141      $  114
              State                     3           2          25          21
                                   ------    --------     -------      ------
                 Total current         21          12         166         135
                                   ------    --------     -------      ------

            Deferred:
              Federal                   6          20          12         (16)
              State                     1           3           2          (3)
                                   ------    --------     -------     -------
                 Total deferred         7          23          14         (19)
                                   ------    --------     -------     -------
                                   $   28    $     35      $  180     $   116
                                   ======    ========      ======     =======

<PAGE>
      The  reconciliation of income tax computed at U.S. federal statutory rates
   to income tax expense for the six months ended February 28, 1997 and February
   29, 1996 is as follows (in thousands):

                                                   1997                  1996
                                                   ----                  ----

            Tax at U.S. statutory rates      $  153    34%         $   98   34%
            State income taxes, net
            of federal tax benefit               27     6%             18    6%
                                             ------    ---         ------  ----
                                             $  180    40%         $  116   40%
                                             ======    ===         ======  =====

<PAGE>





                           ILM II LEASE CORPORATION

                     MANAGEMENT'S DISCUSSION AND ANALYSIS
               OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

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

      ILM II  Lease  Corporation  (the  "Company")  was  formed  by  PaineWebber
Independent  Living Mortgage Inc. II ("ILM"),  a publicly-held,  non-traded Real
Estate  Investment  Trust  ("REIT"),  for the  purpose of  operating  six Senior
Housing Facilities under the terms of a master lease agreement.  ILM contributed
$500,000 in return for all of the issued and outstanding shares of the Company's
common stock.  ILM has elected to be taxed as a REIT under the Internal  Revenue
Code of 1986, as amended ("the Code"),  for each taxable year of operations.  In
order to maintain its status as a REIT, 75% of ILM's annual gross income must be
Qualified  Rental Income as defined by the Code.  The rent paid by the residents
of the  Facilities  likely  would not be deemed to be  Qualified  Rental  Income
because of the extent of  services  provided  to  residents.  Consequently,  the
operation of the Facilities by ILM or its  subsidiaries  over an extended period
of time could adversely affect ILM's status as a REIT. Therefore, ILM formed the
Company to operate the Facilities,  and by means of a distribution,  transferred
the  ownership  of the common  stock of the Company to the holders of ILM common
stock on September 1, 1995.  Because the Company,  which is taxed as a regular C
corporation,  is no longer a subsidiary  of ILM, it can receive  service-related
income without endangering the REIT status of ILM.

      The  Company's  sole  business  is the  operation  of the  Senior  Housing
Facilities.  The Company has leased the Senior  Housing  Facilities  from ILM II
Holding, Inc. ("ILM Holding"),  a majority-owned and consolidated  subsidiary of
ILM which currently  holds title to the  Facilities,  pursuant to a master lease
which  commenced on September 1, 1995 and expires on December 31, 2000 (December
31, 1999 with  respect to the Santa  Barbara  Facility).  The master  lease is a
"triple-net" lease whereby the Lessee pays all operating expenses,  governmental
taxes and assessments,  utility charges and insurance  premiums,  as well as the
costs of all required maintenance,  personal property and non-structural repairs
in connection with the operation of the Senior Housing Facilities.  ILM Holding,
as the Lessor,  is  responsible  for major capital  improvements  and structural
repairs to the Senior Housing Facilities.  During the initial term of the master
lease,  the Company is  obligated  to pay annual base rent for the use of all of
the  Facilities  in the aggregate  amount of  $3,548,700  for calendar year 1995
(prorated based on the commencement date of the lease),  $4,035,600 for calendar
years 1996 through 1999 and  $3,555,427  for calendar year 2000  (reflects  rent
reduction  attributable  to  termination  of lease for Villa  Santa  Barbara  on
December 31, 1999).  Beginning in the second  quarter of fiscal 1997 and for the
remainder of the lease term,  the Company is also obligated to pay variable rent
for each Facility. Such variable rent is payable quarterly and equals 40% of the
excess,  if any, of the  aggregate  total  revenues  for the  Facilities,  on an
annualized basis,  over $13,021,000.  Variable rent amounted to $131,000 for the
three months ended February 28, 1997.

      On July 29, 1996, the Company and ILM Holding ("the Companies") terminated
the property  management  agreement  with AHC  covering  the six Senior  Housing
Facilities  leased by the Company.  The management  agreement was terminated for
cause pursuant to the terms of the contract. Simultaneously with the termination
of the management  agreement,  the Companies,  together with certain  affiliated
entities,  filed suit against AHC in the United  States  District  Court for the
Eastern  District of Virginia for breach of contract,  breach of fiduciary  duty
and fraud.  The Company and ILM Holding  allege,  among other  things,  that AHC
willfully  performed  actions   specifically  in  violation  of  the  management
agreement  and that such actions  caused  damages to the  Companies.  Due to the
termination  of the agreement  for cause,  no  termination  fee was paid to AHC.
Subsequent  to the  termination  of the  management  agreement,  AHC  filed  for
protection under Chapter 11 of the U.S. Bankruptcy Code in its domestic state of
California. The filing was challenged by the Companies, and the Bankruptcy Court
dismissed AHC's case effective  October 15, 1996. In November 1996, AHC filed an
Answer with the Virginia District Court in response to the litigation  initiated
by the  Companies  and a  Counterclaim  against ILM  Holding.  The  Counterclaim
alleges that the management  agreement was  wrongfully  terminated for cause and
requests damages which include the payment of a termination fee in the amount of
$750,000,  payment of  management  fees  pursuant to the contract from August 1,
1996 through October 15, 1996, and recovery of attorney's fees and expenses. ILM
has guaranteed the payment of the termination fee at issue in these  proceedings
to the extent that any termination fee is deemed payable by the court and in the
event that the Company fails to perform pursuant to its contractual obligations.
The discovery  process is currently  underway.  The court  initially set a trial
date of April 28, 1997 but, at AHC's request, recently rescheduled the trial for
June 23, 1997.  The  Companies  intend to  diligently  prosecute the case and to
vigorously  defend the  counterclaims  made by AHC. The eventual outcome of this
termination  dispute cannot presently be determined.  Accordingly,  no provision
for any  liability  which might  result from the outcome of this matter has been
recorded in the accompanying financial statements.

      Subsequent to terminating  the management  agreement with AHC, the Company
retained Capital Senior  Management 2, Inc.  ("Capital") of Dallas,  Texas to be
the new  manager of the  Senior  Housing  Facilities  pursuant  to a  Management
Agreement  which  commenced on July 29, 1996. The initial term of the Management
Agreement  expires on December 31, 2000,  which coincides with the expiration of
the master lease agreement  between the Company and ILM Holding described above.
Under the terms of the Management Agreement,  in the event that the master lease
agreement is extended beyond December 31, 2000, the Management Agreement will be
extended as well,  but not beyond July 29,  2001.  Effective  in November  1996,
Lawrence A. Cohen,  a Director of the  Company and  President,  Chief  Executive
Officer and  Director of ILM, was also named Vice  Chairman and Chief  Financial
Officer of Capital Senior Living Corporation, an affiliate of Capital. Under the
terms of the Agreement,  Capital earns a Base  Management Fee equal to 4% of the
Gross Operating Revenues of the Senior Housing Facilities,  as defined.  Capital
is also eligible to earn an Incentive  Management Fee equal to 25% of the amount
by which the average monthly Net Cash Flow of the Senior Housing Facilities,  as
defined,  for the twelve  month period  ending on the last day of each  calendar
month exceeds a specified Base Amount.  Each August 31,  beginning on August 31,
1997, the Base Amount will be increased based on the percentage  increase in the
Consumer Price Index.  ILM has guaranteed the payment of all fees due to Capital
under the terms of the Management Agreement.

      On February 4, 1997,  AHC filed a Complaint in the  Superior  Court of the
State of California  against  Capital,  Lawrence Cohen, and others alleging that
the defendants intentionally interfered with AHC's property management agreement
with ILM  Holding by  inducing  ILM  Holding to  terminate  the  agreement  (the
"California litigation"). The complaint seeks damages of at least $2,000,000. At
a Board meeting on February 26, 1997, the Company's Board of Directors concluded
that since all of Mr. Cohen's actions relating to the California litigation were
taken either on behalf of the Company  under the  direction of the Board or as a
PaineWebber  Properties employee, the Company or its affiliates should indemnify
Mr. Cohen with respect to any expenses  arising from the California  litigation,
subject to any insurance recoveries for those expenses. The Company's Board also
concluded  that,  subject to certain  conditions,  the Company or its affiliates
should advance up to $20,000 to pay reasonable legal fees and expenses  incurred
by Capital in the California  litigation.  The  defendants  intend to vigorously
defend the claims made against them in the California  litigation.  The eventual
outcome of this litigation cannot presently be determined and,  accordingly,  no
provision  for any liability  has been  recorded in the  accompanying  financial
statements.

      The six properties  which the Company leases from ILM Holding averaged 94%
occupancy for the quarter ended February 28, 1997. Current annualized  operating
income levels are  sufficient  to cover the base master lease  payments at their
current annual level of $4,035,600,  which will remain in effect  throughout the
remaining term of the lease. As noted above,  the master lease also provides for
the payment of variable  rent  beginning in December  1996.  The Senior  Housing
Facilities  are currently  generating  gross revenues which are in excess of the
specified  threshold  in the variable  rent  calculation,  as discussed  further
above.  Variable rent  amounted to $131,000 for the three months ended  February
28, 1997. Further  improvements in operating income levels are expected upon the
successful implementation of several new programs by the new property management
company. At many properties,  the management company has increased the number of
rentable  units by asking the facility  managers to move off site. The increased
rental revenue is expected to more than offset any  additional  costs of housing
the  managers  and  providing  24-hour  coverage at the front desk.  The live-in
assistant  manager  positions at several  properties are also being  eliminated,
which will increase the number of rentable  units.  In addition,  the management
company is in the process of implementing  new marketing plans at several of the
properties and increasing  rental rates at properties  that have maintained high
occupancy levels and are located in strong markets.  Property improvements to be
paid for the Company during fiscal 1997 include new dining room carpeting at The
Palms, and a new on-site vehicle for The Villa at Riverwood. Fiscal 1997 capital
expenditure  plans to be funded by ILM  include  an  ongoing  program to replace
air-conditioning  units at the Santa Barbara facility,  landscaping  upgrades at
Rio Las Palmas,  as well as planned roof repairs at Overland  Park Place and The
Palms. ILM is also  investigating the potential for future expansions of several
of the  facilities  which are  located  in areas that have  particularly  strong
markets for senior housing.

      At a meeting of the ILM Board on January 10, 1997, the Advisor recommended
the  immediate  sale  of the  senior  housing  facilities  held  by  ILM  and an
affiliated entity,  PaineWebber Independent Living Mortgage Fund, Inc. ("ILM1"),
by  means  of a  controlled  auction  to  be  conducted  by  PaineWebber,  at no
additional  compensation,  with PaineWebber  offering to purchase the properties
for a specified  price,  thereby  guaranteeing the shareholders a "floor" price.
The Advisor also stated that if  PaineWebber  purchased  the  properties  at the
specified  price and were then able to resell the  properties at a higher price,
PaineWebber  would pay any "excess profits" to the  shareholders.  To assist the
Company  and  ILM  in  evaluating  the  Advisor's  proposal,   a  disinterested,
independent   investment   banker  with   expertise  in  healthcare   REITs  and
independent/assisted  living  financings was engaged.  Following a comprehensive
analysis,  the  investment  banker  recommended  that ILM decline the  Advisor's
proposal and instead investigate expansion and restructuring  alternatives.  The
Company is presently  analyzing the Advisor's  proposal and the  recommendations
and other information provided by the independent investment banker.
<PAGE>
      In  addition,  the Company  and ILM are  reviewing  various  restructuring
alternatives. The Company and ILM are analyzing a merger of ILM with ILM Holding
and are also considering possibly merging ILM with ILM1 and the Company with ILM
I Lease  Corporation.  In addition,  ILM is  exploring  listing its shares on an
exchange or,  alternatively,  having them trade through NASDAQ.  The Company and
ILM have not fully evaluated any of these  alternatives and is not in a position
at this  time to  recommend  any  action  to its  shareholders.  There can be no
assurance that the Company will recommend taking any of such actions.

      At  February  28,  1997,  the  Company  had cash and cash  equivalents  of
$1,544,000.  Such  amounts  will  be  used  for the  Company's  working  capital
requirements. As noted above, under the terms of the master lease, the Lessor is
responsible for major capital  improvements and structural repairs to the Senior
Housing  Facilities.  Consequently,  the  Company  does not  have  any  material
commitments  for  capital  expenditures.   Furthermore,  the  Company  does  not
currently  anticipate  the need to  engage  in any  borrowing  activities.  As a
result,  substantially  all of the  Company's  cash flow will be generated  from
operating activities. The Company did not pay cash dividends in fiscal 1996. The
Company  intends to review this policy during the second half of fiscal 1997 and
may or may not  determine  to pay  cash  dividends  in the  future.  Payment  of
dividends, if any, will be at the discretion of the Company's Board of Directors
and  will  depend  upon  such  factors  as the  Company's  financial  condition,
earnings,  anticipated  investments  and other relevant  factors.  The source of
future  liquidity  is  expected to be from  operating  cash flow from the Senior
Housing  Facilities,  net of the  master  lease  payments  to ILM  Holding,  and
interest income earned on invested cash reserves.  Such sources of liquidity are
expected to be adequate to meet the Company's  operating  requirements on both a
short-term and long-term basis.

Results of Operations
Three Months Ended February 28, 1997
------------------------------------

   The  Company's  net income  decreased  by $9,000 for the three  months  ended
February  28,  1997 when  compared  to the same  period in the prior  year.  The
decrease in net income is primarily the result of increases in master lease rent
expense and  general and  administrative  expenses  of  $131,000  and  $117,000,
respectively.   In  addition,   costs  were  higher  in  the  areas  of  dietary
administration  and utilities  expenses for the three months ended  February 28,
1997.  Master lease rent  expense  increased  due to  additional  variable  rent
accrued  effective  for the second  quarter of fiscal 1997 per the Master  Lease
Agreement.  General  and  administrative  expenses  increased  largely due to an
increase  in legal  fees,  attributable  mainly to the  ongoing  AHC  litigation
referred to above. Variable operating expenses including dietary salaries, wages
and food  service  expense,  administrative  salaries,  wages and  expenses  and
utilities  expense  increased  primarily  as a  result  of the  increase  in the
portfolio's  average  occupancy  level  from 89% for the  fiscal  quarter  ended
February 1996 to 94% for the fiscal  quarter ended  February 1997. The increases
in operating expenses were partially offset by an increase in rental income from
the Senior Housing Facilities of $349,000.  The increase in rental income is due
to the increase in the  portfolio's  occupancy  level when  compared to the same
period in the prior year, as well as increases in rental rates at certain of the
facilities  located  in strong  markets.  Significant  leasing  gains  have been
achieved at Villa Santa Barbara during the current period.

Six Months Ended February 28, 1997
----------------------------------

      The  Company's  net income  increased  by $96,000 for the six months ended
February  28,  1997 when  compared  to the same  period in the prior  year.  The
increase in net income is primarily  the result of an increase in rental  income
from the Senior Housing Facilities of $760,000 for the current six-month period.
The increase in rental income is due to an increase in the  portfolio's  average
occupancy  level from 89% for the six months ended  February 1996 to 95% for the
six months ended  February 1997, as well as increases in rental rates at certain
of the facilities located in strong markets. Significant leasing gains have been
achieved  at Villa Santa  Barbara  during the current  period.  The  increase in
rental income was partially offset by increases of $131,000 in master lease rent
expense,  $162,000 in dietary  salaries,  wages and food  service  expenses  and
$124,000 in general  and  administrative  expenses.  Master  lease rent  expense
increased  due to  additional  variable  rent accrued  effective  for the second
quarter of fiscal 1997 per the Master Lease Agreement.  Dietary salaries,  wages
and food service expenses  increased  largely due as a result of the improvement
in the portfolio  occupancy level discussed  above.  General and  administrative
expenses increased mainly due to an increase in legal fees,  attributable mainly
to the ongoing AHC litigation referred to above. In addition, income tax expense
increased by $64,000 due to the increase in pre-tax income.



<PAGE>



                                   PART II
                              Other Information

Item 1. Legal Proceedings

      The status of the litigation involving the Company,  ILM II Holding,  Inc.
and Angeles Housing  Concepts,  Inc. remains unchanged from what was reported in
the Company's Annual Report on Form 10-K for the year ended August 31, 1996. The
discovery process is currently underway. The court initially set a trial date of
April 28, 1997 but, at AHC's request,  recently  rescheduled  the trial for June
23, 1997.

Item 2. through 5.     NONE

Item 6. Exhibits and Reports on Form 8-K

(a)  Exhibits:        NONE

(b)  Reports on Form 8-K:   NONE









<PAGE>





                           ILM II LEASE CORPORATION





                                  SIGNATURES


Pursuant to the  requirements of Section 13 or 15(d) of the Securities  Exchange
Act of 1934,  the  registrant  has duly  caused  this report to be signed on its
behalf by the undersigned thereunto duly authorized.




                          By: ILM II LEASE CORPORATION




                              By:  /s/ Timothy J. Medlock
                                   ----------------------
                                   Timothy J. Medlock
                                   Treasurer





Dated: April 17, 1997