Form 10-KSB for December 31, 2004 10-KSB
 
 
 
 
 UNITED STATES
 SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 
 
 
 
 
 FORM 10-KSB
 
 
 xAnnual REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
 OF 1934
 
 
 For the annual period ended December 31, 2004
 
 
  ̈TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
 
 
 For the transition period from to
 
 
 
 Commission file number 333-86516
 
 
 
 
 
 Pilot Financial, Inc.
  Florida 75-2996764
  
 1717 Second Street, Suite D, Sarasota, Florida 34236
 
 
 941/364-9915
 
 
 
 
 
 
 APPLICABLE ONLY TO CORPORATE ISSUERS
 
 State the number of shares outstanding of each of the issuers classes of common
 equity, as of the latest practicable date:
 
 
 Title of Class
 
 Number of Shares
 Outstanding On
 December 31, 2004
 
 
 
 First Series Preferred Stock, $.01 par value 22,592
 Second Series Convertible Preferred Stock, $01 par value 740,800
 Common Stock, $.01 par value 740,800
 
 
 Transitional Small Business Disclosure Format: Yes  ̈ No x
 
 
 
 
 
 
 
 ***PILOT FINANCIAL, INC.***
 
 
 
 
 
 ***REPORT ON AUDITS OF***
 ***CONSOLIDATED FINANCIAL STATEMENTS***
 
 
 
 
 ***FOR THE YEARS ENDED***
 ***DECEMBER 31, 2004*** ***AND 2003***
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 ***Bobbitt, Pittenger & Company, P.A.***
 
 
   PILOT FINANCIAL, INC.
 
 
 
 
 
 CONTENTS
 
 
 PAGE
 
 FINANCIAL STATEMENTS
 
 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM  1
 
 CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION  2
 
 CONSOLIDATED STATEMENTS OF OPERATIONS
 
 CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY    4
 
 CONSOLIDATED STATEMENTS OF CASH FLOWS  5
 
 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS    7
 
     
 
 
 
 
 
 
 March 15, 2005
 
 
 
 
 TO THE STOCKHOLDERS
 PILOT FINANCIAL, INC.
 Sarasota , Florida
 
 
 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
 
 We have audited the accompanying consolidated statements of financial condition of Pilot Financial, Inc. as of December 31, 2004 and 2003, and the related consolidated statements of operations and stockholders equity and cash flows for the 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. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
 
 In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Pilot Financial, Inc. as of December 31, 2004 and 2003 and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.
 
 
 
 
 Certified Public Accountants
 
 
 
 PILOT FINANCIAL, INC.CONSOLIDATED STATEMENTS OF FINANCIAL CONDITIONDECEMBER 31,2004
2003ASSETSCURRENT ASSETSCash
248,936
109,823Interest and fees receivable
396,202
107,907Mortgages, current, net of unfunded mortgage proceedsof $371,822 and $174,389 and net of loss reserves of$35,280 and $28,312
4,108,232
3,003,476Other receivable
8,766
45,766Other current assets
4,944
3,271TOTAL CURRENT ASSETS
4,767,080
3,270,243OTHER ASSETSFurniture and equipment, net
35,333
32,215Software, net
12,048
36,144Other real estate owned
126,986
10,386Mortgages, long-term, net of loss reservesof $2,766 and $1,568
188,301
155,259Deferred costs, net
16,111
22,954Syndication costs, net
175,661
204,795TOTAL OTHER ASSETS
554,440
461,753TOTAL ASSETS
5,321,520
3,731,996LIABILITIES ANDSTOCKHOLDERS' EQUITYCURRENT LIABILITIESAccrued expenses
48,745
4,073Investor pass-through
-
47,036Short term notes payable
2,602,886
1,695,927Secured promissory notes, current portion
365,000
55,000Short term notes payable, related parties
474,000
485,000Lines of credit
500,000
487,081Dividends payable

3,140TOTAL CURRENT LIABILITIES
3,990,631
2,777,257SECURED PROMISSORY NOTES, LONG-TERM PORTION
1,076,000
673,000TOTAL LIABILITIES
5,066,631
3,450,257STOCKHOLDERS' EQUITYPreferred stock, $0.01 par value,10,000,000 shares authorized:First series, $0.16 cumulative voting stock, 22,592shares issued and outstanding
226
226Second series, $0.08 cumulative voting, convertiblestock, 740,800 shares issued and outstanding,convertible to one share common for oneshare of preferred
7,408
7,408Common stock, $0.01 par value, 40,000,000 sharesauthorized, 740,800 shares issued and outstanding
7,408
7,408Additional paid-in capital
525,958
514,958Retained deficit
(286,111)
(248,261)TOTAL STOCKHOLDERS' EQUITY
254,889
281,739TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY
5,321,520
3,731,996
 PILOT FINANCIAL, INC.CONSOLIDATED STATEMENTS OF OPERATIONSYEARS ENDED DECEMBER 31,2004
2003REVENUESMortgage interest and fees
1,033,016
549,679Other revenue
23,520
51,477TOTAL REVENUE
1,056,536
601,156EXPENSESAdvertising
7,954
22,488Depreciation and amortization
98,965
64,350General and administrative
216,834
78,440Interest
396,380
272,990Loan servicing
7,921
1,162Professional fees
39,057
53,852Salaries and benefits
263,675
242,414TOTAL EXPENSES
1,030,786
735,696INCOME (LOSS) BEFORE INCOME TAXES
25,750
(134,540)PROVISION FOR INCOME TAXES
-
-NET INCOME (LOSS)
25,750
(134,540)NET LOSS PER SHARE, after adjustment for annualpreferred stock dividends of $63,600.
-0.05
-0.27   PILOT FINANCIAL, INC.CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITYDECEMBER 31, 2004 AND 2003First
SecondSeries
Series

AdditionalPreferred
Preferred
Common
Paid-In
RetainedStock
Stock
Stock
Capital
Deficit
TotalSTOCKHOLDERS' EQUITY,226
7,408
7,408
514,958
(50,121)
479,879Net loss
-
-
-
-
(134,540)
(134,540)Dividends onpreferred stock




(63,600)
(63,600)STOCKHOLDERS' EQUITY,226
7,408
7,408
514,958
(248,261)
281,739Additional paid in capital



11,000

11,000Net income
-
-
-
-
25,750
25,750Dividends onpreferred stock




(63,600)
(63,600)STOCKHOLDERS' EQUITY,226
7,408
7,408
525,958
(286,111)
254,889
 PILOT FINANCIAL, INC.CONSOLIDATED STATEMENTS OF CASH FLOWSYEAR ENDED DECEMBER 31,2004
2003CASH FLOWS FROM OPERATINGACTIVITIESNet income (loss)
25,750
(134,540)Adjustments to reconcile net income (loss) tonet cash used by operating activities:Bad debt expense
6,968Amortization of loan fees offset against interest income
5,052Depreciation expense
38,634
23,757Amortization expense
1,193
1,640Amortization of syndication costs
59,111
44,169Gain on sale of joint venture property

(46,807)Increase in interest and fees receivable
(288,295)
(58,414)Decrease (increase) in other receivables
37,000
(45,000)Increase in other current assets
(1,673)
(1,382)Increase (decrease) in accrued expenses
44,672
(5,917)Decrease in deferred tax liability

(3,424)NET CASH USEDBY OPERATING ACTIVITIES
(71,588)
(225,918)CASH FLOWS FROM INVESTING ACTIVITIESChange in investor pass-through, net
(47,036)
44,226Payments for syndication costs
(29,407)
(180,149)Increase in mortgages owned, net
(1,261,339)
(75,334)Purchase of property and equipment
(17,655)
(15,002)Purchase of software

(15,772)NET CASH USED BY INVESTING ACTIVITIES
(1,355,437)
(242,031)PILOT FINANCIAL, INC.CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)YEAR ENDED DECEMBER 31,2004
2003CASH FLOWS FROM FINANCING ACTIVITIESIssuance of notes payable
2,683,250
1,279,650Principal payments on notes payable
(1,063,291)
(665,000)Principal borrowings (payments) on line of credit
12,919
(10,000)Dividends paid
(66,740)
(83,751)NET CASH PROVIDED BY FINANCING ACTIVITIES
1,566,138
520,899NET INCREASE INCASH AND CASH EQUIVALENTS
139,113
52,950CASH AND CASH EQUIVALENTS,beginning of year
109,823
56,873CASH AND CASH EQUIVALENTS,end of year
248,936
109,823SUPPLEMENTAL DISCLOSUREOF CASH FLOW INFORMATION:Interest paid
396,380
272,990Taxes paid
-
420Non-cash investing activities:Conversion of notes payable to additional paid in capital
11,000Mortgages converted to other real estate owned
116,000
74,230
  
 
 
 PILOT Financial Inc FOR THE YEARS ENDED DECEMBER 31, 2004 AND 2003
 
 
 NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
 Organization
 
 Pilot Financial, Inc. ("the Company"), formerly RJ Lending, Inc., was organized in the state of Florida on October 15, 2000. During the year ended December 31, 2003 the Company changed its name to Pilot Financial, Inc. Prior to February 1, 2002, the Company was a limited liability company known as R&J Warehouse Lending, LLC.
 
 The purpose of the Company is to place and service short-term loans for the purchase and refurbishment of houses and purchase second mortgages secured by second liens on real estate.
 
 Basis of Presentation of Consolidation
 
 The consolidated financial statements include the accounts of the Armenia Group, LLC and the Kenilworth Group, LLC. Pilot Financial, Inc. has a 100% capital interest and a 50% profit interest in each. These joint ventures were formed to purchase, renovate, and resell residential and commercial real estate. There are no intercompany balances and transactions to eliminate in consolidation.
 
 Method of Accounting
 
 The accompanying financial statements have been prepared on the accrual basis of accounting whereby revenues are recognized when earned and expenses are recognized when goods or services are received.
 
 Cash and Cash Equivalents
 
 The Company considers all investments with an original maturity of three months or less to be
 cash equivalents. The Company had no cash equivalents at December 31, 2004 and 2003 .
 
 Furniture and Equipment
 
 Furniture and equipment is recorded at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets, which range from five to seven years.
 
 Capitalized Software Costs
 
 The Company capitalizes certain computer software costs after technological feasibility has been established. Costs are amortized using the straight-line method over a period not to exceed three years.
 
 
 
 
 
 
 
 
 NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
 
 Earnings Per Share
 
 Basic earnings per share (EPS) is computed by dividing income available to common shareholders by the weighted average number of shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if dilutive securities and other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company. Diluted EPS are not shown as the computation is considered anti-dilutive.
 
 Other Real Estate
 
 Real estate properties acquired through loan foreclosure or acceptance of deeds are initially recorded at fair value less estimated selling cost at the date of foreclosure. Any write-downs based on the assets fair value at the date of acquisition are charged to the allowance for loan losses. After foreclosure, valuations are periodically performed by management and property held for sale is carried at the lower of the new cost basis or fair value less cost to sell. Impairment losses on property to be held and used are measured as the amount by which the carrying amount of a property exceeds its fair value. Costs of significant property improvements are capitalized, whereas costs relating to holding property are expensed. Valuations are periodically performed by management and any subsequent write-downs are recorded as a charge to operations, if necessary, to reduce the carrying value of a property to the lower of its cost or fair value less cost to sell.
 
 The Company had other real estate at December 31, 2004 and 2003 in the amounts of $126,986 and $10,386, respectively. There has been no impairment recognized on other real estate during the years ended December 31, 2004 and 2003.
 
 Allowance for Loan Losses
 
 The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance.
 
 The allowance for loan losses is evaluated on a regular basis by management and is based upon managements periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrowers ability to repay, estimated value of any underlying collateral, and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.
 
 Income Taxes
 
 Deferred income taxes are determined using the liability method in accordance with FASB Statement No. 109, Accounting for Income Taxes.
 
 Advertising
 
 Advertising costs are charged to expense as incurred. The Companys advertising costs totaled approximately $8,000 and $22,000 for the years ended December 31, 2004 and 2003, respectively.
 
 
 
 
 
 
 NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
 
 Revenue Recognition
 
 Revenue is recognized when an agreement exists, prices are determinable, products are delivered, and collectibility is reasonably assured. Accordingly, interest income is recognized when interest becomes due to the Company in accordance with executed loan agreements. Loan fees are received for interim and warehouse mortgages. Such revenue is recognized when loans are funded by the Company as loans are held for a short period of time, typically less than 180 days.
 
 Use of Estimates
 
 The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
 
 Reclassifications
 
 Certain reclassifications have been made to the 2003 financial statements to conform with the 2004 financial statement presentation. Such reclassifications had no effect on 2003 net loss as previously reported.
 
 NOTE B - MORTGAGES
 
 The Company originates and services interim mortgages. These mortgages fund purchases of houses, along with construction costs, to customers who renovate and re-sell the houses. These are primarily twelve and thirteen month loans with an interest rate of 14% and origination fees ranging between 0% and 5%. The net balances receivable were $3,363,746 and $2,165,836 at December 31, 2004 and 2003 , respectively.
 
 The Company makes warehouse loans with interest rates ranging from 12% to 14%. These loans usually mature in one year. These are mortgages on properties secured by real estate for customers who have completed construction and repairs of a house. The net balances receivable were $ 657,756 and $ 600,111 at December 31, 2004 and 2003 , respectively.
 
 The Company occasionally purchases and services residential second mortgages from loan originators. The loans are held at various rates. The balances receivable were $273,875 and $222,027 at December 31, 2004 and 2003 , respectively. At December 31, 2004 and 2003 , $ 85,573 and $65,200, respectively, were current assets.
 
 The majority of the Companys mortgages are short term. If the Company decides to foreclose on past due mortgages, they cease accruing interest. At December 31, 2004, the Company had $41,370 in impaired mortgages.
 
 
 
 
 
 
 NOTE B - MORTGAGES (CONTINUED)
 
 An analysis of loan loss reserves follows:
 
 
 
 NOTE C - FURNITURE AND EQUIPMENT, NET
 
 The summary of equipment at December 31 is as follows:
 
  2004
2003Furniture and equipment
$59,638
$45,808Leasehold improvements
5,719
5,719Computer software
3,825Less: accumulated depreciation
(33,849)
(19,312)$35,333
$32,215
 
  
 NOTE D - SOFTWARE, NET
 
 The summary of software at December 31 is as follows:
 
 2004
2003Software
$64,402
$48,630Less: accumulated depreciation
-52,354
-14,016$12,048
$36,144
 NOTE E - DEFERRED COSTS
 
 Deferred costs consist primarily of costs directly attributable to acquiring and collecting second mortgages. Deferred costs are amortized over the life of the second mortgages, which range from 3 to 28 years.
 
 The summary of deferred costs is as follows:
 2004
2003Deferred costs
$26,854
$31,751Less: accumulated amortization
-10,743
-8,797$16,111
$22,954
 
 
 
 
 
 
 NOTE F - SYNDICATION COSTS, NET
 
 Syndication costs consists primarily of amounts paid for legal, accounting, and other fees related to the Companys registration with the United States Securities and Exchange Commission ("SEC"), which was completed in February 2003. These costs are currently being amortized over the life of the related debt, but will be allocated between debt and equity once the registration statement becomes effective. The equity related costs will be charged against stockholders equity and debt costs will be expensed.
 
 NOTE G - INCOME TAXES
 
 The income tax provision (benefit) consisted of the following for the years ended December 31:
 
 
 
 The tax effects of temporary differences that give rise to significant components of the Companys deferred tax asset and liability are as follows, as of December 31:
 
 
 
 The net operating loss carryforward expires in the year 2013. The valuation allowance decreased $12,877 during the year ended December 31, 2004.
 
 NOTE H - CAPITAL STOCK
 
 The Company has issued 22,592 shares of $0.01 par value first series preferred stock. These shares are entitled to $0.16 cumulative dividend per share or an aggregate amount of $3,600 per year. First series preferred stock has a liquidation preference of $1 per share.
 
 
 
 
 
 
 
 NOTE H - CAPITAL STOCK (CONTINUED)
 
 The Company has issued 740,800 shares of $0.01 par value second series preferred stock. These shares are entitled to a $0.08 cumulative dividend per share or an aggregate amount of $60,000 per year. Second series preferred stock is convertible to one share of common stock for one share of preferred, and has no liquidation preference.
 
 The Company has issued 740,800 shares of $0.01 par value common stock to officers of the Company.
 
 NOTE I - NET LOSS PER SHARE
 
 The following sets forth the computation of basic earnings per share. Diluted earnings per share have not been shown, as the computation is considered anti-dilutive.
 
 2004
2003NUMERATORNet income (loss)
$25,750
($134,540)Dividends on preferred stock
-63,600
-63,600($37,850)
($198,140)DENOMINATORDenominator for basic earnings per share
740,800
740,800Basic net income per share
($0.05)
($0.27)
 NOTE J - SHORT TERM NOTES PAYABLE
 
 As of December 31, 2004 and 2003 , the Company had issued notes to individuals that will mature in 2005 and 2004 , respectively. The notes maintain a principal balance of $3,076,886 and $2,180,927, respectively, in aggregate until maturity. A significant portion of these notes are with related parties, see Note M. Interest-only payments are paid monthly at various rates from 9% to 11%. At December 31, 2003, certain mortgages totaling approximately $150,000 were pledged as collateral for these notes. At December 31, 2004 there were no mortgages pledged.
 
 NOTE K - SECURED PROMISSORY NOTES
 
 During 2004 and 2003, the Company issued promissory notes related to its public offering. These notes have maturities of 18 months, 36 months or 60 months and are secured by the Companys portfolio of mortgages. Interest only payments are paid monthly at rates of 6%, 7% or 8% depending on maturity. The maximum principal amount authorized under the Companys prospectus is $10,000,000. At December 31, 2004 and 2003 the principal balance were $1,441,000 and $728,000, respectively.
 
 
 
 
 
 
 NOTE K - SECURED PROMISSORY NOTES (CONTINUED)
 
 Maturities of secured promissory notes are as follows:
 
 
 NOTE L - CONCENTRATION OF CREDIT RISK
 
 A credit risk concentration results when a Company has a significant credit exposure to an individual or a group engaged in similar activities or having similar economic characteristics that would cause their ability to meet contractual obligations to be similarly affected by changes in economic or other conditions.
 
 Much of the Companys business activity is with customers located within the Tampa Bay area. The mortgage portfolio is diversified among types of loans. Mortgages are expected to be repaid from cash flows or proceeds from the sale of selected assets from borrowers. The amount of collateral obtained upon extension of credit is based upon the amount of the mortgage and the Companys credit evaluation of the mortgagee. Collateral primarily includes residential homes. The concentration of credit risk by type of mortgage is set forth in Note B.
 
 The Company invests in various financial institutions whose deposits are insured by the Federal Deposit Insurance Corporation ("FDIC") up to a maximum of $100,000. The Company had deposits in excess of FDIC limits of approximately $98,000 at December 31, 2004.
 
 NOTE M - RELATED PARTY TRANSACTIONS
 
 In 2004 and 2003, the Company renewed loans from an officer of the Company and immediate family members that mature in the subsequent year. Principal balances on the notes were $474,000 and $485,000 as of December 31, 2004 and 2003 , respectively. Interest-only payments are paid monthly at a rate of 10%. Interest expense paid on the notes totaled approximately $55,000 and $32,000 for the years ended December 31, 2004 and 2003 , respectively.
 
 
 
 
 
 
 NOTE N - COMMITMENTS AND CONTINGENCIES
 
 The Company has commitments for unfunded reserves on interim mortgages. The Company retains a portion of the mortgage amount while the borrower renovates the property. As the work is completed, the reserve money is distributed to the borrower or it is used as a credit against the amount owed to the Company when the mortgage is paid. Unfunded reserves were approximately $372,000 and $174,000 at December 31, 2004 and 2003 , respectively.
 
 The Company is involved in various legal actions in the normal course of business. One such action arising from a foreclosure by the Company involves a counterclaim for usury. The action and counterclaim are at very early stages and it has not been determined at this point if the counterclaim has any merit. It is the opinion of management that the ultimate disposition of these legal actions will not have a material effect on the financial condition of the Company.
   
 MANAGEMENT'S DISCUSSION AND ANALYSIS OF PLAN OF OPERATION
 
 
 In General
 
 Effective February 14, 2003, our registration statement with the SEC was declared effective and we became a reporting company under the provisions of section 15(d) of the Securities Exchange Act of 1934, as amended. During the twelve months period ended December 31, 2004 we continued to conduct the lending business described in the Prospectus which is a part of such registration statement. In our lending operations, we continue to make loans of relatively short duration secured by first or second liens which encumber collateral real estate. In addition we now originate conventional first mortgage loans for immediate resale into the secondary mortgage market and we also originate commercial mortgage loans on behalf of independent third parties which we do not hold in our portfolio. While our business is concentrated in the Tampa Bay Metropolitan Area of Florida, we have originated real estate mortgage loans secured by properties located in other geographic locations.
 
 How we Account for the Loans in our Portfolio
 
 Set forth below is information concerning our loan portfolio and statistical data relating thereto. Such information reflects the value attributable to the loans constituting our loan portfolio at December 31, 2004 and at December 31, 2003 with comparative information for the twelve month periods then ended.
 
 A primary business activity is the origination of first mortgage loans for the purchase and renovation of affordable residential one to four family homes. Additionally but to a lesser degree we originate conventional conforming residential mortgage loans as well as commercial real estate mortgage loans. We anticipate that the origination of conventional residential mortgage loans and commercial real estate mortgage loans will increase and become a substantial part of our business. An additional activity in which we were previously active but no longer pursue as a regular business activity is the purchase of second mortgage loans which have been originated by others.
 
 In our financial statements, loans originated by us are valued at the unpaid principal balance. Purchased loans are valued at our cost of acquisition less a prorated portion of principal payments received. In our financial statements we separately categorize the current and long-term portion of our portfolio loans. We also deduct from such portfolio loan amounts any unfunded reserves (the amount of any loan committed by us but which is yet to be disbursed) and appropriate loss reserves. Conventional residential and commercial real estate mortgage loans, both of which are sold immediately to third party investors upon origination, generate brokerage and origination fees which are categorized separately under the income portion of our financial statements.
 
 Certain of the financial and statistical data presented herein utilize loan principal balances without taking into account whether such loans were originated by us or purchased and without adjustment for unfunded reserves or any loss reserves. Where such treatment is utilized in such financial and statistical data, it is noted.
 
 Income Taxes
 
 As a corporate entity, our income is subject to federal corporate income tax at applicable rates. As a corporation subject to federal corporate income tax, we are required to accrue all items of income for each tax reporting period (the twelve months beginning January 1, 2004 through the twelve months ending December 31, 2004) from which we may deduct our accrued operating expenses, including interest accrued on our outstanding secured notes. Dividends declared with respect to our outstanding first and second series preferred stock are not deductible for tax calculation purposes. After taking into account any applicable credits, loss carry forward and other adjustments to our net income, such will be subject to tax at the applicable Code rate. We will also be subject to Florida corporate income tax at an effective rate of 5.5%. Provisions for such tax will then be made reducing net income available for dividend and other purposes.
 
 Results of Operations, twelve months Ended December 31, 2004 and 2003
 
 For the twelve months ended December 31, 2004, we generated mortgage interest and fees of $1,056,536 compared to $601,156 for the twelve months ended December 31, 2003, an increase of $455,380. This increase can be attributed to an increase in interim lending made possible by additional capital as well as brokerage and origination fees contributed by our conventional and commercial lending operations. For loans originated and held for investment we recognize loan fee revenue when loans are funded. We generally hold the related loans for a very short period of time. We believe that recognizing the loan fee revenue at the time the loans are funded approximates the revenue that would be recognized if the loan fees were capitalized and amortized into revenue.
 
 At December 31, 2004, we reflected loans of $4,767,080 compared to $3,270,243 at December 31, 2003 net of unfunded and loss reserves. This is an increase of $1,496,837. Loan demand has consistently exceeded our supply of loan funds since inception as a result of a greater awareness of the loan services we offer on the part of our existing and new loan customers. As our source of funds increased during the twelve months ended December 31, 2004 compared to the twelve months ended December 31, 2003, we were able to fund a greater number of loans. Our source of funds is explained in Liquidity and Capital Resources below.
 
 Our income during both of such twelve month periods ended was comprised primarily of mortgage interest and fees plus gains on sale of real estate renovated and sold by the two joint ventures described herein. For the twelve months ended December 31, 2004 we experienced a net operating income in the amount of $25,750 compared to a net loss of ($134,540) for the twelve months ended December 31, 2003. Such net income reflects an improvement of $160,290 from the same twelve month period ended December 31, 2003 and is attributable primarily to our increased revenues for the twelve month period ended December 31, 2004.
 
 We reflected total expenses of $1,030,786 for the twelve month period ended December 31, 2004 compared to $735,696 for the twelve month period ended December 31, 2003, an increase of $295,090.
 
 General and administrative expenses were $216,834 for the twelve months ended December 31, 2004 compared to $78,440 for the twelve months ended December 31, 2003, an increase of $138,394. This is attributable to increased office overhead consisting of rent, utilities and additional salaried positions.
 
 For the twelve months ended December 31, 2004, we experienced interest expense of $396,380 as compared to $272,990 for the twelve months ended December 31, 2003, an increase of $123,390. This resulted primarily from the increase in borrowed funds during the same period which were used to fund new loans. Despite the overall increase our average cost of funds declined slightly due to the impact of lower cost capital raised through the sale of secured promissory notes in the amount of $1,486,000. See also Liquidity and Capital Resources below.
 
 Salaries and benefits increased to $263,675 for the twelve months ended December 31, 2004 from $242,414 for the twelve months ended December 31, 2003, an increase of $21,261. During fiscal year 2004, two salaried positions were created and filled: those being a conventional loan processor a Chief Financial Officer who acts as a Comptroller and is responsible for all financial accounting, reporting and compliance issues.
 
 As a result of our public offering of our secured promissory notes, certain limitations are imposed on our ability to source additional capital from our existing note holders. These notes, which have higher rates and shorter maturities than our secured promissory notes now being sold to the public, provided initial capital to us. The primary purpose of the public offering is to raise funds at a lower cost and in greater amounts than those raised prior to the public offering of our secured notes. 
  
 Working Capital.
 
 The key component of our business plan is the acquisition of lower cost funds raised through the public sale of our secured notes and common stock. We believe that our past and present portfolio of loans performs in a predictable manner and at the present time, revenue derived there from appears to be somewhat constant. Accordingly, we believe that it is important that we increase the amount of funds which we may use in our lending while at the same time reducing the cost of such funds. This places even greater emphasis on achieving success in our efforts to publicly sell our secured notes and common stock.
 
 As a Florida Licensed Mortgage Lender we may offer various services and products to the public. One such product is the sale of mortgage loans to non-institutional purchasers who purchase whole loans with a view to enhancing the purchasers portfolio return. Under this scenario we sell mortgage loans to purchasers which are evidenced by an endorsed promissory note and a recorded assignment of mortgage. The terms of each sale are individually negotiated but generally we retain servicing on the note and receive a spread between the note coupon rate and the rate passed through to the borrower, plus any fees associated with the loan.
 
 Income.
 
 Our primary revenues are derived from interim mortgage loans via origination fees, renewal fees and interest payments made by borrowers during the holding period of the loan. A constraint against increasing rates and fees (in addition to economic and competitive factors) is Floridas usury laws, which limit annual interest on the type of loans we make to 18.00%.
 
 During the twelve months of fiscal 2004, we began offering conventional residential real estate and commercial real estate loans. These loans generate brokerage and origination fee income rather than interest income as loans are originated on behalf of third-party investors and are not held by us as earning assets. These activities are intended to augment the interest and other revenue that we realize from our short term lending activities as described elsewhere herein and in this Prospectus.
 
 Liquidity and Capital Resources
 
 Our sources of liquidity and capital are and have been constituted by the capital contributions of our shareholders, loans made by shareholders, lines of credit utilizing banks which were also provided by related parties, unsecured notes payable to non-related parties and funds raised through the sale of our secured notes. At December 31, 2004 the capital contributions made by the holders of our Second Series Preferred Stock was $500,000. The table below reflects the various note obligations and credit arrangements between related and non-related parties.
 
  
  
 
 Notes Payable: Related and Non-related Parties
 
 December 31, 2004

December 31, 2003Notes payable: non-related parties


2,602,886


1,695,927Notes payable: related parties


474,000


485,000Notes payable: secured promissory notes


1,441,000


728,000Lines of credit: related parties


500,000


487,081Total


5,017,886


3,396,008 
 Such indebtedness reflects an increase of $1,621,878 from December 31, 2003 to December 31, 2004.
 
 All of such credit arrangements, with the exception of our secured notes, are generally serviced by the payment of interest on a monthly basis at various rates of interest ranging from 10.00 - 10.25%. All of the notes have annual maturities and are renewable. The item identified as "lines of credit - related parties" refers to an arrangement that we have as a result of the establishment of lines of credit by certain of our shareholders with First National Bank of Florida. The aggregate amount of these lines of credit is $400,000 and we may access them directly for use in our lending business. Additionally one of our shareholders has advanced funds directly to us in the amount of $100,000 at the same rate, raising the total funds available from this source to $500,000. The interest expense incurred in the utilization of these lines of credit is the prime rate as charged by First National Bank of Florida, from time to time, plus an average of 80 basis points. The lines of credit are evidenced by promissory notes existing between First National Bank of Florida and the borrowers and are for a period of 12 months with annual renewals permitted.
 
 At December 31, 2004, we were not in violation of any of the various loan terms governing such described credit arrangements. The lines of credit, to the extent not fully utilized, remain available to us.
 
 At December 31, 2004, we have not made any material commitment for any capital expenditures. The only commitments in place with those loan commitments made in connection with then pending loan applications.
 
 Loan Portfolio Composition
 
 We invest in loans which we categorize in the following manner: a) interim loans (first mortgage loans with terms of six months or less and involving the renovation of a property,) b) warehouse loans (first or second mortgage loans with terms greater than six months on properties requiring no renovation) and c) second mortgage loans (loans purchased from our interim and warehouse loan customers to end users on completed properties with terms of 12 months or longer.)
 
 Our loan portfolio composition can and has changed as a result of the comparative demand for the type of lending and financing services that we provide. We are unable to predict which of our loan types and services will be applied for by our existing and new borrowers although the primary (and preferred) types of loans resulting from our primary referral sources are interim loans.
 
 The table below sets forth our loan portfolio composition at December 31, 2004 and 2003 and the percent of increase or decrease.
 
 For the Twelve months EndingDecember 31, 2004


December 31, 2003Type of Loan
Balance


Balance


% of changeInterim Loans
$
3,363,746

$
2,165,836

%
+55.31Warehouse Loans
$
657,756

$
600,111

%
+9.61Second Mortgages
$
273,875

$
222,027

%
+23.35Gross Total
$
4,295,377

$
2,987,974

%
+43.76Less Loss Reserves
$
(38,046)

$
(29,880)

%
+27.33Loans, net
$
4,257,331

$
2,958,094

%
+45.21 
 
 Investment in Limited Liability Companies.
 
 Through the period ended December 31, 2004, we effected investments in two limited liability companies in the amount of $465,146. Such investments were made in two limited liability companies where we act as one of the members and two of our lending referral sources act as the other member. In that regard, Tager Properties is the Managing Member of one of the limited liability companies and Sharp Properties is the Managing Member of the second limited liability company. These two limited liability companies hold the funds provided by us and utilize same in the renovation of existing residential real estate properties. In terms of investment there is no difference in the nature of the collateral or the use of funds as compared to lending funds for the same purpose. The benefit to us is that the total return includes 50% of profits that are normally retained by the borrower. As a result yields on invested funds may be substantially higher than those on funds that are used for interim loans. While these investments have generally been successful it is anticipated that we will reduce or completely cease further funding of these transactions in the future in order to concentrate on the core business of interim loan financing.
 
 Other Real Estate Owned (ORE)
 
 As of December 31, 2004 the Company owned two pieces of foreclosed real estate. The first is located in St. Louis, Missouri. The property was collateral for a loan purchased by the Company rather than originated by the Company. We have elected to market the property without completing renovations. To this end we have contacted a licensed real estate agent in the vicinity who will market the property for us. Sale prices in the neighborhood on comparable properties range indicated a finished value of $40,000. Our basis as of December 31, 2004 was $10,385 and management has elected not to reserve against losses on this property because it believes the total investment will be recouped.
 
 The second property is located in Tampa, Florida and has a basis as of December 31, 2004 of $116,600. Due to substantial appreciation in the neighborhood in which the property is located management has elected to renovate the property prior to marketing it for sale. Management believes that it will recover all proceeds owed under the note and mortgage plus all holding and litigation costs.
 
 Business Trends or Uncertainties.
 
 We view the ongoing demand for the type of loans and lending services we provide as a "niche" or "boutique" lending business. We believe the growth of our lending business has been influenced by the more restrictive credit policies adopted by banks and other lenders regarding this aspect of mortgage lending. While there are numerous competing private investors that provide mortgage financing few focus exclusively on renovation lending. Our continued emphasis on this type of lending backed by a professional support staff has resulted in high customer retention and interest from new customers.
 
 The business of residential home renovation continues to gain popularity and has increased substantially over the past year. Presently we are unable to meet loan demand from existing customers and are limited in the amount of funds we can make available to new customers. The specialized nature of renovation lending has tended to limit the amount of competition within this niche and we do not anticipate substantial new competition from institutional or private lenders which would significantly reduce the demand for our products and services.
 
 Summary
 
 Since our inception in October 1999, our lending business has shown continued growth in terms of demand. The primary factor controlling the volume of our lending business has been the comparatively limited amount of funds having an appropriate cost with which to make loans.
 
 We will continue to raise capital though the public sale of our secured notes and common stock in Florida. We anticipate that the continued sale of our securities will provide the capital needed to invest in additional mortgage loans which will in turn produce revenues sufficient to return the company to profitability.
 
 
  
  
 PART II
 
 OTHER INFORMATION
 
 
 Pilot Financial, Inc. conducts its mortgage business in Florida as a designated Licensed Mortgage Lender as defined and regulated by Section 494, of the Florida Statutes, as amended.
 
 As of a date within 90 days of the filing date of this quarterly report, the registrant has evaluated the effectiveness of the registrant's disclosure, controls and procedures and believes such controls and procedures to be effective based upon such evaluation.
 
 LITIGATION
 
 In November 2004 the Company filed a foreclosure action against a customer for mortgage default on one of its loans. Two of the three co-defendants, Innovative Properties of Tampa Bay, Inc. and Raul A. Alonzo, filed a counter claim stating that this loan and prior loans made by Pilot to the co-defendants were criminally usurious in nature. Management has reviewed the claim and believes that it is factually incorrect and is an attempt to force a settlement of the foreclosure suit and extract a financial settlement. Management has elected to proceed with its initial suit and defend the counterclaim. At this time Management has elected not to reserve against potential damages as it believes that the counterclaim has no merit.
 
 SIGNATURES
 
 In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
 
 Pilot Financial, Inc.
 
 -------------------------
 Date: December 31, 2004   John F. Kurz
 Executive Vice President