----

----

Index

**UNITED      STATES**

**SECURITIES      AND EXCHANGE COMMISSION**

**WASHINGTON,      DC 20549**

**FORM      10-Q**

**COMMISSION      FILE NO. 1-11602**

**NANO-PROPRIETARY,      INC.**

| **TEXAS**                                      | **76-0273345**                                      |
|------------------------------------------------|-----------------------------------------------------|
| (State                or other jurisdiction of | (I.R.S.                Employer Identification No.) |
| incorporation                or organization)  |                                                |
|                                           |                                                |

| **3006                Longhorn Blvd., Suite 107**       |                      |
|---------------------------------------------------------|---------------------------|
| **Austin,                Texas**                        | **78758**                 |
| (Address                of principal executive offices) | (Zip                Code) |

| **(512)                339-5020**                                                  |
|------------------------------------------------------------------------------------|
| (Registrant's                telephone number, including area                code) |

----

----

----

**NANO-PROPRIETARY,      INC.**

**INDEX**

| Part                I.  Financial Information | **Page**                                                                                                                                               |
|----------------------------------------------------|--------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                               |                                                                                                                                                   |   |   |
|                                               | Item                1.  Financial Statements                                                                                                      |   |
|                                               |                                                                                                                                                   |   |   |
|                                               |                                                                                                                                                   | Consolidated                Balance Sheets--June 30, 2006 and December                31, 2005 | 3 |
|                                               |                                                                                                                                                   |   |   |
|                                               |                                                                                                                                                   | Consolidated                Statements of Operations --Three Months and Six Months Ended June                30, 2006 and 2005 | 4 |
|                                               |                                                                                                                                                   |   |   |
|                                               |                                                                                                                                                   | Consolidated                Statements of Cash Flows --Six Months Ended June                30, 2006 and 2005 | 5 |
|                                               |                                                                                                                                                   |   |   |
|                                               |                                                                                                                                                   | Notes                to Consolidated Financial                Statements | 6 |
|                                               |                                                                                                                                                   |   |   |
|                                               | Item                2. Management’s Discussion and Analysis of Financial Condition                and                Results of Operations  | 9 |
|                                               |                                                                                                                                                   |   |   |
|                                               | Item                3.  Quantitative and Qualitative                Disclosures about Market Risk                                            | 13 |
|                                               |                                                                                                                                                   |   |   |
|                                               | Item                4. Controls and Procedures                                                                                                    | 13 |
|                                               |                                                                                                                                                   |   |   |
| Part                II.  Other Information    |                                                                                                                                                   |
|                                               |                                                                                                                                                   |   |   |
|                                               | Item                1. Legal Proceedings                                                                                                               | 14 |
|                                               |                                                                                                                                                   |   |   |
|                                               | Item                2. Unregistered Sales of Equity Securities and                Use of Proceeds                                                      | 14 |
|                                               |                                                                                                                                                   |   |
|                                               | Item                6.  Exhibits                                                                                                                  | 15 |
|                                               |                                                                                                                                                   |   |   |
| Signatures                                         | 16                                                                                                                                                     |

----

**PART      I.  FINANCIAL INFORMATION**

**ITEM      1.  FINANCIAL STATEMENTS**

**NANO-PROPRIETARY,      INC. AND SUBSIDIARIES**

**CONSOLIDATED**
**BALANCE      SHEETS**

| **ASSETS**                                                                                                                                                                                                                                                                                                                                                                                           |                                                                                                                                | **(Unaudited)****June                30,****2006** |            |  **December                31,****2005** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|-------------------------------------------------------------------------------------------------------------------------------------|----------------------------------------------------|-----------------|-----------------------------------------------|
| Current                assets:                                                                                                                                                                                                                                                                                                                                                                       |                                                                                                                                |                                               |            |                                          |
|                                                                                                                                                                                                                                                                                                                                                                                                 | Cash                and cash equivalents                                                                                            |  $                                            | 1,365,210  | $                                             | 897,247  |
|                                                                                                                                                                                                                                                                                                                                                                                                 | Accounts                receivable, trade - net of allowance for doubtful accounts                                                  |                                               | 67,598     |                                          | 94,103  |
|                                                                                                                                                                                                                                                                                                                                                                                                 | Prepaid                expenses and other current assets                                                                            |                                               | 156,785    |                                          | 85,306  |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |   |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                Total current assets      |                                               | 1,589,593  |                                          | 1,076,656  |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |   |
|                                                                                                                                                                                                                                                                                                                                                                                                 | Property                and equipment, net                                                                                          |                                               | 98,208     |                                          | 101,785  |
|                                                                                                                                                                                                                                                                                                                                                                                                 | Other                assets                                                                                                         |                                               | 9,540      |                                          | 9,540  |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                Total assets              | $                                                  | 1,697,341  | $                                             | 1,187,981  |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |   |
|                                                                                                                                                                                                                                                                                                                                                                                                 | **LIABILITIES                AND STOCKHOLDERS’ EQUITY**                                                                       |                                               |            |                                          |   |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |   |
| Current                liabilities:                                                                                                                                                                                                                                                                                                                                                                  |                                                                                                                                |                                               |            |                                          |
|                                                                                                                                                                                                                                                                                                                                                                                                 | Accounts                payable                                                                                                     | $                                                  | 1,240,568  | $                                             | 231,131  |
|                                                                                                                                                                                                                                                                                                                                                                                                 | Obligations                under capital lease                                                                                      |                                               | -          |                                          | 4,348  |
|                                                                                                                                                                                                                                                                                                                                                                                                 | Accrued                liabilities                                                                                                  |                                               | 89,317     |                                          | 93,163  |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |   |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                Total current liabilities |                                               | 1,329,885  |                                          | 328,642  |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |   |
| Obligations                under capital lease                                                                                                                                                                                                                                                                                                                                                       |                                                                                                                                |  -                                       |            | -                                   |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |   |
|  Total                Liabilities                                                                                                                                                                                                                                                                                                                                                               |                                                                                                                                | 1,329,885                                     |            | 328,642                                  |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |   |
| Commitments                and contingencies                                                                                                                                                                                                                                                                                                                                                         |                                                                                                                                | -                                             |            | -                                   |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |
| Stockholders'                (deficit):                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                |                                               |            |                                          |
|      Preferred                stock, $1.00 par value, 2,000,000 shares authorized;            No                shares issued and outstanding                                                                                                                                                                   |                                                                                                                                | -                                             |            | -                                   |
|      Common                stock, $.00l par value, 120,000,000 shares authorized,            101,696,440                and 99,746,440 shares issued and outstanding at            June                30, 2006 and December 31, 2005, respectively |                                                                                                                                | 100,696                                       |            | 99,746                                   |
| Additional                paid-in capital                                                                                                                                                                                                                                                                                                                                                            |                                                                                                                                | 98,454,563                                    |            | 95,767,647                               |
| Accumulated                deficit                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                | (98,187,803)                                       |            | (95,008,054)                                  |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |
|                                Total stockholders equity                                                                                                                                                                                                                                                                  |                                                                                                                                | 367,456                                       |            | 859,339                                  |
|                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                |                                               |            |                                          |
|                                Total liabilities and stockholders equity                                                                                                                                                                                                                                                  | $                                                                                                                                   | 1,697,341                                     | $               | 1,187,981                                |

----

**NANO-PROPRIETARY,      INC. AND SUBSIDIARIES**

**CONSOLIDATED      STATEMENTS OF OPERATIONS**

**(UNAUDITED)**

|                                                                  |                                                                                      | **For the                Three Months****Ended                June 30,** |            |   | **For                 the Six Months****Ended                June 30,** |
|-----------------------------------------------------------------------|-------------------------------------------------------------------------------------------|-------------------------------------------------------------------------------|-----------------|--------|------------------------------------------------------------------------------|
|                                                                  |                                                                                      | **2006**                                                                      |            |   | **2005**                                                                     |   |   | **2006** |   |   | **2005** |
| Revenues                                                              |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |
|                                                                  | Government                contracts                                                       | $                                                                             | 7,532      |   | $                                                                            | 69,243  |   | $ | 71,114   |   | $ | 87,610  |
|                                                                  | Royalties                                                                                 |                                                                          | -          |   |                                                                         | -  |   |   | -    |   |   | 3,897  |
|                                                                  | Other                                                                                     |                                                                          | 107,477    |   |                                                                         | 19,301  |   |   | 206,079   |   |   | 65,852  |
|                                                                  |           Total                Revenues |                                                                          | 115,009    |   |                                                                         | 88,544  |   |   | 277,193   |   |   | 157,359  |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |   |
| Research                and development                               |                                                                                      | 872,255                                                                  |            |   | 600,125                                                                 |   |   | 1,654,309   |   |   | 1,310,598  |
| Selling,                general and administrative expenses           |                                                                                      | 1,730,561                                                                |            |   | 874,670                                                                 |   |   | 2,907,884   |   |   | 1,601,807  |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |
|                                                                  | Operating                costs and expenses                                               |                                                                          | 2,602,816  |   |                                                                         | 1,474,795  |   |   | 4,562,193   |   |   | 2,912,405  |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |   |
| Gain                on sale of intellectual property and other assets |                                                                                      | (1,100,000)                                                              |            |   | -                                                                       |   |   | (1,100,000)  |   |   | -  |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |   |
| Loss                from operations                                   |                                                                                      | (1,387,807)                                                                   |            |   | (1,386,251)                                                                  |   |   | (3,185,000)  |   |   | (2,755,046) |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |   |
| Other                income (expense), net                            |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |
|                                                                  | Interest                Expense                                                           |                                                                          | (183)           |   |                                                                         | (880) |   |   | (296)  |   |   | (1,906) |
|                                                                  | Interest                Income                                                            |                                                                          | 2,407      |   |                                                                         | 10,922  |   |   | 5,547   |   |   | 15,549  |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |   |
|  Loss                from continuing operations before taxes     |                                                                                      | (1,385,583)                                                                   |            |   | (1,376,209)                                                                  |   |   | (3,179,749)  |   |   | (2,741,403) |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |   |
|  Provision                for taxes                              |                                                                                      |  -                                                                  |            |   |  -                                                                 |   |   |  -    |   |   |  -  |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |   |   |   |
| Net                loss                                               | $                                                                                         | (1,385,583)                                                                   |            | $      | (1,376,209)                                                                  |   | $ | (3,179,749)  |   | $ | (2,741,403) |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |
| Loss                per share                                         |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |   |   |   |
|                                                                  | Basic                and Diluted                                                          |                                                                          |            | $      | (0.01)                                                                       |   | $ | (0.01) |   | $ | (0.03) |   | $ | (0.03) |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |
| Weighted                average shares outstanding                    |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |
|                                                                  |                                                                                      |                                                                          |            |   |                                                                         |   |   |   |   |   |   |   |   |   |
|                                                                  | Basic                and Diluted                                                          |                                                                          |            |   | 101,511,825                                                             |   |   | 99,081,410  |   |   | 100,265,915 |   |   | 98,501,019  |

----

**NANO-PROPRIETARY,      INC. AND SUBSIDIARIES**

**CONSOLIDATED      STATEMENTS OF CASH FLOWS**

**(UNAUDITED)**

|                                                                | **For                 the Six Months Ended****June                30,** |
|---------------------------------------------------------------------|------------------------------------------------------------------------------|
|                                                                | **2006**                                                                     |   |   | **2005** |
| Cash                flows from operating activities:                |                                                                         |   |   |   |   |
|                                                                |  Net                loss                                                |   |   | $ | (3,179,749) | $ | (2,741,403) |
|                                                                |                                                                         | Adjustments                to reconcile net loss to net |   |   |   |   |
|                                                                |                                                                         |   | cash                used in operating activities: |   |   |   |   |
|                                                                |                                                                         |   | Depreciation                and amortization expense |   | 21,206  |   | 28,605  |
|                                                                |                                                                         |   | Stock                based compensation expense |   | 787,866  |   | 351,194  |
|                                                                |                                                                         |   | Issuance                of shares to ATI |   | 400,000  |   | -   |
|                                                                |                                                                         |   | Changes                in assets and liabilities: |   |   |   |   |
|                                                                |                                                                         |   |   | Accounts                receivable, trade |   | 26,505  |   | (54,896) |
|                                                                |                                                                         |   |   | Prepaid                expenses and other current assets |   |  (71,479) |   |  (132,897) |
|                                                                |                                                                         |   |   | Accounts                payable and accrued liabilities |   | 1,005,591  |   | 64,584  |
|                                                                |                                                                         |   |   |   |   |   |   |   |
|                                                                |                                                                         |   |   | Total                adjustments |   | 2,169,689  |   | 256,590  |
|                                                                |                                                                         |   |   |   |   |   |   |   |
|                                                                |                                                                         |   | Net                cash used in operating activities |   | (1,010,060) |   | (2,484,813) |
|                                                                |                                                                         |   |   |   |   |   |   |   |
| Cash                flows from investing activities:                |                                                                         |   |   |   |
|                                                                |                                                                         | Purchases                of fixed assets |   | (17,629) |   | (6,514) |
|                                                                |                                                                         |        Net                cash used in investing activities |   | (17,629) |   | (6,514) |
|                                                                |                                                                         |   |   |   |   |   |   |   |
| Cash                flows from financing activities:                |                                                                         |   |   |   |
|                                                                |                                                                         | Repayment                of capital leases |   | (4,348) |   | (10,428) |
|                                                                |                                                                         | Proceeds                of stock issuance, net of costs |   | 1,500,000  |   | 3,477,938  |
|                                                                |                                                                         |   |   |   |   |   |   |   |
|                                                                |                                                                         |        Net                cash provided by financing activities |   | 1,495,652  |   | 3,467,510  |
|                                                                |                                                                         |   |   |   |   |   |   |   |
| Net                increase (decrease) in cash and cash equivalents |                                                                         | 467,963  |   | 976,183  |
|                                                                |                                                                         |   |   |   |   |   |   |   |
| Cash                and cash equivalents, beginning of period       |                                                                         | 897,247  |   | 901,585  |
|                                                                |                                                                         |   |   |   |   |   |   |   |
| Cash                and cash equivalents, end of period             | $                                                                            | 1,365,210  |   | $ | 1,877,768  |

----

**NANO-PROPRIETARY,      INC. AND SUBSIDIARIES**

**NOTESTO      CONSOLIDATED FINANCIAL STATEMENTS**

**(UNAUDITED)**

| 1. | Basis                  of Presentation |
|----|----------------------------------------|

| 2. | Supplemental                Cash Flow Information |
|----|---------------------------------------------------|

| 3. | Stockholders’                Equity |
|----|-------------------------------------------|

| 4. | Share-Based                Payments |
|----|-------------------------------------|

----

**NANO-PROPRIETARY,      INC. AND SUBSIDIARIES**

**NOTES      TO CONSOLIDATED FINANCIAL STATEMENTS**

**(UNAUDITED)**

| 4. | Share-Based                Payments (cont.) |
|----|---------------------------------------------|

| 5. | Gain                on Sale of Intellectual Property and Other                Assets |
|----|--------------------------------------------------------------------------------------|

| 6. | Contingencies |
|----|---------------|

*Litigation*

** **

----

**NANO-PROPRIETARY,      INC. AND SUBSIDIARIES**

**NOTES      TO CONSOLIDATED FINANCIAL STATEMENTS**

**(UNAUDITED)**

| 6. | Contingencies                (cont.) |
|----|--------------------------------------|

| 7. | Business                Segments |
|----|----------------------------------|

|                                                           |   | ANI    |       | EBT    |   | All                Other |   | Total  |     |
|----------------------------------------------------------------|--------|--------|------------|--------|--------|--------------------------|--------|--------|----------|
| 2006                                                           |   |   |       |   |   |                     |   |   |     |
| Revenue                                                        |   | $      | 277,193    |   | $      | -                        |   | $      | -        |   | $ | 277,193 |   |
|                                                           |   |   |            |   |   |                          |   |   |          |   |   |  |   |
| Profit                (Loss)                                   |   |   | (3,233,473 | )      |   | 973,019                  |   |   | (919,295 | ) |   | (3,179,749 | ) |
|                                                           |   |   |            |   |   |                          |   |   |          |   |   |  |   |
| Expenditures                for                                |   |   |            |   |   |                          |   |   |          |   |   |  |   |
|      long-lived                assets |   |   | 17,629     |   |   | -                        |   |   | -        |   |   | 17,629 |   |
|                                                           |   |   |            |   |   |                          |   |   |          |   |   |  |   |
| 2005                                                           |   |   |            |   |   |                          |   |   |          |   |   |  |   |
| Revenue                                                        |   | $      | 157,359    |   | $      | -                        |   | $      | -        |   | $ | 157,359 |   |
|                                                           |   |   |            |   |   |                          |   |   |          |   |   |  |   |
| Profit                (Loss)                                   |   |   | (2,236,508 | )      |   | -                        |   |   | (504,895 | ) |   | (2,741,403 | ) |
|                                                           |   |   |            |   |   |                          |   |   |          |   |   |  |   |
| Expenditures                for                                |   |   |            |   |   |                          |   |   |          |   |   |  |   |
|      long-lived                assets |   |   | 5,232      |   |   | -                        |   |   | 1,282    |   |   | 6,514 |   |

| 8. | Subsequent                Events |
|----|----------------------------------|

----

| **ITEM              2:** | **MANAGEMENT'SDISCUSSION                AND ANALYSIS OF FINANCIAL CONDITION                AND RESULTS****OF                OPERATIONS** |
|--------------------------|------------------------------------------------------------------------------------------------------------------------------------------|

**FORWARD-LOOKING      STATEMENTS **

**Six      months ended June 30, 2006 and 2005**

**OVERVIEW**

**OUTLOOK**

----

| **ITEM              2:** | **MANAGEMENT'S                DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS****OF                OPERATIONS (cont.)** |
|--------------------------|------------------------------------------------------------------------------------------------------------------------------------|

**RECENT      DEVELOPMENTS**

**RECENT      ACCOUNTING PRONOUNCEMENTS**

----

| **ITEM                2:** | **MANAGEMENT'S                  DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS****OF                  OPERATIONS (cont.)** |
|----------------------------|----------------------------------------------------------------------------------------------------------------------------------------|

**FINANCIAL      CONDITION AND LIQUIDITY**

**RESULTS      OF OPERATIONS**

----

| **ITEM                  2:** | **MANAGEMENT'S                    DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS****OF                    OPERATIONS (cont.)** |
|------------------------------|--------------------------------------------------------------------------------------------------------------------------------------------|

----

**ITEM      3.       **
**QUANTITATIVEAND      QUALITATIVE DISCLOSURES ABOUT MARKET      RISK**

**ITEM      4.       **
**CONTROLSAND      PROCEDURES**

----

**PARTII.      OTHER INFORMATION**

**ITEM      1.  LEGAL PROCEEDINGS**

** **

**ITEM      2.  UNREGISTERED SALES OF EQUITY SECURITIES      AND USE OF PROCEEDS**

----

**ITEM      6**
**.     EXHIBITS**

----

**SIGNATURES**

|                                                            | NANO-PROPRIETARY,                INC.(Registrant)                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|-----------------------------------------------------------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| Date:     July                28, 2006 |      /s/                R.D.                Burck                                                                           R.D.                BurckChief                Executive Officer (Principal                Executive Officer) |
|                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| Date:     July                28, 2006 |      /s/                Douglas P.                Baker                                                 Douglas                P. BakerChief                Financial Officer(Principal                Financial Officer and PrincipalAccounting                Officer)                   |

----

**INDEX      TO EXHIBITS**

| Exhibit |                                                                       |
|---------|----------------------------------------------------------------------------|
| 11      | Computation                of (Loss) Per Common Share                      |
|    |                                                                       |
| 31.1    | Rule                13a-14(a)/15d-14(a) Certificate of R.D. Burck          |
|    |                                                                       |
| 31.2    | Rule                13a-14(a)/15d-14(a) Certificate of Douglas P. Baker    |
|    |                                                                       |
| 32.1    | Section                1350 Certificate of R.D. Burck                      |
|    |                                                                       |
| 32.2    | Section                1350 Certificate of Douglas P.                Baker |