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FORM 10-Q



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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

(Mark One)

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

For the quarterly period ended September 30, 2006

OR



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

For the transition period from  to

Commission file number 0-17686



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DIVALL INSURED INCOME PROPERTIES
2 LIMITED PARTNERSHIP

(Exact name of registrant as specified in its charter)



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|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Wisconsin                                                      |  | 39-1606834                          
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)

1100 Main Street, Suite 1830, Kansas City, Missouri 64105

(Address of principal executive offices, including zip code)

(816) 421-7444

(Registrants telephone number, including area
code)

Securities registered pursuant to Section 12(b) of the Act:

None

Securities registered pursuant
to Section 12(g) of the Act:

Limited Partnership Interests



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

Indicate by check mark whether the registrant is a well-known seasoned
issuer, as defined in Rule 405 of the Securities Act.    Yes ̈No  x

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a
non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):



|                         |  |                    |  |                         
|------------------------ |  | ------------------ |  | ------------------------
|Large accelerated filer ̈ |  | Accelerated filer ̈ |  | Non-accelerated filer  x

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



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PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

DIVALL INSURED INCOME PROPERTIES 2 LIMITED
PARTNERSHIP

CONDENSED BALANCE SHEETS

September 30, 2006 and December 31, 2005

ASSETS

(Unaudited)



|                                            |  |                    |            |   |                   |   |            |  
|------------------------------------------- |  | ------------------ | ---------- | - | ----------------- | - | ---------- | -
|                                            |  | September 30, 2006 |            |   | December 31, 2005 |  
|INVESTMENT PROPERTIES:(Note 3)              |  |                    |            |   |                   |   |            |  
|                                            |  |                   
|Land                                        |  | $                  | 4,728,785  |   |                   | $ | 4,970,156  |  
|Buildings                                   |  |                    | 7,576,708  |   |                   |   | 8,419,840  |  
|Accumulated depreciation                    |  |                    | (4,414,360 | ) |                   |   | (4,691,206 | )
|                                            |  |                    |            |   |                   |   |            |  
|Net investment properties                   |  | $                  | 7,891,133  |   |                   | $ | 8,698,790  |  
|                                            |  |                    |            |   |                   |   |            |  
|OTHER ASSETS:                               |  |                    |            |   |                   |   |            |  
|                                            |  |                   
|Cash and cash equivalents                   |  | $                  | 724,231    |   |                   | $ | 2,218,807  |  
|Cash held in Indemnification Trust (Note 8) |  |                    | 412,836    |   |                   |   | 398,699    |  
|Property held for sale                      |  |                    | 617,266    |   |                   |   | 0          |  
|Property taxes cash escrow                  |  |                    | 13,278     |   |                   |   | 17,267     |  
|Rents and other receivables                 |  |                    | 171,660    |   |                   |   | 431,118    |  
|Property taxes receivable                   |  |                    | 16,403     |   |                   |   | 6,680      |  
|Deferred rent receivable                    |  |                    | 85,616     |   |                   |   | 98,006     |  
|Prepaid insurance                           |  |                    | 2,731      |   |                   |   | 32,563     |  
|Deferred charges, net                       |  |                    | 247,836    |   |                   |   | 247,399    |  
|                                            |  |                    |            |   |                   |   |            |  
|Total other assets                          |  | $                  | 2,291,857  |   |                   | $ | 3,450,539  |  
|                                            |  |                    |            |   |                   |   |            |  
|Total assets                                |  | $                  | 10,182,990 |   |                   | $ | 12,149,329 |  
|                                            |  |                    |            |   |                   |   |            |  

The accompanying notes are an integral part of these condensed financial statements.



2



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DIVALL INSURED INCOME PROPERTIES 2 LIMITED PARTNERSHIP

CONDENSED BALANCE SHEETS

September 30, 2006 and December 31, 2005

LIABILITIES AND PARTNERS CAPITAL

(Unaudited)



|                                                         |  |                    |             |   |                   |   |             |  
|-------------------------------------------------------- |  | ------------------ | ----------- | - | ----------------- | - | ----------- | -
|                                                         |  | September 30, 2006 |             |   | December 31, 2005 |  
|LIABILITIES:                                             |  |                    |             |   |                   |   |             |  
|Accounts payable and other accrued expenses              |  | $                  | 70,570      |   |                   | $ | 58,708      |  
|Property taxes payable                                   |  |                    | 27,741      |   |                   |   | 23,947      |  
|Due to General Partner                                   |  |                    | 1,829       |   |                   |   | 5,249       |  
|Security deposits                                        |  |                    | 104,640     |   |                   |   | 114,585     |  
|Unearned rental income                                   |  |                    | 29,380      |   |                   |   | 26,565      |  
|                                                         |  |                    |             |   |                   |   |             |  
|Total liabilities                                        |  | $                  | 234,160     |   |                   | $ | 229,054     |  
|                                                         |  |                    |             |   |                   |   |             |  
|CONTINGENT LIABILITIES: (Note 7)                         |  |                    |             |   |                   |   |             |  
|                                                         |  |                   
|PARTNERS CAPITAL: (Notes 1, 4 and 9)                    |  |                    |             |   |                   |   |             |  
|Current General Partner                                  |  |                    |             |   |                   |   |             |  
|Cumulative net income                                    |  | $                  | 250,127     |   |                   | $ | 242,511     |  
|Cumulative cash distributions                            |  |                    | (102,705    | ) |                   |   | (99,659     | )
|                                                         |  |                    |             |   |                   |   |             |  
|                                                         |  |                    | 147,422     |   |                   |   | 142,852     |  
|                                                         |  |                    |             |   |                   |   |             |  
|Limited Partners (46,280.3 interests outstanding)        |  |                    |             |   |                   |   |             |  
|Capital contributions, net of offering costs             |  |                    | 39,358,468  |   |                   |   | 39,358,468  |  
|Cumulative net income                                    |  |                    | 31,128,437  |   |                   |   | 30,374,452  |  
|Cumulative cash distributions                            |  |                    | (59,845,268 | ) |                   |   | (57,115,268 | )
|Reallocation of former general partners deficit capital |  |                    | (840,229    | ) |                   |   | (840,229    | )
|                                                         |  |                    |             |   |                   |   |             |  
|                                                         |  | $                  | 9,801,408   |   |                   | $ | 11,777,423  |  
|                                                         |  |                    |             |   |                   |   |             |  
|Total partners capital                                  |  | $                  | 9,948,830   |   |                   | $ | 11,920,275  |  
|                                                         |  |                    |             |   |                   |   |             |  
|Total liabilities and partners capital                  |  | $                  | 10,182,990  |   |                   | $ | 12,149,329  |  
|                                                         |  |                    |             |   |                   |   |             |  

The accompanying notes are an integral part of these condensed financial statements.



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DIVALL INSURED INCOME PROPERTIES 2 LIMITED PARTNERSHIP

CONDENSED STATEMENTS OF INCOME

For
the Three and Nine Month Periods Ended September 30, 2006 and 2005



|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|-------------------------------------------------------------------------- |  | ------------------------------- | ------- | ------------------------------ | - | ------- |  | ---- | --------- |  | - | ---------
|                                                                           |  | Three Months endedSeptember 30, |         | Nine Months endedSeptember 30,
|                                                                           |  | 2006                            |         | 2005                           |   | 2006    |  | 2005
|OPERATING REVENUES:                                                        |  |                                 |         |                                |   |         |  |      |           |  |   |          
|Rental income (Note 5)                                                     |  | $                               | 513,185 |                                | $ | 529,392 |  | $    | 1,260,308 |  | $ | 1,275,456
|Property taxes recoveries (Note 3)                                         |  |                                 | 0       |                                |   | 6,535   |  |      | 0         |  |   | 34,820   
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|TOTAL OPERATING REVENUES                                                   |  |                                 | 513,185 |                                |   | 535,927 |  |      | 1,260,308 |  |   | 1,310,276
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|OPERATING EXPENSES                                                         |  |                                 |         |                                |   |         |  |      |           |  |   |          
|Partnership management fees (Note 6)                                       |  |                                 | 54,932  |                                |   | 53,126  |  |      | 163,591   |  |   | 158,431  
|Restoration fees (Note 6)                                                  |  |                                 | 124     |                                |   | 124     |  |      | 373       |  |   | 395      
|Insurance                                                                  |  |                                 | 11,739  |                                |   | 9,728   |  |      | 50,335    |  |   | 29,184   
|General and administrative                                                 |  |                                 | 19,255  |                                |   | 35,180  |  |      | 81,961    |  |   | 91,105   
|Advisory Board fees and expenses                                           |  |                                 | 2,625   |                                |   | 3,500   |  |      | 8,750     |  |   | 10,500   
|Professional services                                                      |  |                                 | 36,577  |                                |   | 37,115  |  |      | 124,332   |  |   | 122,003  
|Maintenance and repair expenses                                            |  |                                 | 735     |                                |   | 780     |  |      | 1,610     |  |   | 1,440    
|Other property expenses                                                    |  |                                 | 820     |                                |   | 820     |  |      | 820       |  |   | 820      
|Settlement expense (Note 10)                                               |  |                                 | 25,000  |                                |   | 0       |  |      | 25,000    |  |   | 0        
|Depreciation                                                               |  |                                 | 55,862  |                                |   | 55,862  |  |      | 167,585   |  |   | 167,585  
|Amortization                                                               |  |                                 | 4,296   |                                |   | 3,198   |  |      | 12,523    |  |   | 9,595    
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|TOTAL OPERATING EXPENSES                                                   |  |                                 | 211,965 |                                |   | 199,433 |  |      | 636,880   |  |   | 591,058  
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|OTHER INCOME                                                               |  |                                 |         |                                |   |         |  |      |           |  |   |          
|Interest income                                                            |  |                                 | 8,874   |                                |   | 4,705   |  |      | 24,224    |  |   | 11,984   
|Judgment claim (Note 3)                                                    |  |                                 | 0       |                                |   | 0       |  |      | 25,000    |  |   | 0        
|Recovery of amounts previously written off (Note 2)                        |  |                                 | 3,107   |                                |   | 3,107   |  |      | 9,321     |  |   | 9,865    
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|TOTAL OTHER INCOME                                                         |  |                                 | 11,981  |                                |   | 7,812   |  |      | 58,545    |  |   | 21,849   
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|INCOME FROM CONTINUING OPERATIONS                                          |  |                                 | 313,201 |                                |   | 344,306 |  |      | 681,973   |  |   | 741,067  
|INCOME FROM DISCONTINUED OPERATIONS (Note 1)                               |  |                                 | 30,830  |                                |   | 87,995  |  |      | 79,628    |  |   | 181,147  
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|NET INCOME                                                                 |  | $                               | 344,031 |                                | $ | 432,301 |  | $    | 761,601   |  | $ | 922,214  
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|NET INCOME- CURRENT GENERAL PARTNER                                        |  | $                               | 3,440   |                                | $ | 4,323   |  | $    | 7,616     |  | $ | 9,222    
|NET INCOME- LIMITED PARTNERS                                               |  |                                 | 340,591 |                                |   | 427,978 |  |      | 753,985   |  |   | 912,992  
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|                                                                           |  | $                               | 344,031 |                                | $ | 432,301 |  | $    | 761,601   |  |   | 922,214  
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|PER LIMITED PARTNERSHIP INTEREST, Based on 46,280.3 interests outstanding: |  |                                 |         |                                |   |         |  |      |           |  |   |          
|INCOME FROM CONTINUING OPERATIONS                                          |  | $                               | 6.70    |                                | $ | 7.37    |  | $    | 14.59     |  | $ | 15.85    
|INCOME FROM DISCONTINUED OPERATIONS                                        |  |                                 | .66     |                                |   | 1.88    |  |      | 1.70      |  |   | 3.88     
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          
|NET INCOME PER LIMITED PARTNERSHIP INTEREST                                |  | $                               | 7.36    |                                | $ | 9.25    |  | $    | 16.29     |  | $ | 19.73    
|                                                                           |  |                                 |         |                                |   |         |  |      |           |  |   |          

The accompanying notes are an integral part of these condensed financial statements.



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DIVALL INSURED INCOME PROPERTIES 2 LIMITED PARTNERSHIP

CONDENSED STATEMENTS OF CASH FLOWS

For the Nine Month Periods Ended September 30, 2006 and 2005

(Unaudited)



|                                                                                  |  |      |            |   |      |   |            |  
|--------------------------------------------------------------------------------- |  | ---- | ---------- | - | ---- | - | ---------- | -
|                                                                                  |  | 2006 |            |   | 2005 |  
|CASH FLOWS FROM OPERATING ACTIVITIES:                                             |  |      |            |   |      |   |            |  
|Net income                                                                        |  | $    | 761,601    |   |      | $ | 922,214    |  
|Adjustments to reconcile net income to net cash flows from operating activities - |  |      |            |   |      |   |            |  
|Depreciation and amortization                                                     |  |      | 192,969    |   |      |   | 205,665    |  
|Recovery of amounts previously written off                                        |  |      | (9,321     | ) |      |   | (9,865     | )
|Interest applied to PMA Indemnification Trust account                             |  |      | (14,137    | ) |      |   | (7,776     | )
|Changes in operating accounts:                                                    |  |      |            |   |      |   |            |  
|Decrease (Increase) in property taxes cash escrow                                 |  |      | 3,989      |   |      |   | (17,581    | )
|Decrease in rents and other receivables                                           |  |      | 259,458    |   |      |   | 284,822    |  
|Decrease in prepaid insurance                                                     |  |      | 29,832     |   |      |   | 29,184     |  
|Decrease in prepaid fees                                                          |  |      | 0          |   |      |   | (3274      | )
|Decrease in deferred rent receivable                                              |  |      | 12,390     |   |      |   | 4,640      |  
|Increase in property taxes receivable                                             |  |      | (9,723     | ) |      |   | (12,236    | )
|Decrease in due to General Partner                                                |  |      | (3,420     | ) |      |   | (471       | )
|Increase (Decrease) in accounts payable and other accrued expenses                |  |      | 11,862     |   |      |   | (4,452     | )
|Increase (Decrease) in property taxes payable                                     |  |      | 3,794      |   |      |   | (15,207    | )
|Increase in income taxes payable                                                  |  |      | 0          |   |      |   | 21,000     |  
|                                                                                  |  |      |            |   |      |   |            |  
|Increase (Decrease) in unearned rental income                                     |  |      | 2,815      |   |      |   | (1,292     | )
|                                                                                  |  |      |            |   |      |   |            |  
|Net cash flows from operating activities                                          |  |      | 1,242,109  |   |      |   | 1,395,371  |  
|                                                                                  |  |      |            |   |      |   |            |  
|CASH FLOWS FROM (USED IN) INVESTING ACTIVITIES:                                   |  |      |            |   |      |   |            |  
|Payment of leasing commissions                                                    |  |      | (12,960    | ) |      |   | 0          |  
|Recoveries from former General Partner affiliates                                 |  |      | 9,321      |   |      |   | 9,865      |  
|                                                                                  |  |      |            |   |      |   |            |  
|Net cash flows from (used in) investing activities                                |  |      | (3,639     | ) |      |   | 9,865      |  
|                                                                                  |  |      |            |   |      |   |            |  
|CASH FLOWS USED IN FINANCING ACTIVITIES:                                          |  |      |            |   |      |   |            |  
|Cash distributions to Limited Partners                                            |  |      | (2,730,000 | ) |      |   | (1,295,000 | )
|Cash distributions to current General Partner                                     |  |      | (3,046     | ) |      |   | (3,688     | )
|                                                                                  |  |      |            |   |      |   |            |  
|Net cash flows used in financing activities                                       |  |      | (2,733,046 | ) |      |   | (1,298,688 | )
|                                                                                  |  |      |            |   |      |   |            |  
|NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS                              |  |      | (1,494,576 | ) |      |   | 106,548    |  
|CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD                                  |  |      | 2,218,807  |   |      |   | 684,586    |  
|                                                                                  |  |      |            |   |      |   |            |  
|CASH AND CASH EQUIVALENTS AT END OF PERIOD                                        |  | $    | 724,231    |   |      | $ | 791,134    |  
|                                                                                  |  |      |            |   |      |   |            |  

The accompanying notes are an integral part of these condensed financial statements.



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DIVALL INSURED INCOME PROPERTIES 2 LIMITED PARTNERSHIP

NOTES TO CONDENSED FINANCIAL STATEMENTS

These
unaudited interim condensed financial statements should be read in conjunction with DiVall Insured Income Properties 2 Limited Partnerships (the Partnership) 2005 annual audited financial statements within Form 10-K.

These unaudited condensed financial statements include all adjustments, which are in the opinion of management, necessary to present a fair statement of the
Partnerships financial position as of September 30, 2006, and the statements of income for the three and nine-month periods ended September 30, 2006 and 2005, and cash flows for the nine-month periods ended September 30, 2006
and 2005.

1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES:

DiVall Insured Income Properties 2 Limited Partnership was formed on November 18, 1987, pursuant to the Uniform Limited Partnership Act of the State of Wisconsin.
The initial capital, contributed during 1987, consisted of $300, representing aggregate capital contributions of $200 by the former general partners and $100 by the Initial Limited Partner. The minimum offering requirements were met and escrowed
subscription funds were released to the Partnership as of April 7, 1988. On January 23, 1989, the former general partners exercised their option to increase the offering from 25,000 interests to 50,000 interests and to extend the offering
period to a date no later than August 22, 1989. On June 30, 1989, the general partners exercised their option to extend the offering period to a date no later than February 22, 1990. The offering closed on February 22, 1990, at
which point 46,280.3 interests had been sold, resulting in total offering proceeds, net of underwriting compensation and other offering costs, of $39,358,468.

The Partnership is currently engaged in the business of owning and operating its investment portfolio of commercial real estate properties (the Properties). The Properties are leased on a triple net basis to, and operated by,
franchisees of national, regional, and local retail chains under long-term leases. The lessees are primarily fast food, family style, and casual/theme restaurants, but also include a video rental store and a pre-school. At September 30, 2006,
the Partnership owned 19 properties.

Rental revenue from investment properties is recognized on the straight-line basis over the term of the respective
lease. Percentage rents are only accrued when the tenant has reached the sales breakpoint stipulated in the lease.

Tenant accounts receivable are
comprised of billed but uncollected amounts due for monthly rents and other charges, and amounts due for scheduled rent increases for which rentals have been earned and will be collected in the future under the terms of the leases. Receivables are
recorded at managements estimate of the amounts that will be collected.

As of September 30, 2006 and December 31, 2005, there were no
recorded values for allowance for doubtful accounts based on an analysis of specific accounts and historical experience.

The Partnership considers its
operations to be in only one segment, the operation of a portfolio of commercial real estate leased on a triple net basis, and therefore no segment disclosure is made.



6



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Depreciation of the properties and improvements are provided on a straight-line basis over 31.5 years, which are the
estimated useful lives of the buildings and improvements.

Deferred charges represent leasing commissions paid when properties are leased and upon the
negotiated extension of a lease. Leasing commissions are capitalized and amortized over the term of the lease.

Property taxes, insurance and ground rent
on the Partnerships investment properties are the responsibility of the tenant. However, when a tenant fails to make the required tax payments or when a property becomes vacant, the Partnership makes the appropriate payment to avoid possible
foreclosure of the property. Such taxes, insurance and ground rent are accrued in the period in which the liability is incurred. The Partnership owns one (1) restaurant, which is located on a parcel of land where it has entered into a long-term
ground lease. The tenant, Kentucky Fried Chicken, is responsible for the $3,400 per month ground lease payment.

Cash and cash equivalents include cash on
deposit with financial institutions and highly liquid temporary investments with initial maturities of 90 days or less.

Financial instruments that
potentially subject the Partnership to significant concentrations of credit risk consist primarily of cash investments. The Partnership generally maintains cash and cash equivalents in federally insured accounts.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America 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.

Assets disposed of or deemed to be classified as held for sale require the reclassification of current
and previous years operations to discontinued operations in accordance with Statement of Financial Accounting Standards No. 144 Accounting for the Impairment or Disposal of Long-Lived Assets (SFAS 144).

In March 2005, the Financial Accounting Standards Board (FASB) issued Interpretation No. 47 (FIN 47), Accounting for Conditional Asset
Retirement Obligations, an interpretation of SFAS No. 143, which clarifies that a liability for the performance of an asset retirement activity should be recorded if the obligation to perform such activity is unconditional, whether or not
the timing or method of settlement may be conditional on a future event. FIN 47 was effective no later than the end of the fiscal year ending after December 15, 2005. FIN 47 did not have a significant impact on the Partnerships financial
statements.

In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, (FIN 48). FIN 48
clarifies the accounting for uncertainty in income taxes recognized in an enterprises financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes. This Interpretation prescribes a recognition
threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This Interpretation also provides guidance on derecognition, classification, interest and
penalties, accounting in interim periods, disclosure, and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Partnership does not expect the adoption of FIN 48 to have a material impact on its financial
statements.



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The Partnership periodically reviews its long-lived assets, primarily real estate, for impairment whenever events or
changes in circumstances indicate that the carrying amount of such assets may not be recoverable. The Partnerships review involves comparing current and future operating performance of the assets, the most significant of which is undiscounted
operating cash flows, to the carrying value of the assets. Based on this analysis, a provision for possible loss is recognized, if any.

The Partnership
recognized income from discontinued operations of approximately $31,000 and $80,000 in the three and nine-month periods ending September 30, 2006, respectively. The Partnership recognized income from discontinued operations of approximately
$88,000 and $181,000 in the three and nine-month periods ending September 30, 2005, respectively. The 2006 income from discontinued operations is attributable to the reclassification of the Sunrise Preschool- Phoenix, AZ property to property
held for sale in the Second Quarter of 2006. The 2005 income from discontinued operations is attributable to the reclassification of the Sunrise Preschool- Phoenix, AZ property and the Hooters- Richland Hills, TX property (which was sold in
December of 2005).

The components of property held for sale in the condensed balance sheets as of September 30, 2006 and 2005 are outlined below.



|                       |  |      |         |   |      |   |  
|---------------------- |  | ---- | ------- | - | ---- | - | -
|                       |  | 2006 |         |   | 2005
|Balance Sheet:         |  |      |         |   |      |   |  
|Land                   |  | $    | 241,371 |   |      | $ | 0
|Buildings              |  |      | 385,840 |   |      |   | 0
|Security deposits      |  |      | (9,945  | ) |      |   | 0
|                       |  |      |         |   |      |   |  
|Property held for sale |  | $    | 617,266 |   |      | $ | 0
|                       |  |      |         |   |      |   |  

The components of discontinued operations included in the condensed statements of income for the three and
nine-month periods ended September 30, 2006 and 2005 are outlined below.



|                                    |  |                                            |        |                                            |   |                                           |  |                                           |        |  |   |        
|----------------------------------- |  | ------------------------------------------ | ------ | ------------------------------------------ | - | ----------------------------------------- |  | ----------------------------------------- | ------ |  | - | -------
|                                    |  | Three-month Period ended September 30,2006 |        | Three-month Period ended September 30,2005 |   | Nine-month Period ended September 30,2006 |  | Nine-month Period ended September 30,2005
|Statements of Income:               |  |                                            |        |                                            |   |                                           |  |                                           |        |  |   |        
|Revenues:                           |  |                                            |        |                                            |   |                                           |  |                                           |        |  |   |        
|Rental Income                       |  | $                                          | 30,830 |                                            | $ | 100,990                                   |  | $                                         | 92,489 |  | $ | 213,132
|                                    |  |                                            |        |                                            |   |                                           |  |                                           |        |  |   |        
|Total Revenues                      |  |                                            | 30,830 |                                            |   | 100,990                                   |  |                                           | 92,489 |  |   | 213,132
|                                    |  |                                            |        |                                            |   |                                           |  |                                           |        |  |   |        
|Expenses:                           |  |                                            |        |                                            |   |                                           |  |                                           |        |  |   |        
|Depreciation                        |  |                                            | 0      |                                            |   | 9,495                                     |  |                                           | 12,861 |  |   | 28,485 
|Professional Services               |  |                                            | 0      |                                            |   | 3,500                                     |  |                                           | 0      |  |   | 3,500  
|                                    |  |                                            |        |                                            |   |                                           |  |                                           |        |  |   |        
|Total Expenses                      |  |                                            | 0      |                                            |   | 12,995                                    |  |                                           | 12,861 |  |   | 31,985 
|                                    |  |                                            |        |                                            |   |                                           |  |                                           |        |  |   |        
|Income from Discontinued Operations |  | $                                          | 30,830 |                                            | $ | 87,995                                    |  | $                                         | 79,628 |  | $ | 181,147
|                                    |  |                                            |        |                                            |   |                                           |  |                                           |        |  |   |        



8



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The Partnership will be dissolved on November 30, 2010, or earlier upon the prior occurrence of any of the following
events: (a) the disposition of all properties of the Partnership; (b) the written determination by the General Partner that the Partnerships assets may constitute plan assets for purposes of ERISA; (c) the agreement
of Limited Partners owning a majority of the outstanding interests to dissolve the Partnership; or (d) the dissolution, bankruptcy, death, withdrawal, or incapacity of the last remaining General Partner, unless an additional General Partner is
elected previously by a majority of the Limited Partners. During the Second Quarter of 2001, 2003 and 2005, consent solicitations were circulated (the 2001, 2003 and 2005 Consents), which if approved would have authorized the sale of the
Partnerships assets and dissolution of the Partnership. A majority of the Limited Partners did not vote in favor of either the 2001, 2003 or 2005 Consents. Therefore, the Partnership continues to operate as a going concern.

No provision for federal income taxes has been made, as any liability for such taxes would be that of the individual partners rather than the Partnership. At
December 31, 2005, the tax basis of the Partnerships assets exceeded the amounts reported in the 2005 financial statements by approximately $6,877,000.

2. REGULATORY INVESTIGATION:

A preliminary investigation during 1992 by the Office of Commissioner of Securities for the State of Wisconsin and the Securities and Exchange Commission (the Investigation) revealed that during at least the four years ended
December 31, 1992, the former general partners of the Partnership, Gary J. DiVall (DiVall) and Paul E. Magnuson (Magnuson) had transferred substantial cash assets of the Partnership and two affiliated publicly registered
partnerships, DiVall Insured Income Fund Limited Partnership (DiVall 1) and DiVall Income Properties 3 Limited Partnership (DiVall 3) (collectively the Partnerships) to various other entities previously sponsored
by or otherwise affiliated with DiVall and Magnuson. The unauthorized transfers were in violation of the respective Partnership Agreements and resulted, in part, from material weaknesses in the internal control systems of the Partnerships.

Subsequent to discovery, and in response to the regulatory inquiries, a third-party Permanent Manager, The Provo Group, Inc. (TPG), was
appointed (effective February 8, 1993) to assume responsibility for daily operations and assets of the Partnerships as well as to develop and execute a plan of restoration for the Partnerships. Effective May 26, 1993, the Limited Partners,
by written consent of a majority of interests, elected the Permanent Manager, TPG, as General Partner. TPG terminated the former general partners by accepting their tendered resignations.

In 1993, the current General Partner estimated an aggregate recovery of $3 million for the Partnerships. At that time, an allowance was established against amounts due
from former general partners and their affiliates reflecting the estimated $3 million receivable. This net receivable was allocated among the Partnerships based on each Partnerships pro rata share of the total misappropriation, and restoration
costs and recoveries have been allocated based on the same percentage. Through September 30, 2006, $5,859,000 of recoveries have been received which exceeded the original estimate of $3 million. As a result, from January 1, 1996 through
September 30, 2006, the Partnership has recognized a total of $1,171,000 as recovery of amounts previously written off in the statements of income, which represents its share of the excess recovery. The current General Partner continues to
pursue recoveries of the misappropriated funds, however, no further significant recoveries are anticipated.



9



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3. INVESTMENT PROPERTIES:

The total cost of the investment properties and specialty leasehold improvements includes the original purchase price plus acquisition fees and other capitalized costs paid to an affiliate of the former general
partners.

As of September 30, 2006, the Partnership owned 17 fully constructed fast-food restaurants, a video store, and a preschool. The 19
properties are composed of the following: ten (10) Wendys restaurants, one (1) Dennys restaurant, one (1) Applebees restaurant, one (1) Popeyes Famous Fried Chicken restaurant, one (1) Kentucky Fried
Chicken restaurant, one (1) Chinese Super Buffet restaurant, one (1) Panda Buffet restaurant, one (1) Daytonas- All Sports Café, one (1) Blockbuster Video store, and one (1) Sunrise Preschool (classified as
property held for sale in June of 2006). The 19 properties are located in a total of nine (9) states.

On January 1, 2002, the Partnership
adopted SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. This statement requires current and historical results from operations for disposed properties and assets classified as held for sale that occur
subsequent to January 1, 2002 to be reclassified separately as discontinued operations.

The Partnership recognized income from discontinued
operations of approximately $31,000 and $80,000 in the three and nine-month periods ending September 30, 2006, respectively. The Partnership recognized income from discontinued operations of approximately $88,000 and $181,000 in the three and
nine-month periods ending September 30, 2005, respectively. The 2006 income from discontinued operations is attributable to the reclassification of the Sunrise Preschool- Phoenix, AZ property to property held for sale in the Second Quarter of
2006. The 2005 income from discontinued operations is attributable to the reclassification of the Sunrise Preschool- Phoenix, AZ property and the Hooters- Richland Hills, TX property (which was sold in December of 2005).

The following summarizes significant developments, by property, for properties with such developments.

Sunrise Preschool- Phoenix, AZ Property

A listing agreement for the sale of the property (asking price of $1.7 million) was executed in June of 2006, with a sales commission rate of 6%. The net book value of the property at September 30, 2006, classified as property held for
sale, was approximately $617,000, which included $241,000 related to land, $386,000 related to buildings and improvements, and $10,000 related to security deposits.

The tenant, Borg Holdings, Inc., has a right of first refusal to purchase the Phoenix property if a separate buyer enters into a real estate contract for the purchase of the property.

Grand Forks, ND Property

On
January 24, 2006, the owners of the Panda Buffet Restaurant in Grand Forks, ND gave notice to Management that they intended to exercise their purchase option in relation to the property. A sales contract was executed on February 27, 2006
for the sale of the Grand Forks, ND property at a sales price of $525,000. Although closing was anticipated to be in the First Quarter of 2006, the sale was not consummated and the sales contract expired in late March of 2006. The original lease,
which is set to expire in 2013, remains effective and includes the tenants option to purchase the property.



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Ogden, UT property

The Blockbuster lease on the current 6,000 square foot space expired on January 31, 2006. During lease renewal negotiations with Management, the tenant maintained possession of the property and paid the
Partnership holdover rent for February and March of 2006. In April of 2006, Management executed a two-year renewal lease agreement with the tenant, retroactive to February 1, 2006. The first base year rent will total approximately $108,000.
Leasing commissions related to the lease renewal execution totaled approximately $13,000, ($6,500 paid to a non-affiliated broker and $6,500 paid to a General Partner affiliate).

Popeyes- Park Forest, IL

As
of September 30, 2006, Popeyes is delinquent on its April and May 2006 rent obligations and property taxes escrow payments totaling approximately $13,000 and $10,000, respectively. As of September 30, 2006, the tenant does not have a
property tax escrow cash balance held with the Partnership. The Partnership has received the required June through October 2006 rent and property taxes escrow payments.

In the Second Quarter of 2006, Management defaulted Popeyes for failure to meet its lease obligations, and filed for possession of the Park Forest property in the Cook County Judicial Court. The Partnership
continues the pursuit of all legal remedies available to recover possession and terminate the Lease. Popeyes remains responsible for monthly rent obligations and property taxes through the remainder of its Lease (expires December 31,
2009).

The Partnership recognized property taxes recovery income of approximately $35,000 during 2005 which related to Popeyes 2004 property taxes
that were expensed and accrued by the Partnership as of December 31, 2004 due to past tenant defaults. Due to Popeyes full reimbursement to the Partnership for past property taxes paid on the tenants behalf, and Popeyes
meeting its billing and escrow obligations during 2005, the 2005 estimated property taxes were not expensed and accrued as of December 31, 2005. The 2006 estimated property taxes that will be due during 2007 are not being expensed and accrued
during 2006.

4785 Merle Hay Road- Des Moines, IA

In September 2005, the Partnership paid Daytonas- All Sports Cafés (Daytonas) first installment of its 2004 property taxes, which amounted to approximately $10,000. Daytonas
reimbursed the Partnership in the Fourth Quarter of 2005. Beginning in December 2005, Management requested that Daytonas escrow its future property taxes liabilities with the Partnership on a monthly basis. Daytonas remains current on
its property tax escrow obligations. As of September 30, 2006, escrow payments held by the Partnership totaled approximately $13,000.

Former Miami Subs- Palm Beach, FL Property

The Palm Beach, FL property was sold in June 2004. At the time of closing
the former tenant, DiFede Finance Group (DiFede), was delinquent $17,000 in past rent (after the application of a $15,000 security deposit). The former tenant also owed the Partnership approximately $13,360 in property taxes as the
Partnership paid the propertys delinquent 2003 property taxes in June 2004. Management continued to pursue legal remedies to collect the former tenants total past due balances. Due to the uncertainty of collection, fifty percent (50 %)
of the total outstanding receivable balance was reserved in June 2004.



11



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In November 2004, a Settlement Agreement (DiFede Agreement) was executed with DiFede. Per the DiFede
Agreement the former tenant agreed to pay the Partnership by December 31, 2004 approximately $36,000 in past due rent, late charges, related attorney and court fees and other miscellaneous items. However, the settlement payment per the DiFede
Agreement was not received by the Partnership. Further legal action was taken by the Partnership and the Circuit Court in Broward County, Florida entered a final judgment (the Judgment) against DiFede in early January 2005, awarding
approximately $42,000 in damages to the Partnership. Due to the uncertainty of collection, the remaining fifty percent (50 %) of the total outstanding receivable balance was written-off. The receivable balance and applicable allowance were removed
from the balance sheet at December 31, 2004. Throughout 2005 Management continued their pursuit of legal action to collect the Judgment. In satisfaction of the Judgment (which was recorded in the Circuit Court in March of 2006), the Partnership
received $25,000 from Difede in the First Quarter of 2006.

Former Hooters- Richland Hills, TX property

A sales contract was executed in October of 2005 for the sale of the property in the Fourth Quarter of 2005 at a sales price of $1,575,000. The closing
date on the sale of the property was December 2005 and the net sales proceeds totaled approximately $1,505,000. A net gain on the sale of $668,000 was recognized in the Fourth Quarter of 2005. Closing and other sale related costs amounted to
$70,000, which included a sales commission paid to a General Partner affiliate totaling $47,250.

Other Investment in
Properties Information

According to the Partnership Agreement, the former general partners were to commit 80% of the original offering proceeds to
investment in properties. Upon the close of the offering, approximately 75% of the original proceeds were invested in the Partnerships properties.

At December 31, 2005, the owners of the Panda Buffet property had an option to purchase the property at a price, which (i) exceeded the original cost of the property less accumulated depreciation and (ii) was not less than
the fair market value of the property at the time the option was granted. On January 24, 2006, the owners of the Panda Buffet Restaurant in Grand Forks, ND gave notice to Management that they intended to exercise their purchase option in
relation to the property, but the proposed sale was not consummated. (For further discussion see Grand Forks, ND Property above and in Part I- Item 2- Investment Properties.) The original lease, which is set to expire in 2013,
remains effective and includes the tenants option to purchase the property at a price, which (i) exceeds the original cost of the property less accumulated depreciation and (ii) is not less than the fair market value of the property
at the time the option was granted. The General Partner is not aware of any unfavorable purchase options in relation to the original cost or fair market value of the property at the time the option was granted, contained in any of the
Partnerships existing leases.

4. PARTNERSHIP AGREEMENT:

The Partnership Agreement, prior to an amendment effective May 26, 1993, provided that, for financial reporting and income tax purposes, net profits or losses from operations were allocated 90% to the Limited
Partners and 10% to the general partners. The Partnership Agreement also provided for quarterly cash distributions from Net Cash Receipts, as defined, within 60 days after the last day of the first full calendar quarter following the date of release
of the subscription funds from escrow, and each calendar quarter thereafter, in which such funds were available for distribution with respect to such quarter. Such distributions were to be made 90% to Limited Partners and 10% to the former general
partners, provided, however, that quarterly distributions were to be cumulative and were not to be made to the former general



12



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partners unless and until each Limited Partner had received a distribution from Net Cash Receipts in an amount equal to 10% per annum, cumulative simple
return on his or her Adjusted Original Capital, as defined, from the Return Calculation Date, as defined.

Net Proceeds, as originally defined, were to be
distributed as follows: (a) to the Limited Partners, an amount equal to 100% of their Adjusted Original Capital; (b) then, to the Limited Partners, an amount necessary to provide each Limited Partner a Liquidation Preference equal to a
13.5% per annum, cumulative simple return on Adjusted Original Capital from the Return Calculation date including in the calculation of such return all prior distributions of Net Cash Receipts and any prior distributions of Net Proceeds under
this clause; and (c) then, to Limited Partners, 90% and to the General Partners, 10%, of the remaining Net Proceeds available for distribution.

On
May 26, 1993, pursuant to the results of a solicitation of written consents from the Limited Partners, the Partnership Agreement was amended to replace the former general partners and amend various sections of the agreement. The former general
partners were replaced as General Partner by The Provo Group, Inc., an Illinois corporation. Under the terms of the amendment, net profits or losses from operations are allocated 99% to the Limited Partners and 1% to the current General Partner. The
amendment also provided for distributions from Net Cash Receipts to be made 99% to Limited Partners and 1% to the current General Partner, provided that quarterly distributions are cumulative and are not to be made to the current General Partner
unless and until each Limited Partner has received a distribution from Net Cash Receipts in an amount equal to 10% per annum, cumulative simple return on his or her Adjusted Original Capital, as defined, from the Return Calculation Date, as
defined, except to the extent needed by the General Partner to pay its federal and state income taxes on the income allocated to it attributable to such year. Distributions paid to the General Partner are based on the estimated tax liability
resulting from allocated income. Subsequent to the filing of the General Partners income tax returns, a true up with actual distributions is made.

The provisions regarding distribution of Net Proceeds, as defined, were also amended to provide that Net Proceeds are to be distributed as follows: (a) to the Limited Partners, an amount equal to 100% of their Adjusted Original
Capital; (b) then, to the Limited Partners, an amount necessary to provide each Limited Partner a Liquidation Preference equal to a 13.5% per annum, cumulative simple return on Adjusted Original Capital from the Return Calculation Date
including in the calculation of such return on all prior distributions of Net Cash Receipts and any prior distributions of Net Proceeds under this clause, except to the extent needed by the General Partner to pay its federal and state income tax on
the income allocated to it attributable to such year; and (c) then, to Limited Partners, 99%, and to the General Partner, 1%, of remaining Net Proceeds available for distribution.

Additionally, per the amendment of the Partnership Agreement dated May 26, 1993, the total compensation paid to all persons for the sale of the investment properties is limited to a competitive real estate
commission, not to exceed 6% of the contract price for the sale of the property. The General Partner may receive up to one-half of the competitive real estate commission, not to exceed 3%, provided that the General Partner provides a substantial
amount of services in the sales effort. It is further provided that a portion of the amount of such fees payable to the General Partner is subordinated to its success in recovering the funds misappropriated by the former general partners. (See Note
7)

Effective June 1, 1993, the Partnership Agreement was amended to (i) change the definition of Distribution Quarter to be
consistent with calendar quarters, and (ii) change the distribution provisions to subordinate the General Partners share of distributions from Net Cash Receipts and Net Proceeds, except to the extent necessary for the General Partner to
pay its federal and state income taxes on Partnership income allocated to the General Partner. Because these amendments do not adversely affect the rights of the Limited Partners, pursuant to section 10.2 of the Partnership Agreement, the General
Partner made the amendments without a vote of the Limited Partners.



13



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5. LEASES:

Original lease terms for the majority of the investment properties are generally 10 - 20 years from their inception. The leases generally provide for minimum rents and additional rents based upon percentages of gross
sales in excess of specified sales breakpoints. The lessee is responsible for occupancy costs such as maintenance, insurance, real estate taxes, and utilities. Accordingly, these amounts are not reflected in the statements of income except in
circumstances where, in managements opinion, the Partnership will be required to pay such costs to preserve its assets (i.e., payment of past-due real estate taxes). Management has determined that the leases are properly classified as
operating leases; therefore, rental income is reported when earned on a straight-line basis and the cost of the property, excluding the cost of the land, is depreciated over its estimated useful life.

As of September 30, 2006, the aggregate minimum operating lease payments to be received under the current operating leases for the Partnerships properties are
as follows (does not include the Sunrise Preschool- Phoenix, AZ property which was classified as held for sale in the Second Quarter of 2006):



|                         |  |   |           
|------------------------ |  | - | ----------
|Year ending December 31, |  |   |           
|2006                     |  | $ | 1,461,090 
|2007                     |  |   | 1,453,007 
|2008                     |  |   | 1,246,840 
|2009                     |  |   | 1,204,210 
|2010                     |  |   | 1,014,780 
|Thereafter               |  |   | 5,617,799 
|                         |  |   |           
|                         |  | $ | 11,997,726
|                         |  |   |           

Percentage rentals included in operating rental income for the nine-month periods ended September 30, 2006
and 2005 were approximately $175,000 and $238,000 respectively. The variance is primarily due to the sale of the Hooters- Richland Hills, TX property in the Fourth Quarter of 2005, and lower Second and Third Quarter 2006 percentage rent
accruals. At September 30, 2006, rents and other receivables included $158,000 in percentage rents accrued in the Second and Third Quarters of 2006 for tenants who had reached their individual sales breakpoints.

Ten (10) of the properties are leased to Wencoast Restaurants, Inc. (Wencoast), a franchisee of Wendys restaurants. Wencoast base rents accounted
for 58% of total operating base rents for 2005 (excludes the Hooters property which was sold in December of 2005 and the Sunrise Preschool property which was classified as held for sale in the Second Quarter of 2006). For the nine-month period
ended September 30, 2006, Wencoast base rents accounted for 58%, of total operating base rents (does not include the Sunrise Preschool property which was classified as held for sale in the Second Quarter of 2006). The most recent audited
financial statements available for Wencoast, prepared by Thompson Dunvant, PLC, are for the periods ended December 29, 2003 and January 2, 2005. Those financial statements are attached as Exhibit 99.1 to the 2005 Annual 10-K Report. Such
audited financial statements were prepared on behalf of Wencoast and may be considered relevant to an investor because Wencoast leases more than 20% of the Partnerships properties, both by number and asset value.

The Partnership has requested copies of Wencoasts audited financial statements for the 2005 fiscal year and will disclose such financial statements following their
receipt.



14



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6. TRANSACTIONS WITH CURRENT GENERAL PARTNER AND ITS AFFILIATES:

The current General Partner was to receive a management fee (Base Fee) for managing the three original affiliated Partnerships equal to 4% of gross receipts,
subject to a minimum of $300,000 annually, and a maximum annual reimbursement for office rent and related office overhead (Expense) of $25,000, as provided in the Permanent Manager Agreement (PMA). The Base Fee and the
Expense reimbursement are subject to increases due to increases in the Consumer Price Index. The current General Partner receives a Base Fee for managing the Partnership equal to 4% of gross receipts and the Partnership is only responsible for its
allocable share of such minimum and maximum annual amounts as indicated above (originally $159,000 minimum annual Base Fee and $13,250 Expense reimbursement). Effective March 1, 2006, the minimum annual Base Fee and the maximum Expense
reimbursement increased by 3.39%, which represents the allowable annual Consumer Price Index adjustment per the PMA. Therefore, as of March 1, 2006, the minimum monthly Base Fee paid by the Partnership was raised to $18,352 and the maximum
monthly Expense reimbursement was raised to $1,481.

For purposes of computing the 4% overall fee, gross receipts includes amounts recovered in connection
with the misappropriation of assets by the former general partners and their affiliates. TPG has received fees from the Partnership totaling $57,278 to date on the amounts recovered, which includes the nine-month periods ended September 30,
2006 and 2005 fees of $373 and $395, respectively. The fees received from the Partnership on the amounts recovered reduce the 4% minimum fee by that same amount.

Amounts paid and/or accrued to the current General Partner and its affiliates for the three and nine- month periods ended September 30, 2006 and 2005, are as follows (Management fees and overhead allowances for January 2005 fees were
prepaid in December 2004 and therefore are not included in the Nine-Month Period ended September 30, 2005 below):



|                                         |  |                                                              |        |                                                              |   |                                                            |  |                                                            |         |  |   |        
|---------------------------------------- |  | ------------------------------------------------------------ | ------ | ------------------------------------------------------------ | - | ---------------------------------------------------------- |  | ---------------------------------------------------------- | ------- |  | - | -------
|Current General Partner                  |  | Incurred for the Three-Month Period
ended September 30, 2006 |        | Incurred for the Three-Month Period
ended September 30, 2005 |   | Incurred for the Nine-Month Period
ended September 30,2006 |  | Incurred for the Nine-Month Period
ended September 30,2005
|Management fees                          |  | $                                                            | 54,932 |                                                              | $ | 53,126                                                     |  | $                                                          | 163,591 |  | $ | 141,143
|Restoration fees                         |  |                                                              | 124    |                                                              |   | 124                                                        |  |                                                            | 373     |  |   | 395    
|Overhead allowance                       |  |                                                              | 4,442  |                                                              |   | 4,296                                                      |  |                                                            | 13,229  |  |   | 11,419 
|Leasing commissions                      |  |                                                              | 0      |                                                              |   | 0                                                          |  |                                                            | 6,480   |  |   | 0      
|Reimbursement for out-of-pocket expenses |  |                                                              | 1,431  |                                                              |   | 2,388                                                      |  |                                                            | 5,441   |  |   | 7,446  
|Cash distribution                        |  |                                                              | 1,376  |                                                              |   | 1,729                                                      |  |                                                            | 3,046   |  |   | 3,688  
|                                         |  |                                                              |        |                                                              |   |                                                            |  |                                                            |         |  |   |        
|                                         |  | $                                                            | 62,305 |                                                              | $ | 61,663                                                     |  | $                                                          | 192,160 |  | $ | 164,091
|                                         |  |                                                              |        |                                                              |   |                                                            |  |                                                            |         |  |   |        

7. CONTINGENT LIABILITIES:

According to the Partnership Agreement, as amended, the current General Partner may receive a disposition fee not to exceed 3% of the contract price of the sale of investment properties. Fifty percent (50%) of
all such disposition fees earned by the current General Partner is to be escrowed until the aggregate amount of recovery of the funds misappropriated from the Partnerships by the former general



15



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partners is greater than $4,500,000. Upon reaching such recovery level, full disposition fees will thereafter be payable and fifty percent (50%) of the
previously escrowed amounts will be paid to the current General Partner. At such time as the recovery exceeds $6,000,000 in the aggregate, the remaining escrowed disposition fees shall be paid to the current General Partner. If such levels of
recovery are not achieved, the current General Partner will contribute the amounts escrowed towards the recovery. In lieu of an escrow, 50% of all such disposition fees have been paid directly to a restoration account and then distributed among the
three original Partnerships. Fifty percent (50%) of the total amount paid to the restoration account was refunded to the current General Partner during March 1996 after exceeding the recovery level of $4,500,000. The General Partner does not
expect any future refunds, as the possibility of achieving the $6,000,000 recovery threshold appears remote.

8. PMA INDEMNIFICATION TRUST:

The PMA provides that the Permanent Manager will be indemnified from any claims or expenses arising out of or relating to the Permanent Manager serving
in such capacity or as substitute general partner, so long as such claims do not arise from fraudulent or criminal misconduct by the Permanent Manager. The PMA provides that the Partnership fund this indemnification obligation by establishing a
reserve of up to $250,000 of Partnership assets which would not be subject to the claims of the Partnerships creditors. An Indemnification Trust (Trust) serving such purposes has been established at United Missouri Bank, N.A. The
corpus of the Trust has been fully funded with Partnership assets since 1994. Funds are invested in U.S. Treasury securities. In addition, $162,836 of earnings has been credited to the Trust as of September 30, 2006. The rights of the Permanent
Manager to the Trust shall be terminated upon the earliest to occur of the following events: (i) the written release by the Permanent Manager of any and all interest in the Trust; (ii) the expiration of the longest statute of limitations
relating to a potential claim which might be brought against the Permanent Manager and which is subject to indemnification; or (iii) a determination by a court of competent jurisdiction that the Permanent Manager shall have no liability to any
person with respect to a claim which is subject to indemnification under the PMA. At such time as the indemnity provisions expire or the full indemnity is paid, any funds remaining in the Trust will revert back to the general funds of the
Partnership.

9. FORMER GENERAL PARTNERS CAPITAL ACCOUNTS:

The capital account balance of the former general partners as of May 26, 1993, the date of their removal as general partners, was a deficit of $840,229. At December 31, 1993, the former general
partners deficit capital account balance in the amount of $840,229 was reallocated to the Limited Partners.

10. LEGAL PROCEEDINGS:

Phoenix Foods Preference Claim

The trustee in the
Phoenix Foods bankruptcy made a claim seeking to recover from the Partnership alleged preferential payments by Phoenix Foods to the Partnership in the amount of approximately $16,500. The payments the trustee sought to recover were rent
payments received in the ordinary course of business prior to Phoenix Foods bankruptcy. The Partnership did not believe such payments were preferential under the Bankruptcy Code and vigorously contested such characterization. A verbal
settlement of this claim was reached in November 2004 and the Partnership finalized such settlement in April 2005. The settlement calls for the bankruptcy trustee to release its preference claims and the Partnership to release its claims as an
unsecured creditor in the Phoenix Foods bankruptcy. Although the Partnership believes its claims are valid, the Partnership determined that the time and cost of pursuing such claims exceeded the likely recovery given the bankrupts lack of
assets from which to satisfy unsecured claims.



16



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Former South Milwaukee, WI property

The Partnership sold real property and improvements located at 106 N. Chicago Avenue, South Milwaukee, Wisconsin to F2BL, LLC (the Buyer) on April 17, 2003 pursuant to a Real Estate Purchase
Agreement dated October 10, 2002 (the Contract). In October of 2003, the Buyer notified the Partnership that an underground storage tank (UST) and petroleum release had been discovered on this Property.
Since that time, the Buyer removed the UST and remediated the petroleum release. A substantial amount of the costs incurred in such efforts were paid by the Wisconsin Petroleum Environmental Clean Up Fund (the PECUF). In sporadic
correspondence since the Fourth Quarter of 2003, the Buyer claimed, and the Partnership denied, that the Partnership was responsible for payment of those costs not reimbursed by the PECUF.

On January 23, 2006, the Buyer initiated a lawsuit against the Partnership by filing a Complaint with the Milwaukee County Circuit Court. The Complaint alleged,
among other things that (i) the Partnership breached its representation in the Contract that, to the best of the Partnerships knowledge, the Partnership was in compliance with all environmental laws, and (ii) the Partnership failed
to deliver to Buyer a Phase I Environmental Assessment of the Property which had been performed in 1998. The Buyer sought a judgment awarding it damages to be proven at trial, plus its attorneys fees. Prior to filing suit, the Buyer alleged
approximately $100,000 of actual unreimbursed damages incurred in the removal of the UST and remediation of the petroleum release and alleged consequential damages of $190,000. The Court set certain deadlines which included the completion of
discovery and the filing of dispositive motions by February 20, 2007.

In September of 2006, Management and the Buyer entered into a Mutual Release of
All Claims Agreement (F2BL Agreement). It is understood and agreed that the F2BL Agreement is a compromise of a doubtful and disputed claim, and that liability is expressly denied by the parties released. Pursuant to this F2BL Agreement
the Partnership paid the Buyer $25,000 in settlement costs. Management believes that it had meritorious defenses to all of the Buyers claims and did not believe that a material recovery by the Buyer was probable. However, the Partnership
determined that the time and cost to vigorously defend such litigation would exceed the settlement cost achieved.

11. SUBSEQUENT EVENTS:

On November 15, 2006, the Partnership is scheduled to make distributions to the Limited Partners of $370,000 amounting to $7.99 per Unit Interest

Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations

Liquidity and Capital Resources:

Investment Properties and Net Investment in Direct Financing Leases

The Properties held by the Partnership at
September 30, 2006 (does not include property held for sale), were originally purchased at a price, including acquisition costs, of approximately $13,468,000.



17



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The total cost of the investment properties and specialty leasehold improvements includes the original purchase price
plus acquisition fees and other capitalized costs paid to an affiliate of the former general partners.

As of September 30, 2006, the Partnership
owned 17 fully constructed fast-food restaurants, a video store, and a preschool. The 19 properties are composed of the following: ten (10) Wendys restaurants, one (1) Dennys restaurant, one (1) Applebees restaurant,
one (1) Popeyes Famous Fried Chicken restaurant, one (1) Kentucky Fried Chicken restaurant, one (1) Chinese Super Buffet restaurant, one (1) Panda Buffet restaurant, one (1) Daytonas- All Sports Café, one
(1) Blockbuster Video store, and one (1) Sunrise Preschool (classified as property held for sale in June of 2006). The 19 properties are located in a total of nine (9) states.

Ten (10) of the nineteen (19) properties are leased to Wencoast Restaurants, Inc. (Wencoast). Since more than 20% of the
Partnerships properties, both by asset value and number, are leased to a single tenant, the financial status of the tenant may be considered relevant to investors. At the request of the Partnership, Wencoast provided it with copies of
Wencoasts most recent audited financial statements for the periods ended December 28, 2003 and January 2, 2005. Those audited financial statements are attached to the December 31, 2005 Annual Report 10-K as Exhibit
99.1. These financial statements were prepared by Wencoasts auditors. The Partnership has no rights to audit Wencoast and no right to dictate the form of the audited financials provided by Wencoast. The Partnerships auditors
have not audited the financial statements received from Wencoast. The Partnership has no reason to believe the Wencoast financial statements do not accurately reflect the financial position of Wencoast.

The Partnership has requested copies of Wencoasts audited financial statements for the 2005 fiscal year and will disclose such financial statements following their
receipt.

On January 1, 2002, the Partnership adopted SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets.
This statement requires current and historical results from operations for disposed properties and assets classified as held for sale that occur subsequent to January 1, 2002 to be reclassified separately as discontinued operations.

The Partnership recognized income from discontinued operations of approximately $31,000 and $80,000 in the three and nine-month periods ending September 30,
2006, respectively. The Partnership recognized income from discontinued operations of approximately $88,000 and $181,000 in the three and nine-month periods ending September 30, 2005, respectively. The 2006 income from discontinued operations
is attributable to the reclassification of the Sunrise Preschool- Phoenix, AZ property to property held for sale in the Second Quarter of 2006. The 2005 income from discontinued operations is attributable to the reclassification of the Sunrise
Preschool- Phoenix, AZ property and the Hooters- Richland Hills, TX property (which was sold in December of 2005).

The following summarizes
significant developments, by property, for properties with such developments.

Sunrise Preschool- Phoenix, AZ Property

A listing agreement for the sale of the property (asking price of $1.7 million) was executed in June of 2006, with a sales commission rate of 6%. The
net book value of the property at June 30, 2006, classified as property held for sale, was approximately $617,000, which included $241,000 related to land, $386,000 related to buildings and improvements, and $10,000 related to security
deposits.



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The tenant, Borg Holdings, Inc., has a right of first refusal to purchase the Phoenix property if a separate buyer enters
into a real estate contract for the purchase of the property.

Grand Forks, ND Property

On January 24, 2006, the owners of the Panda Buffet Restaurant in Grand Forks, ND gave notice to Management that they intended to exercise their purchase option in
relation to the property. A sales contract was executed on February 27, 2006 for the sale of the Grand Forks, ND property at a sales price of $525,000. Although closing was anticipated to be in the First Quarter of 2006, the sale was not
consummated and the sales contract expired in late March of 2006. The original lease, which is set to expire in 2013, remains effective and includes the tenants option to purchase the property.

Ogden, UT property

The Blockbuster
lease on the current 6,000 square foot space expired on January 31, 2006. During lease renewal negotiations with Management, the tenant maintained possession of the property and paid the Partnership holdover rent for February and March of 2006.
In April of 2006, Management executed a two-year renewal lease agreement with the tenant, retroactive to February 1, 2006. The first base year rent will total approximately $108,000. Leasing commissions related to the lease renewal execution
totaled approximately $13,000 ($6,500 paid to a non-affiliated broker and $6,500 paid to a General Partner affiliate).

Popeyes- Park Forest, IL

As of September 30, 2006, Popeyes is delinquent on its April and May 2006 rent obligations and
property taxes escrow payments totaling approximately $13,000 and $10,000, respectively. As of September 30, 2006, the tenant does not have a property tax escrow cash balance held with the Partnership. The Partnership has received the required
June through October 2006 rent and property taxes escrow payments.

In the Second Quarter of 2006, Management defaulted Popeyes for failure to meet
its lease obligations, and filed for possession of the Park Forest property in the Cook County Judicial Court. The Partnership continues the pursuit of all legal remedies available to recover possession and terminate the Lease. Popeyes remains
responsible for monthly rent obligations and property taxes through the remainder of its Lease (expires December 31, 2009).

The Partnership
recognized property taxes recovery income of approximately $35,000 during 2005 which related to Popeyes 2004 property taxes that were expensed and accrued by the Partnership as of December 31, 2004 due to past tenant defaults. Due to
Popeyes full reimbursement to the Partnership for past property taxes paid on the tenants behalf, and Popeyes meeting its billing and escrow obligations during 2005, the 2005 estimated property taxes were not expensed and accrued
as of December 31, 2005. The 2006 estimated property taxes that will be due during 2007 are not being expensed and accrued during 2006.

4785 Merle Hay Road- Des Moines, IA

In September 2005, the Partnership paid Daytonas- All Sports Cafés
(Daytonas) first installment of its 2004 property taxes, which amounted to approximately $10,000. Daytonas reimbursed the Partnership in the Fourth Quarter of 2005. Beginning in December 2005, Management requested that
Daytonas escrow its future property taxes liabilities with the Partnership on a monthly basis. Daytons remains current on its monthly property tax escrow obligations. As of September 30, 2006, escrow payments held by the Partnership
totaled approximately $13,000.



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Former Miami Subs- Palm Beach, FL Property

The Palm Beach, FL property was sold in June 2004. At the time of closing the former tenant, DiFede Finance Group (DiFede), was delinquent $17,000 in past
rent (after the application of a $15,000 security deposit). The former tenant also owed the Partnership approximately $13,360 in property taxes as the Partnership paid the propertys delinquent 2003 property taxes in June 2004. Management
continued to pursue legal remedies to collect the former tenants total past due balances. Due to the uncertainty of collection, fifty percent (50 %) of the total outstanding receivable balance was reserved in June 2004.

In November 2004, a Settlement Agreement (DiFede Agreement) was executed with DiFede. Per the DiFede Agreement the former tenant agreed to pay the
Partnership by December 31, 2004 approximately $36,000 in past due rent, late charges, related attorney and court fees and other miscellaneous items. However, the settlement payment per the DiFede Agreement was not received by the Partnership.
Further legal action was taken by the Partnership and the Circuit Court in Broward County, Florida entered a final judgment (the Judgment) against DiFede in early January 2005, awarding approximately $42,000 in damages to the
Partnership. Due to the uncertainty of collection, the remaining fifty percent (50 %) of the total outstanding receivable balance was written-off. The receivable balance and applicable allowance were removed from the balance sheet at
December 31, 2004. Throughout 2005 Management continued their pursuit of legal action to collect the Judgment. In satisfaction of the Judgment (which was recorded in the Circuit Court in March of 2006), the Partnership received $25,000 from
Difede in the First Quarter of 2006.

Former Hooters- Richland Hills, TX property

A sales contract was executed in October of 2005 for the sale of the property in the Fourth Quarter of 2005 at a sales price of $1,575,000. The closing date on the sale
of the property was December 2005 and the net sales proceeds totaled approximately $1,505,000. A net gain on the sale of $668,000 was recognized in the Fourth Quarter of 2005. Closing and other sale related costs amounted to $70,000, which included
a sales commission paid to a General Partner affiliate totaling $47,250.

Other Investment in Properties Information

According to the Partnership Agreement, the former general partners were to commit 80% of the original offering proceeds to investment in properties.
Upon the close of the offering, approximately 75% of the original proceeds were invested in the Partnerships properties.

At December 31, 2005,
the owners of the Panda Buffet property had an option to purchase the property at a price, which (i) exceeded the original cost of the property less accumulated depreciation and (ii) was not less than the fair market value of the property
at the time the option was granted. On January 24, 2006, the owners of the Panda Buffet Restaurant in Grand Forks, ND gave notice to Management that they intended to exercise their purchase option in relation to the property, but the proposed
sale was not consummated. (For further discussion see Grand Forks, ND Property above and in Note 3 to the condensed financial statements.) The original lease, which is set to expire in 2013, remains effective and includes the
tenants option to purchase the property at a price, which (i) exceeds the original cost of the property less accumulated depreciation and (ii) is not less than the fair market value of the property at the time the option was granted.
The General Partner is not aware of any unfavorable purchase options in relation to the original cost or fair market value of the property at the time the option was granted, contained in any of the Partnerships existing leases.



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Other Assets

Cash and cash equivalents held by the Partnership totaled approximately $724,000 at September 30, 2006, compared to $2,219,000 at December 31, 2005. Cash of
$370,000 is anticipated to be used to fund the Third Quarter of 2006 distributions to Limited Partners in November of 2006, and cash of $71,000 is anticipated to be used for the payment of quarter-end accounts payable and other accrued expenses, and
the remainder represents amounts deemed necessary to allow the Partnership to operate normally.

Cash generated through the operations of the
Partnerships Properties and sales of Properties will provide the sources for future fund liquidity and Limited Partner distributions.

Property held
for sale at September 30, 2006 amounted to approximately $617,000 and related to the Sunrise Preschool property in Phoenix, AZ. A listing contract for the sale of the property (asking price of $1.7 million) was executed in June of 2006. The
property held for sale amount includes $241,000 related to land, $386,000 related to buildings and improvements, and $10,000 related to security deposits. (For further disclosure see Investment Properties- Sunrise Preschool- Phoenix, AZ Property in
Note 3 to the condensed financial statements and Part I- Item 2.)

Property taxes cash escrow amounted to approximately $13,000 and $17,000 at
September 30, 2006 and December 31, 2005, respectively. Daytonas property tax cash escrow balance as of December 31, 2005 was $3,000 and payments of approximately $31,000 were received by the Partnership from Daytonas in
the First through Third Quarters of 2006. The Partnership paid the tenants 2004 second property taxes installment of approximately $10,000 in the First Quarter of 2006 and the 2005 first property taxes installment of approximately $11,000 in
the Third Quarter of 2006. Daytonas property tax cash escrow balance as of September 30, 2006 was approximately $13,000. The tenants 2005 second property taxes installment is scheduled to be due in the First Quarter of 2007. (For
further disclosure see Investment Properties in Note 3 to Financial Statements, Part I- Item 2, and Part II- Item 7.) Popeyes property tax escrow cash balance as of December 31, 2005 was $14,000 and payments of approximately
$38,000 were received by the Partnership from Popeyes in the First through Third Quarters of 2006. The Partnership paid the tenants first 2005 property taxes installment of approximately $25,000 in the First Quarter of 2006 and the
tenants second 2005 property taxes installment of approximately $29,000 in the Third Quarter of 2006. Popeyes does not hold a property tax cash escrow balance with the Partnership as of September 30, 2006 (a payment of approximately
$5,000 was received by the Partnership in October of 2006). The tenants 2006 first installment is scheduled to be due in the First Quarter of 2007. (For further disclosure see Investment Properties in Note 3 to Financial Statements, Part I-
Item 2, and Part II- Item 7.)

The Partnership established an Indemnification Trust (the Trust) during the Fourth Quarter of 1993,
deposited $100,000 in the Trust during 1993 and completed funding of the Trust with $150,000 during 1994. The provision to establish the Trust was included in the Permanent Manager Agreement for the indemnification of TPG, in the absence of fraud or
gross negligence, from any claims or liabilities that may arise from TPG acting as Permanent Manager. The Trust is owned by the Partnership. (For additional information regarding the Trust refer to Note 8 to the condensed financial statements- PMA
Indemnification Trust.)

Rents and other receivables amounted to approximately $172,000 at September 30, 2006, compared to $431,000 as of
December 31, 2005. As of September 30, 2006, Popeyes- Park Forest was delinquent on two monthly lease obligations totaling approximately $13,000. (For further disclosure see Investment



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Properties- Popeyes- Park Forest in Note 3 to the condensed financial statements and Part I- Item 2.) At September 30, 2006, rents and other
receivables also included $158,000 in percentage rents accrued in the Second and Third Quarters of 2006 for tenants who had reached their individual sales breakpoints. These percentage rents will not be billed to or owed by the tenants until
the First Quarter of 2007. The December 31, 2005 balance primarily represented unbilled 2005 quarterly percentage rent accruals. The 2005 percentage rents were billed in the First Quarter of 2006 and were fully collected as of June 30,
2006.

Property taxes receivable at September 30, 2006 totaled approximately $16,000, compared to $7,000 at December 31, 2005. The balances
primarily represented property taxes escrow charges due from Popeyes- Park Forest in relation to its 2006 first property taxes installment due in the First Quarter of 2007.(For further disclosure see Investment Properties-
Popeyes- Park Forest in Note 3 to the condensed financial statements and Part I- Item 2.)

Prepaid Insurance amounted to approximately $2,000 at
September 30, 2006 compared to $33,000 at December 31, 2005. The September 30, 2006 balance represented one month of prepaid insurance paid by the Partnership. The December 31, 2006 balance represented ten (10) months of
prepaid insurance.

Deferred charges totaled approximately $248,000 and $247,000, net of accumulated amortization, at September 30, 2006 and
December 31, 2005, respectively. Deferred charges represent leasing commissions paid when properties are leased or upon the negotiated extension of a lease. Leasing commissions of approximately $13,000 were accrued at March 31, 2006 and
paid in April of 2006, due to the Blockbuster two-year lease renewal. (For further discussion see Investment Properties- Blockbuster- Ogden, UT property in Note 3 to the condensed financial statements and Part I- Item 2.) Leasing commissions
are capitalized and amortized over the life of the lease.

Liabilities

Accounts payable and other accrued expenses at September 30, 2006, and December 31, 2005 amounted to approximately $71,000 and $59,000, respectively, and
primarily represented the accruals of auditing, tax and data processing fees.

Property taxes payable at September 30, 2006 and December 31,
2005, totaled $28,000 and $24,000, respectively. The balances primarily represented Popeyes- Park Forests and Daytonas property taxes escrow charges related to the tenants next installment of property taxes. (For further
disclosure see Investment Properties- Daytonas- All Sports Café and Popeyes- Park Forest in Note 3 to the condensed financial statements and Part I- Item 2.)

Due to the Current General Partner amounted to approximately $1,800 at September 30, 2006 and primarily represented the General Partners Third Quarter of 2006 distribution.

Partners Capital

Net income for
the year to-date was allocated between the General Partner and the Limited Partners, 1% and 99%, respectively, as provided for in the Partnership Agreement as discussed more fully in Note 4 of the condensed financial statements included in
Item 1 of this report. The former general partners deficit capital account balance was reallocated to the Limited Partners at December 31, 1993. Refer to Note 9 to the condensed financial statements included in Item 1 of this
report for additional information regarding the reallocation.



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Cash distributions to the Limited Partners and to the General Partner during 2006 of $2,730,000 and $3,046, respectively,
have also been made in accordance with the Partnership Agreement. The Partnership intends to pay Third Quarter of 2006 distributions of $370,000 on November 15, 2006.

Results of Operations

The Partnership reported income from continuing operations for the
three-month period ended September 30, 2006, in the amount of $313,000 compared to income from continuing operations for the three-month period ended September 30, 2005 of $344,000. The Partnership reported income from continuing
operations for the nine-month period ended September 30, 2006, in the amount of $682,000 compared to income from continuing operations for the nine-month period ended September 30, 2005 of $741,000. The variance in income from continuing
operations in 2006 compared to 2005 is due primarily to: (i) an unexpected insurance premium adjustment payment in the Second Quarter of 2006 of approximately $12,000 related to the 04/05 policy year, and Second and Third Quarter of 2006
accruals totaling $11,000 for an estimated insurance premium adjustment related to the 05/06 policy year; (ii) higher income tax expenditures in the First through Third Quarters of 2006 related to the 2005 South Carolina tax return and the 2006
South Carolina estimated tax payments; (iii) a settlement payment of $25,000 paid in the Third Quarter of 2006 to the Buyer of the former South Milwaukee property (see Note 10- Legal Proceedings for further discussion); (iv) the First
through Third Quarter of 2005 total collections and revenue recognition of approximately $35,000 in property tax recoveries from Popeyes (see Note 3- Investment Properties for further discussion) and (v) a Third Quarter 2005 income tax
liability accrual, payable to the City of Columbus, Ohio for the tax years 1999 through 2004.

Discontinued Operations

The Partnership recognized income from discontinued operations of approximately $31,000 and $80,000 in the three and nine-month periods ending September 30, 2006,
respectively. The Partnership recognized income from discontinued operations of approximately $88,000 and $181,000 in the three and nine-month periods ending September 30, 2005, respectively. The 2006 income from discontinued operations is
attributable to the reclassification of the Sunrise Preschool- Phoenix, AZ property to property held for sale in the Second Quarter of 2006. The 2005 income from discontinued operations is attributable to the reclassification of the Sunrise
Preschool- Phoenix, AZ property to property held for sale in the Second Quarter of 2006 and the Hooters- Richland Hills, TX property (which was sold in December of 2005). In accordance with Statement of Financial Accounting Standard
No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (SFAS 144), discontinued operations represent the operations of properties disposed of or classified as held for sale subsequent to January 1, 2002 as well
as any gain or loss recognized in their disposition.

Revenues

Total operating revenues amounted to $513,000 and $536,000 for the three-month periods ended September 30, 2006 and 2005, respectively. Total operating revenues amounted to $1,260,000 and $1,310,000 for the
nine-month periods ended September 30, 2006 and 2005, respectively. Included in operating revenues for 2005 was approximately $35,000, in property tax recoveries related to the Popeyes- Park Forest property (see Investment Properties-
Popeyes- Park Forest in Note 3 to Financial Statements and Part I- Item 2).



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As of September 30, 2006, total base operating rent revenues should approximate $1,460,000 for the year 2006 based
on leases currently in place (does not include the Sunrise Preschool property which was classified as property held for sale in the Second Quarter of 2006). Future operating rent revenues may decrease with tenant defaults and/or the reclassification
of Properties as held for sale. They may also increase with additional rents due from tenants, if those tenants experience sales levels, which require the payment of additional rent to the Partnership.

Expenses

For the three-month periods ended
September 30 2006 and 2005, total operating expenses amounted to approximately 41% and 37%, of total revenue, respectively. For the nine-month periods ended September 30, 2006 and 2005, total operating expenses amounted to approximately
51% and 45%, of total revenue, respectively. The variances between 2006 and 2005 operating expenditures are primarily due to: (i) higher income tax expenditures in the First through Third Quarters of 2006 related to the 2005 South Carolina tax
return and the 2006 South Carolina estimated tax payments; (ii) an unexpected insurance premium adjustment payment in the Second Quarter of 2006 of approximately $12,000 related to the 04/05 policy year, and Second and Third Quarter of 2006
accruals totaling $11,000 for an estimated insurance premium adjustment related to the 05/06 policy year; (iii) a settlement payment of $25,000 paid in the Third Quarter of 2006 to the Buyer of the former South Milwaukee property (see Note 10-
Legal Proceedings for further discussion); and (iv) a Third Quarter 2005 income tax liability accrual, payable to the City of Columbus, Ohio for the tax years 1999 through 2004.

Depreciation and amortization are non-cash items and do not affect current operating cash flow of the Partnership or distributions to the Limited Partners.

For the three and nine-month periods ended September 30, 2006 and 2005, there were no write-offs for non-collectible rents and receivables. Such write-offs would
primarily be the result of tenant defaults.

Other Income

For the three-month periods ended September 30, 2006 and 2005, the Partnership generated other income of approximately $12,000 and $8,000, respectively. For the nine-month periods ended September 30, 2006
and 2005, the Partnership generated other income of approximately $59,000 and $22,000, respectively. During March of 2006 the Partnership received $25,000 from DiFede in satisfaction of the Judgment recorded in the Broward County, Florida Circuit
Court in January of 2005. (See Investment Properties- Former Miami Subs- Palm Beach, FL Property in Note 3 to Financial Statements and Part I- Item 2.)

Other revenues came primarily from interest earnings and small recoveries from former General Partners. Management anticipates that such revenue types may continue to be generated until Partnership dissolution.

Inflation

Inflation has a minimal effect
on operating earnings and related cash flows from a portfolio of triple net leases. By their nature, such leases actually fix revenues and are not impacted by rising costs of maintenance, insurance, or real estate taxes. Although the majority of the
Partnerships leases have percentage rent clauses, revenues from percentage rents represented only 22% of operating rental income for the year ended 2005. If inflation causes operating margins to deteriorate for lessees, or if expenses grow
faster than revenues, then, inflation may well negatively impact the portfolio through tenant defaults.



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It would be misleading to associate inflation with asset appreciation for real estate, in general, and the
Partnerships portfolio, specifically. Due to the triple-net nature of the property leases, asset values generally move inversely with interest rates.

Critical Accounting Policies

The Partnership believes that its most
significant accounting policies deal with:

Depreciation methods and lives- Depreciation of the properties is provided on a straight-line basis over 31.5
years, which is the estimated useful life of the buildings and improvements. While the Partnership believes these are the appropriate lives and methods, use of different lives and methods could result in different impacts on net income.
Additionally, the value of real estate is typically based on market conditions and property performance, so depreciated book value of real estate may not reflect the market value of real estate assets.

Revenue recognition- Rental revenue from investment properties is recognized on the straight-line basis over the life of the respective lease. Percentage rents are
accrued only when the tenant has reached the sales breakpoint stipulated in the lease.

The Partnership periodically reviews its long-lived assets,
primarily real estate, for impairment whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. The Partnerships review involves comparing current and future operating performance of
the assets, the most significant of which is undiscounted operating cash flows, to the carrying value of the assets. Based on this analysis, a provision for possible loss is recognized, if any.

Item 3. Quantitative and Qualitative Disclosure About Market Risk

The Partnership is not subject to market risk.

Item 4. Controls and Procedures

As of the end of the period covered by this report, the Partnership carried out an evaluation,
under the supervision and with the participation of the Companys management, including the Chief Executive Officer (CEO)/Chief Financial Officer (CFO), of the effectiveness of the design and operation of the
Partnerships disclosure controls and procedures. Based on that evaluation, the CEO/CFO has concluded that the Partnerships disclosure controls and procedures are effective to ensure that information required to be disclosed by the
Partnership in the reports it files under the Securities and Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the securities and Exchange Commission rules and forms.

There have been no significant changes in the Partnerships internal controls or in other factors that could significantly affect internal controls subsequent to
the date of the evaluation period covered by this report referred to above.



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PART II - OTHER INFORMATION

Item 1. Legal Proceedings

Phoenix Foods Preference Claim

The trustee in the Phoenix Foods bankruptcy made a claim seeking to recover from the Partnership alleged preferential payments by Phoenix Foods to the
Partnership in the amount of approximately $16,500. The payments the trustee sought to recover were rent payments received in the ordinary course of business prior to Phoenix Foods bankruptcy. The Partnership did not believe such payments were
preferential under the Bankruptcy Code and vigorously contested such characterization. A verbal settlement of this claim was reached in November 2004 and the Partnership finalized such settlement in April 2005. The settlement calls for the
bankruptcy trustee to release its preference claims and the Partnership to release its claims as an unsecured creditor in the Phoenix Foods bankruptcy. Although the Partnership believes its claims are valid, the Partnership determined that the time
and cost of pursuing such claims exceeded the likely recovery given the bankrupts lack of assets from which to satisfy unsecured claims.

Former
South Milwaukee, WI property

The Partnership sold real property and improvements located at 106 N. Chicago Avenue, South Milwaukee, Wisconsin to F2BL,
LLC (the Buyer) on April 17, 2003 pursuant to a Real Estate Purchase Agreement dated October 10, 2002 (the Contract). In October of 2003, the Buyer notified the Partnership that an underground storage
tank (UST) and petroleum release had been discovered on this Property. Since that time, the Buyer removed the UST and remediated the petroleum release. A substantial amount of the costs incurred in such efforts were paid by the
Wisconsin Petroleum Environmental Clean Up Fund (the PECUF). In sporadic correspondence since the Fourth Quarter of 2003, the Buyer claimed, and the Partnership denied, that the Partnership was responsible for payment of those
costs not reimbursed by the PECUF.

On January 23, 2006, the Buyer initiated a lawsuit against the Partnership by filing a Complaint with the
Milwaukee County Circuit Court. The Complaint alleged, among other things that (i) the Partnership breached its representation in the Contract that, to the best of the Partnerships knowledge, the Partnership was in compliance with all
environmental laws, and (ii) the Partnership failed to deliver to Buyer a Phase I Environmental Assessment of the Property which had been performed in 1998. The Buyer sought a judgment awarding it damages to be proven at trial, plus its
attorneys fees. Prior to filing suit, the Buyer alleged approximately $100,000 of actual unreimbursed damages incurred in the removal of the UST and remediation of the petroleum release and alleged consequential damages of $190,000. The Court
set certain deadlines which included the completion of discovery and the filing of dispositive motions by February 20, 2007.

In September of 2006,
Management and the Buyer entered into a Mutual Release of All Claims Agreement (F2BL Agreement). It is understood and agreed that the F2BL Agreement is a compromise of a doubtful and disputed claim, and that liability is expressly denied
by the parties released. Pursuant to this F2BL Agreement the Partnership paid the Buyer $25,000 in settlement costs. Management believes that it had meritorious defenses to all of the Buyers claims and did not believe that a material recovery
by the Buyer was probable. However, the Partnership determined that the time and cost to vigorously defend such litigation would exceed the settlement cost achieved.



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Item 2-5.

None

Item 6. Exhibits and Reports on Form 8-K



| | (a) | Listing of Exhibits
| | --- | -------------------



|     |  |                                                                                                                                        
|---- |  | ---------------------------------------------------------------------------------------------------------------------------------------
|31.1 |  | 302 Certifications.                                                                                                                    
|     | 
|32.1 |  | Certification of Periodic Financial Report Pursuant to 18 U.S.C. Section 1350.                                                         
|     | 
|99.0 |  | Correspondence to the Limited Partners which is scheduled to be mailed November 15, 2006 regarding the Third Quarter 2006 distribution.



| | (b) | Report on Form 8-K:
| | --- | -------------------

The Registrant has
not filed a Form 8-K in 2006.



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SIGNATURES

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

DIVALL INSURED INCOME PROPERTIES 2 LIMITED PARTNERSHIP



|      |  |                                       
|----- |  | --------------------------------------
|By:   |  | The Provo Group, Inc., General Partner
|      | 
|By:   |  | /s/ Bruce A. Provo                    
|      |  | Bruce A. Provo, President             
|      | 
|Date: |  | November 13, 2006                     

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the
following person on behalf of the Registrant and in the capacities and on the date indicated.



|      |  |                                                                               
|----- |  | ------------------------------------------------------------------------------
|By:   |  | The Provo Group, Inc., General Partner                                        
|      | 
|By:   |  | /s/ Bruce A. Provo                                                            
|      |  | Bruce A. Provo, President, Chief Executive Officer
and Chief Financial Officer
|      | 
|Date: |  | November 13, 2006                                                             



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