USAA TAX EXEMPT FUND INC
485APOS, 1999-06-01
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    As filed with the Securities and Exchange Commission on June 1, 1999.

                                                     1933 Act File No. 2-75093
                                                    1940 Act File No. 811-3333

                       SECURITIES AND EXCHANGE COMMISSION

                             Washington, D.C. 20549

                                   FORM N-1A

           REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 X

                       Pre-Effective Amendment No. _____

                        Post-Effective Amendment No. 28

                                      and

       REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 X

                              Amendment No. 30

                           USAA TAX EXEMPT FUND, INC.
               (Exact Name of Registrant as Specified in Charter)

                9800 Fredericksburg Road, San Antonio, TX 78288
              (Address of Principal Executive Offices) (Zip Code)

       Registrant's Telephone Number, including Area Code (210) 498-0600

                          Michael D. Wagner, Secretary
                           USAA TAX EXEMPT FUND, INC.
                            9800 Fredericksburg Road
                           San Antonio, TX 78288-0227
                    (Name and Address of Agent for Service)

Approximate Date of Proposed Public Offering:  As soon as practicable after the
effective date of this Registration Statement.

It is proposed that this filing will become effective under Rule 485

 ___  immediately upon filing pursuant to paragraph (b)
 ___  on (date) pursuant to paragraph (b)
 ___  60 days after filing pursuant to paragraph (a)(1)
 _X_  on August 1, 1999 pursuant to paragraph (a)(1)
 ___  75 days after filing pursuant to paragraph (a)(2)
 ___  on (date) pursuant to paragraph (a)(2)

If appropriate, check the following box:

 __ This post-effective amendment designates a new effective date for a

    previously filed post-effective amendment.

                      Exhibit Index on Pages 280 - 282

                                                                Page 1 of 399

<PAGE>

                           USAA TAX EXEMPT FUND, INC.

                             CROSS REFERENCE SHEET

                                     Part A

FORM N-1A ITEM NO.                       SECTION IN PROSPECTUS

1. Cover and Back Cover Pages..........  Same

2. Risk/Return Summary: Investments,
    Risks, and Performance.............  Main Risks of Investing in These Funds
                                         Could the Value of Your Investment in
                                          These Funds Fluctuate

3. Risk/Return Summary: Fee Table......  Fees and Expenses

4. Investment Objectives, Principal
    Investment Strategies, and
    Related Risks......................  What Are Each Funds Investment
                                          Objectives and Main Strategies
                                         Fund Investments

5. Management's Discussion of Fund
    Performance........................  Not Applicable

6. Management, Organization, and
    Capital Structure..................  Fund Management

7. Shareholder Information.............  How to Invest
                                         Important Information About
                                         Purchases and Redemptions
                                         Exchanges
                                         Shareholder Information

8. Distribution Arrangements...........  Not Applicable

9. Financial Highlights Information....  Financial Highlights

<PAGE>

                          USAA TAX EXEMPT FUND, INC.

                             CROSS REFERENCE SHEET

                                     Part B

FORM N-1A ITEM NO.                       SECTION IN STATEMENTS OF
                                         ADDITIONAL INFORMATION

10. Cover Page and Table of Contents...  Same

11. Fund History.......................  Description of Shares

12. Description of the Fund and Its
     Investments and Risks.............  Investment Policies
                                         Investment Restrictions
                                         Special Risk Considerations
                                          (California, New York, and Virginia
                                          Funds SAIs only)
                                         Portfolio Transactions

13. Management of the Fund.............  Directors and Officers of the Company

14. Control Persons and Principal
     Holders of Securities.............  Directors and Officers of the Company

15. Investment Advisory and Other
     Services..........................  Directors and Officers of the Company
                                         The Company's Manager
                                         General Information

16. Brokerage Allocation and Other
     Practices.........................  Portfolio Transactions

17. Capital Stock and Other Securities.  Description of Shares

18. Purchase, Redemption, and Pricing
     of Shares.........................  Valuation of Securities
                                         Conditions of Purchase and Redemption
                                         Additional Information Regarding
                                          Redemption of Shares
                                         Investment Plans

19. Taxation of the Fund...............  Tax Considerations (Long-Term,
                                          Intermediate-Term, Short-Term and
                                          Tax Funds SAI only)
                                         Certain Federal Income Tax
                                          Considerations (California, New York,
                                          and Virginia Funds SAIs only)
                                         California Taxation (California Funds
                                          SAI only)
                                         Virginia Taxation (Virginia Funds SAI
                                          only)

20. Underwriters.......................  The Company's Manager

21. Calculation of Performance Data....  Calculation of Performance Data

22. Financial Statements...............  Cover Page

<PAGE>

                                     PART A


                              Prospectuses for the
                    Long-Term, Intermediate-Term, Short-Term
                       and Tax Exempt Money Market Funds,
               California Bond and California Money Market Funds,
               New York Bond and New York Money Market Funds, and
                 Virginia Bond and Virginia Money Market Funds

                              are included herein

<PAGE>

                                     Part A


                               Prospectus for the
                    Long-Term, Intermediate-Term, Short-Term
                       and Tax Exempt Money Market Funds

<PAGE>
                                 USAA NATIONAL
                                TAX-EXEMPT FUNDS


                              USAA LONG-TERM FUND
                          USAA INTERMEDIATE-TERM FUND
                              USAA SHORT-TERM FUND
                       USAA TAX EXEMPT MONEY MARKET FUND



                                   PROSPECTUS

                                 AUGUST 1, 1999

As with other mutual funds,  the  Securities  and Exchange  Commission  has not
approved or  disapproved  of these  Funds'  shares or  determined  whether this
prospectus  is  accurate  or  complete.  Anyone  who  tells  you  otherwise  is
committing a crime.

                               TABLE OF CONTENTS

  What Are Each Fund's
   Investment Objectives
   and Main Strategies?.................................................  2
  Main Risks of Investing
   in These Funds.......................................................  2
  Are These Funds for You?......... ....................................  3
  Could the Value of Your
   Investment in These
   Funds Fluctuate?.....................................................  4
  Fees and Expenses.....................................................  9
  Fund Investments...................................................... 10
  Fund Management....................................................... 18
  Using Mutual Funds in an
   Investment Program................................................... 19
  How to Invest......................................................... 21
  Important Information
   About Purchases and
   Redemptions.......................................................... 24
  Exchanges............................................................. 25
  Shareholder Information............................................... 26
  Financial Highlights.................................................. 29
  Appendix A ........................................................... 33
  Appendix B ........................................................... 35
  Appendix C............................................................ 36

<PAGE>

USAA Investment  Management  Company  manages these Funds.  For easier reading,
USAA  Investment  Management  Company  will  be  referred  to as  "we"  or "us"
throughout the Prospectus.

WHAT ARE EACH FUND'S INVESTMENT OBJECTIVES AND MAIN STRATEGIES?

Each Fund has a common  objective of providing  investors with interest  income
that is exempt from federal  income tax. The Tax Exempt Money Market Fund has a
further objective of preserving  capital and maintaining  liquidity.  Each Fund
has separate investment policies to achieve its objective.

The  LONG-TERM,  INTERMEDIATE-TERM,  AND SHORT-TERM  FUNDS invest  primarily in
investment-grade, tax-exempt securities differentiated by maturity limitations.
The average  dollar-weighted  portfolio  maturity for the Long-Term  Fund is 10
years or more, the  Intermediate-Term  Fund is between 3 and 10 years,  and the
Short-Term Fund is 3 years or less.

The TAX EXEMPT MONEY MARKET FUND invests in high-quality, tax-exempt securities
with maturities of 397 days or less.

In view of the risks inherent in all  investments  in  securities,  there is no
assurance that the Funds' objectives will be achieved.  See FUND INVESTMENTS on
page 10 for more information.

MAIN RISKS OF INVESTING IN THESE FUNDS

The two main risks of investing in these Funds are credit risk and market risk.
As with other mutual  funds,  losing money is also a risk of investing in these
Funds.

*   CREDIT RISK  involves the  possibility  that a borrower  cannot make timely
    interest and principal payments on its securities.

*   MARKET  RISK  involves  the  possibility  that  the  value  of each  Fund's
    investments  will decline  because of an increase in interest  rates, or to
    adverse  changes in supply and demand for  municipal  securities,  or other
    market factors.

IF INTEREST RATES INCREASE:  the yield of each Fund may increase and the market
value of the Long-Term,  Intermediate-Term,  and Short-Term  Funds'  securities
will likely decline, adversely affecting the net asset value and total return.

IF INTEREST RATES DECREASE:  the yield of each Fund may decrease and the market
value of the Long-Term, Intermediate-Term, and Short-Term Funds' securities may
increase,  which  would  likely  increase  the Funds' net asset value and total
return. The Tax Exempt Money Market Fund's total return may decrease.

                                       2
<PAGE>

Other risks of investing in these Funds include call risk and structural risk.

As you consider an investment in these Fund,  you should also take into account
your tolerance for the daily  fluctuations of the financial markets and whether
you can afford to leave your money in the  investment  for long periods of time
to ride out down periods.

An  investment  in any of these Funds is not a deposit of USAA Federal  Savings
Bank,  or any other  bank,  and is not  insured or  guaranteed  by the  Federal
Deposit Insurance Corporation or any other government agency.  Although the Tax
Exempt Money Market Fund seeks to preserve the value of your  investment  at $1
per share, it is possible to lose money by investing in that Fund.

[CAUTION LIGHT GRAPHIC]
Look for this symbol throughout the Prospectus. We use it to mark more detailed
information about the main risks you will face as a Fund shareholder.

ARE THESE FUNDS FOR YOU?

Any of these Funds might be appropriate  as part of  your investment  portfolio
if . . .

 *   You are looking for current  income that is exempt from  federal  income
     taxes.
 *   You are looking for a fixed income investment in bonds to balance
     your stock portfolio.

Any of these Funds MAY NOT be appropriate as part of your investment portfolio
if . . .

 *   You are seeking  an appropriate  investment  for an IRA,  through a 401(k)
     plan or 403(b) plan, or other tax-sheltered account.
 *   Your current tax situation does not allow you to  benefit from tax-exempt
     income.

Long-Term Fund

This Fund might be appropriate as part of your investment portfolio if . . .

 *  You are willing to accept moderate risk.

This Fund MAY NOT be appropriate as part of your investment portfolio if . . .

 *  You are unwilling to take greater risk for long-term goals.

Intermediate-Term Fund

This Fund might be appropriate as part of your investment portfolio if . . .

 *  You are willing to accept low to moderate risk.

This Fund MAY NOT be appropriate as part of your investment portfolio if . . .

 *  You are unwilling to take greater risk for intermediate-term goals.

                                       3
<PAGE>

Short-Term Fund

This Fund might be appropriate as part of your investment portfolio if . . .

 *  You are looking for a short-term investment.
 *  You are looking for an investment that is low risk.
 *  You would like checkwriting privileges on the account.

This Fund MAY NOT be appropriate as part of your investment portfolio if . . .

 *  Your primary goal is to maximize long-term growth.
 *  You need a high total return to achieve your goals.

Tax Exempt Money Market Fund

This Fund might be appropriate as part of your investment portfolio if . . .

 *  You need to preserve principal.
 *  You want a low-risk investment.
 *  You need your money back within a short period.
 *  You would like checkwriting privileges on the account.
 *  You are looking for an  investment in a money market fund to balance your
    stock or long-term bond portfolio.

This Fund MAY NOT be appropriate as part of your investment portfolio if . . .

 *  You need a high total return to achieve your goals.
 *  Your primary goal is long-term growth.

Each  Fund by  itself  does  not  constitute  a  balanced  investment  program.
Diversifying  your investments may improve your long-run  investment return and
lower the volatility of your overall investment portfolio.

COULD THE VALUE OF YOUR INVESTMENT IN THESE FUNDS FLUCTUATE?

Yes,  it  could.  In fact,  the  value  of your  investment  in the  Long-Term,
Intermediate-Term,  or Short-Term Funds will fluctuate with the changing market
values of the investments in these Funds. We manage the Tax Exempt Money Market
Fund in  accordance  with  strict  Securities  and  Exchange  Commission  (SEC)
guidelines designed to preserve the Fund's value at $1 per share,  although, of
course, we cannot guarantee that the value will remain at $1 per share.

The value of the  securities  in which the  Long-Term,  Intermediate-Term,  and
Short-Term  Funds invest  typically  fluctuates  inversely  with changes in the
general level of interest rates. Changes in the creditworthiness of issuers and
changes in other market  factors such as the relative  supply of and demand for
tax-exempt bonds also create value fluctuations.

                                       4
<PAGE>

The bar charts  illustrate the Funds'  volatility and performance  from year to
year for the past ten years.

TOTAL RETURN

All mutual funds must use the same formula to calculate total return.

[SIDE BAR]
     TOTAL RETURN MEASURES THE PRICE CHANGE IN A SHARE ASSUMING THE
     REINVESTMENT OF ALL DIVIDEND INCOME AND CAPITAL GAIN DISTRIBUTIONS.

Long-Term Fund

[BAR CHART]
                      CALENDAR              TOTAL
                        YEAR                RETURN

                        1989                 10.62
                        1990                  6.55
                        1991                 12.38
                        1992                  8.62
                        1993                 12.51
                        1994                 -7.92
                        1995                 18.58
                        1996                  4.47
                        1997                 10.38
                        1998                  5.97

During the  periods  shown in the bar chart,  the  highest  total  return for a
quarter was 7.77%  (quarter  ending March 31, 1995) and the lowest total return
for a quarter was -5.55% (quarter ending March 31, 1994).

Intermediate-Term Fund

[BAR CHART]
                      CALENDAR              TOTAL
                        YEAR                RETURN

                        1989                  9.24%
                        1990                  6.72%
                        1991                 11.14%
                        1992                  8.49%
                        1993                 11.47%
                        1994                 -4.03%
                        1995                 15.07%
                        1996                  4.49%
                        1997                  9.39%
                        1998                  6.32%

During the  periods  shown in the bar chart,  the  highest  total  return for a
quarter was 5.50%  (quarter  ending March 31, 1995) and the lowest total return
for a quarter was -4.63% (quarter ending March 31, 1994).

                                       5
<PAGE>

Short-Term Fund

[BAR CHART]
                       CALENDAR               TOTAL
                        YEAR                 RETURN

                        1989                  7.40%
                        1990                  5.87%
                        1991                  7.70%
                        1992                  5.96%
                        1993                  5.52%
                        1994                   .82%
                        1995                  8.11%
                        1996                  4.44%
                        1997                  5.85%
                        1998                  4.95%

During the  periods  shown in the bar chart,  the  highest  total  return for a
quarter was 3.19%  (quarter  ending June 30,  1989) and the lowest total return
for a quarter was -1.05% (quarter ending March 31, 1994).

     THE TOTAL RETURN FOR THE  SIX-MONTH  PERIOD ENDED JUNE 30, 1999,  WAS ___%
     FOR THE LONG-TERM FUND, ___% FOR THE INTERMEDIATE-TERM  FUND, AND ___% FOR
     THE SHORT-TERM FUND.

Long-, Intermediate-, and Short-Term Funds

The table  below  shows how each Fund's  average  annual  returns for the one-,
five-,  and ten-year  periods as well as the life of the Fund compared to those
of a broad-based securities market index. Remember, historical performance does
not necessarily indicate what will happen in the future.

===============================================================================
  Average Annual Total Return
  (for the periods ending       Past      Past      Past     Life of
  December 31, 1998)           1 Year    1 Year    1 Year     Fund
===============================================================================
  Long-Term Fund                5.97%     5.94%     8.01%    10.09%
- -------------------------------------------------------------------------------
  Intermediate-Term Fund        6.32%     6.06%     7.72%     9.03%
- -------------------------------------------------------------------------------
  Short-Term Fund               4.95%     4.81%     5.64%     6.29%
- -------------------------------------------------------------------------------
  Lehman Bros.
  Municipal Bond Index*         6.48%     6.22%     8.22%    10.62%
===============================================================================

  * THE LEHMAN BROS.  MUNICIPAL BOND INDEX IS AN UNMANAGED  BENCHMARK OF  TOTAL
    RETURN  PERFORMANCE  FOR  THE LONG-TERM, INVESTMENT-GRADE, TAX-EXEMPT  BOND
    MARKET.

                                       6
<PAGE>
Tax Exempt Money Market Fund

[BAR CHART]
                      CALENDAR               TOTAL
                        YEAR                 RETURN

                        1989                  6.30%
                        1990                  6.07%
                        1991                  4.80%
                        1992                  3.12%
                        1993                  2.38%
                        1994                  2.64%
                        1995                  3.70%
                        1996                  3.34%
                        1997                  3.46%
                        1998                  3.37%

During the  periods  shown in the bar chart,  the  highest  total  return for a
quarter was 1.59%  (quarter  ending June 30, 1989) and  the lowest total return
for a quarter was .54% (quarter ending March 31, 1994).

    THE TOTAL RETURN FOR THE  SIX-MONTH  PERIOD ENDED JUNE 30, 1999,  WAS ___%
    FOR THE TAX EXEMPT MONEY MARKET FUND.

The table below shows the Fund's average  annual  returns for the one-,  five-,
and  ten-year  periods  as well as the life of the Fund.  Remember,  historical
performance does not necessarily indicate what will happen in the future.

===============================================================================
  Average Annual Total Return
  (for the periods ending       Past      Past     Past      Past
  December 31, 1998)           1 Year    1 Year   1 Year    1 Year
- -------------------------------------------------------------------------------
  Tax Exempt Money Market Fund  3.37%     3.30%     3.91%    4.33%
===============================================================================

YIELD

[SIDE BAR]
     YIELD IS ANNUALIZED NET INCOME OF THE FUND DURING A SPECIFIED PERIOD
     AS A PERCENTAGE OF THE FUND'S SHARE PRICE.

All mutual funds must use the same  formulas to calculate  yield and  effective
yield.

Long-, Intermediate-, and Short-Term Funds

The Long-,  Intermediate-,  and Short-Term  Funds may advertise  performance in
terms of a 30-day yield quotation or a tax-equivalent  yield. The Funds' 30-day
yields for the period ended December 31, 1998, were as follows:

===============================================================================
                 Long-Term Fund            4.45%
                 Intermediate-Term Fund    4.28%
                 Short-Term Fund           3.71%
===============================================================================

                                       7
<PAGE>

Tax Exempt Money Market Fund

[SIDE BAR]
     EFFECTIVE YIELD IS CALCULATED SIMILAR TO THE YIELD, HOWEVER, WHEN
     ANNUALIZED, THE INCOME EARNED IS ASSUMED TO BE REINVESTED.

The Tax Exempt Money Market Fund typically advertises performance in terms of a
7-day yield and  effective  yield or a  tax-equivalent  yield and may advertise
total return.  The 7-day yield quotation more closely reflects current earnings
of the Fund  than the total  return  quotation.  The  effective  yield  will be
slightly higher than the yield because of the compounding effect of the assumed
reinvestment. Current yields and effective yields fluctuate daily and will vary
with factors such as interest rates and the quality, length of maturities,  and
type of  investments  in the  portfolio.  The Fund's 7-day yield for the period
ended December 31, 1998, was 3.55%.

You may  obtain  the most  current  yield  information  for any of the Funds by
calling 1-800-531-8777.

TAX-EQUIVALENT YIELD

Investors use  tax-equivalent  yields to compare  taxable and tax-exempt  fixed
income investments using a common yield measure.  The  tax-equivalent  yield is
the  yield  that a fully  taxable  investment  must  generate  to earn the same
"take-home" yield as a tax-exempt investment. The calculation depends upon your
federal marginal income tax rate and assumes that an investor can fully itemize
deductions  on his or her  federal tax return.  The higher  your  marginal  tax
bracket,  the higher will be the tax-equivalent  yield and the more valuable is
the Fund's tax exemption.

For  example,  if you  assume a federal  marginal  tax rate of 36%,  the Funds'
tax-equivalent  yields for the period  ending  December 31,  1998,  would be as
follows:

===============================================================================
                                                      Tax-Equivalent
                                              Yield         Yield
===============================================================================
   Long-Term Fund (30 day)                    4.45%         6.95%
   Intermediate-Term Fund (30 day)            4.28%         6.69%
   Short-Term Fund (30 day)                   3.71%         5.80%
   Tax Exempt Money Market Fund (7 day)       3.55%         5.55%
===============================================================================

Using the  example,  to exceed the  30-day  yield of the  Long-Term  Fund on an
after-tax basis, you must find a fully taxable investment that yields more than
6.95%. Likewise, to exceed the 7-day yield of the Tax Exempt Money Market Fund,
you must find a fully taxable investment that yields more than 5.55%.

For more information on calculating  tax-equivalent  yields,  see APPENDIX B on
page 35.

                                       8
<PAGE>

[SIDE BAR GRAPHIC]
                                  TouchLineSM
                                1-800-831-8777
                                     press
                                       1
                                     then
                                       1
                                     then
                                    4, 6, #

Please  consider  performance  information  in light of the  Funds'  investment
objectives and policies and market conditions during the reported time periods.
The value of your shares may go up or down. For the most current price,  yield,
and  return  information  for these  Funds,  you may call USAA  TouchLineSM  at
1-800-531-8777.  Press 1 for the Mutual  Fund Menu,  press 1 again for  prices,
yields, and returns.  Then, press 43# for the Long-Term Fund, press 44# for the
Intermediate-Term Fund, press 45# for the Short-Term Fund, or press 46# for the
Tax Exempt Money Market Fund when asked for a Fund Code.

[SIDE BAR]
                                   NEWSPAPER
                                    SYMBOLS:

                                     TxELT
                                     TxElt
                                     TxEsh

You can also find the most current price of your shares in the business section
of your newspaper in the mutual fund section under the heading "USAA Group" and
then the following symbols:

                  Long-Term  Fund -  "TXELT"
                  Intermediate-Term  Fund - "TXEIT"
                  Short-Term Fund - "TXESH"

[SIDE BAR]
                                TICKER SYMBOLS:

                                     USTEX
                                     USATX
                                     USSTX
                                     USEXX

If you prefer to obtain this information from an on-line computer service,  you
can do so by using the following ticker symbols:

              Long-Term Fund  - "USTEX"
              Intermediate-Term Fund  - "USATX"
              Short-Term Fund  - "USSTX"
              Tax Exempt Money Market Fund  - "USEXX"

FEES AND EXPENSES

This summary shows what it will cost you, directly or indirectly,  to invest in
the Funds.

Shareholder Transaction Expenses -- (Direct Costs)


There are no fees or sales loads  charged to your  account when you buy or sell
Fund  shares.  However,  if you sell  shares  and  request  your  money by wire
transfer,  there is a $10 fee.  (Your bank may also charge a fee for  receiving
wires.)


Annual Fund Operating Expenses -- (Indirect Costs)

Fund  expenses  come out of the Funds'  assets and are  reflected in the Funds'
share prices and dividends. "Other Expenses" include expenses such as custodian
and  transfer  agent fees.  The  figures on the next page show actual  expenses
during the past fiscal  year ended  March 31,  1999,  and are  calculated  as a
percentage of average net assets.


                                       9
<PAGE>
[SIDE BAR]
     12b-1 FEES - SOME MUTUAL FUNDS CHARGE THESE FEES TO PAY FOR ADVERTISING
     AND OTHER COSTS OF SELLING FUND SHARES.

===============================================================================
                                 Long Term        Intermediate-
                                   Fund            Term Fund
===============================================================================
 Management Fees                   .28%               .28%
 Distribution (12b-1) Fees         None               None
 Other Expenses                    .08%               .08%
                                   ----               ----
 Total Annual Fund
    Operating Expenses             .36%               .36%
                                   ====               ====
===============================================================================
                                Short-Term       Tax Exempt Money
                                   Fund             Market Fund
===============================================================================
 Management Fees                   .28%               .28%
 Distribution (12b-1) Fees         None               None
 Other Expenses                    .10%               .10%
                                   ----               ====
 Total Annual Fund
    Operating Expenses             .38%               .38%
                                   ====               ====
===============================================================================

Example of Effect of the Funds' Operating Expenses

This example  provides  you a comparison  of investing in one of the Funds with
the cost of investing in other mutual funds.  Although your actual costs may be
higher or lower, you would pay the following expenses on a $10,000  investment,
assuming (1) 5% annual return,  (2) the Fund's  operating  expenses  remain the
same, and (3) you redeem all of your shares at the end of those periods shown.

===============================================================================
                                  One     Three    Five     Ten
                                  Year    Years    Years    Years
===============================================================================
  Long-Term Fund                  $37     $116     $202     $456
  Intermediate-Term Fund           37      116      202      456
  Short-Term Fund                  39      122      213      480
  Tax Exempt Money Market Fund     39      122      213      480
===============================================================================

FUND INVESTMENTS

Principal Investment Strategies and Risks

  Q  What is each Fund's principal investment strategy?

  A  Each  Fund's  principal investment strategy is to invest the Fund's assets
     in  securities,  the interest  from which,  in the opinion of counsel,  is
     excluded  from gross income for federal  income tax  purposes,  but may be
     subject to state and local taxes.

                                      10
<PAGE>

     These securities  include municipal debt obligations that have been issued
     by states and their political subdivisions, and duly constituted state and
     local authorities and corporations as well as securities issued by certain
     U.S. territories or possessions,  such as Puerto Rico, the Virgin Islands,
     and Guam.  Tax-exempt  securities are issued to fund public infrastructure
     projects such as streets and highways,  schools,  water and sewer systems,
     hospitals,  and  airports.  Tax-exempt  securities  may also be  issued to
     refinance  outstanding  obligations as well as to obtain funds for general
     operating  expenses  and  for  loans  to  other  public  institutions  and
     facilities.

     Because the projects  benefit the public,  Congress has granted  exemption
     from  federal  income  taxes for the  interest  income  arising from these
     securities.

  Q  What types  of  tax-exempt  securities  will be  included  in each  Fund's
     portfolio?

  A  Each Fund's  assets may be  invested  in any of the  following  tax-exempt
     securities:

     *   general  obligation bonds which are secured by  the issuer's pledge of
         its  full  faith,  credit,  and  taxing  power  for the  payment  of
         principal and interest;

     *   revenue  bonds which  are  payable  from the  revenue  derived  from a
         particular  facility  or  class of facilities or, in some cases,  from
         the  proceeds  of a  special  excise  tax or  other  specific  revenue
         source, but not from the general taxing power;

     *   lease obligations  backed  by  the  municipality's  covenant to budget
         for the payments due under the lease obligation;

     *   synthetic  instruments,  which  combine  a   municipality's  long-term
         obligation  to  pay interest  and   principal  with  another  person's
         obligation to repurchase the instrument on short notice; and

     *   industrial  development  bonds  issued  by  or  on  behalf  of  public
         authorities to obtain funds for privately-operated facilities.

     As a temporary defensive measure because of market,  economic,  political,
     or other  conditions,  we may invest up to 100% of each  Fund's  assets in
     short-term  securities  whether or not they are exempt from federal income
     tax.  To the  extent  that these  temporary  investments  produce  taxable
     income,  that  income  may  result in that Fund not  fully  achieving  its
     investment  objective  during the time it is in this  temporary  defensive
     posture.

                                      11
<PAGE>

  Q  What are the principal  risks associated  with  investments  in tax-exempt
     securities?

  A  The two principal risks of investing in tax-exempt  securities  are credit
     risk and market risk.

     [CAUTION LIGHT GRAPHIC]
     CREDIT  RISK.  Credit  risk is the  possibility  that an issuer of a fixed
     income  security  will  fail  to  make  timely  payments  of  interest  or
     principal.  We attempt to minimize the Funds' credit risks by investing in
     securities  considered at least  investment grade at the time of purchase.
     Nevertheless,  even investment-grade securities are subject to some credit
     risk. In addition,  the ratings of securities  are estimates by the rating
     agencies of the credit quality of the securities. The ratings may not take
     into account every risk related to whether  interest or principal  will be
     repaid on a timely basis.

     When evaluating  potential  investments  for the Funds,  our analysts also
     independently  assess credit risk and its impact on the Funds' portfolios.
     Securities  in the lowest  investment  grade ratings  category  (BBB) have
     speculative  characteristics.  Changes  in  economic  conditions  or other
     circumstances  are more  likely to lead to a weakened  capability  to make
     principal and interest  payments on these  securities than is the case for
     higher-rated securities.

     [CAUTION LIGHT GRAPHIC]
     MARKET RISK. As a mutual fund investing in bonds, the Funds are subject to
     the risk that the market value of the bonds will decline because of rising
     interest rates.  Bond prices are linked to the prevailing  market interest
     rates. In general,  when interest rates rise, the prices of bonds fall and
     when interest rates fall, bond prices generally rise. The price volatility
     of a bond also depends on its maturity. Generally, the longer the maturity
     of a bond, the greater its  sensitivity to interest  rates.  To compensate
     investors  for this  higher  market  risk,  bonds with  longer  maturities
     generally offer higher yields than bonds with shorter maturities.

     [CAUTION LIGHT GRAPHIC]
  Q  What is Call Risk?

  A  Many municipal bonds  may be "called," or redeemed,  by  the issuer before
     the stated  maturity.  During a period of  declining  interest  rates,  an
     issuer  would call,  or  refinance,  a higher  yielding  bond for the same
     reason that a homeowner  would  refinance a home mortgage.  Interest rates
     must drop  sufficiently  so that the savings  more than offset the cost of
     refinancing.

                                      12
<PAGE>

     Intermediate-  and long-term  municipal bonds have the greatest call risk,
     because most municipal  bonds may not be called until after ten years from
     the date of  issue.  The  period  of "call  protection"  may be  longer or
     shorter than ten years,  but regardless,  bonds  purchased  closest to the
     date of issue will have the most call  protection.  Typically,  bonds with
     original maturities of ten years or less are not callable.

     Although  investors  certainly  appreciate  the rise in bond  prices  when
     interest  rates  drop,  falling  interest  rates  create  the  environment
     necessary to "call" the  higher-yielding  bonds from your Fund. When bonds
     are called,  the Fund is impacted in several  ways.  Most likely,  we must
     reinvest the bond-call proceeds at lower interest rates. The Fund's income
     may drop as a result. The Fund may also realize a taxable capital gain.

     [CAUTION LIGHT GRAPHIC]
  Q  What is structural risk?

  A  Some tax-exempt  securities,  referred  to as "synthetic instruments," are
     created by combining a long-term  municipal  bond with a right to sell the
     instrument back to the remarketer or liquidity  provider for repurchase on
     short notice, referred to as a "tender option." Usually, the tender option
     is backed by a letter of credit  or  similar  guarantee  from a bank.  The
     guarantee,  however,  is  conditional,  which  means  that the bank is not
     required  to  pay  under  the  guarantee  if  there  is a  default  by the
     municipality or if certain other events occur.  These types of instruments
     involve  special  risks,  referred to as  "structural  risk." For example,
     because of the structure of a synthetic  instrument,  there is a risk that
     the instrument  will lose its tax-exempt  treatment or that we will not be
     able to  exercise  our tender  option.  We will not  purchase a  synthetic
     instrument  unless  counsel has issued an opinion that the  instrument  is
     entitled to  tax-exempt  treatment.  In  addition,  we will not purchase a
     synthetic  instrument  for the  Tax-Exempt  Money  Market  Fund  unless we
     believe  there is only  minimal  risk that we will not be able to exercise
     our tender option at all times.

  Q  What are the  differences  between the  Long-Term,  Intermediate-Term, and
     Short-Term Funds?

  A  The differences  in the Funds  are in the average  weighted  maturities of
     all the securities in the portfolios.  Generally, the longer the maturity,
     the higher the yield and the greater the price volatility.

                                      13
<PAGE>
===============================================================================
                        MATURITY LIMITS
                                       PORTFOLIO WEIGHTED
                FUND                        AVERAGE
- -------------------------------------------------------------------------------
            Long-Term                  10 years or more
            Intermediate-Term          3-10 years
            Short-Term                 3 years or less
===============================================================================

     Within these limitations,  a Fund may purchase individual  securities with
     stated  maturities  greater  than the  Fund's  weighted  average  maturity
     limits. In determining a security's maturity for purposes of calculating a
     Fund's average maturity,  estimates of the expected time for its principal
     to be paid may be used. This can be substantially  shorter than its stated
     final maturity.  For a discussion of the method of calculating the average
     weighted maturities of these Funds' portfolios, see INVESTMENT Policies in
     the Statement of Additional Information

  Q  Are each Fund's investments diversified in many different issuers?

  A  Each  Fund  is considered  diversified under the federal  securities laws.
     With  respect  to the  Long-Term  Fund,  Intermediate-Term  Fund,  and the
     Short-Term  Fund,  this means that we will not invest  more than 5% in any
     one issuer with respect to 75% of the Funds'  assets.  With respect to the
     remaining  25% of the Funds'  assets,  we could invest more than 5% in any
     one, or more, issuers.

     With respect to the Tax Exempt Money  Market Fund,  we will not  generally
     invest more than 5% of the Fund's assets in any one or more issuers. Also,
     strict SEC  guidelines do not permit us to invest,  with respect to 75% of
     the Fund's  assets,  greater than 10% of the Fund's  assets in  securities
     issued by or subject to guarantees by the same  institution.  Purchases of
     securities issued or guaranteed by the U.S.  Government or its agencies or
     instrumentalities are not counted toward these limitations.

     We also may not invest  more than 25% of the Funds'  assets in  securities
     issued  in  connection   with  the  financing  of  projects  with  similar
     characteristics,  such as toll road revenue bonds,  housing revenue bonds,
     or electric power project  revenue bonds,  or in industrial  revenue bonds
     which are based, directly or indirectly, on the credit of private entities
     of any one industry. However, we reserve the right to invest more than 25%
     of the Funds'  assets in  tax-exempt  industrial  revenue  bonds.  The 25%
     industry  limitation does not apply to general  obligation  bonds or bonds
     that are escrowed in U.S. Government securities.


                                      14
<PAGE>

  Q  Will any portion of the distributions from the Funds be subject to federal
     income taxes?

  A  During  normal  market  conditions,  at  least  80% of each Fund's  annual
     income will be excluded from gross income for federal income tax purposes.
     This policy may only be changed by a shareholder  vote. We expect that any
     taxable interest income distributed will be minimal.

     However,  gains and losses from trading  securities  that occur during the
     normal   course  of   managing  a  fund  may  create  net   capital   gain
     distributions.   The  Internal   Revenue  Code   presently   treats  these
     distributions differently than tax-exempt interest income in the following
     ways:

     *   Distributions of net short-term  capital gains are taxable as ordinary
         income.

     *   Distributions  of  net  long-term   capital   gains  are   taxable  as
         long-term  capital gains,  regardless of  the length  of time you have
         held the Fund shares.

     *   Both  short-term  and  long-term  capital  gains  are taxable  whether
         received in cash or reinvested in additional shares.

  Q  Will income from the Funds be subject to the  federal alternative  minimum
     tax (AMT) for individuals?

  A  During  normal  market  conditions,  at least 80% of  each  Fund's  annual
     income will be excluded from the  calculation  of the federal  alternative
     minimum  tax (AMT) for  individuals.  This policy may only be changed by a
     shareholder  vote.  Since  inception,  the Funds have not  distributed any
     income that is subject to the federal AMT for  individuals,  and we do not
     intend to invest in  securities  subject to the federal AMT.  However,  of
     course,  changes in  federal  tax laws or other  unforeseen  circumstances
     could result in income subject to the federal AMT for individuals.

Long-, Intermediate-, and Short-Term Funds

  Q  What is the credit quality of the Fund's investments?

  A  Under normal  market  conditions,  we  will invest  each Fund's  assets so
     that at least 50% of the total market value of the  tax-exempt  securities
     is rated  within  the three  highest  long-term  rating  categories  (A or
     higher) by Moody's Investors Service,  Inc.  (Moody's),  Standard & Poor's
     Ratings  Group  (S&P),  or  Fitch  IBCA,  Inc.  (Fitch),  in  the  highest

                                      15
<PAGE>

     short-term rating category by Moody's,  S&P, or Fitch; or if a security is
     not rated by these rating agencies, we must determine that the security is
     of equivalent investment quality.

     In no event will we  purchase a security  for a Fund  unless it is ratedat
     least  investment   grade  at  the  time  of  purchase.   Investment-grade
     securities are those  securities  rated within the four highest  long-term
     rating  categories  by  Moody's  (Baa or  higher),  S&P,  or Fitch (BBB or
     higher),  or in the two  highest  short-term  rating  categories  by these
     rating agencies;  or if unrated by these agencies,  we must determine that
     the securities are of equivalent investment quality.

     You will find a complete  description of the above  tax-exempt  ratings in
     the Funds' Statement of Additional Information.

  Q  What happens if the rating of a security is downgraded to below investment
     grade?

  A  We  will  determine  whether  it  is  in the  best  interest  of a  Fund's
     shareholders to continue to hold the security in the Fund's portfolio.  If
     downgrades  result in more than 5% of the Fund's net assets being invested
     in securities that are less than  investment-grade  quality,  we will take
     immediate  action to reduce a Fund's  holdings in such securities to 5% or
     less of a Fund's net  assets,  unless  otherwise  directed by the Board of
     Directors.

  Q  How are the decisions to buy and sell securities made?

  A  We manage  tax-exempt  funds based on the common  sense  premise  that our
     investors    value   tax-exempt   income   over   taxable   capital   gain
     distributions.  When weighing the decision to buy or  sell a security,  we
     strive to balance the  value of the tax-exempt  income, the credit risk of
     the issuer, and the price volatility of the bond.

Tax Exempt Money Market Fund

  Q  What is the credit quality of the Fund's investments?

  A  The Fund's investments  consist of securities  meeting the requirements to
     qualify as "eligible  securities" under  the SEC rules applicable to money
     market funds. In general,  an eligible  security is defined  as a security
     that is:

     *   issued  or  guaranteed   by  the  U.S.  Government  or  any  agency or
         instrumentality  thereof,  including  "prerefunded"  and  "escrowed to
         maturity" tax-exempt securities;

                                      16
<PAGE>

     *   rated  or  subject  to a  guarantee  that  is rated  in one of the two
         highest  categories  for  short-term   securities  by  at   least  two
         Nationally Recognized  Statistical Rating  Organizations  (NRSROs), or
         by one NRSRO if the security is rated by only one NRSRO;

     *   unrated but issued by  an issuer or  guaranteed  by  a guarantor  that
         has other comparable short-term debt obligations so rated; or

     *   unrated but determined by us to be of comparable quality.

     In addition,  we must consider  whether a particular  investment  presents
     minimal credit risk.

  Q  Who are the Nationally Recognized Statistical Rating Organizations?

  A  Current NRSROs include:

     *   Moody's Investors Service,  Inc.;
     *   Standard & Poor's Ratings Group;
     *   Fitch IBCA, Inc.;
     *   Duff & Phelps Inc.; and
     *   Thompson BankWatch, Inc.

  Q  What happens if the rating of a security is downgraded?

  A  If the  rating  of  a  security  is  downgraded  after  purchase,  we will
     determine whether it is in the best  interest of the  Fund's  shareholders
     to continue to hold the security in the Fund's portfolio.

[SIDE BAR]
     DOLLAR WEIGHTED AVERAGE PORTFOLIO  MATURITY IS OBTAINED BY MULTIPLYING THE
     DOLLAR  VALUE  OF  EACH  INVESTMENT  BY THE  NUMBER  OF  DAYS  LEFT TO ITS
     MATURITY, THEN ADDING THOSE FIGURES TOGETHER AND DIVIDING THE TOTAL BY THE
     DOLLAR VALUE OF THE FUND'S PORTFOLIO.

  Q  Will the Fund always maintain a net asset value of $1 per share?

  A  While we will endeavor to maintain a  constant Fund net  asset value of $1
     per  share,  there  is  no  assurance  that  we  will  be  able to  do so.
     Remember,  the  shares are  neither  insured  nor  guaranteed  by the U.S.
     Government. As such, the Fund carries some risk.

     For example,  there is always a risk that the issuer of a security held by
     the Fund will fail to pay  interest or  principal  when due. We attempt to
     minimize this credit risk by investing only in securities  rated in one of
     the two highest categories for short-term securities, or, if not rated, of
     comparable  quality,  at the time of purchase.  Additionally,  we will not
     purchase  a security  unless  our  analysts  determine  that the  security
     presents minimal credit risk.

     There is also a risk that  rising  interest  rates will cause the value of
     the Fund's securities to decline. We attempt to minimize this

                                      17
<PAGE>

     interest  risk by limiting  the  maturity of each  security to 397 days or
     less and maintaining a dollar-weighted  average portfolio maturity for the
     Fund of 90 days or less.

     Finally, there is the possibility that one or more investments in the Fund
     cease to be "eligible securities" resulting in the net asset value ceasing
     to be $1 per share.  For  example,  a guarantor  on a security may fail to
     meet a contractual obligation.

  Q  How are the decisions to buy and sell securities made?

  A  We balance  factors such as credit  quality and  maturity to  purchase the
     best  relative  value  available  in the market  at any given time.  While
     rare,  sell  decisions  are  usually  based  on  a change  in  our  credit
     analysis or to take  advantage  of an opportunity to  reinvest at a higher
     yield.

For additional  information  about other securities in which we may invest each
of the Fund's assets, see APPENDIX A on page 33.

FUND MANAGEMENT

USAA  Investment  Management  Company serves as the manager and  distributor of
these  Funds.  We are an affiliate of United  Services  Automobile  Association
(USAA), a large, diversified financial services institution.  As of the date of
this  Prospectus,  we had  approximately  $___  billion in total  assets  under
management.  Our mailing address is 9800  Fredericksburg  Road, San Antonio, TX
78288.

We provide management  services to the Funds pursuant to an Advisory Agreement.
We are responsible for managing the Funds' portfolios  (including  placement of
brokerage orders) and their business  affairs,  subject to the authority of and
supervision  by the Board of Directors.  For our services,  the Funds pay us an
annual fee. This fee, which is accrued daily and paid monthly, is computed as a
percentage  of average net assets.  The fee for each Fund was computed and paid
at twenty-eight  one-hundredths of one percent (.28%) of average net assets for
the fiscal year ended  March 31,  1999.  We also  provide  services  related to
selling the Funds' shares and receive no compensation for those services.

Although our officers and employees,  as well as those of the Funds, may engage
in personal securities transactions, they are restricted by the procedures in a
Joint Code of Ethics adopted by the Funds and us.


                                      18
<PAGE>

Portfolio Managers

LONG-TERM FUND
[PHOTOGRAPH PORTFOLIO MANANGER]
KENNETH E. WILLMANN

Kenneth E. Willmann,  Vice President of Fixed Income  Investments,  has managed
the Fund  since  its  inception  in  March  1982.  He has 25  years  investment
management  experience and has worked for us for 22 years.  Mr. Willmann earned
the Chartered  Financial  Analyst (CFA)  designation in 1978 and is a member of
the  Association  for Investment  Management and Research  (AIMR),  San Antonio
Financial  Analysts  Society,  Inc.  (SAFAS),  and the National  Federation  of
Municipal  Analysts  (NFMA).  He holds an MBA and a BA from the  University  of
Texas.


INTERMEDIATE-TERM AND SHORT-TERM FUNDS
[PHOTOGRAPH PORTFOLIO MANANGER]
CLIFFORD A. GLADSON

Clifford A. Gladson, Assistant Vice President of Fixed Income Investments,  has
managed  the Funds since  April 1993 and April  1994,  respectively.  He has 12
years  investment  management  experience and has worked for us for nine years.
Mr.  Gladson  earned the CFA  designation  in 1990 and is a member of the AIMR,
SAFAS, and NFMA. He holds an MS from the University of Wisconsin, Milwaukee and
a BS from Marquette University.

TAX EXEMPT MONEY MARKET FUND
[PHOTOGRAPH PORTFOLIO MANANGER]
THOMAS G. RAMOS

Thomas G. Ramos,  Vice  President of Money Market  Funds,  has managed the Fund
since August 1994. Mr. Ramos has 21 years investment  management experience and
has worked for us for 17 years.  Mr. Ramos earned the CFA  designation  in 1983
and is a  member  of the  AIMR,  SAFAS,  and  NFMA.  He  holds  an MBA from the
University of California, an MA from St. Mary's University,  and a BA from Yale
University.

USING MUTUAL FUNDS IN AN INVESTMENT PROGRAM

I. The Idea Behind Mutual Funds

Mutual funds provide small investors some of the advantages  enjoyed by wealthy
investors.  A  relatively  small  investment  can  buy  part  of a  diversified
portfolio. That portfolio is managed by investment professionals, relieving you
of the  need to make  individual  stock  or bond  selections.  You  also  enjoy
conveniences, such as daily  pricing, liquidity, and in the case of the USAA

                                      19
<PAGE>

Family of Funds, no sales charge. The portfolio, because of its size, has lower
transaction  costs on its trades than most individuals would have. As a result,
you own an investment  that in earlier times would have been  available only to
very wealthy people.

II. Using Funds in an Investment Program

In  choosing a mutual  fund as an  investment  vehicle,  you are giving up some
investment decisions,  but must still make others. The decisions you don't have
to make are those involved with choosing individual securities. We will perform
that function.  In addition, we will arrange for the safekeeping of securities,
auditing the annual financial  statements,  and daily valuation of the Fund, as
well as other functions.

You,  however,  retain  at  least  part of the  responsibility  for an  equally
important  decision.  This decision involves  determining a portfolio of mutual
funds that balances your  investment  goals with your tolerance for risk. It is
likely that this decision may include the use of more than one fund of the USAA
Family of Funds.

For example,  assume you wish to pursue the higher yields usually  available in
the long-term bond market,  but you are also concerned about the possible price
swings of the long-term bonds.  You could divide your  investments  between the
Long-Term  Fund and the Tax Exempt  Money  Market  Fund.  This  would  create a
portfolio with a higher yield than that of the money market and less volatility
than that of the long-term market. This is just one way you could combine funds
to fit your own risk and reward goals.

III. USAA's Family of Funds

We offer you  another  alternative  with our  asset  strategy  funds  listed in
APPENDIX C under asset allocation on page 36. These unique mutual funds provide
a  professionally  managed,  diversified  investment  portfolio within a mutual
fund.  Designed for the individual who prefers to delegate the asset allocation
process to an investment  manager,  their  structure  achieves  diversification
across a number of investment categories.

Whether you prefer to create  your own mix of mutual  funds or use a USAA Asset
Strategy  Fund,  the USAA  Family of Funds  provides  a broad  range of choices
covering just about any investor's  investment  objectives.  Our member service
representatives  stand  ready to assist you with your  choices  and to help you
craft a  portfolio  to meet your  needs.  Refer to  APPENDIX C on page 36 for a
complete list of the USAA Family of No-Load Mutual Funds.


                                      20
<PAGE>

HOW TO INVEST

Purchase of Shares

OPENING AN ACCOUNT

You may open an account and make an investment  as described  below by mail, in
person,  bank wire,  electronic  funds  transfer  (EFT),  or phone. A complete,
signed application is required to open your initial account. However, after you
open  your  initial  account  with us,  you  will not need to fill out  another
application to open another Fund unless the registration is different.

TAX ID NUMBER

Each shareholder  named on the account must provide a social security number or
tax identification number to avoid possible withholding requirements.

EFFECTIVE DATE

When you make a purchase, your purchase price will be the net asset value (NAV)
per share next  determined  after we receive your request in proper form.  Each
Fund's NAV is determined at the close of the regular trading session (generally
4:00 p.m. Eastern Time) of the New York Stock Exchange (NYSE) each day the NYSE
is open.  If we receive  your  request  and  payment  prior to that time,  your
purchase price will be the NAV per share determined for that day. If we receive
your  request or payment  after the NAV per share is  calculated,  the purchase
will be effective on the next business day.

If you plan to  purchase  Fund  shares  with a foreign  check,  we suggest  you
convert your foreign check to U.S.  dollars prior to investment in a Fund. This
will avoid a potential  delay in the  effective  date of your purchase of up to
four to six weeks.  Furthermore,  a bank charge may be assessed in the clearing
process, which will be deducted from the amount of the purchase.

MINIMUM INVESTMENTS

INITIAL PURCHASE
[MONEY GRAPHIC]

*    $3,000. Employees of USAA and its affiliated companies may open an account
     through  payroll  deduction  for as little as $25 per pay  period  with no
     initial investment.

ADDITIONAL PURCHASES

*    $50 (Except  transfers from  brokerage  accounts into the Tax Exempt Money
     Market Fund, which are exempt from the minimum).

                                      21
<PAGE>

HOW TO PURCHASE

MAIL
[EVENLOPE GRAPHIC]

*    To open an account, send your application and check to:
       USAA Investment Management Company
       9800 Fredericksburg Road
       San Antonio, TX 78288
*    To add to your account, send your check and the "Invest by Mail" stub that
     accompanies your Fund's transaction confirmation to the Transfer Agent:
       USAA Shareholder Account Services
       9800 Fredericksburg Road
       San Antonio, TX 78288

IN PERSON
[HANDSHAKE GRAPHIC]

*    To open an account, bring your application and check to:
       USAA Investment Management Company
       USAA Federal Savings Bank
       10750 Robert F. McDermott Freeway
       San Antonio, TX 78288

BANK WIRE
[WIRE GRAPHIC]

*    To open or add to your account, instruct your bank (which may charge a fee
     for the service) to wire the specified amount to the Fund as follows:
       State Street Bank and Trust Company
       Boston, MA 02101
       ABA#011000028
       Attn: USAA Tax Exempt Fund Name
       USAA Account Number: 69384998
       Shareholder(s) Name(s)____________________________
       Shareholder(s) Mutual Fund Account Number_________

ELECTRONIC FUNDS TRANSFER
[CALENDAR GRAPHIC]

*    Additional  purchases  on a  regular  basis  can be  deducted  from a bank
     account, paycheck,  income-producing investment, or USAA money market fund
     account.  Sign up for these  services  when  opening  an  account  or call
     1-800-531-8448 to add these services.

PHONE 1-800-531-8448
[TELEPHONE GRAPHIC]

*    If you have an existing  USAA mutual fund account and would like to open a
     new account or exchange to another USAA Fund,  call for  instructions.  To
     open an account by phone, the new account must have the same  registration
     as your existing account.


                                      22
<PAGE>

Redemption of Shares

You may redeem Fund shares by any of the methods described below on any day the
NAV per share is calculated.  Redemptions are effective on the day instructions
are received in a manner as  described  below.  However,  if  instructions  are
received  after  the NAV per share  calculation  (generally  4:00 p.m.  Eastern
Time), redemption will be effective on the next business day.

We will send you your  money  within  seven days  after the  effective  date of
redemption.  Payment for redemption of shares purchased by EFT or check is sent
after the EFT or check has  cleared,  which  could  take up to 15 days from the
purchase date. If you are considering redeeming shares soon after purchase, you
should  purchase by bank wire or certified  check to avoid  delay.  For federal
income tax purposes,  a redemption  is a taxable  event;  and as such,  you may
realize a capital gain or loss.  Such capital  gains or losses are based on the
difference  between your cost basis in the shares and the price  received  upon
redemption.

In  addition,  the Funds  may  elect to  suspend  the  redemption  of shares or
postpone the date of payment in limited circumstances.

HOW TO REDEEM

WRITTEN, FAX, TELEGRAM, OR TELEPHONE
[FAX MACHINE GRAPHIC]

*    Send your written instructions to:
       USAA Shareholder Account Services
       9800 Fredericksburg Road
       San Antonio, TX 78288
*    Send a  signed  fax  to  1-800-292-8177,  or  send a  telegram  to  USAA
     Shareholder Account Services.
*    Call toll free 1-800-531-8448, in San Antonio, 456-7202.

Telephone redemption privileges are automatically established when you complete
your application.  The Fund will employ  reasonable  procedures to confirm that
instructions  communicated by telephone are genuine; and if it does not, it may
be liable for any losses due to unauthorized or fraudulent instructions. Before
any discussion regarding your account,  the following  information is obtained:
(1)  USAA  number  and/or  account  number,  (2)  the  name(s)  on the  account
registration,  and (3)  social  security/tax  identification  number or date of
birth  of  the  registered  account  owner(s)  for  the  account  registration.
Additionally,   all  telephone   communications   with  you  are  recorded  and
confirmations of account transactions are sent to the address of record. If you
were issued stock certificates for your shares,  redemption by telephone,  fax,
or telegram is not available.


                                      23
<PAGE>

CHECKWRITING
[CHECK GRAPHIC]

*    Checks can be issued for the  Short-Term  Fund and Tax Exempt Money Market
     Fund accounts.  Return a signed  signature card,  which  accompanies  your
     application, or request a signature card separately and return to:
       USAA Shareholder Account Services
       9800 Fredericksburg Road
       San Antonio, TX 78288

You will not be charged for the use of checks or any subsequent reorders.  Your
checkwriting  privilege  is subject to State  Street  Bank and Trust  Company's
rules and regulations governing checking accounts.  You may write checks in the
amount of $250 or more.  Checks  written  for less  than $250 will be  returned
unpaid.  Because the value of your account  changes daily as dividends  accrue,
you may not write a check to close your account.  Remember,  writing a check on
your Short-Term Fund results in a taxable event and is therefore reportable for
federal tax purposes.

IMPORTANT INFORMATION ABOUT PURCHASES AND REDEMPTIONS

Investor's Guide to USAA Mutual Fund Services
[INVESTOR GUIDE GRAPHIC]

Upon your initial  investment with us, you will receive the INVESTOR'S GUIDE to
help you get the most out of your USAA mutual fund account and to assist you in
your role as an investor.  In the INVESTOR'S  GUIDE,  you will find  additional
information on purchases,  redemptions,  and methods of payment.  You will also
find in-depth information on automatic investment plans, shareholder statements
and reports, and other useful information.

Account Balance

USAA Shareholder  Account Services (SAS), the Funds' transfer agent, may assess
annually a small balance account fee of $12 to each shareholder  account with a
balance,  at the time of assessment,  of less than $2,000.  The fee will reduce
total transfer  agency fees paid by the Fund to SAS.  Accounts  exempt from the
fee include: (1) any account regularly purchasing  additional shares each month
through an automatic  investment  plan;  (2) any account  registered  under the
Uniform  Gifts/Transfers  to Minors Act  (UGMA/UTMA);  (3) all (non-IRA)  money
market fund accounts;  (4) any account whose  registered owner has an aggregate
balance of $50,000  or more  invested  in USAA  mutual  funds;  and (5) all IRA
accounts (for the first year the account is open).

                                      24
<PAGE>

Fund Rights

Each Fund reserves the right to:

 *   reject purchase or exchange orders when in the best interest of the Fund;

 *   limit or discontinue the offering of shares of the Fund  without notice to
     the shareholders;

 *   impose a  redemption  charge of up to 1% of the  net asset value of shares
     redeemed  if  circumstances   indicate  a  charge  is  necessary  for  the
     protection of remaining investors (for example, if excessive market-timing
     share activity unfairly burdens  long-term  investors);  however,  this 1%
     charge will not be imposed  upon  shareholders  unless  authorized  by the
     Board of Directors and the required notice has been given to shareholders;

 *   require  a  signature  guarantee  for  transactions  or changes in account
     information in those  instances where the  appropriateness  of a signature
     authorization  is in question.  The  Statement of  Additional  Information
     contains information on acceptable guarantors;

 *   redeem an account with less than 50 full shares, with certain limitations.

EXCHANGES

Exchange Privilege

The exchange privilege is automatic when you complete your application. You may
exchange  shares  among Funds in the USAA Family of Funds,  provided you do not
hold these shares in stock  certificate  form and the shares to be acquired are
offered in your state of residence.  After we receive the exchange orders,  the
Funds'  transfer agent will  simultaneously  process  exchange  redemptions and
purchases  at  the  share  prices  next  determined.  The  investment  minimums
applicable to share  purchases also apply to exchanges.  For federal income tax
purposes,  an exchange  between Funds is a taxable event;  and as such, you may
realize a capital gain or loss.  Such capital  gains or losses are based on the
difference  between your cost basis in the shares and the price  received  upon
exchange.

The Funds have undertaken certain procedures  regarding telephone  transactions
as described on page 23.

Exchange Limitations, Excessive Trading

To  minimize  Fund costs and to protect the Funds and their  shareholders  from
unfair expense burdens,  the Funds restrict excessive  exchanges.  The limit on
exchanges  out of any Fund in the USAA Family of Funds for each  account is six
per calendar  year (except  there is no  limitation on exchanges out of the Tax
Exempt Short-Term Fund,  Short-Term Bond Fund, or any of the money market funds
in the USAA Family of Funds).

                                      25
<PAGE>

SHAREHOLDER INFORMATION

Share Price Calculation

[SIDE BAR]
                                 NAV PER SHARE
                                    EQUALS
                                 TOTAL ASSETS
                                     MINUS
                                 LIABILITITES
                                  DIVIDED BY
                                  # OF SHARES
                                  OUTSTANDING

The price at which you  purchase  and  redeem  Fund  shares is equal to the net
asset value (NAV) per share determined on the effective date of the purchase or
redemption.  You may buy and sell Fund  shares  at the NAV per share  without a
sales  charge.  Each  Fund's  NAV per share is  calculated  at the close of the
regular trading session of the NYSE, which is usually 4:00 p.m. Eastern Time.

Securities of the Long-Term, Intermediate-Term, and Short-Term Funds are valued
each  business day at their  current  market value as  determined  by a pricing
service approved by the Company's Board of Directors. Securities that cannot be
valued by the pricing service,  and all other assets,  are valued in good faith
at fair value using methods we have determined under the general supervision of
the Board of Directors. In addition, securities purchased with maturities of 60
days or less and all  securities of the Tax Exempt Money Market Fund are stated
at amortized cost, which approximates market value.

For  additional  information  on how  securities  are valued,  see VALUATION OF
SECURITIES in the Funds' Statement of Additional Information.

Dividends and Distributions

Net  investment  income  of each  Fund is  accrued  daily  and paid on the last
business day of the month.  Dividends shall begin accruing on shares  purchased
the day  following  the  effective  date and  shall  continue  to accrue to the
effective date of redemption.  Any net capital gain distribution usually occurs
within 60 days of the March 31 fiscal year end, which would be somewhere around
the end of May. The Funds will make  additional  payments to  shareholders,  if
necessary, to avoid the imposition of any federal income or excise tax.

We  will   automatically   reinvest  all  income  dividends  and  capital  gain
distributions in each Fund unless you instruct us differently.  The share price
will be the NAV of the  Fund  shares  computed  on the  ex-dividend  date.  Any
capital gain  distributions paid by the Tax Exempt Funds (except the Tax Exempt
Money  Market Fund) will reduce the NAV per share by the amount of the dividend
or distribution. You should consider carefully the effects of purchasing shares
of a Fund shortly before any capital gain distribution. Although in effect this
would be a return of capital, these distributions are subject to taxes.


                                      26
<PAGE>

We will invest any  dividend  or  distribution  payment  returned to us in your
account at the  then-current NAV per share.  Dividend and  distribution  checks
become  void six months  from the date on the  check.  The amount of the voided
check will be invested in your account at the then-current NAV per share.

Federal Taxes

This tax  information  is quite  general and refers to the  federal  income tax
provisions  in effect as of the date of this  Prospectus.  While we manage  the
Funds so that at least 80% of each  Fund's  annual  income  will be exempt from
federal  income  taxes,  we  may  invest  up to 20% of  the  Funds'  assets  in
securities  that generate income not exempt from federal or state income taxes.
Because interest income may be exempt for federal income tax purposes,  it does
not necessarily mean that the interest income may be exempt under the income or
other tax laws of any state or local taxing authority.  As discussed earlier on
page 15,  capital  gains  distributed  by a Fund may be taxable.  Note that the
Taxpayer  Relief Act of 1997 and the  technical  provisions  adopted by the IRS
Restructuring  and Reform Act of 1998 may  affect the status and  treatment  of
certain  distributions  shareholders  receive  from  the  Funds.  Because  each
investor's tax circumstances are unique and because the tax laws are subject to
change, we recommend that you consult your tax adviser about your investment.

WITHHOLDING  - Federal law requires each Fund to withhold and remit to the U.S.
Treasury a portion of the income dividends and capital gain  distributions  and
proceeds of redemptions paid to any non-corporate shareholder who:

  *  fails to  furnish  the Fund  with a  correct  tax  identification  number,
  *  underreports  dividend or interest income, or
  *  fails to certify that he or she is not subject to withholding.

To avoid this withholding requirement, you must certify on your application, or
on a separate  Form W-9 supplied by the Funds'  transfer  agent,  that your tax
identification  number is correct and you are not  currently  subject to backup
withholding.

REPORTING - Each Fund will report  information  to you annually  concerning the
tax status of dividends  and  distributions  for federal  income tax  purposes,
including  the  portion  of the  dividends  constituting  interest  on  private
activity bonds and the percentage and source,  on a  state-by-state  basis,  of
interest  income  earned on tax-exempt  securities  held by the Fund during the
preceding year.


                                      27
<PAGE>

Year 2000

Like  other  organizations  around  the  world,  the Funds  could be  adversely
affected if the computer  systems used by them,  their  service  providers,  or
companies  in  which  they  invest  do  not  properly   process  and  calculate
information that relates to dates beginning  January 1, 2000, and beyond.  This
situation may occur because for many years computer  programmers  used only two
digits to describe years, such as 98 for 1998. A program written in this manner
may not work when it encounters the year 00. To confront this  situation,  USAA
companies  have spent much effort and money;  and we expect to have our systems
ready for the Year 2000 by mid-1999. In addition, we are actively assessing the
Year 2000 readiness of our service providers,  partners, and companies in whose
securities we invest. It is not possible for us to say that you will experience
no effect from this situation, but we can say that we are making a large effort
to avoid any ill effects upon our shareholders.

We do believe you are entitled to know with certainty that we will stand behind
your share balance as of the close of business in 1999. When the market reopens
in 2000,  should any computer problem cause a change in the number of shares in
your account, we will return your account to its proper share balance.

                                      28
<PAGE>

FINANCIAL HIGHLIGHTS

The financial  highlights tables are intended to help you understand the Funds'
financial  performance for the past five years.  Certain  information  reflects
financial  results  for a single Fund  share.  The total  returns in the tables
represent  the  rate  that an  investor  would  have  earned  (or  lost)  on an
investment   in  the  Fund   (assuming   reinvestment   of  all  dividends  and
distributions).  This  information  has been audited by KPMG LLP, whose report,
along with the Funds' financial statements,  are included in the Annual Report,
which is available upon request.

Long-Term Fund:
<TABLE>
<CAPTION>
                                              Year Ended March 31,
<S>                         <C>          <C>          <C>          <C>          <C>
                            ---------------------------------------------------------------
                                1999          1998        1997          1996        1995
                            ---------------------------------------------------------------


Net asset value at
   beginning of period      $    14.00   $    13.22   $    13.17   $    12.96   $    13.20
Net investment income              .76          .78          .79          .79          .79
Net realized and
   unrealized gain (loss)         (.08)         .78          .05          .21         (.16)
Distributions from net
   investment income              (.76)        (.78)        (.79)        (.79)        (.78)
Distributions of realized
   capital gains                    -           -             -            -          (.09)
                        -------------------------------------------------------------------
Net asset value at
   end of period            $    13.92   $    14.00   $    13.22   $    13.17   $    12.96
                        ===================================================================
Total return (%)*                 4.98        12.04         6.51         7.88         5.07
Net assets at end of
   period (000)             $2,168,242   $2,042,525   $1,822,436   $1,804,116   $1,774,643
Ratio of expenses to
   average net assets (%)          .36          .36          .37          .37          .38
Ratio of net investment
   income to average net
   assets (%)                     5.44         5.65         5.95         5.99         6.23
Portfolio turnover (%)           29.56        35.20        40.78        53.25        64.72

- -----------------

</TABLE>
* Assumes  reinvestment of all dividend  income and capital gain  distributions
during the period.

                                      29
<PAGE>
Financial Highlights (cont.)

Intermediate-Term Fund:

<TABLE>
<CAPTION>
                                              Year Ended March 31,
<S>                         <C>          <C>          <C>          <C>          <C>
                            ---------------------------------------------------------------
                                1999          1998        1997          1996        1995
                            ---------------------------------------------------------------
Net asset value at
   beginning of period      $    13.38   $    12.77   $    12.77   $    12.50   $    12.48
Net investment income              .70          .71          .72          .71          .69
Net realized and
   unrealized gain                 .01          .61          -            .27          .05
Distributions from net
   investment income              (.70)        (.71)        (.72)        (.71)        (.69)
Distributions of realized
   capital gains                    -            -           -            -           (.03)
                            --------------------------------------------------------------
Net asset value at
  end of period             $    13.39   $    13.38   $    12.77   $    12.77   $    12.50
                            ==============================================================
Total return (%)*                 5.42        10.59         5.80         7.97         6.16
Net assets at end of
  period (000)              $2,344,401   $2,039,505   $1,725,684   $1,660,039   $1,529,750
Ratio of expenses to
   average net assets (%)          .36          .37          .37          .38          .40
Ratio of net investment
   income to average net
   assets (%)                     5.21         5.42         5.65         5.54         5.63
Portfolio turnover (%)           11.85         7.87        23.05        27.51        27.26

- -----------------

</TABLE>
* Assumes  reinvestment of all dividend  income and capital gain  distributions
during the period.

                                      30
<PAGE>
Financial Highlights (cont.)

Short-Term Fund:

<TABLE>
<CAPTION>
                                              Year Ended March 31,
<S>                         <C>          <C>          <C>          <C>          <C>
                            ---------------------------------------------------------------
                                1999          1998        1997          1996        1995
                            ---------------------------------------------------------------
Net asset value at
  beginning of period       $    10.74   $    10.57   $    10.57   $    10.47   $    10.48
Net investment income              .49          .49          .49          .50          .47
Net realized and
  unrealized gain (loss)          (.02)         .17         -             .10         (.01)
Distributions from net
   investment income              (.49)        (.49)        (.49)        (.50)        (.47)
                       --------------------------------------------------------------------
Net asset value at
  end of period             $    10.72   $    10.74   $    10.57   $    10.57   $    10.47
                       ===================================================================
Total return (%)*                 4.46         6.35         4.70         5.83         4.51
Net assets at end of
  period (000)              $1,033,560   $  970,805   $  804,897   $  774,020   $  801,157
Ratio of expenses to
  average net assets (%)           .38          .39          .41          .42          .42
Ratio of net investment
  income to average net
  assets (%)                      4.55         4.57         4.60         4.73         4.50
Portfolio turnover (%)            7.34         7.91        27.67        35.99        32.61

- -----------------

</TABLE>
* Assumes reinvestment of all dividend income distributions during the period.

                                      31
<PAGE>

Financial Highlights (cont.)

Tax Exempt Money Market Fund:

 <TABLE>
<CAPTION>
                                              Year Ended March 31,
<S>                         <C>          <C>          <C>          <C>          <C>
                            ---------------------------------------------------------------
                                1999          1998        1997          1996        1995
                            ---------------------------------------------------------------

Net asset value at
  beginning of period       $     1.00   $     1.00   $     1.00   $     1.00   $     1.00
Net investment income              .03          .03          .03          .04          .03
Distributions from net
   investment income              (.03)        (.03)        (.03)        (.04)        (.03)
                            --------------------------------------------------------------
Net asset value at
  end of period             $     1.00   $     1.00   $     1.00   $     1.00   $     1.00
                            ==============================================================
Total return (%)*                 3.26         3.48         3.30         3.65         2.98
Net assets at end of
  period (000)              $1,767,036   $1,631,785   $1,565,634   $1,529,176   $1,456,747
Ratio of expenses to
  average net assets (%)           .38          .38          .39          .40          .39
Ratio of net investment
  income to average net
  assets (%)                      3.21         3.42         3.25         3.59         2.93

- -----------------

</TABLE>
* Assumes reinvestment of all dividend income distributions during the period.

                                      32
<PAGE>

                                   APPENDIX A

THE FOLLOWING ARE  DESCRIPTIONS  OF CERTAIN TYPES OF SECURITIES IN WHICH WE MAY
INVEST EACH FUND'S ASSETS:
VARIABLE RATE SECURITIES

We may invest a Fund's  assets in tax-exempt  securities  that bear interest at
rates which are adjusted periodically to market rates.

*   These  interest  rate  adjustments  can both  raise and  lower  the  income
    generated by such  securities.  These  changes will have the same effect on
    the  income  earned  by the  Fund  depending  on  the  proportion  of  such
    securities held.

*   Because the interest  rates of variable rate  securities  are  periodically
    adjusted  to reflect  current  market  rates,  their  market  value is less
    affected by changes in prevailing  interest  rates than the market value of
    securities with fixed interest rates.

*   The market value of a variable rate security usually tends toward par (100%
    of face value) at interest rate  adjustment time.

In the case of the Tax  Exempt  Money  Market  Fund  only,  any  variable  rate
instrument  with a demand  feature  will be deemed to have a maturity  equal to
either  the date on which the  underlying  principal  amount  may be  recovered
through demand or the next rate  adjustment  date  consistent  with  applicable
regulatory requirements.

PUT BONDS

We may invest a Fund's assets in tax-exempt  securities  (including  securities
with variable  interest  rates) which may be redeemed or sold back (put) to the
issuer of the security or a third party prior to stated  maturity  (put bonds).
Such  securities  will  normally  trade as if maturity is the earlier put date,
even though stated  maturity is longer.  For the Long-Term,  Intermediate-Term,
and Short-Term  Bond Funds,  maturity for put bonds is deemed to be the date on
which the put becomes  exercisable.  Generally,  maturity for put bonds for the
Tax Exempt  Money  Market Fund is  determined  as stated  under  Variable  Rate
Securities.

ZERO COUPON BONDS

We may invest a Fund's  assets in zero  coupon  bonds.  A zero coupon bond is a
security that is sold at a deep discount from its face value, makes no periodic
interest payments,  and is redeemed at face value when it matures. The lump sum
payment at maturity  increases the price  volatility of the zero coupon bond to
changes in interest rates when compared to a bond that distributes a semiannual
coupon payment.  In calculating  its dividend,  each Fund records as income the
daily amortization of the purchase discount.

SYNTHETIC INSTRUMENTS

We may  invest a Fund's  assets in tender  option  bonds,  bond  receipts,  and
similar synthetic municipal  instruments.  A synthetic instrument is a security
created by combining an intermediate  or long-term  municipal bond with a right
to sell  the  instrument  back to the  remarketer  or  liquidity  provider  for
repurchase  on short  notice.  This right to sell is commonly  referred to as a
tender option.  Usually, the tender option is backed by a conditional guarantee
or letter  of  credit  from a bank or other  financial  institution.  Under its
terms,  the  guarantee may expire if the  municipality  defaults on payments of
interest or  principal  on the  underlying  bond,  if the credit  rating of the
municipality is downgraded, or if the

                                     33
<PAGE>

instrument (or the underlying bond) loses its tax-exempt  treatment.  Synthetic
instruments  involve  structural risks that could adversely affect the value of
the  instrument  or could result in a Fund holding an  instrument  for a longer
period of time than originally anticipated.

WHEN-ISSUED SECURITIES

We may invest a Fund's assets in new securities offered on a when-issued basis.

*   Delivery  and  payment  take  place  after  the date of the  commitment  to
    purchase,  normally  within 45 days. Both price and interest rate are fixed
    at the time of commitment.

*   The Funds do not earn interest on the securities until settlement,  and the
    market  value  of  the  securities  may  fluctuate   between  purchase  and
    settlement.

*   Such securities can be sold before settlement date.

MUNICIPAL LEASE OBLIGATIONS

We may invest a Fund's assets in a variety of instruments  commonly referred to
as municipal lease obligations, including:

*   Leases,
*   Installment purchase contracts, and
*   Certificates of participation in such leases and contracts.

Certain lease  obligations  contain  "non-appropriation"  clauses which provide
that the municipality  has no obligation to make lease  obligation  payments in
future years unless money is appropriated for such purpose on a yearly basis.

LIQUIDITY

We may invest up to 15% of the  Long-Term,  Intermediate-Term,  and  Short-Term
Funds'  net  assets and up to 10% of the Tax  Exempt  Money  Market  Fund's net
assets  in  securities  that  are  illiquid.   Illiquid  securities  are  those
securities  which  cannot be disposed of in the  ordinary  course of  business,
seven days or less, at approximately the value at which the Fund has valued the
securities.

Lease obligations and certain put bonds subject to restrictions on transfer may
be determined to be liquid in accordance with the guidelines established by the
Funds' Board of Directors.

In determining the liquidity of a lease obligation,  we will consider:  (1) the
frequency  of trades  and quotes  for the lease  obligation;  (2) the number of
dealers  willing to  purchase  or sell the lease  obligation  and the number of
other  potential  purchasers;  (3) dealer  undertakings to make a market in the
lease obligation;  (4) the nature of the marketplace trades, including the time
needed to dispose of the lease obligation, the method of soliciting offers, and
the mechanics of transfer;  (5) whether the lease  obligation is of a size that
will be attractive to institutional investors; (6) whether the lease obligation
contains a  non-appropriation  clause and the likelihood  that the obligor will
fail to make an  appropriation  therefor;  and (7) such other factors as we may
determine to be relevant to such determination.

In determining  the liquidity of put bonds with  restrictions  on transfer,  we
will evaluate the credit  quality of the party (the Put  Provider)  issuing (or
unconditionally  guaranteeing  performance on) the  unconditional put or demand
feature of the put bond.

                                      34
<PAGE>

                                   APPENDIX B

Taxable-Equivalent Yield Table

Assuming a Federal
Marginal Tax Rate of:      28%            31%            36%         39.6%

To Match a
Tax-Free Yield of:       A Fully Taxable Investment Would Have to Pay You:
===============================================================================
        2.00%            2.78%          2.90%          3.13%         3.31%
        2.50%            3.47%          3.62%          3.91%         4.14%
        3.00%            4.17%          4.35%          4.69%         4.97%
        3.50%            4.86%          5.07%          5.47%         5.79%
        4.00%            5.56%          5.80%          6.25%         6.62%
        4.50%            6.25%          6.52%          7.03%         7.45%
        5.00%            6.94%          7.25%          7.81%         8.28%
        5.50%            7.64%          7.97%          8.59%         9.11%
        6.00%            8.33%          8.70%          9.38%         9.93%
        6.50%            9.03%          9.42%         10.16%        10.76%
        7.00%            9.72%         10.14%         10.94%        11.59%
===============================================================================

THIS TABLE IS A  HYPOTHETICAL  ILLUSTRATION  AND SHOULD  NOT BE  CONSIDERED  AN
INDICATION OF FUND PERFORMANCE OF ANY OF THE USAA FAMILY OF FUNDS.

THESE RATES WERE SELECTED AS EXAMPLES THAT WOULD BE RELEVANT TO MOST TAXPAYERS.

FOR A FURTHER EXPLANATION ON CALCULATING  TAX-EQUIVALENT YIELDS, SEE THE FUNDS'
STATEMENT OF ADDITIONAL INFORMATION.

                                      35
<PAGE>

                                   APPENDIX C

USAA Family of No-Load Mutual Funds

The USAA Family of No-Load Mutual Funds includes a variety of Funds,  each with
different objectives and policies. In combination,  these Funds are designed to
provide you with the opportunity to formulate your own investment program.  You
may  exchange  any shares you hold in any one USAA Fund for shares in any other
USAA Fund. For more complete  information  about other Funds in the USAA Family
of Funds,  including  charges and expenses,  call us for a Prospectus.  Read it
carefully before you invest or send money.

  FUNDTYPE/NAME                 VOLATILITY
  ==============================================
  CAPITAL APPRECIATION
  ----------------------------------------------
  Aggressive Growth            Very high
  Emerging Markets1            Very high
  First Start Growth           Moderate to high
  Gold1                        Very high
  Growth                       Moderate to high
  Growth & Income              Moderate
  International1               Moderate to high
  S&P 500 Index2               Moderate
  Science & Technology         Very high
  Small Cap Stock              Very high
  World Growth1                Moderate to high
  ==============================================
  ASSET ALLOCATION
  ----------------------------------------------
  Balanced Strategy1           Moderate
  Cornerstone Strategy1        Moderate
  Growth and Tax Strategy      Moderate
  Growth Strategy1             Moderate to high
  Income Strategy              Low to moderate
  ==============================================
  INCOME - TAXABLE
  ----------------------------------------------
  GNMA                         Low to moderate
  High-Yield Opportunities     High
  Income                       Moderate
  Income Stock                 Moderate
  Intermediate-Term Bond       Low to moderate
  Short-Term Bond              Low
  ==============================================
  INCOME - TAX EXEMPT
  ----------------------------------------------
  Long-Term3                   Moderate
  Intermediate-Term3           Low to moderate
  Short-Term3                  Low
  State Bond/Income3,4         Moderate
  ==============================================
  MONEY MARKET
  ----------------------------------------------
  Money Market5                Very low
  Tax Exempt Money Market3,5   Very low
  Treasury Money Market Trust5 Very low
  State Money Market3,4,5      Very low
  ----------------------------------------------

1 FOREIGN   INVESTING  IS  SUBJECT  TO  ADDITIONAL   RISKS,  SUCH  AS  CURRENCY
  FLUCTUATIONS, MARKET ILLIQUIDITY, AND POLITICAL INSTABILITY.

2 S&P(R)  IS A  TRADEMARK  OF THE  MCGRAW-HILL  COMPANIES,  INC.,  AND HAS BEEN
  LICENSED FOR USE. THE PRODUCT IS NoT SPONSORED,  SOLD OR PROMOTED BY STANDARD
  &  POOR'S,  AND  STANDARD  & POOR'S  MAKES NO  REPRESENTATION  REGARDING  THE
  ADVISABILITY OF INVESTING IN THE PRODUCT.

3 SOME INCOME MAY BE SUBJECT TO STATE OR LOCAL TAXES.

4 CALIFORNIA,  FLORIDA, NEW YORK, TEXAS, AND VIRGINIA FUNDS ARE OFFERED ONLY TO
  RESIDENTS OF THOSE STATES.

5 AN INVESTMENT IN A MONEY MARKET FUND IS NOT INSURED OR GUARANTEED BY THE FDIC
  OR ANY OTHER GOVERNMENT AGENCY. ALTHOUGH THE FUND SEEKS TO PRESERVE THE VALUE
  OF YOUR INVESTMENT AT $1 PER SHARE, IT IS POSSIBLE TO LOSE MONEY BY INVESTING
  IN THE FUND.


                                      36
<PAGE>

If you would like more information about the Funds, you may call 1-800-531-8181
to request a free copy of the Funds' Statement of Additional Information (SAI),
Annual or Semiannual  Reports,  or to ask other questions about the Funds.  The
SAI has been filed with the  Securities  and Exchange  Commission  (SEC) and is
legally a part of the Prospectus. In each Fund's Annual Report, you will find a
discussion  of  the  market   conditions   and   investment   strategies   that
significantly affected the Fund's performance during the last fiscal year.

To view these documents,  along with other related documents, you can visit the
SEC's  Internet  web  site  (http://www.sec.gov)  or  the  Commission's  Public
Reference Room in Washington,  D.C.  Information on the operation of the public
reference room can be obtained by calling 1-800-SEC-0330.  Additionally, copies
of this  information  can be obtained,  for a  duplicating  fee, by writing the
Public Reference Section of the Commission, Washington, D.C. 20549-6009.

                Investment Adviser, Underwriter and Distributor
                       USAA Investment Management Company
                            9800 Fredericksburg Road
                            San Antonio, Texas 78288

      -------------------------------------------------------------------
             Transfer Agent                               Custodian
     USAA Shareholder Account Services      State Street Bank and Trust Company
        9800 Fredericksburg Road                        P.O. Box 1713
        San Antonio, Texas 78288                 Boston, Massachusetts 02105
      -------------------------------------------------------------------
                           Telephone Assistance Hours
                         Call toll free - Central Time
                     Monday - Friday 7:30 a.m. to 8:00 p.m.
                        Saturdays 8:30 a.m. to 5:00 p.m.
      -------------------------------------------------------------------
                   For Additional Information on Mutual Funds
                   1-800-531-8181, (in San Antonio) 456-7211
                For account servicing, exchanges or redemptions
                   1-800-531-8448, (in San Antonio) 456-7202
      -------------------------------------------------------------------
                       Recorded Mutual Fund Price Quotes
                        24-Hour Service (from any phone)
                   1-800-531-8066, (in San Antonio) 498-8066
      -------------------------------------------------------------------
                            Mutual Fund TouchLineSM
                          (from Touchtone phones only)
              For account balance, last transaction or fund prices
                   1-800-531-8777, (in San Antonio) 498-8777

                   INVESTMENT COMPANY ACT FILE NO. 811-3333
<PAGE>

                                     Part A


                               Prospectus for the
                              California Bond and
                         California Money Market Funds
<PAGE>

                             USAA CALIFORNIA FUNDS

                           USAA CALIFORNIA BOND FUND
                       USAA CALIFORNIA MONEY MARKET FUND

                                   PROSPECTUS

                                 AUGUST 1, 1999


Shares of the  California  Funds are offered  only to residents of the state of
California.  The delivery of this Prospectus is not an offer in any state where
shares of the California Funds may not lawfully be made.

As with other mutual funds,  the  Securities  and Exchange  Commission  has not
approved or disapproved of either of these Fund's shares or determined  whether
this  prospectus  is accurate or  complete.  Anyone who tells you  otherwise is
committing a crime.


                               TABLE OF CONTENTS


What Are Each Fund's
   Investment Objectives
   and Main Strategies?...............................................   2
Main Risks of Investing
   in These Funds.....................................................   2
Are These Funds for You?..............................................   3
Could the Value of Your
   Investment in These
   Funds Fluctuate?...................................................   4
Fees and Expenses.....................................................   7
Fund Investments......................................................   8
Fund Management.......................................................  17
Using Mutual Funds in an
   Investment Program.................................................  18
How to Invest.........................................................  19
Important Information
   About Purchases and
   Redemptions........................................................  23
Exchanges.............................................................  24
Shareholder Information...............................................  24
Financial Highlights..................................................  28
Appendix A ...........................................................  30
Appendix B ...........................................................  32
Appendix C............................................................  33


<PAGE>

USAA Investment  Management  Company  manages these Funds.  For easier reading,
USAA  Investment  Management  Company  will  be  referred  to as  "we"  or "us"
throughout the Prospectus.

WHAT ARE EACH FUND'S INVESTMENT OBJECTIVES AND MAIN STRATEGIES?

Each Fund has a common objective of providing  California investors with a high
level of current  interest  income that is exempt from  federal and  California
State income taxes. The California Money Market Fund has a further objective of
preserving capital and maintaining liquidity. Each Fund has separate investment
policies to achieve its objective.

The  CALIFORNIA  BOND FUND  invests  primarily in  long-term,  investment-grade
California tax-exempt securities.  The Fund's average dollar-weighted portfolio
maturity is not restricted, but is expected to be greater than ten years.

The CALIFORNIA MONEY MARKET FUND invests in high-quality, California tax-exempt
securities  with maturities of 397 days or less . In view of the risks inherent
in all  investments  in  securities,  there is no  assurance  that  the  Funds'
objectives  will  be  achieved.  See  FUND  INVESTMENTS  on  page  8  for  more
information.

MAIN RISKS OF INVESTING IN THESE FUNDS

The two primary  risks of  investing  in these Funds are credit risk and market
risk. As with other mutual funds, losing money is also a risk of investing in
these Funds.

*   CREDIT RISK  involves the  possibility  that a borrower  cannot make timely
    interest and principal payments on its securities.

*   MARKET  RISK  involves  the  possibility  that  the  value  of each  Fund's
    investments  will decline  because of an increase in interest  rates, or to
    adverse  changes in supply and demand for  municipal  securities,  or other
    market factors.

The credit and market risks may be magnified  because each Fund concentrates in
California tax-exempt securities.

IF INTEREST RATES INCREASE:  the yield of each Fund may increase and the market
value of the California Bond Fund's  securities will likely decline,  adversely
affecting the net asset value and total return.

IF INTEREST RATES DECREASE:  the yield of each Fund may decrease and the market
value of the California Bond Fund's securities may increase, which would likely
increase  the Fund's net asset value and total  return.  The  California  Money
Market Fund's total return may decrease.

Other risks of investing in these Funds include call risk and structural risk.

                                       2
<PAGE>

As you consider an  investment  in any Fund,  you should also take into account
your tolerance for the daily  fluctuations of the financial markets and whether
you can afford to leave your money in the  investment  for long periods of time
to ride out down periods.

An investment in either Fund is not a deposit of USAA Federal  Savings Bank, or
any other  bank,  and is not  insured  or  guaranteed  by the  Federal  Deposit
Insurance  Corporation or any other government agency.  Although the California
Money  Market Fund seeks to  preserve  the value of your  investment  at $1 per
share, it is possible to lose money by investing in that Fund.

[CAUTION LIGHT GRAPHIC]
Look for this symbol throughout the Prospectus. We use it to mark more detailed
information about the main risks you will face as a Fund shareholder.

ARE THESE FUNDS FOR YOU?

California Bond Fund

This Fund might be appropriate as part of your investment portfolio if . . .

  * You are looking for current income that is exempt from California State
    and federal income taxes.
  * You are willing to accept moderate risk.
  * You are looking for an investment in bonds to balance your stock portfolio.

This Fund MAY NOT be appropriate as part of your investment portfolio if . . .

  * You are unwilling to take greater risk for intermediate-term goals.
  * Your current tax situation does not allow you to benefit from tax-exempt
    income.
  * You are seeking an appropriate  investment  for an IRA,  through a 401(k)
    plan or 403(b) plan, or other tax-sheltered account.

California Money Market Fund

This Fund might be appropriate as part of your investment portfolio if . . .

  * You are looking for current income that is exempt from California State and
    federal income taxes.
  * You need to preserve principal.
  * You want a low-risk investment.
  * You need your money back within a short period.
  * You would like checkwriting privileges on the account.
  * You are looking for an investment in a money market fund
    to balance your stock or long-term bond portfolio.

This Fund MAY NOT be appropriate as part of your investment portfolio if . . .

  * You need a high total return to achieve your goals.
  * Your primary goal is long-term growth.
  * Your current tax  situation does  not allow you  to benefit from tax-exempt
    income.

                                       3
<PAGE>

Either  Fund by itself  does not  constitute  a  balanced  investment  program.
Diversifying  your investments may improve your long-run  investment return and
lower the volatility of your overall investment portfolio.

COULD THE VALUE OF YOUR INVESTMENT IN THESE FUNDS FLUCTUATE?

Yes, it could.  In fact, the value of your  investment in the  California  Bond
Fund will fluctuate with the changing  market values of the  investments in the
Fund.  We manage the  California  Money Market Fund in  accordance  with strict
Securities and Exchange  Commission  guidelines  (SEC) designed to preserve the
Fund's value at $1 per share, although, of course, we cannot guarantee that the
value will remain at $1 per share.

The value of the securities in which the California Bond Fund invests typically
fluctuates  inversely  with  changes in the general  level of  interest  rates.
Changes in the  creditworthiness of issuers and changes in other market factors
such as the  relative  supply of and demand for  tax-exempt  bonds also  create
value fluctuations. The bar charts shown below illustrate the Funds' volatility
and performance from year to year over the life of the Funds.

TOTAL RETURN

[SIDE BAR GRAPHIC]
     TOTAL RETURN MEASURES THE PRICE CHANGE IN A SHARE  ASSUMING THE
     REINVESTMENT OF ALL DIVIDEND INCOME AND CAPITAL GAIN DISTRIBUTIONS.

All mutual funds must use the same formula to calculate total return.

California Bond Fund

[BAR CHART]
                        CALENDAR          TOTAL
                          YEAR            RETURN

                          1990             8.17%
                          1991            10.90%
                          1992             8.29%
                          1993            12.74%
                          1994            -9.32%
                          1995            21.85%
                          1996             5.39%
                          1997            10.33%
                          1998             6.89%

                * Fund began operations on August 1, 1989.

     THE CALIFORNIA BOND FUND'S TOTAL RETURN FOR THE SIX-MONTH PERIOD ENDED
     JUNE 30, 1999, WAS -.--%.

During the periods  shown in the previous bar chart,  the highest  total return
for a quarter was 9.55%  (quarter  ending  March 31, 1995) and the lowest total
return for a quarter was -7.06% (quarter ending March 31, 1994).

                                       4
<PAGE>

The table below shows how the Fund's  average  annual  returns for the one- and
five-year  periods  as well as the  life of the  Fund  compared  to  those of a
broad-based securities market index. Remember,  historical performance does not
necessarily indicate what will happen in the future.

===============================================================================
  Average Annual Total Returns                       Since Fund's
  (for the periods ending        Past      Past      Inception on
  December 31, 1998)            1 Year    5 Years   August 1, 1989
===============================================================================
  California Bond Fund           6.89%     6.55%        7.86%
- -------------------------------------------------------------------------------
  Lehman Bros. Municipal
   Bond Index*                   6.48%     6.22%        7.86%
===============================================================================

 * THE LEHMAN  BROS. MUNICIPAL BOND  INDEX IS AN UNMANAGED  BENCHMARK OF  TOTAL
   RETURN  PERFORMANCE  FOR  THE  LONG-TERM, INVESTMENT-GRADE, TAX-EXEMPT  BOND
   MARKET.

California Money Market Fund

[BAR CHART]
                        CALENDAR          TOTAL
                          YEAR            RETURN

                          1990             5.60%
                          1991             4.39%
                          1992             2.91%
                          1993             2.26%
                          1994             2.58%
                          1995             3.64%
                          1996             3.27%
                          1997             3.35%
                          1998             3.17%

                 *Fund began operations on August 1, 1989.

     THE CALIFORNIA  MONEY MARKET FUND'S TOTAL RETURN FOR THE SIX-MONTH  PERIOD
     ENDED JUNE 30, 1999, WAS _.__%.

During the  periods  shown in the bar chart,  the  highest  total  return for a
quarter was 1.47%  (quarter  ending  December  31,  1989) and the lowest  total
return for a quarter was .51% (quarter ending March 31, 1994).

                                       5
<PAGE>

The table  below  shows the  Fund's  average  annual  returns  for the one- and
five-year  periods  as  well  as the  life of the  Fund.  Remember,  historical
performance does not necessarily indicate what will happen in the future.

===============================================================================
  Average Annual Total Returns                       Since Fund's
  (for the periods ending        Past     Past       Inception on
  December 31, 1998)            1 Year   5 Years    August 1, 1989
===============================================================================
  California Money Market Fund   3.17%     3.20%        3.56%
===============================================================================

YIELD

[SIDE BAR]
     YIELD IS THE ANNUALIZED NET INCOME OF THE FUND DURING A SPECIFIED PERIOD
     AS A PERCENTAGE OF THE FUND'S SHARE PRICE.

     EFFECTIVE YIELD IS CALCULATED SIMILAR TO THE YIELD, HOWEVER, WHEN
     ANNUALIZED, THE INCOME EARNED IS ASSUMED TO BE REINVESTED.

All mutual funds must use the same  formulas to calculate  yield and  effective
yield.

California Bond Fund

The California  Bond Fund may advertise  performance in terms of a 30-day yield
quotation or a  tax-equivalent  yield.  The Fund's  30-day yield for the period
ended December 31, 1998, was 4.13%.

California Money Market Fund

The California Money Market Fund typically advertises performance in terms of a
7-day yield and effective yield or tax-equivalent yield and may advertise total
return. The 7-day yield quotation more closely reflects current earnings of the
Fund than the total  return  quotation.  The  effective  yield will be slightly
higher  than  the  yield  because  of the  compounding  effect  of the  assumed
reinvestment. Current yields and effective yields fluctuate daily and will vary
with factors such as interest rates and the quality, length of maturities,  and
type of  investments  in the  portfolio.  The Fund's 7-day yield for the period
ended December 31, 1998, was 3.29%.

You may obtain the most current  yield  information  for either of the Funds by
calling 1-800-531-8777.

TAX-EQUIVALENT YIELD

Investors use  tax-equivalent  yields to compare  taxable and tax-exempt  fixed
income investments using a common yield measure.  The  tax-equivalent  yield is
the  yield  that a fully  taxable  investment  must  generate  to earn the same
"take-home" yield as a tax-exempt investment. The calculation depends upon your
federal and California  marginal  income tax rates and assumes that an investor
can fully itemize  deductions on his or her federal tax return. The higher your
marginal tax bracket,  the higher will be the tax-equivalent yield and the more
valuable is the Fund's tax exemption.

                                       6
<PAGE>

For  example,  if you  assume a  federal  marginal  tax rate of 36% and a state
marginal tax rate of 9.30%,  the  Effective  Marginal Tax Rate would be 41.95%.
Using this tax rate,  the Funds'  tax-equivalent  yields for the period  ending
December 31, 1998, would be as follows:

===============================================================================
                                                       Tax-Equivalent
                                             Yield          Yield
===============================================================================
  California Bond Fund (30 day)              4.13%          7.11%
  California Money Market Fund (7 day)       3.29%          5.67%
===============================================================================

Using the example, to exceed the 30-day yield of the California Bond Fund on an
after-tax basis, you must find a fully taxable investment that yields more than
7.11%. Likewise, to exceed the 7-day yield of the California Money Market Fund,
you must find a fully taxable investment that yields more than 5.67%.

For more information on calculating  tax-equivalent  yields,  see APPENDIX B on
page 33.

[SIDE BAR GRAPHIC]
                                  TouchLineSM
                                1-800-831-8777
                                     press
                                       1
                                     then
                                       1
                                     then
                                    6, 1, #

Please  consider  performance  information  in light of the  Funds'  investment
objectives and policies and market conditions during the reported time periods.
The value of your shares may go up or down. For the most current price,  yield,
and  return  information  for these  Funds,  you may call USAA  TouchLineSM at
1-800-531-8777.  Press 1 for the Mutual  Fund Menu,  press 1 again for  prices,
yields, and returns.  Then, press 60# for the California Bond Fund or press 61#
for the California Money Market Fund when asked for a Fund Code.

[SIDE BAR]
                                  CALIFORNIA
                                   BOND FUND
                               NEWSPAPER SYMBOL
                                     CA Bd

                                    TICKER
                                    SYMBOLS
                                     USCBX
                                     UCAXX

You can also find the most current price of your shares in the business section
of your newspaper in the mutual fund section under the heading "USAA Group" and
the symbol "CA Bd" for the  California  Bond Fund. If you prefer to obtain this
information from an on-line computer service, you can do so by using the ticker
symbol  "USCBX" for the  California  Bond Fund or the ticker symbol "UCAXX" for
the California Money Market Fund.

FEES AND EXPENSES

This summary shows what it will cost you, directly or indirectly,  to invest in
the Funds.

Shareholder Transaction Expenses -- (Direct Costs)

There are no fees or sales loads  charged to your  account when you buy or sell
Fund  shares.  However,  if you sell  shares  and  request  your  money by wire
transfer,  there is a $10 fee.  (Your bank may also charge a fee for  receiving
wires.)

                                       7
<PAGE>

Annual Fund Operating Expenses -- (Indirect Costs)

Fund  expenses  come out of the Funds'  assets and are  reflected in the Funds'
share prices and dividends. "Other Expenses" include expenses such as custodian
and transfer agent fees. The figures below show actual expenses during the past
fiscal year ended March 31, 1999, and are calculated as a percentage of average
net assets.

[SIDE BAR]
     12-b Fees- SOME MUTUAL FUNDS CHARGE THESE FEES TO PAY FOR ADVERTISING AND
     OTHER COSTS OF SELLING FUND SHARES.

===============================================================================
                                          California    California Money
                                          Bond Fund       Market Fund
===============================================================================

  Management Fees                           .32%           .32%
  Distribution (12b-1) Fees                 None           None
  Other Expenses                            .07%           .10%
                                            ----           ----
  Total Annual Fund Operating Expenses      .39%           .42%
                                            ====           ====
===============================================================================

Example of Effect of the Funds' Operating Expenses

This example  provides  you a comparison  of investing in one of the Funds with
the cost of investing in other mutual funds.  Although your actual costs may be
higher or lower, you would pay the following expenses on a $10,000  investment,
assuming (1) 5% annual return,  (2) the Fund's  operating  expenses  remain the
same, and (3) you redeem all of your shares at the end of those periods shown.

===============================================================================
                         California        California Money
                          Bond Fund          Market Fund
===============================================================================
         1 year          $   40               $   43
         3 years            125                  135
         5 years            219                  235
        10 years            493                  530
===============================================================================

FUND INVESTMENTS

Principal Investment Strategies and Risks

 Q   What is each Fund's principal investment strategy?

 A   Each  Fund's  principal investment strategy is to invest the Fund's assets
     in  securities,  the interest  from which,  in the opinion of counsel,  is
     excluded  from gross income for federal  income tax purposes and is exempt
     from California State income taxes.

                                       8
<PAGE>

     These securities  include municipal debt obligations that have been issued
     by California and its political  subdivisions,  and duly constituted state
     and local  authorities and  corporations.  We refer to these securities as
     California  tax-exempt  securities.  California  tax-exempt securities are
     issued  to  fund  public  infrastructure  projects  such  as  streets  and
     highways,  schools, water and sewer systems, hospitals, and airports. They
     may also be  issued to  refinance  outstanding  obligations  as well as to
     obtain funds for general operating  expenses and for loans to other public
     institutions and facilities.

     Because the projects  benefit the public,  Congress has granted  exemption
     from  federal  income  taxes for the  interest  income  arising from these
     securities.  Likewise, the California Legislature has granted an exemption
     from state personal income taxes for most California municipal securities.

 Q   What types of  tax-exempt  securities  will be  included  in each Fund's
     portfolio?

 A   Each  Fund's  assets may be invested in any of the  following tax-exempt
     securities:

       *   general obligation bonds which are secured by the issuer's pledge of
           its  full  faith,  credit,  and  taxing  power  for the  payment  of
           principal and interest;

       *   revenue  bonds which are payable  from the  revenue  derived  from a
           particular  facility or class of facilities or, in some cases,  from
           the  proceeds  of a special  excise  tax or other  specific  revenue
           source, but not from the general taxing power;

       *   lease obligations  backed by the  municipality's  covenant to budget
           for the payments due under the lease obligation;

       *   synthetic  instruments,  which  combine a  municipality's  long-term
           obligation  to pay interest  and  principal  with  another  person's
           obligation to repurchase the instrument on short notice; and

       *   industrial  development  bonds  issued  by or on  behalf  of  public
           authorities to obtain funds for privately-operated facilities.

     As a temporary defensive measure because of market,  economic,  political,
     or other  conditions,  we may invest up to 100% of each  Fund's  assets in
     short-term  securities  whether or not they are exempt from federal income
     tax and California State taxes. To the extent that

                                       9
<PAGE>
     these temporary investments produce taxable income, that income may result
     in that Fund not fully achieving its investment  objective during the time
     it is in this temporary defensive posture.

 Q   What are the principal  risks associated  with  investments  in tax-exempt
     securities?

 A   The two principal  risks of investing in tax-exempt  securities are credit
     risk and market risk.

     [CAUTION LIGHT GRAPHIC]
     CREDIT  RISK.  Credit  risk is the  possibility  that an issuer of a fixed
     income  security  will  fail  to  make  timely  payments  of  interest  or
     principal.  We attempt to minimize the Funds' credit risks by investing in
     securities  considered at least  investment grade at the time of purchase.
     Nevertheless,  even investment-grade securities are subject to some credit
     risk. In addition,  the ratings of securities  are estimates by the rating
     agencies of the credit quality of the securities. The ratings may not take
     into account every risk related to whether  interest or principal  will be
     repaid on a timely basis.

     When evaluating  potential  investments  for the Funds,  our analysts also
     independently  assess credit risk and its impact on the Funds' portfolios.
     Securities  in the lowest  investment  grade ratings  category  (BBB) have
     speculative  characteristics.  Changes  in  economic  conditions  or other
     circumstances  are more  likely to lead to a weakened  capability  to make
     principal and interest  payments on these  securities than is the case for
     higher-rated securities.

     [CAUTION LIGHT GRAPHIC]
     MARKET RISK. As a mutual fund investing in bonds, the Funds are subject to
     the risk that the market value of the bonds will decline because of rising
     interest rates.  Bond prices are linked to the prevailing  market interest
     rates. In general,  when interest rates rise, the prices of bonds fall and
     when interest rates fall, bond prices generally rise. The price volatility
     of a bond also depends on its maturity. Generally, the longer the maturity
     of a bond, the greater its  sensitivity to interest  rates.  To compensate
     investors  for this  higher  market  risk,  bonds with  longer  maturities
     generally offer higher yields than bonds with shorter maturities.

     [CAUTION LIGHT GRAPHIC]
 Q   What is Call Risk?

 A   Many municipal bonds may be "called," or redeemed,  by  the issuer  before
     the stated  maturity.  During a period of  declining  interest  rates,  an
     issuer  would call,  or  refinance,  a higher  yielding  bond for the same
     reason that a homeowner  would  refinance a home mortgage.  Interest rates
     must drop  sufficiently  so that the savings  more than offset the cost of
     refinancing.

                                      10
<PAGE>

     Intermediate-  and long-term  municipal bonds have the greatest call risk,
     because most municipal  bonds may not be called until after ten years from
     the date of  issue.  The  period  of "call  protection"  may be  longer or
     shorter than ten years,  but regardless,  bonds  purchased  closest to the
     date of issue will have the most call  protection.  Typically,  bonds with
     original maturities of ten years or less are not callable.

     Although  investors  certainly  appreciate  the rise in bond  prices  when
     interest  rates  drop,  falling  interest  rates  create  the  environment
     necessary to "call" the  higher-yielding  bonds from your Fund. When bonds
     are called,  the Fund is impacted in several  ways.  Most likely,  we must
     reinvest the bond-call proceeds at lower interest rates. The Fund's income
     may drop as a result. The Fund may also realize a taxable capital gain.

     [CAUTION LIGHT GRAPHIC]
 Q   What is structural risk?

 A   Some  tax-exempt  securities,  referred to as "synthetic instruments," are
     created by combining a long-term  municipal  bond with a right to sell the
     instrument back to the remarketer or liquidity  provider for repurchase on
     short notice, referred to as a "tender option." Usually, the tender option
     is backed by a letter of credit  or  similar  guarantee  from a bank.  The
     guarantee,  however,  is  conditional,  which  means  that the bank is not
     required  to  pay  under  the  guarantee  if  there  is a  default  by the
     municipality or if certain other events occur.  These types of instruments
     involve  special  risks,  referred to as  "structural  risk." For example,
     because of the structure of a synthetic  instrument,  there is a risk that
     the instrument  will lose its tax-exempt  treatment or that we will not be
     able to  exercise  our tender  option.  We will not  purchase a  synthetic
     instrument  unless  counsel has issued an opinion that the  instrument  is
     entitled to  tax-exempt  treatment.  In  addition,  we will not purchase a
     synthetic  instrument  for the  Tax-Exempt  Money  Market  Fund  unless we
     believe  there is only  minimal  risk that we will not be able to exercise
     our tender option at all times.

 Q   What  percentage  of each Fund's  assets will be  invested in California
     tax-exempt securities?

 A   During normal market conditions,  at least 80% of each  Fund's net  assets
     will consist of California tax-exempt  securities.  This  policy  may only
     be changed by a shareholder vote.

     In addition to  California  tax-exempt  securities,  securities  issued by
     certain U.S.  territories and possessions  such as Puerto Rico, the Virgin
     Islands, and Guam are exempt from federal and state

                                      11
<PAGE>
     personal income taxes; and as such, we may consider investing up to 20% of
     each Fund's assets in these securities.

 Q   Are each Fund's investments diversified in many different issuers?

 A   Each  Fund is  considered  diversified under the federal  securities laws.
     This  means that we will not  invest  more than 5% in any one issuer  with
     respect to 75% of each Fund's assets. With respect to the remaining 25% of
     each  Fund's  assets,  we could  invest  more than 5% in any one, or more,
     issuers.  Purchases  of  securities  issued  or  guaranteed  by  the  U.S.
     Government or its agencies or instrumentalities are not counted toward the
     5%  limitation.  Each Fund,  of  course,  is  concentrated  geographically
     through the purchase of California tax-exempt securities.

     With respect to the California Money Market Fund, strict SEC guidelines do
     not permit us to invest, with respect to 75% of the Fund's assets, greater
     than 10% of the  Fund's  assets  in  securities  issued by or  subject  to
     guarantees by the same institution.

     We also may not invest  more than 25% of the Funds'  assets in  securities
     issued  in  connection   with  the  financing  of  projects  with  similar
     characteristics,  such as toll road revenue bonds,  housing revenue bonds,
     or electric power project  revenue bonds,  or in industrial  revenue bonds
     which are based, directly or indirectly, on the credit of private entities
     of any one industry. However, we reserve the right to invest more than 25%
     of the Funds'  assets in  tax-exempt  industrial  revenue  bonds.  The 25%
     industry  limitation does not apply to general  obligation  bonds or bonds
     that are escrowed in U.S. Government securities.

     [CAUTION LIGHT GRAPHIC]
 Q   What are the potential risks  associated  with  concentrating such a large
     portion of each Fund's assets in one state?

 A   The  Funds are subject  to credit and market  risks,  as described  above,
     which could be magnified by the Funds' concentration in California issues.
     California tax-exempt  securities may be affected by political,  economic,
     regulatory,  or other  developments  that limit the ability of  California
     issuers to pay interest or repay principal in a timely manner.  Therefore,
     the Funds are  affected  by events  within  California  to a much  greater
     degree than a more diversified national fund.

     A particular development may not directly relate to the Funds' investments
     but  nevertheless   might  depress  the  entire  market  for  the  state's
     tax-exempt securities and therefore adversely impact the Funds' valuation.

                                      12
<PAGE>

     An investment in the  California  Money Market Fund may be riskier than an
     investment   in  other  types  of  money  market  funds  because  of  this
     concentration.

     The  following  are  examples  of just some of the events that may depress
     valuations for California  tax-exempt securities for an extended period of
     time:

       * Changes in state laws,  including  voter  referendums,  that  restrict
         revenues or raise costs for issuers.

       * Court  decisions that affect a category of municipal  bonds,  such as
         municipal lease obligations or electric utilities.

       * Natural disasters such as floods, storms, hurricanes, droughts, fires,
         or earthquakes.

       * Bankruptcy  or  financial  distress of a prominent  municipal  issuer
         within the state.

       * Economic issues that impact critical  industries or large employers or
         that weaken real estate prices.

       * Reductions in federal or state financial aid.

       * Imbalance  in  the  supply  and  demand  for  the  state's  municipal
         securities.

       * Developments   that  may  change  the  tax  treatment  of  California
         tax-exempt securities.

     In addition,  because each Fund invests in securities  backed by banks and
     other  financial  institutions,  changes  in the  credit  quality of these
     institutions could cause losses to a Fund and affect its share price.

     Other  considerations  affecting  the  Funds'  investments  in  California
     tax-exempt  securities  are  summarized  in the  Statement  of  Additional
     Information under SPECIAL RISK CONSIDERATIONS.

 Q   Will any portion of the distributions from the Funds be subject to federal
     income taxes?

 A   During  normal  market  conditions,  at least  80% of  each Fund's  annual
     income will be excluded from gross income for federal  income tax purposes
     and will be exempt from  California  State income  taxes.  This policy may
     only be changed by a shareholder vote. We expect that any taxable interest
     income distributed will be minimal.

     However,  gains and losses from trading  securities  that occur during the
     normal   course  of   managing  a  fund  may  create  net   capital   gain
     distributions.  The Internal Revenue Code presently

                                      13
<PAGE>
     treats these distributions differently than tax-exempt interest  income in
     the following ways:

       * Distributions of net short-term  capital gains are taxable as ordinary
         income.

       * Distributions of net long-term  capital gains are taxable as long-term
         capital  gains,  regardless  of the  length of time  you have held the
         Fund shares.

       * Both  short-term  and  long-term  capital  gains are taxable  whether
         received in cash or reinvested in additional shares.

 Q   Will income from the Funds be subject to the  federal alternative  minimum
     tax (AMT) for individuals?

 A   During  normal  market  conditions,  at least  80%  of each Fund's  annual
     income will be excluded from the  calculation  of the federal  alternative
     minimum  tax (AMT) for  individuals.  This policy may only be changed by a
     shareholder  vote.  Since  inception,  the Funds have not  distributed any
     income that is subject to the federal AMT for  individuals,  and we do not
     intend to invest in  securities  subject to the federal AMT.  However,  of
     course,  changes in  federal  tax laws or other  unforeseen  circumstances
     could result in income subject to the federal AMT for individuals.

California Bond Fund

 Q   What is the credit quality of the Fund's investments?

 A   Under normal  market  conditions, we will invest the Fund's assets so that
     at least 50% of the total market  value of the  tax-exempt  securities  is
     rated within the three highest  long-term rating  categories (A or higher)
     by Moody's Investors Service,  Inc.  (Moody's),  Standard & Poor's Ratings
     Group  (S&P),  or Fitch IBCA,  Inc.  (Fitch) or in the highest  short-term
     rating  category by Moody's,  S&P, or Fitch; or if a security is not rated
     by these  rating  agencies,  we must  determine  that the  security  is of
     equivalent investment quality.

     In no event will we purchase a security for the Fund unless it is rated at
     least  investment   grade  at  the  time  of  purchase.   Investment-grade
     securities are those  securities  rated within the four highest  long-term
     rating  categories  by  Moody's  (Baa or  higher),  S&P,  or Fitch (BBB or
     higher),  or in the two  highest  short-term  rating  categories  by these
     rating agencies;  or if unrated by these agencies,  we must determine that
     the securities are of equivalent investment quality.

                                      14
<PAGE>
     You will find a complete  description of the above  tax-exempt  ratings in
     the Fund's Statement of Additional Information.

 Q   What happens if the rating of a security is  downgraded  below  investment
     grade?

 A   We will  determine  whether  it  is  in the best  interest  of the  Fund's
     shareholders to continue to hold the security in the Fund's portfolio.  If
     downgrades  result in more than 5% of the Fund's net assets being invested
     in securities that are less than  investment-grade  quality,  we will take
     immediate action to reduce the Fund's holdings in such securities to 5% or
     less of the Fund's net assets,  unless otherwise  directed by the Board of
     Directors.

 Q   How are the decisions to buy and sell securities made?

 A   We manage  tax-exempt  funds  based on the  common sense  premise that our
     investors value tax-exempt income over taxable capital gain distributions.
     When weighing the decision to buy or sell a security, we strive to balance
     the value of the tax-exempt income, the credit risk of the issuer, and the
     price volatility of the bond.

 Q   What is the Fund's average portfolio maturity and how is it calculated?

 A   While the Fund's average portfolio maturity is not  restricted, we  expect
     it to be greater than ten years. To determine  a security's  maturity  for
     purposes of calculating the  Fund's average  portfolio  maturity,  we  may
     estimate the  expected  time in which  the  security's  principal is to be
     paid. This can be  substantially  shorter than  its stated final maturity.
     For more  information  on the  method of  calculating  the Fund's  average
     weighted  portfolio  maturity,  see  INVESTMENT  POLICIES  in  the  Fund's
     Statement of Additional Information.

California Money Market Fund

 Q   What is the credit quality of the Fund's investments?

 A   The Fund's investments consist of  securities meeting the  requirements to
     qualify as "eligible securities" under the SEC  rules applicable  to money
     market  funds. In general,  an eligible security is  defined as a security
     that is:

       * issued  or  guaranteed  by  the  U.S.  Government or  any  agency  or
         instrumentality  thereof,  including  "prerefunded"  and  "escrowed to
         maturity" tax-exempt securities;

                                      15
<PAGE>
       * rated  or  subject  to a  guarantee  that is  rated in  one of the two
         highest  categories  for  short-term   securities  by  at  least  two
         Nationally Recognized Statistical  Rating  Organizations  (NRSROs), or
         by one NRSRO if the security is rated  by only  one NRSRO;

       * unrated but issued by an issuer or  guaranteed by a guarantor that has
         other comparable short-term debt obligations so rated; or

       * unrated but determined by us to be of comparable quality.

     In addition,  we must consider  whether a particular  investment  presents
     minimal credit risk.

 Q   Who are the Nationally Recognized Statistical Rating Organizations?

 A   Current NRSROs include:

       * Moody's Investors Service,  Inc.;
       * Standard & Poor's Ratings Group;
       * Fitch IBCA, Inc.;
       * Duff & Phelps Inc.; and
       * Thompson BankWatch, Inc.

 Q   What happens if the rating of a security is downgraded?

 A   If the  rating  of  a  security  is  downgraded  after  purchase,  we will
     determine whether it is in the  best interest  of the Fund's  shareholders
     to continue to hold the security in the Fund's portfolio.

 Q   Will the Fund always maintain a net asset value of $1 per share?

 A   While we will endeavor to  maintain a constant  Fund net asset value of $1
     per  share,  there  is  no  assurance  that  we  will  be  able to  do so.
     Remember,  the  shares are  neither  insured  nor  guaranteed  by the U.S.
     Government. As such, the Fund carries some risk.

     For example,  there is always a risk that the issuer of a security held by
     the Fund will fail to pay  interest or  principal  when due. We attempt to
     minimize this credit risk by investing only in securities  rated in one of
     the two highest categories for short-term securities, or, if not rated, of
     comparable  quality,  at the time of purchase.  Additionally,  we will not
     purchase  a security  unless  our  analysts  determine  that the  security
     presents minimal credit risk.

     There is also a risk that  rising  interest  rates will cause the value of
     the Fund's  securities  to decline.  We attempt to minimize  this interest
     risk by limiting  the  maturity  of each  security to 397 days

                                      16
<PAGE>
[SIDE BAR]
     DOLLAR WEIGHTED AVERAGE PORTFOLIO  MATURITY IS OBTAINED BY MULTIPLYING THE
     DOLLAR  VALUE  OF  EACH  INVESTMENT  BY THE  NUMBER  OF  DAYS  LEFT TO ITS
     MATURITY, THEN ADDING THOSE FIGURES TOGETHER AND DIVIDING THE TOTAL BY THE
     DOLLAR VALUE OF THE FUND'S PORTFOLIO.

     or less and maintaining a dollar-weighted  average portfolio  maturity for
     the Fund of 90 days or less.

     Finally, there is the possibility that one or more investments in the Fund
     cease to be "eligible securities" resulting in the net asset value ceasing
     to be $1 per share.  For  example,  a guarantor  on a security may fail to
     meet a contractual obligation.

 Q   How are the decisions to buy and sell securities made?

 A   We balance  factors such as credit  quality and maturity  to  purchase the
     best  relative  value  available in the market at  any given  time.  While
     rare,  sell  decisions  are  usually  based  on  a change  in  our  credit
     analysis or to take  advantage  of an  opportunity to reinvest at a higher
     yield.

For additional  information  about other securities in which we may invest each
Fund's assets, see APPENDIX A on page 31.

FUND MANAGEMENT

USAA  Investment  Management  Company serves as the manager and  distributor of
these  Funds.  We are an affiliate of United  Services  Automobile  Association
(USAA), a large, diversified financial services institution.  As of the date of
this  Prospectus,  we had  approximately  $__  billion  in total  assets  under
management.  Our mailing address is 9800  Fredericksburg  Road, San Antonio, TX
78288.

We provide management  services to the Funds pursuant to an Advisory Agreement.
We are responsible for managing the Funds' portfolios  (including  placement of
brokerage orders) and their business  affairs,  subject to the authority of and
supervision  by the Board of Directors.  For our services,  the Funds pay us an
annual fee. This fee, which is accrued daily and paid monthly, is computed as a
percentage of the aggregate average net assets of both Funds combined. This fee
is allocated  between the Funds based on the  relative net assets of each.  The
fee is computed  at one-half of one percent  (.50%) of the first $50 million of
average  net  assets,  two-fifths  of one  percent  (.40%) for that  portion of
average net assets over $50 million but not over $100 million, and three-tenths
of one percent (.30%) for that portion of average net assets over $100 million.
The fees we received  for the fiscal year ended March 31,  1999,  were equal to
 .32% of average net assets for the California Bond Fund and .32% of average net
assets for the California  Money Market Fund. We also provide  services related
to selling the Funds' shares and receive no compensation for those services.

                                      17
<PAGE>

Although our officers and employees,  as well as those of the Funds, may engage
in personal securities transactions, they are restricted by the procedures in a
Joint Code of Ethics adopted by the Funds and us.

Portfolio Managers

CALIFORNIA BOND FUND
[PHOTOGRAPH PORTFOLIO MANAGER]
ROBERT R. PARISEAU

Robert R. Pariseau,  Assistant Vice President of Fixed Income Investments,  has
managed  the  Fund  since  May  1995.  He has 15  years  investment  management
experience working for us. Mr. Pariseau earned the Chartered  Financial Analyst
(CFA)  designation  in 1987 and is a member of the  Association  for Investment
Management and Research (AIMR),  San Antonio Financial  Analysts Society,  Inc.
(SAFAS),  and the National Federation of Municipal Analysts (NFMA). He holds an
MBA from Lindenwood College and a BS from the U.S. Naval Academy.

CALIFORNIA MONEY MARKET FUND
[PHOTOGRAPH PORTFOLIO MANAGER]
REGINA G. SHAFER

Regina G. Shafer,  Assistant Vice President of Money Market Funds,  has managed
the Fund since April 1999. She has four years investment  management experience
and has  worked  for us for  eight  years.  Ms.  Shafer is a  Certified  Public
Accountant and earned the CFA  designation in 1998. She is a member of AIMR and
SAFAS.  She holds an MBA from the  University of Texas at San Antonio and a BBA
from Southwest Texas State University.


USING MUTUAL FUNDS IN AN INVESTMENT PROGRAM

I. The Idea Behind Mutual Funds

Mutual funds provide small investors some of the advantages  enjoyed by wealthy
investors.  A  relatively  small  investment  can  buy  part  of a  diversified
portfolio. That portfolio is managed by investment professionals, relieving you
of the  need to make  individual  stock  or bond  selections.  You  also  enjoy
conveniences,  such as daily  pricing,  liquidity,  and in the case of the USAA
Family of Funds, no sales charge. The portfolio, because of its size, has lower
transaction  costs on its trades than most individuals would have. As a result,
you own an investment  that in earlier times would have been  available only to
very wealthy people.

                                      18
<PAGE>

II. Using Funds in an Investment Program

In  choosing a mutual  fund as an  investment  vehicle,  you are giving up some
investment decisions,  but must still make others. The decisions you don't have
to make are those involved with choosing individual securities. We will perform
that function.  In addition, we will arrange for the safekeeping of securities,
auditing the annual financial  statements,  and daily valuation of the Fund, as
well as other functions.

You,  however,  retain  at  least  part of the  responsibility  for an  equally
important  decision.  This decision involves  determining a portfolio of mutual
funds that balances your  investment  goals with your tolerance for risk. It is
likely that this decision may include the use of more than one fund of the USAA
Family of Funds.

For example,  assume you wish to pursue the higher yields usually  available in
the long-term bond market,  but you are also concerned about the possible price
swings of the long-term bonds.  You could divide your  investments  between the
California Bond Fund and the California  Money Market Fund. This would create a
portfolio with a higher yield than that of the money market and less volatility
than that of the long-term market. This is just one way you could combine funds
to fit your own risk and reward goals.

III. USAA's Family of Funds

We offer you  another  alternative  with our  asset  strategy  funds  listed in
APPENDIX C under asset allocation on page 34. These unique mutual funds provide
a  professionally  managed,  diversified  investment  portfolio within a mutual
fund.  Designed for the individual who prefers to delegate the asset allocation
process to an investment  manager,  their  structure  achieves  diversification
across a number of investment categories.

Whether you prefer to create  your own mix of mutual  funds or use a USAA Asset
Strategy  Fund,  the USAA  Family of Funds  provides  a broad  range of choices
covering just about any investor's  investment  objectives.  Our member service
representatives  stand  ready to assist you with your  choices  and to help you
craft a  portfolio  to meet your  needs.  Refer to  APPENDIX C on page 34 for a
complete list of the USAA Family of No-Load Mutual Funds.

HOW TO INVEST

Purchase of Shares

OPENING AN ACCOUNT

You may open an account and make an investment  as described  below by mail, in
person,  bank wire,  electronic  funds  transfer  (EFT),  or phone. A complete,
signed application is required to open your initial account. However, after

                                      19
<PAGE>

you open  your initial account  with us,  you will not need to fill out another
application to open another Fund unless the registration is different.

TAX ID NUMBER

Each shareholder  named on the account must provide a social security number or
tax identification number to avoid possible withholding requirements.

EFFECTIVE DATE

When you make a purchase, your purchase price will be the net asset value (NAV)
per share next  determined  after we receive your request in proper form.  Each
Fund's NAV is determined at the close of the regular trading session (generally
4:00 p.m. Eastern Time) of the New York Stock Exchange (NYSE) each day the NYSE
is open.  If we receive  your  request  and  payment  prior to that time,  your
purchase price will be the NAV per share determined for that day. If we receive
your  request or payment  after the NAV per share is  calculated,  the purchase
will be effective on the next business day.

If you plan to  purchase  Fund  shares  with a foreign  check,  we suggest  you
convert your foreign check to U.S.  dollars prior to investment in a Fund. This
will avoid a potential  delay in the  effective  date of your purchase of up to
four to six weeks.  Furthermore,  a bank charge may be assessed in the clearing
process, which will be deducted from the amount of the purchase.

MINIMUM INVESTMENTS

INITIAL PURCHASE
[MONEY GRAPHIC]

 *   $3,000. Employees of USAA and its affiliated companies may open an account
     through  payroll  deduction  for as little as $25 per pay  period  with no
     initial investment.

 ADDITIONAL PURCHASES

 *   $50 (Except  transfers from brokerage  accounts into the California  Money
     Market Fund, which are exempt from the minimum).

 HOW TO PURCHASE

 MAIL
[EVENLOPE GRAPHIC]

 *   To open an account, send your application and check to:
       USAA Investment Management Company
       9800 Fredericksburg Road
       San Antonio, TX 78288
*    To add to your account, send your check and the "Invest by Mail" stub that
     accompanies your Fund's transaction confirmation to the Transfer Agent:
       USAA Shareholder Account Services
       9800 Fredericksburg Road
       San Antonio, TX 78288

                                      20
<PAGE>

 IN PERSON
[HANDSHAKE GRAPHIC]

 *   To open an account, bring your application and check to:
       USAA Investment Management Company
       USAA Federal Savings Bank
       10750 Robert F. McDermott Freeway
       San Antonio, TX 78288

 BANK WIRE
[WIRE GRAPHIC]

 *   To open or add to your account, instruct your bank (which may charge a fee
     for the service) to wire the specified amount to the Fund as follows:
       State Street Bank and Trust Company
       Boston, MA 02101
       ABA#011000028
       Attn: USAA California Fund Name
       USAA Account Number: 69384998
       Shareholder(s) Name(s)_________________________________
       Shareholder(s) Mutual Fund Account Number______________

ELECTRONIC FUNDS TRANSFER
[CALENDAR GRAPHIC]

 *   Additional  purchases  on a  regular  basis  can be  deducted  from a bank
     account, paycheck,  income-producing investment, or USAA money market fund
     account.  Sign up for these  services  when  opening  an  account  or call
     1-800-531-8448 to add these services.

PHONE 1-800-531-8448
[TELEPHONE GRAPHIC]

 *   If you have an existing  USAA mutual fund account and would like to open a
     new account or exchange to another USAA Fund,  call for  instructions.  To
     open an account by phone, the new account must have the same  registration
     as your existing account.


Redemption of Shares

You may redeem Fund shares by any of the methods described below on any day the
NAV per share is calculated.  Redemptions are effective on the day instructions
are received in a manner as  described  below.  However,  if  instructions  are
received  after  the NAV per share  calculation  (generally  4:00 p.m.  Eastern
Time), redemption will be effective on the next business day.

We will send you your  money  within  seven days  after the  effective  date of
redemption.  Payment for redemption of shares purchased by EFT or check is sent
after the EFT or check has  cleared,  which  could  take up to 15 days from the
purchase date. If you are considering redeeming shares soon after purchase, you
should  purchase by bank wire or certified  check to avoid

                                      21
<PAGE>

delay.  For federal income tax purposes,  a redemption is a taxable event;  and
as such, you may realize a capital gain or loss.  Such capital  gains or losses
are based on the difference between your cost basis in the shares and the price
received  upon redemption.

In  addition,  the Funds  may  elect to  suspend  the  redemption  of shares or
postpone the date of payment in limited circumstances.


HOW TO REDEEM

WRITTEN, FAX, TELEGRAM, OR TELEPHONE
[FAX MACHINE GRAPHIC]

 *   Send your written instructions to:
       USAA Shareholder Account Services
       9800 Fredericksburg Road
       San Antonio, TX 78288
 *   Send  a  signed  fax  to  1-800-292-8177,  or  send  a  telegram  to  USAA
     Shareholder Account Services.
 *   Call toll free 1-800-531-8448, in San Antonio, 456-7202.

Telephone redemption privileges are automatically established when you complete
your application.  The Fund will employ  reasonable  procedures to confirm that
instructions  communicated by telephone are genuine; and if it does not, it may
be liable for any losses due to unauthorized or fraudulent instructions. Before
any discussion regarding your account,  the following  information is obtained:
(1)  USAA  number  and/or  account  number,  (2)  the  name(s)  on the  account
registration,  and (3)  social  security/tax  identification  number or date of
birth  of  the  registered  account  owner(s)  for  the  account  registration.
Additionally,   all  telephone   communications   with  you  are  recorded  and
confirmations of account transactions are sent to the address of record. If you
were issued stock certificates for your shares,  redemption by telephone,  fax,
or telegram is not available.

CHECKWRITING
[CHECK GRAPHIC]

 *   Checks can be issued for your California Money Market Fund account. Return
     a signed signature card, which accompanies your application,  or request a
     signature card separately and return it to:
       USAA Shareholder Account Services
       9800 Fredericksburg Road
       San Antonio, TX 78288

You will not be charged for the use of checks or any subsequent reorders.  Your
checkwriting  privilege  is subject to State  Street  Bank and Trust  Company's
rules and regulations governing checking accounts.  You may write checks in the
amount of $250 or more.  Checks  written  for less  than $250 will be  returned
unpaid.  Because the value of your account  changes daily as dividends  accrue,
you may not write a check to close your account.

                                      22
<PAGE>

IMPORTANT INFORMATION ABOUT
PURCHASES AND REDEMPTIONS

Investor's Guide to USAA Mutual Fund Services
[INVESTOR GUIDE GRAPHIC]

Upon your initial  investment with us, you will receive the INVESTOR'S GUIDE to
help you get the most out of your USAA mutual fund account and to assist you in
your role as an investor.  In the INVESTOR'S  GUIDE,  you will find  additional
information on purchases,  redemptions,  and methods of payment.  You will also
find in-depth information on automatic investment plans, shareholder statements
and reports, and other useful information.

Account Balance

USAA Shareholder  Account Services (SAS), the Funds' transfer agent, may assess
annually a small balance account fee of $12 to each shareholder  account with a
balance,  at the time of assessment,  of less than $2,000.  The fee will reduce
total transfer  agency fees paid by the Fund to SAS.  Accounts  exempt from the
fee include: (1) any account regularly purchasing  additional shares each month
through an automatic  investment  plan;  (2) any account  registered  under the
Uniform  Gifts/Transfers  to Minors Act  (UGMA/UTMA);  (3) all (non-IRA)  money
market fund accounts;  (4) any account whose  registered owner has an aggregate
balance of $50,000  or more  invested  in USAA  mutual  funds;  and (5) all IRA
accounts (for the first year the account is open).

Fund Rights

Each Fund reserves the right to:

 *   reject  purchase or exchange orders when in the best interest of the Fund;

 *   limit or  discontinue the offering of shares of the Fund without notice to
     the shareholders;

 *   impose a redemption  charge of up to 1% of  the net  asset value of shares
     redeemed  if   circumstances  indicate  a  charge  is  necessary  for  the
     protection   of   remaining   investors  (for   example,   if   excessive
     market-timing   share  activity  unfairly  burdens  long-term  investors);
     however,  this 1%  charge  will not be  imposed  upon  shareholders unless
     authorized by the Board of  Directors and  the required  notice  has  been
     given to shareholders;

 *   require a signature  guarantee  for  transactions or  changes  in  account
     information in those instances  where the  appropriateness of a  signature
     authorization  is  in question. The  Statement of  Additional  Information
     contains information on acceptable guarantors;

  *  redeem an account with less than 50 full shares, with certain limitations.

                                     23
<PAGE>
EXCHANGES

Exchange Privilege

The exchange privilege is automatic when you complete your application. You may
exchange  shares  among Funds in the USAA Family of Funds,  provided you do not
hold these shares in stock  certificate  form and the shares to be acquired are
offered in your state of residence. Only California residents may exchange into
a California Fund.  After we receive the exchange  orders,  the Funds' transfer
agent will  simultaneously  process  exchange  redemptions and purchases at the
share prices next  determined.  The  investment  minimums  applicable  to share
purchases also apply to exchanges. For federal income tax purposes, an exchange
between Funds is a taxable  event;  and as such, you may realize a capital gain
or loss. Such capital gains or losses are based on the difference  between your
cost basis in the shares and the price received upon exchange.

The Funds have undertaken certain procedures  regarding telephone  transactions
as described on page 22.

Exchange Limitations, Excessive Trading

To  minimize  Fund costs and to protect the Funds and their  shareholders  from
unfair expense burdens,  the Funds restrict excessive  exchanges.  The limit on
exchanges  out of any Fund in the USAA Family of Funds for each  account is six
per calendar  year (except  there is no  limitation on exchanges out of the Tax
Exempt Short-Term Fund,  Short-Term Bond Fund, or any of the money market funds
in the USAA Family of Funds).

SHAREHOLDER INFORMATION

Share Price Calculation

[SIDE BAR]
                                 NAV PER SHARE
                                    EQUALS
                                 TOTAL ASSETS
                                     MINUS
                                  LIABLITIES
                                  DIVIDED BY
                                  # OF SHARES
                                  OUTSTANDING

The price at which you  purchase  and  redeem  Fund  shares is equal to the net
asset value (NAV) per share determined on the effective date of the purchase or
redemption.  You may buy and sell Fund  shares  at the NAV per share  without a
sales  charge.  Each  Fund's  NAV per share is  calculated  at the close of the
regular trading session of the NYSE, which is usually 4:00 p.m. Eastern Time.

Securities  of the  California  Bond Fund are valued each business day at their
current  market  value as  determined  by a  pricing  service  approved  by the
Company's  Board of Directors.  Securities that cannot be valued by the pricing
service,  and all other  assets,  are valued in good faith at fair value  using
methods  we have  determined  under  the  general  supervision  of the Board of
Directors.  In addition,  securities with maturities of 60 days or less and all
securities of the  California  Money Market Fund are stated at amortized  cost,
which approximates market value.

                                      24
<PAGE>
For  additional  information  on how  securities  are valued,  see VALUATION OF
SECURITIES in the Funds' Statement of Additional Information.

Dividends and Distributions

Net  investment  income  of each  Fund is  accrued  daily  and paid on the last
business day of the month.  Dividends shall begin accruing on shares  purchased
the day  following  the  effective  date and  shall  continue  to accrue to the
effective date of redemption.  Any net capital gain distribution usually occurs
within 60 days of the March 31 fiscal year end, which would be somewhere around
the end of May. The Funds will make  additional  payments to  shareholders,  if
necessary, to avoid the imposition of any federal income or excise tax.

We  will   automatically   reinvest  all  income  dividends  and  capital  gain
distributions  in the Fund unless you instruct us differently.  The share price
will be the NAV of the  Fund  shares  computed  on the  ex-dividend  date.  Any
capital gain distributions paid by the California Bond Fund will reduce the NAV
per share by the amount of the dividend or  distribution.  You should  consider
carefully the effects of purchasing  shares of the California Bond Fund shortly
before any  capital  gain  distribution.  Although,  in effect  this would be a
return of capital,  these  distributions  are subject to taxes. If you become a
resident of a state other than California, we will mail a check for proceeds of
income dividends to you monthly.

We will invest any  dividend  or  distribution  payment  returned to us in your
account at the  then-current NAV per share.  Dividend and  distribution  checks
become  void six months  from the date on the  check.  The amount of the voided
check will be invested in your account at the then-current NAV per share.

Federal Taxes

This tax  information  is quite  general and refers to the  federal  income tax
provisions  in effect as of the date of this  Prospectus.  While we manage  the
Funds so that at least 80% of each  Fund's  annual  income  will be exempt from
federal or state income taxes,  we may invest up to 20% of the Funds' assets in
securities  that generate income not exempt from federal or state income taxes.
Because interest income may be exempt for federal income tax purposes,  it does
not necessarily mean that the interest income may be exempt under the income or
other tax laws of any state or local taxing authority.  As discussed earlier on
page 13,  capital  gains  distributed  by a Fund may be taxable.  Note that the
Taxpayer  Relief Act of 1997 and the  technical  provisions  adopted by the IRS
Restructuring  and Reform Act of 1998 may  affect the status and  treatment  of
certain  distributions  shareholders  receive  from  the  Funds.
                                      25
<PAGE>

Because  each investor's tax circumstances are  unique and because the tax laws
are subject to change, we  recommend that you  consult  your tax  adviser about
your investment.

WITHHOLDING  - Federal law requires each Fund to withhold and remit to the U.S.
Treasury a portion of the income dividends and capital gain  distributions  and
proceeds of redemptions paid to any non-corporate shareholder who:

* fails to  furnish  the  Fund  with a  correct  tax  identification  number,
* underreports  dividend or interest income, or
* fails to certify that he or she is not subject to withholding.

To avoid this withholding requirement, you must certify on your application, or
on a separate  Form W-9 supplied by the Funds'  transfer  agent,  that your tax
identification  number is correct and you are not  currently  subject to backup
withholding.

REPORTING - Each Fund will report  information  to you annually  concerning the
tax status of dividends  and  distributions  for federal  income tax  purposes,
including  the  portion  of the  dividends  constituting  interest  on  private
activity  bonds and the  percentage  and source of  interest  income  earned on
tax-exempt securities held by the Funds during the preceding year.

California Taxation

The  following is only a summary of some of the important  California  personal
income tax considerations generally affecting the Funds and their shareholders.
This  discussion  is not intended as a substitute  for careful  planning.  As a
potential  investor in the Funds,  you should  consult  your tax  adviser  with
specific reference to your own tax situations.

California law relating to the taxation of regulated  investment  companies was
generally  conformed to federal law effective  January 1, 1998.  Any portion of
the dividends paid by the Funds and derived from interest on  obligations  that
pay  interest  (when  such  obligations  are  held by an  individual)  which is
excludable  from  California  personal  income under  California  law including
obligations of certain territories and possessions of the United States such as
Puerto Rico, the Virgin Islands,  and Guam ("Tax-Exempt  Obligations")  will be
exempt from  California  personal  income tax (although not from the California
franchise  tax) if, as of the close of each quarter,  at least 50% of the value
of the Fund's assets consist of Tax-Exempt Obligations. To the extent a portion
of the dividends are derived from interest on debt obligations other than those
described  directly  above,  such  portion  will be subject  to the  California
personal and corporate  income tax even though it may be excludable  from gross
income  for  federal  income  tax  purposes.  In  addition,   distributions  of
short-term  capital  gains  realized  by  the  Funds  will  be  taxable  to the
shareholders as ordinary income.  Distributions of long-term capital gains will
be taxable as such to the  shareholders  regardless  of how

                                      26
<PAGE>

long they have held their  shares. If  shares of  the Funds that are  sold at a
loss have been  held six months or less,  the loss  will  be  disallowed to the
extent  of  any exempt-interest dividends received on such shares.

With  respect  to  non-corporate   shareholders,   California  does  not  treat
tax-exempt  interest as a tax preference  item for purposes of its  alternative
minimum tax. To the extent a corporate shareholder receives dividends which are
exempt from California  taxation, a portion of such dividends may be subject to
the alternative  minimum tax. Interest on indebtedness  incurred to purchase or
carry shares of an investment company paying exempt-interest dividends, such as
the Funds,  will not be deductible by the shareholder  for California  personal
income tax purposes.

Year 2000

Like  other  organizations  around  the  world,  the Funds  could be  adversely
affected if the computer  systems used by them,  their  service  providers,  or
companies  in  which  they  invest  do  not  properly   process  and  calculate
information that relates to dates beginning  January 1, 2000, and beyond.  This
situation may occur because for many years computer  programmers  used only two
digits to describe years, such as 98 for 1998. A program written in this manner
may not work when it encounters the year 00. To confront this  situation,  USAA
companies  have spent much effort and money;  and we expect to have our systems
ready for the Year 2000 by mid-1999. In addition, we are actively assessing the
Year 2000 readiness of our service providers,  partners, and companies in whose
securities we invest. It is not possible for us to say that you will experience
no effect from this situation, but we can say that we are making a large effort
to avoid any ill effects upon our shareholders.

We do believe you are entitled to know with certainty that we will stand behind
your share balance as of the close of business in 1999. When the market reopens
in 2000,  should any computer problem cause a change in the number of shares in
your account, we will return your account to its proper share balance.

                                      27
<PAGE>

FINANCIAL HIGHLIGHTS

The financial  highlights tables are intended to help you understand the Funds'
financial  performance for the past five years.  Certain  information  reflects
financial  results  for a single Fund  share.  The total  returns in the tables
represent  the  rate  that an  investor  would  have  earned  (or  lost)  on an
investment   in  the  Fund   (assuming   reinvestment   of  all  dividends  and
distributions).  This  information  has been audited by KPMG LLP, whose report,
along with the Funds' financial statements,  are included in the Annual Report,
which is available upon request.

California Bond Fund:


                                          Year Ended March 31,
                           ----------------------------------------------------
                               1999      1998     1997        1996      1995
                           ----------------------------------------------------
Net asset value at
  beginning of period      $  11.17   $  10.50   $  10.43   $  10.10  $ 10.03
Net investment income           .59        .60        .61        .60      .59
Net realized and
  unrealized gain               .12        .67        .07        .33      .07
Distributions from net
   investment income           (.59)      (.60)      (.61)      (.60)    (.59)
Net asset value at
  end of period            $  11.29   $  11.17   $  10.50   $  10.43  $ 10.10
                           ====================================================
Total return (%)*              6.46      12.33       6.60       9.35     6.89
Net assets at end of
   period (000)            $641,653   $533,747   $440,231   $409,180  $372,877
Ratio of expenses to
  average net assets (%)        .39        .40        .41        .42      .44
Ratio of net investment
  income to average net
  assets (%)                   5.21       5.47       5.74       5.74     5.98
Portfolio turnover (%)         7.20      20.16      23.72      23.09    28.86

- --------------------

 * Assumes reinvestment of all dividend income distributions during the period.

                                      28
<PAGE>

Financial Highlights (cont.)

California Money Market Fund:


                                              Year Ended March 31,
                           ----------------------------------------------------
                              1999      1998       1997       1996      1995
                           ----------------------------------------------------
Net asset value at
  beginning of period      $   1.00  $    1.00   $   1.00   $   1.00  $   1.00
Net investment income           .03        .03        .03        .04       .03
Distributions from net
   investment income           (.03)      (.03)      (.03)      (.04)     (.03)
                           ----------------------------------------------------
Net asset value at
  end of period            $   1.00  $    1.00   $   1.00   $   1.00  $   1.00
                           ====================================================
Total return (%)*              3.03       3.35       3.23       3.58      2.94
Net assets at end of
   period (000)            $439,208   $431,754   $341,128   $296,349  $266,764
Ratio of expenses to
  average net assets (%)        .42        .41        .45        .47       .47
Ratio of net investment
  income to average net
  assets (%)                   2.99       3.30       3.19       3.52      2.91

- --------------------

 *Assumes reinvestment of all dividend income distributions during the period.

                                      29
<PAGE>

                                   APPENDIX A

THE FOLLOWING ARE  DESCRIPTIONS  OF CERTAIN TYPES OF SECURITIES IN WHICH WE MAY
INVEST EACH FUND'S ASSETS:

VARIABLE RATE SECURITIES

We may invest a Fund's  assets in tax-exempt  securities  that bear interest at
rates which are adjusted periodically to market rates.

*   These  interest  rate  adjustments  can both  raise and  lower  the  income
    generated by such  securities.  These  changes will have the same effect on
    the  income  earned  by the  Fund  depending  on  the  proportion  of  such
    securities held.

*   Because the interest  rates of variable rate  securities  are  periodically
    adjusted  to reflect  current  market  rates,  their  market  value is less
    affected by changes in prevailing  interest  rates than the market value of
    securities with fixed interest rates.

*   The market value of a variable rate security usually tends toward par (100%
    of face value) at interest rate adjustment time.

In the case of the  California  Money  Market  Fund  only,  any  variable  rate
instrument  with a demand  feature  will be deemed to have a maturity  equal to
either  the date on which the  underlying  principal  amount  may be  recovered
through demand or the next rate  adjustment  date  consistent  with  applicable
regulatory requirements.

PUT BONDS

We may invest a Fund's assets in tax-exempt  securities  (including  securities
with variable  interest  rates) which may be redeemed or sold back (put) to the
issuer of the security or a third party prior to stated  maturity  (put bonds).
Such  securities  will  normally  trade as if maturity is the earlier put date,
even though stated maturity is longer.  For the California Bond Fund,  maturity
for put bonds is deemed  to be the date on which the put  becomes  exercisable.
Generally,  maturity  for put bonds for the  California  Money  Market  Fund is
determined as stated under Variable Rate Securities.

ZERO COUPON BONDS

We may invest a Fund's  assets in zero  coupon  bonds.  A zero coupon bond is a
security that is sold at a deep discount from its face value, makes no periodic
interest payments,  and is redeemed at face value when it matures. The lump sum
payment at maturity  increases the price  volatility of the zero coupon bond to
changes in interest rates when compared to a bond that distributes a semiannual
coupon payment.  In calculating  its dividend,  each Fund records as income the
daily amortization of the purchase discount.

SYNTHETIC INSTRUMENTS

We may  invest a Fund's  assets in tender  option  bonds,  bond  receipts,  and
similar synthetic municipal  instruments.  A synthetic instrument is a security
created by combining an intermediate  or long-term  municipal bond with a right
to sell  the  instrument  back to the  remarketer  or  liquidity  provider  for
repurchase  on short  notice.  This right to sell is commonly  referred to as a
tender option.  Usually, the tender option is backed by a conditional guarantee
or letter  of  credit  from a bank or other  financial  institution.  Under its
terms,  the  guarantee may expire if the  municipality  defaults on payments of
interest or  principal  on the  underlying  bond,

                                      30
<PAGE>

if the credit rating of the  municipality  is downgraded,  or if the instrument
(or the underlying bond) loses its tax-exempt treatment.  Synthetic instruments
involve  structural  risks  that  could  adversely  affect  the  value  of  the
instrument or could result in a Fund holding an instrument  for a longer period
of time than originally anticipated.

WHEN-ISSUED SECURITIES

We may invest a Fund's assets in new securities offered on a when-issued basis.

*   Delivery  and  payment  take  place  after  the date of the  commitment  to
    purchase,  normally  within 45 days. Both price and interest rate are fixed
    at the time of commitment.
*   The Funds do not earn interest on the securities until settlement,  and the
    market  value  of  the  securities  may  fluctuate   between  purchase  and
    settlement.
*   Such securities can be sold before settlement date.

MUNICIPAL LEASE OBLIGATIONS

We may invest a Fund's assets in a variety of instruments  commonly referred to
as municipal lease obligations, including:

*  Leases,
*  Installment purchase contracts, and
*  Certificates of participation in such leases and contracts.

Certain lease  obligations  contain  "non-appropriation"  clauses which provide
that the municipality  has no obligation to make lease  obligation  payments in
future years unless money is appropriated for such purpose on a yearly basis.

LIQUIDITY

We may invest up to 15% of the California  Bond Fund's net assets and up to 10%
of the  California  Money  Market  Fund's  net  assets in  securities  that are
illiquid.  Illiquid securities are those securities which cannot be disposed of
in the ordinary course of business,  seven days or less, at  approximately  the
value at which the Fund has valued the securities.

Lease obligations and certain put bonds subject to restrictions on transfer may
be determined to be liquid in accordance with the guidelines established by the
Funds' Board of Directors.

In determining the liquidity of a lease obligation,  we will consider:  (1) the
frequency  of trades  and quotes  for the lease  obligation;  (2) the number of
dealers  willing to  purchase  or sell the lease  obligation  and the number of
other  potential  purchasers;  (3) dealer  undertakings to make a market in the
lease obligation;  (4) the nature of the marketplace trades, including the time
needed to dispose of the lease obligation, the method of soliciting offers, and
the mechanics of transfer;  (5) whether the lease  obligation is of a size that
will be attractive to institutional investors; (6) whether the lease obligation
contains a  non-appropriation  clause and the likelihood  that the obligor will
fail to make an  appropriation  therefor;  and (7) such other factors as we may
determine to be relevant to such determination.

In determining  the liquidity of put bonds with  restrictions  on transfer,  we
will evaluate the credit  quality of the party (the Put  Provider)  issuing (or
unconditionally  guaranteeing  performance on) the  unconditional put or demand
feature of the put bond.

                                      31
<PAGE>

                                   APPENDIX B

Taxable-Equivalent Yield Table

COMBINED FEDERAL AND
CALIFORNIA STATE INCOME TAX RATES

Assuming a Federal
Marginal Tax Rate of:       28%           31%            36%         39.6%

and a State Rate of:       8.0%          9.3%           9.3%          9.3%

The Effective Marginal
Tax Rate Would be:      33.760%(a)    37.417%(b)     41.952%(c)    45.217%(d)

To Match a Double
Tax-Free Yield of:       A Fully Taxable Investment Would Have to Pay You:

===============================================================================
        2.00%             3.02%         3.20%          3.45%         3.65%
        2.50%             3.77%         3.99%          4.31%         4.56%
        3.00%             4.53%         4.79%          5.17%         5.48%
        3.50%             5.28%         5.59%          6.03%         6.39%
        4.00%             6.04%         6.39%          6.89%         7.30%
        4.50%             6.79%         7.19%          7.75%         8.21%
        5.00%             7.55%         7.99%          8.61%         9.13%
        5.50%             8.30%         8.79%          9.47%        10.04%
        6.00%             9.06%         9.59%         10.34%        10.95%
        6.50%             9.81%        10.39%         11.20%        11.86%
        7.00%            10.57%        11.19%         12.06%        12.78%
===============================================================================

(a) Federal Rate of 28% + (California State Rate of 8.0% x (1-28%))
(b) Federal Rate of 31% + (California State Rate of 9.3% x (1-31%))
(c) Federal Rate of 36% + (California  State  Rate of 9.3% x  (1-36%))
(d) Federal Rate of 39.6% + (California State Rate of 9.3% x (1-39.6%))

THIS TABLE IS A  HYPOTHETICAL  ILLUSTRATION  AND SHOULD  NOT BE  CONSIDERED  AN
INDICATION OF FUND PERFORMANCE OF ANY OF THE USAA FAMILY OF FUNDS.

THESE RATES WERE SELECTED AS EXAMPLES THAT WOULD BE RELEVANT TO MOST TAXPAYERS.

FOR A FURTHER EXPLANATION ON CALCULATING  TAX-EQUIVALENT YIELDS, SEE THE FUNDS'
STATEMENT OF ADDITIONAL INFORMATION.

                                      32
<PAGE>

                                   APPENDIX C

USAA Family of No-Load Mutual Funds

The USAA Family of No-Load Mutual Funds includes a variety of Funds,  each with
different objectives and policies. In combination,  these Funds are designed to
provide you with the opportunity to formulate your own investment program.  You
may  exchange  any shares you hold in any one USAA Fund for shares in any other
USAA Fund. For more complete  information  about other Funds in the USAA Family
of Funds,  including  charges and expenses,  call us for a Prospectus.  Read it
carefully before you invest or send money.

    FUND TYPE/NAME              VOLATILITY
===============================================
  CAPITAL APPRECIATION
- -----------------------------------------------
  Aggressive Growth            Very high
  Emerging Markets1            Very high
  First Start Growth           Moderate to high
  Gold1                        Very high
  Growth                       Moderate to high
  Growth & Income              Moderate
  International1               Moderate to high
  S&P 500 Index2               Moderate
  Science & Technology         Very high
  Small Cap Stock              Very high
  World Growth1                Moderate to high
===============================================
  ASSET ALLOCATION
- -----------------------------------------------
  Balanced Strategy1           Moderate
  Cornerstone Strategy1        Moderate
  Growth and Tax Strategy      Moderate
  Growth Strategy1             Moderate to high
  Income Strategy              Low to moderate
===============================================
  INCOME - TAXABLE
- -----------------------------------------------
  GNMA                         Low to moderate
  High-Yield Opportunities     High
  Income                       Moderate
  Income Stock                 Moderate
  Intermediate-Term Bond       Low to moderate
  Short-Term Bond              Low
===============================================
  INCOME - TAX EXEMPT
- -----------------------------------------------
  Long-Term3                   Moderate
  Intermediate-Term3           Low to moderate
  Short-Term3                  Low
  State Bond/Income3,4         Moderate
===============================================
  MONEY MARKET
- -----------------------------------------------
  Money Market5                Very low
  Tax Exempt Money Market3,5   Very low
  Treasury Money Market Trust5 Very low
  State Money Market3,4,5      Very low

1 FOREIGN   INVESTING  IS  SUBJECT  TO  ADDITIONAL   RISKS,  SUCH  AS  CURRENCY
  FLUCTUATIONS, MARKET ILLIQUIDITY, AND POLITICAL INSTABILITY.

2 S&P(R)  IS A  TRADEMARK  OF THE  MCGRAW-HILL  COMPANIES,  INC.,  AND HAS BEEN
  LICENSED FOR USE. THE PRODUCT IS NoT SPONSORED,  SOLD OR PROMOTED BY STANDARD
  &  POOR'S,  AND  STANDARD  & POOR'S  MAKES NO  REPRESENTATION  REGARDING  THE
  ADVISABILITY OF INVESTING IN THE PRODUCT.

3 SOME INCOME MAY BE SUBJECT TO STATE OR LOCAL TAXES.

4 CALIFORNIA,  FLORIDA, NEW YORK, TEXAS, AND VIRGINIA FUNDS ARE OFFERED ONLY TO
  RESIDENTS OF THOSE STATES.

5 AN  INVESTMENT IN A  MONEY MARKET  FUND IS NOT  INSURED  OR GUARANTEED BY THE
  FDIC OR  ANY OTHER GOVERNMENT  AGENCY.  ALTHOUGH THE FUND  SEEKS  TO PRESERVE
  THE VALUE OF YOUR INVESTMENT  AT $1 PER SHARE,  IT IS  POSSIBLE TO LOSE MONEY
  BY INVESTING IN THE FUND.


                                      33
<PAGE>
                                     NOTES
<PAGE>

                                     NOTES
<PAGE>

If you would like more information about the Funds, you may call 1-800-531-8181
to request a free copy of the Funds' Statement of Additional Information (SAI),
Annual or Semiannual  Reports,  or to ask other questions about the Funds.  The
SAI has been filed with the  Securities  and Exchange  Commission  (SEC) and is
legally a part of the Prospectus. In each Fund's Annual Report, you will find a
discussion  of  the  market   conditions   and   investment   strategies   that
significantly affected the Fund's performance during the last fiscal year.

To view these documents,  along with other related documents, you can visit the
SEC's  Internet  web  site  (http://www.sec.gov)  or  the  Commission's  Public
Reference Room in Washington,  D.C.  Information on the operation of the public
reference room can be obtained by calling 1-800-SEC-0330.  Additionally, copies
of this  information  can be obtained,  for a  duplicating  fee, by writing the
Public Reference Section of the Commission, Washington, D.C. 20549-6009.

                Investment Adviser, Underwriter and Distributor
                       USAA Investment Management Company
                            9800 Fredericksburg Road
                            San Antonio, Texas 78288
         ------------------------------------------------------------------
        Transfer Agent                               Custodian
 USAA Shareholder Account Services        State Street Bank and Trust Company
    9800 Fredericksburg Road                        P.O. Box 1713
    San Antonio, Texas 78288                   Boston, Massachusetts 02105
         ------------------------------------------------------------------
                           Telephone Assistance Hours
                         Call toll free - Central Time
                     Monday - Friday 7:30 a.m. to 8:00 p.m.
                        Saturdays 8:30 a.m. to 5:00 p.m.
         ------------------------------------------------------------------
                   For Additional Information on Mutual Funds
                   1-800-531-8181, (in San Antonio) 456-7211
                For account servicing, exchanges or redemptions
                   1-800-531-8448, (in San Antonio) 456-7202
         ------------------------------------------------------------------
                       Recorded Mutual Fund Price Quotes
                        24-Hour Service (from any phone)
                   1-800-531-8066, (in San Antonio) 498-8066
         ------------------------------------------------------------------
                            Mutual Fund TouchLineSM
                         (from Touchtone phones only)
             For account balance, last transaction or fund prices
                    1-800-531-8777, (San Antonio) 498-8777


                   Investment Company Act File No. 811-3333
<PAGE>
                                     Part A


                               Prospectus for the
                               New York Bond and
                          New York Money Market Funds
<PAGE>

                              USAA NEW YORK FUNDS
                            USAA NEW YORK BOND FUND
                        USAA NEW YORK MONEY MARKET FUND

                                   PROSPECTUS

                                 AUGUST 1, 1999


Shares of the New York Funds are offered  only to residents of the state of New
York. The delivery of this Prospectus is not an offer in any state where shares
of the New York Funds may not lawfully be made.

As with other mutual funds,  the  Securities  and Exchange  Commission  has not
approvedor  disapproved of either of these Fund's shares or determined  whether
this  prospectus  is accurate or  complete.  Anyone who tells you  otherwise is
committing a crime.

                               TABLE OF CONTENTS

What Are Each Fund's
 Investment Objectives
 and Main Strategies?..................................................  2
Main Risks of Investing
 in These Funds........................................................  2
Are These Funds for You?...............................................  3
Could the Value of Your
 Investment in These
 Funds Fluctuate?......................................................  4
Fees and Expenses......................................................  7
Fund Investments.......................................................  9
Fund Management........................................................ 18
Using Mutual Funds in an
 Investment Program.................................................... 19
How to Invest.......................................................... 20
Important Information
 About Purchases
 and Redemptions....................................................... 23
Exchanges.............................................................. 24
Shareholder Information................................................ 25
Financial Highlights................................................... 29
Appendix A ............................................................ 31
Appendix B ............................................................ 33
Appendix C............................................................. 35

<PAGE>

USAA Investment  Management  Company  manages these Funds.  For easier reading,
USAA  Investment  Management  Company  will  be  referred  to as  "we"  or "us"
throughout the Prospectus.

WHAT ARE EACH FUND'S INVESTMENT OBJECTIVES AND MAIN STRATEGIES?

Each Fund has a common  objective of providing New York  investors  with a high
level of current interest income that is exempt from federal income tax and New
York State and New York City personal  income taxes.  The New York Money Market
Fund has a further objective of preserving  capital and maintaining  liquidity.
Each Fund has separate investment policies to achieve its objective.

The NEW YORK BOND FUND invests  primarily in  long-term,  investment-grade  New
York  tax-exempt  securities.  The  Fund's  average  dollar-weighted  portfolio
maturity is not restricted, but is expected to be greater than 10 years.

The NEW YORK MONEY MARKET FUND  invests in  high-quality,  New York  tax-exempt
securities with maturities of 397 days or less.

In view of the risks inherent in all  investments  in  securities,  there is no
assurance that the Funds' objectives will be achieved.  See FUND INVESTMENTS on
page 9 for more information.

MAIN RISKS OF INVESTING IN THESE FUNDS

The two primary  risks of  investing  in these Funds are credit risk and market
risk. As with other mutual funds, losing money is also a risk of investing in
these Funds.

*   CREDIT RISK  involves the  possibility  that a borrower  cannot make timely
    interest and principal payments on its securities.

*   MARKET  RISK  involves  the  possibility  that  the  value  of each  Fund's
    investments  will decline  because of an increase in interest  rates, or to
    adverse  changes in supply and demand for  municipal  securities,  or other
    market factors.

These credit and market risks may be magnified  because each Fund  concentrates
in New York tax-exempt securities.

IF INTEREST RATES INCREASE:  the yield of each Fund may increase and the market
value of the New York Bond Fund's  securities  will likely  decline,  adversely
affecting the net asset value and total return.

IF INTEREST RATES DECREASE:  the yield of each Fund may decrease and the market
value of the New York Bond Fund's  securities may increase,  which would likely
increase the Fund's net asset value and total return. The New York Money Market
Fund's total return may decrease.

                                       2
<PAGE>

Other risks of investing in either Fund include call risk and structural risk.

As you consider an investment in either Fund, you should also take into account
your tolerance for the daily  fluctuations of the financial markets and whether
you can afford to leave your money in the  investment  for long periods of time
to ride out down periods.

An investment in either Fund is not a deposit of USAA Federal  Savings Bank, or
any other  bank,  and is not  insured  or  guaranteed  by the  Federal  Deposit
Insurance  Corporation or any other  government  agency.  Although the New York
Money  Market Fund seeks to  preserve  the value of your  investment  at $1 per
share, it is possible to lose money by investing in that Fund.

[CAUTION LIGHT GRAPHIC]
Look for this symbol throughout the Prospectus. We use it to mark more detailed
information about the main risks you will face as a Fund shareholder.

ARE THESE FUNDS FOR YOU?

New York Bond Fund

This Fund might be appropriate as part  of  your investment  portfolio if . . .

   *  You are looking for current income that is exempt from New York State and
      City personal income taxes and federal income taxes.
   *  You are willing to accept moderate risk.
   *  You are looking  for  an  investment  in  bonds  to  balance  your  stock
       portfolio.

This Fund MAY NOT be appropriate as part of your investment  portfolio if . . .

   *  You are unwilling to  take  greater  risk  for  intermediate-term  goals.
   *  Your current tax situation does not allow you to benefit  from tax-exempt
      income.
   *  You are seeking an appropriate  investment  for an IRA,  through a 401(k)
      plan or 403(b) plan, or other tax-sheltered account.

New York Money Market Fund

This Fund might be appropriate as part of your investment portfolio if . . .

   *  You are looking for current income that is exempt from New York State and
      City personal income taxes and federal income taxes.
   *  You need to preserve principal.
   *  You want a low-risk investment.
   *  You need your money back within a short period.
   *  You would like checkwriting privileges on the account.
   *  You are looking for an  investment in a money market fund to balance your
      stock or long-term bond portfolio.

                                       3
<PAGE>
This Fund MAY NOT be appropriate as part of your investment portfolio if . . .

   *  You need a high total return to achieve your goals.
   *  Your primary goal is long-term growth.
   *  Your current tax situation does not allow you to benefit from tax-exempt
      income.

Either  Fund by itself  does not  constitute  a  balanced  investment  program.
Diversifying  your investments may improve your long-run  investment return and
lower the volatility of your overall investment portfolio.

COULD THE VALUE OF YOUR INVESTMENT IN THESE FUNDS FLUCTUATE?

Yes, it could.  In fact, the value of your investment in the New York Bond Fund
will fluctuate with the changing  market values of the investments in the Fund.
We manage the New York Money Market Fund in accordance  with strict  Securities
and Exchange  Commission (SEC) guidelines designed to preserve the Fund's value
at $1 per share,  although,  of course, we cannot guarantee that the value will
remain at $1 per share.

The value of the  securities in which the New York Bond Fund invests  typically
fluctuates  inversely  with  changes in the general  level of  interest  rates.
Changes in the  creditworthiness of issuers and changes in other market factors
such as the  relative  supply of and demand for  tax-exempt  bonds also  create
value fluctuations. The bar charts shown below illustrate the Funds' volatility
and performance from year to year over the life of the Funds.

TOTAL RETURN

[SIDE BAR GRAPHIC]
     TOTAL RETURN MEASURES THE PRICE CHANGE IN A SHARE ASSUMING THE
     REINVESTMENT OF ALL DIVIDEND INCOME AND CAPITAL GAIN DISTRIBUTIONS.

All mutual funds must use the same formula to calculate total return.

NEW YORK BOND FUND

[BAR CHART]
                       CALENDAR           TOTAL
                         YEAR             RETURN

                         1991             13.77%
                         1992              8.96%
                         1993             13.47%
                         1994             -9.04%
                         1995             18.07%
                         1996              3.73%
                         1997             10.64%
                         1998              6.68%

                *Fund began operations on October 15, 1990.

                                       4
<PAGE>

     THE NEW YORK BOND FUND'S TOTAL RETURN FOR THE SIX-MONTH  PERIOD ENDED JUNE
     30, 1999, WAS _.__%.

During the periods  shown in the previous bar chart,  the highest  total return
for a quarter was 7.50%  (quarter  ending  March 31, 1995) and the lowest total
return for a quarter was -7.25% (quarter ending March 31, 1994).

The table below shows how the Fund's  average  annual  returns for the one- and
five-year  periods  as well as the  life of the  Fund  compared  to  those of a
broad-based securities market index. Remember,  historical performance does not
necessarily indicate what will happen in the future.

===============================================================================
 Average Annual Total Return                          Since Fund's
 (for the periods ending        Past       Past       Inception on
 December 31, 1998)            1 Year     5 Years   October 15, 1990
===============================================================================
 New York Bond Fund            6.68%      5.63%           8.43%
- -------------------------------------------------------------------------------
 Lehman Brothers
  Municipal Bond Index*        6.48%      6.22%           8.31%
===============================================================================

  *  THE LEHMAN BROS. MUNICIPAL BOND INDEX IS  AN UNMANAGED  BENCHMARK OF TOTAL
     RETURN  PERFORMANCE FOR THE LONG-TERM,  INVESTMENT-GRADE,  TAX-EXEMPT BOND
     MARKET. New York Money Market Fund

NEW YORK MONEY MARKET FUND

[BAR CHART]
                       CALENDAR           TOTAL
                         YEAR             RETURN

                         1991              4.16%
                         1992              2.75%
                         1993              2.01%
                         1994              2.39%
                         1995              3.59%
                         1996              3.20%
                         1997              3.28%
                         1998              3.05%

               *Fund began operations on October 15, 1990.

THE NEW YORK MONEY MARKET  FUND'S TOTAL RETURN FOR THE  SIX-MONTH  PERIOD ENDED
JUNE 30, 1999, WAS _.__%.

During the  periods  shown in the bar chart,  the  highest  total  return for a
quarter was 1.13%  (quarter  ending March 31, 1991) and the lowest total return
for a quarter was .46% (quarter ending March 31, 1994).

                                       5
<PAGE>

The table  below  shows the  Fund's  average  annual  returns  for the one- and
five-year  periods  as  well  as the  life of the  Fund.  Remember,  historical
performance does not necessarily indicate what will happen in the future.

===============================================================================
    Average Annual Total Returns                               Since Fund's
    (for the periods ending          Past         Past         Inception on
    December 31, 1998)              1 Year       5 Years     October 15, 1990
===============================================================================
    New York Money Market Fund       3.05%        3.10%            3.09%
===============================================================================

YIELD

[SIDE BAR]
     YIELD IS THE ANNUALIZED NET INCOME OF THE FUND DURING A SPECIFIED PERIOD
     AS A PERCENTAGE OF THE FUND'S SHARE PRICE

     EFFECTIVE YIELD IS CALCULATED SIMILAR TO THE YIELD, HOWEVER, WHEN
     ANNUALIZED, THE INCOME EARNED IS ASSUMED TO BE REINVESTED.

All mutual funds must use the same  formulas to calculate  yield and  effective
yield.

New York Bond Fund

The New York Bond Fund may  advertise  performance  in terms of a 30-day  yield
quotation or a  tax-equivalent  yield.  The Fund's  30-day yield for the period
ended December 31, 1998, was 4.28%.

New York Money Market Fund

The New York Money Market Fund typically  advertises  performance in terms of a
7-day yield and effective yield or tax-equivalent yield and may advertise total
return. The 7-day yield quotation more closely reflects current earnings of the
Fund than the total  return  quotation.  The  effective  yield will be slightly
higher  than  the  yield  because  of the  compounding  effect  of the  assumed
reinvestment. Current yields and effective yields fluctuate daily and will vary
with factors such as interest rates and the quality, length of maturities,  and
type of  investments  in the  portfolio.  The Fund's 7-day yield for the period
ended December 31, 1998, was 3.16%.

You may obtain the most current  yield  information  for either of the Funds by
calling 1-800-531-8777.

TAX-EQUIVALENT YIELD

Investors use  tax-equivalent  yields to compare  taxable and tax-exempt  fixed
income investments using a common yield measure.  The  tax-equivalent  yield is
the  yield  that a fully  taxable  investment  must  generate  to earn the same
"take-home" yield as a tax-exempt investment. The calculation depends upon your
federal and New York marginal income tax rates and assumes that an investor can
fully  itemize  deductions  on his or her federal  tax return.  The higher your
marginal tax bracket,  the higher will be the tax-equivalent yield and the more
valuable is the Fund's tax exemption.

                                       6
<PAGE>

For example,  if you assume a federal  marginal tax rate of 36% and a state and
city  marginal  tax rate of 10.68%,  the  Effective  Marginal Tax Rate would be
42.84%.  Using this tax rate, the Funds'  tax-equivalent  yields for the period
ending December 31, 1998, would be as follows:

===============================================================================
                                                    Tax-Equivalent
                                        Yield           Yield
===============================================================================
  New York Bond Fund (30 day)           4.28%           7.49%
  New York Money Market Fund (7 day)    3.16%           5.53%
===============================================================================

Using the  example,  to exceed the 30-day  yield of the New York Bond Fundon an
after-tax basis, you must find a fully taxable investment that yields more than
7.49%.  Likewise,  to exceed the 7-day yield of the New York Money Market Fund,
you must find a fully taxable investment that yields more than 5.53%.

For more information on calculating  tax-equivalent  yields,  see APPENDIX B on
page 33.

[SIDE BAR GRAPHIC]
                                  TouchLineSM
                                 1-800-531-8777
                                     Press
                                       1
                                      then
                                       1
                                     then
                                    6, 3, #

Please  consider  performance  information  in light of the  Funds'  investment
objectives and policies and market conditions during the reported time periods.
The value of your shares may go up or down. For the most current price,  yield,
and  return  information  for these  Funds,  you may call USAA  TouchLineSM  at
1-800-531-8777.  Press 1 for the Mutual  Fund Menu,  press 1 again for  prices,
yields,  and returns.  Then,  press 62# for the New York Bond Fund or press 63#
for the New York Money Market Fund when asked for a Fund Code.

[SIDE BAR]
                                   New York
                                     Bond
                                     Fund
                                   Newspaper
                                    Symbol
                                      NYBd

                                     Ticker
                                    Symbols
                                     USNYX
                                     UNYXX

You can also find the most current price of your shares in the business section
of your newspaper in the mutual fund section under the heading "USAA Group" and
the  symbol  "NYBd" for the New York Bond  Fund.  If you prefer to obtain  this
information from an on-line computer service, you can do so by using the ticker
symbol  "USNYX" for the New York Bond Fund or the ticker symbol "UNYXX" for the
New York Money Market Fund.

FEES AND EXPENSES

This summary shows what it will cost you, directly or indirectly,  to invest in
the Funds.

Shareholder Transaction Expenses -- (Direct Costs)

There are no fees or sales loads  charged to your  account when you buy or sell
Fund  shares.  However,  if you sell  shares  and  request  your  money by wire
transfer,  there is a $10 fee.  (Your bank may also charge a fee for  receiving
wires.)

                                       7
<PAGE>

Annual Fund Operating Expenses -- (Indirect Costs)

Fund  expenses  come out of the Funds'  assets and are  reflected in the Funds'
share prices and dividends. "Other Expenses" include expenses such as custodian
and  transfer  agent fees.  The  figures on the next page show actual  expenses
before  waivers,  if any, during the past fiscal year ended March 31, 1999, and
are calculated as a percentage of average net assets (ANA).

[SIDE BAR]
     12B-1 MUTUAL FUNDS CHARGE THESE FEES TO PAY FOR ADVERTISING AND OTHER
     COSTS OF SELLING FUND SHARES

===============================================================================
                                          New York       New York Money
                                          Bond Fund        Market Fund
===============================================================================
  Management Fees                             .41%            .41%
  Distribution (12b-1) Fees                   None            None
  Other Expenses                              .17%            .19%
                                              ----            ----
  Total Annual Fund Operating Expenses*       .58%            .60%
                                              ====            ====
===============================================================================

   * During the year,  we  voluntarily  limited  each Fund's  Total Annual Fund
     Operating Expenses to .50% as follows:

===============================================================================
                                          New York         New York Money
                                          Bond Fund          Market Fund
===============================================================================
  Total Annual Fund Operating Expenses        .58%            .60%
  Reimbursement from USAA Investment
    Management Company                       (.08%)          (.10%)
  Actual Fund Operating Expenses             ------          -----

  After Reimbursement                         .50%            .50%
                                              =====          =====
===============================================================================

     We have again  voluntarily  agreed to limit each Fund's annual expenses to
     .50% of its ANA and will reimburse the Funds for all expenses in excess of
     that amount until August 1, 2000.

Example of Effect of the Funds' Operating Expenses

This example  provides  you a comparison  of investing in one of the Funds with
the cost of investing in other mutual funds.  Although your actual costs may be
higher or lower, you would pay the following expenses on a $10,000  investment,
assuming (1) 5% annual return,  (2) the Fund's  operating  expenses (before any
applicable  reimbursement)  remain  the same,  and (3) you  redeem  all of your
shares at the end of those periods shown.

===============================================================================
                           New York           New York Money
                           Bond Fund           Market Fund
===============================================================================
         1  year            $ 59                $ 61
         3 years             186                 192
         5 years             324                 335
        10 years             726                 750
===============================================================================

                                       8
<PAGE>

FUND INVESTMENTS

Principal Investment Strategies and Risks

  Q  What is each Fund's principal investment strategy?

  A  Each Fund's principal investment strategy is to invest  the  Fund's assets
     in  securities  issued by  New York  State,  its  political  subdivisions,
     municipalities  and  public  authorities,   and  by   other   governmental
     entities   if,  in   the  opinion  of  counsel,  the  interest  from  such
     obligations  is  excluded  from   gross  income  for  federal  income  tax
     purposes  and is exempt  from New York State and  New York City   personal
     income taxes.

     These securities  include municipal debt obligations that have been issued
     by New York and its political subdivisions, and duly constituted state and
     local  authorities and  corporations.  We refer to these securities as New
     York tax-exempt  securities.  New York tax-exempt securities are issued to
     fund public infrastructure projects such as streets and highways, schools,
     water and sewer systems,  hospitals, and airports. They may also be issued
     to  refinance  outstanding  obligations  as well as to  obtain  funds  for
     general operating expenses and for loans to other public  institutions and
     facilities.

     Because the projects  benefit the public,  Congress has granted  exemption
     from  federal  income  taxes for the  interest  income  arising from these
     securities.  Likewise,  the New York  Legislature has granted an exemption
     from  state and city  personal  income  taxes for most New York  municipal
     securities.

  Q  What  types  of  tax-exempt  securities  will be  included  in each Fund's
     portfolio?

  A  Each  Fund's assets may be  invested  in any of the  following  tax-exempt
     securities:

       *   general obligation bonds which are secured by the issuer's pledge of
           its  full  faith,  credit,  and  taxing  power  for the  payment  of
           principal and interest;

       *   revenue  bonds which are payable  from the  revenue  derived  from a
           particular  facility or class of facilities or, in some cases,  from
           the  proceeds  of a special  excise  tax or other  specific  revenue
           source, but not from the general taxing power;

                                       9
<PAGE>

       *   lease obligations  backed by the  municipality's  covenant to budget
           for the payments due under the lease obligation;

       *   synthetic  instruments,  which  combine a  municipality's  long-term
           obligation  to pay interest  and  principal  with  another  person's
           obligation to repurchase the instrument on short notice; and

       *   industrial  development  bonds  issued  by or on  behalf  of  public
           authorities to obtain funds for privately-operated facilities.

     As a temporary defensive measure because of market,  economic,  political,
     or other  conditions,  we may invest up to 100% of each  Fund's  assets in
     short-term  securities  whether or not they are exempt from federal income
     tax and New York State and New York City  personal  income  taxes.  To the
     extent that these  temporary  investments  produce  taxable  income,  that
     income  may  result  in that  Fund  not  fully  achieving  its  investment
     objective during the time it is in this temporary defensive posture.

  Q  What are the principal  risks  associated  with  investments in tax-exempt
     securities?

  A  The two principal  risks of investing in tax-exempt  securities are credit
     risk and market risk.

     [CAUTION LIGHT GRAPHIC]
     CREDIT  RISK.  Credit  risk is the  possibility  that an issuer of a fixed
     income  security  will  fail  to  make  timely  payments  of  interest  or
     principal.  We attempt to minimize the Funds' credit risks by investing in
     securities  considered at least  investment grade at the time of purchase.
     Nevertheless,  even investment-grade securities are subject to some credit
     risk. In addition,  the ratings of securities  are estimates by the rating
     agencies of the credit quality of the securities. The ratings may not take
     into account every risk related to whether  interest or principal  will be
     repaid on a timely basis.

     When evaluating  potential  investments  for the Funds,  our analysts also
     independently  assess credit risk and its impact on the Funds' portfolios.
     Securities  in the lowest  investment  grade ratings  category  (BBB) have
     speculative  characteristics.  Changes  in  economic  conditions  or other
     circumstances  are more  likely to lead to a weakened  capability  to make
     principal and interest  payments on these  securities than is the case for
     higher-rated securities.

     [CAUTION LIGHT GRAPHIC]
     MARKET RISK. As a mutual fund investing in bonds, the Funds are subject to
     the risk that the market value of the bonds will decline because of rising
     interest rates.  Bond prices are linked to the prevailing  market interest
     rates. In general, when interest rates

                                     10
<PAGE>

     rise, the prices of bonds fall and when interest  rates fall,  bond prices
     generally  rise.  The  price  volatility  of a bond  also  depends  on its
     maturity.  Generally,  the longer the maturity of a bond,  the greater its
     sensitivity  to interest  rates.  To compensate  investors for this higher
     market risk,  bonds with longer  maturities  generally offer higher yields
     than bonds with shorter maturities.

     [CAUTION LIGHT GRAPHIC]
  Q  What is Call Risk?

  A  Many municipal  bonds  may be "called," or redeemed,  by the issuer before
     the stated  maturity.  During a period of  declining  interest  rates,  an
     issuer  would call,  or  refinance,  a higher  yielding  bond for the same
     reason that a homeowner  would  refinance a home mortgage.  Interest rates
     must drop  sufficiently  so that the savings  more than offset the cost of
     refinancing.

     Intermediate-  and long-term  municipal bonds have the greatest call risk,
     because most municipal  bonds may not be called until after ten years from
     the date of  issue.  The  period  of "call  protection"  may be  longer or
     shorter than ten years,  but regardless,  bonds  purchased  closest to the
     date of issue will have the most call  protection.  Typically,  bonds with
     original maturities of ten years or less are not callable.

     Although  investors  certainly  appreciate  the rise in bond  prices  when
     interest  rates  drop,  falling  interest  rates  create  the  environment
     necessary to "call" the  higher-yielding  bonds from your Fund. When bonds
     are called,  the Fund is impacted in several  ways.  Most likely,  we must
     reinvest the bond-call proceeds at lower interest rates. The Fund's income
     may drop as a result. The Fund may also realize a taxable capital gain.

     [CAUTION LIGHT GRAPHIC]
  Q  What is structural risk?

  A  Some tax-exempt  securities,  referred to  as "synthetic instruments," are
     created by combining a long-term  municipal  bond with a right to sell the
     instrument back to the remarketer or liquidity  provider for repurchase on
     short notice, referred to as a "tender option." Usually, the tender option
     is backed by a letter of credit  or  similar  guarantee  from a bank.  The
     guarantee,  however,  is  conditional,  which  means  that the bank is not
     required  to  pay  under  the  guarantee  if  there  is a  default  by the
     municipality or if certain other events occur.  These types of instruments
     involve  special  risks,  referred to as  "structural  risk." For example,
     because of the structure of a synthetic  instrument,  there is a risk that
     the

                                      11
<PAGE>

     instrument will lose its tax-exempt  treatment or that we will not be able
     to exercise our tender option. We will not purchase a synthetic instrument
     unless  counsel has issued an opinion that the  instrument  is entitled to
     tax-exempt  treatment.  In  addition,  we will not  purchase  a  synthetic
     instrument for the Tax-Exempt Money Market Fund unless we believe there is
     only minimal  risk that we will not be able to exercise our tender  option
     at all times.

  Q  What percentage  of each  Fund's  assets  will  be  invested  in New  York
     tax-exempt securities?

  A  During normal market conditions,  at least 80% of each  Fund's  net assets
     will consist of  New York tax-exempt securities.  This  policy may only be
     changed by a shareholder vote.

     In  addition  to New York  tax-exempt  securities,  securities  issued  by
     certain U.S.  territories and possessions  such as Puerto Rico, the Virgin
     Islands,  and Guam are exempt from  federal  income tax and New York State
     and City personal income taxes; and as such, we may consider  investing up
     to 20% of each Fund's assets in these securities.

  Q  Are each Fund's investments diversified in many different issuers?

  A  Each Fund is considered  diversified under  the federal  securities  laws.
     This  means that we will not  invest  more than 5% in any one issuer  with
     respect to 75% of each Fund's assets. With respect to the remaining 25% of
     each  Fund's  assets,  we could  invest  more than 5% in any one, or more,
     issuers.  Purchases  of  securities  issued  or  guaranteed  by  the  U.S.
     Government or its agencies or instrumentalities are not counted toward the
     5%  limitation.  Each Fund,  of  course,  is  concentrated  geographically
     through the purchase of New York tax-exempt securities.

     With respect to the New York Money Market Fund,  strict SEC  guidelines do
     not permit us to invest, with respect to 75% of the Fund's assets, greater
     than 10% of the  Fund's  assets  in  securities  issued by or  subject  to
     guarantees by the same institution.

     We also may not invest  more than 25% of the Funds'  assets in  securities
     issued  in  connection   with  the  financing  of  projects  with  similar
     characteristics,  such as toll road revenue bonds,  housing revenue bonds,
     or electric power project  revenue bonds,  or in industrial  revenue bonds
     which are based, directly or indirectly, on the credit of private entities
     of any one industry. However, we reserve the right to invest more than 25%
     of the Funds' assets in

                                      12
<PAGE>

     tax-exempt  industrial revenue bonds. The 25% industry limitation does not
     apply to  general  obligation  bonds or bonds  that are  escrowed  in U.S.
     Government securities.

[CAUTION LIGHT GRAPHIC]
  Q  What are  the  potential risks associated with  concentrating such a large
     portion of each Fund's assets in one state?

  A  The  Funds are subject  to credit and market  risks,  as described  above,
     which could be magnified by the Funds'  concentration  in New York issues.
     New York  tax-exempt  securities  may be affected by political,  economic,
     regulatory,  or other  developments  that  limit the  ability  of New York
     issuers to pay interest or repay principal in a timely manner.  Therefore,
     the Funds are affected by events within New York to a much greater  degree
     than a more diversified national fund.

     A particular development may not directly relate to the Funds' investments
     but  nevertheless   might  depress  the  entire  market  for  the  state's
     tax-exempt securities and therefore adversely impact the Funds' valuation.

     An  investment  in the New York Money  Market Fund may be riskier  than an
     investment   in  other  types  of  money  market  funds  because  of  this
     concentration.

     The  following  are  examples  of just some of the events that may depress
     valuations for New York  tax-exempt  securities for an extended  period of
     time:

       *   Changes in state laws,  including voter  referendums,  that restrict
           revenues or raise costs for issuers.

       *   Court decisions that affect a category of municipal  bonds,  such as
           municipal lease obligations or electric utilities.

       *   Natural or  other  disasters  such as  floods,  storms,  hurricanes,
           droughts, fires, or earthquakes.

       *   Bankruptcy or  financial  distress of a prominent  municipal  issuer
           within the state.

       *   Economic issues that impact  critical  industries or large employers
           or that weaken real estate prices.

       *   Reductions in federal or state financial aid.

       *   Imbalance in  the  supply  and  demand  for  the  state's  municipal
           securities.

       *   Developments  that  may  change  the  tax  treatment   of  New  York
           tax-exempt securities.

                                      13
<PAGE>

     In addition,  because each Fund invests in securities  backed by banks and
     other  financial  institutions,  changes  in the  credit  quality of these
     institutions could cause losses to a Fund and affect its share price.

     Other  considerations   affecting  the  Funds'  investments  in  New  York
     tax-exempt  securities  are  summarized  in the  Statement  of  Additional
     Information under SPECIAL RISK CONSIDERATIONS.

  Q  Will any portion of the distributions from the Funds be subject to federal
     income taxes?

  A  During   normal  market  conditions,  at least 80%  of each Fund's  annual
     income will be excluded from gross income for federal  income tax purposes
     and will  also be exempt  from New York  State  and City  personal  income
     taxes.  This policy may only be changed by a  shareholder  vote. We expect
     that any taxable interest income distributed will be minimal.

     However,  gains and losses from trading  securities  that occur during the
     normal   course  of   managing  a  fund  may  create  net   capital   gain
     distributions.   The  Internal   Revenue  Code   presently   treats  these
     distributions differently than tax-exempt interest income in the following
     ways:

       *   Distributions  of  net  short-term  capital  gains  are  taxable  as
           ordinary income.

       *   Distributions  of  net  long-term   capital  gains  are  taxable  as
           long-term  capital gains,  regardless of the length of time you have
           held the Fund shares.

       *   Both  short-term  and long-term  capital  gains are taxable  whether
           received in cash or reinvested in additional shares.

  Q  Will income from the Funds be subject to the federal  alternative  minimum
     tax (AMT) for individuals?

  A  During  normal  market  conditions,  at least  80%  of each Fund's  annual
     income will be excluded from the  calculation  of the federal  alternative
     minimum  tax (AMT) for  individuals.  This policy may only be changed by a
     shareholder  vote.  Since  inception,  the Funds have not  distributed any
     income that is subject to the federal AMT for  individuals,  and we do not
     intend to invest in  securities  subject to the federal AMT.  However,  of
     course,  changes in  federal  tax laws or other  unforeseen  circumstances
     could result in income subject to the federal AMT for individuals.

                                      14
<PAGE>

New York Bond Fund

  Q  What is the credit quality of the Fund's investments?

  A  Under normal market conditions, we  will invest the Fund's assets  so that
     at least 50% of the total market  value of the  tax-exempt  securities  is
     rated within the three highest  long-term rating  categories (A or higher)
     by Moody's Investors Service,  Inc.  (Moody's),  Standard & Poor's Ratings
     Group  (S&P),  or Fitch IBCA,  Inc.  (Fitch) or in the highest  short-term
     rating  category by Moody's,  S&P, or Fitch; or if a security is not rated
     by those  rating  agencies,  we must  determine  that the  security  is of
     equivalent investment quality.

     In no event will we purchase a security for the Fund unless it is rated at
     least  investment   grade  at  the  time  of  purchase.   Investment-grade
     securities are those  securities  rated within the four highest  long-term
     rating  categories  by  Moody's  (Baa or  higher),  S&P,  or Fitch (BBB or
     higher),  or in the two  highest  short-term  rating  categories  by these
     rating agencies;  or if unrated by these agencies,  we must determine that
     the securities are of equivalent investment quality.

     You will find a complete  description of the above  tax-exempt  ratings in
     the Fund's Statement of Additional Information.

  Q  What happens if the rating of a security is downgraded to below investment
     grade?

  A  We  will  determine  whether  it  is in the best  interest  of the  Fund's
     shareholders to continue to hold the security in the Fund's portfolio.  If
     downgrades  result in more than 5% of the Fund's net assets being invested
     in securities that are less than  investment-grade  quality,  we will take
     immediate action to reduce the Fund's holdings in such securities to 5% or
     less of the Fund's net assets,  unless otherwise  directed by the Board of
     Directors.

  Q  How are the decisions to buy and sell securities made?

  A  We manage  tax-exempt  funds based on the common  sense  premise  that our
     investors value tax-exempt income over taxable capital gain distributions.
     When weighing the decision to buy or sell a security, we strive to balance
     the value of the tax-exempt income, the credit risk of the issuer, and the
     price volatility of the bond.

                                      15
<PAGE>

  Q  What is the Fund's average portfolio maturity and how is it calculated?

  A  While the  Fund's average  portfolio maturity is not restricted, we expect
     it to be greater than ten years.  To  determine a security's  maturity for
     purposes of calculating  the Fund's  average  portfolio  maturity,  we may
     estimate  the  expected  time in which the  security's  principal is to be
     paid.  This can be  substantially  shorter than its stated final maturity.
     For more  information  on the method of  calculating  the  Fund's  average
     weighted  portfolio  maturity,  see  INVESTMENT  POLICIES  in  the  Fund's
     Statement of Additional Information.

New York Money Market Fund

  Q  What is the credit quality of the Fund's investments?

  A  The Fund's investments consist of  securities meeting the  requirements to
     qualify as "eligible  securities"  under the SEC rules applicable to money
     market funds.  In general,  an eligible  security is defined as a security
     that is:

       *   issued  or  guaranteed  by  the  U.S.  Government or  any  agency or
           instrumentality  thereof, including  "prerefunded" and "escrowed  to
           maturity" tax-exempt securities;

       *   rated  or  subject  to a  guarantee  that is rated in one of the two
           highest  categories  for  short-term  securities  by  at  least  two
           Nationally Recognized Statistical Rating Organizations  (NRSROs), or
           by one NRSRO if the security is rated by only one NRSRO;

       *   unrated but issued by an issuer or  guaranteed  by a guarantor  that
           has other comparable short-term debt obligations so rated; or

       *   unrated but determined by us to be of comparable quality.

     In addition,  we must consider  whether a particular  investment  presents
     minimal credit risk.

  Q  Who are the Nationally Recognized Statistical Rating Organizations?

  A  Current NRSROs include:

       * Moody's Investors Service, Inc.;
       * Standard & Poor's Ratings Group;
       * Fitch IBCA, Inc.;
       * Duff & Phelps Inc.; and
       * Thompson BankWatch, Inc.

                                      16
<PAGE>

  Q  What happens if the rating of a security is downgraded?

  A  If  the  rating  of a  security  is  downgraded  after  purchase,  we will
     determine whether it is in the best  interest of  the Fund's  shareholders
     to continue to hold the security in the Fund's portfolio.

[SIDE BAR]

     DOLLAR WEIGHTED AVERAGE PROTFOLIO  MATURITY IS OBTAINED BY MULTIPLYING THE
     DOLLAR  VALUE  OF  EACH  INVESTMENT  BY THE  NUMBER  OF  DAYS  LEFT TO ITS
     MATURITY,THEN  ADDING THOSE FIGURES TOGETHER AND DIVIDING THE TOTAL BY THE
     DOLLAR VALUE OF THE FUND'S PORTFOLIO.

  Q  Will the Fund always  maintain a net asset value of $1 per share?

  A  While  we  will endeavor to maintain a constant Fund net asset value of $1
     per share,  there is no assurance that we will be able to do so. Remember,
     the shares are neither insured nor guaranteed by the U.S.  Government.  As
     such, the Fund carries some risk.

     For example,  there is always a risk that the issuer of a security held by
     the Fund will fail to pay  interest or  principal  when due. We attempt to
     minimize this credit risk by investing only in securities  rated in one of
     the two highest categories for short-term securities, or, if not rated, of
     comparable  quality,  at the time of purchase.  Additionally,  we will not
     purchase  a security  unless  our  analysts  determine  that the  security
     presents minimal credit risk.

     There is also a risk that  rising  interest  rates will cause the value of
     the Fund's  securities  to decline.  We attempt to minimize  this interest
     risk by limiting  the  maturity  of each  security to 397 days or less and
     maintaining a dollar-weighted  average portfolio  maturity for the Fund of
     90 days or less.

     Finally, there is the possibility that one or more investments in the Fund
     cease to be "eligible securities" resulting in the net asset value ceasing
     to be $1 per share.  For  example,  a guarantor  on a security may fail to
     meet a contractual obligation.

  Q  How are the decisions to buy and sell securities made?

  A  We balance  factors such as credit  quality and  maturity to  purchase the
     best  relative  value  available in the  market at any given  time.  While
     rare,  sell  decisions  are  usually  based  on a  change  in  our  credit
     analysis or to take  advantage of an opportunity  to reinvest at  a higher
     yield.

For additional  information  about other securities in which we may invest each
of the Fund's assets, see APPENDIX A on page 31.

                                      17
<PAGE>

FUND MANAGEMENT

USAA  Investment  Management  Company serves as the manager and  distributor of
these  Funds.  We are an affiliate of United  Services  Automobile  Association
(USAA), a large, diversified financial services institution.  As of the date of
this  Prospectus,  we had  approximately  $__  billion  in total  assets  under
management.  Our mailing address is 9800  Fredericksburg  Road, San Antonio, TX
78288.

We provide management  services to the Funds pursuant to an Advisory Agreement.
We are responsible for managing the Funds' portfolios  (including  placement of
brokerage orders) and their business  affairs,  subject to the authority of and
supervision  by the Board of Directors.  For our services,  the Funds pay us an
annual fee. This fee, which is accrued daily and paid monthly, is computed as a
percentage of the aggregate average net assets of both Funds combined. This fee
is allocated  between the Funds based on the  relative net assets of each.  The
fee is computed  at one-half of one percent  (.50%) of the first $50 million of
average  net  assets,  two-fifths  of one  percent  (.40%) for that  portion of
average net assets over $50 million but not over $100 million, and three-tenths
of one percent (.30%) for that portion of average net assets over $100 million.
The  fees we  received  for the  fiscal  year  ended  March  31,  1999,  net of
reimbursements,  were equal to .33% of average net assets for the New York Bond
Fund and .31% of average net assets for the New York Money Market Fund. We also
provide   services  related  to  selling  the  Funds'  shares  and  receive  no
compensation for those services.

Although our officers and employees,  as well as those of the Funds, may engage
in personal securities transactions, they are restricted by the procedures in a
Joint Code of Ethics adopted by the Funds and us.

Portfolio Managers

NEW YORK BOND FUND
[PHOTOGRAPH PORTFOLIO MANAGER]
KENNETH E. WILLMANN

Kenneth E. Willmann,  Vice President of Fixed Income  Investments,  has managed
the Fund  since its  inception  in  October  1990.  He has 25 years  investment
management  experience and has worked for us for 22 years.  Mr. Willmann earned
the Chartered  Financial  Analyst (CFA)  designation in 1987 and is a member of
the  Association  for Investment  Management and Research  (AIMR),  San Antonio
Financial  Analysts  Society,  Inc.  (SAFAS),  and the National  Federation  of
Municipal  Analysts  (NFMA).  He holds an MBA and a BA from the  University  of
Texas.

                                      18
<PAGE>

NEW YORK MONEY MARKET FUND

[PHOTOGRAPH PORTFOLIO MANAGER]
THOMAS G. RAMOS

Thomas G. Ramos,  Vice  President of Money Market  Funds,  has managed the Fund
since August 1994. Mr. Ramos has 21 years investment  management experience and
has worked for us for 17 years.  Mr. Ramos earned the CFA  designation  in 1983
and is a  member  of the  AIMR,  SAFAS,  and  NFMA.  He  holds  an MBA from the
University of California, an MA from St. Mary's University,  and a BA from Yale
University.

USING MUTUAL FUNDS IN AN INVESTMENT PROGRAM

I. The Idea Behind Mutual Funds

Mutual funds provide small investors some of the advantages  enjoyed by wealthy
investors.  A  relatively  small  investment  can  buy  part  of a  diversified
portfolio. That portfolio is managed by investment professionals, relieving you
of the  need to make  individual  stock  or bond  selections.  You  also  enjoy
conveniences,  such as daily  pricing,  liquidity,  and in the case of the USAA
Family of Funds, no sales charge. The portfolio, because of its size, has lower
transaction  costs on its trades than most individuals would have. As a result,
you own an investment  that in earlier times would have been  available only to
very wealthy people.

II. Using Funds in an Investment Program

In  choosing a mutual  fund as an  investment  vehicle,  you are giving up some
investment decisions,  but must still make others. The decisions you don't have
to make are those involved with choosing individual securities. We will perform
that function.  In addition, we will arrange for the safekeeping of securities,
auditing the annual financial  statements,  and daily valuation of the Fund, as
well as other functions.

You,  however,  retain  at  least  part of the  responsibility  for an  equally
important  decision.  This decision involves  determining a portfolio of mutual
funds that balances your  investment  goals with your tolerance for risk. It is
likely that this decision may include the use of more than one fund of the USAA
Family of Funds.

For example,  assume you wish to pursue the higher yields usually  available in
the long-term bond market,  but you are also concerned about the possible price
swings of the long-term bonds.  You could divide your  investments  between the
New York Bond Fund and the New York Money Market Fund.

                                      19
<PAGE>

This would create a portfolio with a higher yield than that of the money market
and less volatility than that of the long-term market. This is just one way you
could combine funds to fit your own risk and reward goals.

III. USAA's Family of Funds

We offer you  another  alternative  with our  asset  strategy  funds  listed in
APPENDIX C under asset allocation on page 35. These unique mutual funds provide
a  professionally  managed,  diversified  investment  portfolio within a mutual
fund.  Designed for the individual who prefers to delegate the asset allocation
process to an investment  manager,  their  structure  achieves  diversification
across a number of investment categories.

Whether you prefer to create  your own mix of mutual  funds or use a USAA Asset
Strategy  Fund,  the USAA  Family of Funds  provides  a broad  range of choices
covering just about any investor's  investment  objectives.  Our member service
representatives  stand  ready to assist you with your  choices  and to help you
craft a  portfolio  to meet your  needs.  Refer to  APPENDIX C on page 35 for a
complete list of the USAA Family of No-Load Mutual Funds.

HOW TO INVEST

Purchase of Shares

OPENING AN ACCOUNT

You may open an account and make an investment  as described  below by mail, in
person,  bank wire,  electronic  funds  transfer  (EFT),  or phone. A complete,
signed application is required to open your initial account. However, after you
open  your  initial  account  with us,  you  will not need to fill out  another
application to open another Fund unless the registration is different.


TAX ID NUMBER

Each shareholder  named on the account must provide a social security number or
tax identification number to avoid possible withholding requirements.

EFFECTIVE DATE

When you make a purchase, your purchase price will be the net asset value (NAV)
per share next  determined  after we receive your request in proper form.  Each
Fund's NAV is determined at the close of the regular trading session (generally
4:00 p.m. Eastern Time) of the New York Stock Exchange (NYSE) each day the NYSE
is open.  If we receive  your  request  and  payment  prior to that time,  your
purchase price will be the NAV per share determined for that day. If we receive
your  request or payment  after the NAV per share is  calculated,  the purchase
will be effective on the next business day.

If you plan to  purchase  Fund  shares  with a foreign  check,  we suggest  you
convert your foreign check to U.S.  dollars prior to investment in a Fund. This

                                      20
<PAGE>

will avoid a potential  delay in the  effective  date of your purchase of up to
four to six weeks.  Furthermore,  a bank charge may be assessed in the clearing
process, which will be deducted from the amount of the purchase.

MINIMUM INVESTMENTS

[MONEY GRAPHIC]
INITIAL PURCHASE

 *   $3,000. Employees of USAA and its affiliated companies may open an account
     through  payroll  deduction  for as little as $25 per pay  period  with no
     initial investment.

ADDITIONAL PURCHASES

 *   $50 (Except  transfers  from  brokerage  accounts  into the New York Money
     Market Fund, which are exempt from the minimum).

HOW TO PURCHASE

[EVENLOPE GRAPHIC]
MAIL

*    To open an account, send your application and check to:
          USAA Investment Management Company
          9800 Fredericksburg Road
          San Antonio, TX 78288
*    To add to your account, send your check and the "Invest by Mail" stub that
     accompanies your Fund's transaction confirmation to the Transfer Agent:
          USAA Shareholder Account Services
          9800 Fredericksburg Road
          San Antonio, TX 78288

[HANDSHAKE GRAPHIC]
IN PERSON

*    To open an account, bring your application and check to:
          USAA Investment Management Company
          USAA Federal Savings Bank
          10750 Robert F. McDermott Freeway
          San Antonio, TX 78288

[WIRE GRAPHIC]
BANK WIRE

*    To open or add to your account, instruct your bank (which may charge a fee
     for the service) to wire the specified amount to the Fund as follows:
          State Street Bank and Trust Company
          Boston, MA 02101
          ABA#011000028
          Attn: USAA New York Fund Name
          USAA Account Number: 69384998
          Shareholder(s) Name(s)________________________________________
          Shareholder(s) Mutual Fund Account Number_____________________

                                      21
<PAGE>

[CALENDAR GRAPHIC]
ELECTRONIC FUNDS TRANSFER

*    Additional  purchases  on a  regular  basis  can be  deducted  from a bank
     account, paycheck,  income-producing investment, or USAA money market fund
     account.  Sign up for these  services  when  opening  an  account  or call
     1-800-531-8448 to add these services.

[TELEPHONE GRAPHIC]
PHONE 1-800-531-8448

*    If you have an existing  USAA mutual fund account and would like to open a
     new account or exchange to another USAA Fund,  call for  instructions.  To
     open an account by phone, the new account must have the same  registration
     as your existing account.

Redemption of Shares

You may redeem Fund shares by any of the methods described below on any day the
NAV per share is calculated.  Redemptions are effective on the day instructions
are received in a manner as  described  below.  However,  if  instructions  are
received  after  the NAV per share  calculation  (generally  4:00 p.m.  Eastern
Time), redemption will be effective on the next business day.

We will send you your  money  within  seven days  after the  effective  date of
redemption.  Payment for redemption of shares purchased by EFT or check is sent
after the EFT or check has  cleared,  which  could  take up to 15 days from the
purchase date. If you are considering redeeming shares soon after purchase, you
should  purchase by bank wire or certified  check to avoid  delay.  For federal
income tax purposes,  a redemption  is a taxable  event;  and as such,  you may
realize a capital gain or loss.  Such capital  gains or losses are based on the
difference  between your cost basis in the shares and the price  received  upon
redemption.

In  addition,  the Funds  may  elect to  suspend  the  redemption  of shares or
postpone the date of payment in limited circumstances.

HOW TO REDEEM

[FAX MACHINE GRAPHIC]
WRITTEN, FAX, TELEGRAM, OR TELEPHONE

*    Send your written instructions to:
         USAA Shareholder Account Services
         9800 Fredericksburg Road
         San Antonio, TX 78288
*    Send  a  signed  fax  to  1-800-292-8177,  or  send  a  telegram  to  USAA
     Shareholder Account Services.
*    Call toll free 1-800-531-8448, in San Antonio, 456-7202.

Telephone redemption privileges are automatically established when you complete
your application.  The Fund will employ  reasonable  procedures to confirm that
instructions  communicated by telephone are genuine; and if it does not, it may
be liable for any losses due to unauthorized or fraudulent

                                      22
<PAGE>

instructions.  Before any  discussion  regarding  your  account,  the following
information is obtained: (1) USAA number and/or account number, (2) the name(s)
on the account registration,  and (3) social security/tax identification number
or  date  of  birth  of  the  registered   account  owner(s)  for  the  account
registration.  Additionally, all telephone communications with you are recorded
and confirmations of account transactions are sent to the address of record. If
you were issued stock  certificates  for your shares,  redemption by telephone,
fax, or telegram is not available.

CHECKWRITING
[CHECK GRAPHIC]

*    Checks can be issued for your New York Money Market Fund account. Return a
     signed signature card, which  accompanies your  application,  or request a
     signature card separately and return to:
          USAA Shareholder Account Services
          9800 Fredericksburg Road
          Ssan Antonio, TX 78288

You will not be charged for the use of checks or any subsequent reorders.  Your
checkwriting  privilege  is subject to State  Street  Bank and Trust  Company's
rules and regulations governing checking accounts.  You may write checks in the
amount of $250 or more.  Checks  written  for less  than $250 will be  returned
unpaid.  Because the value of your account  changes daily as dividends  accrue,
you may not write a check to close your account.

IMPORTANT INFORMATION ABOUT PURCHASES AND REDEMPTIONS

[INVESTOR GUIDE GRAPHIC]
Investor's Guide to USAA Mutual Fund Services

Upon your initial  investment with us, you will receive the INVESTOR'S GUIDE to
help you get the most out of your USAA mutual fund account and to assist you in
your role as an investor.  In the INVESTOR'S  GUIDE,  you will find  additional
information on purchases,  redemptions,  and methods of payment.  You will also
find in-depth information on automatic investment plans, shareholder statements
and reports, and other useful information.

Account Balance

USAA Shareholder  Account Services (SAS), the Funds' transfer agent, may assess
annually a small balance account fee of $12 to each shareholder  account with a
balance,  at the time of assessment,  of less than $2,000.  The fee will reduce
total transfer  agency fees paid by the Fund to SAS.  Accounts  exempt from the
fee include: (1) any account regularly purchasing  additional shares each month
through an automatic  investment  plan;  (2) any account  registered  under the
Uniform  Gifts/Transfers  to Minors Act  (UGMA/UTMA);  (3) all (non-IRA)  money
market fund accounts; (4) any account whose

                                      23
<PAGE>

registered  owner has an aggregate  balance of $50,000 or more invested in USAA
mutual  funds;  and (5) all IRA  accounts  (for the first  year the  account is
open).

Fund Rights

Each Fund reserves the right to:

*   reject purchase or exchange orders  when in  the best interest of the Fund;

*   limit or discontinue the offering of shares  of the Fund  without notice to
    the shareholders;

*   impose a  redemption  charge of up to 1% of the net  asset  value of shares
    redeemed if circumstances indicate a charge is necessary for the protection
    of remaining  investors  (for  example,  if excessive  market-timing  share
    activity unfairly burdens  long-term  investors);  however,  this 1% charge
    will not be imposed upon  shareholders  unless  authorized  by the Board of
    Directors and the required notice has been given to shareholders;

*   require a  signature  guarantee  for  transactions  or  changes  in account
    information in those  instances  where the  appropriateness  of a signature
    authorization  is in  question.  The  Statement of  Additional  Information
    contains information on acceptable guarantors;

*   redeem an account  with less than 50 full shares, with certain limitations.

EXCHANGES

Exchange Privilege

The exchange privilege is automatic when you complete your application. You may
exchange  shares  among Funds in the USAA Family of Funds,  provided you do not
hold these shares in stock  certificate  form and the shares to be acquired are
offered in your state of residence. Only New York residents may exchange into a
New York Fund. After we receive the exchange orders,  the Funds' transfer agent
will  simultaneously  process  exchange  redemptions and purchases at the share
prices next determined.  The investment  minimums applicable to share purchases
also apply to exchanges.  For federal income tax purposes,  an exchange between
Funds is a taxable event;  and as such, you may realize a capital gain or loss.
Such  capital  gains or losses are based on the  difference  between  your cost
basis in the shares and the price received upon exchange.

The Funds have undertaken certain procedures  regarding telephone  transactions
as described on page 22.

Exchange Limitations, Excessive Trading

To  minimize  Fund costs and to protect the Funds and their  shareholders  from
unfair expense burdens,  the Funds restrict excessive  exchanges.  The limit on
exchanges  out  of any Fund in  the USAA  Family  of Funds for each  account is

                                      24
<PAGE>

six per calendar  year (except  there is no  limitation on exchanges out of the
Tax Exempt  Short-Term  Fund,  Short-Term Bond Fund, or any of the money market
funds in the USAA Family of Funds).

SHAREHOLDER INFORMATION

Share Price Calculation

[SIDE BAR]
                                 NAV PER SHARE
                                    EQUALS
                                 TOTAL ASSETS
                                     MINUS
                                  LIABILITIES
                                  DIVIDED BY
                                  # OF SHARES
                                  OUTSTANDING

The price at which you  purchase  and  redeem  Fund  shares is equal to the net
asset value (NAV) per share determined on the effective date of the purchase or
redemption.  You may buy and sell Fund  shares  at the NAV per share  without a
sales  charge.  Each  Fund's  NAV per share is  calculated  at the close of the
regular trading session of the NYSE, which is usually 4:00 p.m. Eastern Time.

Securities  of the New York Bond Fund are  valued  each  business  day at their
current  market  value as  determined  by a  pricing  service  approved  by the
Company's  Board of Directors.  Securities that cannot be valued by the pricing
service,  and all other  assets,  are valued in good faith at fair value  using
methods  we have  determined  under  the  general  supervision  of the Board of
Directors.  In addition,  securities with maturities of 60 days or less and all
securities  of the New York Money  Market  Fund are stated at  amortized  cost,
which approximates market value.

For  additional  information  on how  securities  are valued,  see VALUATION OF
SECURITIES in the Funds' Statement of Additional Information.

Dividends and Distributions

Net  investment  income  of each  Fund is  accrued  daily  and paid on the last
business day of the month.  Dividends shall begin accruing on shares  purchased
the day  following  the  effective  date and  shall  continue  to accrue to the
effective date of redemption.  Any net capital gain distribution usually occurs
within 60 days of the March 31 fiscal year end, which would be somewhere around
the end of May. The Funds will make  additional  payments to  shareholders,  if
necessary, to avoid the imposition of any federal income or excise tax.

We  will   automatically   reinvest  all  income  dividends  and  capital  gain
distributions  in the Fund unless you instruct us differently.  The share price
will be the NAV of the  Fund  shares  computed  on the  ex-dividend  date.  Any
capital gain  distributions  paid by the New York Bond Fund will reduce the NAV
per share by the amount of the dividend or  distribution.  You should  consider
carefully  the effects of  purchasing  shares of the New York Bond Fund shortly
before any  capital  gain  distribution.  Although,  in effect  this would be a
return of capital,  these  distributions  are subject to taxes. If you become a
resident of a state other than New York,  we will mail a check for  proceeds of
income dividends to you monthly.

                                      25
<PAGE>

We will invest any  dividend  or  distribution  payment  returned to us in your
account at the  then-current NAV per share.  Dividend and  distribution  checks
become  void six months  from the date on the  check.  The amount of the voided
check will be invested in your account at the then-current NAV per share.

Federal Taxes

This tax  information  is quite  general and refers to the  federal  income tax
provisions  in effect as of the date of this  Prospectus.  While we manage  the
Funds so that at least 80% of each  Fund's  annual  income  will be exempt from
federal or state income taxes,  we may invest up to 20% of the Funds' assets in
securities  that generate income not exempt from federal income tax or New York
State and City personal income taxes. Because interest income may be exempt for
federal  income tax purposes,  it does not  necessarily  mean that the interest
income  may be exempt  under the income or other tax laws of any state or local
taxing authority. As discussed earlier on page 14, capital gains distributed by
a Fund may be  taxable.  Note  that  the  Taxpayer  Relief  Act of 1997 and the
technical  provisions  adopted by the IRS  Restructuring and Reform Act of 1998
may  affect  the status and  treatment  of certain  distributions  shareholders
receive from the Funds.  Because each investor's tax  circumstances  are unique
and because the tax laws are subject to change,  we recommend  that you consult
your tax adviser about your investment.

WITHHOLDING  - Federal law requires each Fund to withhold and remit to the U.S.
Treasury a portion of the income dividends and capital gain  distributions  and
proceeds of redemptions paid to any non-corporate shareholder who:

*   fails to furnish the Fund with a correct tax identification number,
*   underreports dividend or interest income, or
*   fails to certify that he or she is not subject to withholding.

To avoid this withholding requirement, you must certify on your application, or
on a separate  Form W-9 supplied by the Funds'  transfer  agent,  that your tax
identification  number is correct and you are not  currently  subject to backup
withholding.

REPORTING -Each Fund will report information to you annually concerning the tax
status  of  dividends  and  distributions  for  federal  income  tax  purposes,
including  the  portion  of the  dividends  constituting  interest  on  private
activity  bonds and the  percentage  and source of  interest  income  earned on
tax-exempt securities held by the Fund during the preceding year.

                                      26
<PAGE>

New York Taxation

The  following  is only a  general  summary  of  certain  state  and  local tax
considerations  generally  affecting  shareholders  and  is not  intended  as a
substitute for careful tax planning.  As a potential investor in the Funds, you
should  consult  your  tax  adviser  with  specific  reference  to your own tax
situations.

Each Fund intends to satisfy such requirements of applicable New York law so as
to pay dividends,  as described below,  that are exempt from New York State and
New York City  personal  income  taxes.  Dividends  derived  from  interest  on
qualifying New York Municipal  Obligations  (including certain  territories and
possessions of the United States such as Puerto Rico, the Virgin  Islands,  and
Guam)  will be exempt  from New York  State and New York City  personal  income
taxes, but not New York State corporate  franchise tax or New York City general
corporation  tax.  Investment in a Fund,  however,  may result in liability for
state and/or  local taxes for  individual  shareholders  subject to taxation by
states other than New York State or cities other than New York City because the
exemption from New York State and New York City personal  income taxes does not
prevent  such  other  jurisdictions  from  taxing  individual  shareholders  on
dividends  received  from the  Funds.  For New  York  State  and New York  City
personal income tax purposes, distributions of net long-term capital gains will
be taxable at the same rates as ordinary  income.  Dividends and  distributions
derived  from  income  (including  capital  gains  on all  New  York  Municipal
Obligations)  other than interest on qualifying New York Municipal  Obligations
are not  exempt  from New York  State  and New York  City  taxes.  Interest  on
indebtedness  incurred by a shareholder to purchase or carry shares of the Fund
is not  deductible  for New York  State and New York City  personal  income tax
purposes.  You will receive an annual notification stating your portion of each
Fund's  tax-exempt   income   attributable  to  qualified  New  York  Municipal
Obligations.

                                      27
<PAGE>

Year 2000

Like  other  organizations  around  the  world,  the Funds  could be  adversely
affected if the computer  systems used by them,  their  service  providers,  or
companies  in  which  they  invest  do  not  properly   process  and  calculate
information that relates to dates beginning  January 1, 2000, and beyond.  This
situation may occur because for many years computer  programmers  used only two
digits to describe years, such as 98 for 1998. A program written in this manner
may not work when it encounters the year 00. To confront this  situation,  USAA
companies  have spent much effort and money;  and we expect to have our systems
ready for the Year 2000 by mid-1999. In addition, we are actively assessing the
Year 2000 readiness of our service providers,  partners, and companies in whose
securities we invest. It is not possible for us to say that you will experience
no effect from this situation, but we can say that we are making a large effort
to avoid any ill effects upon our shareholders.

We do believe you are entitled to know with certainty that we will stand behind
your share balance as of the close of business in 1999. When the market reopens
in 2000,  should any computer problem cause a change in the number of shares in
your account, we will return your account to its proper share balance.

                                      28
<PAGE>

FINANCIAL HIGHLIGHTS

The financial  highlights tables are intended to help you understand the Funds'
financial  performance for the past five years.  Certain  information  reflects
financial  results  for a single Fund  share.  The total  returns in the tables
represent  the  rate  that an  investor  would  have  earned  (or  lost)  on an
investment   in  the  Fund   (assuming   reinvestment   of  all  dividends  and
distributions).  This  information  has been audited by KPMG LLP, whose report,
along with the Funds' financial statements,  are included in the Annual Report,
which is available upon request.

NEW YORK BOND FUND:
                                           Year Ended March 31,
                           ----------------------------------------------------
                             1999       1998        1997      1996       1995
                           ----------------------------------------------------
Net asset value at
  beginning of period      $ 11.62    $ 10.94     $ 10.95    $ 10.77   $ 10.83
Net investment income          .61        .63         .64        .63       .62
Net realized and
  unrealized gain (loss)       .04        .68        (.01)       .18      (.06)
Distributions from net
  investment income           (.61)      (.63)       (.64)      (.63)     (.62)
                           ----------------------------------------------------
Net asset value at
  end of period            $ 11.66    $ 11.62     $ 10.94    $ 10.95   $ 10.77
                           ====================================================
Total return (%)*             5.73      12.24        5.89       7.67      5.42

Net assets at end of
  period (000)             $88,480    $70,611     $58,035    $53,987   $50,507
Ratio of expenses to
  average net assets (%)       .50        .50         .50        .50       .50
Ratio of expenses
  to average net
  assets excluding
  reimbursements (%)           .58        .61         .66        .69       .71
Ratio of net investment
  income to average net
  assets (%)                  5.24       5.54        5.83       5.75      5.83
Portfolio turnover (%)       27.64      49.49       41.42      74.81     74.74

- ----------------------

* Assumes reinvestment of all dividend income distributions during the period.

                                      29
<PAGE>

Financial Highlights (cont.)

New York Money Market Fund:

                                           Year Ended March 31,
                           ----------------------------------------------------
                             1999       1998        1997      1996       1995
                           ----------------------------------------------------
Net asset value at
  beginning of period      $  1.00    $  1.00     $  1.00    $  1.00   $  1.00
Net investment income          .03        .03         .03        .04       .03
Distributions from net
  investment income           (.03)     (.03)        (.03)      (.04)     (.03)
                           ----------------------------------------------------
Net asset value at
  end of period            $  1.00    $  1.00     $  1.00    $  1.00   $  1.00
                           ====================================================

Total return (%)*             2.90       3.29        3.16       3.56      2.76

Net assets at end of
  period (000)             $68,834    $62,226     $49,996    $45,554   $27,525

Ratio of expenses to
  average net assets (%)       .50        .50         .50        .50       .50

Ratio of expenses to average
  net assets excluding
  reimbursements (%)           .60        .63         .69        .78       .85

Ratio of net investment
  income to average net
  assets (%)                  2.86       3.23        3.12       3.47      2.74

- ---------------------

* Assumes reinvestment of all dividend income distributions during the period.

                                      30
<PAGE>

                                  APPENDIX A

THE FOLLOWING ARE  DESCRIPTIONS  OF CERTAIN TYPES OF SECURITIES IN WHICH WE MAY
INVEST EACH FUND'S ASSETS:

VARIABLE RATE SECURITIES

We may invest a Fund's  assets in tax-exempt  securities  that bear interest at
rates which are adjusted periodically to market rates.

*   These  interest  rate  adjustments  can both  raise and  lower  the  income
    generated by such  securities.  These  changes will have the same effect on
    the  income  earned  by the  Fund  depending  on  the  proportion  of  such
    securities held.

*   Because the interest  rates of variable rate  securities  are  periodically
    adjusted  to reflect  current  market  rates,  their  market  value is less
    affected by changes in prevailing  interest  rates than the market value of
    securities with fixed interest rates.

*   The market value of a variable  rate  security  usually  tends  toward  par
    (100% of face value) at interest rate adjustment time.

In the  case  of the New  York  Money  Market  Fund  only,  any  variable  rate
instrument  with a demand  feature  will be deemed to have a maturity  equal to
either  the date on which the  underlying  principal  amount  may be  recovered
through demand or the next rate  adjustment  date  consistent  with  applicable
regulatory requirements.

PUT BONDS

We may invest a Fund's assets in tax-exempt  securities  (including  securities
with variable  interest  rates) which may be redeemed or sold back (put) to the
issuer of the security or a third party prior to stated  maturity  (put bonds).
Such  securities  will  normally  trade as if maturity is the earlier put date,
even though stated maturity is longer. For the New York Bond Fund, maturity for
put  bonds  is  deemed  to be the date on which  the put  becomes  exercisable.
Generally,  maturity  for put  bonds  for the New  York  Money  Market  Fund is
determined as stated under Variable Rate Securities.

ZERO COUPON BONDS
We may invest a Fund's  assets in zero  coupon  bonds.  A zero coupon bond is a
security that is sold at a deep discount from its face value, makes no periodic
interest payments,  and is redeemed at face value when it matures. The lump sum
payment at maturity  increases the price  volatility of the zero coupon bond to
changes in interest rates when compared to a bond that distributes a semiannual
coupon payment.  In calculating  its dividend,  each Fund records as income the
daily amortization of the purchase discount.

SYNTHETIC INSTRUMENTS

We may  invest a Fund's  assets in tender  option  bonds,  bond  receipts,  and
similar synthetic municipal  instruments.  A synthetic instrument is a security
created by combining an intermediate  or long-term  municipal bond with a right
to sell  the  instrument  back to the  remarketer  or  liquidity  provider  for
repurchase  on short  notice.  This right to sell is commonly  referred to as a
tender option.  Usually, the tender option is backed by a conditional guarantee
or letter of credit from a bank or other financial institution. Under its

                                      31
<PAGE>

terms,  the  guarantee may expire if the  municipality  defaults on payments of
interest or  principal  on the  underlying  bond,  if the credit  rating of the
municipality is downgraded, or if the instrument (or the underlying bond) loses
its tax-exempt  treatment.  Synthetic instruments involve structural risks that
could  adversely  affect the value of the  instrument or could result in a Fund
holding an instrument for a longer period of time than originally anticipated.

WHEN-ISSUED SECURITIES

We may invest a Fund's assets in new securities offered on a when-issued basis.

*   Delivery  and  payment  take  place  after  the date of the  commitment  to
    purchase,  normally  within 45 days. Both price and interest rate are fixed
    at the time of commitment.
*   The Funds do not earn interest on the securities until settlement,  and the
    market  value  of  the  securities  may  fluctuate   between  purchase  and
    settlement.
*   Such securities can be sold before settlement date.

MUNICIPAL LEASE OBLIGATIONS

We may invest a Fund's assets in a variety of instruments  commonly referred to
as municipal lease obligations, including:

*   Leases,
*   Installment purchase contracts, and
*   Certificates of participation in such leases and contracts.

Certain lease  obligations  contain  "non-appropriation"  clauses which provide
that the municipality  has no obligation to make lease  obligation  payments in
future years unless money is appropriated for such purpose on a yearly basis.

LIQUIDITY

We may invest up to 15% of the New York Bond Fund's net assets and up to 10% of
the New York Money Market  Fund's net assets in  securities  that are illiquid.
Illiquid  securities  are those  securities  which cannot be disposed of in the
ordinary course of business,  seven days or less, at approximately the value at
which the Fund has valued the securities.

Lease obligations and certain put bonds subject to restrictions on transfer may
be determined to be liquid in accordance with the guidelines established by the
Funds' Board of Directors.

In determining the liquidity of a lease obligation,  we will consider:  (1) the
frequency  of trades  and quotes  for the lease  obligation;  (2) the number of
dealers  willing to  purchase  or sell the lease  obligation  and the number of
other  potential  purchasers;  (3) dealer  undertakings to make a market in the
lease obligation;  (4) the nature of the marketplace trades, including the time
needed to dispose of the lease obligation, the method of soliciting offers, and
the mechanics of transfer;  (5) whether the lease  obligation is of a size that
will be attractive to institutional investors; (6) whether the lease obligation
contains a  non-appropriation  clause and the likelihood  that the obligor will
fail to make an  appropriation  therefor;  and (7) such other factors as we may
determine to be relevant to such determination.

In determining  the liquidity of put bonds with  restrictions  on transfer,  we
will evaluate the credit  quality of the party (the Put  Provider)  issuing (or
unconditionally  guaranteeing  performance on) the  unconditional put or demand
feature of the put bond.

                                      32
<PAGE>

                                   APPENDIX B

Taxable-Equivalent Yield Table

COMBINED 1999 FEDERAL INCOME TAX AND
NEW YORK STATE PERSONAL INCOME TAX RATES

Assuming a Federal
Marginal Tax Rate of:          28%          31%            36%         39.6%

and a State Rate of:         6.85%        6.85%          6.85%         6.85%

The Effective Marginal
Tax Rate Would be:        32.9320%(a)  35.7265%(b)    40.3840%(c)   43.7374%(d)

To Match a Double
Tax-Free Yield of:       A Fully Taxable Investment Would Have to Pay You:
===============================================================================
        2.00%             2.98%         3.11%          3.35%         3.55%
        2.50%             3.73%         3.89%          4.19%         4.44%
        3.00%             4.47%         4.67%          5.03%         5.33%
        3.50%             5.22%         5.45%          5.87%         6.22%
        4.00%             5.96%         6.22%          6.71%         7.11%
        4.50%             6.71%         7.00%          7.55%         8.00%
        5.00%             7.46%         7.78%          8.39%         8.89%
        5.50%             8.20%         8.56%          9.23%         9.78%
        6.00%             8.95%         9.34%         10.06%        10.66%
        6.50%             9.69%        10.11%         10.90%        11.55%
        7.00%            10.44%        10.89%         11.74%        12.44%
===============================================================================

(a) Federal  Rate of 28% + (New York State Rate of 6.85% x (1-28%))
(b) Federal Rate of 31% + (New York State Rate of 6.85% x (1-31%))
(c) Federal Rate of 36% + (New York  State Rate of 6.85% x (1-36%))
(d) Federal  Rate of 39.6% + (New York State Rate of 6.85% x (1-39.6%))

THIS TABLE IS A  HYPOTHETICAL  ILLUSTRATION  AND SHOULD  NOT BE  CONSIDERED  AN
INDICATION OF FUND PERFORMANCE OF ANY OF THE USAA FAMILY OF FUNDS.

THESE RATES WERE SELECTED AS EXAMPLES THAT WOULD BE RELEVANT TO MOST TAXPAYERS.

FOR A FURTHER EXPLANATION ON CALCULATING  TAX-EQUIVALENT YIELDS, SEE THE FUNDS'
STATEMENT OF ADDITIONAL INFORMATION.

                                      33
<PAGE>

Taxable-Equivalent Yield Table

COMBINED 1999 FEDERAL INCOME TAX
AND NEW YORK STATE AND NEW YORK CITY
PERSONAL INCOME TAX RATES

Assuming a Federal
Marginal Tax Rate of:         28%          31%           36%          39.6%

and a Combined State
and City Rate of:          10.68%       10.68%        10.68%         10.68%

The Effective Marginal
Tax Rate Would be:       35.6896%(e)  38.3692%(f)   42.8352%(g)    46.0507%(h)

To Match a Double
Tax-Free Yield of:       A Fully Taxable Investment Would Have to Pay You:

===============================================================================
        2.00%             3.11%         3.25%          3.50%         3.71%
        2.50%             3.89%         4.06%          4.37%         4.63%
        3.00%             4.66%         4.87%          5.25%         5.56%
        3.50%             5.44%         5.68%          6.12%         6.49%
        4.00%             6.22%         6.49%          7.00%         7.41%
        4.50%             7.00%         7.30%          7.87%         8.34%
        5.00%             7.77%         8.11%          8.75%         9.27%
        5.50%             8.55%         8.92%          9.62%        10.19%
        6.00%             9.33%         9.74%         10.50%        11.12%
        6.50%            10.11%        10.55%         11.37%        12.05%
        7.00%            10.88%        11.36%         12.25%        12.98%
===============================================================================

(e) Federal Rate of 28% + (New York State Rate of 6.85% + City Rate of 3.83 x
    (1-28%))
(f) Federal Rate of 31% + (New York State Rate of 6.85% + City Rate of 3.83 x
    (1-31%))
(g) Federal Rate of 36% + (New York State Rate of 6.85% + City Rate of 3.83 x
    (1-36%))
(h) Federal Rate of 39.6% + (New York State Rate of 6.85% + City Rate of 3.83 x
    (1-39.6%))

WHERE   APPLICABLE,   THE  TABLE  ASSUMES  THE  HIGHEST  STATE  AND  CITY  RATE
CORRESPONDING  TO THE FEDERAL  MARGINAL TAX RATE. AN  INVESTOR'S  TAX RATES MAY
EXCEED THE RATES SHOWN IN THE ABOVE  TABLES IF SUCH  INVESTOR  DOES NOT ITEMIZE
DEDUCTIONS  FOR FEDERAL INCOME TAX PURPOSES OR DUE TO THE REDUCTION OR POSSIBLE
ELIMINATION OF THE PERSONAL EXEMPTION  DEDUCTION FOR HIGH-INCOME  TAXPAYERS AND
AN OVERALL LIMIT ON ITEMIZED  DEDUCTIONS.  FOR  TAXPAYERS  WHO PAY  ALTERNATIVE
MINIMUM TAX,  TAX-FREE  YIELDS MAY BE EQUIVALENT  TO LOWER TAXABLE  YIELDS THAN
THOSE  SHOWN  ABOVE.  LIKEWISE,  FOR  SHAREHOLDERS  WHO ARE  SUBJECT  TO INCOME
TAXATION BY STATES OTHER THAN NEW YORK,  TAX-FREE  YIELDS MAY BE  EQUIVALENT TO
LOWER TAXABLE  YIELDS THAN THOSE SHOWN ABOVE.  THE ABOVE TABLES DO NOT APPLY TO
CORPORATE INVESTORS.

                                      34
<PAGE>
                                   APPENDIX C

USAA Family of No-Load Mutual Funds

The USAA Family of No-Load Mutual Funds includes a variety of Funds,  each with
different objectives and policies. In combination,  these Funds are designed to
provide you with the opportunity to formulate your own investment program.  You
may  exchange  any shares you hold in any one USAA Fund for shares in any other
USAA Fund. For more complete  information  about other Funds in the USAA Family
of Funds,  including  charges and expenses,  call us for a Prospectus.  Read it
carefully before you invest or send money.


  FUNDTYPE/NAME                 VOLATILITY
  ==============================================
  CAPITAL APPRECIATION
  ----------------------------------------------
  Aggressive Growth            Very high
  Emerging Markets1            Very high
  First Start Growth           Moderate to high
  Gold1                        Very high
  Growth                       Moderate to high
  Growth & Income              Moderate
  International1               Moderate to high
  S&P 500 Index2               Moderate
  Science & Technology         Very high
  Small Cap Stock              Very high
  World Growth1                Moderate to high
  ==============================================
  ASSET ALLOCATION
  ----------------------------------------------
  Balanced Strategy1           Moderate
  Cornerstone Strategy1        Moderate
  Growth and Tax Strategy      Moderate
  Growth Strategy1             Moderate to high
  Income Strategy              Low to moderate
  ==============================================
  INCOME - TAXABLE
  ----------------------------------------------
  GNMA                         Low to moderate
  High-Yield Opportunities     High
  Income                       Moderate
  Income Stock                 Moderate
  Intermediate-Term Bond       Low to moderate
  Short-Term Bond              Low
  ==============================================
  INCOME - TAX EXEMPT
  ----------------------------------------------
  Long-Term3                   Moderate
  Intermediate-Term3           Low to moderate
  Short-Term3                  Low
  State Bond/Income3,4         Moderate
  ==============================================
  MONEY MARKET
  ----------------------------------------------
  Money Market5                Very low
  Tax Exempt Money Market3,5   Very low
  Treasury Money Market Trust5 Very low
  State Money Market3,4,5      Very low
  ----------------------------------------------

1 FOREIGN   INVESTING  IS  SUBJECT  TO  ADDITIONAL   RISKS,  SUCH  AS  CURRENCY
  FLUCTUATIONS, MARKET ILLIQUIDITY, AND POLITICAL INSTABILITY.

2 S&P(R)  IS A  TRADEMARK  OF THE  MCGRAW-HILL  COMPANIES,  INC.,  AND HAS BEEN
  LICENSED FOR USE. THE PRODUCT IS NoT SPONSORED,  SOLD OR PROMOTED BY STANDARD
  &  POOR'S,  AND  STANDARD  & POOR'S  MAKES NO  REPRESENTATION  REGARDING  THE
  ADVISABILITY OF INVESTING IN THE PRODUCT.

3 SOME INCOME MAY BE SUBJECT TO STATE OR LOCAL TAXES.

4 CALIFORNIA,  FLORIDA, NEW YORK, TEXAS, AND VIRGINIA FUNDS ARE OFFERED ONLY TO
  RESIDENTS OF THOSE STATES.

5 AN INVESTMENT IN A MONEY MARKET FUND IS NOT INSURED OR GUARANTEED BY THE FDIC
  OR ANY OTHER GOVERNMENT AGENCY. ALTHOUGH THE FUND SEEKS TO PRESERVE THE VALUE
  OF YOUR INVESTMENT AT $1 PER SHARE, IT IS POSSIBLE TO LOSE MONEY BY INVESTING
  IN THE FUND.

                                      35
<PAGE>

If you would like more information about the Fund, you may call  1-800-531-8181
to request a free copy of the Fund's Statement of Additional  Information (SAI)
or to ask  other  questions  about the Fund.  The SAI has been  filed  with the
Securities  and  Exchange  Commission  (SEC)  and  is  legally  a  part  of the
Prospectus.  In each Fund's  Annual  Report,  you will find a discussion of the
market  conditions and investment  strategies that  significantly  affected the
Fund's performance during the last fiscal year.

To view these documents,  along with other related documents, you can visit the
SEC's  Internet  web  site  (http://www.sec.gov)  or  the  Commission's  Public
Reference Room in Washington,  D.C.  Information on the operation of the public
reference room can be obtained by calling 1-800-SEC-0330.  Additionally, copies
of this  information  can be obtained,  for a  duplicating  fee, by writing the
Public Reference Section of the Commission, Washington, D.C. 20549-6009.

                Investment Adviser, Underwriter and Distributor
                       USAA Investment Management Company
                            9800 Fredericksburg Road
                            San Antonio, Texas 78288

           -------------------------------------------------------------
            Transfer Agent                              Custodian
    USAA Shareholder Account Services       State Street Bank and Trust Company
       9800 Fredericksburg Road                        P.O. Box 1713
       San Antonio, Texas 78288                  Boston, Massachusetts 02105
           -------------------------------------------------------------
                           Telephone Assistance Hours
                         Call toll free - Central Time
                     Monday - Friday 7:30 a.m. to 8:00 p.m.
                        Saturdays 8:30 a.m. to 5:00 p.m.
           -------------------------------------------------------------
                   For Additional Information on Mutual Funds
                   1-800-531-8181, (in San Antonio) 456-7211
                For account servicing, exchanges or redemptions
                   1-800-531-8448, (in San Antonio) 456-7202
           -------------------------------------------------------------
                       Recorded Mutual Fund Price Quotes
                        24-Hour Service (from any phone)
                   1-800-531-8066, (in San Antonio) 498-8066
           -------------------------------------------------------------
                            Mutual Fund TouchLineSM
                          (from Touchtone phones only)
              For account balance, last transaction or fund prices
                   1-800-531-8777, (in San Antonio) 498-8777

                    Investment Company Act File No. 811-3333
<PAGE>

                                     Part A


                               Prospectus for the
                               Virginia Bond and
                          Virginia Money Market Funds

<PAGE>
                              USAA VIRGINIA FUNDS

                            USAA VIRGINIA BOND FUND
                        USAA VIRGINIA MONEY MARKET FUND

                                   PROSPECTUS

                                 AUGUST 1, 1999

Shares of the Virginia Funds are offered only to residents of the  Commonwealth
of Virginia. The delivery of this Prospectus is not an offer in any state where
shares of the Virginia Funds may not lawfully be made.

As with other mutual funds,  the  Securities  and Exchange  Commission  has not
approved or disapproved of either of these Fund's shares or determined  whether
this  prospectus  is accurate or  complete.  Anyone who tells you  otherwise is
committing a crime.

                               TABLE OF CONTENTS

 What Are Each Fund's
   Investment Objectives
   and Main Strategies?.................................................  2
 Main Risks of Investing
   in These Funds.......................................................  2
 Are These Funds for You?...............................................  3
 Could the Value of Your
   Investment in These
   Funds Fluctuate?.....................................................  4
 Fees and Expenses......................................................  7
 Fund Investments.......................................................  9
 Fund Management........................................................ 18
   Using Mutual Funds in an
   Investment Program................................................... 19
  How to Invest......................................................... 20
  Important Information
   About Purchases and
   Redemptions.......................................................... 24
  Exchanges............................................................. 25
  Shareholder Information............................................... 25
  Financial Highlights.................................................. 29
  Appendix A ........................................................... 31
  Appendix B ........................................................... 33
  Appendix C ........................................................... 34

<PAGE>

USAA Investment  Management  Company  manages these Funds.  For easier reading,
USAA  Investment  Management  Company  will  be  referred  to as  "we"  or "us"
throughout the Prospectus.

WHAT ARE EACH FUND'S INVESTMENT OBJECTIVES AND MAIN STRATEGIES?

Each Fund has a common  objective of providing  Virginia  investors with a high
level of current interest income that is exempt from federal and Virginia state
income  taxes.  The  Virginia  Money  Market  Fund has a further  objective  of
preserving capital and maintaining liquidity. Each Fund has separate investment
policies to achieve its objective.

The  VIRGINIA  BOND  FUND  invests  primarily  in  long-term,  investment-grade
Virginia tax-exempt securities.  The Fund's average  dollar-weighted  portfolio
maturity is not restricted, but is expected to be greater than 10 years.

The VIRGINIA  MONEY MARKET FUND invests in  high-quality,  Virginia  tax-exempt
securities with maturities of 397 days or less.

In view of the risks inherent in all  investments  in  securities,  there is no
assurance that the Funds' objectives will be achieved.  See FUND INVESTMENTS on
page 9 for more information.

MAIN RISKS OF INVESTING IN THESE FUNDS

The two primary  risks of  investing  in these Funds are credit risk and market
risk. As with other mutual funds, losing  money is also a  risk of investing in
these Funds.

*   CREDIT RISK  involves the  possibility  that a borrower  cannot make timely
    interest and principal payments on its securities.

*   MARKET  RISK  involves  the  possibility  that  the  value  of each  Fund's
    investments  will decline  because of an increase in interest  rates, or to
    adverse  changes in supply and demand for  municipal  securities,  or other
    market factors.

These credit and market risks may be magnified  because each Fund  concentrates
in Virginia tax-exempt securities.

IF INTEREST RATES INCREASE:  the yield of each Fund may increase and the market
value of the Virginia Bond Fund's  securities  will likely  decline,  adversely
affecting the net asset value and total return.

IF INTEREST RATES DECREASE:  the yield of each Fund may decrease and the market
value of the Virginia Bond Fund's  securities may increase,  which would likely
increase the Fund's net asset value and total return. The Virginia Money Market
Fund's total return may decrease.

                                       2
<PAGE>

Other risks of investing in either Fund include call risk and structural risk.

As you consider an investment in either Fund, you should also take into account
your tolerance for the daily  fluctuations of the financial markets and whether
you can afford to leave your money in the  investment  for long periods of time
to ride out down periods.

An investment in either Fund is not a deposit of USAA Federal  Savings Bank, or
any other  bank,  and is not  insured  or  guaranteed  by the  Federal  Deposit
Insurance  Corporation or any other  government  agency.  Although the Virginia
Money  Market Fund seeks to  preserve  the value of your  investment  at $1 per
share, it is possible to lose money by investing in that Fund.

[CAUTION LIGHT GRAPHIC]
Look for this symbol throughout the Prospectus. We use it to mark more detailed
information about the main risks you will face as a Fund shareholder.

ARE THESE FUNDS FOR YOU?

Virginia Bond Fund

This Fund might be appropriate as part of your investment portfolio if . . .

  *  You are looking for current income that is exempt from  Virginia state and
     federal income taxes.
  *  You are willing to accept moderate risk.
  *  You are looking for an investment in bonds to balance your stock
     portfolio.

This Fund MAY NOT be appropriate as part of your investment portfolio if . . .

  *  You are unwilling to take greater risk for intermediate-term goals.
  *  Your current tax situation does not allow you to benefit  from  tax-exempt
     income.
  *  You are seeking an  appropriate  investment for an  IRA, through  a 401(k)
     plan or 403(b) plan, or other tax-sheltered account.

Virginia Money Market Fund

This Fund might be appropriate as part of your investment portfolio if . . .

  *  You are looking for current income that is exempt from  Virginia state and
     federal income taxes.
  *  You need to preserve principal.
  *  You want a low-risk investment.
  *  You need your money back within a short period.
  *  You would like checkwriting privileges on the account.
  *  You are looking for an  investment in  a money market fund to balance your
     stock or long-term bond portfolio.

                                       3
<PAGE>

This Fund MAY NOT be appropriate as part of your investment portfolio if . . .

  *  You need a high total return to achieve your goals.
  *  Your primary goal is long-term growth.
  *  Your current tax situation does not allow you to benefit from tax-exempt
     income.

Either  Fund by itself  does not  constitute  a  balanced  investment  program.
Diversifying  your investments may improve your long-run  investment return and
lower the volatility of your overall investment portfolio.


COULD THE VALUE OF YOUR INVESTMENT IN THESE FUNDS FLUCTUATE?

Yes, it could.  In fact, the value of your investment in the Virginia Bond Fund
will fluctuate with the changing  market values of the investments in the Fund.
We manage the Virginia Money Market Fund in accordance  with strict  Securities
and Exchange  Commission (SEC) guidelines designed to preserve the Fund's value
at $1 per share,  although,  of course, we cannot guarantee that the value will
remain at $1 per share.

The value of the  securities in which the Virginia Bond Fund invests  typically
fluctuates  inversely  with  changes in the general  level of  interest  rates.
Changes in the  creditworthiness of issuers and changes in other market factors
such as the  relative  supply of and demand for  tax-exempt  bonds also  create
value fluctuations. The bar charts shown below illustrate the Funds' volatility
and performance from year to year over the life of the Funds.

TOTAL RETURN

[SIDE BAR]
     TOTAL RETURN MEASURES THE PRICE CHANGE IN A SHARE ASSUMING THE
     REINVESTMENT OF ALL DIVIDEND INCOME AND CAPITAL GAIN DISTRIBUTIONS.

All mutual funds must use the same formula to calculate total return.

Virginia Bond Fund

[BAR CHART]

                       CALENDAR              TOTAL
                         YEAR                RETURN

                        1991                 11.72%
                        1992                  8.49%
                        1993                 12.67%
                        1994                 -6.32%
                        1995                 17.08%
                        1996                  5.06%
                        1997                  9.50%
                        1998                  6.04%

                 *Fund began operations on October 15, 1990.

                                       4
<PAGE>

     THE VIRGINIA BOND FUND'S TOTAL RETURN FOR THE SIX-MONTH  PERIOD ENDED JUNE
30, 1999, WAS ___%.

During the  periods  shown in the bar chart,  the  highest  total  return for a
quarter was 7.72%  (quarter  ending March 31, 1995) and the lowest total return
for a quarter was -5.34% (quarter ending March 31, 1994).

The table below shows how the Fund's  average  annual  returns for the one- and
five-year  periods  as well as the  life of the  Fund  compared  to  those of a
broad-based securities market index. Remember,  historical performance does not
necessarily indicate what will happen in the future.

===============================================================================
   Average Annual Total Returns                             Since Fund's
   (for the periods ending         Past         Past        Inception on
   December 31, 1998)             1 Year       5 Years    October 15, 1990
===============================================================================
   Virginia Bond Fund              6.04%        6.00%          8.09%
- -------------------------------------------------------------------------------
   Lehman Brothers
     Municipal Bond Index*         6.48%        6.22%          8.31%
===============================================================================

  * THE LEHMAN BROS.  MUNICIPAL  BOND INDEX IS AN  UNMANAGED BENCHMARK OF TOTAL
    RETURN  PERFORMANCE  FOR THE  LONG-TERM, INVESTMENT-GRADE, TAX-EXEMPT  BOND
    MARKET.

Virginia Money Market Fund

[BAR CHART]

                       CALENDAR              TOTAL
                         YEAR                RETURN

                        1991                  4.50%
                        1992                  2.91%
                        1993                  2.20%
                        1994                  2.54%
                        1995                  3.52%
                        1996                  3.17%
                        1997                  3.31%
                        1998                  3.14%

               *Fund began operations on October 15, 1990.

    THE VIRGINIA  MONEY MARKET  FUND'S TOTAL RETURN  FOR THE  SIX-MONTH  PERIOD
    ENDED JUNE 30, 1999, WAS ____%.

                                      5
<PAGE>

During the  periods  shown in the bar chart,  the  highest  total  return for a
quarter was 1.20%  (quarter  ending March 31, 1991) and the lowest total return
for a quarter was .49% (quarter ending March 31, 1994).

The table  below  shows the  Fund's  average  annual  returns  for the one- and
five-year  periods  as  well  as the  life of the  Fund.  Remember,  historical
performance does not necessarily indicate what will happen in the future.

===============================================================================
  Average Annual Total Returns                              Since Fund's
  (for the periods ending           Past        Past        Inception on
  December 31, 1998)               1 Year      5 Years     October 15, 1990
===============================================================================
  Virginia Money Market Fund       3.14%        3.14%           3.21%
===============================================================================

Yield

[SIDE BAR]
     YIELD IS THE ANNUALIZED  NET INCOME OF THE FUND DURING A SPECIFIED PERIOD
     AS A PERCENTAGE OF THE FUND'S SHARE PRICE.

     EFFECTIVE YIELD IS CALCULATED SIMILAR TO THE YIELD, HOWEVER, WHEN
     ANNUALIZED, THE INCOME EARNED IS ASSUMED TO BE REINVESTED.

All mutual funds must use the same  formulas to calculate  yield and  effective
yield.

Virginia Bond Fund

The Virginia  Bond Fund may  advertise  performance  in terms of a 30-day yield
quotation or a  tax-equivalent  yield.  The Fund's  30-day yield for the period
ended December 31, 1998, was 4.42%.

Virginia Money Market Fund

The Virginia Money Market Fund typically  advertises  performance in terms of a
7-day yield and effective yield or tax-equivalent yield and may advertise total
return. The 7-day yield quotation more closely reflects current earnings of the
Fund than the total  return  quotation.  The  effective  yield will be slightly
higher  than  the  yield  because  of the  compounding  effect  of the  assumed
reinvestment. Current yields and effective yields fluctuate daily and will vary
with factors such as interest rates and the quality, length of maturities,  and
type of  investments  in the  portfolio.  The Fund's 7-day yield for the period
ended December 31, 1998, was 3.20%.

You may obtain the most current  yield  information  for either of the Funds by
calling 1-800-531-8777.

TAX-EQUIVALENT YIELD

Investors use  tax-equivalent  yields to compare  taxable and tax-exempt  fixed
income investments using a common yield measure.  The  tax-equivalent  yield is
the  yield  that a fully  taxable  investment  must  generate  to earn the same
"take-home" yield as a tax-exempt investment. The calculation depends upon your
federal and Virginia marginal income tax rates and assumes that an investor can
fully itemize deductions on his or her federal tax return. The higher your

                                       6
<PAGE>

marginal tax bracket,  the higher will be the tax-equivalent yield and the more
valuable is the Fund's tax exemption.

For  example,  if you  assume a  federal  marginal  tax rate of 36% and a state
marginal tax rate of 5.75%,  the  Effective  Marginal Tax Rate would be 39.68%.
Using this tax rate,  the Funds'  tax-equivalent  yields for the period  ending
December 31, 1998, would be as follows:

===============================================================================
                                                 Tax-Equivalent
                                        Yield         Yield
===============================================================================
   Virginia Bond Fund (30 day)          4.42%         7.33%
- -------------------------------------------------------------------------------
   Virginia Money Market Fund (7 day)   3.20%         5.31%
===============================================================================

Using the example,  to exceed the 30-day yield of the Virginia  Bond Fund on an
after-tax basis, you must find a fully taxable investment that yields more than
7.33%.  Likewise,  to exceed the 7-day yield of the Virginia Money Market Fund,
you must find a fully taxable investment that yields more than 5.31%.

For more information on calculating  tax-equivalent  yields,  see APPENDIX B on
page 33.

[SIDE BAR GRAPHIC]
                                  TouchLineSM
                                1-800-531-8777
                                     press
                                       1
                                     then
                                       1
                                     then
                                    6, 5, #

Please  consider  performance  information  in light of the  Funds'  investment
objectives and policies and market conditions during the reported time periods.
The value of your shares may go up or down. For the most current price,  yield,
and  return  information  for these  Funds,  you may call USAA  TouchLineSM  at
1-800-531-8777.  Press 1 for the Mutual  Fund Menu,  press 1 again for  prices,
yields,  and returns.  Then,  press 64# for the Virginia Bond Fund or press 65#
for the Virginia Money Market Fund when asked for a Fund Code.

[SIDE BAR]
                                   VIRGINIA
                                   BOND FUND
                                   NEWSPAPER
                                    SYMBOL
                                     VA Bd

                                    TICKER
                                    SYMBOLS
                                     USVAX
                                     UVAXX

You can also find the most current price of your shares in the business section
of your newspaper in the mutual fund section under the heading "USAA Group" and
the symbol "VA Bd" for the  Virginia  Bond Fund.  If you prefer to obtain  this
information from an on-line computer service, you can do so by using the ticker
symbol  "USVAX" for the Virginia Bond Fund or the ticker symbol "UVAXX" for the
Virginia Money Market Fund.

FEES AND EXPENSES

This summary shows what it will cost you, directly or indirectly,  to invest in
the Funds.

Shareholder Transaction Expenses -- (Direct Costs)

There are no fees or sales loads  charged to your  account when you buy or sell
Fund  shares.  However,  if you sell  shares  and  request  your  money by wire
transfer,  there is a $10 fee.  (Your bank may also charge a fee for  receiving
wires.)

                                       7
<PAGE>

Annual Fund Operating Expenses -- (Indirect Costs)

Fund  expenses  come out of the Funds'  assets and are  reflected in the Funds'
share prices and dividends. "Other Expenses" include expenses such as custodian
and  transfer  agent fees.  The  figures on the next page show actual  expenses
before  waivers,  if any, during the past fiscal year ended March 31, 1999, and
are calculated as a percentage of average net assets (ANA).

[SIDE BAR]
     12b-1 FEES - SOME MUTUAL FUNDS CHARGE THESE FEES TO PAY FOR ADVERTISING
     AND OTHER COSTS OF SELLING FUND SHARES.

===============================================================================
                                         Virginia       Virginia Money
                                         Bond Fund       Market Fund
===============================================================================
  Management Fees                          .33%             .33%
  Distribution (12b-1) Fees                None             None
  Other Expenses                           .10%             .17%
                                           ----             ----
  Total Annual Fund Operating Expenses*    .43%             .50%
                                           ====             ====
===============================================================================

_____________

   * During the year,  we  voluntarily  limited  each Fund's  Total Annual Fund
     Operating  Expenses to .50% of its ANA. However,  the Total Fund Operating
     Expenses  for the  Virginia  Bond  Fund  did not  exceed  the  limitation,
     therefore,  no reimbursements were required.  With respect to the Virginia
     Money  Market  Fund,  the  Total  Fund  Operating   Expenses  were  .502%,
     therefore, we reimbursed the Fund $3,700. We have again voluntarily agreed
     to limit each Fund's annual expenses to .50% of its ANA and will reimburse
     the Funds for all expenses in excess of that amount until August 1, 2000.


Example of Effect of the Funds' Operating Expenses

This example  provides  you a comparison  of investing in one of the Funds with
the cost of investing in other mutual funds.  Although your actual costs may be
higher or lower, you would pay the following expenses on a $10,000  investment,
assuming (1) 5% annual return,  (2) the Fund's  operating  expenses (before any
applicable  reimbursement)  remain  the same,  and (3) you  redeem  all of your
shares at the end of those periods shown.

===============================================================================
                        Virginia       Virginia Money
                        Bond Fund        Market Fund
===============================================================================
          1  year        $ 44              $ 51
          3 years         138               160
          5 years         241               280
         10 years         542               628
===============================================================================

                                       8
<PAGE>

FUND INVESTMENTS

Principal Investment Strategies and Risks

  Q  What is each Fund's principal investment strategy?

  A  Each Fund's  principal investment  strategy is to invest the Fund's assets
     in  securities  issued by the  Commonwealth  of  Virginia,  its  political
     subdivisions and instrumentalities, and by other governmental entities if,
     in the opinion of counsel,  the interest from such obligations is excluded
     from gross  income for  federal  income tax  purposes  and is exempt  from
     Virginia state income taxes.

     These securities  include municipal debt obligations that have been issued
     by Virginia and its political subdivisions, and duly constituted state and
     local  authorities  and  corporations.  We refer to  these  securities  as
     Virginia tax-exempt securities.  Virginia tax-exempt securities are issued
     to fund  public  infrastructure  projects  such as streets  and  highways,
     schools, water and sewer systems,  hospitals,  and airports. They may also
     be issued to refinance outstanding  obligations as well as to obtain funds
     for general operating expenses and for loans to other public  institutions
     and facilities.

     Because the projects  benefit the public,  Congress has granted  exemption
     from  federal  income  taxes for the  interest  income  arising from these
     securities.  Likewise,  the Virginia  Legislature has granted an exemption
     from state personal income taxes for most Virginia municipal securities.


  Q  What  types of  tax-exempt  securities  will be  included  in each  Fund's
     portfolio?

  A  Each Fund's  assets may be  invested  in any of the  following  tax-exempt
     securities:

       *   general obligation bonds which are secured by the issuer's pledge of
           its  full  faith,  credit,  and  taxing  power  for the  payment  of
           principal and interest;

       *   revenue  bonds which are payable  from the  revenue  derived  from a
           particular  facility or class of facilities or, in some cases,  from
           annual   appropriations  made  by  the  state  legislature  for  the
           repayment  of  interest  and  principal  or other  specific  revenue
           source, but not from the general taxing power;

                                       9
<PAGE>

       *   lease obligations  backed by the  municipality's  covenant to budget
           for the payments due under the lease obligation;

       *   synthetic  instruments,  which  combine a  municipality's  long-term
           obligation  to pay interest  and  principal  with  another  person's
           obligation to repurchase the instrument on short notice; and

       *   industrial  development  bonds  issued  by or on  behalf  of  public
           authorities to obtain funds for privately-operated facilities.

     As a temporary defensive measure because of market,  economic,  political,
     or other  conditions,  we may invest up to 100% of each  Fund's  assets in
     short-term  securities  whether or not they are exempt from federal income
     tax and Virginia  state income taxes.  To the extent that these  temporary
     investments  produce taxable  income,  that income may result in that Fund
     not fully achieving its investment objective during the time it is in this
     temporary defensive posture.

  Q  What are the principal  risks  associated  with  investments in tax-exempt
     securities?

  A  The two principal  risks of investing in tax-exempt  securities are credit
     risk and market risk.

     [CAUTION LIGHT GRAPHIC]
     CREDIT  RISK.  Credit  risk is the  possibility  that an issuer of a fixed
     income  security  will  fail  to  make  timely  payments  of  interest  or
     principal.  We attempt to minimize the Funds' credit risks by investing in
     securities  considered at least  investment grade at the time of purchase.
     Nevertheless,  even investment-grade securities are subject to some credit
     risk. In addition,  the ratings of securities  are estimates by the rating
     agencies of the credit quality of the securities. The ratings may not take
     into account every risk related to whether  interest or principal  will be
     repaid on a timely basis.

     When evaluating  potential  investments  for the Funds,  our analysts also
     independently  assess credit risk and its impact on the Funds' portfolios.
     Securities  in the lowest  investment  grade ratings  category  (BBB) have
     speculative  characteristics.  Changes  in  economic  conditions  or other
     circumstances  are more  likely to lead to a weakened  capability  to make
     principal and interest  payments on these  securities than is the case for
     higher-rated securities.

     [CAUTION LIGHT GRAPHIC]
     MARKET RISK. As a mutual fund investing in bonds, the Funds are subject to
     the risk that the market value of the bonds will decline because of rising
     interest rates.  Bond prices are linked to the prevailing  market interest
     rates. In general,  when interest

                                      10
<PAGE>

     rates rise,  the prices of bonds fall and when interest  rates fall,  bond
     prices  generally rise. The price volatility of a bond also depends on its
     maturity.  Generally,  the longer the maturity of a bond,  the greater its
     sensitivity  to interest  rates.  To compensate  investors for this higher
     market risk,  bonds with longer  maturities  generally offer higher yields
     than bonds with shorter maturities.

     [CAUTION LIGHT GRAPHIC]
  Q  What is Call Risk?

  A  Many municipal  bonds  may be "called," or redeemed,  by the issuer before
     the stated  maturity.  During a period  of  declining  interest  rates, an
     issuer would call,  or  refinance,  a  higher  yielding  bond for the same
     reason that a homeowner would refinance  a home  mortgage.  Interest rates
     must drop  sufficiently  so that the  savings more than offset the cost of
     refinancing.

     Intermediate-  and long-term  municipal bonds have the greatest call risk,
     because most municipal  bonds may not be called until after ten years from
     the date of  issue.  The  period  of "call  protection"  may be  longer or
     shorter than ten years,  but regardless,  bonds  purchased  closest to the
     date of issue will have the most call  protection.  Typically,  bonds with
     original maturities of ten years or less are not callable.

     Although  investors  certainly  appreciate  the rise in bond  prices  when
     interest  rates  drop,  falling  interest  rates  create  the  environment
     necessary to "call" the  higher-yielding  bonds from your Fund. When bonds
     are called,  the Fund is impacted in several  ways.  Most likely,  we must
     reinvest the bond-call proceeds at lower interest rates. The Fund's income
     may drop as a result. The Fund may also realize a taxable capital gain.

     [CAUTION LIGHT GRAPHIC]
  Q  What is structural risk?

  A  Some tax-exempt securities,  referred  to  as "synthetic instruments," are
     created by combining a long-term  municipal  bond with a right to sell the
     instrument back to the remarketer or liquidity  provider for repurchase on
     short notice, referred to as a "tender option." Usually, the tender option
     is backed by a letter of credit  or  similar  guarantee  from a bank.  The
     guarantee,  however,  is  conditional,  which  means  that the bank is not
     required  to  pay  under  the  guarantee  if  there  is a  default  by the
     municipality or if certain other events occur.  These types of instruments
     involve  special  risks,  referred to as  "structural  risk." For example,
     because of the structure of a synthetic  instrument,  there is a risk that
     the instrument will lose its tax-exempt treatment or that we

                                      11
<PAGE>

     will not be able to exercise  our tender  option.  We will not  purchase a
     synthetic  instrument  unless  counsel  has  issued  an  opinion  that the
     instrument is entitled to tax-exempt  treatment.  In addition, we will not
     purchase a  synthetic  instrument  for the  Tax-Exempt  Money  Market Fund
     unless we believe  there is only  minimal risk that we will not be able to
     exercise our tender option at all times.

  Q  What  percentage  of each  Fund's  assets  will  be invested  in  Virginia
     tax-exempt securities?

  A  During  normal market  conditions,  at least 80% of each Fund's net assets
     will consist of Virginia  tax-exempt  securities.  This policy may only be
     changed by a shareholder vote.

     In  addition  to  Virginia  tax-exempt  securities,  securities  issued by
     certain U.S.  territories and possessions  such as Puerto Rico, the Virgin
     Islands, and Guam are exempt from federal and state personal income taxes;
     and as such, we may consider  investing up to 20% of each Fund's assets in
     these securities.

  Q  Are each Fund's investments diversified in many different issuers?

  A  Each Fund  is considered  diversified  under the federal  securities laws.
     This means that we will not  invest  more than 5% in any  one issuer  with
     respect to 75% of each  Fund's assets.  With respect to  the remaining 25%
     of each Fund's assets, we could  invest more than 5% in any  one, or more,
     issuers.  Purchases  of  securities  issued  or  guaranteed  by  the  U.S.
     Government or its  agencies or  instrumentalities  are  not counted toward
     the 5%  limitation.  Each Fund, of course, is concentrated  geographically
     through the purchase of Virginia tax-exempt securities.

     With respect to the Virginia  Money Market Fund,  strict SEC guidelines do
     not permit us to invest, with respect to 75% of the Fund's assets, greater
     than 10% of the  Fund's  assets  in  securities  issued by or  subject  to
     guarantees by the same institution.

     We also may not invest  more than 25% of the Funds'  assets in  securities
     issued  in  connection   with  the  financing  of  projects  with  similar
     characteristics,  such as toll road revenue bonds,  housing revenue bonds,
     or electric power project  revenue bonds,  or in industrial  revenue bonds
     which are based, directly or indirectly, on the credit of private entities
     of any one industry. However, we reserve the right to invest more than 25%
     of the Funds' assets in

                                      12
<PAGE>

     tax-exempt  industrial revenue bonds. The 25% industry limitation does not
     apply to  general  obligation  bonds or bonds  that are  escrowed  in U.S.
     Government securities.

     [CAUTION LIGHT GRAPHIC]
  Q  What are the  potential risks  associated with  concentrating such a large
     portion of each Fund's assets in one state?

  A  The Funds  are subject to  credit and market  risks,  as described  above,
     which could be magnified by the Funds'  concentration  in Virginia issues.
     Virginia  tax-exempt  securities  may be affected by political,  economic,
     regulatory,  or other  developments  that limit the  ability  of  Virginia
     issuers to pay interest or repay principal in a timely manner.  Therefore,
     the Funds are affected by events within  Virginia to a much greater degree
     than a more diversified national fund.

     A particular development may not directly relate to the Funds' investments
     but  nevertheless   might  depress  the  entire  market  for  the  state's
     tax-exempt securities and therefore adversely impact the Funds' valuation.

     An  investment  in the  Virginia  Money Market Fund may be riskier than an
     investment   in  other  types  of  money  market  funds  because  of  this
     concentration.

     The  following  are  examples  of just some of the events that may depress
     valuations for Virginia  tax-exempt  securities for an extended  period of
     time:

       *   Changes in state laws,  including voter  referendums,  that restrict
           revenues or raise costs for issuers.

       *   Court decisions that affect a category of municipal  bonds,  such as
           municipal lease obligations or electric utilities.

       *   Natural  disasters  such  as floods,  storms,  hurricanes, droughts,
           fires, or earthquakes.

       *   Bankruptcy  or  financial distress of a prominent  municipal  issuer
           within the state.

       *   Economic issues that impact critical industries or large employers
           or that weaken real estate prices.

       *   Reductions in federal or state financial aid.

       *   Imbalance  in  the supply  and  demand  for  the  state's  municipal
           securities.

       *   Developments  that  may  change  the  tax  treatment  of  Virginia
           tax-exempt securities.

                                      13
<PAGE>

     In addition,  because each Fund invests in securities  backed by banks and
     other  financial  institutions,  changes  in the  credit  quality of these
     institutions could cause losses to a Fund and affect its share price.

Other  considerations  affecting the Funds' investments in Virginia  tax-exempt
securities  are  summarized in the Statement of  Additional  Information  under
SPECIAL RISK CONSIDERATIONS.

  Q  Will any portion of the distributions from the Funds be subject to federal
     income taxes?

  A  During  normal  market  conditions,  at  least  80% of each Fund's  annual
     income will be excluded from gross income for federal  income tax purposes
     and will be exempt from Virginia state income taxes.  This policy may only
     be changed by a  shareholder  vote.  We expect that any  taxable  interest
     income distributed will be minimal.

     However,  gains and losses from trading  securities  that occur during the
     normal   course  of   managing  a  fund  may  create  net   capital   gain
     distributions.   The  Internal   Revenue  Code   presently   treats  these
     distributions differently than tax-exempt interest income in the following
     ways:

       *  Distributions of net short-term capital gains are taxable as ordinary
          income.

       *  Distributions  of  net  long-term   capital  gains  are  taxable  as
          long-term  capital gains,  regardless of the length of time you have
          held the Fund shares.

       *  Both  short-term  and long-term  capital  gains are taxable  whether
          received in cash or reinvested in additional shares.

  Q  Will income from the Funds be subject to the  federal  alternative minimum
     tax (AMT) for individuals?

  A  During  normal  market  conditions,  at  least  80% of each Fund's  annual
     income will be excluded from the  calculation  of the federal  alternative
     minimum  tax (AMT) for  individuals.  This policy may only be changed by a
     shareholder  vote.  Since  inception,  the Funds have not  distributed any
     income that is subject to the federal AMT for  individuals,  and we do not
     intend to invest in  securities  subject to the federal AMT.  However,  of
     course,  changes in  federal  tax laws or other  unforeseen  circumstances
     could result in income subject to the federal AMT for individuals.

                                      14
<PAGE>

Virginia Bond Fund

  Q  What is the credit quality of the Fund's investments?

  A  Under normal market conditions,  we will invest the  Fund's assets so that
     at least 50% of the total market  value of the  tax-exempt  securities  is
     rated within the three highest  long-term rating  categories (A or higher)
     by Moody's Investors Service,  Inc.  (Moody's),  Standard & Poor's Ratings
     Group  (S&P),  or Fitch IBCA,  Inc.  (Fitch) or in the highest  short-term
     rating  category by Moody's,  S&P, or Fitch; or if a security is not rated
     by those  rating  agencies,  we must  determine  that the  security  is of
     equivalent investment quality.

     In no event will we purchase a security for the Fund unless it is rated at
     least  investment   grade  at  the  time  of  purchase.   Investment-grade
     securities are those  securities  rated within the four highest  long-term
     rating  categories  by  Moody's  (Baa or  higher),  S&P,  or Fitch (BBB or
     higher),  or in the two  highest  short-term  rating  categories  by these
     rating agencies;  or if unrated by these agencies,  we must determine that
     the securities are of equivalent investment quality.

     You will find a complete  description of the above  tax-exempt  ratings in
     the Fund's Statement of Additional Information.

  Q  What happens if the rating of a security is downgraded to below investment
     grade?

  A  We will  determine  whether  it  is in the  best  interest  of the  Fund's
     shareholders to continue to hold the security in the Fund's portfolio.  If
     downgrades  result in more than 5% of the Fund's net assets being invested
     in securities that are less than  investment-grade  quality,  we will take
     immediate action to reduce the Fund's holdings in such securities to 5% or
     less of the Fund's net assets,  unless otherwise  directed by the Board of
     Directors.

  Q  How are the decisions to buy and sell securities made?

  A  We manage  tax-exempt  funds based on  the common sense  premise  that our
     investors   value    tax-exempt   income   over   taxable   capital   gain
     distributions.  When  weighing the  decision to buy  or sell a security we
     strive to balance the value of the tax-exempt  income, the credit  risk of
     the issuer, and the price volatility of the bond.

                                      15
<PAGE>

  Q  What is the Fund's average portfolio maturity and how is it calculated?

  A  While the  Fund's average  portfolio maturity is not restricted, we expect
     it to be greater than 10 years.  To  determine a  security's  maturity for
     purposes of calculating  the Fund's  average  portfolio  maturity,  we may
     estimate  the  expected  time in which the  security's  principal is to be
     paid.  This can be  substantially  shorter than its stated final maturity.
     For more  information  on the method of  calculating  the  Fund's  average
     weighted  portfolio  maturity,  see  INVESTMENT  POLICIES  in  the  Fund's
     Statement of Additional Information.

Virginia Money Market Fund

  Q  What is the credit quality of the Fund's investments?

  A  The Fund's investments consist  of securities meeting  the requirements to
     qualify  as "eligible securities" under the  SEC rules applicable to money
     market funds. In general,  an eligible  security is defined  as a security
     that is:

       *   issued or  guaranteed  by  the  U.S.  Government  or  any  agency or
           instrumentality thereof, including "prerefunded"  and  "escrowed  to
           maturity" tax-exempt securities;

       *   rated  or  subject  to a  guarantee  that is rated in one of the two
           highest  categories  for  short-term  securities  by  at  least  two
           Nationally Recognized Statistical Rating Organizations  (NRSROs), or
           by one NRSRO if the security is rated by only one NRSRO;

       *   unrated but issued by an issuer or  guaranteed  by a guarantor  that
           has other comparable short-term debt obligations so rated; or

       *   unrated but determined by us to be of comparable quality.

     In addition,  we must consider  whether a particular  investment  presents
     minimal credit risk.

  Q  Who are the Nationally Recognized Statistical Rating Organizations?

  A  Current NRSROs include:

       *   Moody's Investors Service,  Inc.;
       *   Standard & Poor's Ratings Group;
       *   Fitch IBCA, Inc.; o Duff & Phelps Inc.; and
       *   Thompson BankWatch, Inc.

                                      16
<PAGE>

  Q  What happens if the rating of a security is downgraded?

  A  If the  rating  of  a  security  is  downgraded  after  purchase,  we will
     determine whether it is in the best interest of  the  Fund's  shareholders
     to continue to hold the security in the  Fund's  portfolio.

  Q  Will the Fund always maintain a net asset value of $1 per share?

[SIDE BAR]
     DOLLAR WEIGHTED AVERAGE PORTFOLIO MATURITY IS OBTAINED BY MULTIPLYYING THE
     DOLLAR  VALUE  OF  EACH  INVESTMENT  BY THE  NUMBER  OF  DAYS  LEFT TO ITS
     MATURITY, THEN ADDING THOSE FIGURES TOGETHER AND DIVIDING THE TOTAL BY THE
     DOLLAR VALUE OF THE FUND'S PORTFOLIO.

  A  While we will endeavor to maintain a constant  Fund net  asset value of $1
     per share,  there is no assurance that we will be able to do so. Remember,
     the shares are neither insured nor guaranteed by the U.S.  Government.  As
     such, the Fund carries some risk.

     For example,  there is always a risk that the issuer of a security held by
     the Fund will fail to pay  interest or  principal  when due. We attempt to
     minimize this credit risk by investing only in securities  rated in one of
     the two highest categories for short-term securities, or, if not rated, of
     comparable  quality,  at the time of purchase.  Additionally,  we will not
     purchase  a security  unless  our  analysts  determine  that the  security
     presents minimal credit risk.

     There is also a risk that  rising  interest  rates will cause the value of
     the Fund's  securities  to decline.  We attempt to minimize  this interest
     risk by limiting  the  maturity  of each  security to 397 days or less and
     maintaining a dollar-weighted  average portfolio  maturity for the Fund of
     90 days or less.

     Finally, there is the possibility that one or more investments in the Fund
     cease to be "eligible securities" resulting in the net asset value ceasing
     to be $1 per share.  For  example,  a guarantor  on a security may fail to
     meet a contractual obligation.

  Q  How are the decisions to buy and sell securities made?

  A  We balance  factors such as  credit  quality and  maturity to purchase the
     best  relative  value  available in the market  at any given  time.  While
     rare,  sell  decisions  are  usually  based  on  a  change  in our  credit
     analysis or to take  advantage of an  opportunity to reinvest  at a higher
     yield.

For additional  information  about other securities in which we may invest each
Fund's assets, see APPENDIX A on page 31.

                                      17
<PAGE>

FUND MANAGEMENT

USAA  Investment  Management  Company serves as the manager and  distributor of
these  Funds.  We are an affiliate of United  Services  Automobile  Association
(USAA), a large, diversified financial services institution.  As of the date of
this  Prospectus,  we had  approximately  $__  billion  in total  assets  under
management.  Our mailing address is 9800  Fredericksburg  Road, San Antonio, TX
78288.

We provide management  services to the Funds pursuant to an Advisory Agreement.
We are responsible for managing the Funds' portfolios  (including  placement of
brokerage orders) and their business  affairs,  subject to the authority of and
supervision  by the Board of Directors.  For our services,  the Funds pay us an
annual fee. This fee, which is accrued daily and paid monthly, is computed as a
percentage of the aggregate average net assets of both Funds combined. This fee
is allocated  between the Funds based on the  relative net assets of each.  The
fee is computed  at one-half of one percent  (.50%) of the first $50 million of
average  net  assets,  two-fifths  of one  percent  (.40%) for that  portion of
average net assets over $50 million but not over $100 million, and three-tenths
of one percent (.30%) for that portion of average net assets over $100 million.
The fees we received  for the fiscal year ended March 31,  1999,  were equal to
 .33%  of  average  net  assets  for  the   Virginia   Bond  Fund  and,  net  of
reimbursements,  .33% of average net assets for the Virginia Money Market Fund.
We also provide  services  related to selling the Funds'  shares and receive no
compensation for those services.

Although our officers and employees,  as well as those of the Funds, may engage
in personal securities transactions, they are restricted by the procedures in a
Joint Code of Ethics adopted by the Funds and us.


Portfolio Managers

VIRGINIA BOND FUND
[PHOTOGRAPH PORTFOLIO MANAGER]
ROBERT R. PARISEAU

Robert R. Pariseau,  Assistant Vice President of Fixed Income Investments,  has
managed  the  Fund  since  May  1995.  He has 15  years  investment  management
experience working for us. Mr. Pariseau earned the Chartered  Financial Analyst
(CFA)  designation  in 1987 and is a member of the  Association  for investment
Management and Research (AIMR),  San Antonio Financial  Analysts Society,  Inc.
(SAFAS),  and the National Federation of Municipal Analysts (NFMA). He holds an
MBA from Lindenwood College and a BS from the U.S. Naval Academy.

                                      18
<PAGE>

VIRGINIA MONEY MARKET FUND
[PHOTOGRAPH PORTFOLIO MANAGER]
REGINA G. SHAFER

Regina G. Shafer,  Assistant Vice President of Money Market Funds,  has managed
the Fund since April 1999. She has four years investment  management experience
and has  worked  for us for  eight  years.  Ms.  Shafer is a  Certified  Public
Accountant and earned the CFA  designation in 1998. She is a member of AIMR and
SAFAS.  She holds an MBA from the  University of Texas at San Antonio and a BBA
from Southwest Texas State University.


USING MUTUAL FUNDS IN AN INVESTMENT PROGRAM

I. The Idea Behind Mutual Funds

Mutual funds provide small investors some of the advantages  enjoyed by wealthy
investors.  A  relatively  small  investment  can  buy  part  of a  diversified
portfolio. That portfolio is managed by investment professionals, relieving you
of the  need to make  individual  stock  or bond  selections.  You  also  enjoy
conveniences,  such as daily  pricing,  liquidity,  and in the case of the USAA
Family of Funds, no sales charge. The portfolio, because of its size, has lower
transaction  costs on its trades than most individuals would have. As a result,
you own an investment  that in earlier times would have been  available only to
very wealthy people.

II. Using Funds in an Investment Program

In  choosing a mutual  fund as an  investment  vehicle,  you are giving up some
investment decisions,  but must still make others. The decisions you don't have
to make are those involved with choosing individual securities. We will perform
that function.  In addition, we will arrange for the safekeeping of securities,
auditing the annual financial  statements,  and daily valuation of the Fund, as
well as other functions.

You,  however,  retain  at  least  part of the  responsibility  for an  equally
important  decision.  This decision involves  determining a portfolio of mutual
funds that balances your  investment  goals with your tolerance for risk. It is
likely that this decision may include the use of more than one fund of the USAA
Family of Funds.

                                      19
<PAGE>

For example,  assume you wish to pursue the higher yields usually  available in
the long-term bond market,  but you are also concerned about the possible price
swings of the long-term bonds.  You could divide your  investments  between the
Virginia  Bond Fund and the Virginia  Money  Market  Fund.  This would create a
portfolio with a higher yield than that of the money market and less volatility
than that of the long-term market. This is just one way you could combine funds
to fit your own risk and reward goals.

III. USAA's Family of Funds

We offer you  another  alternative  with our  asset  strategy  funds  listed in
APPENDIX C under asset allocation on page 34. These unique mutual funds provide
a  professionally  managed,  diversified  investment  portfolio within a mutual
fund.  Designed for the individual who prefers to delegate the asset allocation
process to an investment  manager,  their  structure  achieves  diversification
across a number of investment categories.

Whether you prefer to create  your own mix of mutual  funds or use a USAA Asset
Strategy  Fund,  the USAA  Family of Funds  provides  a broad  range of choices
covering just about any investor's  investment  objectives.  Our member service
representatives  stand  ready to assist you with your  choices  and to help you
craft a  portfolio  to meet your  needs.  Refer to  APPENDIX C on page 34 for a
complete list of the USAA Family of No-Load Mutual Funds.

HOW TO INVEST

Purchase of Shares

OPENING AN ACCOUNT

You may open an account and make an investment  as described  below by mail, in
person,  bank wire,  electronic  funds  transfer  (EFT),  or phone. A complete,
signed application is required to open your initial account. However, after you
open  your  initial  account  with us,  you  will not need to fill out  another
application to open another Fund unless the registration is different.

TAX ID NUMBER

Each shareholder  named on the account must provide a social security number or
tax identification number to avoid possible withholding requirements.

EFFECTIVE DATE

When you make a purchase, your purchase price will be the net asset value (NAV)
per share next  determined  after we receive your request in proper form.  Each
Fund's NAV is determined at the close of the regular trading session (generally
4:00 p.m. Eastern Time) of the New York Stock Exchange (NYSE) each day the NYSE
is open. If we receive your request and payment

                                      20
<PAGE>

prior to that time,  your purchase  price will be the NAV per share  determined
for that day. If we receive your request or payment  after the NAV per share is
calculated, the purchase will be effective on the next business day.

If you plan to  purchase  Fund  shares  with a foreign  check,  we suggest  you
convert your foreign check to U.S.  dollars prior to investment in a Fund. This
will avoid a potential  delay in the  effective  date of your purchase of up to
four to six weeks.  Furthermore,  a bank charge may be assessed in the clearing
process, which will be deducted from the amount of the purchase.

MINIMUM INVESTMENTS

INITIAL PURCHASE
[MONEY GRAPHIC]

*   $3,000.  Employees of USAA and its affiliated companies may open an account
    through  payroll  deduction  for as  little as $25 per pay  period  with no
    initial investment.

ADDITIONAL PURCHASES

*   $50 (Except  transfers  from  brokerage  accounts  into the Virginia  Money
    Market Fund, which are exempt from the minimum).

HOW TO PURCHASE

MAIL
[EVENLOPE GRAPHIC]

*   To open an account, send your application and check to:
       USAA Investment Management Company
       9800 Fredericksburg Road
       San Antonio, TX 78288
*   To add to your account, send your check and the "Invest by Mail" stub that
    accompanies your Fund's transaction confirmation to the Transfer Agent:
       USAA Shareholder Account Services
       9800 Fredericksburg Road
       San Antonio, TX 78288

IN PERSON
[HANDSHAKE GRAPHIC]

*   To open an account, bring your application and check to:
       USAA Investment Management Company
       USAA Federal Savings Bank
       10750 Robert F. McDermott Freeway
       San Antonio, TX 78288

                                      21
<PAGE>

BANK WIRE
[WIRE GRAPHIC]

*   To open or add to your account,  instruct your bank (which may charge a fee
    for the service) to wire the specified amount to the Fund as follows:
       State Street Bank and Trust Company
       Boston, MA 02101
       ABA#011000028
       Attn: USAA Virginia Fund Name
       USAA Account Number: 69384998
       Shareholder(s) Name(s)_______________________________________
       Shareholder(s) Mutual Fund Account Number____________________

ELECTRONIC FUNDS TRANSFER
[CALENDAR GRAPHIC]

*    Additional  purchases  on a  regular  basis  can be  deducted  from a bank
     account, paycheck,  income-producing investment, or USAA money market fund
     account.  Sign up for these  services  when  opening  an  account  or call
     1-800-531-8448 to add these services.

PHONE 1-800-531-8448
[TELEPHONE GRAPHIC]

*    If you have an existing  USAA mutual fund account and would like to open a
     new account or exchange to another USAA Fund,  call for  instructions.  To
     open an account by phone, the new account must have the same  registration
     as your existing account.

Redemption of Shares

You may redeem Fund shares by any of the methods described below on any day the
NAV per share is calculated.  Redemptions are effective on the day instructions
are received in a manner as  described  below.  However,  if  instructions  are
received  after  the NAV per share  calculation  (generally  4:00 p.m.  Eastern
Time), redemption will be effective on the next business day.

We will send you your  money  within  seven days  after the  effective  date of
redemption.  Payment for redemption of shares purchased by EFT or check is sent
after the EFT or check has  cleared,  which  could  take up to 15 days from the
purchase date. If you are considering redeeming shares soon after purchase, you
should  purchase by bank wire or certified  check to avoid  delay.  For federal
income tax purposes,  a redemption  is a taxable  event;  and as such,  you may
realize a capital gain or loss.  Such capital  gains or losses are based on the
difference  between your cost basis in the shares and the price  received  upon
redemption.

In  addition,  the Funds  may  elect to  suspend  the  redemption  of shares or
postpone the date of payment in limited circumstances.

                                      22
<PAGE>

HOW TO REDEEM

WRITTEN, FAX, TELEGRAM, OR TELEPHONE
[FAX MACHINE GRAPHIC]

*    Send your written instructions to:
       USAA Shareholder Account Services
       9800 Fredericksburg Road
       San Antonio, TX 78288
*    Send  a  signed  fax  to  1-800-292-8177, or  send  a  telegram  to  USAA
     Shareholder Account Services.
*    Call toll free 1-800-531-8448, in San Antonio, 456-7202.

Telephone redemption privileges are automatically established when you complete
your application.  The Fund will employ  reasonable  procedures to confirm that
instructions  communicated by telephone are genuine; and if it does not, it may
be liable for any losses due to unauthorized or fraudulent instructions. Before
any discussion regarding your account,  the following  information is obtained:
(1)  USAA  number  and/or  account  number,  (2)  the  name(s)  on the  account
registration,  and (3)  social  security/tax  identification  number or date of
birth  of  the  registered  account  owner(s)  for  the  account  registration.
Additionally,   all  telephone   communications   with  you  are  recorded  and
confirmations of account transactions are sent to the address of record. If you
were issued stock certificates for your shares,  redemption by telephone,  fax,
or telegram is not available.

CHECKWRITING
[CHECK GRAPHIC]

*    Checks can be issued for your Virginia Money Market Fund account. Return a
     signed signature card, which  accompanies your  application,  or request a
     signature card separately and return to:
       USAA Shareholder Account Services
       9800 Fredericksburg Road
       San Antonio, TX 78288

You will not be charged for the use of checks or any subsequent reorders.  Your
checkwriting  privilege  is subject to State  Street  Bank and Trust  Company's
rules and regulations governing checking accounts.  You may write checks in the
amount of $250 or more.  Checks  written  for less  than $250 will be  returned
unpaid.  Because the value of your account  changes daily as dividends  accrue,
you may not write a check to close your account.

                                      23
<PAGE>

IMPORTANT INFORMATION ABOUT PURCHASES AND REDEMPTIONS

Investor's Guide to USAA Mutual Fund Services
[INVESTOR GUIDE GRAPHIC]

Upon your initial  investment with us, you will receive the INVESTOR'S GUIDE to
help you get the most out of your USAA mutual fund account and to assist you in
your role as an investor.  In the INVESTOR'S  GUIDE,  you will find  additional
information on purchases,  redemptions,  and methods of payment.  You will also
find in-depth information on automatic investment plans, shareholder statements
and reports, and other useful information.

Account Balance

USAA Shareholder  Account Services (SAS), the Funds' transfer agent, may assess
annually a small balance account fee of $12 to each shareholder  account with a
balance,  at the time of assessment,  of less than $2,000.  The fee will reduce
total transfer  agency fees paid by the Fund to SAS.  Accounts  exempt from the
fee include: (1) any account regularly purchasing  additional shares each month
through an automatic  investment  plan;  (2) any account  registered  under the
Uniform  Gifts/Transfers  to Minors Act  (UGMA/UTMA);  (3) all (non-IRA)  money
market fund accounts;  (4) any account whose  registered owner has an aggregate
balance of $50,000  or more  invested  in USAA  mutual  funds;  and (5) all IRA
accounts (for the first year the account is open).

Fund Rights

Each Fund reserves the right to:

*   reject purchase or exchange orders when in the best interest of the Fund;

*   limit or discontinue the offering of shares of the Fund without notice to
    the shareholders;

*   impose a  redemption  charge of up to 1% of the net  asset  value of shares
    redeemed if circumstances indicate a charge is necessary for the protection
    of remaining  investors  (for  example,  if excessive  market-timing  share
    activity unfairly burdens  long-term  investors);  however,  this 1% charge
    will not be imposed upon  shareholders  unless  authorized  by the Board of
    Directors and the required notice has been given to shareholders;

*   require a  signature  guarantee  for  transactions  or  changes  in account
    information in those  instances  where the  appropriateness  of a signature
    authorization  is in  question.  The  Statement of  Additional  Information
    contains information on acceptable guarantors;

*   redeem an account with less than 50 full shares, with certain limitations.

                                      24
<PAGE>

EXCHANGES

Exchange Privilege

The exchange privilege is automatic when you complete your application. You may
exchange  shares  among Funds in the USAA Family of Funds,  provided you do not
hold these shares in stock  certificate  form and the shares to be acquired are
offered in your state of residence. Only Virginia residents may exchange into a
Virginia Fund. After we receive the exchange orders,  the Funds' transfer agent
will  simultaneously  process  exchange  redemptions and purchases at the share
prices next determined.  The investment  minimums applicable to share purchases
also apply to exchanges.  For federal income tax purposes,  an exchange between
Funds is a taxable event;  and as such, you may realize a capital gain or loss.
Such  capital  gains or losses are based on the  difference  between  your cost
basis in the shares and the price received upon exchange.

The Funds have undertaken certain procedures  regarding telephone  transactions
as described on page 23.

Exchange Limitations, Excessive Trading

To  minimize  Fund costs and to protect the Funds and their  shareholders  from
unfair expense burdens,  the Funds restrict excessive  exchanges.  The limit on
exchanges  out of any Fund in the USAA Family of Funds for each  account is Six
per calendar  year (except  there is no  limitation on exchanges out of the Tax
Exempt Short-Term Fund,  Short-Term Bond Fund, or any of the money market funds
in the USAA Family of Funds).

SHAREHOLDER INFORMATION

Share Price Calculation

[SIDE BAR]
                                 NAV PER SHARE
                                    EQUALS
                                 TOTAL ASSETS
                                     MINUS
                                  LIABILITIES
                                  DIVIDED BY
                                  # OF SHARES
                                  OUTSTANDING

The price at which you  purchase  and  redeem  Fund  shares is equal to the net
asset value (NAV) per share determined on the effective date of the purchase or
redemption.  You may buy and sell Fund  shares  at the NAV per share  without a
sales  charge.  Each  Fund's  NAV per share is  calculated  at the close of the
regular trading session of the NYSE, which is usually 4:00 p.m. Eastern Time.

Securities  of the  Virginia  Bond Fund are valued each  business  day at their
current  market  value as  determined  by a  pricing  service  approved  by the
Company's  Board of Directors.  Securities that cannot be valued by the pricing
service,  and all other  assets,  are valued in good faith at fair value  using
methods  we have  determined  under  the  general  supervision  of the Board of
Directors.  In addition,  securities with maturities of 60 days or less and all
securities  of the Virginia  Money  Market Fund are stated at  amortized  cost,
which approximates market value.


                                      25
<PAGE>

For  additional  information  on how  securities  are valued,  see VALUATION OF
SECURITIES in the Funds' Statement of Additional Information.

Dividends and Distributions

Net  investment  income  of each  Fund is  accrued  daily  and paid on the last
business day of the month.  Dividends shall begin accruing on shares  purchased
the day  following  the  effective  date and  shall  continue  to accrue to the
effective date of redemption.  Any net capital gain distribution usually occurs
within 60 days of the March 31 fiscal year end, which would be somewhere around
the end of May. The Funds will make  additional  payments to  shareholders,  if
necessary, to avoid the imposition of any federal income or excise tax.

We  will   automatically   reinvest  all  income  dividends  and  capital  gain
distributions  in the Fund unless you instruct us differently.  The share price
will be the NAV of the  Fund  shares  computed  on the  ex-dividend  date.  Any
capital gain  distributions  paid by the Virginia Bond Fund will reduce the NAV
per share by the amount of the dividend or  distribution.  You should  consider
carefully  the effects of  purchasing  shares of the Virginia Bond Fund shortly
before any  capital  gain  distribution.  Although,  in effect  this would be a
return of capital,  these  distributions  are subject to taxes. If you become a
resident of a state other than  Virginia,  we will mail a check for proceeds of
income dividends to you monthly.

We will invest any  dividend  or  distribution  payment  returned to us in your
account at the  then-current NAV per share.  Dividend and  distribution  checks
become  void six months  from the date on the  check.  The amount of the voided
check will be invested in your account at the then-current NAV per share.

Federal Taxes

This tax  information  is quite  general and refers to the  federal  income tax
provisions  in effect as of the date of this  Prospectus.  While we manage  the
Funds so that at least 80% of each  Fund's  annual  income  will be exempt from
federal or state income taxes,  we may invest up to 20% of the Funds' assets in
securities  that generate income not exempt from federal or state income taxes.
Because interest income may be exempt for federal income tax purposes,  it does
not necessarily mean that the interest income may be exempt under the income or
other tax laws of any state or local taxing authority.  As discussed earlier on
page 14,  capital  gains  distributed  by a Fund may be taxable.  Note that the
Taxpayer  Relief Act of 1997 and the  technical  provisions  adopted by the IRS
Restructuring  and Reform Act of 1998 may  affect the status and  treatment  of
certain  distributions  shareholders  receive  from  the  Funds.  Because  each
investor's tax circumstances are unique and because the tax laws are subject to
change, we recommend that you consult your tax adviser about your investment.

                                      26
<PAGE>

WITHHOLDING  - Federal law requires each Fund to withhold and remit to the U.S.
Treasury a portion of the income dividends and capital gain  distributions  and
proceeds of redemptions paid to any non-corporate shareholder who:

*   fails to  furnish  the Fund  with a  correct  tax  identification  number,
*   underreports  dividend or interest income, or
*   fails to certify that he or she is not subject to withholding.

To avoid this withholding requirement, you must certify on your application, or
on a separate  Form W-9 supplied by the Funds'  transfer  agent,  that your tax
identification  number is correct and you are not  currently  subject to backup
withholding.

REPORTING - Each Fund will report  information  to you annually  concerning the
tax status of dividends  and  distributions  for federal  income tax  purposes,
including  the  portion  of the  dividends  constituting  interest  on  private
activity  bonds and the  percentage  and source of  interest  income  earned on
tax-exempt securities held by the Fund during the preceding year.

Virginia Taxation

The  following  is only a summary of some of the  important  Virginia  personal
income tax considerations generally affecting the Funds and their shareholders.
This  discussion  is not intended as a substitute  for careful  planning.  As a
potential  investor in the Funds,  you should  consult  your tax  adviser  with
specific reference to your own tax situations.

Dividends  paid by the Funds and derived from  interest on  obligations  of the
Commonwealth of Virginia or of any political  subdivision or instrumentality of
the Commonwealth,  which pay interest  excludable from federal gross income, or
derived from obligations of the United States,  which pay interest or dividends
excludable  from Virginia  taxable  income under the laws of the United States,
will be exempt from the Virginia  income tax.  Dividends (1) paid by the Funds,
(2) excluded from gross income for federal income tax purposes, and (3) derived
from interest on  obligations  of certain  territories  and  possessions of the
United States (those issued by Puerto Rico,  the Virgin  Islands and Guam) will
be  exempt  from the  Virginia  income  tax.  To the  extent a  portion  of the
dividends is derived from interest on  obligations  other than those  described
above,  such portion will be subject to the Virginia  income tax even though it
may be excludable from gross income for federal income tax purposes.

As a general rule,  distribution  of short-term  capital gains  realized by the
Funds will be taxable to you as ordinary  income.  Distributions  of  long-term
capital gains  generally will be taxable to you regardless of how long you have
held the shares.

                                      27
<PAGE>

Year 2000

Like  other  organizations  around  the  world,  the Funds  could be  adversely
affected if the computer  systems used by them,  their  service  providers,  or
companies  in  which  they  invest  do  not  properly   process  and  calculate
information that relates to dates beginning  January 1, 2000, and beyond.  This
situation may occur because for many years computer  programmers  used only two
digits to describe years, such as 98 for 1998. A program written in this manner
may not work when it encounters the year 00. To confront this  situation,  USAA
companies  have spent much effort and money;  and we expect to have our systems
ready for the Year 2000 by mid-1999. In addition, we are actively assessing the
Year 2000 readiness of our service providers,  partners, and companies in whose
securities we invest. It is not possible for us to say that you will experience
no effect from this situation, but we can say that we are making a large effort
to avoid any ill effects upon our shareholders.

We do believe you are entitled to know with certainty that we will stand behind
your share balance as of the close of business in 1999. When the market reopens
in 2000,  should any computer problem cause a change in the number of shares in
your account, we will return your account to its proper share balance.

                                      28
<PAGE>
FINANCIAL HIGHLIGHTS

The financial  highlights tables are intended to help you understand the Funds'
financial  performance for the past five years.  Certain  information  reflects
financial  results  for a single Fund  share.  The total  returns in the tables
represent  the  rate  that an  investor  would  have  earned  (or  lost)  on an
investment   in  the  Fund   (assuming   reinvestment   of  all  dividends  and
distributions).  This  information  has been audited by KPMG LLP, whose report,
along with the Funds' financial statements,  are included in the Annual Report,
which is available upon request.

Virginia Bond Fund:

                                       Year Ended March 31,
                        -------------------------------------------------------
                          1999       1998        1997       1996        1995
                        -------------------------------------------------------
Net asset value at
  beginning of period   $  11.49   $  10.92    $  10.93    $  10.76   $  10.71
Net investment income        .60        .62         .63         .63        .62
Net realized and
  unrealized gain (loss)     .03        .57        (.01)        .17        .05
Distributions from net
   investment income        (.60)      (.62)       (.63)       (.63)      (.62)
Net asset value at
  end of period         $  11.52   $  11.49    $  10.92    $  10.93   $  10.76
                        =======================================================
Total return (%)*           5.62      11.13        5.82        7.57       6.61
Net assets at end of
  period (000)          $402,352   $346,246    $292,914    $267,111   $238,920
Ratio of expenses to
  average net assets (%)     .43        .44         .46         .48        .50
Ratio of net investment
  income to average net
  assets (%)                5.22       5.48        5.76        5.74       5.95
Portfolio turnover (%)     10.55      14.24       26.84       27.20      27.77
- ---------------------

* Assumes reinvestment of all dividend income distributions during the period.

                                      29
<PAGE>

Financial Highlights (cont.)

Virginia Money Market Fund:

                                           Year Ended March 31,
                        -------------------------------------------------------
                             1999       1998       1997        1996       1995
                        -------------------------------------------------------
Net asset value at
  beginning of period     $   1.00   $   1.00   $   1.00     $   1.00   $  1.00
Net investment income          .03        .03        .03          .03       .03
Distributions from net
  investment income           (.03)      (.03)      (.03)        (.03)     (.03)
                        -------------------------------------------------------
Net asset value at
  end of period           $   1.00   $   1.00   $   1.00     $   1.00   $  1.00
                        =======================================================
Total return (%)*             2.98       3.34       3.14         3.42      2.91
Net assets at end of
  period (000)            $138,416   $122,509   $113,330     $110,308   $98,049
Ratio of expenses to
  average net assets  (%)      .50        .50        .50          .50       .50
Ratio of expenses to
  average net assets excluding
  reimbursements (%)           .51        .51        .53          .55       .56
Ratio of net investment
  income to average net
  assets (%)                  2.93       3.29       3.10         3.36      2.88
- ---------------------

* Assumes reinvestment of all dividend income distributions during the period.

                                      30
<PAGE>

                                   APPENDIX A

THE FOLLOWING ARE  DESCRIPTIONS  OF CERTAIN TYPES OF SECURITIES IN WHICH WE MAY
INVEST EACH FUND'S ASSETS:

VARIABLE RATE SECURITIES

We may invest a Fund's  assets in tax-exempt  securities  that bear interest at
rates which are adjusted periodically to market rates.

*   These  interest  rate  adjustments  can both  raise and  lower  the  income
    generated by such  securities.  These  changes will have the same effect on
    the  income  earned  by the  Fund  depending  on  the  proportion  of  such
    securities held.

*   Because the interest  rates of variable rate  securities  are  periodically
    adjusted  to reflect  current  market  rates,  their  market  value is less
    affected by changes in prevailing  interest  rates than the market value of
    securities with fixed interest rates.

*   The market value of a variable rate security usually tends toward par (100%
    of face value) at interest rate adjustment time.

In the  case  of the  Virginia  Money  Market  Fund  only,  any  variable  rate
instrument  with a demand  feature  will be deemed to have a maturity  equal to
either  the date on which the  underlying  principal  amount  may be  recovered
through demand or the next rate  adjustment  date  consistent  with  applicable
regulatory requirements.

PUT BONDS

We may invest a Fund's assets in tax-exempt  securities  (including  securities
with variable  interest  rates) which may be redeemed or sold back (put) to the
issuer of the security or a third party prior to stated  maturity  (put bonds).
Such  securities  will  normally  trade as if maturity is the earlier put date,
even though stated maturity is longer. For the Virginia Bond Fund, maturity for
put  bonds  is  deemed  to be the date on which  the put  becomes  exercisable.
Generally,  maturity  for put  bonds  for the  Virginia  Money  Market  Fund is
determined as stated under Variable Rate Securities.

ZERO COUPON BONDS

We may invest a Fund's  assets in zero  coupon  bonds.  A zero coupon bond is a
security that is sold at a deep discount from its face value, makes no periodic
interest payments,  and is redeemed at face value when it matures. The lump sum
payment at maturity  increases the price  volatility of the zero coupon bond to
changes in interest rates when compared to a bond that distributes a semiannual
coupon payment.  In calculating  its dividend,  each Fund records as income the
daily amortization of the purchase discount.

SYNTHETIC INSTRUMENTS

We may  invest a Fund's  assets in tender  option  bonds,  bond  receipts,  and
similar synthetic municipal  instruments.  A synthetic instrument is a security
created by combining an intermediate  or long-term  municipal bond with a right
to sell  the  instrument  back to the  remarketer  or  liquidity  provider  for
repurchase  on short  notice.  This right to sell is commonly  referred to as a
tender option.  Usually, the tender option is backed by a conditional guarantee
or letter  of  credit  from a bank or other  financial  institution.  Under its
terms,  the  guarantee may expire if the  municipality  defaults on payments of
interest or
                                      31
<PAGE>

principal on the underlying  bond, if the credit rating of the  municipality is
downgraded,  or if the instrument (or the underlying bond) loses its tax-exempt
treatment.  Synthetic instruments involve structural risks that could adversely
affect  the  value of the  instrument  or could  result  in a Fund  holding  an
instrument for a longer period of time than originally anticipated.


WHEN-ISSUED SECURITIES

We may invest a Fund's assets in new securities offered on a when-issued basis.

*   Delivery  and  payment  take  place  after  the date of the  commitment  to
    purchase,  normally  within 45 days. Both price and interest rate are fixed
    at the time of commitment.

*   The Funds do not earn interest on the securities until settlement,  and the
    market  value  of  the  securities  may  fluctuate   between  purchase  and
    settlement.

*   Such securities can be sold before settlement date.

MUNICIPAL LEASE OBLIGATIONS

We may invest a Fund's assets in a variety of instruments  commonly referred to
as municipal lease obligations, including:

*   Leases,
*   Installment purchase contracts, and
*   Certificates of participation in such leases and contracts.

Certain lease  obligations  contain  "non-appropriation"  clauses which provide
that the municipality  has no obligation to make lease  obligation  payments in
future years unless money is appropriated for such purpose on a yearly basis.

LIQUIDITY

We may invest up to 15% of the Virginia Bond Fund's net assets and up to 10% of
the Virginia  Money Market Fund's net assets in  securities  that are illiquid.
Illiquid  securities  are those  securities  which cannot be disposed of in the
ordinary course of business,  seven days or less, at approximately the value at
which the Fund has valued the securities.

Lease obligations and certain put bonds subject to restrictions on transfer may
be determined to be liquid in accordance with the guidelines established by the
Funds' Board of Directors.

In determining the liquidity of a lease obligation,  we will consider:  (1) the
frequency  of trades  and quotes  for the lease  obligation;  (2) the number of
dealers  willing to  purchase  or sell the lease  obligation  and the number of
other  potential  purchasers;  (3) dealer  undertakings to make a market in the
lease obligation;  (4) the nature of the marketplace trades, including the time
needed to dispose of the lease obligation, the method of soliciting offers, and
the mechanics of transfer;  (5) whether the lease  obligation is of a size that
will be attractive to institutional investors; (6) whether the lease obligation
contains a  non-appropriation  clause and the likelihood  that the obligor will
fail to make an  appropriation  therefor;  and (7) such other factors as we may
determine to be relevant to such determination.

In determining  the liquidity of put bonds with  restrictions  on transfer,  we
will evaluate the credit  quality of the party (the Put  Provider)  issuing (or
unconditionally  guaranteeing  performance on) the  unconditional put or demand
feature of the put bond.

                                      32
<PAGE>

                                   APPENDIX B

Taxable-Equivalent Yield Table

COMBINED FEDERAL AND
VIRGINIA STATE INCOME TAX

Assuming a Federal
Marginal Tax Rate of:       28%           31%            36%         39.6%
and a State Rate of:      5.75%         5.75%          5.75%         5.75%
The Effective Marginal
Tax Rate Would be:      32.140%(a)    34.968%(b)     39.680%(c)    43.073%(d)
To Match a Double
Tax-Free Yield of:       A Fully Taxable Investment Would Have to Pay You:

===============================================================================
        2.00%             2.95%         3.08%          3.32%         3.51%
        2.50%             3.68%         3.84%          4.14%         4.39%
        3.00%             4.42%         4.61%          4.97%         5.27%
        3.50%             5.16%         5.38%          5.80%         6.15%
        4.00%             5.89%         6.15%          6.63%         7.03%
        4.50%             6.63%         6.92%          7.46%         7.90%
        5.00%             7.37%         7.69%          8.29%         8.78%
        5.50%             8.10%         8.46%          9.12%         9.66%
        6.00%             8.84%         9.23%          9.95%        10.54%
        6.50%             9.58%        10.00%         10.78%        11.42%
        7.00%            10.32%        10.76%         11.60%        12.30%
===============================================================================

(a) Federal Rate of 28% + (Virginia  State Rate of 5.75% x (1-28%))
(b) Federal Rate of 31% + (Virginia  State Rate of 5.75% x (1-31%))
(c) Federal Rate of 36% + (Virginia  State  Rate of  5.75% x  (1-36%))
(d)  Federal  Rate of  39.6% + (Virginia State Rate of 5.75% x (1-39.6%))

THIS TABLE IS A  HYPOTHETICAL  ILLUSTRATION  AND SHOULD  NOT BE  CONSIDERED  AN
INDICATION OF FUND PERFORMANCE OF ANY OF THE USAA FAMILY OF FUNDS.

THESE RATES WERE SELECTED AS EXAMPLES THAT WOULD BE RELEVANT TO MOST TAXPAYERS.

FOR A FURTHER EXPLANATION ON CALCULATING  TAX-EQUIVALENT YIELDS, SEE THE FUNDS'
STATEMENT OF ADDITIONAL INFORMATION.

                                      33
<PAGE>

                                   APPENDIX C

USAA Family of No-Load Mutual Funds

The USAA Family of No-Load Mutual Funds includes a variety of Funds,  each with
different objectives and policies. In combination,  these Funds are designed to
provide you with the opportunity to formulate your own investment program.  You
may  exchange  any shares you hold in any one USAA Fund for shares in any other
USAA Fund. For more complete  information  about other Funds in the USAA Family
of Funds,  including  charges and expenses,  call us for a Prospectus.  Read it
carefully before you invest or send money.

     FUNDTYPE/NAME              VOLATILITY
==================================================
  CAPITAL APPRECIATION
- --------------------------------------------------
  Aggressive Growth            Very high
  Emerging Markets1            Very high
  First Start Growth           Moderate to high
  Gold1                        Very high
  Growth                       Moderate to high
  Growth & Income              Moderate
  International1               Moderate to high
  S&P 500 Index2               Moderate
  Science & Technology         Very high
  Small Cap Stock              Very high
  World Growth1                Moderate to high
===================================================
  ASSET ALLOCATION
- ---------------------------------------------------
  Balanced Strategy1           Moderate
  Cornerstone Strategy1        Moderate
  Growth and Tax Strategy      Moderate
  Growth Strategy1             Moderate to high
  Income Strategy              Low to moderate
===================================================
  INCOME - TAXABLE
- ---------------------------------------------------
  GNMA                         Low to moderate
  High-Yield Opportunities     High
  Income                       Moderate
  Income Stock                 Moderate
  Intermediate-Term Bond       Low to moderate
  Short-Term Bond              Low
===================================================
INCOME - TAX EXEMPT
- ---------------------------------------------------
  Long-Term3                   Moderate
  Intermediate-Term3           Low to moderate
  Short-Term3                  Low
  State Bond/Income3,4         Moderate
===================================================
  MONEY MAKET
- ---------------------------------------------------
  Money Market5                Very low
  Tax Exempt Money Market3,5   Very low
  Treasury Money Market Trust5 Very low
  State Money Market3,4,5      Very low
- ---------------------------------------------------

1 FOREIGN   INVESTING  IS  SUBJECT  TO  ADDITIONAL   RISKS,  SUCH  AS  CURRENCY
  FLUCTUATIONS, MARKET ILLIQUIDITY, AND POLITICAL INSTABILITY.

2 S&P(R)  IS A  TRADEMARK  OF THE  MCGRAW-HILL  COMPANIES,  INC.,  AND HAS BEEN
  LICENSED FOR USE. THE PRODUCT IS NoT SPONSORED,  SOLD OR PROMOTED BY STANDARD
  &  POOR'S,  AND  STANDARD  & POOR'S  MAKES NO  REPRESENTATION  REGARDING  THE
  ADVISABILITY OF INVESTING IN THE PRODUCT.

3 SOME INCOME MAY BE SUBJECT TO STATE OR LOCAL TAXES.

4 CALIFORNIA,  FLORIDA, NEW YORK, TEXAS, AND VIRGINIA FUNDS ARE OFFERED ONLY TO
  RESIDENTS OF THOSE STATES.

5 AN INVESTMENT IN A MONEY MARKET FUND IS NOT INSURED OR GUARANTEED BY THE FDIC
  OR ANY OTHER GOVERNMENT AGENCY. ALTHOUGH THE FUND SEEKS TO PRESERVE THE VALUE
  OF YOUR INVESTMENT AT $1 PER SHARE, IT IS POSSIBLE TO LOSE MONEY BY INVESTING
  IN THE FUND.

                                      34
<PAGE>
                                     NOTES
<PAGE>
If you would like more information about the Funds, you may call 1-800-531-8181
to request a free copy of the Funds' Statement of Additional Information (SAI),
Annual or Semiannual  Reports,  or to ask other questions about the Funds.  The
SAI has been filed with the  Securities  and Exchange  Commission  (SEC) and is
legally a part of the Prospectus. In each Fund's Annual Report, you will find a
discussion  of  the  market   conditions   and   investment   strategies   that
significantly affected the Fund's performance during the last fiscal year.

To view these documents,  along with other related documents, you can visit the
SEC's  Internet  web  site  (http://www.sec.gov)  or  the  Commission's  Public
Reference Room in Washington,  D.C.  Information on the operation of the public
reference room can be obtained by calling 1-800-SEC-0330.  Additionally, copies
of this  information  can be obtained,  for a  duplicating  fee, by writing the
Public Reference Section of the Commission, Washington, D.C. 20549-6009.

                Investment Adviser, Underwriter and Distributor
                       USAA Investment Management Company
                            9800 Fredericksburg Road
                            San Antonio, Texas 78288
           -------------------------------------------------------------
             Transfer Agent                          Custodian
    USAA Shareholder Account Services    State Street Bank and Trust Company
         9800 Fredericksburg Road                  P.O. Box 1713
         San Antonio, Texas 78288              Boston, Massachusetts 02105
           -------------------------------------------------------------
                           Telephone Assistance Hours
                         Call toll free - Central Time
                     Monday - Friday 7:30 a.m. to 8:00 p.m.
                        Saturdays 8:30 a.m. to 5:00 p.m.
           -------------------------------------------------------------
                   For Additional Information on Mutual Funds
                   1-800-531-8181, (in San Antonio) 456-7211
                For account servicing, exchanges or redemptions
                   1-800-531-8448, (in San Antonio) 456-7202
           -------------------------------------------------------------
                       Recorded Mutual Fund Price Quotes
                        24-Hour Service (from any phone)
                   1-800-531-8066, (in San Antonio) 498-8066
           -------------------------------------------------------------
                            Mutual Fund TouchLineSM
                         (from Touchtone phones only)
             For account balance, last transaction or fund prices
                   1-800-531-8777, (in San Antonio) 498-8777

                    Investment Company Act File No. 811-3333
<PAGE>

                                     PART B


                  Statements of Additional Information for the
                    Long-Term, Intermediate-Term, Short-Term
                       and Tax Exempt Money Market Funds,

               California Bond and California Money Market Funds,
               New York Bond and New York Money Market Funds, and
                 Virginia Bond and Virginia Money Market Funds

                              are included herein

<PAGE>

                                     Part B


                  Statement of Additional Information for the
                    Long-Term, Intermediate-Term, Short-Term
                       and Tax Exempt Money Market Funds

<PAGE>


USAA              USAA                                   STATEMENT OF
EAGLE             TAX EXEMPT                             ADDITIONAL INFORMATION
LOGO              FUND, INC.                             August 1, 1999
- -------------------------------------------------------------------------------


                           USAA TAX EXEMPT FUND, INC.
                    (Long-Term Fund, Intermediate-Term Fund,
               Short-Term Fund, and Tax Exempt Money Market Fund)

USAA TAX EXEMPT FUND,  INC.  (the Company) is a registered  investment  company
offering  shares of ten no-load  mutual  funds,  four of which are described in
this  Statement  of  Additional   Information   (SAI):   the  Long-Term   Fund,
Intermediate-Term  Fund,  Short-Term  Fund,  and Tax Exempt  Money  Market Fund
(collectively,  the Funds).  Each Fund is classified as  diversified  and has a
common investment objective of providing investors with interest income that is
exempt from federal  income tax. The Tax Exempt Money Market Fund has a further
objective of preserving capital and maintaining liquidity.

You may obtain a free copy of a Prospectus  dated August 1, 1999, for the Funds
by  writing  to USAA Tax Exempt  Fund,  Inc.,  9800  Fredericksburg  Road,  San
Antonio,  TX 78288,  or by calling  toll free  1-800-531-8181.  The  Prospectus
provides the basic  information you should know before  investing in the Funds.
This SAI is not a Prospectus  and contains  information in addition to and more
detailed than that set forth in the  Prospectus.  It is intended to provide you
with  additional  information  regarding the  activities  and operations of the
Company and the Funds, and should be read in conjunction with the Prospectus.

The financial  statements  of the Funds and the  Independent  Auditors'  Report
thereon  for the  fiscal  year  ended  March  31,  1999,  are  included  in the
accompanying Annual Report to Shareholders of that date and are incorporated by
reference.

- -------------------------------------------------------------------------------

                               TABLE OF CONTENTS

         PAGE

           2   Valuation of Securities
           2   Conditions of Purchase and Redemption
           3   Additional Information Regarding Redemption of Shares
           4   Investment Plans
           5   Investment Policies
           6   Investment Restrictions
           7   Portfolio Transactions
           8   Description of Shares
           9   Tax Considerations
          11   Directors and Officers of the Company
          14   The Company's Manager
          15   General Information
          15   Calculation of Performance Data
          17   Appendix A - Tax-Exempt Securities and Their Ratings
          20   Appendix B - Comparison of Fund Performance
          23   Appendix C - Dollar-Cost Averaging

<PAGE>

                            VALUATION OF SECURITIES

Shares of each Fund are offered on a  continuing,  best-efforts  basis  through
USAA Investment  Management  Company (IMCO or the Manager).  The offering price
for  shares of each Fund is equal to the  current  net  asset  value  (NAV) per
share.  The NAV per share of each Fund is calculated by adding the value of all
its portfolio  securities  and other assets,  deducting  its  liabilities,  and
dividing by the number of shares outstanding.

     A Fund's NAV per share is  calculated  each day,  Monday  through  Friday,
except days on which the New York Stock Exchange (NYSE) is closed.  The NYSE is
currently  scheduled to be closed on New Year's Day,  Martin  Luther King,  Jr.
Day, Presidents' Day, Good Friday,  Memorial Day,  Independence Day, Labor Day,
Thanksgiving,  and Christmas,  and on the preceding Friday or subsequent Monday
when one of these holidays falls on a Saturday or Sunday, respectively.

     The investments of the LONG-TERM, INTERMEDIATE-TERM,  AND SHORT-TERM FUNDS
are valued each business day by a pricing service (the Service) approved by the
Company's Board of Directors.  The Service uses the mean between quoted bid and
asked prices or the last sale price to price  securities when, in the Service's
judgment,  these prices are readily  available  and are  representative  of the
securities'  market values.  For many  securities,  such prices are not readily
available. The Service generally prices these securities based on methods which
include   consideration  of  yields  or  prices  of  tax-exempt  securities  of
comparable quality,  coupon,  maturity, and type, indications as to values from
dealers in securities, and general market conditions. Securities purchased with
maturities of 60 days or less are stated at amortized  cost which  approximates
market value. Repurchase agreements are valued at cost. Securities that  cannot
be valued by the  Service,  and all other  assets,  are valued in good faith at
fair  value  using  methods   determined  by  the  Manager  under  the  general
supervision of the Board of Directors.

     The value of the TAX EXEMPT MONEY MARKET  FUND'S  securities  is stated at
amortized  cost  which  approximates  market  value.  This  involves  valuing a
security  at its  cost and  thereafter  assuming  a  constant  amortization  to
maturity of any discount or premium,  regardless  of the impact of  fluctuating
interest  rates.  While this method  provides  certainty in  valuation,  it may
result in periods  during which the value of an  instrument,  as  determined by
amortized  cost,  is higher or lower than the price the Fund would receive upon
the sale of the instrument.

     The valuation of the Tax Exempt Money Market Fund's portfolio  instruments
based upon their  amortized cost is subject to the Fund's  adherence to certain
procedures and conditions. Consistent with regulatory requirements, the Manager
will only purchase securities with remaining maturities of 397 days or less and
will maintain a dollar-weighted  average portfolio  maturity of no more than 90
days. The Manager will invest only in securities  that have been  determined to
present  minimal  credit risk and that satisfy the quality and  diversification
requirements of applicable rules and regulations of the Securities and Exchange
Commission (SEC).

     The Board of Directors has  established  procedures  designed to stabilize
the Tax Exempt Money Market Fund's price per share, as computed for the purpose
of sales and redemptions,  at $1. There can be no assurance,  however, that the
Fund will at all times be able to  maintain a constant  $1 NAV per share.  Such
procedures include review of the Fund's holdings at such intervals as is deemed
appropriate to determine  whether the Fund's NAV calculated by using  available
market quotations deviates from $1 per share and, if so, whether such deviation
may  result  in  material   dilution  or  is   otherwise   unfair  to  existing
shareholders.  In the event that it is determined that such a deviation exists,
the Board of  Directors  will  take such  corrective  action as it  regards  as
necessary  and   appropriate.   Such  action  may  include  selling   portfolio
instruments  prior to maturity to realize capital gains or losses or to shorten
average portfolio maturity,  withholding  dividends,  or establishing a NAV per
share by using available market quotations.

                     CONDITIONS OF PURCHASE AND REDEMPTION

NONPAYMENT

If any order to purchase shares is canceled due to nonpayment or if the Company
does not receive good funds either by check or electronic funds transfer,  USAA
Shareholder  Account Services (Transfer Agent) will treat the cancellation as a
redemption of shares  purchased,  and you will be responsible for any resulting
loss  incurred  by the  Fund  or the  Manager.  If you are a  shareholder,  the
Transfer Agent can redeem shares from your account(s) as reimbursement  for all
losses.  In addition,  you may be prohibited  or restricted  from making future
purchases  in any of the USAA  Family of Funds.  A $15 fee is  charged  for all
returned items, including checks and electronic funds transfers.

                                       2
<PAGE>

TRANSFER OF SHARES

You may transfer Fund shares to another person by sending written  instructions
to the Transfer  Agent.  The account must be clearly  identified,  and you must
include  the  number  of  shares  to be  transferred,  the  signatures  of  all
registered owners, and all stock certificates, if any, which are the subject of
transfer.  You also need to send written  instructions signed by all registered
owners and supporting documents to change an account registration due to events
such as divorce,  marriage, or death. If a new account needs to be established,
you must complete and return an application to the Transfer Agent.

             ADDITIONAL INFORMATION REGARDING REDEMPTION OF SHARES

The value of your investment at the time of redemption may be more or less than
the cost at  purchase,  depending on the value of the  securities  held in each
Fund's  portfolio.  Requests  for  redemption  that are  subject to any special
conditions  or which  specify an effective  date other than as provided  herein
cannot be accepted. A gain or loss for tax purposes may be realized on the sale
of shares, depending upon the price when redeemed.

     The Board of  Directors  may cause the  redemption  of an  account  with a
balance of less than 50 shares  provided  (1) the value of the account has been
reduced,  for reasons  other than  market  action,  below the  minimum  initial
investment in such Fund at the time of the  establishment  of the account,  (2)
the account has  remained  below the minimum  level for six months,  and (3) 60
days' prior  written  notice of the proposed  redemption  has been sent to you.
Shares  will be  redeemed  at the NAV on the date fixed for  redemption  by the
Board of  Directors.  Prompt  payment  will be made by mail to your last  known
address.

     The  Company  reserves  the right to suspend  the right of  redemption  or
postpone  the date of  payment  (1) for any  periods  during  which the NYSE is
closed,  (2) when  trading in the  markets  the  Company  normally  utilizes is
restricted, or an emergency exists as determined by the SEC so that disposal of
the  Company's  investments  or  determination  of its  NAV  is not  reasonably
practicable,  or (3) for such other  periods as the SEC by order may permit for
protection of the Company's shareholders.

     For the mutual  protection of the investor and the Funds,  the Company may
require a signature  guarantee.  If  required,  EACH  signature  on the account
registration must be guaranteed.  Signature guarantees are acceptable from FDIC
member  banks,  brokers,  dealers,   municipal  securities  dealers,  municipal
securities  brokers,   government  securities  dealers,  government  securities
brokers,  credit unions,  national securities exchanges,  registered securities
associations,   clearing  agencies,  and  savings  associations.   A  signature
guarantee for active duty military  personnel  stationed abroad may be provided
by an officer of the United States Embassy or Consulate, a staff officer of the
Judge Advocate General, or an individual's commanding officer.

REDEMPTION BY CHECK

Shareholders in the Short-Term Fund or Tax Exempt Money Market Fund may request
that checks be issued for their accounts.  Checks must be written in amounts of
at least $250.

     Checks  issued to  shareholders  of  either  Fund will be sent only to the
person in whose  name the  account  is  registered  and only to the  address of
record.  The checks must be manually signed by the registered  owner(s) exactly
as the account is  registered.  For joint  accounts the  signature of either or
both joint owners will be required on the check, according to the election made
on the signature card. You will continue to earn dividends until the shares are
redeemed by the presentation of a check.

     When a check is presented to the Transfer Agent for payment, a sufficient
number of full and  fractional  shares  from your  account  will be redeemed to
cover the amount of the check.  If the account balance is not adequate to cover
the amount of a check,  the check will be returned  unpaid. A check drawn on an
account in the Short-Term  Fund may be returned for  insufficient  funds if the
NAV per share of that Fund  declines  over the time  between the date the check
was written and the date it was presented for payment.  Because the value of an
account in either the  Short-Term  Fund or Tax Exempt Money Market Fund changes
as dividends  are accrued on a daily basis,  checks may not be used to close an
account.

     The  checkwriting   privilege  is  subject  to  the  customary  rules  and
regulations  of State Street Bank and Trust  Company  (State Street Bank or the
Custodian)  governing checking accounts.  There is no charge to you for the use
of the checks or for subsequent reorders of checks.

     The Company  reserves  the right to assess a  processing  fee against your
account for any  redemption  check not  honored by a clearing or paying  agent.
Currently,  this fee is $15 and is subject to change at any

                                       3
<PAGE>

time. Some examples of such dishonor are improper  endorsement, checks  written
for  an  amount  less  than  the  minimum  check  amount,  and  insufficient or
uncollectible funds.

     The Company,  the Transfer  Agent,  and State Street Bank each reserve the
right to change or suspend the  checkwriting  privilege  upon 30 days'  written
notice to participating shareholders.

     You may  request  that the  Transfer  Agent stop  payment on a check.  The
Transfer Agent will use its best efforts to execute stop payment  instructions,
but does not guarantee that such efforts will be effective.  The Transfer Agent
will charge you $10 for each stop payment you request.

                                INVESTMENT PLANS

The Company makes available the following  investment  plans to shareholders of
all the  Funds.  At the time you  sign up for any of the  following  investment
plans that utilize the electronic funds transfer  service,  you will choose the
day of the month  (the  effective  date) on which you would  like to  regularly
purchase  shares.  When this day falls on a weekend or holiday,  the electronic
transfer will take place on the last  business day before the  effective  date.
You may terminate  your  participation  in a plan at any time.  Please call the
Manager for details and necessary forms or applications.

AUTOMATIC PURCHASE OF SHARES

INVESTRONIC(R) - The regular purchase of additional  shares through  electronic
funds transfers from a checking or savings account. You may invest as little as
$50 per month.

DIRECT PURCHASE  SERVICE - The periodic  purchase of shares through  electronic
funds transfer from a on-governmental employer, an income-producing investment,
or an account with a participating financial institution.

DIRECT DEPOSIT PROGRAM - The monthly  transfer of certain  federal  benefits to
directly  purchase  shares of a USAA mutual  fund.  Eligible  federal  benefits
include:  Social Security,  Supplemental Security Income, Veterans Compensation
and Pension,  Civil Service  Retirement  Annuity,  and Civil  Service  Survivor
Annuity.

GOVERNMENT  ALLOTMENT - The  transfer of  military  pay by the U.S.  Government
Finance Center for the purchase of USAA mutual fund shares.

AUTOMATIC  PURCHASE  PLAN - The  periodic  transfer  of funds from a USAA money
market fund to purchase  shares in another  non-money  market USAA mutual fund.
There is a minimum investment  required for this program of $5,000 in the money
market fund, with a monthly transaction minimum of $50.

BUY/SELL  SERVICE - The  intermittent  purchase or redemption of shares through
electronic  funds  transfer to or from a checking or savings  account.  You may
initiate a "buy" or "sell" whenever you choose.

DIRECTED  DIVIDENDS  - If you own  shares  in more than one of the Funds in the
USAA  Family of Funds,  you may  direct  that  dividends  and/or  capital  gain
distributions  earned in one fund be used to purchase shares  automatically  in
another fund.

     Participation in these  systematic  purchase plans allows you to engage in
dollar-cost  averaging.  For additional  information concerning the benefits of
dollar-cost averaging, see APPENDIX C.

SYSTEMATIC WITHDRAWAL PLAN

If you own shares having a NAV of $5,000 or more in a single investment account
(accounts in different  Funds cannot be aggregated for this  purpose),  you may
request  that enough  shares to produce a fixed  amount of money be  liquidated
from the account monthly or quarterly. The amount of each withdrawal must be at
least $50. Using the electronic funds transfer service,  you may choose to have
withdrawals   electronically   deposited  at  your  bank  or  other   financial
institution. You may also elect to have checks mailed to a designated address.

     This plan may be initiated by depositing shares worth at least $5,000 with
the Transfer Agent and by completing a Systematic  Withdrawal Plan application,
which may be requested from the Manager. You may terminate participation in the
plan at any time.  You are not charged  for  withdrawals  under the  Systematic
Withdrawal  Plan. The Company will not bear any expenses in  administering  the
plan  beyond the  regular  transfer  agent and  custodian  costs of issuing and
redeeming   shares.   The  Manager  will  bear  any   additional   expenses  of
administering the plan.

     Withdrawals  will be made by redeeming full and  fractional  shares on the
date you select at the time the plan is established.  Withdrawal  payments made
under this plan may exceed  dividends  and  distributions  and, to this extent,
will  involve the use of  principal  and could  reduce the dollar value of your
investment and

                                       4
<PAGE>

eventually exhaust the account.  Reinvesting dividends and  distributions helps
replenish  the  account.  Because  share values and  net  investment income can
fluctuate, you should not expect withdrawals to be  offset by  rising income or
share value gains.

     Each  redemption  of shares  may  result in a gain or loss,  which must be
reported  on your  income tax  return.  Therefore,  you should keep an accurate
record of any gain or loss on each withdrawal.

                              INVESTMENT POLICIES

The  sections  captioned  WHAT ARE EACH FUND'S  INVESTMENT  OBJECTIVE  AND MAIN
STRATEGIES?  and FUND  INVESTMENTS in the Prospectus  describe the  fundamental
investment  objective(s) and the investment  policies  applicable to each Fund.
Each Fund's objective(s) cannot be changed without  shareholder  approval.  The
following is provided as additional information.

CALCULATION OF PORTFOLIO WEIGHTED AVERAGE MATURITIES

Weighted  average  maturity  is  derived  by  multiplying  the  value  of  each
investment by the number of days remaining to its maturity,  adding the results
of these  calculations,  and then  dividing  the total by the value of a Fund's
portfolio.  An obligation's  maturity is typically determined on a stated final
maturity basis, although there are some exceptions to this rule.

     With   respect  to   obligations   held  by  the   Long-Term   Fund,   the
Intermediate-Term  Fund,  and the  Short-Term  Fund, if it is probable that the
issuer of an instrument  will take advantage of a  maturity-shortening  device,
such as a call,  refunding,  or  redemption  provision,  the date on which  the
instrument will probably be called,  refunded, or redeemed may be considered to
be its maturity date.  Also,  the  maturities of securities  subject to sinking
fund arrangements are determined on a weighted average life basis, which is the
average  time for  principal to be repaid.  The weighted  average life of these
securities  is likely to be  substantially  shorter  than  their  stated  final
maturity.  In addition,  for purposes of these Funds' investment  policies,  an
instrument  will be  treated  as  having a  maturity  earlier  than its  stated
maturity date if the instrument  has technical  features such as puts or demand
features  that, in the judgment of the Manager,  will result in the  instrument
being valued in the market as though it has the earlier maturity.

     The Tax  Exempt  Money  Market  Fund will  determine  the  maturity  of an
obligation in its portfolio in accordance  with Rule 2a-7 under the  Investment
Company Act of 1940, as amended (1940 Act).

LENDING OF SECURITIES

Each Fund may lend its  securities.  A lending  policy may be authorized by the
Company's  Directors and  implemented  by the Manager,  but  securities  may be
loaned only to qualified  broker-dealers or institutional  investors that agree
to maintain  cash  collateral  with the Company  equal at all times to at least
100% of the  value of the  loaned  securities.  The  Directors  will  establish
procedures and monitor the creditworthiness of any institution or broker-dealer
during  such time as any loan is  outstanding.  The  Company  will  continue to
receive  interest on the loaned  securities and will invest the cash collateral
in readily marketable short-term  obligations of high quality,  thereby earning
additional interest.  Interest on loaned tax-exempt  securities received by the
borrower and paid to the Company  will not be exempt from federal  income taxes
in the hands of the Company.

     No loan of securities will be made if, as a result,  the aggregate of such
loans would exceed 33 1/3% of the value of a Fund's total  assets.  The Company
may terminate such loans at any time.

REPURCHASE AGREEMENTS

Each Fund may invest up to 5% of its total assets in repurchase  agreements.  A
repurchase  agreement is a transaction  in which a security is purchased with a
simultaneous  commitment  to sell the security back to the seller (a commercial
bank or recognized securities dealer) at an agreed upon price on an agreed upon
date,  usually not more than seven days from the date of  purchase.  The resale
price  reflects the purchase  price plus an agreed upon market rate of interest
which is unrelated to the coupon rate or maturity of the purchased security.  A
repurchase  agreement  involves the  obligation of the seller to pay the agreed
upon  price,  which  obligation  is in  effect  secured  by  the  value  of the
underlying security. In these transactions,  the securities purchased by a Fund
will have a total value  equal to or in excess of the amount of the  repurchase
obligation and will be held by the Funds' custodian until  repurchased.  If the
seller defaults and the value of the underlying  security declines,  a Fund may
incur a loss and may incur  expenses in selling the  collateral.  If the seller
seeks relief under the bankruptcy  laws, the  disposition of the collateral may
be delayed or limited. Any investments in repurchase  agreements will give rise
to income which will not qualify as  tax-exempt  income when  distributed  by a
Fund.

                                       5
<PAGE>

WHEN-ISSUED SECURITIES

Each  Fund may  invest in new  issues of  tax-exempt  securities  offered  on a
when-issued  basis;  that is, delivery and payment take place after the date of
the commitment to purchase,  normally  within 45 days.  Both price and interest
rate are fixed at the time of commitment. The Funds do not earn interest on the
securities  until  settlement,  and the  market  value  of the  securities  may
fluctuate  between purchase and settlement.  Such securities can be sold before
settlement date.

     Cash or high  quality  liquid debt  securities  equal to the amount of the
when-issued  commitments  are  segregated  at the Fund's  custodian  bank.  The
segregated  securities are valued at market,  and daily adjustments are made to
keep the  value of the cash and  segregated  securities  at least  equal to the
amount of such  commitments by the Fund. On the settlement  date, the Fund will
meet its obligations  from then available cash, sale of segregated  securities,
sale of other securities, or sale of the when-issued securities themselves.

MUNICIPAL LEASE OBLIGATIONS

Each  Fund may  invest in  municipal  lease  obligations  and  certificates  of
participation in such obligations  (collectively,  lease obligations).  A lease
obligation  does not constitute a general  obligation of the  municipality  for
which the municipality's taxing power is pledged, although the lease obligation
is ordinarily backed by the municipality's  covenant to budget for the payments
due under the lease obligation.

     Certain  lease  obligations  contain   "non-appropriation"  clauses  which
provide  that the  municipality  has no  obligation  to make  lease  obligation
payments in future  years unless  money is  appropriated  for such purpose on a
yearly basis. Although "non-appropriation" lease obligations are secured by the
leased property,  disposition of the property in the event of foreclosure might
prove  difficult.  In  evaluating  a  potential  investment  in  such  a  lease
obligation,  the Manager will consider:  (1) the credit quality of the obligor,
(2) whether the underlying  property is essential to a  governmental  function,
and (3) whether the lease obligation contains covenants prohibiting the obligor
from substituting  similar property if the obligor fails to make appropriations
for the lease obligation.

TEMPORARY DEFENSIVE POLICY

Each Fund may on a temporary basis because of market,  economic,  political, or
other  conditions,  invest up to 100% of its  assets in  short-term  securities
whether  or not they  are  exempt  from  federal  income  taxes.  Such  taxable
securities may consist of obligations of the U.S.  Government,  its agencies or
instrumentalities,  and  repurchase  agreements  secured  by such  instruments;
certificates  of  deposit  of  domestic  banks  having  capital,  surplus,  and
undivided  profits in excess of $100 million;  banker's  acceptances of similar
banks; commercial paper; and other corporate debt obligations.

                            INVESTMENT RESTRICTIONS

The following investment restrictions have been adopted by the Company for each
Fund. These restrictions may not be changed for any given Fund without approval
by the lesser of (1) 67% or more of the voting securities  present at a meeting
of the Fund if more than 50% of the outstanding  voting  securities of the Fund
are  present  or  represented  by  proxy or (2)  more  than  50% of the  Fund's
outstanding voting securities.  The investment  restrictions of one Fund may be
changed without affecting those of any other Fund.

Under the restrictions, each Fund may not:

 (1)  with respect to 75% of its total assets,  purchase the  securities of any
      issuer (except Government Securities, as such term is defined in the 1940
      Act) if, as a result,  the Fund  would  have more than 5% of the value of
      its total assets invested in the securities of such issuer;

 (2)  purchase more than  10% of  the  outstanding  voting  securities  of  any
      issuer;

 (3)  borrow money, except for temporary or emergency purposes in an amount not
      exceeding 33 1/3% of its total assets (including the amount borrowed)less
      liabilities (other than borrowings);

 (4)  pledge, mortgage, or hypothecate its assets to any extent greater than
      10% of the value of its total assets;

 (5)  purchase or retain securities of any issuer if any officer or Director of
      the Company or its Manager owns  individually  more than  one-half of one
      percent (1/2%) of the  securities of that issuer,  and  collectively  the
      officers and Directors of the Company and Manager  together own more than
      5% of the securities of that issuer;

 (6)  purchase any  securities  which would cause more than 25% of the value of
      that Fund's total  assets at the time of such  purchase to be invested in
      either (i) the securities of issuers conducting their principal

                                       6
<PAGE>

      activities in the same state,  or (ii) the  securities  the interest upon
      which is derived from revenues or projects with similar  characteristics,
      such as toll road revenue bonds,  housing  revenue bonds,  electric power
      project revenue bonds, etc.; provided that the foregoing  limitation does
      not apply with  respect to  investments  in U.S.  Treasury  Bills,  other
      obligations issued or guaranteed by the U.S. Government, its agencies and
      instrumentalities,  and, in the case of the Tax Exempt Money Market Fund,
      certificates of deposit and banker's acceptances of domestic banks;

 (7)  invest in issuers for the purpose of exercising control of management;

 (8)  issue senior  securities  as defined in the 1940 Act,  except that it may
      purchase  tax-exempt  securities on a "when-issued" basis as permitted by
      Section 18(f)(2);

 (9)  underwrite securities of other issuers,  except to the extent that it may
      be deemed to act as a statutory  underwriter in the  distribution  of any
      restricted securities or not readily marketable securities;

 (10) purchase or sell real estate,  but this shall not prevent  investments in
      tax-exempt securities secured by real estate or interests therein;

 (11) lend any securities or make any loan if, as a result,  more  than 33 1/3%
      of its total  assets would  be lent to other parties,  except  that  this
      limitation  does  not  apply  to  purchases  of  debt  securities  or  to
      repurchase agreements;

 (12) purchase on margin or sell short;

 (13) purchase or sell commodities or commodities contracts;

 (14) invest its assets in securities of other  investment  companies except by
      purchases  in  the  open  market   involving  only   customary   brokers'
      commissions  or as part of a merger,  consolidation,  reorganization,  or
      purchase of assets approved by the shareholders; or

 (15) invest in put,  call,  straddle,  or spread  options or interests in oil,
      gas, or other mineral exploration or development programs.

ADDITIONAL RESTRICTIONS

The following restrictions are not considered to be fundamental policies of the
Funds. The Board of Directors may change these additional  restrictions without
notice to or approval by the shareholders.

Each Fund may not:

 (1)  invest  more than 15% (10% with  respect to the Tax Exempt  Money  Market
      Fund) of the value of its net assets in  illiquid  securities,  including
      repurchase agreements maturing in more than seven days; or

 (2)  purchase any security while borrowings representing  more  than 5% of the
      Fund's total assets are outstanding.

                             PORTFOLIO TRANSACTIONS

The  Manager,  pursuant to the  Advisory  Agreement  dated July 20,  1990,  and
subject to the general control of the Company's Board of Directors,  places all
orders  for  the  purchase  and  sale  of Fund  securities.  Purchases  of Fund
securities are made either directly from the issuer or from dealers who deal in
tax-exempt  securities.  The Manager may sell Fund securities prior to maturity
if circumstances  warrant and if it believes such disposition is advisable.  In
connection with portfolio  transactions  for the Company,  the Manager seeks to
obtain  the best  available  net price  and most  favorable  execution  for its
orders.  The Manager has no agreement or commitment to place  transactions with
any  broker-dealer  and no regular  formula is used to  allocate  orders to any
broker-dealer.  However,  the Manager may place security orders with brokers or
dealers who furnish  research or other services to the Manager as long as there
is no sacrifice in obtaining the best overall terms available. Payment for such
services  would be generated  only  through  purchase of new issue fixed income
securities.

     Such  research  and  other  services  may  include,  for  example:  advice
concerning  the  value  of  securities,   the  advisability  of  investing  in,
purchasing,  or selling  securities,  and the availability of securities or the
purchasers or sellers of securities;  analyses and reports concerning  issuers,
industries,  securities,  economic factors and trends,  portfolio strategy, and
performance  of  accounts;   and  various  functions  incidental  to  effecting
securities  transactions,  such as clearance  and  settlement.  These  research
services may also include access to research on third party data bases, such as
historical  data on  companies,  financial  statements,  earnings  history  and
estimates and corporate releases; real-time quotes and financial news; research
on specific fixed income securities;  research on international market news and
securities; and

                                       7
<PAGE>

rating services on companies and industries.  The  Manager continuously reviews
the  performance  of  the  broker-dealers   with  whom  it  places  orders  for
transactions.   The  receipt  of  research  from  broker-dealers  that  execute
transactions on behalf of the Company may be useful to the Manager in rendering
investment  management  services to other clients (including  affiliates of the
Manager),  and conversely,  such research provided by  broker-dealers  who have
executed  transaction  orders on behalf of other  clients  may be useful to the
Manager in carrying out its obligations to the Company.  While such research is
available to and may be used by the Manager in providing  investment  advice to
all its clients (including affiliates of the Manager), not all of such research
may be used by the Manager for the benefit of the  Company.  Such  research and
services  will be in  addition  to and not in lieu  of  research  and  services
provided by the Manager,  and the expenses of the Manager will not  necessarily
be reduced by the  receipt of such  supplemental  research.  See THE  COMPANY'S
MANAGER.

     On occasions  when the Manager deems the purchase or sale of a security to
be in the best interest of the Company, as well as the Manager's other clients,
the Manager,  to the extent permitted by applicable laws and  regulations,  may
aggregate such securities to be sold or purchased for the Company with those to
be sold or purchased for other  customers in order to obtain best execution and
lower  brokerage  commissions,  if  any.  In  such  event,  allocation  of  the
securities  so  purchased  or sold,  as well as the  expenses  incurred  in the
transaction,  will be made by the Manager in the manner it considers to be most
equitable and consistent with its fiduciary  obligations to all such customers,
including the Company.  In some instances,  this procedure may impact the price
and size of the position obtainable for the Company.

     The  tax-exempt  security  market is typically a "dealer"  market in which
investment  dealers buy and sell bonds for their own accounts,  rather than for
customers,  and although the price may reflect a dealer's mark-up or mark-down,
the Company pays no brokerage commissions as such. In addition, some securities
may be purchased directly from issuers.

PORTFOLIO TURNOVER RATES

The  portfolio  turnover  rate is  computed by  dividing  the dollar  amount of
securities  purchased or sold  (whichever  is smaller) by the average  value of
securities owned during the year.

     The rate of  portfolio  turnover  will not be a limiting  factor  when the
Manager  deems  changes in the  Long-Term,  Intermediate-Term,  and  Short-Term
Funds' portfolios appropriate in view of each Fund's investment objective.  For
example,  securities  may be sold in  anticipation  of a rise in interest rates
(market  decline) or purchased in  anticipation  of a decline in interest rates
(market rise) and later sold.  In addition,  a security may be sold and another
security of comparable  quality may be purchased at approximately the same time
in  order  to take  advantage  of what  the  Fund  believes  to be a  temporary
disparity in the normal yield  relationship  between the two securities.  These
yield  disparities may occur for reasons not directly related to the investment
quality of particular issues or the general movement of interest rates, such as
changes in the  overall  demand for or supply of  various  types of  tax-exempt
securities.

     For the last two fiscal years the Funds' portfolio  turnover rates were as
follows:

         FUND                  1998            1999
         -----                 ----            ----
         Long-Term            35.20%          29.56%
         Intermediate-Term     7.87%          11.85%
         Short-Term            7.91%           7.34%

     Portfolio  turnover  rates  have  been  calculated   excluding  short-term
variable rate securities,  which are those with put date intervals of less than
one year.

                             DESCRIPTION OF SHARES


The Funds are  series of USAA Tax  Exempt  Fund,  Inc.  (the  Company)  and are
diversified.   The  Company  is  an  open-end  management   investment  company
incorporated  under the laws of the state of Maryland on November 16, 1981. The
Company is  authorized to issue shares in separate  series or funds.  There are
ten mutual funds in the Company, four of which are described in this SAI. Under
the Articles of  Incorporation,  the Board of Directors is authorized to create
new  portfolios  in  addition to those  already  existing  without  shareholder
approval. The Company began offering shares of the Long-Term, Intermediate-Term
and Short-Term  Funds in March 1982 and began offering shares of the Tax Exempt
Money Market Fund in February 1984.

                                       8
<PAGE>

     Each  Fund's  assets  and all  income,  earnings,  profits,  and  proceeds
thereof, subject only to the rights of creditors, are specifically allocated to
such Fund. They constitute the underlying  assets of each Fund, are required to
be segregated on the books of account,  and are to be charged with the expenses
of such Fund. Any general  expenses of the Company not readily  identifiable as
belonging  to a  particular  Fund are  allocated  on the  basis  of the  Funds'
relative net assets during the fiscal year or in such other manner as the Board
determines  to be fair and  equitable.  Each share of each Fund  represents  an
equal  proportionate  interest  in that  Fund  with  every  other  share and is
entitled to dividends and distributions out of the net income and capital gains
belonging to that Fund when declared by the Board.

     Under the  provisions of the Bylaws of the Company,  no annual  meeting of
shareholders is required. Thus, there will ordinarily be no shareholder meeting
unless  required  by  the  1940  Act.  Under  certain  circumstances,  however,
shareholders  may apply to the Directors for shareholder  information to obtain
signatures  to request a special  shareholder  meeting.  The  Company  may fill
vacancies on the Board or appoint new  Directors if the result is that at least
two-thirds of the Directors have still been elected by shareholders.  Moreover,
pursuant  to the  Bylaws of the  Company,  any  Director  may be removed by the
affirmative vote of a majority of the outstanding  Company shares;  and holders
of 10% or more of the outstanding  shares of the Company can require  Directors
to call a meeting of  shareholders  for the purpose of voting on the removal of
one or more  Directors.  The  Company  will  assist in  communicating  to other
shareholders  about the meeting.  On any matter submitted to the  shareholders,
the  holder  of each  Fund  share  is  entitled  to one vote  per  share  (with
proportionate  voting for  fractional  shares)  regardless  of the relative net
asset values of the Funds' shares.  However, on matters affecting an individual
Fund,  a  separate  vote  of  the   shareholders  of  that  Fund  is  required.
Shareholders  of a Fund are not  entitled  to vote on any matter  that does not
affect that Fund but which requires a separate vote of another Fund.  Shares do
not have cumulative voting rights, which means that holders of more than 50% of
the shares voting for the election of Directors can elect 100% of the Company's
Board of  Directors,  and the holders of less than 50% of the shares voting for
the election of Directors will not be able to elect any person as a Director.

     Shareholders of a particular Fund might have the power to elect all of the
Directors  of the  Company  because  that  Fund  has a  majority  of the  total
outstanding  shares of the Company.  When issued,  each Fund's shares are fully
paid and  nonassessable,  have no pre-emptive or subscription  rights,  and are
fully transferable. There are no conversion rights.

                               TAX CONSIDERATIONS

TAXATION OF THE FUNDS

Each Fund intends to qualify as a regulated investment company under Subchapter
M of the  Internal  Revenue Code of 1986,  as amended (the Code).  Accordingly,
each  Fund will not be liable  for  federal  income  taxes on its  taxable  net
investment  income and net capital  gains  (capital  gains in excess of capital
losses)  that  are  distributed  to  shareholders,   provided  that  each  Fund
distributes  at  least  90% of its net  investment  income  and net  short-term
capital gain for the taxable year.

     To qualify as a regulated  investment  company,  a Fund must,  among other
things,  (1) derive in each  taxable year at least 90% of its gross income from
dividends,  interest, payments with respect to securities loans, gains from the
sale or other disposition of stock, securities or foreign currencies,  or other
income  derived  with  respect to its  business  of  investing  in such  stock,
securities,   or   currencies   (the  90%   test)  and  (2)   satisfy   certain
diversification requirements at the close of each quarter of the Fund's taxable
year. Furthermore, to pay tax-exempt interest income dividends, at least 50% of
the value of each  Fund's  total  assets at the  close of each  quarter  of its
taxable year must consist of  obligations  the interest of which is exempt from
federal income tax. Each Fund intends to satisfy this requirement.

     The Code imposes a nondeductible  4% excise tax on a regulated  investment
company that fails to  distribute  during each calendar year an amount at least
equal  to the sum of (1)  98% of its  taxable  net  investment  income  for the
calendar  year,  (2) 98% of its  capital  gain net income for the  twelve-month
period  ending on October 31, and (3) any prior amounts not  distributed.  Each
Fund intends to make such distributions as are necessary to avoid imposition of
this excise tax.

     For federal income tax purposes,  debt  securities  purchased by the Funds
may be treated as having  original  issue  discount.  Original  issue  discount
represents interest income for federal income tax purposes and can generally be
defined as the  excess of the stated  redemption  price at  maturity  of a debt
obligation over the issue price. Original issue discount is treated for federal
income  tax  purposes  as earned by the  Funds,  whether  or not any  income is
actually received, and therefore is subject to the distribution

                                       9
<PAGE>

requirements  of the Code.  However,  original  issue  discount with respect to
tax-exempt  obligations  generally  will be  excluded  from the Funds'  taxable
income, although such discount will be included in gross income for purposes of
the 90% test  described  previously.  Original  issue  discount with respect to
tax-exempt  securities  is accrued and added to the  adjusted tax basis of such
securities for purposes of  determining  gain or loss upon sale or at maturity.
Generally,  the amount of original issue discount is determined on the basis of
a constant  yield to maturity  which  takes into  account  the  compounding  of
accrued  interest.  An investment  in a stripped  bond or stripped  coupon will
result in original issue discount.

     Debt securities may be purchased by the Funds at a market discount. Market
discount  occurs when a security is purchased at a price less than the original
issue price  adjusted for accrued  original issue  discount,  if any. The Funds
intend to defer  recognition of accrued market discount until maturity or other
disposition  of the bond. For securities  purchased at a market  discount,  the
gain realized on disposition  will be treated as taxable ordinary income to the
extent it does not exceed accrued market discount on the bond.

     The Funds may also  purchase  debt  securities  at a premium,  i.e.,  at a
purchase price in excess of face amount. With respect to tax-exempt securities,
the premium must be amortized to the maturity  date but no deduction is allowed
for the premium amortization. The amortized bond premium will reduce the Funds'
adjusted tax basis in the securities.  For taxable securities,  the premium may
be amortized if the Funds so elect. The amortized premium on taxable securities
is first offset against interest received on the securities and then allowed as
a deduction,  and, for  securities  issued after  September  27, 1985,  must be
amortized under an economic accrual method.

TAXATION OF THE SHAREHOLDERS

Taxable  distributions are generally  included in a shareholder's  gross income
for the taxable year in which they are received. Dividends declared in October,
November,  or December  and made  payable to  shareholders  of record in such a
month will be deemed to have been  received on December  31, if a Fund pays the
dividend during the following  January.  It is expected that none of the Funds'
distributions will qualify for the corporate dividends-received deduction.

     To the extent that a Fund's  dividends  distributed  to  shareholders  are
derived from interest  income exempt from federal income tax and are designated
as  "exempt-interest  dividends"  by a Fund,  they  will be  excludable  from a
shareholder's  gross income for federal income tax purposes.  Shareholders  who
are recipients of Social Security benefits should be aware that exempt-interest
dividends received from a Fund are includible in their "modified adjusted gross
income"  for  purposes  of  determining  the  amount  of such  Social  Security
benefits, if any, that are required to be included in their gross income.

     All  distributions of investment income during the year will have the same
percentage designated as tax-exempt.  This method is called the "average annual
method."  Since  the Funds  invest  primarily  in  tax-exempt  securities,  the
percentage will be substantially  the same as the amount actually earned during
any particular distribution period.

     A shareholder of the  Long-Term,  Intermediate-Term,  or Short-Term  Funds
should be aware  that a  redemption  of shares  (including  any  exchange  into
another USAA Fund) is a taxable event and, accordingly,  a capital gain or loss
may be recognized.  If a shareholder receives an exempt-interest  dividend with
respect to any share and such  share has been held for six months or less,  any
loss on the  redemption  or exchange  will be  disallowed to the extent of such
exempt-interest  dividend.  Similarly,  if a  shareholder  of a Fund receives a
distribution taxable as long-term capital gain with respect to shares of a Fund
and redeems or  exchanges  shares  before he or she has held them for more than
six months, any loss on the redemption or exchange (not otherwise disallowed as
attributable  to an  exempt-interest  dividend)  will be treated  as  long-term
capital loss.

     The Funds may  invest in  private  activity  bonds.  Interest  on  certain
private  activity  bonds  issued  after  August  7,  1986,  is an  item  of tax
preference for purposes of the Federal Alternative Minimum Tax (AMT),  although
the interest  continues to be excludable  from gross income for other purposes.
AMT is a  supplemental  tax  designed to ensure that  taxpayers  pay at least a
minimum  amount of tax on their income,  even if they make  substantial  use of
certain tax deductions and  exclusions  (referred to as tax preference  items).
Interest from private activity bonds is one of the tax preference items that is
added to income from other  sources for the purposes of  determining  whether a
taxpayer  is  subject  to the AMT and the  amount  of any tax to be  paid.  For
corporate investors,  alternative minimum taxable income is increased by 75% of
the amount by which adjusted current earnings (ACE) exceeds alternative minimum
taxable  income  before  the  ACE  adjustment.  For  corporate  taxpayers,  all
tax-exempt  interest is considered in  calculating  the AMT as part of the ACE.
Prospective investors should consult their own tax advisers with respect to the
possible application of the AMT to their tax situation.

                                      10
<PAGE>

     Opinions  relating  to the  validity  of  tax-exempt  securities  and  the
exemption  of  interest  thereon  from  federal  income  tax  are  rendered  by
recognized  bond counsel to the issuers.  Neither the  Manager's nor the Funds'
counsel makes any review of the basis of such opinions.

STATE AND LOCAL TAXES

The  exemption  of interest  income for federal  income tax  purposes  does not
necessarily result in exemption under the income or other tax laws of any state
or local taxing authority.  Shareholders of a Fund may be exempt from state and
local  taxes on  distributions  of  tax-exempt  interest  income  derived  from
obligations of the state and/or  municipalities  of the state in which they are
resident,  but generally are subject to tax on income derived from  obligations
of other  jurisdictions.  Shareholders  should consult their tax advisers about
the status of distributions from a Fund in their own states and localities.

                     DIRECTORS AND OFFICERS OF THE COMPANY

The Board of Directors of the Company consists of seven Directors who supervise
the business  affairs of the  Company.  Set forth below are the  Directors  and
officers of the Company, and their respective offices and principal occupations
during the last five years. Unless otherwise indicated, the business address of
each is 9800 Fredericksburg Road, San Antonio, TX 78288.

Robert G. Davis 1, 2
Director and Chairman of the Board of Directors
Age: 52

Chief  Operating  Officer  of United  Services  Automobile  Association  (USAA)
(6/99-present);  Deputy Chief Executive Officer for Capital  Management of USAA
(6/98-5/99); President, Chief Executive Officer, Director, and Vice Chairman of
the  Board  of  Directors  of  USAA  Capital  Corporation  and  several  of its
subsidiaries and affiliates (1/97-present); President, Chief Executive Officer,
Director,  and Chairman of the Board of Directors  of USAA  Financial  Planning
Network,  Inc.  (1/97-present);   Executive  Vice  President,  Chief  Operating
Officer,  Director,  and  Vice  Chairman  of the  Board  of  Directors  of USAA
Financial Planning Network, Inc.  (6/96-12/96);  Special Assistant to Chairman,
USAA  (6/96-12/96);  President  and Chief  Executive  Officer,  Banc One Credit
Corporation  (12/95-6/96);  and President and Chief Executive Officer, Banc One
Columbus,  (8/91-12/95). Mr. Davis serves as a Director/Trustee and Chairman of
the Boards of Directors/Trustees of each of the remaining funds within the USAA
Family of Funds;  Director  and  Chairman  of the Boards of  Directors  of USAA
Investment  Management Company (IMCO), USAA Shareholder Account Services,  USAA
Federal Savings Bank, and USAA Real Estate Company.

Michael J.C. Roth 1, 2
Director, President, and Vice Chairman of the Board of Directors
Age: 57

Chief Executive Officer, IMCO (10/93-present);  President,  Director,  and Vice
Chairman of the Board of  Directors,  IMCO  (1/90-present).  Mr. Roth serves as
President,   Director/Trustee,   and   Vice   Chairman   of   the   Boards   of
Directors/Trustees  of each of the  remaining  funds  within the USAA Family of
Funds and USAA Shareholder  Account  Services;  Director of USAA Life Insurance
Company; and Trustee and Vice Chairman of USAA Life Investment Trust.

John W. Saunders, Jr. 1, 2, 4
Director and Vice President
Age: 64

Senior Vice President,  Fixed Income  Investments,  IMCO  (10/85-present).  Mr.
Saunders serves as a Director/Trustee of each of the remaining funds within the
USAA  Family  of  Funds;  Director  of  IMCO;  Senior  Vice  President  of USAA
Shareholder Account Services, and Vice President of USAA Life Investment Trust.

Barbara B. Dreeben 3, 4, 5
200 Patterson #1008
San Antonio, TX  78209
Director
Age: 54

President,   Postal  Addvantage  (7/92-present);   Consultant,   Nancy  Harkins
Stationer  (8/91-12/95).  Mrs. Dreeben serves as a Director/Trustee  of each of
the remaining funds within the USAA Family of Funds.

                                      11
<PAGE>

Howard L. Freeman, Jr. 2, 3, 4, 5
2710 Hopeton
San Antonio, TX  78230
Director
Age: 64

Retired. Assistant General Manager for Finance, San Antonio City Public Service
Board  (1976-1996).  Mr.  Freeman serves as a  Director/Trustee  of each of the
remaining funds within the USAA Family of Funds.

Robert L. Mason, Ph.D. 3, 4, 5
12823 Queens Forest
San Antonio, TX  78230
Director
Age: 53

Staff Analyst,  Statistical  Analysis  Section,  Southwest  Research  Institute
(9/98-present);  Manager,  Statistical  Analysis  Section,  Southwest  Research
Institute (8/75-9/98).  Dr. Mason serves as a Director/Trustee of the remaining
funds within each of the USAA Family of Funds.

Richard A. Zucker 3, 4, 5
407 Arch Bluff
San Antonio, TX  78216
Director
Age: 56

Vice President, Beldon Roofing and Remodeling (1985-present). Mr. Zucker serves
as a Director/Trustee  of each of the remaining funds within the USAA Family of
Funds.

Michael D. Wagner 1
Secretary
Age: 51

Senior Vice President,  CAPCO General Counsel (01/99-present);  Vice President,
Corporate Counsel, USAA (1982-01/99).  Mr. Wagner has held various positions in
the  legal  department  of USAA  since  1970  and  serves  as  Vice  President,
Secretary, and Counsel, IMCO and USAA Shareholder Account Services;  Secretary,
of each of the remaining funds within the USAA Family of Funds; Vice President,
Corporate Counsel for various other USAA subsidiaries and affiliates.

Alex M. Ciccone 1
Assistant Secretary
Age: 49

Vice  President,  Compliance,  IMCO  (12/94-present);  Vice President and Chief
Operating Officer, Commonwealth Shareholder Services (6/94-11/94).  Mr. Ciccone
serves as Assistant  Secretary of each of the  remaining  funds within the USAA
Family of Funds.

Mark S. Howard 1
Assistant Secretary
Age: 35

Assistant Vice President,  Securities Counsel,  USAA (2/98-present);  Executive
Director,  Securities  Counsel,  USAA  (9/96-2/98);  Senior Associate  Counsel,
Securities  Counsel,  USAA  (5/95-8/96);  Attorney,  Kirkpatrick & Lockhart LLP
(9/90-4/95).  Mr.  Howard  serves as Assistant  Vice  President  and  Assistant
Secretary,  IMCO and USAA Shareholder Account Services;  Assistant Secretary of
each of the remaining funds within the USAA Family of Funds; and Assistant Vice
President,   Securities   Counsel  for  various  other  USAA  subsidiaries  and
affiliates.

Sherron A. Kirk 1
Treasurer
Age: 54

Vice President, Senior Financial Officer, IMCO (8/98-present);  Vice President,
Controller,  IMCO  (10/92-8/98).  Mrs.  Kirk serves as Treasurer of each of the
remaining  funds  within  the USAA  Family of  Funds;  Vice  President,  Senior
Financial Officer of USAA Shareholder Account Services.

                                      12
<PAGE>

Caryl Swann 1
Assistant Treasurer
Age: 51

Executive  Director,  Mutual  Fund  Analysis & Support,  IMCO  (10/98-present);
Director, Mutual Fund Portfolio Analysis & Support, IMCO (2/98-10/98); Manager,
Mutual  Fund  Accounting,  IMCO  (7/92-2/98).  Ms.  Swann  serves as  Assistant
Treasurer for each of the remaining funds within the USAA Family of Funds.

- ---------------------

1  Indicates those Directors and officers who are employees of  the  Manager or
   affiliated  companies  and  are  considered  "interested  persons" under the
   1940 Act.
2  Member of Executive Committee
3  Member of Audit Committee
4  Member of Pricing and Investment Committee
5  Member of Corporate Governance Committee

     Between the meetings of the Board of Directors  and while the Board is not
in session,  the  Executive  Committee  of the Board of  Directors  has all the
powers  and may  exercise  all the  duties  of the  Board of  Directors  in the
management  of the business of the Company  which may be delegated to it by the
Board. The Pricing and Investment Committee of the Board of Directors acts upon
various  investment-related  issues and other matters which have been delegated
to it by the Board.  The Audit Committee of the Board of Directors  reviews the
financial  statements and the auditor's reports and undertakes  certain studies
and analyses as directed by the Board.  The Corporate  Governance  Committee of
the Board of Directors  maintains  oversight of the organization,  performance,
and effectiveness of the Board and Independent Directors.

     In addition to the  previously  listed  Directors  and/or  officers of the
Company  who also  serve as  Directors  and/or  officers  of the  Manager,  the
following  individuals are Directors and/or executive  officers of the Manager:
Carl W. Shirley, Senior Vice President,  Insurance Company Portfolios;  John J.
Dallahan,  Senior Vice President,  Investment  Services;  and David G. Peebles,
Senior Vice President,  Equity Investments.  There are no family  relationships
among the Directors, officers and managerial level employees of the Company, or
its Manager.

     The following table sets forth information  describing the compensation of
the current  Directors of the Company for their  services as Directors  for the
fiscal year ended March 31, 1999.

      NAME                           AGGREGATE           TOTAL COMPENSATION
       OF                          COMPENSATION             FROM THE USAA
    DIRECTOR                     FROM THE COMPANY        FAMILY OF FUNDS (b)
    --------                     -----------------       -------------------
   Robert G. Davis                    None (a)                  None (a)
   Barbara B. Dreeben                $9,678                  $36,500
   Howard L. Freeman, Jr.            $9,678                  $36,500
   Robert L. Mason                   $9,678                  $36,500
   Michael J.C. Roth                   None (a)                 None (a)
   John W. Saunders, Jr.               None (a)                 None (a)
   Richard A. Zucker                 $9,678                  $36,500

 -----------
(a)  Robert  G. Davis,  Michael  J.C.  Roth,  and  John  W.  Saunders,  Jr. are
     affiliated with the Company's investment adviser,  IMCO, and, accordingly,
     receive  no  remuneration  from the  Company or any other Fund of the USAA
     Family of Funds.

(b)  At March 31, 1999, the USAA Family of Funds  consisted of four  registered
     investment companies offering 35 individual funds. Each Director presently
     serves as a Trustee or  Director  of each  investment  company in the USAA
     Family of Funds.  In addition,  Michael J.C.  Roth  presently  serves as a
     Trustee of USAA Life  Investment  Trust, a registered  investment  company
     advised by IMCO,  consisting  of seven funds  available to the public only
     through the purchase of certain  variable  annuity  contracts and variable
     life insurance policies offered by USAA Life Insurance  Company.  Mr. Roth
     receives no compensation as Trustee of USAA Life Investment Trust.

     All of the above Directors are also  Trustees/Directors of the other funds
within the USAA  Family of Funds.  No  compensation  is paid by any fund to any
Trustee/Director  who is a  director,  officer,  or  employee  of  IMCO  or its
affiliates.  No  pension or  retirement  benefits  are  accrued as part of fund
expenses.  The

                                      13
<PAGE>

Company  reimburses  certain  expenses of the Directors who are not  affiliated
with the investment  adviser.  As of May 14, 1999, the officers  and  Directors
of the Company and their  families as a group owned  beneficially  or of record
less than 1% of the outstanding shares of the Company.

     As of May 14, 1999, USAA and its  affiliates  (including  related employee
benefit plans) owned 5,106,983 shares (2.9%) of the Intermediate-Term Fund, and
no shares of the Long-Term, Short-Term and Tax Exempt Money Market Funds.

     The following table identifies all persons, who as of  May  14, 1999, held
of record or owned beneficially 5% or more of any of the Funds' shares.

                             NAME AND ADDRESS
      TITLE OF CLASS        OF BENEFICIAL OWNER           PERCENT OF CLASS
      --------------        -------------------           ----------------
        Short-Term          Robert M Kommerstad                  8.3%
           Fund             Lila M Kommerstad
                            Trst Kommerstad Family Trust
                            218 Deodar Ln
                            Bradbury, CA 9101-1011

                             THE COMPANY'S MANAGER

As described  in the  Prospectus,  USAA  Investment  Management  Company is the
Manager  and  investment   adviser,   providing  services  under  the  Advisory
Agreement.  The Manager, a wholly owned indirect  subsidiary of United Services
Automobile   Association  (USAA),  a  large,   diversified  financial  services
institution, was organized in May 1970 and has served as investment adviser and
underwriter for USAA Tax Exempt Fund, Inc. from its inception.

     In addition to managing  the  Company's  assets,  the Manager  advises and
manages the investments for USAA and its affiliated  companies as well as those
of USAA Mutual Fund,  Inc., USAA Investment  Trust,  USAA State Tax-Free Trust,
and USAA Life Investment  Trust. As of the date of this SAI, total assets under
management   by  the  Manager  were   approximately   $__  billion,   of  which
approximately $__ billion were in mutual fund portfolios.

ADVISORY AGREEMENT

Under the  Advisory  Agreement,  the Manager  provides an  investment  program,
carries out the investment  policy,  and manages the portfolio  assets for each
Fund.  The  Manager  is  authorized,  subject  to the  control  of the Board of
Directors of the Company,  to determine the selection,  amount, and time to buy
or sell securities for each Fund. In addition to providing investment services,
the  Manager  pays  for  office  space,  facilities,  business  equipment,  and
accounting  services (in addition to those  provided by the  Custodian) for the
Company. The Manager compensates all personnel,  officers, and Directors of the
Company if such persons are also  employees  of the Manager or its  affiliates.
For these services under the Advisory Agreement,  the Company has agreed to pay
the  Manager  a  fee  computed  as  described  under  FUND  MANAGEMENT  in  the
Prospectus. Management fees are computed and accrued daily and payable monthly.

     Except for the services and facilities provided by the Manager,  the Funds
pay all other  expenses  incurred in their  operations.  Expenses for which the
Funds  are  responsible  include  taxes  (if  any);  brokerage  commissions  on
portfolio transactions (if any); expenses of issuance and redemption of shares;
charges of transfer agents,  custodians,  and dividend disbursing agents; costs
of preparing and distributing  proxy material;  costs of printing and engraving
stock   certificates;   auditing  and  legal  expenses;   certain  expenses  of
registering  and  qualifying  shares for sale;  fees of  Directors  who are not
interested  persons  (not  affiliated)  of the  Manager;  costs of printing and
mailing the Prospectus, SAI, and periodic reports to existing shareholders; and
any other  charges or fees not  specifically  enumerated.  The Manager pays the
cost of printing and mailing copies of the Prospectus,  the SAI, and reports to
prospective shareholders.

     The Advisory Agreement will remain in effect until June 30, 2000, for each
Fund and will continue in effect from year to year  thereafter for each Fund as
long as it is approved at least  annually by a vote of the  outstanding  voting
securities  of such  Fund  (as  defined  by the  1940  Act) or by the  Board of
Directors  (on behalf of such Fund)  including a majority of the  Directors who
are not interested  persons of the Manager or (otherwise  than as Directors) of
the Company,  at a meeting  called for the purpose of voting on such  approval.
The Advisory  Agreement  may be terminated at any time by either the Company or
the Manager on 60 days' written notice. It will automatically  terminate in the
event of its assignment (as defined in the 1940 Act).

                                      14
<PAGE>

     From time to time the Manager may,  without prior notice to  shareholders,
waive all or any portion of fees or agree to reimburse  expenses  incurred by a
Fund. Any such waiver or reimbursement  may be terminated by the Manager at any
time without prior notice to shareholders.

     For the  last  three  fiscal  years,  the  Company  paid the  Manager  the
following fees:

     FUND                           1997              1998              1999
     -----                       ----------        ----------        ----------
    Long-Term                    $5,167,507        $5,497,968        $5,953,274
    Intermediate-Term            $4,723,990        $5,238,815        $6,118,842
    Short-Term                   $2,188,649        $2,442,108        $2,780,685
    Tax Exempt Money Market      $4,208,391        $4,292,183        $4,635,419

UNDERWRITER

The Company has an agreement  with the Manager for exclusive  underwriting  and
distribution  of the Funds'  shares on a continuing  best efforts  basis.  This
agreement  provides that the Manager will receive no fee or other  compensation
for such distribution services.

TRANSFER AGENT

The Transfer  Agent  performs  transfer  agent services for the Company under a
Transfer Agency Agreement.  Services include maintenance of shareholder account
records,  handling of communications  with  shareholders,  distribution of Fund
dividends,  and  production  of reports  with  respect to account  activity for
shareholders  and the  Company.  For its  services  under the  Transfer  Agency
Agreement,  each Fund pays the Transfer Agent an annual fixed fee of $28.50 per
account. This fee is subject to change at any time.

     The fee to the Transfer Agent includes  processing of all transactions and
correspondence.  Fees are billed on a monthly basis at the rate of  one-twelfth
of the annual fee. In addition,  each Fund pays all  out-of-pocket  expenses of
the  Transfer  Agent and other  expenses  which are  incurred  at the  specific
direction of the Company.

                              GENERAL INFORMATION

CUSTODIAN

State Street Bank and Trust Company,  P.O. Box 1713,  Boston,  MA 02105, is the
Company's  Custodian.  The Custodian is  responsible  for,  among other things,
safeguarding  and controlling  the Company's cash and securities,  handling the
receipt and delivery of securities,  and  collecting  interest on the company's
investments.

COUNSEL

Goodwin,  Procter & Hoar LLP,  Exchange Place,  Boston,  MA 02109,  will review
certain legal matters for the Company in connection  with the shares offered by
the Prospectus.

INDEPENDENT AUDITORS

KPMG LLP, 112 East Pecan,  Suite 2400, San Antonio,  TX 78205, is the Company's
independent auditor. In this capacity, the firm is responsible for auditing the
annual financial statements of the Funds and reporting thereon.


                        CALCULATION OF PERFORMANCE DATA

Information regarding the total return and yield of each Fund is provided under
COULD THE VALUE OF YOUR INVESTMENT IN THESE FUNDS FLUCTUATE? in the Prospectus.
See VALUATION OF SECURITIES herein for a discussion of the manner in which each
Fund's price per share is calculated.

TOTAL RETURN

The Funds,  other than the Tax Exempt  Money Market  Fund,  may each  advertise
performance  in terms of average  annual  total  return for 1-, 5-, and 10-year
periods.  Average annual total return is computed by

                                      15
<PAGE>

finding the average annual compounded  rates of return  over the  periods  that
would  equate the  initial amount  invested to the ending  redeemable  value,
according to the  following formula:

                                P(1 + T)N = ERV

      Where:    P   =  a hypothetical initial payment of $1,000
                T   =  average annual total return
                n   =  number of years
              ERV   =  ending redeemable value of a hypothetical $1,000 payment
                       made at the beginning of the 1-, 5-, or 10-year  periods
                       at the end of the year or period


     The  calculation  assumes all charges are deducted from the initial $1,000
payment and assumes all dividends and distributions by such Fund are reinvested
at the price  stated in the  Prospectus  on the  reinvestment  dates during the
period and  includes  all  recurring  fees that are charged to all  shareholder
accounts.

                          AVERAGE ANNUAL TOTAL RETURNS
                           FOR PERIODS ENDED 3/31/99

                                 1       5        10
           Fund                Year    Years    Years
           ----                ----    -----    -----
         Long-Term             4.98%    7.26%    8.01%
         Intermediate-Term     5.42%    7.17%    7.68%
         Short-Term            4.46%    5.17%    5.63%


YIELD

The Funds,  other than the Tax Exempt  Money Market  Fund,  each may  advertise
performance in terms of a 30-day yield quotation. The 30-day yield quotation is
computed by dividing  the net  investment  income per share  earned  during the
period by the maximum  offering  price per share on the last day of the period,
according to the following formula:

                        Yield = 2[((a-b)/(cd)+1)^6 -1]

      Where:    a   =  dividends and interest earned during the period
                b   =  expenses accrued for the period (net of reimbursement)
                c   =  the average daily number of shares  outstanding  during
                       the period that were entitled to receive dividends
                d   =  the maximum offering price per share on the last day of
                       the period

     For purposes of the yield  calculation,  interest income is computed based
on the yield to maturity of each debt obligation in a Fund's  portfolio and all
recurring charges are recognized.

     The 30-day yields for the Funds for the period ended March 31, 1999,  were
as follows:

                         Long-Term Fund . . . . .4.56%
                      Intermediate-Term Fund . . . . 4.34%
                         Short-Term Fund . . . . 3.60%

YIELD - TAX EXEMPT MONEY MARKET FUND

When the Tax Exempt Money Market Fund quotes a current  annualized yield, it is
based on a specified recent  seven-calendar-day  period.  It is computed by (1)
determining the net change,  exclusive of capital changes and income other than
investment income, in the value of a hypothetical  preexisting account having a
balance of one share at the  beginning  of the  period,  (2)  dividing  the net
change in account  value by the value of the  account at the  beginning  of the
base period to obtain the base  return,  then (3)  multiplying  the base period
return by 52.14 (365/7).  The resulting  yield figure is carried to the nearest
hundredth of one percent.

     The calculation includes (1) the value of additional shares purchased with
dividends on the original  share,  and dividends  declared on both the original
share  and  any  such  additional  shares  and  (2)  any  fees  charged  to all
shareholder  accounts,  in  proportion to the length of the base period and the
Fund's average account size.

     The capital changes  excluded from the  calculation  are realized  capital
gains and losses from the sale of securities  and unrealized  appreciation  and
depreciation.  The Fund's  effective  (compounded)  yield will be  computed  by
dividing the seven-day  annualized  yield as defined above by 365,  adding 1 to
the quotient,  raising the sum to the 365th power,  and  subtracting 1 from the
result.

                                      16
<PAGE>

     Current and effective  yields  fluctuate  daily and will vary with factors
such as  interest  rates and the  quality,  length of  maturities,  and type of
investments in the portfolio.

            Yield For 7-day Period Ended March 31, 1999, was 2.93%.
       Effective Yield For 7-day Period Ended March 31, 1999, was 2.97%.

TAX-EQUIVALENT YIELD

A  tax-exempt  mutual fund may  provide  more  "take-home"  income than a fully
taxable mutual fund after paying taxes.  Calculating a  "tax-equivalent  yield"
means converting a tax-exempt yield to a pretax equivalent so that a meaningful
comparison can be made between a tax-exempt  municipal fund and a fully taxable
fund. The Tax Exempt Money Market Fund may advertise  performance in terms of a
tax-equivalent  yield based on the 7-day yield or effective yield and the other
Funds may advertise performance in terms of a 30-day tax-equivalent yield.

     To calculate a  tax-equivalent  yield,  an investor  must know his federal
marginal income tax rate. The tax-equivalent yield is then computed by dividing
the tax-exempt  yield of a fund by the  complement of the federal  marginal tax
rate. The complement,  for example,  of a federal marginal tax rate of 36.0% is
64.0%, that is (1.00-0.36 = 0.64).

    Tax-Equivalent Yield = Tax-Exempt Yield / (1- Federal Marginal Tax Rate)

     Based on a federal marginal tax rate of 36.0%, the  tax-equivalent  yields
for the Long-Term,  Intermediate-Term,  Short-Term, and Tax Exempt Money Market
Funds for the period ended March 31, 1999 were 7.13%,  6.78%, 5.63%, and 4.58%,
respectively.

              APPENDIX A - TAX-EXEMPT SECURITIES AND THEIR RATINGS

TAX-EXEMPT SECURITIES

Tax-exempt  securities  generally include debt obligations issued by states and
their   political   subdivisions,   and  duly   constituted   authorities   and
corporations,  to obtain funds to construct,  repair or improve  various public
facilities such as airports,  bridges, highways,  hospitals,  housing, schools,
streets, and water and sewer works. Tax-exempt securities may also be issued to
refinance  outstanding  obligations  as well as to  obtain  funds  for  general
operating expenses and for loans to other public institutions and facilities.

     The two principal  classifications  of tax-exempt  securities are "general
obligations" and "revenue" or "special tax" bonds. General obligation bonds are
secured by the issuer's  pledge of its full faith,  credit and taxing power for
the payment of principal and interest. Revenue or special tax bonds are payable
only  from  the  revenues  derived  from a  particular  facility  or  class  of
facilities  or, in some cases,  from the proceeds of a special  excise or other
tax, but not from general tax revenues. The Funds may also invest in tax-exempt
private activity bonds,  which in most cases are revenue bonds and generally do
not have the pledge of the credit of the issuer.  The payment of the  principal
and  interest  on such  industrial  revenue  bonds is  dependent  solely on the
ability  of the  user of the  facilities  financed  by the  bonds  to meet  its
financial  obligations and the pledge, if any, of real and personal property so
financed as security for such payment. There are, of course, many variations in
the terms of, and the security underlying,  tax-exempt  securities.  Short-term
obligations  issued by states,  cities,  municipalities or municipal  agencies,
include Tax Anticipation Notes,  Revenue  Anticipation Notes, Bond Anticipation
Notes, Construction Loan Notes, and Short-Term Notes.

     The yields of tax-exempt securities depend on, among other things, general
money market conditions,  conditions of the tax-exempt bond market, the size of
a particular  offering,  the maturity of the obligation,  and the rating of the
issue. The ratings of Moody's Investors  Service,  Inc.  (Moody's),  Standard &
Poor's Ratings Group (S&P),  Fitch IBCA, Inc. (Fitch),  Duff & Phelps Inc., and
Thompson  BankWatch,  Inc.  represent  their  opinions  of the  quality  of the
securities rated by them. It should be emphasized that such ratings are general
and are not absolute  standards of quality.  Consequently,  securities with the
same maturity,  coupon, and rating may have different yields,  while securities
of the same  maturity and coupon but with  different  ratings may have the same
yield. It will be the  responsibility of the Manager to appraise  independently
the  fundamental  quality of the  tax-exempt  securities  included  in a Fund's
portfolio.

1.  LONG-TERM DEBT RATINGS:

MOODY'S INVESTOR SERVICES, INC.

Aaa      Bonds which are rated Aaa are judged to be of the best  quality.  They
         carry  the  smallest  degree  of  investment  risk  and are  generally
         referred to as "gilt  edged."  Interest  payments  are  protected by a

                                      17
<PAGE>

         large or by an  exceptionally  stable  margin and principal is secure.
         While the  various  protective  elements  are likely to  change,  such
         changes  as  can  be  visualized  are  most  unlikely  to  impair  the
         fundamentally strong position of such issues.

Aa       Bonds  which are  rated Aa are  judged  to be of high  quality  by all
         standards.  Together  with  the  Aaa  group  they  comprise  what  are
         generally  known as  high-grade  bonds.  They are rated lower than the
         best bonds because margins of protection may not be as large as in Aaa
         securities or  fluctuation  of  protective  elements may be of greater
         amplitude  or  there  may be other  elements  present  which  make the
         long-term risk appear somewhat larger than in Aaa securities.

A        Bonds which are rated A possess many favorable  investment  attributes
         and are to be considered as  upper-medium-grade  obligations.  Factors
         giving security to principal and interest are considered adequate, but
         elements may be present which suggest a  susceptibility  to impairment
         sometime in the future.

Baa      Bonds which are rated Baa are considered as  medium-grade  obligations
         (i.e., they are neither highly protected nor poorly secured). Interest
         payments and principal  security  appear  adequate for the present but
         certain    protective    elements   may   be   lacking   or   may   be
         characteristically  unreliable  over any great  length  of time.  Such
         bonds lack  outstanding  investment  characteristics  and in fact have
         speculative characteristics as well.

NOTE:  MOODY'S APPLIES  NUMERICAL  MODIFIERS 1, 2, AND 3 IN EACH GENERIC RATING
CLASSIFICATION.  THE  MODIFIER 1  INDICATES  THAT THE  OBLIGATION  RANKS IN THE
HIGHER END OF ITS GENERIC RATING CATEGORY, THE MODIFIER 2 INDICATES A MID-RANGE
RANKING,  AND THE  MODIFIER  3  INDICATES  A  RANKING  IN THE LOWER END OF THAT
GENERIC RATING CATEGORY.

STANDARD & POOR'S RATINGS GROUP

AAA      An obligation  rated AAA has the highest rating assigned by Standard &
         Poor's. The obligor's capacity to meet its financial commitment on the
         obligation is extremely strong.

AA       An  obligation  rated AA differs from the highest rated issues only in
         small degree. The obligor's capacity to meet its financial  commitment
         on the obligation is VERY STRONG.

A        An  obligation  rated A is somewhat  more  susceptible  to the adverse
         effects of changes  in  circumstances  and  economic  conditions  than
         obligations  in  higher  rated  categories.   However,  the  obligor's
         capacity to meet its financial  commitment on the  obligation is still
         STRONG.

BBB      An obligation rated BBB exhibits adequate capacity to pay interest and
         repay  principal.  However,  adverse  economic  conditions or changing
         circumstances  are more  likely to lead to a weakened  capacity of the
         obligor to meet its financial commitment on the obligation.

PLUS  (+) OR MINUS  (-):  THE  RATINGS  FROM AA TO BBB MAY BE  MODIFIED  BY THE
ADDITION  OF A PLUS OR MINUS SIGN TO SHOW  RELATIVE  STANDING  WITHIN THE MAJOR
RATING CATEGORIES.

FITCH IBCA, INC.

AAA      Highest credit quality. "AAA" ratings denote the lowest expectation of
         credit risk.  They are assigned only in case of  exceptionally  strong
         capacity for timely payment of financial commitments. This capacity is
         highly unlikely to be adversely affected by foreseeable events.

AA       Very high credit  quality.  "AA" ratings denote a very low expectation
         of credit risk.  They indicate very strong capacity for timely payment
         of  financial   commitments.   This  capacity  is  not   significantly
         vulnerable to foreseeable events.

A        High credit  quality.  "A" ratings denote a low  expectation of credit
         risk.  The capacity for timely  payment of  financial  commitments  is
         considered strong. This capacity may, nevertheless, be more vulnerable
         to changes in circumstances or in economic conditions than is the case
         for higher ratings.

BBB      Good credit quality.  "BBB" ratings indicate that there is currently a
         low  expectation  of credit risk.  The capacity for timely  payment of
         financial  commitments is considered adequate,  but adverse changes in
         circumstances  and in  economic  conditions  are more likely to impair
         this capacity. This is the lowest investment-grade category.

PLUS AND MINUS  SIGNS ARE USED WITH A RATING  SYMBOL TO INDICATE  THE  RELATIVE
POSITION OF A CREDIT WITHIN THE RATING CATEGORY. PLUS AND MINUS SIGNS, HOWEVER,
ARE NOT USED IN THE AAA CATEGORY.

DUFF & PHELPS, INC.

AAA      Highest credit quality.  The risk factors are  negligible,  being only
         slightly more than for risk-free U.S. Treasury debt.

                                      18
<PAGE>

AA       High credit quality. Protection factors are strong. Risk is modest but
         may vary slightly from time to time because of economic conditions.

A        Protection factors are average but adequate. However, risk factors are
         more variable and greater in periods of economic stress.

BBB      Below average protection  factors but still considered  sufficient for
         prudent investment.  Considerable  variability in risk during economic
         cycles.

2. SHORT-TERM DEBT RATINGS:

MOODY'S STATE AND TAX-EXEMPT NOTES

MIG-1/VMIG1       This  designation  denotes  best  quality.  There is  present
                  strong   protection  by  established  cash  flows,   superior
                  liquidity support, or demonstrated  broad-based access to the
                  market for refinancing.

MIG-2/VMIG2       This designation denotes high quality.  Margins of protection
                  are ample although not so large as in the preceding group.

MOODY'S COMMERCIAL PAPER

Prime-1    Issuers rated Prime-1 (or supporting  institutions)  have a superior
           ability for repayment of senior short-term  promissory  obligations.
           Prime-1  repayment  capacity  will  normally  be  evidenced  by  the
           following characteristics:

           *   Leading market positions in well-established industries.
           *   High rates of return on funds employed.
           *   Conservative capitalization structures with moderate reliance on
               debt and ample asset protection.
           *   Broad margins in earning coverage of fixed financial charges and
               high internal cash generation.
           *   Well-established  access  to a range  of  financial  markets and
               assured sources of alternate liquidity.

Prime-2    Issuers rated  Prime-2 (or  supporting  institutions)  have a strong
           ability for repayment of senior short-term  promissory  obligations.
           This will normally be evidenced by many of the characteristics cited
           above but to a lesser degree.  Earnings trends and coverage  ratios,
           while  sound,  may be  more  subject  to  variation.  Capitalization
           characteristics,  while still  appropriate,  may be more affected by
           external conditions. Ample alternate liquidity is maintained.

S&P TAX-EXEMPT NOTES

SP-1     Strong  capacity to pay principal and interest.  Issues  determined to
         possess very strong characteristics are given a plus (+) designation.

SP-2     Satisfactory  capacity  to  pay  principal  and  interest,  with  some
         vulnerability to adverse  financial and economic changes over the term
         of the notes.

S&P COMMERCIAL PAPER

A-1      This highest  category  indicates that the degree of safety  regarding
         timely payment is strong. Those issues determined to possess extremely
         strong  safety  characteristics  are  denoted  with  a plus  (+)  sign
         designation.

A-2      Capacity  for  timely  payment  on  issues  with this  designation  is
         satisfactory. However, the relative degree of safety is not as high as
         for issues designated A-1.

FITCH'S COMMERCIAL PAPER, CERTIFICATES OF DEPOSIT, AND TAX-EXEMPT NOTES

F1       Highest credit  quality.  Indicates the strongest  capacity for timely
         payment of financial commitments;  may have an added "+" to denote any
         exceptionally strong credit features.

F2       Good credit  quality.  A  satisfactory  capacity for timely payment of
         financial commitments,  but the margin of safety is not as great as in
         the case of the higher ratings.

F3       Fair credit  quality.  The  capacity  for timely  payment of financial
         commitments  is adequate;  however,  near-term  adverse  changes could
         result in a reduction to non-investment grade.

DUFF & PHELPS COMMERCIAL PAPER

D-1+     Highest certainty of timely payment.  Short-term  liquidity, including
         internal operating factors and/or access to  alternative  sources  of
         funds,  is  outstanding, and  safety  is  just  below  risk-free  U.S.
         Treasury short-term obligations.

                                      19
<PAGE>

D-1      Very high certainty of timely payment. Liquidity factors are excellent
         and supported by good fundamental protection factors. Risk factors are
         minor.

D-1-     High  certainty of timely  payment.  Liquidity  factors are strong and
         supported by good  fundamental  protection  factors.  Risk factors are
         very small.

D-2      Good  certainty  of timely  payment.  Liquidity  factors  and  company
         fundamentals  are sound.  Although  ongoing  funding needs may enlarge
         total financing requirements,  access to capital markets is good. Risk
         factors are small.

THOMPSON BANKWATCH, INC.

TBW-1    The highest category;  indicates a very high likelihood that principal
         and interest will be paid on a timely basis.

TBW-2    The second  highest  category;  while the  degree of safety  regarding
         timely  repayment  of principal  and interest is strong,  the relative
         degree of safety is not as high as for issues rated TBW-1.

TBW-3    The  lowest  investment-grade  category;   indicates  that  while  the
         obligation is more susceptible to adverse  developments (both internal
         and external) than those with higher ratings,  the capacity to service
         principal and interest in a timely fashion is considered adequate.

                APPENDIX B - COMPARISON OF PORTFOLIO PERFORMANCE

Occasionally,  we may make  comparisons  in  advertising  and sales  literature
between the Funds  contained  in this SAI and other Funds in the USAA Family of
Funds. These comparisons may include such topics as risk and reward, investment
objectives, investment strategies, and performance.

     Fund  performance  also may be compared to the performance of broad groups
of  mutual  funds  with  similar  investment  goals  or  unmanaged  indexes  of
comparable  securities.  Evaluations  of Fund  performance  made by independent
sources may be used in advertisements  concerning the Fund,  including reprints
of, or selections from,  editorials or articles about the Fund. The Fund or its
performance  may also be compared to products  and  services  not  constituting
securities  subject to  registration  under the Securities Act of 1933 such as,
but not limited to, certificates of deposit and money market accounts.  Sources
for performance information and articles about the Fund may include but are not
restricted to the following:

AAII  JOURNAL,  a monthly  association  magazine  for  members of the  American
Association of Individual Investors.

ARIZONA REPUBLIC, a newspaper that may cover financial and investment news.

AUSTIN AMERICAN-STATESMAN, a newspaper that may cover financial news.

BARRON'S, a Dow Jones and  Company, Inc.  business  and financial  weekly  that
periodically  reviews  mutual fund performance data.

THE BOND BUYER, a daily newspaper that covers bond market news.

BUSINESS  WEEK,  a national  business  weekly  that  periodically  reports  the
performance rankings and ratings of a variety of mutual funds.

CHICAGO TRIBUNE, a newspaper that may cover financial news.

CONSUMER  REPORTS,  a  monthly  magazine  that  from  time to time  reports  on
companies in the mutual fund industry.

DALLAS MORNING NEWS, a newspaper that may cover financial news.

DENVER POST, a newspaper that may quote financial news.

FINANCIAL PLANNING, a monthly magazine that periodically  features companies in
the mutual fund industry.

FINANCIAL SERVICES WEEK, a weekly newspaper that covers financial news.

FINANCIAL WORLD, a monthly magazine that periodically features companies in the
mutual fund industry.

FORBES,  a  national  business   publication  that  periodically   reports  the
performance of companies in the mutual fund industry.

FORTUNE,   a  national  business   publication  that  periodically   rates  the
performance of a variety of mutual funds.

FUND ACTION, a mutual fund news report.

HOUSTON CHRONICLE, a newspaper that may cover financial news.

                                      20
<PAGE>

HOUSTON POST, a newspaper that may cover financial news.

IBC'S MONEY FUND REPORT,  a weekly  publication  of IBC Financial  Data,  Inc.,
reporting on the  performance of the nation's  money market funds,  summarizing
money market fund  activity,  and  including  certain  averages as  performance
benchmarks, specifically: (1) Taxable Money Fund Averages: "100% U.S. Treasury"
and "First Tier" and (2) Tax-Free Money Fund Averages: "Stockbroker and General
Purpose" and "State Specific Stockbroker and General Purpose."

IBC'S MONEY MARKET INSIGHT,  a monthly money market industry  analysis prepared
by IBC Financial Data, Inc.

IBC'S  MONEYLETTER,  a biweekly  newsletter that covers financial news and from
time to time rates specific mutual funds.

INCOME AND SAFETY, a monthly newsletter that rates mutual funds.

INVESTECH, a bimonthly investment newsletter.

INVESTMENT  ADVISOR,  a monthly  publication  directed primarily to the advisor
community; includes ranking of mutual funds using a proprietary methodology.

INVESTMENT  COMPANY  INSTITUTE,   the  national  association  of  the  American
Investment Company industry.

INVESTOR'S BUSINESS DAILY, a newspaper that covers financial news.

KIPLINGER'S   PERSONAL  FINANCE  MAGAZINE,   a  monthly   investment   advisory
publication  that  periodically  features  the  performance  of  a  variety  of
securities.

LIPPER ANALYTICAL SERVICES,  INC.'S EQUITY FUND PERFORMANCE  ANALYSIS, a weekly
and monthly  publication of industry-wide  mutual fund performance  averages by
type of fund.

LIPPER ANALYTICAL  SERVICES,  INC.'S FIXED INCOME FUND PERFORMANCE  ANALYSIS, a
monthly publication of industry-wide  mutual fund performance  averages by type
of fund.

LOS ANGELES TIMES, a newspaper that may cover financial news.

LOUIS RUKEYSER'S WALL STREET, a publication for investors.

MEDICAL  ECONOMICS,  a monthly  magazine  providing  information to the medical
profession.

MONEY, a monthly  magazine that features the performance of both specific funds
and the mutual fund industry as a whole.

MORNINGSTAR 5 STAR INVESTOR,  a monthly  newsletter that covers  financial news
and rates  mutual  funds  produced by  Morningstar,  Inc. (a data  service that
tracks open-end mutual funds).

MUNI BOND FUND REPORT,  a monthly  newsletter that covers news on the municipal
bond market and features performance data for municipal bond mutual funds.

MUNIWEEK, a weekly newspaper that covers news on the municipal bond market.

MUTUAL FUND FORECASTER, a monthly newsletter that ranks mutual funds.

MUTUAL FUND INVESTING, a newsletter covering mutual funds.

MUTUAL  FUND  PERFORMANCE   REPORT,  a  monthly   publication  of  mutual  fund
performance and rankings, produced by Morningstar, Inc.

MUTUAL  FUNDS  MAGAZINE,  a  monthly  publication   reporting  on  mutual  fund
investing.

MUTUAL FUND SOURCE BOOK, an annual  publication  produced by  Morningstar, Inc.
that  describes and rates mutual funds.

MUTUAL  FUND  VALUES,  a  biweekly   guidebook  to  mutual  funds  produced  by
Morningstar, Inc.

NEWSWEEK, a national business weekly.

NEW YORK TIMES, a newspaper that may cover financial news.

NO LOAD FUND  INVESTOR,  a  newsletter  covering  companies  in the mutual fund
industry.

ORLANDO SENTINEL, a newspaper that may cover financial news.

PERSONAL  INVESTOR,  a monthly  magazine that from time to time features mutual
fund companies and the mutual fund industry.

SAN ANTONIO  BUSINESS  JOURNAL,  a weekly  newspaper that  periodically  covers
mutual fund companies as well as financial news.

                                      21
<PAGE>

SAN ANTONIO EXPRESS-NEWS, a newspaper that may cover financial news.

SAN FRANCISCO CHRONICLE, a newspaper that may cover financial news.

SMART MONEY,  a monthly  magazine  featuring news and articles on investing and
mutual funds.

USA TODAY, a newspaper that may cover financial news.

U.S. NEWS AND  WORLD  REPORT, a  national  business  weekly  that  periodically
reports mutual fund performance data.

WALL STREET JOURNAL, a  Dow  Jones  and  Company,  Inc.  newspaper  that covers
financial news.

WASHINGTON POST, a newspaper that may cover financial news.

WEISENBERGER  MUTUAL FUNDS INVESTMENT REPORT, a monthly newsletter that reports
on both specific mutual fund companies and the mutual fund industry as a whole.

WORTH,  a magazine that covers  financial  and  investment  subjects  including
mutual funds.

YOUR MONEY, a monthly magazine directed towards the novice investor.

     In  addition to the sources  above,  performance  of our Funds may also be
tracked by Lipper  Analytical  Services,  Inc. and Morningstar,  Inc. Each Fund
will be  compared  to  Lipper's  or  Morningstar's  appropriate  fund  category
according  to  its   objective(s)   and   portfolio   holdings.   Footnotes  in
advertisements  and  other  sales  literature  will  include  the  time  period
applicable for any rankings used.

     For comparative  purposes,  unmanaged indices of comparable  securities or
economic data may be cited. Examples include the following:

     -Shearson  Lehman Hutton Bond Indices,  indices of fixed-rate  debt issues
rated investment grade or higher which can be found in the BOND MARKET REPORT.

     -Bond  Buyer  Indices,  indices  of debt of varying  maturities  including
revenue bonds,  general  obligation bonds, and U.S. Treasury bonds which can be
found in MUNIWEEK and THE BOND BUYER.

     Other  sources for total  return and other  performance  data which may be
used by the Funds or by those  publications  listed  previously  are  Schabaker
Investment Management and Investment Company Data, Inc. These are services that
collect and compile data on mutual fund companies.

                                      22
<PAGE>

                       APPENDIX C - DOLLAR-COST AVERAGING

Dollar-cost  averaging is a systematic  investing method,  which can be used by
investors as a disciplined technique for investing.  A fixed amount of money is
invested in a security (such as a stock or mutual fund) on a regular basis over
a period of time,  regardless  of whether  securities  markets are moving up or
down.

     This  practice  reduces  average  share costs to the investor who acquires
more shares in periods of lower  securities  prices and fewer shares in periods
of higher prices.

     While  dollar-cost  averaging does not assure a profit or protect  against
loss in declining markets, this investment strategy is an effective way to help
calm the effect of fluctuations in the financial markets.  Systematic investing
involves  continuous  investment in securities  regardless of fluctuating price
levels of such securities. Investors should consider their financial ability to
continue purchases through periods of low and high price levels.

     As the following chart  illustrates,  dollar-cost  averaging tends to keep
the overall cost of shares lower.  This example is for  illustration  only, and
different trends would result in different average costs.

                        HOW DOLLAR-COST AVERAGING WORKS

                     $100 Invested Regularly for 5 Periods
                                  Market Trend
      --------------------------------------------------------------------

                  Down                     Up                    Mixed
           --------------------   ---------------------    --------------------
             Share     Shares       Share      Shares        Share     Shares
Investment   Price    Purchased     Price     Purchased      Price    Purchased
           --------------------   ---------------------    --------------------
   $100       10        10            6         16.67         10          10
    100        9        11.1          7         14.29          9          11.1
    100        8        12.5          7         14.29          8          12.5
    100        8        12.5          9         11.1           9          11.1
    100        6        16.67        10         10            10          10
   ----       --        -----        --         -----         --          -----
   $500    ***41        62.77     ***39         66.35      ***46          54.7

          *Avg. Cost:  $ 7.97    *Avg. Cost:   $ 7.54        *Avg. Cost: $ 9.14
                        -----                    -----                    -----
         **Avg. Price: $ 8.20    **Avg. Price: $ 7.80      **Avg. Price: $ 9.20
                        -----                    -----                    -----

  *  Average  Cost is the total  amount  invested  divided  by number of shares
     purchased.
 **  Average  Price  is  the  sum of the  prices  paid  divided  by  number  of
     purchases.
***  Cumulative total of share prices used to compute average prices.

                                      23
<PAGE>

06052-0899

<PAGE>

                                     Part B


                  Statement of Additional Information for the
                              California Bond and
                         California Money Market Funds

<PAGE>

USAA           USAA                                  STATEMENT OF
EAGLE          TAX EXEMPT                            ADDITIONAL INFORMATION
LOGO           FUND, INC.                            August 1, 1999
- -------------------------------------------------------------------------------


                           USAA TAX EXEMPT FUND, INC.
                                CALIFORNIA FUNDS

USAA TAX EXEMPT FUND,  INC.  (the Company) is a registered  investment  company
offering shares of ten no-load mutual funds, two of which are described in this
Statement  of  Additional  Information  (SAI):  the  California  Bond  Fund and
California Money Market Fund (collectively, the Funds or the California Funds).
Each Fund is classified as diversified and has a common investment objective of
providing  California  investors with a high level of current  interest  income
that is exempt from federal and California  state income taxes.  The California
Money Market Fund has a further objective of preserving capital and maintaining
liquidity.

You may  obtain a free  copy of a  Prospectus  dated  August 1,  1999,  for the
California Funds by writing to USAA Tax Exempt Fund, Inc., 9800  Fredericksburg
Road,  San  Antonio,  TX 78288,  or by calling  toll free  1-800-531-8181.  The
Prospectus  provides the basic  information you should know before investing in
the Funds. This SAI is not a Prospectus and contains information in addition to
and more  detailed  than that set forth in the  Prospectus.  It is  intended to
provide you with additional information regarding the activities and operations
of the  Company  and the  Funds,  and  should be read in  conjunction  with the
Prospectus.

The financial  statements  of the Funds and the  Independent  Auditors'  Report
thereon  for the  fiscal  year  ended  March  31,  1999,  are  included  in the
accompanying  Annual Report to Shareholders  of that date and are  incorporated
herein by reference.

- -------------------------------------------------------------------------------

                               TABLE OF CONTENTS

        PAGE

           2   Valuation of Securitie
           2   Conditions of Purchase and Redemption
           3   Additional Information Regarding Redemption of Shares
           4   Investment Plans
           5   Investment Policies
           6   Investment Restrictions
           7   Special Risk Considerations
          12   Portfolio Transactions
          13   Description of Shares
          13   Certain Federal Income Tax Considerations
          15   California Taxation
          16   Directors and Officers of the Company
          19   The Company's Manager
          20   General Information
          20   Calculation of Performance Data
          22   Appendix A - Tax-Exempt Securities and Their Ratings
          25   Appendix B - Comparison of Portfolio Performance
          28   Appendix C - Dollar-Cost Averaging

<PAGE>

                            VALUATION OF SECURITIES

Shares of each Fund are offered on a  continuing,  best-efforts  basis  through
USAA Investment  Management  Company (IMCO or the Manager).  The offering price
for  shares of each Fund is equal to the  current  net  asset  value  (NAV) per
share.  The NAV per share of each Fund is calculated by adding the value of all
its portfolio  securities  and other assets,  deducting  its  liabilities,  and
dividing by the number of shares outstanding.

     A Fund's NAV per share is  calculated  each day,  Monday  through  Friday,
except days on which the New York Stock Exchange (NYSE) is closed.  The NYSE is
currently  scheduled to be closed on New Year's Day,  Martin  Luther King,  Jr.
Day, Presidents' Day, Good Friday,  Memorial Day,  Independence Day, Labor Day,
Thanksgiving,  and Christmas,  and on the preceding Friday or subsequent Monday
when one of these holidays falls on a Saturday or Sunday, respectively.

     The  investments of the CALIFORNIA  BOND FUND are valued each business day
by a  pricing  service  (the  Service)  approved  by  the  Company's  Board  of
Directors. The Service uses the mean between quoted bid and asked prices or the
last sale price to price  securities  when,  in the Service's  judgment,  these
prices are readily available and are  representative of the securities'  market
values. For many securities, such prices are not readily available. The Service
generally prices these securities based on methods which include  consideration
of yields or prices of tax-exempt  securities of  comparable  quality,  coupon,
maturity and type,  indications  as to values from dealers in  securities,  and
general market conditions.  Securities  purchased with maturities of 60 days or
less are stated at amortized cost which approximates  market value.  Repurchase
agreements  are  valued  at cost.  Securities  that   cannot  be  valued by the
Service,  and all other  assets,  are valued in good faith at fair value  using
methods determined by the Manager under the general supervision of the Board of
Directors.

     The value of the CALIFORNIA MONEY MARKET FUND'S securities is stated at
amortized  cost  which  approximates  market  value.  This  involves  valuing a
security  at its  cost and  thereafter  assuming  a  constant  amortization  to
maturity of any discount or premium,  regardless  of the impact of  fluctuating
interest  rates.  While this method  provides  certainty in  valuation,  it may
result in periods  during which the value of an  instrument,  as  determined by
amortized  cost,  is higher or lower than the price the Fund would receive upon
the sale of the instrument.

     The valuation of the California Money Market Fund's portfolio  instruments
based upon their  amortized cost is subject to the Fund's  adherence to certain
procedures and conditions. Consistent with regulatory requirements, the Manager
will only purchase securities with remaining maturities of 397 days or less and
will maintain a dollar-weighted  average portfolio  maturity of no more than 90
days. The Manager will invest only in securities  that have been  determined to
present  minimal  credit risk and that satisfy the quality and  diversification
requirements of applicable rules and regulations of the Securities and Exchange
Commission (SEC).

     The Board of Directors has  established  procedures  designed to stabilize
the California Money Market Fund's price per share, as computed for the purpose
of sales and redemptions,  at $1. There can be no assurance,  however, that the
Fund will at all times be able to  maintain a constant  $1 NAV per share.  Such
procedures include review of the Fund's holdings at such intervals as is deemed
appropriate to determine  whether the Fund's NAV calculated by using  available
market quotations deviates from $1 per share and, if so, whether such deviation
may  result  in  material   dilution  or  is   otherwise   unfair  to  existing
shareholders.  In the event that it is determined that such a deviation exists,
the Board of  Directors  will  take such  corrective  action as it  regards  as
necessary  and   appropriate.   Such  action  may  include  selling   portfolio
instruments  prior to maturity to realize capital gains or losses or to shorten
average portfolio maturity,  withholding  dividends,  or establishing a NAV per
share by using available market quotations.

                     CONDITIONS OF PURCHASE AND REDEMPTION

NONPAYMENT

If any order to purchase shares is canceled due to nonpayment or if the Company
does not receive good funds either by check or electronic funds transfer,  USAA
Shareholder  Account Services (Transfer Agent) will treat the cancellation as a
redemption of shares  purchased,  and you will be responsible for any resulting
loss  incurred  by the  Fund  or the  Manager.  If you are a  shareholder,  the
Transfer Agent can redeem shares from your account(s) as reimbursement  for all
losses.  In addition,  you may be prohibited  or restricted  from making future
purchases  in any of the USAA  Family of Funds.  A $15 fee is  charged  for all
returned items, including checks and electronic funds transfers.

                                       2
<PAGE>

TRANSFER OF SHARES

You may transfer Fund shares to another person by sending written  instructions
to the Transfer  Agent.  The account must be clearly  identified,  and you must
include  the  number  of  shares  to be  transferred,  the  signatures  of  all
registered owners, and all stock certificates, if any, which are the subject of
transfer.  You also need to send written  instructions signed by all registered
owners and supporting documents to change an account registration due to events
such as divorce,  marriage, or death. If a new account needs to be established,
you must complete and return an application to the Transfer Agent.

             ADDITIONAL INFORMATION REGARDING REDEMPTION OF SHARES

The value of your investment at the time of redemption may be more or less than
the cost at  purchase,  depending on the value of the  securities  held in each
Fund's  portfolio.  Requests  for  redemption  that are  subject to any special
conditions  or which  specify an effective  date other than as provided  herein
cannot be accepted. A gain or loss for tax purposes may be realized on the sale
of shares, depending upon the price when redeemed.

     The Board of  Directors  may cause the  redemption  of an  account  with a
balance of less than 50 shares  provided  (1) the value of the account has been
reduced,  for reasons  other than  market  action,  below the  minimum  initial
investment in such Fund at the time of the  establishment  of the account,  (2)
the account has  remained  below the minimum  level for six months,  and (3) 60
days' prior  written  notice of the proposed  redemption  has been sent to you.
Shares  will be  redeemed  at the NAV on the date fixed for  redemption  by the
Board of  Directors.  Prompt  payment  will be made by mail to your last  known
address.

     The  Company  reserves  the right to suspend  the right of  redemption  or
postpone  the date of  payment  (1) for any  periods  during  which the NYSE is
closed,  (2) when  trading in the  markets  the  Company  normally  utilizes is
restricted, or an emergency exists as determined by the SEC so that disposal of
the  Company's  investments  or  determination  of its  NAV  is not  reasonably
practicable,  or (3) for such other  periods as the SEC by order may permit for
protection of the Company's shareholders.

     For the mutual  protection of the investor and the Funds,  the Company may
require a signature  guarantee.  If  required,  EACH  signature  on the account
registration must be guaranteed.  Signature guarantees are acceptable from FDIC
member  banks,  brokers,  dealers,   municipal  securities  dealers,  municipal
securities  brokers,   government  securities  dealers,  government  securities
brokers,  credit unions,  national securities exchanges,  registered securities
associations,   clearing  agencies,  and  savings  associations.   A  signature
guarantee for active duty military  personnel  stationed abroad may be provided
by an officer of the United States Embassy or Consulate, a staff officer of the
Judge Advocate General, or an individual's commanding officer.

REDEMPTION BY CHECK

Shareholders  in the  California  Money  Market Fund may request that checks be
issued for their account. Checks must be written in amounts of at least $250.

     Checks issued to  shareholders of the Fund will be sent only to the person
in whose name the account is registered and only to the address of record.  The
checks  must be  manually  signed by the  registered  owner(s)  exactly  as the
account is registered. For joint accounts the signature of either or both joint
owners will be required on the check,  according  to the  election  made on the
signature  card.  You will  continue  to earn  dividends  until the  shares are
redeemed by the presentation of a check.

     When a check is presented to the Transfer Agent for payment,  a sufficient
number of full and  fractional  shares  from your  account  will be redeemed to
cover the amount of the check.  If the account balance is not adequate to cover
the amount of a check, the check will be returned unpaid.  Because the value of
each account changes as dividends are accrued on a daily basis,  checks may not
be used to close an account.

     The  checkwriting   privilege  is  subject  to  the  customary  rules  and
regulations  of State Street Bank and Trust  Company  (State Street Bank or the
Custodian)  governing checking accounts.  There is no charge to you for the use
of the checks or for subsequent reorders of checks.

     The Company  reserves  the right to assess a  processing  fee against your
account for any  redemption  check not  honored by a clearing or paying  agent.
Currently,  this fee is $15 and is subject to change at any time. Some examples
of such dishonor are improper  endorsement,  checks  written for an amount less
than the minimum check amount, and insufficient or uncollectible funds.

     The Company,  the Transfer  Agent,  and State Street Bank each reserve the
right to change or suspend the  checkwriting  privilege  upon 30 days'  written
notice to participating shareholders.

                                       3
<PAGE>

     You may  request  that the  Transfer  Agent stop  payment on a check.  The
Transfer Agent will use its best efforts to execute stop payment  instructions,
but does not guarantee that such efforts will be effective.  The Transfer Agent
will charge you $10 for each stop payment you request.

                                INVESTMENT PLANS

The Company makes available the following  investment  plans to shareholders of
the Funds.  At the time you sign up for any of the following  investment  plans
that utilize the electronic funds transfer service,  you will choose the day of
the month (the  effective  date) on which you would like to regularly  purchase
shares.  When this day falls on a weekend or holiday,  the electronic  transfer
will take place on the last  business day before the  effective  date.  You may
terminate your participation in a plan at any time. Please call the Manager for
details and necessary forms or applications.

AUTOMATIC PURCHASE OF SHARES

INVESTRONIC(R) - The regular purchase of additional  shares through  electronic
funds transfer from a checking or savings account.  You may invest as little as
$50 per month.

DIRECT PURCHASE  SERVICE - The periodic  purchase of shares through  electronic
funds  transfer  from  a   non-governmental   employer,   an   income-producing
investment, or an account with a participating financial institution.

DIRECT DEPOSIT PROGRAM - The monthly  transfer of certain  federal  benefits to
directly  purchase  shares of a USAA mutual  fund.  Eligible  federal  benefits
include:  Social Security,  Supplemental Security Income, Veterans Compensation
and Pension,  Civil Service  Retirement  Annuity,  and Civil  Service  Survivor
Annuity.

GOVERNMENT  ALLOTMENT - The  transfer of  military  pay by the U.S.  Government
Finance Center for the purchase of USAA mutual fund shares.

AUTOMATIC  PURCHASE  PLAN - The  periodic  transfer  of funds from a USAA money
market fund to purchase  shares in another  non-money  market USAA mutual fund.
There is a minimum investment  required for this program of $5,000 in the money
market fund, with a monthly transaction minimum of $50.

BUY/SELL  SERVICE - The  intermittent  purchase or redemption of shares through
electronic  funds  transfer to or from a checking or savings  account.  You may
initiate a "buy" or "sell" whenever you choose.

DIRECTED  DIVIDENDS  - If you own  shares  in more than one of the Funds in the
USAA  Family of Funds,  you may  direct  that  dividends  and/or  capital  gain
distributions  earned in one fund be used to purchase shares  automatically  in
another fund.

     Participation in these  systematic  purchase plans allows you to engage in
dollar-cost  averaging.  For additional  information concerning the benefits of
dollar-cost averaging, see APPENDIX C.

SYSTEMATIC WITHDRAWAL PLAN

If you own shares having a NAV of $5,000 or more in a single investment account
(accounts in different  Funds cannot be aggregated for this  purpose),  you may
request  that enough  shares to produce a fixed  amount of money be  liquidated
from the account monthly or quarterly. The amount of each withdrawal must be at
least $50. Using the electronic funds transfer service,  you may choose to have
withdrawals   electronically   deposited  at  your  bank  or  other   financial
institution. You may also elect to have checks mailed to a designated address.

     This plan may be initiated by depositing shares worth at least $5,000 with
the Transfer Agent and by completing a Systematic  Withdrawal Plan application,
which may be requested from the Manager. You may terminate participation in the
plan at any time.  You are not charged  for  withdrawals  under the  Systematic
Withdrawal  Plan. The Company will not bear any expenses in  administering  the
plan  beyond the  regular  transfer  agent and  custodian  costs of issuing and
redeeming   shares.   The  Manager  will  bear  any   additional   expenses  of
administering the plan.

     Withdrawals  will be made by redeeming full and  fractional  shares on the
date you select at the time the plan is established.  Withdrawal  payments made
under this plan may exceed  dividends  and  distributions  and, to this extent,
will  involve the use of  principal  and could  reduce the dollar value of your
investment  and  eventually  exhaust the  account.  Reinvesting  dividends  and
distributions  helps  replenish  the  account.  Because  share  values  and net
investment income can fluctuate, you should not expect withdrawals to be offset
by rising income or share value gains.

                                       4
<PAGE>

     Each  redemption  of shares  may  result in a gain or loss,  which must be
reported  on your  income tax  return.  Therefore,  you should keep an accurate
record of any gain or loss on each withdrawal.

                              INVESTMENT POLICIES

The sections  captioned  WHAT ARE EACH FUND'S  INVESTMENT  OBJECTIVES  AND MAIN
STRATEGIES?  and FUND  INVESTMENTS in the Prospectus  describe the  fundamental
investment  objective(s) and the investment  policies  applicable to each Fund.
Each Fund's objective(s) cannot be changed without  shareholder  approval.  The
following is provided as additional information.

CALCULATION OF PORTFOLIO WEIGHTED AVERAGE MATURITIES

Weighted  average  maturity  is  derived  by  multiplying  the  value  of  each
investment by the number of days remaining to its maturity,  adding the results
of these  calculations,  and then dividing the total by the value of the Fund's
portfolio.  An obligation's  maturity is typically determined on a stated final
maturity basis, although there are some exceptions to this rule.

     With respect to  obligations  held by the  California  Bond Fund, if it is
probable  that  the  issuer  of  an  instrument   will  take   advantage  of  a
maturity-shortening device, such as a call, refunding, or redemption provision,
the date on which the instrument will probably be called, refunded, or redeemed
may be considered to be its maturity  date.  Also, the maturities of securities
subject to sinking fund  arrangements are determined on a weighted average life
basis,  which is the average  time for  principal  to be repaid.  The  weighted
average life of these  securities  is likely to be  substantially  shorter than
their stated final maturity. In addition, for purposes of the Fund's investment
policies,  an instrument will be treated as having a maturity  earlier than its
stated  maturity date if the instrument has technical  features such as puts or
demand  features  that,  in the  judgment  of the  Manager,  will result in the
instrument being valued in the market as though it has the earlier maturity.

     The  California  Money  Market  Fund will  determine  the  maturity  of an
obligation in its portfolio in accordance  with Rule 2a-7 under the  Investment
Company Act of 1940, as amended (1940 Act).

LENDING OF SECURITIES

Each Fund may lend its  securities.  A lending  policy may be authorized by the
Company's  Directors and  implemented  by the Manager,  but  securities  may be
loaned only to qualified  broker-dealers or institutional  investors that agree
to maintain  cash  collateral  with the Company  equal at all times to at least
100% of the  value of the  loaned  securities.  The  Directors  will  establish
procedures and monitor the creditworthiness of any institution or broker-dealer
during  such time as any loan is  outstanding.  The  Company  will  continue to
receive  interest on the loaned  securities and will invest the cash collateral
in readily marketable short-term  obligations of high quality,  thereby earning
additional interest.  Interest on loaned tax-exempt  securities received by the
borrower and paid to the Company  will not be exempt from federal  income taxes
in the hands of the Company.

     No loan of securities will be made if, as a result,  the aggregate of such
loans would exceed 33 1/3% of the value of a Fund's total  assets.  The Company
may terminate such loans at any time.

REPURCHASE AGREEMENTS

Each Fund may invest up to 5% of its total assets in repurchase  agreements.  A
repurchase  agreement is a transaction  in which a security is purchased with a
simultaneous  commitment  to sell the security back to the seller (a commercial
bank or recognized securities dealer) at an agreed upon price on an agreed upon
date,  usually not more than seven days from the date of  purchase.  The resale
price  reflects the purchase  price plus an agreed upon market rate of interest
which is unrelated to the coupon rate or maturity of the purchased security.  A
repurchase  agreement  involves the  obligation of the seller to pay the agreed
upon  price,  which  obligation  is in  effect  secured  by  the  value  of the
underlying security. In these transactions,  the securities purchased by a Fund
will have a total value  equal to or in excess of the amount of the  repurchase
obligation and will be held by the Funds' custodian until  repurchased.  If the
seller defaults and the value of the underlying  security declines,  a Fund may
incur a loss and may incur  expenses in selling the  collateral.  If the seller
seeks relief under the bankruptcy  laws, the  disposition of the collateral may
be delayed or limited. Any investments in repurchase  agreements will give rise
to income which will not qualify as  tax-exempt  income when  distributed  by a
Fund.

                                       5
<PAGE>

WHEN-ISSUED SECURITIES

Each  Fund may  invest in new  issues of  tax-exempt  securities  offered  on a
when-issued  basis;  that is, delivery and payment take place after the date of
the commitment to purchase,  normally  within 45 days.  Both price and interest
rate are fixed at the time of commitment. The Funds do not earn interest on the
securities  until  settlement,  and the  market  value  of the  securities  may
fluctuate  between purchase and settlement.  Such securities can be sold before
settlement date.

     Cash or high  quality  liquid debt  securities  equal to the amount of the
when-issued  commitments  are  segregated  at the Fund's  custodian  bank.  The
segregated  securities are valued at market,  and daily adjustments are made to
keep the  value of the cash and  segregated  securities  at least  equal to the
amount of such  commitments by the Fund. On the settlement  date, the Fund will
meet its obligations  from then available cash, sale of segregated  securities,
sale of other securities, or sale of the when-issued securities themselves.

MUNICIPAL LEASE OBLIGATIONS

Each  Fund may  invest in  municipal  lease  obligations  and  certificates  of
participation in such obligations  (collectively,  lease obligations).  A lease
obligation  does not constitute a general  obligation of the  municipality  for
which the municipality's taxing power is pledged, although the lease obligation
is ordinarily backed by the municipality's  covenant to budget for the payments
due under the lease obligation.

     Certain  lease  obligations  contain   "non-appropriation"  clauses  which
provide  that the  municipality  has no  obligation  to make  lease  obligation
payments in future  years unless  money is  appropriated  for such purpose on a
yearly basis. Although "non-appropriation" lease obligations are secured by the
leased property,  disposition of the property in the event of foreclosure might
prove  difficult.  In  evaluating  a  potential  investment  in  such  a  lease
obligation,  the Manager will consider:  (1) the credit quality of the obligor,
(2) whether the underlying  property is essential to a  governmental  function,
and (3) whether the lease obligation contains covenants prohibiting the obligor
from substituting  similar property if the obligor fails to make appropriations
for the lease obligation.

TEMPORARY DEFENSIVE POLICY

Each Fund may on a temporary basis because of market,  economic,  political, or
other  conditions  invest  up to 100% of its  assets in  short-term  securities
whether or not they are exempt from federal and California  state income taxes.
Such taxable securities may consist of obligations of the U.S. Government,  its
agencies  or  instrumentalities,  and  repurchase  agreements  secured  by such
instruments; certificates of deposit of domestic banks having capital, surplus,
and  undivided  profits  in excess of $100  million;  banker's  acceptances  of
similar banks; commercial paper; and other corporate debt obligations.

OTHER POLICIES

Although the California Bond Fund is permitted to invest in options,  financial
futures contracts,  and options on financial futures contracts, the Fund has no
current  intention of doing so and will not invest in such  securities  without
first  notifying   shareholders  and  supplying  further   information  in  the
Prospectus.

                            INVESTMENT RESTRICTIONS

The following investment restrictions have been adopted by the Company for each
Fund. These restrictions may not be changed for any given Fund without approval
by the lesser of (1) 67% or more of the voting securities  present at a meeting
of the Fund if more than 50% of the outstanding  voting  securities of the Fund
are  present  or  represented  by  proxy or (2)  more  than  50% of the  Fund's
outstanding voting securities.  The investment  restrictions of one Fund may be
changed without affecting those of the other Fund.

Under the restrictions, neither Fund will:

 (1)  with  respect  to 75% of its total  assets,  purchase  securities  of any
      issuer (except the U.S.  Government,  its agencies and  instrumentalities
      and any tax-exempt  security  guaranteed by the U.S.  Government) if as a
      result more than 5% of the total assets of that Fund would be invested in
      securities   of  such   issuer;   for   purposes   of  this   limitation,
      identification  of the "issuer" will be based on a  determination  of the
      source of assets and revenues committed to meeting interest and principal
      payments of each security;  for purposes of this  limitation the state of
      California  or other  jurisdictions  and each of its  separate  political
      subdivisions,  agencies,  authorities,  and  instrumentalities  shall  be
      treated as a separate issuer;

 (2)  purchase  more  than  10%  of  the  outstanding voting securities of any
      issuer;

                                       6
<PAGE>

 (3)  borrow money, except for temporary or emergency purposes in an amount not
      exceeding  33 1/3%  of  its  total assets (including the amount borrowed)
      less liabilities (other than borrowings);

 (4)  pledge, mortgage, or hypothecate its assets  to any  extent  greater than
      10% of the value of its total assets;

 (5)  purchase or retain securities of any issuer if any officer or Director of
      the Company or its Manager owns  individually  more than  one-half of one
      percent (1/2%) of the  securities of that issuer,  and  collectively  the
      officers and Directors of the Company and Manager  together own more than
      5% of the securities of that issuer;

 (6)  purchase any  securities  which would cause more than 25% of the value of
      that Fund's total  assets at the time of such  purchase to be invested in
      securities  the interest  upon which is derived from revenues or projects
      with similar  characteristics,  such as toll road revenue bonds,  housing
      revenue  bonds,  electric power project  revenue bonds,  or in industrial
      revenue bonds which are based,  directly or indirectly,  on the credit of
      private  entities  of any  one  industry;  provided  that  the  foregoing
      limitation  does not apply with respect to investments  in U.S.  Treasury
      Bills, other obligations issued or guaranteed by the U.S. Government, its
      agencies and instrumentalities,  and, in the case of the California Money
      Market Fund, certificates of deposit and banker's acceptances of domestic
      banks;

 (7)  invest in issuers for the purpose of exercising control or management;

 (8)  issue senior  securities  as defined in the 1940 Act,  except that it may
      purchase  tax-exempt  securities on a "when-issued" basis or in financial
      futures contracts as permitted by Section 18(f)(2);

 (9)  underwrite securities of other issuers,  except to the extent that it may
      be deemed to act as a statutory  underwriter in the  distribution  of any
      restricted securities or not readily marketable securities;

 (10) purchase or sell real estate,  but this shall not prevent  investments in
      tax-exempt securities secured by real estate or interests therein;

 (11) lend any securities or make  any  loan if, as a result, more than 33 1/3%
      of its total assets  would  be lent to other  parties,  except that  this
      limitation  does  not  apply  to  purchases  of  debt  securities  or  to
      repurchase agreements;

 (12) purchase on margin or sell short;  for purposes of this  restriction  the
      deposit or payment of initial  or  variation  margin in  connection  with
      financial futures contracts or related options will not be deemed to be a
      purchase of securities on margin by a Fund;

 (13) purchase or sell  commodities or commodities  contracts,  except that the
      Fund may invest in financial futures contracts and options thereon;

 (14) invest its assets in securities of other  investment  companies except by
      purchases  in  the  open  market   involving  only   customary   brokers'
      commissions  or as part of a  merger,  consolidation,  reorganization  or
      purchase of assets approved by the shareholders; or

 (15) invest in put,  call,  straddle,  or spread  options or interests in oil,
      gas, or other mineral exploration or development programs,  except that a
      Fund may write covered call options and purchase put options.

ADDITIONAL RESTRICTIONS

The following restrictions are not considered to be fundamental policies of the
Funds. The Board of Directors may change these additional  restrictions without
notice to or approval by the shareholders.

Neither Fund will:

 (1)  invest more than 15% (10% with  respect to the  California  Money  Market
      Fund) of the value of its net assets in  illiquid  securities,  including
      repurchase agreements maturing in more than seven days; or

 (2)  purchase any security while  borrowings representing  more than 5% of the
      Fund's total assets are outstanding.

                          SPECIAL RISK CONSIDERATIONS

Certain California constitutional amendments,  legislative measures,  executive
orders,  administrative  regulations and voter  initiatives could result in the
adverse effects described below. The following  information  constitutes only a
brief summary, does not purport to be a complete  description,  and is based on
information  drawn  from  official  statements  and  prospectuses  relating  to
securities offerings of the State of California (the "State") and various local
agencies in California and from other relevant sources. While the

                                       7
<PAGE>

Funds have not  independently  verified such  information,  they have no reason
to believe that such information is not correct in all material respects.

     Certain of the tax-exempt  securities in which the Funds may invest may be
obligations  of  issuers  which  rely in whole or in part on  California  State
revenues for payment of these obligations.  Property tax revenues and a portion
of the State's  General Fund surplus are  distributed  to counties,  cities and
their  various  taxing  entities,  and the State  assumes  certain  obligations
theretofore  paid out of local  funds.  Whether and to what extent a portion of
the State's General Fund will be distributed in the future to counties,  cities
and their various entities, is unclear.

     Certain of the  tax-exempt  securities  may be  obligations of issuers who
rely in whole  or in part on ad  valorem  real  property  taxes as a source  of
revenue.  On June 6, 1978,  California  voters  approved  an  amendment  to the
California  Constitution  known as Proposition 13, which added Article XIIIA to
the California Constitution. The effect of Article XIIIA is to limit ad valorem
taxes on real  property,  and to  restrict  the  ability of taxing  entities to
increase  real property tax revenues.  On November 7, 1978,  California  voters
approved  Proposition  8,  and on  June 3,  1986,  California  voters  approved
Proposition 46, both of which amended Article XIIIA.

     Section 1 of Article  XIIIA limits the maximum ad valorem  property tax on
real  property  to 1% of full  cash  value (as  defined  in  Section  2), to be
collected by the counties and apportioned  according to law;  provided that the
1% limitation does not apply to ad valorem taxes or special  assessments to pay
the interest and  redemption  charges or (1) any  indebtedness  approved by the
voters  prior  to  July  1,  1978,  or (2)  any  bonded  indebtedness  for  the
acquisition or improvement of real property  approved on or after July 1, 1978,
by  two-thirds  of the votes  cast by the  voters  voting  on the  proposition.
Section 2 of  Article  XIIIA  defines  "full  cash  value" to mean "the  County
Assessor's  valuation  of real  property as shown on the 1975-76 tax bill under
full cash value or,  thereafter,  the  appraised  value of real  property  when
purchased,  newly constructed,  or a change in ownership has occurred after the
1975  assessment."  The "full cash value" may be  adjusted  annually to reflect
inflation  at a rate not to exceed 2% per year,  or a reduction in the Consumer
Price  Index or  comparable  local data,  or reduced in the event of  declining
property value caused by damage,  destruction or other factors.  The California
State  Board  of  Equalization  has  adopted  regulations,  binding  on  county
assessors,   interpreting  the  meaning  of  "change  in  ownership"  and  "new
construction"  for purposes of  determining  full cash value of property  under
Article XIIIA.

     Legislation  enacted by the California  Legislature  to implement  Article
XIIIA   (statutes   of  1978,   Chapter   292,  as  amended)   provides,   that
notwithstanding  any other  law,  local  agencies  may not levy any ad  valorem
property tax except to pay debt service on indebtedness  approved by the voters
prior to July 1, 1978, and that each county will levy the maximum tax permitted
by  Article  XIIIA of $4 per  $100  assessed  valuation  (based  on the  former
practice  of using  25%,  instead of 100%,  of full cash value as the  assessed
value for tax purposes). The legislation further provided that, for the 1978-79
fiscal year only, the tax levied by each county was to be apportioned among all
taxing agencies within the county in proportion to their average share of taxes
levied in certain  previous  years.  The  apportionment  of property  taxes for
fiscal  years  after  1978-79  has been  revised  pursuant to Statutes of 1979,
Chapter  282,  which  provides  relief funds from state  revenues  beginning in
fiscal year  1979-80 and is designed to provide a permanent  system for sharing
state taxes and budget funds with local agencies. Under Chapter 282, cities and
counties  receive more of the remaining  property tax revenues  collected under
Proposition  13  instead  of  direct  State  aid.  School  districts  receive a
correspondingly  reduced  amount of property  taxes,  but receive  compensation
directly from the State and are given additional  relief.  Chapter 282 does not
affect the derivation of the base levy ($4 per $100 of assessed  valuation) and
the  bonded  debt  tax  rate.  However,  there  can be no  assurance  that  any
particular level of State aid to local governments will be maintained in future
years.

     On November 6, 1979,  another  initiative  known as "Proposition 4" or the
"Gann  Initiative" was approved by the California  voters,  which added Article
XIIIB to the  California  Constitution.  Under Article  XIIIB,  state and local
governmental entities have an annual "appropriations limit" and are not able to
spend certain moneys called "appropriations subject to limitation" in an amount
higher  than the  "appropriations  limit."  Article  XIIIB  does not affect the
appropriation   of  moneys  which  are   excluded   from  the   definition   of
"appropriations  subject to limitation," including debt service on indebtedness
existing  or  authorized  as  of  January  1,  1979,  or  bonded   indebtedness
subsequently  approved by the voters.  In general  terms,  the  "appropriations
limit" is to be based on certain  1978-79  expenditures,  and is to be adjusted
annually to reflect changes in consumer prices, population and certain services
provided by these entities. Article XIIIB also provides that if these entities'
revenues in any year exceed the amount  permitted to be spent, the excess would
have to be returned by revising tax rates or fee schedules  over the subsequent
two years.

                                       8
<PAGE>

     In June 1982, the voters of California  passed two initiative  measures to
repeal  the  California  gift and  inheritance  tax laws and to enact,  in lieu
thereof,  a California death tax.  California  voters also passed an initiative
measure to increase,  for taxable years commencing on or after January 1, 1982,
the amount by which personal  income tax brackets will be adjusted  annually in
an effort to index such tax  brackets to account for the effects of  inflation.
Decreases in State and local  revenues in future  fiscal years as a consequence
of these  initiatives may result in reductions in allocations of state revenues
to  California  issuers or in the  ability of  California  issuers to pay their
obligations.

     At the November 8, 1988 general  election,  California  voters approved an
initiative  known as Proposition  98. This  initiative  amends Article XIIIB to
require that (1) the California  Legislature  establish a prudent state reserve
fund in an amount as shall be  reasonable  and  necessary  and (2)  revenues in
excess of amounts  permitted to be spent and which would  otherwise be returned
pursuant  to  Article  XIIIB by  revision  of tax rates or fees  schedules,  be
transferred and allocated (up to a maximum of 40%) to the State School Fund and
be   expended   solely  for   purposes   of   instructional   improvement   and
accountability.  No such  transfer or  allocation  of funds will be required if
certain designated state officials  determine that annual student  expenditures
and class size meet certain  criteria as set forth in Proposition 98. Any funds
allocated  to the  State  School  Fund  shall  cause the  appropriation  limits
established in Article XIIIB to be annually  increased for any such  allocation
made in the prior year.

     Proposition  98 also  amends  Article  XVI to  require  that the  State of
California  provide a minimum level of funding for public schools and community
colleges.  Commencing with the 1988-89 fiscal year, moneys to be applied by the
State for the support of school districts and community college districts shall
not be less than the greater of: (1) the amount  which,  as a percentage of the
State  General  Fund  revenues  which may be  appropriated  pursuant to Article
XIIIB,  equals the percentage of such State General Fund revenues  appropriated
for school districts and community college districts,  respectively,  in fiscal
year 1986-87,  or (2) the amount required to ensure that the total  allocations
to school districts and community college districts from the State general fund
proceeds of taxes  appropriated  pursuant to Article XIIIB and allocated  local
proceeds of taxes  shall not be less than the total  amount from the sources in
the prior year,  adjusted for increases in enrollment  and adjusted for changes
in the  cost of  living  pursuant  to the  provisions  of  Article  XIIIB.  The
initiative  permits the  enactment of  legislation,  by a two-thirds  vote,  to
suspend the minimum funding requirements for one year.

     In June 1989, the  California  Legislature  enacted Senate  Constitutional
amendment  number  one ("SCA 1"), a  proposed  modification  of the  California
Constitution to alter the spending limit in the educational  funding provisions
of Proposition 98. SCA 1 was approved by the voters on the June 1990 ballot and
took effect on July 1, 1990. SCA 1 permits  annual  adjustments to the spending
limit to be more  closely  linked to the rate of economic  growth in the State.
Instead  of being  tied to the  consumer  price  index,  the change in "cost of
living" is measured by the change in California per capita personal income.  In
addition,  if certain kinds of  emergencies  are declared by the  Governor,  an
appropriation  enacted by a two-thirds vote of the Legislature will be excluded
from the State's appropriations limit.

     SCA  1  also   provides  two  new   exceptions  to  the   calculation   of
appropriations  which are subject to the spending limit.  First,  there will be
excluded all  appropriations for "qualified capital outlay projects" as defined
by the  Legislature.  Second,  there will be excluded  any increase in gasoline
taxes above their current 9% per gallon level. In addition,  SCA 1 recalculates
the appropriation limits for each unit in government,  beginning in the 1990-91
fiscal  year,  based  upon a  two-year  cycle.  The  Proposition  98  provision
regarding excess taxes will also be modified.  After a two-year period if there
are any excess state tax revenues,  50% (instead of 100%) of the excess will be
transferred  to schools  with the  balance  returned to  taxpayers.  SCA 1 also
modifies in certain  respects  the complex  adjustment  in the  Proposition  98
formula which guarantees schools a certain amount of the General Fund revenues.

     In  September  1980,  the  legislature  enacted a measure  (Chapter  1342,
Statutes of 1980)  declaring  that tax increment  revenues are not "proceeds of
taxes"  within  the  meaning  of  Article  XIIIB  and that the  allocation  and
expenditure of such moneys are not  appropriations  subject to the  limitations
under  Article  XIIIB,  if used for  repayment  of  indebtedness  incurred  for
redevelopment  activity.  While the California Supreme Court expressly declined
to rule on the validity of Chapter 1342 and the  applicability of Article XIIIB
to redevelopment  agencies in HUNTINGTON PARK  REDEVELOPMENT  AGENCY V. MARTIN,
two  subsequent  decisions  of the  California  Court of Appeal have upheld the
validity of Chapter 1342 and have concluded that redevelopment agencies are not
subject  to the  appropriations  limit of  Article  XIIIB.  Proposition  87 was
approved by the  California  voters on November 8, 1988.  Proposition 87 amends
Article XVI,  Section 16, of the California  Constitution  by  authorizing  the
California Legislature to prohibit redevelopment agencies

                                       9
<PAGE>

from receiving any of the property tax revenue raised by increased property tax
rates  levied  to  repay  bonded  indebtedness  of local  governments  which is
approved by voters on or after  January 1, 1989.  It is not possible to predict
whether the California  Legislature  will enact such a  prohibition,  nor is it
possible to predict the impact of Proposition 87 on redevelopment  agencies and
their ability to make payments on outstanding debt obligations.

     On November 4, 1986,  California  voters  approved an  initiative  statute
known as Proposition  62. This initiative (1) requires that any tax for general
governmental purposes imposed by local governments be approved by resolution or
ordinance adopted by a two-thirds vote of the governmental entity's legislative
body and by a majority vote of the electorate of the governmental  entity,  (2)
requires  that any special tax  (defined as taxes levied for other than general
governmental  purposes) imposed by a local governmental entity be approved by a
two-thirds vote of the voters within the jurisdiction, (3) restricts the use of
revenues  from a special  tax to the  purposes or for the service for which the
special tax was imposed,  (4) prohibits  the  imposition of ad valorem taxes on
real  property by local  governmental  entities  except as permitted by Article
XIIIA, (5) prohibits the imposition of transaction taxes and sales taxes on the
sale of real property by local  governments,  (6) requires that any tax imposed
by a local government on or after August 1, 1985 be ratified by a majority vote
of the  electorate  within two years of the  adoption of the  initiative  or be
terminated  by November  15,  1988,  (7)  requires  that,  in the event a local
government fails to comply with the provisions of this measure,  a reduction in
the amount of property tax revenue allocated to such local government occurs in
an amount equal to the revenues received by such entity attributable to the tax
levied in violation of the initiative,  and (8) permits these  provisions to be
amended  exclusively  by the voters of the State of  California.  In  September
1995, the California Supreme Court upheld the  constitutionality of Proposition
62,  creating  uncertainty as to the legality of certain local taxes enacted by
non-charter cities in California without voter approval.  It is not possible to
predict the impact of the decision.

     In  November  1996,   California  voters  approved  Proposition  218.  The
initiative applied the provisions of Proposition 62 to all entities,  including
charter cities. It requires that all taxes for general purposes obtain a simple
majority  popular vote and that taxes for special  purposes obtain a two-thirds
majority vote.  Prior to the  effectiveness  of Proposition 218, charter cities
could levy certain taxes such as transient  occupancy  taxes and utility user's
taxes without a popular vote.  Proposition 218 will also limit the authority of
local  governments to impose  property-related  assessments,  fees and charges,
requiring that such assessments be limited to the special benefit conferred and
prohibiting their use for general governmental  services.  Proposition 218 also
allows   voters   to  use   their   initiative   power  to   reduce  or  repeal
previously-authorized taxes, assessments, fees and charges.

     California  is the  most  populous  state  in  the  nation  with  a  total
population  estimated at 32.9  million.  The State now  comprises  12.3% of the
nation's  population  and 12.5% of its total  personal  income.  Its economy is
broad and diversified with major concentrations in high technology research and
manufacturing, aerospace and defense-related manufacturing, trade, real estate,
entertainment,   and  financial  services.  After  experiencing  strong  growth
throughout much of the 1980s,  from 1990-1993,  California  suffered  through a
severe  recession,  the worst  since the  1930s,  heavily  influenced  by large
cutbacks in defense/aerospace industries and military base closures and a major
drop in real estate construction.  California's economy has been recovering and
growing  steadily  stronger  since  the start of 1994,  to the point  where the
State's  economic growth is outpacing the rest of the nation.  The unemployment
rate, while still higher than the national average,  fell to an average of 5.9%
in 1998,  compared to over 10% at the worst of the recession.  Recent  economic
reports  indicate  that,  while  the rate of  economic  growth is  expected  to
moderate over the next year,  the increases in employment and income may exceed
those of the nation as a whole. The unsettled  financial situation occurring in
certain Asian economies,  and its spillover  effects  elsewhere,  may adversely
affect the State's export-related  industries and, therefore,  the State's rate
of economic growth.

     The Governor signed the 1998-99 Budget Act on August 21, 1998. The 1998-99
Budget Act is based on projected  General Fund  revenues and transfers of $57.0
billion  (after  giving  effect to various tax  reductions  enacted in 1997 and
1998), a 4.2% increase from the revised 1997-98 figures.  Special Fund revenues
were  estimated at $14.3  billion.  The revenue  projections  were based on the
Governor's May Revision to the 1998-99 Budget and may be overstated in light of
the possible  effect on  California's  economic  growth of  worsening  economic
problems in various international markets.

     The Budget Act provides  authority for  expenditures of $57.3 billion from
the General Fund (a 7.3%  increase  from  1997-98),  $14.7 billion from Special
Funds,  and $3.4 billion from bond funds.  The Budget Act projects a balance in
the SFEU at June 30, 1999 of $1.255  billion,  a little more than 2% of General
Fund  revenues.  The  Budget  Act  assumes  the State will carry out its normal
intra-year  cash flow  borrowing  in the  amount  of $1.7  billion  of  revenue
anticipation notes issued in October, 1998.

                                      10
<PAGE>

     The most  significant  feature of the 1998-99  budget was  agreement  on a
total of $1.4 billion of tax cuts. The central element is a bill which provides
for a phased-in  reduction of the Vehicle  License Fee (VLF).  Since the VLF is
currently transferred to cities and counties, the bill provides for the General
Fund to replace the lost revenues. Starting on January 1, 1999, the VLF will be
reduced by 25%, at a cost to the General Fund of approximately  $500 million in
the 1998-99 Fiscal Year and about $1 billion annually thereafter.

     The Governor's  proposed  budget for fiscal year 1999-2000  proposes total
State spending of $76.2 billion (excluding the expenditure of federal funds and
selected bond funds),  which is up 4.1% from the 1998-1999  budget.  This total
includes  $60.5 billion in General Fund spending (a 3.8% increase) and $15.7 in
special funds  spending.  The  Governor's  proposed  budget  anticipates a $415
million reserve by the close of the fiscal year. The proposed budget  addresses
an  anticipated  funding  shortfall of $2.3 billion  (which  includes  funds to
rebuild the reserve) through a combination of new state and federal  resources,
the rescheduling of certain expenditures, under-budgeting certain expenditures,
spending cutbacks, and savings assumptions.

     Because  of the State of  California's  continuing  budget  problems,  the
State's General  Obligation bonds were downgraded in July 1994 to A1 from Aa by
Moody's,  to A from A+ by  Standard  & Poor's,  and to A from AA by Fitch.  All
three rating agencies  expressed  uncertainty in the State's ability to balance
the budget by 1996. However, in 1996, citing California's improving economy and
budget situation,  both Fitch and Standard & Poor's raised their ratings from A
to A+. In October,  1997,  Fitch raised its rating from A+ to AA-  referring to
the State's fundamental strengths,  the extent of its economic recovery and the
return of financial stability.  In October 1998, Moody's raised its rating from
A1 to Aa3 citing  the  State's  continuing  economic  recovery  and a number of
actions taken to improve the State's credit condition, including the rebuilding
of cash and budget reserves.

     On December 6, 1994, Orange County became the largest  municipality in the
United States to file for  protection  under the federal  bankruptcy  laws. The
filing  stemmed  from  approximately  $1.7  billion in losses  suffered  by the
County's   investment  pool  due  to  investments  in  high  risk  "derivative"
securities.  In September  1995,  the state  legislature  approved  legislation
permitting  Orange County to use for  bankruptcy  recovery $820 million over 20
years  in  sales  taxes   previously   earmarked  for  highways,   transit  and
development.  In June 1996 the County  completed a $880 million  bond  offering
secured by real  property  owned by the County.  On June 12,  1996,  the County
emerged from bankruptcy protection.  On January 7, 1997, Orange County returned
to the  municipal  bond market with a $136  million  bond issue  maturing in 13
years at an insured  yield of 7.23%.  In  December,  1997,  Moody's  raised its
ratings on $325 million of Orange County pension  obligation bonds to Baa3 from
Ba.  In  February  1998,  Fitch  assigned  outstanding  Orange  County  pension
obligation bonds a BBB rating.

     Los Angeles  County,  the nation's  largest county,  has also  experienced
financial  difficulty.  In August  1995,  the  credit  rating  of the  county's
long-term  bonds was  downgraded  for the third time since 1992 as a result of,
among other  things,  severe  operating  deficits for the county's  health care
system.  The  county has not yet  recovered  from the  ongoing  loss of revenue
caused by state  property  tax  shift  initiatives  in 1993  through  1995.  In
December 1998, in recognition of the County's progress toward fiscal stability,
Moody's raised the ratings on the County's general  obligation bonds to A1 from
A2. In April 1999, the Los Angeles County Chief Administrative Officer proposed
an approximately  $14.4 billion 1999-00 budget,  approximately 5.1% larger than
the 1998-99  budget.  For a second  year in a row the budget  would not require
cuts in services and jobs to cover a deficit in the County's health department.
The City of Los  Angeles is the  largest  city in the  county  and its  general
obligation bonds are rated AA by S&P and Aa by Moody's.

     Certain  tax-exempt  securities  in which  the  Funds  may  invest  may be
obligations payable solely from the revenues of specific  institutions,  or may
be  secured  by  specific  properties,  which  are  subject  to  provisions  of
California law that could adversely affect the holders of such obligations. For
example,  the revenues of California health care institutions may be subject to
state laws, and California  laws limit the remedies of a creditor  secured by a
mortgage or deed of trust on real property.

     YEAR 2000. In October 1997 the Governor  issued  Executive  Order W-163-97
stating that Year 2000  solutions  would be a State priority and requiring each
agency of the State,  no later than  December  31,  1998,  to address Year 2000
problems in their  essential  systems and protect those systems from corruption
by  non-compliant  systems,  in accordance  with the  Department of Information
Technology's   California  2000  Program.  The  State  reports  that,  although
substantial progress has been made toward the goal of Y2K compliance,  the task
is still very large and will  likely  encounter  unexpected  difficulties.  The
State cannot  predict  whether all mission  critical  systems will be ready and
tested by late 1999 or what  impact the failure of any  particular  information
technology systems or of outside interfaces with technology information systems
might have. The State Treasurer's  Office reports that as of December 31, 1998,
its systems for bond

                                      11
<PAGE>

payments were fully Y2K  compliant.  There can be no assurance that steps being
taken by state or local  government  agencies  with  respect  to the Year  2000
problem  will be  sufficient  to avoid any  adverse  impact upon the budgets or
operations of those agencies.

                             PORTFOLIO TRANSACTIONS

The  Manager,  pursuant to the  Advisory  Agreement  dated July 20,  1990,  and
subject to the general control of the Company's Board of Directors,  places all
orders  for  the  purchase  and  sale  of Fund  securities.  Purchases  of Fund
securities are made either directly from the issuer or from dealers who deal in
tax-exempt  securities.  The Manager may sell Fund securities prior to maturity
if circumstances  warrant and if it believes such disposition is advisable.  In
connection with portfolio  transactions  for the Company,  the Manager seeks to
obtain  the best  available  net price  and most  favorable  execution  for its
orders.  The Manager has no agreement or commitment to place  transactions with
any  broker-dealer  and no regular  formula is used to  allocate  orders to any
broker-dealer.  However,  the Manager may place security orders with brokers or
dealers who furnish  research or other services to the Manager as long as there
is no sacrifice in obtaining the best overall terms available. Payment for such
services  would be generated  only  through  purchase of new issue fixed income
securities.

     Such  research  and  other  services  may  include,  for  example:  advice
concerning  the  value  of  securities,   the  advisability  of  investing  in,
purchasing,  or selling  securities,  and the availability of securities or the
purchasers or sellers of securities;  analyses and reports concerning  issuers,
industries,  securities,  economic factors and trends,  portfolio strategy, and
performance  of  accounts;   and  various  functions  incidental  to  effecting
securities  transactions,  such as clearance  and  settlement.  These  research
services may also include access to research on third party data bases, such as
historical  data on  companies,  financial  statements,  earnings  history  and
estimates and corporate releases; real-time quotes and financial news; research
on specific fixed income securities;  research on international market news and
securities;  and rating  services  on  companies  and  industries.  The Manager
continuously  reviews the performance of the broker-dealers with whom it places
orders for  transactions.  The receipt of  research  from  broker-dealers  that
execute  transactions  on behalf of the Company may be useful to the Manager in
rendering investment management services to other clients (including affiliates
of the Manager),  and conversely,  such research provided by broker-dealers who
have  executed  transaction  orders on behalf of other clients may be useful to
the Manager in carrying out its obligations to the Company. While such research
is available to and may be used by the Manager in providing  investment  advice
to all its  clients  (including  affiliates  of the  Manager),  not all of such
research  may be used by the  Manager  for the  benefit  of the  Company.  Such
research  and  services  will be in addition to and not in lieu of research and
services  provided by the  Manager,  and the  expenses of the Manager  will not
necessarily be reduced by the receipt of such  supplemental  research.  See THE
COMPANY'S MANAGER.

     On occasions  when the Manager deems the purchase or sale of a security to
be in the best interest of the Company, as well as the Manager's other clients,
the Manager,  to the extent permitted by applicable laws and  regulations,  may
aggregate such securities to be sold or purchased for the Company with those to
be sold or purchased for other  customers in order to obtain best execution and
lower  brokerage  commissions,  if  any.  In  such  event,  allocation  of  the
securities  so  purchased  or sold,  as well as the  expenses  incurred  in the
transaction,  will be made by the Manager in the manner it considers to be most
equitable and consistent with its fiduciary  obligations to all such customers,
including the Company.  In some instances,  this procedure may impact the price
and size of the position obtainable for the Company.

     The tax-exempt security market is typically a "dealer" market in which
investment  dealers buy and sell bonds for their own accounts,  rather than for
customers,  and although the price may reflect a dealer's mark-up or mark-down,
the Company pays no brokerage commissions as such. In addition, some securities
may be purchased directly from issuers.

PORTFOLIO TURNOVER RATES

The  portfolio  turnover  rate is  computed by  dividing  the dollar  amount of
securities  purchased or sold  (whichever  is smaller) by the average  value of
securities owned during the year.

     The rate of  portfolio  turnover  will not be a limiting  factor  when the
Manager deems changes in the California  Bond Fund's  portfolio  appropriate in
view  of its  investment  objective.  For  example,  securities  may be sold in
anticipation  of a rise in interest  rates  (market  decline) or  purchased  in
anticipation  of a decline in interest  rates  (market rise) and later sold. In
addition, a security may be sold and another security of comparable quality may
be purchased at approximately  the same time in order to take advantage of what
the Fund believes to be a temporary  disparity in the normal yield relationship
between the two securities.

                                      12
<PAGE>

These  yield  disparities  may occur for reasons  not  directly  related to the
investment  quality of  particular  issues or the general  movement of interest
rates,  such as changes in the overall demand for or supply of various types of
tax-exempt securities.

     For the last  two  fiscal  years  the  California  Bond  Fund's  portfolio
turnover rates were as follows:

              1998. . . . . 20.16%            1999. . . . 7.20%

     Portfolio  turnover  rates  have  been  calculated   excluding  short-term
variable rate securities,  which are those with put date intervals of less than
one year.

                             DESCRIPTION OF SHARES


The Funds are  series of USAA Tax  Exempt  Fund,  Inc.  (the  Company)  and are
diversified.   The  Company  is  an  open-end  management   investment  company
incorporated  under the laws of the state of Maryland on November 16, 1981. The
Company is  authorized to issue shares in separate  series or funds.  There are
ten mutual funds in the Company,  two of which are described in this SAI. Under
the Articles of  Incorporation,  the Board of Directors is authorized to create
new  portfolios  in  addition to those  already  existing  without  shareholder
approval.  The Company began  offering  shares of the  California  Bond and the
California Money Market Funds in August 1989.

     Each  Fund's  assets  and all  income,  earnings,  profits,  and  proceeds
thereof, subject only to the rights of creditors, are specifically allocated to
such Fund. They constitute the underlying  assets of each Fund, are required to
be segregated on the books of account,  and are to be charged with the expenses
of such Fund. Any general  expenses of the Company not readily  identifiable as
belonging  to a  particular  Fund are  allocated  on the  basis  of the  Funds'
relative net assets during the fiscal year or in such other manner as the Board
determines  to be fair and  equitable.  Each share of each Fund  represents  an
equal  proportionate  interest  in that  Fund  with  every  other  share and is
entitled to dividends and distributions out of the net income and capital gains
belonging to that Fund when declared by the Board.

     Under the  provisions of the Bylaws of the Company,  no annual  meeting of
shareholders is required. Thus, there will ordinarily be no shareholder meeting
unless  required  by  the  1940  Act.  Under  certain  circumstances,  however,
shareholders  may apply to the Directors for shareholder  information to obtain
signatures  to request a special  shareholder  meeting.  The  Company  may fill
vacancies on the Board or appoint new  Directors if the result is that at least
two-thirds of the Directors have still been elected by shareholders.  Moreover,
pursuant  to the  Bylaws of the  Company,  any  Director  may be removed by the
affirmative vote of a majority of the outstanding  Company shares;  and holders
of 10% or more of the outstanding  shares of the Company can require  Directors
to call a meeting of  shareholders  for the purpose of voting on the removal of
one or more  Directors.  The  Company  will  assist in  communicating  to other
shareholders  about the meeting.  On any matter submitted to the  shareholders,
the  holder  of each  Fund  share  is  entitled  to one vote  per  share  (with
proportionate  voting for  fractional  shares)  regardless  of the relative net
asset values of the Funds' shares.  However, on matters affecting an individual
Fund a separate vote of the shareholders of that Fund is required. Shareholders
of a Fund are not entitled to vote on any matter that does not affect that Fund
but  which  requires  a  separate  vote of  another  Fund.  Shares  do not have
cumulative  voting  rights,  which  means that  holders of more than 50% of the
shares  voting for the  election of Directors  can elect 100% of the  Company's
Board of  Directors,  and the holders of less than 50% of the shares voting for
the election of Directors will not be able to elect any person as a Director.

     Shareholders of a particular Fund might have the power to elect all of the
Directors  of the  Company  because  that  Fund  has a  majority  of the  total
outstanding  shares of the Company.  When issued,  each Fund's shares are fully
paid and  nonassessable,  have no pre-emptive or subscription  rights,  and are
fully transferable. There are no conversion rights.

                   CERTAIN FEDERAL INCOME TAX CONSIDERATIONS

TAXATION OF THE FUNDS

Each Fund intends to qualify as a regulated investment company under Subchapter
M of the  Internal  Revenue Code of 1986,  as amended (the Code).  Accordingly,
each  Fund will not be liable  for  federal  income  taxes on its  taxable  net
investment  income and net capital  gains  (capital  gains in excess of capital
losses)  that  are  distributed  to  shareholders,   provided  that  each  Fund
distributes  at  least  90% of its net  investment  income  and net  short-term
capital gain for the taxable year.

                                      13
<PAGE>

     To qualify as a regulated  investment  company,  a Fund must,  among other
things,  (1) derive in each  taxable year at least 90% of its gross income from
dividends,  interest, payments with respect to securities loans, gains from the
sale or other disposition of stock, securities, or foreign currencies, or other
income  derived  with  respect to its  business  of  investing  in such  stock,
securities or currencies (the 90% test) and (2) satisfy certain diversification
requirements  at the  close  of  each  quarter  of  the  Fund's  taxable  year.
Furthermore,  to pay tax-exempt interest income dividends,  at least 50% of the
value of each Fund's  total  assets at the close of each quarter of its taxable
year must consist of  obligations  the interest of which is exempt from federal
income tax. Each Fund intends to satisfy this requirement.

     The Code imposes a nondeductible  4% excise tax on a regulated  investment
company that fails to  distribute  during each calendar year an amount at least
equal  to the sum of (1)  98% of its  taxable  net  investment  income  for the
calendar  year,  (2) 98% of its  capital  gain net income for the  twelve-month
period  ending on October 31, and (3) any prior amounts not  distributed.  Each
Fund intends to make such distributions as are necessary to avoid imposition of
this excise tax.

     For federal income tax purposes,  debt  securities  purchased by the Funds
may be treated as having  original  issue  discount.  Original  issue  discount
represents interest income for federal income tax purposes and can generally be
defined as the  excess of the stated  redemption  price at  maturity  of a debt
obligation over the issue price. Original issue discount is treated for federal
income  tax  purposes  as earned by the  Funds,  whether  or not any  income is
actually received, and therefore is subject to the distribution requirements of
the  Code.  However,   original  issue  discount  with  respect  to  tax-exempt
obligations generally will be excluded from the Funds' taxable income, although
such  discount  will be included in gross  income for  purposes of the 90% test
described  previously.  Original  issue  discount  with  respect to  tax-exempt
securities  is accrued and added to the adjusted  tax basis of such  securities
for purposes of determining  gain or loss upon sale or at maturity.  Generally,
the amount of original  issue discount is determined on the basis of a constant
yield to maturity which takes into account the compounding of accrued interest.
An  investment  in a stripped  bond or stripped  coupon will result in original
issue discount.

     Debt securities may be purchased by the Funds at a market discount. Market
discount  occurs when a security is purchased at a price less than the original
issue price  adjusted for accrued  original issue  discount,  if any. The Funds
intend to defer  recognition of accrued market discount until maturity or other
disposition  of the bond. For securities  purchased at a market  discount,  the
gain realized on disposition  will be treated as taxable ordinary income to the
extent it does not exceed accrued market discount on the bond.

     The Funds may also  purchase  debt  securities  at a premium,  i.e.,  at a
purchase price in excess of face amount. With respect to tax-exempt securities,
the premium must be amortized to the maturity  date but no deduction is allowed
for the premium amortization. The amortized bond premium will reduce the Funds'
adjusted tax basis in the securities.  For taxable securities,  the premium may
be amortized if the Funds so elect. The amortized premium on taxable securities
is first offset against interest received on the securities and then allowed as
a deduction,  and, for  securities  issued after  September  27, 1985,  must be
amortized under an economic accrual method.

TAXATION OF THE SHAREHOLDERS

Taxable  distributions are generally  included in a shareholder's  gross income
for the taxable year in which they are received. Dividends declared in October,
November,  or December  and made  payable to  shareholders  of record in such a
month will be deemed to have been  received on December  31, if a Fund pays the
dividend during the following  January.  It is expected that none of the Funds'
distributions will qualify for the corporate dividends-received deduction.

     To the extent that a Fund's  dividends  distributed  to  shareholders  are
derived from interest  income exempt from federal income tax and are designated
as  "exempt-interest  dividends"  by a Fund,  they  will be  excludable  from a
shareholder's  gross income for federal income tax purposes.  Shareholders  who
are recipients of Social Security benefits should be aware that exempt-interest
dividends received from a Fund are includible in their "modified adjusted gross
income"  for  purposes  of  determining  the  amount  of such  Social  Security
benefits, if any, that are required to be included in their gross income.

     All  distributions of investment income during the year will have the same
percentage designated as tax-exempt.  This method is called the "average annual
method."  Since  the Funds  invest  primarily  in  tax-exempt  securities,  the
percentage will be substantially  the same as the amount actually earned during
any particular distribution period.

     A  shareholder  of  the  California  Bond  Fund  should  be  aware  that a
redemption  of shares  (including  any  exchange  into  another USAA Fund) is a
taxable event and, accordingly, a capital gain or loss may be

                                      14
<PAGE>

recognized.  If a shareholder receives an exempt-interest dividend with respect
to any share and such share has been held for six  months or less,  any loss on
the   redemption  or  exchange  will  be  disallowed  to  the  extent  of  such
exempt-interest  dividend.  Similarly,  if a shareholder of the Fund receives a
distribution  taxable as  long-term  capital gain with respect to shares of the
Fund and redeems or  exchanges  shares  before he or she has held them for more
than  six  months,  any  loss on the  redemption  or  exchange  (not  otherwise
disallowed as attributable to an  exempt-interest  dividend) will be treated as
long-term capital loss.

     The Funds may  invest in  private  activity  bonds.  Interest  on  certain
private  activity  bonds  issued  after  August  7,  1986,  is an  item  of tax
preference for purposes of the Federal Alternative Minimum Tax (AMT),  although
the interest  continues to be excludable  from gross income for other purposes.
AMT is a  supplemental  tax  designed to ensure that  taxpayers  pay at least a
minimum  amount of tax on their income,  even if they make  substantial  use of
certain tax deductions and  exclusions  (referred to as tax preference  items).
Interest from private activity bonds is one of the tax preference items that is
added to income from other  sources for the purposes of  determining  whether a
taxpayer  is  subject  to the AMT and the  amount  of any tax to be  paid.  For
corporate investors,  alternative minimum taxable income is increased by 75% of
the amount by which adjusted current earnings (ACE) exceeds alternative minimum
taxable  income  before  the  ACE  adjustment.  For  corporate  taxpayers,  all
tax-exempt  interest is considered in  calculating  the AMT as part of the ACE.
Prospective investors should consult their own tax advisers with respect to the
possible application of the AMT to their tax situation.

     Opinions  relating  to the  validity  of  tax-exempt  securities  and  the
exemption  of  interest  thereon  from  federal  income  tax  are  rendered  by
recognized  bond counsel to the issuers.  Neither the  Manager's nor the Funds'
counsel makes any review of the basis of such opinions.

                              CALIFORNIA TAXATION


The State of  California  has  adopted  legislation  incorporating  the federal
provisions  relating to regulated  investment  companies as of January 1, 1998.
Thus, to the extent the Funds distribute their income, they will be exempt from
the  California  franchise and corporate  income taxes as regulated  investment
companies under Section 24870 of the California Revenue and Taxation Code.

     In the year in which a Fund  qualifies as a regulated  investment  company
under the Code and is exempt from federal income tax, (1) the Fund will also be
exempt from the California  corporate  income and franchise taxes to the extent
it  distributes  its income and (2),  provided  50% or more of the value of the
total  assets  of the Fund at the close of each  quarter  of its  taxable  year
consists of obligations,  the interest on which (when held by an individual) is
exempt from personal  income  taxation under  California  law, the Fund will be
qualified   under   California   law  to  distribute   dividends   ("California
exempt-interest  dividends") which will be exempt from the California  personal
income tax. The Funds  intend to qualify  under the above  requirement  so that
they can distribute California  exempt-interest dividends. If the Funds fail to
so  qualify,  no part of their  dividends  will be exempt  from the  California
personal income tax.

     The portion of dividends constituting California exempt-interest dividends
is that portion  derived from interest on obligations  issued by California and
its  municipalities  and  localities,  (as  well  as  certain  territories  and
possessions of the United States such as Puerto Rico, the Virgin  Islands,  and
Guam),  the interest on which (when held by an individual)  is excludable  from
California  personal income under California law.  Distributions from the Funds
that are  attributable  to sources other than those  described in the preceding
sentence  generally will be taxable to such shareholders as ordinary income. In
addition,   distributions   other  than   exempt-interest   dividends  to  such
shareholders  are  includable  in income that may be subject to the  California
alternative  minimum  tax.  The  total  amount  of  California  exempt-interest
dividends  paid by each Fund to all of its  shareholders  with  respect  to any
taxable year cannot exceed the amount of interest  received by each Fund during
such  year  on  California   municipal   obligations   less  any  expenses  and
expenditures.  California  exempt-interest dividends are excludable from income
for  California  personal  income tax  purposes  only.  Any  dividends  paid to
shareholders  subject to the California franchise tax will be taxed as ordinary
dividends to such  shareholders  notwithstanding  that all or a portion of such
dividends are exempt from the California personal income tax.

     To the extent any portion of the dividends distributed to the shareholders
by the Funds are derived from taxable  interest for California  purposes or net
short-term  capital gains,  such portion will be taxable to the shareholders as
ordinary  income.  The  character  of  long-term  capital  gains  realized  and
distributed by the California  Bond Fund will flow through to its  shareholders
regardless  of  how  long  the  shareholders  have  held  their  shares.  If  a
shareholder of the Funds received any California  exempt-interest  dividends on
shares

                                      15
<PAGE>

thereafter  sold within six months of  acquisition,  then any realized loss, to
the extent of the amount of  exempt-interest  dividends  received prior to such
sale, will be disallowed.  Interest on indebtedness incurred by shareholders to
purchase or carry shares of the Funds' will not be  deductible  for  California
personal  income tax purposes.  Any loss realized upon the redemption of shares
within  30 days  before or after the  acquisition  of other  shares of the same
series may be disallowed under the "wash sale" rules.

     The  foregoing  is only a  summary  of some  of the  important  California
personal  income tax  considerations  generally  affecting  the Funds and their
shareholders.  No  attempt is made to  present a  detailed  explanation  of the
California  personal  income tax treatment of the Funds or their  shareholders,
and this  discussion  is not  intended as a  substitute  for careful  planning.
Accordingly, potential investors in the Funds should consult their tax advisers
with  respect to the  application  of  California  taxes to the  receipt of the
Funds' dividends and as to their own California tax situation.

                     DIRECTORS AND OFFICERS OF THE COMPANY

The Board of Directors of the Company consists of seven Directors who supervise
the business  affairs of the  Company.  Set forth below are the  Directors  and
officers of the Company, and their respective offices and principal occupations
during the last five years. Unless otherwise indicated, the business address of
each is 9800 Fredericksburg Road, San Antonio, TX 78288.

Robert G. Davis 1, 2
Director and Chairman of the Board of Directors
Age: 52

Chief  Operating  Officer  of United  Services  Automobile  Association  (USAA)
(6/99-present);  Deputy Chief Executive Officer for Capital  Management of USAA
(6/98-5/99); President, Chief Executive Officer, Director, and Vice Chairman of
the  Board  of  Directors  of  USAA  Capital  Corporation  and  several  of its
subsidiaries and affiliates (1/97-present); President, Chief Executive Officer,
Director,  and Chairman of the Board of Directors  of USAA  Financial  Planning
Network,  Inc.  (1/97-present);   Executive  Vice  President,  Chief  Operating
Officer,  Director,  and  Vice  Chairman  of the  Board  of  Directors  of USAA
Financial Planning Network, Inc.  (6/96-12/96);  Special Assistant to Chairman,
USAA  (6/96-12/96);  President  and Chief  Executive  Officer,  Banc One Credit
Corporation  (12/95-6/96);  and President and Chief Executive Officer, Banc One
Columbus,  (8/91-12/95). Mr. Davis serves as a Director/Trustee and Chairman of
the Boards of Directors/Trustees of each of the remaining funds within the USAA
Family of Funds;  Director  and  Chairman  of the Boards of  Directors  of USAA
Investment  Management Company (IMCO), USAA Shareholder Account Services,  USAA
Federal Savings Bank, and USAA Real Estate Company.

Michael J.C. Roth 1, 2
Director, President, and Vice Chairman of the Board of Directors
Age: 57

Chief Executive Officer, IMCO (10/93-present);  President,  Director,  and Vice
Chairman of the Board of  Directors,  IMCO  (1/90-present).  Mr. Roth serves as
President,   Director/Trustee,   and   Vice   Chairman   of   the   Boards   of
Directors/Trustees  of each of the  remaining  funds  within the USAA Family of
Funds and USAA Shareholder  Account  Services;  Director of USAA Life Insurance
Company; and Trustee and Vice Chairman of USAA Life Investment Trust.

John W. Saunders, Jr. 1, 2, 4
Director and Vice President
Age: 64

Senior Vice President,  Fixed Income  Investments,  IMCO  (10/85-present).  Mr.
Saunders serves as a Director/Trustee of each of the remaining funds within the
USAA  Family  of  Funds;  Director  of  IMCO;  Senior  Vice  President  of USAA
Shareholder Account Services, and Vice President of USAA Life Investment Trust.

                                      16
<PAGE>

Barbara B. Dreeben 3, 4, 5
200 Patterson #1008
San Antonio, TX  78209
Director
Age: 54

President,   Postal  Addvantage  (7/92-present);   Consultant,   Nancy  Harkins
Stationer  (8/91-12/95).  Mrs. Dreeben serves as a Director/Trustee  of each of
the remaining funds within the USAA Family of Funds.

Howard L. Freeman, Jr. 2, 3, 4, 5
2710 Hopeton
San Antonio, TX  78230
Director
Age: 64

Retired. Assistant General Manager for Finance, San Antonio City Public Service
Board  (1976-1996).  Mr.  Freeman serves as a  Director/Trustee  of each of the
remaining funds within the USAA Family of Funds.

Robert L. Mason, Ph.D. 3, 4, 5
12823 Queens Forest
San Antonio, TX  78230
Director
Age: 53

Staff Analyst,  Statistical  Analysis  Section,  Southwest  Research  Institute
(9/98-present);  Manager,  Statistical  Analysis  Section,  Southwest  Research
Institute (8/75-9/98).  Dr. Mason serves as a Director/Trustee of the remaining
funds within each of the USAA Family of Funds.

Richard A. Zucker 3, 4, 5
407 Arch Bluff
San Antonio, TX  78216
Director
Age: 56

Vice President, Beldon Roofing and Remodeling (1985-present). Mr. Zucker serves
as a Director/Trustee  of each of the remaining funds within the USAA Family of
Funds.

Michael D. Wagner 1
Secretary
Age: 51

Senior Vice President,  CAPCO General Counsel (01/99-present);  Vice President,
Corporate Counsel, USAA (1982-01/99).  Mr. Wagner has held various positions in
the  legal  department  of USAA  since  1970  and  serves  as  Vice  President,
Secretary, and Counsel, IMCO and USAA Shareholder Account Services;  Secretary,
of each of the remaining funds within the USAA Family of Funds; Vice President,
Corporate Counsel for various other USAA subsidiaries and affiliates.

Alex M. Ciccone 1
Assistant Secretary
Age: 49

Vice  President,  Compliance,  IMCO  (12/94-present);  Vice President and Chief
Operating Officer, Commonwealth Shareholder Services (6/94-11/94).  Mr. Ciccone
serves as Assistant  Secretary of each of the  remaining  funds within the USAA
Family of Funds.

Mark S. Howard 1
Assistant Secretary
Age: 35

Assistant Vice President,  Securities Counsel,  USAA (2/98-present);  Executive
Director,  Securities  Counsel,  USAA  (9/96-2/98);  Senior Associate  Counsel,
Securities  Counsel,  USAA  (5/95-8/96);  Attorney,  Kirkpatrick & Lockhart LLP
(9/90-4/95).  Mr.  Howard  serves as Assistant  Vice  President  and  Assistant
Secretary,  IMCO and USAA Shareholder Account Services;  Assistant Secretary of
each of the remaining funds within the

                                      17
<PAGE>

USAA Family of Funds;  and Assistant  Vice  President,  Securities  Counsel for
various other USAA subsidiaries and affiliates.

Sherron A. Kirk 1
Treasurer
Age: 54

Vice President, Senior Financial Officer, IMCO (8/98-present);  Vice President,
Controller,  IMCO  (10/92-8/98).  Mrs.  Kirk serves as Treasurer of each of the
remaining  funds  within  the USAA  Family of  Funds;  Vice  President,  Senior
Financial Officer of USAA Shareholder Account Services.

Caryl Swann 1
Assistant Treasurer
Age: 51

Executive  Director,  Mutual  Fund  Analysis & Support,  IMCO  (10/98-present);
Director, Mutual Fund Portfolio Analysis & Support, IMCO (2/98-10/98); Manager,
Mutual  Fund  Accounting,  IMCO  (7/92-2/98).  Ms.  Swann  serves as  Assistant
Treasurer for each of the remaining funds within the USAA Family of Funds.

- --------------------

1  Indicates  those  Directors and officers who are employees of the Manager or
   affiliated companies and are considered  "interested persons" under the 1940
   Act.
2  Member of Executive Committee
3  Member of Audit Committee
4  Member of Pricing and Investment Committee
5  Member of Corporate Governance Committee

     Between the meetings of the Board of Directors  and while the Board is not
in session,  the  Executive  Committee  of the Board of  Directors  has all the
powers  and may  exercise  all the  duties  of the  Board of  Directors  in the
management  of the business of the Company  which may be delegated to it by the
Board. The Pricing and Investment Committee of the Board of Directors acts upon
various  investment-related  issues and other matters which have been delegated
to it by the Board.  The Audit Committee of the Board of Directors  reviews the
financial  statements and the auditor's reports and undertakes  certain studies
and analyses as directed by the Board.  The Corporate  Governance  Committee of
the Board of Directors  maintains  oversight of the organization,  performance,
and effectiveness of the Board and Independent Directors.

     In addition to the  previously  listed  Directors  and/or  officers of the
Company  who also  serve as  Directors  and/or  officers  of the  Manager,  the
following  individuals are Directors and/or executive  officers of the Manager:
Carl W. Shirley, Senior Vice President,  Insurance Company Portfolios;  John J.
Dallahan,  Senior Vice President,  Investment  Services;  and David G. Peebles,
Senior Vice President,  Equity Investments.  There are no family  relationships
among the Directors, officers and managerial level employees of the Company, or
its Manager.

     The following table sets forth information  describing the compensation of
the current  Directors of the Company for their  services as Directors  for the
fiscal year ended March 31, 1999.

              NAME                 AGGREGATE          TOTAL COMPENSATION
               OF                 COMPENSATION           FROM THE USAA
            DIRECTOR            FROM THE COMPANY      FAMILY  OF  FUNDS(b)
         ------------           ----------------      --------------------
         Robert G. Davis             None (a)                  None (a)
         Barbara B. Dreeben        $9,678                   $36,500
         Howard L. Freeman, Jr.    $9,678                   $36,500
         Robert L. Mason           $9,678                   $36,500
         Michael J.C. Roth           None (a)                  None (a)
         John W. Saunders, Jr.       None (a)                  None (a)
         Richard A. Zucker         $9,678                   $36,500

- -------------

(a)  Robert  G. Davis,  Michael  J.C.  Roth,  and  John  W.  Saunders,  Jr. are
     affiliated with the Company's investment adviser,  IMCO, and, accordingly,
     receive  no  remuneration  from the  Company or any other Fund of the USAA
     Family of Funds.

                                      18
<PAGE>

(b)  At March 31, 1999, the USAA Family of Funds  consisted of four  registered
     investment companies offering 35 individual funds. Each Director presently
     serves as a Trustee or  Director  of each  investment  company in the USAA
     Family of Funds.  In addition,  Michael J.C.  Roth  presently  serves as a
     Trustee of USAA Life  Investment  Trust, a registered  investment  company
     advised by IMCO,  consisting  of seven funds  available to the public only
     through the purchase of certain  variable  annuity  contracts and variable
     life insurance policies offered by USAA Life Insurance  Company.  Mr. Roth
     receives no compensation as Trustee of USAA Life Investment Trust.

All of the above  Directors  are also  Trustees/Directors  of the  other  funds
within the USAA  Family of Funds.  No  compensation  is paid by any fund to any
Trustee/Director  who is a  director,  officer,  or  employee  of  IMCO  or its
affiliates.  No  pension or  retirement  benefits  are  accrued as part of fund
expenses.  The Company reimburses certain expenses of the Directors who are not
affiliated with the investment  adviser. As  of  May 14, 1999, the officers and
Directors of the Company and their families as a group owned beneficially or of
record less than 1% of the outstanding shares of the Company.

     The following table identifies all persons, who as of  May  14, 1999, held
of record or owned beneficially 5% or more of either Fund's shares.

                           NAME AND ADDRESS
     TITLE OF CLASS       OF BENEFICIAL OWNER          PERCENT OF CLASS
     ---------------      -------------------          -----------------
    California Money      Idanta Partners Ltd.               6.7%
      Market Fund         4660 La Jolla Village Dr.
                          San Diego, CA  92122-4606

    California Money      David J Dunn                       5.0%
      Market Fund         Trst Dunn Family Trust
                          660 La Jolla Village Dr.
                          San Diego, CA  92122-4606

                             THE COMPANY'S MANAGER

As described  in the  Prospectus,  USAA  Investment  Management  Company is the
Manager  and  investment   adviser,   providing  services  under  the  Advisory
Agreement.  The Manager, a wholly owned indirect  subsidiary of United Services
Automobile   Association  (USAA),  a  large,   diversified  financial  services
institution, was organized in May 1970 and has served as investment adviser and
underwriter for USAA Tax Exempt Fund, Inc. from its inception.

     In addition to managing  the  Company's  assets,  the Manager  advises and
manages the investments for USAA and its affiliated  companies as well as those
of USAA Mutual Fund,  Inc.; USAA Investment  Trust,  USAA State Tax-Free Trust,
and USAA Life Investment  Trust. As of the date of this SAI, total assets under
management   by  the  Manager  were   approximately   $__  billion,   of  which
approximately $__ billion were in mutual fund portfolios.

ADVISORY AGREEMENT

Under the  Advisory  Agreement,  the Manager  provides an  investment  program,
carries out the investment  policy,  and manages the portfolio  assets for each
Fund.  The  Manager  is  authorized,  subject  to the  control  of the Board of
Directors of the Company,  to determine the selection,  amount, and time to buy
or sell securities for each Fund. In addition to providing investment services,
the  Manager  pays  for  office  space,  facilities,  business  equipment,  and
accounting  services (in addition to those  provided by the  Custodian) for the
Company. The Manager compensates all personnel,  officers, and Directors of the
Company if such persons are also  employees  of the Manager or its  affiliates.
For these services under the Advisory Agreement,  the Company has agreed to pay
the  Manager  a  fee  computed  as  described  under  FUND  MANAGEMENT  in  the
Prospectus. Management fees are computed and accrued daily and payable monthly.

     Except for the services and facilities provided by the Manager,  the Funds
pay all other  expenses  incurred in their  operations.  Expenses for which the
Funds  are  responsible  include  taxes  (if  any);  brokerage  commissions  on
portfolio transactions (if any); expenses of issuance and redemption of shares;
charges of transfer agents,  custodians,  and dividend disbursing agents; costs
of preparing and distributing  proxy material;  costs of printing and engraving
stock   certificates;   auditing  and  legal  expenses;   certain  expenses  of
registering  and  qualifying  shares for sale;  fees of  Directors  who are not
interested  persons  (not  affiliated)  of the  Manager;  costs of printing and
mailing the Prospectus, SAI, and periodic reports to existing

                                     19
<PAGE>

shareholders;  and any other charges or fees not specifically  enumerated.  The
Manager pays the cost of printing  and mailing  copies of the  Prospectus,  the
SAI, and reports to prospective shareholders.

     The Advisory Agreement will remain in effect until June 30, 2000, for each
Fund and will continue in effect from year to year  thereafter for each Fund as
long as it is approved at least  annually by a vote of the  outstanding  voting
securities  of such  Fund  (as  defined  by the  1940  Act) or by the  Board of
Directors  (on behalf of such Fund)  including a majority of the  Directors who
are not interested  persons of the Manager or (otherwise  than as Directors) of
the Company,  at a meeting  called for the purpose of voting on such  approval.
The Advisory  Agreement  may be terminated at any time by either the Company or
the Manager on 60 days' written notice. It will automatically  terminate in the
event of its assignment (as defined in the 1940 Act).

     From time to time the Manager may,  without prior notice to  shareholders,
waive all or any portion of fees or agree to reimburse  expenses  incurred by a
Fund. Any such waiver or reimbursement  may be terminated by the Manager at any
time without prior notice to shareholders.

     For the  last  three  fiscal  years,  the  Company  paid the  Manager  the
following fees:

                                   1997           1998            1999
                                ----------      ----------      ----------
  California Bond Fund          $1,366,876      $1,547,374      $1,842,748
  California Money Market Fund  $1,004,583      $1,212,332      $1,250,763

UNDERWRITER

The Company has an agreement  with the Manager for exclusive  underwriting  and
distribution  of the Funds'  shares on a continuing  best efforts  basis.  This
agreement  provides that the Manager will receive no fee or other  compensation
for such distribution services.

TRANSFER AGENT

The Transfer  Agent  performs  transfer  agent services for the Company under a
Transfer Agency Agreement.  Services include maintenance of shareholder account
records,  handling of communications  with  shareholders,  distribution of Fund
dividends,  and  production  of reports  with  respect to account  activity for
shareholders  and the  Company.  For its  services  under the  Transfer  Agency
Agreement,  each Fund pays the Transfer Agent an annual fixed fee of $28.50 per
account. This fee is subject to change at any time.

     The fee to the Transfer Agent includes  processing of all transactions and
correspondence.  Fees are billed on a monthly basis at the rate of  one-twelfth
of the annual fee. In addition,  each Fund pays all  out-of-pocket  expenses of
the  Transfer  Agent and other  expenses  which are  incurred  at the  specific
direction of the Company.

                              GENERAL INFORMATION

CUSTODIAN

State Street Bank and Trust Company,  P.O. Box 1713,  Boston,  MA 02105, is the
Company's  Custodian.  The Custodian is  responsible  for,  among other things,
safeguarding  and controlling  the Company's cash and securities,  handling the
receipt and delivery of securities,  and  collecting  interest on the Company's
investments.

COUNSEL

Goodwin,  Procter & Hoar LLP,  Exchange Place,  Boston,  MA 02109,  will review
certain legal matters for the Company in connection  with the shares offered by
the Prospectus.

INDEPENDENT AUDITORS

KPMG LLP, 112 East Pecan,  Suite 2400, San Antonio,  TX 78205, is the Company's
independent auditor. In this capacity, the firm is responsible for auditing the
annual financial statements of the Funds and reporting thereon.

                        CALCULATION OF PERFORMANCE DATA

Information regarding the total return and yield of each Fund is provided under
COULD THE VALUE OF YOUR INVESTMENT IN THESE FUNDS FLUCTUATE? in the Prospectus.
See VALUATION OF SECURITIES herein for a discussion of the manner in which each
Fund's price per share is calculated.

                                      20
<PAGE>

TOTAL RETURN

The California  Bond Fund may advertise  performance in terms of average annual
total return for 1-, 5-, and 10-year periods,  or for such lesser period as the
Fund has been in existence.  Average annual total return is computed by finding
the average  annual  compounded  rates of return  over the  periods  that would
equate the initial amount invested to the ending redeemable value, according to
the following formula:

                                P(1 + T)N = ERV

      Where:     P  =  a hypothetical initial payment of $1,000
                 T  =  average annual total return
                 n  =  number of years
               ERV  =  ending redeemable value of a hypothetical $1,000 payment
                       made at the beginning of the  1-, 5-, or 10-year periods
                       at the end of the year or period

     The  calculation  assumes all charges are deducted from the initial $1,000
payment and assumes all dividends and distributions by such Fund are reinvested
at the price  stated in the  Prospectus  on the  reinvestment  dates during the
period and  includes  all  recurring  fees that are charged to all  shareholder
accounts.

     The date of  commencement  of operations for the California  Bond Fund was
August 1, 1989.  The Fund's  average annual total returns for the periods ended
March 31, 1999 were:

  1 year. . .   6.46%     5 years . . .  8.30%      Since inception . . 7.74%

YIELD

The California  Bond Fund may advertise  performance in terms of a 30-day yield
quotation.  The  30-day  yield  quotation  is  computed  by  dividing  the  net
investment  income per share earned  during the period by the maximum  offering
price  per  share on the last day of the  period,  according  to the  following
formula:
                         Yield = 2[((a-b)/(cd)+1)^6 -1]

      Where:     a  =  dividends and interest earned during the period
                 b  =  expenses accrued for the period (net of reimbursement)
                 c  =  the average  daily number of shares  outstanding  during
                       the period that were entitled to receive dividends
                 d  =  the maximum offering price per share on the last day of
                       the period

     For purposes of the yield  calculation,  interest income is computed based
on the yield to maturity of each debt  obligation  in the Fund's  portfolio and
all recurring charges are recognized.

     The Fund's 30-day yield for the period ended March 31, 1999 was 4.12%.


YIELD - CALIFORNIA MONEY MARKET FUND

When the California Money Market Fund quotes a current  annualized yield, it is
based on a specified recent  seven-calendar-day  period.  It is computed by (1)
determining the net change,  exclusive of capital changes and income other than
investment income, in the value of a hypothetical  preexisting account having a
balance of one share at the  beginning  of the  period,  (2)  dividing  the net
change in account  value by the value of the  account at the  beginning  of the
base period to obtain the base  return,  then (3)  multiplying  the base period
return by 52.14 (365/7).  The resulting  yield figure is carried to the nearest
hundredth of one percent.

     The calculation includes (1) the value of additional shares purchased with
dividends on the original  share,  and dividends  declared on both the original
share  and  any  such  additional  shares  and  (2)  any  fees  charged  to all
shareholder  accounts,  in  proportion to the length of the base period and the
Fund's average account size.

     The capital changes  excluded from the  calculation  are realized  capital
gains and losses from the sale of securities  and unrealized  appreciation  and
depreciation.  The Fund's  effective  (compounded)  yield will be  computed  by
dividing the seven-day  annualized  yield as defined above by 365,  adding 1 to
the quotient,  raising the sum to the 365th power,  and  subtracting 1 from the
result.

     Current and effective  yields  fluctuate  daily and will vary with factors
such as  interest  rates and the  quality,  length of  maturities,  and type of
investments in the portfolio.

            Yield for 7-day Period Ended March 31, 1999, was 2.66%.
       Effective Yield for 7-day Period Ended March 31, 1999, was 2.70%.

                                   21
<PAGE>

TAX-EQUIVALENT YIELD

A  tax-exempt  mutual fund may  provide  more  "take-home"  income than a fully
taxable mutual fund after paying taxes.  Calculating a  "tax-equivalent  yield"
means converting a tax-exempt yield to a pretax equivalent so that a meaningful
comparison can be made between a tax-exempt  municipal fund and a fully taxable
fund. The California Money Market Fund may advertise  performance in terms of a
tax-equivalent  yield  based on the  7-day  yield or  effective  yield  and the
California   Bond  Fund  may  advertise   performance  in  terms  of  a  30-day
tax-equivalent yield.

     To calculate a tax-equivalent yield, the California investor must know his
Effective  Marginal Tax Rate or EMTR.  Assuming an investor  can fully  itemize
deductions on his or her federal tax return, the EMTR is the sum of the federal
marginal  tax rate and the state  marginal  tax rate  adjusted  to reflect  the
deductibility  of state  taxes from  federal  taxable  income.  The formula for
computing  the EMTR to compare with fully  taxable  securities  subject to both
federal and state taxes is:

         EMTR = Federal Marginal Tax Rate + [State Marginal Tax Rate x
                         (1-Federal Marginal Tax Rate)]

     The tax-equivalent yield is then computed by dividing the tax-exempt yield
of a fund by the complement of the EMTR.  The  complement,  for example,  of an
EMTR of 41.9% is 58.1%, that is (1.00-0.419=0.581).

   Tax-Equivalent Yield = Tax-Exempt Yield / (1-Effective Marginal Tax Rate)

     Using a federal  marginal  tax rate of 36% and state  marginal tax rate of
9.30%,  resulting  in an EMTR of  41.95%,  the  tax-equivalent  yields  for the
California  Bond and  California  Money Market Funds for the period ended March
31, 1999 were 7.10% and 4.58%, respectively.


              APPENDIX A - TAX-EXEMPT SECURITIES AND THEIR RATINGS

TAX-EXEMPT SECURITIES

Tax-exempt  securities  generally include debt obligations issued by states and
their   political   subdivisions,   and  duly   constituted   authorities   and
corporations,  to obtain funds to construct,  repair or improve  various public
facilities such as airports,  bridges, highways,  hospitals,  housing, schools,
streets, and water and sewer works. Tax-exempt securities may also be issued to
refinance  outstanding  obligations  as well as to  obtain  funds  for  general
operating expenses and for loans to other public institutions and facilities.

     The two principal  classifications  of tax-exempt  securities are "general
obligations" and "revenue" or "special tax" bonds. General obligation bonds are
secured by the issuer's  pledge of its full faith,  credit and taxing power for
the payment of principal and interest. Revenue or special tax bonds are payable
only  from  the  revenues  derived  from a  particular  facility  or  class  of
facilities  or, in some cases,  from the proceeds of a special  excise or other
tax, but not from general tax revenues. The Funds may also invest in tax-exempt
private activity bonds,  which in most cases are revenue bonds and generally do
not have the pledge of the credit of the issuer.  The payment of the  principal
and  interest  on such  industrial  revenue  bonds is  dependent  solely on the
ability  of the  user of the  facilities  financed  by the  bonds  to meet  its
financial  obligations and the pledge, if any, of real and personal property so
financed as security for such payment. There are, of course, many variations in
the terms of, and the security underlying,  tax-exempt  securities.  Short-term
obligations  issued by states,  cities,  municipalities or municipal  agencies,
include Tax Anticipation Notes,  Revenue  Anticipation Notes, Bond Anticipation
Notes, Construction Loan Notes, and Short-Term Notes.

     The yields of tax-exempt securities depend on, among other things, general
money market conditions,  conditions of the tax-exempt bond market, the size of
a particular  offering,  the maturity of the obligation,  and the rating of the
issue. The ratings of Moody's Investors  Service,  Inc.  (Moody's),  Standard &
Poor's Ratings Group (S&P),  Fitch IBCA, Inc. (Fitch),  Duff & Phelps Inc., and
Thompson  BankWatch,  Inc.  represent  their  opinions  of the  quality  of the
securities rated by them. It should be emphasized that such ratings are general
and are not absolute  standards of quality.  Consequently,  securities with the
same maturity,  coupon, and rating may have different yields,  while securities
of the same  maturity and coupon but with  different  ratings may have the same
yield. It will be the  responsibility of the Manager to appraise  independently
the  fundamental  quality of the  tax-exempt  securities  included  in a Fund's
portfolio.

1.  LONG-TERM DEBT RATINGS:

MOODY'S INVESTOR SERVICES, INC.

Aaa      Bonds which are rated Aaa are judged to be of the best  quality.  They
         carry  the  smallest  degree  of  investment  risk  and are  generally
         referred to as "gilt  edged."  Interest  payments  are  protected by a
         large or by an  exceptionally  stable  margin and principal is secure.
         While the  various  protective

                                     22
<PAGE>
         elements  are likely to  change,  such  changes as can be  visualized
         are most unlikely to impair the fundamentally strong position of such
         issues.

Aa       Bonds  which are  rated Aa are  judged  to be of high  quality  by all
         standards.  Together  with  the  Aaa  group  they  comprise  what  are
         generally  known as  high-grade  bonds.  They are rated lower than the
         best bonds because margins of protection may not be as large as in Aaa
         securities or  fluctuation  of  protective  elements may be of greater
         amplitude  or  there  may be other  elements  present  which  make the
         long-term risk appear somewhat larger than in Aaa securities.

A        Bonds which are rated A possess many favorable  investment  attributes
         and are to be considered as  upper-medium-grade  obligations.  Factors
         giving security to principal and interest are considered adequate, but
         elements may be present which suggest a  susceptibility  to impairment
         some time in the future.

Baa      Bonds which are rated Baa are considered as medium-grade  obligations,
         (i.e., they are neither highly protected nor poorly secured). Interest
         payments and principal  security  appear  adequate for the present but
         certain    protective    elements   may   be   lacking   or   may   be
         characteristically  unreliable  over any great  length  of time.  Such
         bonds lack  outstanding  investment  characteristics  and in fact have
         speculative characteristics as well.

NOTE:  MOODY'S APPLIES  NUMERICAL  MODIFIERS 1, 2, AND 3 IN EACH GENERIC RATING
CLASSIFICATION.  THE  MODIFIER 1  INDICATES  THAT THE  OBLIGATION  RANKS IN THE
HIGHER END OF ITS GENERIC RATING CATEGORY, THE MODIFIER 2 INDICATES A MID-RANGE
RANKING,  AND THE  MODIFIER  3  INDICATES  A  RANKING  IN THE LOWER END OF THAT
GENERIC RATING CATEGORY.

STANDARD & POOR'S RATINGS GROUP (S&P)

AAA      An obligation  rated AAA has the highest rating assigned by Standard &
         Poor's. The obligor's capacity to meet its financial commitment on the
         obligation is EXTREMELY STRONG.

AA       An  obligation  rated AA differs from the highest rated issues only in
         small degree. The obligor's capacity to meet its financial  commitment
         on the obligation is VERY STRONG.

A        An  obligation  rated A is somewhat  more  susceptible  to the adverse
         effects of changes  in  circumstances  and  economic  conditions  than
         obligations  in  higher  rated  categories.   However,  the  obligor's
         capacity to meet its financial  commitment on the  obligation is still
         STRONG

BBB      An obligation rated BBB exhibits ADEQUATE capacity to pay interest and
         repay  principal.  However,  adverse  economic  conditions or changing
         circumstances  are more  likely to lead to a weakened  capacity of the
         obligor to meet its financial commitment on the obligation.

PLUS  (+) OR MINUS  (-):  THE  RATINGS  FROM AA TO BBB MAY BE  MODIFIED  BY THE
ADDITION  OF A PLUS OR MINUS SIGN TO SHOW  RELATIVE  STANDING  WITHIN THE MAJOR
RATING CATEGORIES.

FITCH IBCA, INC.

AAA      Highest credit quality. "AAA" ratings denote the lowest expectation of
         credit risk.  They are assigned only in case of  exceptionally  strong
         capacity for timely payment of financial commitments. This capacity is
         highly unlikely to be adversely affected by foreseeable events.

AA       Very high credit  quality.  "AA" ratings denote a very low expectation
         of  credit  risk.  They  indicate very  strong  capacity  for  timely
         payment of financial commitments.  This capacity is not  significantly
         vulnerable to foreseeable events.

A        High credit  quality.  "A" ratings denote a low  expectation of credit
         risk.  The capacity for timely  payment of  financial  commitments  is
         considered strong. This capacity may, nevertheless, be more vulnerable
         to changes in circumstances or in economic conditions than is the case
         for higher ratings.

BBB      Good credit quality.  "BBB" ratings indicate that there is currently a
         low  expectation  of credit risk.  The capacity for timely  payment of
         financial  commitments is considered adequate,  but adverse changes in
         circumstances  and in  economic  conditions  are more likely to impair
         this capacity. This is the lowest investment-grade category.

PLUS AND MINUS  SIGNS ARE USED WITH A RATING  SYMBOL TO INDICATE  THE  RELATIVE
POSITION OF A CREDIT WITHIN THE RATING CATEGORY. PLUS AND MINUS SIGNS, HOWEVER,
ARE NOT USED IN THE AAA CATEGORY.

DUFF & PHELPS, INC.

AAA      Highest credit quality.  The risk factors are  negligible,  being only
         slightly more than for risk-free U.S. Treasury debt.

                                      23
<PAGE>

AA       High credit quality. Protection factors are strong. Risk is modest but
         may vary slightly from time to time because of economic conditions.

A        Protection factors are average but adequate. However, risk factors are
         more variable and greater in periods of economic stress.

BBB      Below average protection  factors but still considered  sufficient for
         prudent investment.  Considerable  variability in risk during economic
         cycles.

2. SHORT-TERM DEBT RATINGS:

MOODY'S STATE AND TAX-EXEMPT NOTES

MIG-1/VMIG1       This  designation  denotes  best  quality.  There is  present
                  strong   protection  by  established  cash  flows,   superior
                  liquidity support, or demonstrated  broad-based access to the
                  market for refinancing.

MIG-2/VMIG2       This designation denotes high quality.  Margins of protection
                  are ample although not so large as in the preceding group.

MOODY'S COMMERCIAL PAPER

Prime-1    Issuers rated Prime-1 (or supporting  institutions)  have a superior
           ability for repayment of senior short-term debt obligations. Prime-1
           repayment  ability will often be evidenced by many of the  following
           characteristics:

           *   Leading market positions in well-established industries.
           *   High rates of return on funds employed.
           *   Conservative capitalization structures with moderate reliance on
               debt and ample asset protection.
           *   Broad margins in earning coverage of fixed financial charges and
               high internal cash generation.
           *   Well-established  access  to  a  range  of financial markets and
               assured sources of alternate liquidity.

Prime-2    Issuers rated  Prime-2 (or  supporting  institutions)  have a strong
           ability for repayment of senior  short-term debt  obligations.  This
           will  normally be  evidenced  by many of the  characteristics  cited
           above but to a lesser degree.  Earnings trends and coverage  ratios,
           while  sound,  may be  more  subject  to  variation.  Capitalization
           characteristics,  while still  appropriate,  may be more affected by
           external conditions. Ample alternate liquidity is maintained.

S&P TAX-EXEMPT NOTES

SP-1     Strong  capacity to pay principal and interest.  Issues  determined to
         possess very strong characteristics are given a plus (+) designation.

SP-2     Satisfactory  capacity  to  pay  principal  and  interest,  with  some
         vulnerability to adverse  financial and economic changes over the term
         of the notes.

S&P COMMERCIAL PAPER

A-1      This highest  category  indicates that the degree of safety  regarding
         timely payment is strong. Those issues determined to possess extremely
         strong  safety  characteristics  are  denoted  with  a plus  (+)  sign
         designation.

A-2      Capacity  for  timely  payment  on  issues  with this  designation  is
         satisfactory. However, the relative degree of safety is not as high as
         for issues designated A-1.

FITCH'S COMMERCIAL PAPER, CERTIFICATES OF DEPOSIT, AND TAX-EXEMPT NOTES

F-1+     Exceptionally  strong credit quality.  Issues assigned this rating are
         regarded  as having  the  strongest  degree of  assurance  for  timely
         payment.

F-1      Very strong credit  quality.  Issues  assigned this rating  reflect an
         assurance of timely  payment only  slightly less in degree than issues
         rated F-1+.

F-2      Good credit  quality.  Issues assigned this rating have a satisfactory
         degree of assurance  for timely  payment,  but the margin of safety is
         not as great as for issues assigned F-1+ and F-1 ratings.

                                      24
<PAGE>

DUFF & PHELPS COMMERCIAL PAPER

D-1+     Highest certainty  of timely payment.  Short-term liquidity, including
         internal  operating  factors and/or access to alternative  sources of
         funds, is  outstanding,  and  safety  is  just  below  risk-free  U.S.
         Treasury short-term obligations.

D-1      Very high certainty of timely payment. Liquidity factors are excellent
         and supported by good fundamental protection factors. Risk factors are
         minor.

D-1-     High  certainty of timely  payment.  Liquidity  factors are strong and
         supported by good  fundamental  protection  factors.  Risk factors are
         very small.

D-2      Good  certainty  of timely  payment.  Liquidity  factors  and  company
         fundamentals  are sound.  Although  ongoing  funding needs may enlarge
         total financing requirements,  access to capital markets is good. Risk
         factors are small.

THOMPSON BANKWATCH, INC.

TBW-1    The highest category;  indicates a very high likelihood that principal
         and interest will be paid on a timely basis.

TBW-2    The second  highest  category;  while the  degree of safety  regarding
         timely  repayment  of principal  and interest is strong,  the relative
         degree of safety is not as high as for issues rated TBW-1.

TBW-3    The  lowest  investment-grade  category;   indicates  that  while  the
         obligation is more susceptible to adverse  developments (both internal
         and external) than those with higher ratings,  the capacity to service
         principal and interest in a timely fashion is considered adequate.

                APPENDIX B - COMPARISON OF PORTFOLIO PERFORMANCE

Occasionally,  we may make  comparisons  in  advertising  and sales  literature
between the Funds  contained  in this SAI and other Funds in the USAA Family of
Funds. These comparisons may include such topics as risk and reward, investment
objectives, investment strategies, and performance.

     Fund  performance  also may be compared to the performance of broad groups
of  mutual  funds  with  similar  investment  goals  or  unmanaged  indexes  of
comparable  securities.  Evaluations  of Fund  performance  made by independent
sources may be used in advertisements  concerning the Fund,  including reprints
of, or selections from,  editorials or articles about the Fund. The Fund or its
performance  may also be compared to products  and  services  not  constituting
securities  subject to  registration  under the Securities Act of 1933 such as,
but not limited to, certificates of deposit and money market accounts.  Sources
for performance information and articles about the Fund may include but are not
restricted to the following:

AAII  JOURNAL,  a monthly  association  magazine  for  members of the  American
Association of Individual Investors.

ARIZONA REPUBLIC, a newspaper that may cover financial and investment news.

AUSTIN AMERICAN-STATESMAN, a newspaper that may cover financial news.

BARRON'S,  a Dow Jones and Company,  Inc.  business and  financial  weekly that
periodically  reviews  mutual fund performance data.

THE BOND BUYER, a daily newspaper that covers bond market news.

BUSINESS  WEEK,  a national  business  weekly  that  periodically  reports  the
performance rankings and ratings of a variety of mutual funds.

CHICAGO TRIBUNE, a newspaper that may cover financial news.

CONSUMER  REPORTS,  a  monthly  magazine  that  from  time to time  reports  on
companies in the mutual fund industry.

DALLAS MORNING NEWS, a newspaper that may cover financial news.

DENVER POST, a newspaper that may quote financial news.

FINANCIAL PLANNING, a monthly magazine that periodically  features companies in
the mutual fund industry.

FINANCIAL SERVICES WEEK, a weekly newspaper that covers financial news.

FINANCIAL WORLD, a monthly magazine that periodically features companies in the
mutual fund industry.

FORBES,  a  national  business   publication  that  periodically   reports  the
performance of companies in the mutual fund industry.

                                     25
<PAGE>

FORTUNE,   a  national  business   publication  that  periodically   rates  the
performance of a variety of mutual funds.

FUND ACTION, a mutual fund news report.

HOUSTON CHRONICLE, a newspaper that may cover financial news.

HOUSTON POST, a newspaper that may cover financial news.

IBC'S MONEY FUND REPORT,  a weekly  publication  of IBC Financial  Data,  Inc.,
reporting on the  performance of the nation's  money market funds,  summarizing
money market fund  activity,  and  including  certain  averages as  performance
benchmarks, specifically: (1) Taxable Money Fund Averages: "100% U.S. Treasury"
and "First Tier" and (2) Tax-Free Money Fund Averages: "Stockbroker and General
Purpose" and "State Specific Stockbroker and General Purpose."

IBC'S MONEY MARKET INSIGHT,  a monthly money market industry  analysis prepared
by IBC Financial Data, Inc.

IBC'S  MONEYLETTER,  a biweekly  newsletter that covers financial news and from
time to time rates specific mutual funds.

INCOME AND SAFETY, a monthly newsletter that rates mutual funds.

INVESTECH, a bimonthly investment newsletter.

INVESTMENT  ADVISOR,  a monthly  publication  directed primarily to the advisor
community; includes ranking of mutual funds using a proprietary methodology.

INVESTMENT  COMPANY  INSTITUTE,   the  national  association  of  the  American
Investment Company industry.

INVESTOR'S BUSINESS DAILY, a newspaper that covers financial news.

KIPLINGER'S   PERSONAL  FINANCE  MAGAZINE,   a  monthly   investment   advisory
publication  that  periodically  features  the  performance  of  a  variety  of
securities.

LIPPER ANALYTICAL SERVICES,  INC.'S EQUITY FUND PERFORMANCE  ANALYSIS, a weekly
and monthly  publication of industry-wide  mutual fund performance  averages by
type of fund.

LIPPER ANALYTICAL  SERVICES,  INC.'S FIXED INCOME FUND PERFORMANCE  ANALYSIS, a
monthly publication of industry-wide  mutual fund performance  averages by type
of fund.

LOS ANGELES TIMES, a newspaper that may cover financial news.

LOUIS RUKEYSER'S WALL STREET, a publication for investors.

MEDICAL  ECONOMICS,  a monthly  magazine  providing  information to the medical
profession.

MONEY, a monthly  magazine that features the performance of both specific funds
and the mutual fund industry as a whole.

MORNINGSTAR 5 STAR INVESTOR,  a monthly  newsletter that covers  financial news
and rates  mutual  funds  produced by  Morningstar,  Inc. (a data  service that
tracks open-end mutual funds).

MUNI BOND FUND REPORT,  a monthly  newsletter that covers news on the municipal
bond market and features performance data for municipal bond mutual funds.

MUNIWEEK, a weekly newspaper that covers news on the municipal bond market.

MUTUAL FUND FORECASTER, a monthly newsletter that ranks mutual funds.

MUTUAL FUND INVESTING, a newsletter covering mutual funds.

MUTUAL  FUND  PERFORMANCE   REPORT,  a  monthly   publication  of  mutual  fund
performance and rankings, produced by Morningstar, Inc.

MUTUAL  FUNDS  MAGAZINE,  a  monthly  publication   reporting  on  mutual  fund
investing.

MUTUAL FUND SOURCE BOOK, an annual publication  produced  by  Morningstar, Inc.
that  describes and rates mutual funds.

MUTUAL  FUND  VALUES,  a  biweekly   guidebook  to  mutual  funds  produced  by
Morningstar, Inc.

NEWSWEEK, a national business weekly.

NEW YORK TIMES, a newspaper that may cover financial news.

NO LOAD FUND  INVESTOR,  a  newsletter  covering  companies  in the mutual fund
industry.

ORLANDO SENTINEL, a newspaper that may cover financial news.

                                     26
<PAGE>

PERSONAL  INVESTOR,  a monthly  magazine that from time to time features mutual
fund companies and the mutual fund industry.

SAN ANTONIO  BUSINESS  JOURNAL,  a weekly  newspaper that  periodically  covers
mutual fund companies as well as financial news.

SAN ANTONIO EXPRESS-NEWS, a newspaper that may cover financial news.

SAN FRANCISCO CHRONICLE, a newspaper that may cover financial news.

SMART MONEY,  a monthly  magazine  featuring news and articles on investing and
mutual funds.

USA TODAY, a newspaper that may cover financial news.

U.S. NEWS AND  WORLD  REPORT, a  national  business  weekly  that  periodically
reports mutual fund performance data.

WALL STREET JOURNAL, a  Dow  Jones  and  Company,  Inc.  newspaper  that covers
financial news.

WASHINGTON POST, a newspaper that may cover financial news.

WEISENBERGER  MUTUAL FUNDS INVESTMENT REPORT, a monthly newsletter that reports
on both specific mutual fund companies and the mutual fund industry as a whole.

WORTH,  a magazine that covers  financial  and  investment  subjects  including
mutual funds.

YOUR MONEY, a monthly magazine directed towards the novice investor.

     In  addition to the sources  above,  performance  of our Funds may also be
tracked by Lipper  Analytical  Services,  Inc. and Morningstar,  Inc. Each Fund
will be  compared  to  Lipper's  or  Morningstar's  appropriate  fund  category
according  to  its   objective(s)   and   portfolio   holdings.   Footnotes  in
advertisements  and  other  sales  literature  will  include  the  time  period
applicable for any rankings used.

     For comparative  purposes,  unmanaged indices of comparable  securities or
economic data may be cited. Examples include the following:

     -Shearson  Lehman Hutton Bond Indices,  indices of fixed-rate  debt issues
rated investment grade or higher which can be found in the BOND MARKET REPORT.

     -Bond  Buyer  Indices,  indices  of debt of varying  maturities  including
revenue bonds,  general  obligation bonds, and U.S. Treasury bonds which can be
found in MUNIWEEK and THE BOND BUYER.

     Other  sources for total  return and other  performance  data which may be
used by the Funds or by those  publications  listed  previously  are  Schabaker
Investment Management and Investment Company Data, Inc. These are services that
collect and compile data on mutual fund companies.

                                      27
<PAGE>

                      APPENDIX C -- DOLLAR-COST AVERAGING

Dollar-cost  averaging is a systematic  investing method,  which can be used by
investors as a disciplined technique for investing.  A fixed amount of money is
invested in a security (such as a stock or mutual fund) on a regular basis over
a period of time,  regardless  of whether  securities  markets are moving up or
down.

     This  practice  reduces  average  share costs to the investor who acquires
more shares in periods of lower  securities  prices and fewer shares in periods
of higher prices.

     While  dollar-cost  averaging does not assure a profit or protect  against
loss in declining markets, this investment strategy is an effective way to help
calm the effect of fluctuations in the financial markets.  Systematic investing
involves  continuous  investment in securities  regardless of fluctuating price
levels of such securities. Investors should consider their financial ability to
continue purchases through periods of low and high price levels.

     As the following chart  illustrates,  dollar-cost  averaging tends to keep
the overall cost of shares lower.  This example is for  illustration  only, and
different trends would result in different average costs.
                        HOW DOLLAR-COST AVERAGING WORKS

                     $100 Invested Regularly for 5 Periods
                                  Market Trend
      --------------------------------------------------------------------

                  Down                     Up                    Mixed
           --------------------   ---------------------    --------------------
             Share     Shares       Share      Shares        Share     Shares
Investment   Price    Purchased     Price     Purchased      Price    Purchased
           --------------------   ---------------------    --------------------
   $100       10        10            6         16.67         10          10
    100        9        11.1          7         14.29          9          11.1
    100        8        12.5          7         14.29          8          12.5
    100        8        12.5          9         11.1           9          11.1
    100        6        16.67        10         10            10          10
   ----       --        -----        --         -----         --          -----
   $500    ***41        62.77     ***39         66.35      ***46          54.7

          *Avg. Cost:  $ 7.97    *Avg. Cost:   $ 7.54        *Avg. Cost: $ 9.14
                        -----                    -----                    -----
         **Avg. Price: $ 8.20    **Avg. Price: $ 7.80      **Avg. Price: $ 9.20
                        -----                    -----                    -----

  *  Average  Cost is the total  amount  invested  divided  by number of shares
     purchased.
 **  Average  Price  is  the  sum of the  prices  paid  divided  by  number  of
     purchases.
***  Cumulative total of share prices used to compute average prices.


                                      28
14356-0899


<PAGE>

                                     Part B


                  Statement of Additional Information for the
                               New York Bond and
                          New York Money Market Funds

<PAGE>


USAA    USAA                                           STATEMENT OF
EAGLE   TAX EXEMPT                                     ADDITIONAL  INFORMATION
LOGO    FUND, INC.                                     August 1, 1999

- -------------------------------------------------------------------------------

                           USAA TAX EXEMPT FUND, INC.
                                 NEW YORK FUNDS

USAA TAX EXEMPT FUND,  INC.  (the Company) is a registered  investment  company
offering shares of ten no-load mutual funds, two of which are described in this
Statement of Additional  Information (SAI): the New York Bond Fund and New York
Money Market Fund (collectively, the Funds or the New York Funds). Each Fund is
classified as diversified  and has a common  investment  objective of providing
New York investors with a high level of current  interest income that is exempt
from federal income taxes and New York State and New York City personal  income
taxes.  The New York Money Market Fund has a further  objective  of  preserving
capital and maintaining liquidity.

You may obtain a free copy of a Prospectus  dated  August 1, 1999,  for the New
York Funds by writing to USAA Tax Exempt Fund, Inc., 9800 Fredericksburg  Road,
San Antonio, TX 78288, or by calling toll free  1-800-531-8181.  The Prospectus
provides the basic  information you should know before  investing in the Funds.
This SAI is not a Prospectus  and contains  information in addition to and more
detailed than that set forth in the  Prospectus.  It is intended to provide you
with  additional  information  regarding the  activities  and operations of the
Company and the Funds, and should be read in conjunction with the Prospectus.

The financial  statements  of the Funds and the  Independent  Auditors'  Report
thereon  for the  fiscal  year  ended  March  31,  1999,  are  included  in the
accompanying  Annual Report to Shareholders  of that date and are  incorporated
herein by reference.

- -------------------------------------------------------------------------------

                               TABLE OF CONTENTS
         PAGE

           2   Valuation of Securities
           2   Conditions of Purchase and Redemption
           3   Additional Information Regarding Redemption of Shares
           4   Investment Plans
           5   Investment Policies
           6   Investment Restrictions
           7   Special Risk Considerations
          17   Portfolio Transactions
          18   Description of Shares
          19   Certain Federal Income Tax Considerations
          21   Directors and Officers of the Company
          24   The Company's Manager
          25   General Information
          25   Calculation of Performance Data
          27   Appendix A - Tax-Exempt Securities and Their Ratings
          30   Appendix B - Comparison of Portfolio Performance
          32   Appendix C - Dollar-Cost Averaging

<PAGE>

                            VALUATION OF SECURITIES

Shares of each Fund are offered on a  continuing,  best-efforts  basis  through
USAA Investment  Management  Company (IMCO or the Manager).  The offering price
for  shares of each Fund is equal to the  current  net  asset  value  (NAV) per
share.  The NAV per share of each Fund is calculated by adding the value of all
its portfolio  securities  and other assets,  deducting  its  liabilities,  and
dividing by the number of shares outstanding.

     A Fund's NAV per share is  calculated  each day,  Monday  through  Friday,
except days on which the New York Stock Exchange (NYSE) is closed.  The NYSE is
currently  scheduled to be closed on New Year's Day,  Martin  Luther King,  Jr.
Day, Presidents' Day, Good Friday,  Memorial Day,  Independence Day, Labor Day,
Thanksgiving,  and Christmas,  and on the preceding Friday or subsequent Monday
when one of these holidays falls on a Saturday or Sunday, respectively.

     The  investments of the NEW YORK BOND FUND are valued each business day by
a pricing  service (the Service)  approved by the Company's Board of Directors.
The Service uses the mean between  quoted bid and asked prices or the last sale
price to price  securities  when, in the Service's  judgment,  these prices are
readily available and are  representative of the securities' market values. For
many securities,  such prices are not readily available.  The Service generally
prices these securities based on methods which include  consideration of yields
or prices of tax-exempt securities of comparable quality,  coupon, maturity and
type,  indications as to values from dealers in securities,  and general market
conditions.  Securities purchased with maturities of 60 days or less are stated
at amortized cost which approximates  market value.  Repurchase  agreements are
valued at cost.  Securities that cannot be valued by the Service, and all other
assets,  are valued in good faith at fair value using methods determined by the
Manager under the general supervision of the Board of Directors.

     The value of the NEW YORK  MONEY  MARKET  FUND'S  securities  is stated at
amortized  cost  which  approximates  market  value.  This  involves  valuing a
security  at its  cost and  thereafter  assuming  a  constant  amortization  to
maturity of any discount or premium,  regardless  of the impact of  fluctuating
interest  rates.  While this method  provides  certainty in  valuation,  it may
result in periods  during which the value of an  instrument,  as  determined by
amortized  cost,  is higher or lower than the price the Fund would receive upon
the sale of the instrument.

     The  valuation of the New York Money Market Fund's  portfolio  instruments
based upon their  amortized cost is subject to the Fund's  adherence to certain
procedures and conditions. Consistent with regulatory requirements, the Manager
will only purchase securities with remaining maturities of 397 days or less and
will maintain a dollar-weighted  average portfolio  maturity of no more than 90
days. The Manager will invest only in securities  that have been  determined to
present  minimal  credit risk and that satisfy the quality and  diversification
requirements of applicable rules and regulations of the Securities and Exchange
Commission (SEC).

     The Board of Directors has  established  procedures  designed to stabilize
the New York Money Market  Fund's price per share,  as computed for the purpose
of sales and redemptions,  at $1. There can be no assurance,  however, that the
Fund will at all times be able to  maintain a constant  $1 NAV per share.  Such
procedures include review of the Fund's holdings at such intervals as is deemed
appropriate to determine  whether the Fund's NAV calculated by using  available
market quotations deviates from $1 per share and, if so, whether such deviation
may  result  in  material   dilution  or  is   otherwise   unfair  to  existing
shareholders.  In the event that it is determined that such a deviation exists,
the Board of  Directors  will  take such  corrective  action as it  regards  as
necessary  and   appropriate.   Such  action  may  include  selling   portfolio
instruments  prior to maturity to realize capital gains or losses or to shorten
average portfolio maturity,  withholding  dividends,  or establishing a NAV per
share by using available market quotations.

                     CONDITIONS OF PURCHASE AND REDEMPTION

NONPAYMENT

If any order to purchase  shares is canceled due to  nonpayment or if the Trust
does not receive good funds either by check or electronic funds transfer,  USAA
Shareholder  Account Services (Transfer Agent) will treat the cancellation as a
redemption of shares  purchased,  and you will be responsible for any resulting
loss  incurred  by the  Fund  or the  Manager.  If you are a  shareholder,  the
Transfer Agent can redeem shares from your account(s) as reimbursement  for all
losses.  In addition,  you may be prohibited  or restricted  from making future
purchases  in any of the USAA  Family of Funds.  A $15 fee is  charged  for all
returned items, including checks and electronic funds transfers.

                                       2
<PAGE>

TRANSFER OF SHARES

You may transfer Fund shares to another person by sending written  instructions
to the Transfer  Agent.  The account must be clearly  identified,  and you must
include  the  number  of  shares  to be  transferred,  the  signatures  of  all
registered owners, and all stock certificates, if any, which are the subject of
transfer.  You also need to send written  instructions signed by all registered
owners and supporting documents to change an account registration due to events
such as divorce,  marriage, or death. If a new account needs to be established,
you must complete and return an application to the Transfer Agent.

             ADDITIONAL INFORMATION REGARDING REDEMPTION OF SHARES

The value of your investment at the time of redemption may be more or less than
the cost at  purchase,  depending on the value of the  securities  held in each
Fund's  portfolio.  Requests  for  redemption  that are  subject to any special
conditions  or which  specify an effective  date other than as provided  herein
cannot be accepted. A gain or loss for tax purposes may be realized on the sale
of shares, depending upon the price when redeemed.

     The Board of  Directors  may cause the  redemption  of an  account  with a
balance of less than 50 shares  provided  (1) the value of the account has been
reduced,  for reasons  other than  market  action,  below the  minimum  initial
investment in such Fund at the time of the  establishment  of the account,  (2)
the account has  remained  below the minimum  level for six months,  and (3) 60
days' prior  written  notice of the proposed  redemption  has been sent to you.
Shares  will be  redeemed  at the NAV on the date fixed for  redemption  by the
Board of  Directors.  Prompt  payment  will be made by mail to your last  known
address.

     The  Company  reserves  the right to suspend  the right of  redemption  or
postpone  the date of  payment  (1) for any  periods  during  which the NYSE is
closed,  (2) when  trading in the  markets  the  Company  normally  utilizes is
restricted, or an emergency exists as determined by the SEC so that disposal of
the  Company's  investments  or  determination  of its  NAV  is not  reasonably
practicable,  or (3) for such other  periods as the SEC by order may permit for
protection of the Company's shareholders.

     For the mutual  protection of the investor and the Funds,  the Company may
require a signature  guarantee.  If  required,  EACH  signature  on the account
registration must be guaranteed.  Signature guarantees are acceptable from FDIC
member  banks,  brokers,  dealers,   municipal  securities  dealers,  municipal
securities  brokers,   government  securities  dealers,  government  securities
brokers,  credit unions,  national securities exchanges,  registered securities
associations,   clearing  agencies,  and  savings  associations.   A  signature
guarantee for active duty military  personnel  stationed abroad may be provided
by an officer of the United States Embassy or Consulate, a staff officer of the
Judge Advocate General, or an individual's commanding officer.

REDEMPTION BY CHECK

Shareholders  in the New York Money  Market  Fund may  request  that  checks be
issued for their account. Checks must be written in amounts of at least $250.

     Checks issued to  shareholders of the Fund will be sent only to the person
in whose name the account is registered and only to the address of record.  The
checks  must be  manually  signed by the  registered  owner(s)  exactly  as the
account is registered. For joint accounts the signature of either or both joint
owners will be required on the check,  according  to the  election  made on the
signature  card.  You will  continue  to earn  dividends  until the  shares are
redeemed by the presentation of a check.

     When a check is presented to the Transfer Agent for payment,  a sufficient
number of full and  fractional  shares  from your  account  will be redeemed to
cover the amount of the check.  If the account balance is not adequate to cover
the amount of a check, the check will be returned unpaid.  Because the value of
each account changes as dividends are accrued on a daily basis,  checks may not
be used to close an account.

     The  checkwriting   privilege  is  subject  to  the  customary  rules  and
regulations  of State Street Bank and Trust  Company  (State Street Bank or the
Custodian)  governing checking accounts.  There is no charge to you for the use
of the checks or for subsequent reorders of checks.

     The Company  reserves  the right to assess a  processing  fee against your
account for any  redemption  check not  honored by a clearing or paying  agent.
Currently,  this fee is $15 and is subject to change at any time. Some examples
of such dishonor are improper  endorsement,  checks  written for an amount less
than the minimum check amount, and insufficient or uncollectible funds.

                                       3
<PAGE>

     The Company,  the Transfer  Agent,  and State Street Bank each reserve the
right to change or suspend the  checkwriting  privilege  upon 30 days'  written
notice to participating shareholders.

     You may  request  that the  Transfer  Agent stop  payment on a check.  The
Transfer Agent will use its best efforts to execute stop payment  instructions,
but does not guarantee that such efforts will be effective.  The Transfer Agent
will charge you $10 for each stop payment you request.

                                INVESTMENT PLANS

The Company makes available the following  investment  plans to shareholders of
the Funds.  At the time you sign up for any of the following  investment  plans
that utilize the electronic funds transfer service,  you will choose the day of
the month (the  effective  date) on which you would like to regularly  purchase
shares.  When this day falls on a weekend or holiday,  the electronic  transfer
will take place on the last  business day before the  effective  date.  You may
terminate your participation in a plan at any time. Please call the Manager for
details and necessary forms or applications.

AUTOMATIC PURCHASE OF SHARES

INVESTRONIC(R) - The regular purchase of additional  shares through  electronic
funds transfer from a checking or savings account.  You may invest as little as
$50 per month.

DIRECT PURCHASE  SERVICE - The periodic  purchase of shares through  electronic
funds transfer from a on-governmental employer, an income-producing investment,
or an account  with a  participating  financial  institution.

DIRECT DEPOSIT PROGRAM - The monthly  transfer of certain  federal  benefits to
directly  purchase  shares of a USAA mutual  fund.  Eligible  federal  benefits
include:  Social Security,  Supplemental Security Income, Veterans Compensation
and Pension,  Civil Service  Retirement  Annuity,  and Civil  Service  Survivor
Annuity.

GOVERNMENT  ALLOTMENT - The  transfer of  military  pay by the U.S.  Government
Finance Center for the purchase of USAA mutual fund shares.

AUTOMATIC  PURCHASE  PLAN - The  periodic  transfer  of funds from a USAA money
market fund to purchase  shares in another  non-money  market USAA mutual fund.
There is a minimum investment  required for this program of $5,000 in the money
market fund, with a monthly transaction minimum of $50.

BUY/SELL  SERVICE - The  intermittent  purchase or redemption of shares through
electronic  funds  transfer to or from a checking or savings  account.  You may
initiate a "buy" or "sell" whenever you choose.

DIRECTED  DIVIDENDS  - If you own  shares  in more than one of the Funds in the
USAA  Family of Funds,  you may  direct  that  dividends  and/or  capital  gain
distributions  earned in one fund be used to purchase shares  automatically  in
another fund.

     Participation in these  systematic  purchase plans allows you to engage in
dollar-cost  averaging.  For additional  information concerning the benefits of
dollar-cost averaging, see APPENDIX C.

SYSTEMATIC WITHDRAWAL PLAN

If you own shares having a NAV of $5,000 or more in a single investment account
(accounts in different  Funds cannot be aggregated for this  purpose),  you may
request  that enough  shares to produce a fixed  amount of money be  liquidated
from the account monthly or quarterly. The amount of each withdrawal must be at
least $50. Using the electronic funds transfer service,  you may choose to have
withdrawals   electronically   deposited  at  your  bank  or  other   financial
institution. You may also elect to have checks mailed to a designated address.

     This plan may be initiated by depositing shares worth at least $5,000 with
the  Transfer  Agent  and  by  completing  the   Systematic   Withdrawal   Plan
application,  which  may be  requested  from  the  Manager.  You may  terminate
participation  in the plan at any time.  You are not  charged  for  withdrawals
under the Systematic Withdrawal Plan. The Company will not bear any expenses in
administering the plan beyond the regular transfer agent and custodian costs of
issuing and redeeming shares. The Manager will bear any additional  expenses of
administering the plan.

     Withdrawals  will be made by redeeming full and  fractional  shares on the
date you select at the time the plan is established.  Withdrawal  payments made
under this plan may exceed  dividends  and  distributions  and, to this extent,
will  involve the use of  principal  and could  reduce the dollar value of your
investment  and  eventually  exhaust the  account.  Reinvesting  dividends  and
distributions  helps  replenish  the  account.  Because  share  values  and net
investment income can fluctuate, you should not expect withdrawals to be offset
by rising income or share value gains.

                                       4
<PAGE>

     Each  redemption  of shares  may  result in a gain or loss,  which must be
reported  on your  income tax  return.  Therefore,  you should keep an accurate
record of any gain or loss on each withdrawal.

                              INVESTMENT POLICIES

The sections  captioned  WHAT ARE EACH FUND'S  INVESTMENT  OBJECTIVES  AND MAIN
STRATEGIES?  and FUND  INVESTMENTS in the Prospectus  describe the  fundamental
investment  objective(s) and the investment  policies  applicable to each Fund.
Each Fund's objective(s) cannot be changed without  shareholder  approval.  The
following is provided as additional information.

CALCULATION OF PORTFOLIO WEIGHTED AVERAGE MATURITIES

Weighted  average  maturity  is  derived  by  multiplying  the  value  of  each
investment by the number of days remaining to its maturity,  adding the results
of these  calculations,  and then dividing the total by the value of the Fund's
portfolio.  An obligation's  maturity is typically determined on a stated final
maturity basis, although there are some exceptions to this rule.

     With  respect  to  obligations  held by the New York Bond  Fund,  if it is
probable  that  the  issuer  of  an  instrument   will  take   advantage  of  a
maturity-shortening device, such as a call, refunding, or redemption provision,
the date on which the instrument will probably be called, refunded, or redeemed
may be considered to be its maturity  date.  Also, the maturities of securities
subject to sinking fund  arrangements are determined on a weighted average life
basis,  which is the average  time for  principal  to be repaid.  The  weighted
average life of these  securities  is likely to be  substantially  shorter than
their stated final maturity. In addition, for purposes of the Fund's investment
policies,  an instrument will be treated as having a maturity  earlier than its
stated  maturity date if the instrument has technical  features such as puts or
demand  features  that,  in the  judgment  of the  Manager,  will result in the
instrument being valued in the market as though it has the earlier maturity.

     The  New  York  Money  Market  Fund  will  determine  the  maturity  of an
obligation in its portfolio in accordance  with Rule 2a-7 under the  Investment
Company Act of 1940, as amended (1940 Act).

LENDING OF SECURITIES

Each Fund may lend its  securities.  A lending  policy may be authorized by the
Company's  Directors and  implemented  by the Manager,  but  securities  may be
loaned only to qualified  broker-dealers or institutional  investors that agree
to maintain  cash  collateral  with the Company  equal at all times to at least
100% of the  value of the  loaned  securities.  The  Directors  will  establish
procedures and monitor the creditworthiness of any institution or broker-dealer
during  such time as any loan is  outstanding.  The  Company  will  continue to
receive  interest on the loaned  securities and will invest the cash collateral
in readily marketable short-term  obligations of high quality,  thereby earning
additional interest.  Interest on loaned tax-exempt  securities received by the
borrower and paid to the Company  will not be exempt from federal  income taxes
in the hands of the Company.

     No loan of securities will be made if, as a result,  the aggregate of such
loans would exceed 33 1/3 % of the value of a Fund's total  assets. The Company
may terminate such loans at any time.

REPURCHASE AGREEMENTS

Each Fund may invest up to 5% of its total assets in repurchase  agreements.  A
repurchase  agreement is a transaction  in which a security is purchased with a
simultaneous  commitment  to sell the security back to the seller (a commercial
bank or recognized securities dealer) at an agreed upon price on an agreed upon
date,  usually not more than seven days from the date of  purchase.  The resale
price  reflects the purchase  price plus an agreed upon market rate of interest
which is unrelated to the coupon rate or maturity of the purchased security.  A
repurchase  agreement  involves the  obligation of the seller to pay the agreed
upon  price,  which  obligation  is in  effect  secured  by  the  value  of the
underlying security. In these transactions,  the securities purchased by a Fund
will have a total value  equal to or in excess of the amount of the  repurchase
obligation and will be held by the Funds' custodian until  repurchased.  If the
seller defaults and the value of the underlying  security declines,  a Fund may
incur a loss and may incur  expenses in selling the  collateral.  If the seller
seeks relief under the bankruptcy  laws, the  disposition of the collateral may
be delayed or limited. Any investments in repurchase  agreements will give rise
to income which will not qualify as  tax-exempt  income when  distributed  by a
Fund.

                                       5
<PAGE>

WHEN-ISSUED SECURITIES

Each  Fund may  invest in new  issues of  tax-exempt  securities  offered  on a
when-issued  basis;  that is, delivery and payment take place after the date of
the commitment to purchase,  normally  within 45 days.  Both price and interest
rate are fixed at the time of commitment. The Funds do not earn interest on the
securities  until  settlement,  and the  market  value  of the  securities  may
fluctuate  between purchase and settlement.  Such securities can be sold before
settlement date.

     Cash or high  quality  liquid debt  securities  equal to the amount of the
when-issued  commitments  are  segregated  at the Fund's  custodian  bank.  The
segregated  securities are valued at market,  and daily adjustments are made to
keep the  value of the cash and  segregated  securities  at least  equal to the
amount of such  commitments by the Fund. On the settlement  date, the Fund will
meet its obligations  from then available cash, sale of segregated  securities,
sale of other securities, or sale of the when-issued securities themselves.

MUNICIPAL LEASE OBLIGATIONS

Each  Fund may  invest in  municipal  lease  obligations  and  certificates  of
participation in such obligations  (collectively,  lease obligations).  A lease
obligation  does not constitute a general  obligation of the  municipality  for
which the municipality's taxing power is pledged, although the lease obligation
is ordinarily backed by the municipality's  covenant to budget for the payments
due under the lease obligation.

     Certain  lease  obligations  contain   "non-appropriation"  clauses  which
provide  that the  municipality  has no  obligation  to make  lease  obligation
payments in future  years unless  money is  appropriated  for such purpose on a
yearly basis. Although "non-appropriation" lease obligations are secured by the
leased property,  disposition of the property in the event of foreclosure might
prove  difficult.  In  evaluating  a  potential  investment  in  such  a  lease
obligation,  the Manager will consider:  (1) the credit quality of the obligor,
(2) whether the underlying  property is essential to a  governmental  function,
and (3) whether the lease obligation contains covenants prohibiting the obligor
from substituting  similar property if the obligor fails to make appropriations
for the lease obligation.

TEMPORARY DEFENSIVE POLICY

Each Fund may on a temporary basis because of market,  economic,  political, or
other  conditions  invest  up to 100% of its  assets in  short-term  securities
whether or not they are  exempt  from  federal  and New York State and New York
City income taxes.  Such taxable  securities  may consist of obligations of the
U.S. Government,  its agencies or instrumentalities,  and repurchase agreements
secured by such  instruments;  certificates of deposit of domestic banks having
capital,  surplus,  and undivided  profits in excess of $100 million;  banker's
acceptances  of similar  banks;  commercial  paper;  and other  corporate  debt
obligations.

OTHER POLICIES

Although the New York Bond Fund is  permitted  to invest in options,  financial
futures contracts,  and options on financial futures contracts, the Fund has no
current  intention of doing so and will not invest in such  securities  without
first  notifying   shareholders  and  supplying  further   information  in  the
Prospectus.

                            INVESTMENT RESTRICTIONS

The following investment restrictions have been adopted by the Company for each
Fund. These restrictions may not be changed for any given Fund without approval
by the lesser of (1) 67% or more of the voting securities  present at a meeting
of the Fund if more than 50% of the outstanding  voting  securities of the Fund
are  present  or  represented  by  proxy or (2)  more  than  50% of the  Fund's
outstanding voting securities.  The investment  restrictions of one Fund may be
changed without affecting those of the other Fund.

Under the restrictions, neither Fund will:

 (1)  with  respect  to 75% of its total  assets,  purchase  securities  of any
      issuer  (other than a security  issued or  guaranteed  as to principal or
      interest by the United States, or by a person controlled or supervised by
      and acting as an  instrumentality of the Government of the United States;
      or any  certificate  of deposit for any of the  foregoing) if as a result
      more  than 5% of the  total  assets of that  Fund  would be  invested  in
      securities   of  such   issuer;   for   purposes   of  this   limitation,
      identification  of the "issuer" will be based on a  determination  of the
      source of assets and revenues committed to meeting interest and principal
      payments of each security;  for purposes of this  limitation the state of
      New  York or  other  jurisdictions  and  each of its  separate  political
      subdivisions,  agencies,  authorities,  and  instrumentalities  shall  be
      treated as a separate issuer;

                                       6
<PAGE>

 (2)  purchase  more  than  10%  of  the  outstanding  voting securities of any
      issuer;

 (3)  borrow money, except for temporary or emergency purposes in an amount not
      exceeding  33 1/3%  of  its  total assets (including the amount borrowed)
      less liabilities (other than borrowings);

 (4)  pledge, mortgage, or  hypothecate  its  assets to any extent greater than
      10% of the value of its total assets;

 (5)  purchase or retain securities of any issuer if any officer or Director of
      the Company or its Manager owns  individually  more than  one-half of one
      percent (1/2%) of the  securities of that issuer,  and  collectively  the
      officers and Directors of the Company and Manager  together own more than
      5% of the securities of that issuer;

 (6)  purchase  any  securities  which  would cause 25% or more of the value of
      that Fund's total  assets at the time of such  purchase to be invested in
      securities  the interest  upon which is derived from revenues or projects
      with similar  characteristics,  such as toll road revenue bonds,  housing
      revenue  bonds,  electric power project  revenue bonds,  or in industrial
      revenue bonds which are based,  directly or indirectly,  on the credit of
      private  entities  of any  one  industry;  provided  that  the  foregoing
      limitation  does not apply with respect to investments  in U.S.  Treasury
      Bills, other obligations issued or guaranteed by the U.S. Government, its
      agencies  and  instrumentalities,  and, in the case of the New York Money
      Market Fund, certificates of deposit and banker's acceptances of domestic
      banks;

 (7)  invest in issuers for the purpose of exercising control or management;

 (8)  issue senior  securities  as defined in the 1940 Act,  except that it may
      purchase tax-exempt  securities on a "when-issued" basis and may purchase
      and sell financial  futures contracts and options as permitted by Section
      18(f)(2);

 (9)  underwrite securities of other issuers,  except to the extent that it may
      be deemed to act as a statutory  underwriter in the  distribution  of any
      restricted securities or not readily marketable securities;

 (10) purchase or sell real estate,  but this shall not prevent  investments in
      tax-exempt securities secured by real estate or interests therein;

 (11) lend any securities or make any loan  if, as a result,  more than 33 1/3%
      of its  total  assets  would  be lent to other  parties, except that this
      limitation  does  not  apply  to  purchases  of  debt  securities  or  to
      repurchase agreements;

 (12) purchase on margin or sell short;  for purposes of this  restriction  the
      deposit or payment of initial  or  variation  margin in  connection  with
      financial futures contracts or related options will not be deemed to be a
      purchase of securities on margin by a Fund;

 (13) purchase or sell  commodities or commodities  contracts,  except that the
      Fund may invest in financial futures and contracts and options thereon;

 (14) invest its assets in securities of other  investment  companies except by
      purchases  in  the  open  market   involving  only   customary   brokers'
      commissions  or as part of a  merger,  consolidation,  reorganization  or
      purchase of assets approved by the shareholders; or

 (15) invest in put,  call,  straddle,  or spread  options or interests in oil,
      gas, or other mineral exploration or development programs,  except that a
      Fund may write covered call options and purchase put options.

ADDITIONAL RESTRICTIONS

The following restrictions are not considered to be fundamental policies of the
Funds. The Board of Directors may change these additional  restrictions without
notice to or approval by the shareholders.

Neither Fund will:

 (1)  invest more than 15% (10% with respect to the New York Money Market Fund)
      of  the  value  of its  net  assets  in  illiquid  securities,  including
      repurchase agreements maturing in more than seven days; or

 (2)  purchase any security while  borrowings representing more than  5% of the
      Fund's total assets are outstanding.

                          SPECIAL RISK CONSIDERATIONS

SPECIAL CONSIDERATIONS RELATING TO NEW YORK MUNICIPAL OBLIGATIONS

     Some of the significant  financial  considerations  relating to the Fund's
investments  in New York  Municipal  Obligations  are  summarized  below.  This
summary  information  is  not  intended  to be a  complete  description  and is
principally  derived from  official  statements  relating to issues of New York
Municipal

                                       7
<PAGE>

Obligations that were available prior to the date of this SAI. The accuracy and
completeness of the information contained in those official statements have not
been independently verified.

     STATE ECONOMY. New York is the third most populous state in the nation and
has a relatively high level of personal wealth.  The State's economy is diverse
with  a  comparatively   large  share  of  the  nations'  finance,   insurance,
transportation,  communications and services employment, and a very small share
of the nation's farming and mining activity.  Like the rest of the nation,  the
State has a declining proportion of its workforce engaged in manufacturing, and
an increasing proportion engaged in service industries.  The State is likely to
be less affected than the nation as a whole during an economic  recession  that
is  concentrated  in  manufacturing  and  construction,  but  likely to be more
affected  during a  recession  that is  concentrated  in the  service-producing
sector.  New York City (the City), which is the most populous city in the State
and  nation  and is the  center  of the  nation's  largest  metropolitan  area,
accounts for a large portion of the State's population and personal income.

     There can be no  assurance  that the  State  economy  will not  experience
worse-than-predicted  results  in the  1999-2000  fiscal  year  (April  1, 1999
through March 31, 2000) or subsequent fiscal years, with corresponding material
and adverse effects on the State's projections of receipts and disbursements.

     State per capita  personal  income  has  historically  been  significantly
higher than the national average,  although the ratio has varied substantially.
In 1996,  the State's per capita  personal  income  exceeded the United  States
average by 19.6 percent.  In the calendar  years 1987 through 1997, the State's
rate of economic growth was somewhat slower than that of the nation.  The total
employment  growth in the State has been below the national average since 1987.
According  to data  published  by the US Bureau  of  Economic  Analysis,  total
personal  income in the State has risen more slowly than the  national  average
since  1988.  The  unemployment  rates  for 1996 and 1997  were  6.2% and 6.4%,
respectively, and the rate for 1998 has been projected by the State Division of
Budget to be 5.7%.

     STATE BUDGET.  The State  Constitution  requires the Governor to submit to
the State  Legislature a balanced  executive  budget which  contains a complete
plan of  expenditures  for the ensuing  fiscal year and all moneys and revenues
estimated  to be  available  therefor,  accompanied  by  bills  containing  all
proposed  appropriations  or  reappropriations  and any new or modified revenue
measures to be enacted in connection with the executive budget. The entire plan
constitutes  the  proposed  State  financial  plan for that  fiscal  year.  The
Governor is  required to submit to the  Legislature  quarterly  budget  updates
which include a revised  cash-basis state financial plan, and an explanation of
any changes from the previous state financial plan.

     The  Governor  presented  his  1999-2000  Executive  Budget  and the draft
1999-2000  State  Financial  Plan  to the  Legislature  on  January  27,  1999.
Consistent with the pattern of the budget  negotiation and adoption  process of
recent  years,  the State has not adopted the  1999-2000  State Budget by April
1st. The State,  however, has enacted legislation making appropriations for the
legal  requirements  of State debt service,  lease purchase  payments and other
special contractual obligations for the current fiscal year. Furthermore,  such
legislation  also  provides  for the  payment of the  State's  certificates  of
participation  for the current fiscal year.  There can be no assurance that the
State's  adopted budget  projections  will not differ  materially and adversely
from the projections set forth in the Executive Budget.

     The draft  1999-2000  State  Financial  Plan, as amended in February 1999,
projects a balanced General Fund, on a cash basis,  with a General Fund closing
balance of  approximately  $2.47  billion for the  1999-2000  fiscal year.  The
Governor has proposed to set aside  approximately $1.79 billion of this balance
as a tax reduction reserve. The General Fund is the principal operating fund of
the State and is used to account for all financial  transactions,  except those
required to be accounted for in another  fund.  It is the State's  largest fund
and  receives  almost all State  taxes and other  resources  not  dedicated  to
particular  purposes.  Total General Fund  receipts,  including  transfers from
other funds, are projected to be $38.81 billion, an increase of 5.5% from total
receipts   estimated   for  the  1998-99   fiscal  year.   Total  General  Fund
disbursements  and transfers to other funds are projected to be $37.14 billion,
an  increase  of less  than  2%  over  the  estimated  expenditures  (including
prepayments) for the 1998-99 fiscal year.  State Funds spending (i.e.,  General
Fund plus  other  dedicated  funds,  with the  exception  of  federal  aid) and
spending from all Governmental  Funds (excluding  transfers) are each projected
to increase by less than 2% from the prior fiscal year.

     RECEIPTS.  The forecast of General Fund receipts in fiscal year  1999-2000
reflects the next stage of the School Tax Relief (STAR)  property tax reduction
program,  as well as the  continuing  impact  of  earlier  tax  reductions.  In
addition,  the Executive  Budget reflects  several new tax reduction  proposals
that are  projected to have only a modest  impact on receipts in 1999-2000  and
2000-2001,  but are  expected to reduce  receipts by  approximately  $1 billion
annually when fully phased in at the end of the 2003-2004 fiscal year.

                                       8
<PAGE>

     The  largest new tax cut  proposals  call for  further  reductions  in the
personal income tax to benefit middle income taxpayers. These proposals concern
increasing the income  threshold  where the top tax rate applies and increasing
the value of the dependent exemption. In addition the Executive Budget includes
several other targeted tax cut proposals,  including:  reducing  certain energy
taxes;  lowering the  alternative  minimum tax on  corporations;  extending the
business tax rate  reductions  previously  enacted for general  corporations to
banks and insurance companies as well as other proposals.

     Personal  income  tax  collections  for  the  1999-2000  fiscal  year  are
projected to reach  approximately  $22.88 billion, an increase of $2.77 billion
(13.8 percent) over  1998-1999.  This increase is due in part to refund reserve
transactions  which serve to increase  reported  1999-2000  personal income tax
receipts.  Collections  also benefit from the estimated  increase in income tax
liability of 13.5 percent in 1998 and 5.3 percent in 1999. The large  increases
in  liability in recent years have been  supported  by the  continued  surge in
taxable capital gains realizations. This activity is related at least partially
to recent  changes in the federal tax  treatment of such income.  The growth in
capital  gains  income is  expected  to  plateau in 1999.  Growth in  1999-2000
personal  income tax  receipts is  partially  offset by the  diversion  of such
receipts into the School Tax Relief Fund, which finances the STAR tax reduction
program.

     User tax and fees are projected at $7.17 billion in 1999-2000,  a decrease
of $76 million (one  percent) from the  1998-1999  fiscal year.  The decline in
this  category  reflects  the  incremental   impact  of   already-enacted   tax
reductions,  and the diversion of additional motor vehicle registration fees to
the Dedicated  Highway and Bridge Trust Fund.  Adjusted for these changes,  the
underlying  growth of user taxes and fees is  projected  at  approximately  2.5
percent.  The largest  source of receipts in this category is the sales and use
tax, which accounts for nearly 80 percent of projected receipts. The continuing
base of the sales tax is  projected  to grow  approximately  4.4 percent in the
1999-2000  fiscal year, and assumes the Legislature  will not enact  additional
"sales-tax free" weeks that would affect receipts before December 1, 1999, when
the sales and use tax on clothing and footwear under $110 is eliminated.

     Business tax receipts are expected to total approximately $4.56 billion in
1999-2000,  $241 million (five percent) below 1998-1999 estimated results.  The
impact of tax  reductions  scheduled  in law,  as well as slower  growth in the
underlying tax base, explain this decline.

     Receipts from other taxes, which are comprised  primarily of receipts from
estate  and gift taxes and  pari-mutuel  taxes on  wagering,  are  expected  to
decline $134 million (11.9  percent) to $990 million in 1999-2000.  The ongoing
effect  of tax cuts  already  in law is the main  reason  for the  decline.  In
addition, this category formerly included receipts from the real property gains
tax that was repealed in 1996, and receipts from the real property transfer tax
that,  since  1996,  have  been  earmarked  to  support  various  environmental
programs.

     Miscellaneous  receipts are expected to total  approximately $1.28 billion
in the 1999-2000 fiscal year, a decline of $267 million (17.3 percent) from the
1998-1999 fiscal year.  Roughly $165 million of this decline is attributable to
the ongoing phase-out of medical provider assessments.  Miscellaneous  receipts
include  license  revenues,  income  from fees and  fines,  abandoned  property
proceeds, investment income, and a portion of the assessments levied on medical
providers.

     DISBURSEMENTS.  Grants to Local  Governments  constitute  approximately 67
percent  of  all  General  Fund  spending,   and  include   payments  to  local
governments,  non-profit providers and entitlement benefits to individuals.  It
is projected to be approximately  $24.84 billion for the 1999-2000 fiscal year,
a decrease of 0.2 percent from the  estimated  level for the  1998-1999  fiscal
year.  Since 1994-1995,  State spending on welfare has fallen  approximately 32
percent,  driven by  significant  welfare  changes  initiated  at the State and
federal levels and a large,  steady  decline in the number of people  receiving
benefits.  Several trends have contributed to falling caseloads,  including the
State's strong economic  performance over the past three years; State,  federal
and local  welfare-to-work  initiatives that have expanded training and support
services  to  assist   recipients   in  becoming   self-sufficient;   tightened
eligibility review for applicants; and aggressive fraud prevention measures.

     State Operations reflects the costs of running the Executive,  Legislative
and Judicial branches of government.  It is projected to be approximately $6.89
billion for the 1999-2000  fiscal year.  Spending in this category is projected
to increase 3.7 percent above  1998-1999 and reflects the  annualized  costs of
1998-1999  collective  bargaining  agreements,  the decline in federal receipts
that offset  General Fund spending for mental  hygiene  programs,  the costs of
staffing  a new State  prison,  and  growth in the  Legislative  and  Judiciary
budgets.  The  State's  overall  workforce  is  projected  to remain  stable at
approximately 191,200 persons.

                                       9
<PAGE>

     General State Charges accounts primarily for the costs of providing fringe
benefits for State employees,  including  contributions to pension systems, the
employer's  share of  social  security  contributions,  employer  contributions
toward  the cost of  health  insurance,  and the  costs of  providing  worker's
compensation and unemployment  insurance benefits.  This category also reflects
certain fixed costs such as payments in lieu of taxes and payments of judgments
against the State or its public officials.  It is projected to be approximately
$2.32  billion for the  1999-2000  fiscal year, an increase of 1.4 percent over
the estimated level for the 1998-1999 fiscal year.

     Transfers  to Other  Funds from the  General  Fund are made  primarily  to
finance certain portions of State capital projects spending and debt service on
long-term  bonds where these costs are not funded from other  sources.  This is
projected to be  approximately  $3.08 billion for the 1999-2000 fiscal year, an
increase of 10.8  percent over the  estimated  level for the  1998-1999  fiscal
year. The  reclassification  of SUNY community  college debt service from local
assistance accounts,  annualized costs from prior borrowings and the Governor's
proposed debt reduction  program,  which has the effect of increasing  costs in
the  short-term  in order to reduce  outstanding  debt more rapidly are factors
that account for this increase.

     NON-RECURRING  RESOURCES.  The Division of the Budget  estimates  that the
draft  1999-2000   Financial  Plan  includes   approximately   $33  million  in
non-recurring  resources,  comprising  less than  one-tenth  of one  percent of
General Fund disbursements.

     FUTURE STATE  FISCAL YEAR  PROJECTIONS.  The State  Division of the Budget
projects budget gaps of  approximately  $1.14 billion in 2000-2001  fiscal year
and $2.07 billion in the 2001-2002 fiscal year. These gaps were projected after
assuming that the State  Legislature will enact the 1999-2000  Executive Budget
and  accompanying  legislation  in its  entirety.  Each gap also  includes $500
million in unspecified annual spending efficiencies, which is comparable to the
Governor's Executive Budget assumptions in previous fiscal years. The State has
reached a tentative  agreement  with the Civil  Service  Employees  Association
(CSEA) on a new four-year labor contract. If this agreement is ratified by CSEA
and approved by the Legislature,  and the terms of that contract applied to the
entire  Executive  Branch  workforce,  the State estimates that the budget gaps
would increase by $275 million in the 2000-2001 fiscal year and $475 million in
the 2001-2002  fiscal year.  Future Financial Plans are also likely to count on
savings from efficiencies,  workforce management efforts, aggressive efforts to
maximize  federal and other  non-General  Fund resources,  and other efforts to
control  State  spending.  Nearly all the actions  proposed by the  Governor to
balance the draft  1999-2000  Financial  Plan recur and grow in value in future
years.  The State Division of the Budget projects that, if the projected budget
gap for 2000-2001 is closed with recurring  actions,  the 2001-2002  budget gap
would be reduced to $963 million  under  projections  current as of February 9,
1999.  The  Governor is required by law to propose a balanced  budget each year
and will propose steps necessary to address any potential remaining budget gaps
in subsequent budgets.

     SPECIAL  CONSIDERATION.  The State  Division of Budget  believes  that its
projections of receipts and disbursements  accompanying the 1999-2000 Executive
Budget are  reasonable.  However,  the economic and financial  condition of the
State may be affected by various  financial,  social,  economic  and  political
factors. Those factors can be very complex, can vary from fiscal year to fiscal
year,  and are frequently the result of actions taken not only by the State but
also by entities, such as the federal government,  that are outside the State's
control.  Because of the uncertainty and  unpredictability  of changes in these
factors,  their impact cannot be fully included in the  assumptions  underlying
the State's  projections.  There can be no assurance  that the State's  actions
will be sufficient to preserve budgetary balance or to align recurring receipts
and disbursements in either 1999-2000 or in future fiscal years.

     According  to  the  State  Division  of the  Budget,  over  the  long-term
uncertainties  with regard to the economy present the largest potential risk to
budget  balance in New York State.  For  example,  a downturn in the  financial
markets or the wider  economy is  possible,  a risk that is  heightened  by the
lengthy expansion  underway.  The securities  industry is more important to the
New York economy than the national economy,  potentially  amplifying the impact
of an economic downturn.  A large change in stock market performance during the
forecast  horizon  could  result  in wage  and  unemployment  levels  that  are
significantly  different from those embodied in the State's  forecast.  Merging
and downsizing by firms, as a consequence of deregulation or continued  foreign
competition,  may also have more significant adverse effects on employment than
expected.  Finally a "forecast  error" of one percentage point in the estimated
growth of receipts could cumulatively raise or lower results by over $1 billion
by 2002.

     The fiscal  effects of tax  reductions  adopted in the last several fiscal
years and those proposed by the Governor in the Executive  Budget are projected
to grow more  substantially  beyond the 1999-2000  fiscal year. The incremental
annual cost of enacted or proposed tax  reductions is estimated to peak at $2.1
billion in 2000-2001, then gradually decline to about $1 billion in 2003-2004.

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     Owing to these and other factors, the State may fact substantial potential
budget gaps in future years resulting from a significant  disparity between tax
revenues  from a lower  recurring  receipts  base and the spending  required to
maintain State programs at mandated levels. Any such recurring  imbalance would
be  exacerbated  by the use by the State of  nonrecurring  resources to achieve
budgetary  balance  in a  particular  fiscal  year.  To correct  any  recurring
budgetary imbalance,  the State would need to take significant actions to align
recurring receipts and disbursements in future fiscal years.

     YEAR  2000.  New York  State is  currently  addressing  "Year  2000"  data
processing compliance issues. In 1996, the State established the Year 2000 Date
Change  Initiative to facilitate and coordinate New York State's Y2K compliance
effort.  The  Office  for  Technology  ("OFT"),  under  the  direction  of  the
Governor's  Office of State  Operations,  is  responsible  for  monitoring  the
State's compliance progress and for providing assistance and resources to State
agencies.  Each agency is responsible for bringing its individual  systems into
Year 2000 compliance.

     In 1997,  OFT  completed a risk  assessment  of 712 State data  processing
systems and prioritized those systems for purposes of Year 2000 compliance. The
State has estimated that  investments of at least $140 million will be required
to bring the State's  approximately  350  mission  critical  and high  priority
systems into Year 2000 compliance.  Mission-critical systems are those that may
impact the public health, safety and welfare of the State and its citizens, and
for which failure could have a material and adverse impact on State operations.
High-priority systems are critical for a State agency to fulfill its mission or
deliver  services.  The State  allocated over $117 million in centralized  Year
2000 funding in 1998-99 to those  agencies that maintain  mission-critical  and
high-priority  systems.  Agencies are also  expending  funds from their capital
budgets to address  the Year 2000  compliance  issue.  The State is planning to
spend an  additional  $19  million in  1999-2000  for Year 2000  embedded  chip
compliance,  and is  also  making  a  contingent  appropriation  available  for
unforeseen emergencies.

     As of  December  1998,  the State had  completed  93  percent  of  overall
compliance effort for its  mission-critical  systems; 18 systems were Year 2000
compliant and the remaining systems were scheduled to be compliant by the first
quarter of 1999.  As of December  1998,  the State had  completed 70 percent of
overall compliance effort on the high-priority  systems;  168 systems were Year
2000  compliant and the  remaining  systems were on schedule to be compliant by
the second quarter of 1999.  Compliance  testing is expected to be completed by
the end of calendar 1999.

     Since  problems could be identified  during the  compliance  testing phase
that could produce  compliance delays, the State is also requiring its agencies
to complete  contingency  plans for priority systems and business  processes by
the first quarter of 1999.  Since Year 2000  compliance  by outside  parties is
beyond the State's  control to  remediate,  the  failure of outside  parties to
achieve Year 2000 compliance  could have an adverse impact on State  operations
or finances as well.

     RECENT STATE FISCAL YEARS.  The 1998-1999  State Financial Plan as revised
through the third quarter projected a year-end  available cash surplus of $1.79
billion  in the  General  Fund (the major  operating  Fund of the  State).  The
1999-2000  Executive Budget has proposed using the projected  available surplus
from 1998-1999 to offset a portion of the incremental loss of tax receipts from
enacted tax cut  scheduled  to be effective  for the  2000-2001  and  2001-2002
years.  General Fund receipt are projected to be  approximately  $36.78 billion
while  General Fund  disbursements  are  projected to be  approximately  $36.61
billion.  The State has  projected  a closing  balance  of $799  million in the
General Fund.  Prior to adoption of the State's  1998-1999  fiscal year budget,
the State had projected a potential budget gap of under $1 billion.

     The State ended its 1997-1998 fiscal year in balance on a cash basis, with
a reported  1997-1998 cash surplus of  approximately  $2.04  billion.  Prior to
adoption of the State's 1997-1998 fiscal year budget, the State had projected a
potential budget gap of approximately $2.3 billion.

     The State ended its 1996-97 fiscal year in balance on a cash basis, with a
reported 1996-97 cash surplus of $1.4 billion. Prior to adoption of the State's
1996-97 fiscal year budget,  the State had projected a potential  budget gap of
approximately $3.9 billion.

     DEBT LIMITS,  RATINGS AND OUTSTANDING  DEBT. There are a number of methods
by which the State of New York may incur  debt.  Under the State  Constitution,
the State may not, with limited exceptions for emergencies, undertake long-term
general  obligation  borrowing (i.e.,  borrowing for more than one year) unless
the borrowing is  authorized in a specific  amount for a single work or purpose
by the  Legislature  and approved by the voters.  There is no limitation on the
amount of  long-term  general  obligation  debt that may be so  authorized  and
subsequently incurred by the State.

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<PAGE>

     The State may undertake  short-term  borrowings without voter approval (i)
in  anticipation  of the  receipt of taxes and  revenues,  by  issuing  tax and
revenue anticipation notes, and (ii) in anticipation of the receipt of proceeds
from the sale of duly  authorized but unissued  general  obligation  bonds,  by
issuing  bond  anticipation  notes.  The State may also,  pursuant  to specific
constitutional  authorization,  directly  guarantee certain  obligations of the
State of New York's authorities and public benefit corporations  (Authorities).
Payments  of debt  service on New York State  general  obligation  and New York
State-guaranteed  bonds and notes are legally  enforceable  obligations  of the
State of New York.

     The  State  employs  additional  long-term  financing  mechanisms,   lease
purchase and contractual  obligation  financings,  which involve obligations of
public  authorities or  municipalities  that are  State-supported,  but are not
general obligations of the State. Under these financing  arrangements,  certain
public  authorities and  municipalities  have issued obligations to finance the
construction   and   rehabilitation   of  facilities  or  the  acquisition  and
rehabilitation of equipment, and expect to meet their debt service requirements
through the receipt of rental or other contractual  payments made by the State.
Although these financing  arrangements  involve a contractual  agreement by the
State to make payments to a public authority, municipality or other entity, the
State's obligation to make such payments is generally expressly made subject to
appropriation  by the Legislature  and the actual  availability of money to the
State  for  making  the   payments.   The  State  has  also   entered   into  a
contractual-obligation   financing   arrangement   with  the  Local  Government
Assistance  Corporation  (LGAC) to restructure  the way the State makes certain
local aid payments.

     In 1990, as part of a State fiscal reform program, legislation was enacted
creating  LGAC,  a public  benefit  corporation  empowered  to issue  long-term
obligations to fund certain payments to local governments  traditionally funded
through New York State's annual seasonal  borrowing.  As of June 1995, LGAC had
issued bonds to provide net proceeds of $4.7 billion,  completing  the program.
The impact of LGAC's  borrowing is that the State is able to meet its cash flow
needs without relying on short-term seasonal borrowings.

     As of March 9,  1999,  Moody's  rated New York State  general  obligations
bonds A2, and Standard & Poor's rated such bonds A.  Standard & Poor's  revised
its rating  upwards from A- to A on August 28, 1997.  Ratings  reflect only the
respective views of such organizations,  and an explanation of the significance
of such ratings may be obtained  from the rating  agency  furnishing  the same.
There is no  assurance  that a  particular  rating will  continue for any given
period  of time or that  any  such  rating  will  not be  revised  downward  or
withdrawn  entirely,  if in the judgment of the agency originally  establishing
the rating, circumstances so warrant.

     As  of  March  31,  1998,  the  State  had  approximately   $5.03  billion
outstanding  in  general  obligation  debt,  including  $294  million  in  bond
anticipation notes  outstanding.  The total amount of moral obligation debt was
approximately  $1.39 billion,  and $24.02 billion of bonds issued  primarily in
connection with  lease-purchase and  contractual-obligation  financing of State
capital programs were outstanding.

     For purposes of analyzing  the financial  condition of the State,  debt of
the  State  and  of  certain   public   authorities   may  be   classified   as
State-supported  debt, which includes general obligations debt of the State and
lease-purchase   and  contractual   obligations  of  public   authorities  (and
municipalities) where debt service is paid from State appropriations (including
dedicated tax sources, and other revenues such as patient charges and dormitory
facilities  rentals).  In addition,  a broader  classification,  referred to as
State-related debt, includes  State-supported debt, as well as certain types of
contingent   obligations,   including   moral-obligation   financing,   certain
contingent  contractual-obligation financing arrangements, and State-guaranteed
debt,  where debt  service is expected to be paid from other  sources and State
appropriations  are  contingent  in that they may be made and used  only  under
certain circumstances.

     The total amount of State-supported debt outstanding grew from 3.4 percent
of personal income in the State in the 1988-1989 fiscal year to 6.1 percent for
the 1997-1998 fiscal year while  State-related  debt outstanding  declined from
6.8  percent to 6.6  percent of  personal  income  for the same  period.  Thus,
State-supported  debt  grew  at  a  faster  rate  than  personal  income  while
State-related  obligations  grew at a slower rate.  At the end of the 1997-1998
fiscal year, there was $37 billion of outstanding State-related debt and $34.25
billion of outstanding State-supported debt.

     Principal and interest  payments on general  obligation bonds and interest
payments on bond anticipation  notes were $749.7 million for the 1997-98 fiscal
year and were estimated to be $753.4 million for the 1998-99 fiscal year.

     LITIGATION.  Certain  litigation  pending  against  New York  State or its
officers or employees  could have a substantial or long-term  adverse effect on
New York State taxes.  An adverse  decision in any of these  proceedings  could
exceed the amount of the reserve  established in the State's financial plan for
the payment

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<PAGE>

of judgments and, therefore,  could affect the ability of the State to maintain
a balanced  financial plan. In its audited financial  statements for the fiscal
year ended March 31, 1998,  the State  reported  its  estimated  liability  for
awarded and anticipated unfavorable judgments to be $872 million.

     AUTHORITIES.  The fiscal stability of New York State is related,  in part,
to the fiscal stability of its Authorities, which generally have responsibility
for  financing,  constructing  and operating  revenue-producing  public benefit
facilities.  Authorities are not subject to the constitutional  restrictions on
the incurrence of debt which apply to the State itself, and may issue bonds and
notes within the amounts of, and as otherwise  restricted by, their legislative
authorization.  The  State's  access  to the  public  credit  markets  could be
impaired,  and the market price of its  outstanding  debt may be materially and
adversely  affected,  if  any of the  Authorities  were  to  default  on  their
respective   obligations,   particularly   with   respect   to  debt   that  is
State-supported  or  State-related.  As of  December  31,  1997,  there were 17
Authorities  that had  outstanding  debt of $100 million or more. The aggregate
outstanding debt, including refunding bonds, of all State Authorities was $84.1
billion, up from $75.4 billion as of September 30, 1996.

     Public authority  operating  expenses and debt service costs are generally
paid by revenues  generated by the projects financed or operated,  such as user
fees on bridges or tunnels,  highway tolls and rentals for dormitory  rooms and
housing units and charges for occupancy at medical care  facilities.  In recent
years,  however,  New York  State has  provided  financial  assistance  through
appropriations,  in  some  cases  of a  recurring  nature,  to  certain  of the
Authorities  for  operating  and other  expenses  and,  in  fulfillment  of its
commitments on moral  obligation  indebtedness or otherwise,  for debt service.
This  operating  assistance  is  expected  to continue to be required in future
years.  In addition,  certain  statutory  arrangements  provide for State local
assistance  payments  otherwise  payable to localities to be made under certain
circumstances  to certain  Authorities.  The State has no obligation to provide
additional  assistance to localities whose local assistance  payments have been
paid to Authorities under these  arrangements.  However, in the event that such
local assistance  payments are so diverted,  the affected localities could seek
additional State funds.

     NEW YORK CITY AND OTHER LOCALITIES.  The fiscal health of the State of New
York may also be impacted by the fiscal health of its localities,  particularly
The City of New York,  which has required and continues to require  significant
financial assistance from New York State. The City depends on State aid both to
enable the City to balance its budget and to meet its cash requirements.  There
can be no assurance  that there will not be reductions in State aid to the City
from amounts currently projected or that State budgets in any given fiscal year
will be adopted by the April 1 statutory  deadline,  or interim  appropriations
enacted, or that any such reductions or delays will not have adverse effects on
the City's cash flow or expenditures.

     For each of the 1981 through 1998 fiscal years,  the City had an operating
surplus,  before  discretionary  and other  transfers,  and  achieved  balanced
operating results as reported in accordance with generally accepted  accounting
principles ("GAAP"), after discretionary and other transfers. The City has been
required to close substantial  budget gaps in recent years in order to maintain
balanced operating results. A pattern of current year surplus operating results
and  projected  subsequent  year  budget gaps has been  consistent  through the
entire period since 1982,  during which the City has achieved surplus operating
results,  before discretionary  transfers for each fiscal year. There can be no
assurance that the City will continue to maintain a balanced budget as required
by State law, or that it can  maintain a balanced  budget  without tax or other
revenue increases or reductions in City services or entitlement programs, which
could adversely affect the City's economic base.

     In  1975,  New York  City  suffered  a fiscal  crisis  that  impaired  the
borrowing  ability of both the City and New York State.  In that year, the City
lost  access  to the  public  credit  markets.  The  City  was not able to sell
short-term notes to the public again until 1979.

     As of April  14,  1999,  Moody's  rated  the  City's  outstanding  general
obligation bonds A3, Standard & Poor's rated such bonds A- and Fitch rated such
bonds A. In July  1995,  Standard & Poor's  revised  downwards  its  ratings on
outstanding general obligation bonds of the City from A- to BBB+. In July 1998,
Standard & Poor's revised its rating of City bonds upward to A-. Moody's rating
of City bonds was revised in February  1998 to A3 from Baa1.  On March 8, 1999,
Fitch  revised its rating of City bonds upward to A. Such ratings  reflect only
the view of Moody's,  Standard & Poor's and Fitch, from which an explanation of
the  significance  of such ratings may be obtained.  There is no assurance that
such ratings  will  continue for any given period of time or that they will not
be revised  downward  or  withdrawn  entirely.  Any such  downward  revision or
withdrawal could have an adverse effect on the market prices of City bonds.

     New  York  City  is  heavily  dependent  on New  York  State  and  federal
assistance to cover insufficiencies in its revenues.  There can be no assurance
that in the future federal and State assistance will enable the

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<PAGE>

City  to  balance  its  budgets.   To  help  alleviate  the  City's   financial
difficulties,  the  Legislature  created the Municipal  Assistance  Corporation
(MAC) in 1975.  Since its  creation,  MAC has  provided,  among  other  things,
financing assistance to the City by refunding maturing City short-term debt and
transferring to the City funds received from sales of MAC bonds and notes.  MAC
is authorized to issue bonds and notes payable from certain stock  transfer tax
revenues,  from the City's  portion of the State  sales tax derived in the City
and,  subject  to certain  prior  claims,  from State per capita aid  otherwise
payable  by the  State  to the  City.  Failure  by the  State to  continue  the
imposition of such taxes, the reduction of the rate of such taxes to rates less
than  those in effect  on July 2,  1975,  failure  by the State to pay such aid
revenues and the  reduction of such aid  revenues  below a specified  level are
included  among the  events of  default in the  resolutions  authorizing  MAC's
long-term  debt.  The  occurrence  of an event of  default  may  result  in the
acceleration  of the maturity of all or a portion of MAC's debt.  MAC bonds and
notes  constitute  general   obligations  of  MAC  and  do  not  constitute  an
enforceable  obligation or debt of either the State or the City. As of December
31, 1998, MAC had outstanding an aggregate of approximately $3.2 billion of net
long-term  debt.  MAC is  authorized  to issue  bonds and  notes to refund  its
outstanding bonds and notes and to fund certain reserves.

     Since 1975, the City's  financial  condition has been subject to oversight
and review by the New York State  Financial  Control Board (the Control  Board)
and since 1978 the City's financial statements have been audited by independent
accounting  firms.  To be eligible for guarantees and  assistance,  the City is
required  during a  "control  period"  to submit  annually  for  Control  Board
approval,  and when a control period is not in effect for Control Board review,
a financial  plan for the next four fiscal years  covering the City and certain
agencies showing balanced budgets  determined in accordance with GAAP. New York
State also established the Office of the State Deputy  Comptroller for New York
City  (OSDC)  to  assist  the  Control  Board  in  exercising  its  powers  and
responsibilities.   On  June  30,  1986,   the  City  satisfied  the  statutory
requirements for termination of the control period. This means that the Control
Board's  powers of approval are suspended,  but the Control Board  continues to
have oversight responsibilities.

     The  Mayor  is  responsible  for  preparing  the  City's  financial  plan,
including the City's  current  financial  plan for the 1999 through 2003 fiscal
years (the  "1999-2003  Financial  Plan",  "Financial  Plan" or "City Plan." On
January 28, 1999,  the City  released the  Financial  Plan for the 1999 through
2003 fiscal years, which relates to the City and certain entities which receive
funds from the City. The Financial Plan is a modification to the financial plan
submitted to the Control Board on June 26, 1998 (the "June Financial Plan"), as
modified  in  November  1998.   The  Financial   Plan  projects   revenues  and
expenditures  for the 1999 and 2000 fiscal years  balanced in  accordance  with
GAAP,  and project gaps of $1.4 billion,  $1.6 billion and $1.2 billion for the
2001 through 2003 fiscal years, respectively.

     The 1999-2003 Financial Plan includes a proposed discretionary transfer in
the 1999  fiscal  year of $1.6  billion to pay debt  service due in fiscal year
2000, for budget stabilization  purposes, and a proposed discretionary transfer
in fiscal year 2000 to pay debt service due in fiscal year 2001  totaling  $345
million.

     In  addition,  the  Financial  Plan  sets  forth  gap-closing  actions  to
eliminate  a  previously  projected  gap for the 2000 fiscal year and to reduce
projected gaps for fiscal year 2001 through 2003. The  gap-closing  actions for
the 1999 through 2003 fiscal  years  include:  (i)  additional  agency  actions
totaling  $286  million,  $591  million,  $392  million,  $369 million and $357
million for fiscal  years 1999  through  2003,  respectively;  (ii)  additional
Federal  actions of $190  million in each of fiscal  years 2000  through  2003,
which  include  the  proposed  restoration  of $50  million of Federal  revenue
sharing and $140  million of increased  Federal  Medicaid aid in each of fiscal
years  2000  through  2003;  and  (iii)   additional   State  actions  totaling
approximately $300 million in each of fiscal year 2000 through 2003,  including
Medicaid cost  containment  initiatives  proposed in the  governor's  Executive
Budget for State fiscal year  1999-2000  and proposed by the City,  which would
reduce expenditures by the City by approximately $200 million in each of fiscal
year 2000  through  2003,  and  proposals by the City that the State enact tort
reform legislation,  increase revenue sharing payments and expand State funding
for low income uninsured children.  The Financial Plan also reflects a proposed
tax reduction  program  totaling $338 million,  $410 million,  $461 million and
$473  million in fiscal year 2000 through  2003,  respectively,  including  the
elimination  of the City's sales tax on all clothing as of December 1, 1999 and
the  extension  of  current  tax  reduction  for  owners  of  cooperatives  and
condominium apartments starting in fiscal year 2000, which are subject to State
legislative approval, reduction of the commercial rent tax commencing in fiscal
year 2000, and a $100 million annual tax reduction program,  to be based on the
advice of a tax reform task force, starting in fiscal year 2000.

     The 1999-2003 Financial Plan is based on numerous  assumptions,  including
the condition of the City's and the region's  economies  and modest  employment
growth and the concomitant  receipt of  economically  sensitive tax revenues in
the amounts projected. The 1999-2003 Financial Plan is subject to various other

                                      14
<PAGE>

uncertainties and contingencies  relating to, among other factors,  the extent,
if any, to which wage increases for City employees exceed the annual wage costs
assumed for the 1999  through  2003 fiscal  years;  continuation  of  projected
interest earnings  assumptions for pension fund assets and current  assumptions
with respect to wages for City employees  affecting the City's required pension
fund contributions; the willingness and ability of the State to provide the aid
contemplated  by the Financial Plan and to take various other actions to assist
the City;  the ability of Health and  Hospitals  Corporation  (the "HHC"),  the
Board of  Education  (the "BOE") and other such  agencies to maintain  balanced
budgets;  the  willingness  of the Federal  government to provide the amount of
Federal aid contemplated in the Financial Plan; the impact on City revenues and
expenditures  of Federal and State  welfare  reform and any future  legislation
affecting  Medicare  or other  entitlement  programs;  adoption  of the  City's
budgets by the City Council in substantially  the forms submitted by the Mayor;
the  ability  of the City to  implement  cost  reduction  initiatives,  and the
success with which the City controls expenditures;  the impact of conditions in
the  real  estate  market  on  real  estate  tax  revenues;  and  unanticipated
expenditures  that may be  incurred  as a result  of the need to  maintain  the
City's infrastructure. Certain of these assumptions have been questioned by the
City Comptroller and other public officials.

     The  Financial  Plan  assumes;  (i) approval by the Governor and the State
Legislature of the extension of the 14% personal income tax surcharge, which is
scheduled  to expire on December  31,  1999,  and which is projected to provide
revenue of $175  million,  $536  million,  $540 million and $548 million in the
2000 through 2003 fiscal years, respectively; (ii) collection of projected rent
payments for the City's airports,  totaling $365 million, $185 million and $155
million in the 2001  through 2003 fiscal  years,  respectively,  a  substantial
portion of which may depend on the successful  completion of negotiations  with
The Port  Authority  of New York and New Jersey (the "Port  Authority")  or the
enforcement  of the City's  rights under the existing  leases  through  pending
legal  action;  (iii)  State and  Federal  approval  of the  State and  Federal
gap-closing  actions  proposed  by the  City in the  Financial  Plan;  and (iv)
receipt of the tobacco  settlement  funds  providing  revenues  of  expenditure
offsets in annual amounts ranging between $250 million and $300 million. It can
be expected  that the  Financial  Plan will  engender  public debate which will
continue  through the time the budget is  scheduled to be adopted in June 1999,
and that there will be proposals to increase  spending and reject Medicaid cost
containment  proposals in the Financial Plan.  Accordingly,  the Financial Plan
may be changed by the time the budget  for  fiscal  year 2000 is  adopted.  The
Financial Plan provides no additional  wage increases for City employees  after
their contracts expire in fiscal year 2000 and 2001. In addition,  the economic
and  financial  condition  of the City may be  affected  by various  financial,
social,  economic and political  factors which could have a material  effect on
the City.

     Implementation  of the  City  Financial  Plan is also  dependent  upon the
City's  ability to market its securities  successfully.  The City's program for
financing  capital projects for fiscal years 1999 through 2003 contemplates the
issuance of $7.3 billion of general  obligation bonds, $5.4 billion of bonds to
be  issued  by  the  New  York  City   Transitional   Finance   Authority  (the
"Transitional Finance Authority") and $2.5 billion of bonds to be issued by the
Tobacco  Settlement Asset  Securitization  Corporation  ("TSASC") and paid from
revenues  received pursuant to a settlement of litigation with the four leading
cigarette companies.  The Transitional Finance Authority and TSASC were created
to  assist  the City in  financing  its  capital  program  while  keeping  City
indebtedness  within the forecast level of the  constitutional  restrictions on
the  amount of debt the City is  authorized  to incur.  If TSASC is not able to
issue  $2.5  billion  of bonds,  the City will need to find  another  source of
financing or substantially  curtail or halt its capital  program.  In 1997, the
State  enacted  the New  York  City  Transitional  Finance  Authority  Act (the
"Finance Authority Act"), which created the Transitional Finance Authority.  In
a challenge to the  constitutionality  of the Finance  Authority Act, the State
trial  court,  by summary  judgment  on  November  25,  1997,  held the Finance
Authority  Act to be  constitutional.  On July 30,  1998,  the State  Appellate
Division  affirmed the trial  court's  decision.  Plaintiffs  filed a notice of
appeal  with the  State's  Court of  Appeals  for an  appeal as of right of the
Appellate Division order. The appeal as of right was dismissed on September 22,
1998. Plaintiffs subsequently filed a motion for leave to appeal with the Court
of  Appeals,  which  motion was denied on  December  22,  1998.  In March 1999,
plaintiffs  filed a petition  for a writ of  certiorari  to the  United  States
Supreme Court. Without additional borrowing capacity, under current projections
the City would reach the limit of its  capacity  to enter into new  contractual
commitments in fiscal year 2000. Even with the ability to issue $2.5 billion in
bonds by  TSASC,  the City  expects  that it will be  required  to  postpone  a
substantial  part of its  capital  program  from the latter part of fiscal year
2001 to fiscal year 2002.  In addition,  the City issues  revenue notes and tax
anticipation  notes to finance its seasonal working capital  requirements.  The
success  of  projected  public  sales of City  bonds and  notes,  New York City
Municipal   Water  Finance   Authority  (the  "Water   Authority")   bonds  and
Transitional  Finance  Authority  and other bonds will be subject to prevailing
market

                                      15
<PAGE>

conditions. The City's planned capital and operating expenditures are dependent
upon the sale of its  general  obligation  bonds  and  notes,  as well as Water
Authority, Transitional Finance Authority and TSASC bonds.

     The year 2000 presents  potential  operational  problems for  computerized
data files and computer  programs which may recognize the year 2000 as the year
1900,  resulting in possible  system failures or  miscalculations.  In November
1996, the City's Year 2000 Project Office was  established to develop a project
methodology,  coordinate the efforts of City agencies, review plans and oversee
implementation of year 2000 projects. At that time, the City also evaluated the
capabilities of the City's Integrated  Financial  Management System and Capital
Projects Information System, which are the City's central accounting, budgeting
and payroll systems,  identified the potential impact of the year 2000 on these
systems,  and developed a plan to replace these systems with a new system which
is expected to be year 2000 compliant  prior to December 31, 1999. The City has
also  performed an assessment of its other  mission-critical  and high priority
computer  systems in connection with making them year 2000  compliant,  and the
City's  agencies  have  developed  and begun to implement  both  strategic  and
operational plans for non-compliant  application systems. In addition, the City
Comptroller is conducting  audits of the progress of City agencies in achieving
year 2000 compliance.  While these efforts may involve  additional costs beyond
those  assumed in the Financial  Plan,  the City  believes,  based on currently
available information, that such additional costs will not be material.

     The Mayor's Office of Operations has stated that work has been  completed,
and all or part of the necessary  testing has been performed,  on approximately
54% (current as of April 14, 1999) of the  mission-critical  and high  priority
systems of Mayoral  agencies.  The City's computer  systems may not all be year
2000  compliant in a timely manner and there could be an adverse impact on City
operations  or revenues as a result.  The City is in the process of  developing
contingency plans for all mission-critical and high priority systems of Mayoral
agencies,  if such systems are not year 2000 compliant by pre-determined dates.
The City is also in the  process of  contacting  its  significant  third  party
vendors regarding the status of their compliance. Such compliance is not within
the City's control, and therefore the City cannot assure that there will not be
any  adverse  effects on the City  resulting  from any  failure of these  third
parties.

     From time to time, the Control Board staff, the staff of the Office of the
State  Deputy  Comptroller  of New  York,  the  City  Comptroller,  the  City's
Independent  Budget Office and others issue reports and make public  statements
regarding the City's financial  condition,  commenting on, among other matters,
the City's financial plans,  projected revenues and expenditures and actions by
the City to eliminate projected  operating deficits.  Some of these reports and
statements  have  warned  that  the  City  may  have   underestimated   certain
expenditures  and  overestimated  certain  revenues and have suggested that the
City may not have  adequately  provided  for future  contingencies.  Certain of
these reports have analyzed the City's  future  economic and social  conditions
and have  questioned  whether the City has the capacity to generate  sufficient
revenues in the future to meet the costs of its  expenditure  increases  and to
provide  necessary  services.  It is  reasonable  to expect  that  reports  and
statements will continue to be issued and to engender public comment.

     On August 25, 1998,  the City  Comptroller  issued a report  reviewing the
current  condition  of  the  City's  major  physical  assets  and  the  capital
expenditures  required to bring them to a state of good  repair.  The  report's
findings  relate  only to  current  infrastructure  and do not  address  future
capacity or technology  needs.  The report  estimated  that the  expenditure of
approximately  $91.83  billion  would be required over the next decade to bring
the City's  infrastructure to a systematic state of good repair and address new
capital needs  already  identified.  The report stated that the City's  current
Ten-Year Capital  Strategy,  together with funding received from other sources,
is projected to provide approximately $52.08 billion. The report noted that the
City's  ability to meet all capital  obligations  is limited by law, as well as
funding capacity, and that the issue for the City is how best to set priorities
and manage limited resources.

     The City since 1981 has fully  satisfied its seasonal  financing  needs in
the public credit  markets,  repaying all short-term  obligations  within their
fiscal year of issuance. The City issued $500 million of short-term obligations
in the 1999 fiscal year for financing cash flow needs for the 1999 fiscal year.
The City issued $1.075 billion of short-term obligations in fiscal year 1998 to
finance the City's  current  estimate of its  seasonal  cash flow needs for the
1998 fiscal year.  The City issued $2.4 billion of  short-term  obligations  in
fiscal  year 1997.  Seasonal  financing  requirements  for the 1996 fiscal year
increased to $2.4  billion from $2.2 billion and $1.75  billion in the 1995 and
1994  fiscal  years,  respectively.  The delay in the  adoption  of the State's
budget in certain past fiscal  years has required the City to issue  short-term
notes in amounts exceeding those expected early in such fiscal year.

                                      16
<PAGE>

     Certain localities, in addition to the City, could have financial problems
leading to requests for  additional  New York State  assistance.  The potential
impact on the State of such  requests  by  localities  was not  included in the
State's projections of its receipts and disbursements.

     Fiscal  difficulties  experienced  by  the  City  of  Yonkers  ("Yonkers")
resulted  in the  creation of the  Financial  Control  Board for  Yonkers  (the
"Yonkers Board") by the State in 1984. On June 30, 1998,  Yonkers satisfied the
statutory  conditions for ending the supervision of its finances by the Yonkers
Board. Pursuant to State law, the control board's powers over Yonker's finances
lapsed after the satisfaction of these conditions, on December 31, 1998.

     Beginning  in 1990,  the City of Troy  experienced  a series of  budgetary
deficits that resulted in the establishment of a Supervisory Board for the City
of Troy in 1994. The  Supervisory  Board's powers were increased in 1995,  when
Troy MAC was  created to help Troy avoid  default on certain  obligations.  The
legislation  creating Troy MAC prohibits the City of Troy from seeking  federal
bankruptcy protection while Troy MAC bonds are outstanding. Troy MAC has issued
bonds to effect a restructuring of the City of Troy's obligations.

     Eighteen municipalities received extraordinary  assistance during the 1996
legislative session through $50 million in special appropriations  targeted for
distressed  cities  and  twenty-eight  municipalities  received  more  than $32
million in target unrestricted aid in the 1997-1998 State budget.

     Municipalities and school districts have engaged in substantial short-term
and long-term borrowings.  In 1996, the total indebtedness of all localities in
New York State  other than New York City was  approximately  $20.0  billion.  A
small portion  (approximately  $77.2 million) of that indebtedness  represented
borrowing to finance budgetary deficits and was issued pursuant to enabling New
York State  legislation.  State law requires the Comptroller to review and make
recommendations  concerning the budgets of those local  government  units other
than New York City  authorized  by State law to issue debt to finance  deficits
during  the period  that such  deficit  financing  is  outstanding.  Twenty-one
localities had outstanding  indebtedness for deficit  financing at the close of
their fiscal year ending in 1996.

     From time to time, federal expenditure reductions could reduce, or in some
cases eliminate,  federal funding of some local programs and accordingly  might
impose substantial increased  expenditure  requirements on affected localities.
If New York  State,  New York  City or any of the  Authorities  were to  suffer
serious  financial  difficulties  jeopardizing  their respective  access to the
public  credit  markets,  the  marketability  of  notes  and  bonds  issued  by
localities within New York State could be adversely  affected.  Localities also
face  anticipated  and  potential   problems  resulting  from  certain  pending
litigation,  judicial  decisions and  long-range  economic  trends.  Long-range
potential problems of declining urban population,  increasing  expenditures and
other economic trends could adversely affect localities and require  increasing
New York State assistance in the future.

                             PORTFOLIO TRANSACTIONS

The  Manager,   pursuant  to  the  Advisory  Agreement  dated  July  20,  1990,
supplemented  by letter  agreement  dated  July 26,  1990,  and  subject to the
general control of the Company's Board of Directors,  places all orders for the
purchase and sale of Fund  securities.  Purchases of Fund  securities  are made
either  directly  from  the  issuer  or from  dealers  who  deal in  tax-exempt
securities.  The  Manager  may  sell  Fund  securities  prior  to  maturity  if
circumstances  warrant and if it believes such  disposition  is  advisable.  In
connection with portfolio  transactions  for the Company,  the Manager seeks to
obtain  the best  available  net price  and most  favorable  execution  for its
orders.  The Manager has no agreement or commitment to place  transactions with
any  broker-dealer  and no regular  formula is used to  allocate  orders to any
broker-dealer.  However,  the Manager may place security orders with brokers or
dealers who furnish  research or other services to the Manager as long as there
is no sacrifice in obtaining the best overall terms available. Payment for such
services  would be generated  only  through  purchase of new issue fixed income
securities.

     Such  research  and  other  services  may  include,  for  example:  advice
concerning  the  value  of  securities,   the  advisability  of  investing  in,
purchasing,  or selling  securities,  and the availability of securities or the
purchasers or sellers of securities;  analyses and reports concerning  issuers,
industries,  securities,  economic factors and trends,  portfolio strategy, and
performance  of  accounts;   and  various  functions  incidental  to  effecting
securities  transactions,  such as clearance  and  settlement.  These  research
services may also include access to research on third party data bases, such as
historical  data on  companies,  financial  statements,  earnings  history  and
estimates and corporate releases; real-time quotes and financial news; research
on specific fixed income securities;  research on international market news and
securities;  and

                                      17
<PAGE>

rating services on companies and industries.  The Manager  continuously reviews
the  performance  of  the  broker-dealers   with  whom  it  places  orders  for
transactions.   The  receipt  of  research  from  broker-dealers  that  execute
transactions on behalf of the Company may be useful to the Manager in rendering
investment  management  services to other clients (including  affiliates of the
Manager),  and conversely,  such research provided by  broker-dealers  who have
executed  transaction  orders on behalf of other  clients  may be useful to the
Manager in carrying out its obligations to the Company.  While such research is
available to and may be used by the Manager in providing  investment  advice to
all its clients (including affiliates of the Manager), not all of such research
may be used by the Manager for the benefit of the  Company.  Such  research and
services  will be in  addition  to and not in lieu  of  research  and  services
provided by the Manager,  and the expenses of the Manager will not  necessarily
be reduced by the  receipt of such  supplemental  research.  See THE  COMPANY'S
MANAGER.

     On occasions  when the Manager deems the purchase or sale of a security to
be in the best interest of the Company, as well as the Manager's other clients,
the Manager,  to the extent permitted by applicable laws and  regulations,  may
aggregate such securities to be sold or purchased for the Company with those to
be sold or purchased for other  customers in order to obtain best execution and
lower  brokerage  commissions,  if  any.  In  such  event,  allocation  of  the
securities  so  purchased  or sold,  as well as the  expenses  incurred  in the
transaction,  will be made by the Manager in the manner it considers to be most
equitable and consistent with its fiduciary  obligations to all such customers,
including the Company.  In some instances,  this procedure may impact the price
and size of the position obtainable for the Company.

     The  tax-exempt  security  market is typically a "dealer"  market in which
investment  dealers buy and sell bonds for their own accounts,  rather than for
customers,  and although the price may reflect a dealer's mark-up or mark-down,
the Company pays no brokerage commissions as such. In addition, some securities
may be purchased directly from issuers.

PORTFOLIO TURNOVER RATES

The  portfolio  turnover  rate is  computed by  dividing  the dollar  amount of
securities  purchased or sold  (whichever  is smaller) by the average  value of
securities owned during the year.

     The rate of  portfolio  turnover  will not be a limiting  factor  when the
Manager deems changes in the New York Bond Fund's portfolio appropriate in view
of  its  investment  objective.   For  example,   securities  may  be  sold  in
anticipation  of a rise in interest  rates  (market  decline) or  purchased  in
anticipation  of a decline in interest  rates  (market rise) and later sold. In
addition, a security may be sold and another security of comparable quality may
be purchased at approximately  the same time in order to take advantage of what
the Fund believes to be a temporary  disparity in the normal yield relationship
between the two securities.  These yield  disparities may occur for reasons not
directly related to the investment  quality of particular issues or the general
movement of interest rates, such as changes in the overall demand for or supply
of various types of tax-exempt securities.

     For the last two fiscal years the New York Bond Fund's portfolio  turnover
rates were as follows:

             1998. . . . . 49.49%       1999. . . . . 27.64%

     Portfolio  turnover  rates  have  been  calculated   excluding  short-term
variable rate securities,  which are those with put date intervals of less than
one year.

                             DESCRIPTION OF SHARES


The Funds are  series of USAA Tax  Exempt  Fund,  Inc.  (the  Company)  and are
diversified.   The  Company  is  an  open-end  management   investment  company
incorporated  under the laws of the state of Maryland on November 16, 1981. The
Company is  authorized to issue shares in separate  series or funds.  There are
ten mutual funds in the Company,  two of which are described in this SAI. Under
the Articles of  Incorporation,  the Board of Directors is authorized to create
new  portfolios  in  addition to those  already  existing  without  shareholder
approval.  The Company began offering  shares of the New York Bond and New York
Money Market Funds in October 1990.

     Each  Fund's  assets  and all  income,  earnings,  profits,  and  proceeds
thereof, subject only to the rights of creditors, are specifically allocated to
such Fund. They constitute the underlying  assets of each Fund, are required to
be segregated on the books of account,  and are to be charged with the expenses
of such Fund. Any general  expenses of the Company not readily  identifiable as
belonging  to a  particular  Fund are  allocated  on the  basis  of the  Funds'
relative net assets during the fiscal year or in such other manner as the Board
determines  to be fair and  equitable.  Each share or each Fund  represents  an
equal  proportionate  interest  in

                                      18
<PAGE>

that Fund with every other share and is entitled to dividends and distributions
out of the net income and capital gains belonging to that Fund when declared by
the Board.

     Under the  provisions of the Bylaws of the Company,  no annual  meeting of
shareholders is required. Thus, there will ordinarily be no shareholder meeting
unless  required  by  the  1940  Act.  Under  certain  circumstances,  however,
shareholders  may apply to the Directors for shareholder  information to obtain
signatures  to request a special  shareholder  meeting.  The  Company  may fill
vacancies on the Board or appoint new  Directors if the result is that at least
two-thirds of the Directors have still been elected by shareholders.  Moreover,
pursuant  to the  Bylaws of the  Company,  any  Director  may be removed by the
affirmative vote of a majority of the outstanding  Company shares;  and holders
of 10% or more of the outstanding  shares of the Company can require  Directors
to call a meeting of  shareholders  for the purpose of voting on the removal of
one or more  Directors.  The  Company  will  assist in  communicating  to other
shareholders  about the meeting.  On any matter submitted to the  shareholders,
the  holder  of each  Fund  share  is  entitled  to one vote  per  share  (with
proportionate  voting for  fractional  shares)  regardless  of the relative net
asset values of the Funds' shares.  However, on matters affecting an individual
Fund,  a  separate  vote  of  the   shareholders  of  that  Fund  is  required.
Shareholders  of a Fund are not  entitled  to vote on any matter  that does not
affect that Fund but which requires a separate vote of another Fund.  Shares do
not have cumulative voting rights, which means that holders of more than 50% of
the shares voting for the election of Directors can elect 100% of the Company's
Board of  Directors,  and the holders of less than 50% of the shares voting for
the election of Directors will not be able to elect any person as a Director.

     Shareholders of a particular Fund might have the power to elect all of the
Directors  of the  Company  because  that  Fund  has a  majority  of the  total
outstanding  shares of the Company.  When issued,  each Fund's shares are fully
paid and  nonassessable,  have no pre-emptive or subscription  rights,  and are
fully transferable. There are no conversion rights.

                   CERTAIN FEDERAL INCOME TAX CONSIDERATIONS

TAXATION OF THE FUNDS

Each Fund intends to qualify as a regulated investment company under Subchapter
M of the  Internal  Revenue Code of 1986,  as amended (the Code).  Accordingly,
each  Fund will not be liable  for  federal  income  taxes on its  taxable  net
investment  income and net capital  gains  (capital  gains in excess of capital
losses)  that  are  distributed  to  shareholders,   provided  that  each  Fund
distributes  at  least  90% of its net  investment  income  and net  short-term
capital gain for the taxable year.

     To qualify as a regulated  investment  company,  a Fund must,  among other
things,  (1) derive in each  taxable year at least 90% of its gross income from
dividends,  interest, payments with respect to securities loans, gains from the
sale or other disposition of stock, securities, or foreign currencies, or other
income  derived  with  respect to its  business  of  investing  in such  stock,
securities or currencies (the 90% test) and (2) satisfy certain diversification
requirements  at the  close  of  each  quarter  of  the  Fund's  taxable  year.
Furthermore,  to pay tax-exempt interest income dividends,  at least 50% of the
value of each Fund's  total  assets at the close of each quarter of its taxable
year must consist of  obligations  the interest of which is exempt from federal
income tax. Each Fund intends to satisfy this requirement.

     The Code imposes a nondeductible  4% excise tax on a regulated  investment
company that fails to  distribute  during each calendar year an amount at least
equal  to the sum of (1)  98% of its  taxable  net  investment  income  for the
calendar  year,  (2) 98% of its  capital  gain net income for the  twelve-month
period  ending on October 31, and (3) any prior amounts not  distributed.  Each
Fund intends to make such distributions as are necessary to avoid imposition of
this excise tax.

     For federal income tax purposes,  debt  securities  purchased by the Funds
may be treated as having  original  issue  discount.  Original  issue  discount
represents interest income for federal income tax purposes and can generally be
defined as the  excess of the stated  redemption  price at  maturity  of a debt
obligation over the issue price. Original issue discount is treated for federal
income  tax  purposes  as earned by the  Funds,  whether  or not any  income is
actually received, and therefore is subject to the distribution requirements of
the  Code.  However,   original  issue  discount  with  respect  to  tax-exempt
obligations generally will be excluded from the Funds' taxable income, although
such  discount  will be included in gross  income for  purposes of the 90% test
described  previously.  Original  issue  discount  with  respect to  tax-exempt
securities  is accrued and added to the adjusted  tax basis of such  securities
for purposes of determining  gain or loss upon sale or at maturity.  Generally,
the amount of original  issue discount is determined on the basis

                                      19
<PAGE>

of a constant  yield to maturity  which takes into account the  compounding  of
accrued  interest.  An investment  in a stripped  bond or stripped  coupon will
result in original issue discount.

     Debt securities may be purchased by the Funds at a market discount. Market
discount  occurs when a security is purchased at a price less than the original
issue price  adjusted for accrued  original issue  discount,  if any. The Funds
intend to defer  recognition of accrued market discount until maturity or other
disposition  of the bond. For securities  purchased at a market  discount,  the
gain realized on disposition  will be treated as taxable ordinary income to the
extent it does not exceed accrued market discount on the bond.

     The Funds may also  purchase  debt  securities  at a premium,  I.E.,  at a
purchase price in excess of face amount. With respect to tax-exempt securities,
the premium must be amortized to the maturity  date but no deduction is allowed
for the premium amortization. The amortized bond premium will reduce the Funds'
adjusted tax basis in the securities.  For taxable securities,  the premium may
be amortized if the Funds so elect. The amortized premium on taxable securities
is first offset against interest received on the securities and then allowed as
a deduction,  and, for  securities  issued after  September  27, 1985,  must be
amortized under an economic accrual method.

TAXATION OF THE SHAREHOLDERS

Taxable  distributions are generally  included in a shareholder's  gross income
for the taxable year in which they are received. Dividends declared in October,
November,  or December  and made  payable to  shareholders  of record in such a
month will be deemed to have been  received on December  31, if a Fund pays the
dividend during the following  January.  It is expected that none of the Funds'
distributions will qualify for the corporate dividends-received deduction.

     To the extent that a Fund's  dividends  distributed  to  shareholders  are
derived from interest  income exempt from federal income tax and are designated
as  "exempt-interest  dividends"  by a Fund,  they  will be  excludable  from a
shareholder's  gross income for federal income tax purposes.  Shareholders  who
are recipients of Social Security benefits should be aware that exempt-interest
dividends received from a Fund are includible in their "modified adjusted gross
income"  for  purposes  of  determining  the  amount  of such  Social  Security
benefits, if any, that are required to be included in their gross income.

     All  distributions of investment income during the year will have the same
percentage designated as tax-exempt.  This method is called the "average annual
method."  Since  the Funds  invest  primarily  in  tax-exempt  securities,  the
percentage will be substantially  the same as the amount actually earned during
any particular distribution period.

     A shareholder  of the New York Bond Fund should be aware that a redemption
of shares  (including  any exchange  into another USAA Fund) is a taxable event
and,  accordingly,  a capital gain or loss may be recognized.  If a shareholder
receives an  exempt-interest  dividend with respect to any share and such share
has been held for six months or less,  any loss on the  redemption  or exchange
will be disallowed to the extent of such exempt-interest  dividend.  Similarly,
if a  shareholder  of the Fund  receives a  distribution  taxable as  long-term
capital gain with respect to shares of the Fund and redeems or exchanges shares
before  he or she has  held  them for more  than  six  months,  any loss on the
redemption  or  exchange  (not  otherwise  disallowed  as  attributable  to  an
exempt-interest dividend) will be treated as long-term capital loss.

     The Funds may  invest in  private  activity  bonds.  Interest  on  certain
private  activity  bonds  issued  after  August  7,  1986,  is an  item  of tax
preference for purposes of the Federal Alternative Minimum Tax (AMT),  although
the interest  continues to be excludable  from gross income for other purposes.
AMT is a  supplemental  tax  designed to ensure that  taxpayers  pay at least a
minimum  amount of tax on their income,  even if they make  substantial  use of
certain tax deductions and  exclusions  (referred to as tax preference  items).
Interest from private activity bonds is one of the tax preference items that is
added to income from other  sources for the purposes of  determining  whether a
taxpayer  is  subject  to the AMT and the  amount  of any tax to be  paid.  For
corporate investors,  alternative minimum taxable income is increased by 75% of
the amount by which adjusted current earnings (ACE) exceeds alternative minimum
taxable  income  before  the  ACE  adjustment.  For  corporate  taxpayers,  all
tax-exempt  interest is considered in  calculating  the AMT as part of the ACE.
Prospective investors should consult their own tax advisers with respect to the
possible application of the AMT to their tax situation.

     Opinions  relating  to the  validity  of  tax-exempt  securities  and  the
exemption  of  interest  thereon  from  federal  income  tax  are  rendered  by
recognized  bond counsel to the issuers.  Neither the  Manager's nor the Funds'
counsel makes any review of the basis of such opinions.

                                      20
<PAGE>

                     DIRECTORS AND OFFICERS OF THE COMPANY

The Board of Directors of the Company consists of seven Directors who supervise
the business  affairs of the  Company.  Set forth below are the  Directors  and
officers of the Company, and their respective offices and principal occupations
during the last five years. Unless otherwise indicated, the business address of
each is 9800 Fredericksburg Road, San Antonio, TX 78288.

Robert G. Davis 1, 2
Director and Chairman of the Board of Directors
Age: 52

Chief  Operating  Officer  of United  Services  Automobile  Association  (USAA)
(6/99-present);  Deputy Chief Executive Officer for Capital  Management of USAA
(6/98-5/99); President, Chief Executive Officer, Director, and Vice Chairman of
the  Board  of  Directors  of  USAA  Capital  Corporation  and  several  of its
subsidiaries and affiliates (1/97-present); President, Chief Executive Officer,
Director,  and Chairman of the Board of Directors  of USAA  Financial  Planning
Network,  Inc.  (1/97-present);   Executive  Vice  President,  Chief  Operating
Officer,  Director,  and  Vice  Chairman  of the  Board  of  Directors  of USAA
Financial Planning Network, Inc.  (6/96-12/96);  Special Assistant to Chairman,
USAA  (6/96-12/96);  President  and Chief  Executive  Officer,  Banc One Credit
Corporation  (12/95-6/96);  and President and Chief Executive Officer, Banc One
Columbus,  (8/91-12/95). Mr. Davis serves as a Director/Trustee and Chairman of
the Boards of Directors/Trustees of each of the remaining funds within the USAA
Family of Funds;  Director  and  Chairman  of the Boards of  Directors  of USAA
Investment  Management Company (IMCO), USAA Shareholder Account Services,  USAA
Federal Savings Bank, and USAA Real Estate Company.

Michael J.C. Roth 1, 2
Director, President, and Vice Chairman of the Board of Directors
Age: 57

Chief Executive Officer, IMCO (10/93-present);  President,  Director,  and Vice
Chairman of the Board of  Directors,  IMCO  (1/90-present).  Mr. Roth serves as
President,   Director/Trustee,   and   Vice   Chairman   of   the   Boards   of
Directors/Trustees  of each of the  remaining  funds  within the USAA Family of
Funds and USAA Shareholder  Account  Services;  Director of USAA Life Insurance
Company; and Trustee and Vice Chairman of USAA Life Investment Trust.

John W. Saunders, Jr. 1, 2, 4
Director and Vice President
Age: 64

Senior Vice President,  Fixed Income  Investments,  IMCO  (10/85-present).  Mr.
Saunders serves as a Director/Trustee of each of the remaining funds within the
USAA  Family  of  Funds;  Director  of  IMCO;  Senior  Vice  President  of USAA
Shareholder Account Services, and Vice President of USAA Life Investment Trust.

Barbara B. Dreeben 3, 4, 5
200 Patterson #1008
San Antonio, TX 78209
Director
Age: 54

President,   Postal  Addvantage  (7/92-present);   Consultant,   Nancy  Harkins
Stationer  (8/91-12/95).  Mrs. Dreeben serves as a Director/Trustee  of each of
the remaining funds within the USAA Family of Funds.

Howard L. Freeman, Jr. 2, 3, 4, 5
2710 Hopeton
San Antonio, TX 78230
Director
Age: 64

Retired. Assistant General Manager for Finance, San Antonio City Public Service
Board  (1976-1996).  Mr.  Freeman serves as a  Director/Trustee  of each of the
remaining funds within the USAA Family of Funds.

                                      21
<PAGE>

Robert L. Mason, Ph.D. 3, 4, 5
12823 Queens Forest
San Antonio, TX 78230
Director
Age: 53

Staff Analyst,  Statistical  Analysis  Section,  Southwest  Research  Institute
(9/98-present);  Manager,  Statistical  Analysis  Section,  Southwest  Research
Institute (8/75-9/98).  Dr. Mason serves as a Director/Trustee of the remaining
funds within each of the USAA Family of Funds.

Richard A. Zucker 3, 4, 5
407 Arch Bluff
San Antonio, TX 78216
Director
Age: 56

Vice President, Beldon Roofing and Remodeling (1985-present). Mr. Zucker serves
as a Director/Trustee  of each of the remaining funds within the USAA Family of
Funds.

Michael D. Wagner 1
Secretary
Age: 51

Senior Vice President,  CAPCO General Counsel (01/99-present);  Vice President,
Corporate Counsel, USAA (1982-01/99).  Mr. Wagner has held various positions in
the  legal  department  of USAA  since  1970  and  serves  as  Vice  President,
Secretary, and Counsel, IMCO and USAA Shareholder Account Services;  Secretary,
of each of the remaining funds within the USAA Family of Funds; Vice President,
Corporate Counsel for various other USAA subsidiaries and affiliates.

Alex M. Ciccone 1
Assistant Secretary
Age: 49

Vice  President,  Compliance,  IMCO  (12/94-present);  Vice President and Chief
Operating Officer, Commonwealth Shareholder Services (6/94-11/94).  Mr. Ciccone
serves as Assistant  Secretary of each of the  remaining  funds within the USAA
Family of Funds.

Mark S. Howard 1
Assistant Secretary
Age: 35

Assistant Vice President,  Securities Counsel,  USAA (2/98-present);  Executive
Director,  Securities  Counsel,  USAA  (9/96-2/98);  Senior Associate  Counsel,
Securities  Counsel,  USAA  (5/95-8/96);  Attorney,  Kirkpatrick & Lockhart LLP
(9/90-4/95).  Mr.  Howard  serves as Assistant  Vice  President  and  Assistant
Secretary,  IMCO and USAA Shareholder Account Services;  Assistant Secretary of
each of the remaining funds within the USAA Family of Funds; and Assistant Vice
President,   Securities   Counsel  for  various  other  USAA  subsidiaries  and
affiliates.

Sherron A. Kirk 1
Treasurer
Age: 54

Vice President, Senior Financial Officer, IMCO (8/98-present);  Vice President,
Controller,  IMCO  (10/92-8/98).  Mrs.  Kirk serves as Treasurer of each of the
remaining  funds  within  the USAA  Family of  Funds;  Vice  President,  Senior
Financial Officer of USAA Shareholder Account Services.

Caryl Swann 1
Assistant Treasurer
Age: 51

Executive  Director,  Mutual  Fund  Analysis & Support,  IMCO  (10/98-present);
Director, Mutual Fund Portfolio Analysis & Support, IMCO (2/98-10/98); Manager,
Mutual  Fund  Accounting,  IMCO  (7/92-2/98).  Ms.  Swann  serves as  Assistant
Treasurer for each of the remaining funds within the USAA Family of Funds.

                                      22
<PAGE>

- ---------------------

 1 Indicates  those  Directors and officers who are employees of the Manager or
   affiliated companies and are considered  "interested persons" under the 1940
   Act.
 2 Member of Executive Committee
 3 Member of Audit Committee
 4 Member of Pricing and Investment Committee
 5 Member of Corporate Governance Committee

     Between the meetings of the Board of Directors  and while the Board is not
in session,  the  Executive  Committee  of the Board of  Directors  has all the
powers  and may  exercise  all the  duties  of the  Board of  Directors  in the
management  of the business of the Company  which may be delegated to it by the
Board. The Pricing and Investment Committee of the Board of Directors acts upon
various  investment-related  issues and other matters which have been delegated
to it by the Board.  The Audit Committee of the Board of Directors  reviews the
financial  statements and the auditor's reports and undertakes  certain studies
and analyses as directed by the Board.  The Corporate  Governance  Committee of
the Board of Directors  maintains  oversight of the organization,  performance,
and effectiveness of the Board and Independent Directors.

     In addition to the  previously  listed  Directors  and/or  officers of the
Company  who also  serve as  Directors  and/or  officers  of the  Manager,  the
following  individuals are Directors and/or executive  officers of the Manager:
Carl W. Shirley, Senior Vice President,  Insurance Company Portfolios;  John J.
Dallahan,  Senior Vice President,  Investment  Services;  and David G. Peebles,
Senior Vice President,  Equity Investments.  There are no family  relationships
among the Directors, officers and managerial level employees of the Company, or
its Manager.

     The following table sets forth information  describing the compensation of
the current  Directors of the Company for their  services as Directors  for the
fiscal year ended March 31, 1999.

          NAME                    AGGREGATE           TOTAL COMPENSATION
           OF                    COMPENSATION            FROM THE USAA
         DIRECTOR              FROM THE COMPANY       FAMILY OF FUNDS (b)
         --------              -----------------      -------------------
         Robert G. Davis             None (a)                   None (a)
         Barbara B. Dreeben        $9,678                    $36,500
         Howard L. Freeman, Jr.    $9,678                    $36,500
         Robert L. Mason           $9,678                    $36,500
         Michael J.C. Roth           None (a)                   None (a)
         John W. Saunders, Jr.       None (a)                   None (a)
         Richard A. Zucker         $9,678                    $36,500


- --------------------
(a)  Robert G.  Davis,  Michael  J.C.  Roth,  and  John  W.  Saunders,  Jr. are
     affiliated with the Company's investment adviser,  IMCO, and, accordingly,
     receive  no  remuneration  from the  Company or any other Fund of the USAA
     Family of Funds.

(b)  At March 31, 1999, the USAA Family of Funds  consisted of four  registered
     investment companies offering 35 individual funds. Each Director presently
     serves as a Trustee or  Director  of each  investment  company in the USAA
     Family of Funds.  In addition,  Michael J.C.  Roth  presently  serves as a
     Trustee of USAA Life  Investment  Trust, a registered  investment  company
     advised by IMCO,  consisting  of seven funds  available to the public only
     through the purchase of certain  variable  annuity  contracts and variable
     life insurance policies offered by USAA Life Insurance  Company.  Mr. Roth
     receives no compensation as Trustee of USAA Life Investment Trust.

     All of the above Directors are also  Trustees/Directors of the other funds
within the USAA  Family of Funds.  No  compensation  is paid by any fund to any
Trustee/Director  who is a  director,  officer,  or  employee  of  IMCO  or its
affiliates.  No  pension or  retirement  benefits  are  accrued as part of fund
expenses.  The Company reimburses certain expenses of the Directors who are not
affiliated with the investment  adviser.  As  of May 14, 1999, the officers and
Directors of the Company and their families as a group owned beneficially or of
record less than 1% of the outstanding shares of the Company.

                                      23
<PAGE>

     The following table  identifies all persons,  who as of May 14, 1999, held
of record or owned beneficially 5% or more of either Fund's shares.

                               NAME AND ADDRESS
        TITLE OF CLASS        OF BENEFICIAL OWNER         PERCENT OF CLASS
        --------------        -------------------         ----------------
        New York Money        Charles E. Dowdell               8.8%
         Market Fund          Nancy L. Dowdell JTWROS
                              5121 Donnington Road
                              Clarence, NY 14031-1501

                             THE COMPANY'S MANAGER

As described  in the  Prospectus,  USAA  Investment  Management  Company is the
Manager  and  investment   adviser,   providing  services  under  the  Advisory
Agreement.  The Manager, a wholly owned indirect  subsidiary of United Services
Automobile   Association  (USAA),  a  large,   diversified  financial  services
institution, was organized in May 1970 and has served as investment adviser and
underwriter for USAA Tax Exempt Fund, Inc. from its inception.

     In addition to managing  the  Company's  assets,  the Manager  advises and
manages the investments for USAA and its affiliated  companies as well as those
of USAA Mutual Fund,  Inc., USAA Investment  Trust,  USAA State Tax-Free Trust,
and USAA Life Investment  Trust. As of the date of this SAI, total assets under
management   by  the  Manager  were   approximately   $__  billion,   of  which
approximately $__ billion were in mutual fund portfolios.

ADVISORY AGREEMENT

Under the  Advisory  Agreement,  the Manager  provides an  investment  program,
carries out the investment  policy,  and manages the portfolio  assets for each
Fund.  The  Manager  is  authorized,  subject  to the  control  of the Board of
Directors of the Company,  to determine the selection,  amount, and time to buy
or sell securities for each Fund. In addition to providing investment services,
the  Manager  pays  for  office  space,  facilities,  business  equipment,  and
accounting  services (in addition to those  provided by the  Custodian) for the
Company. The Manager compensates all personnel,  officers, and Directors of the
Company if such persons are also  employees  of the Manager or its  affiliates.
For these services under the Advisory Agreement,  the Company has agreed to pay
the  Manager  a  fee  computed  as  described  under  FUND  MANAGEMENT  in  the
Prospectus. Management fees are computed and accrued daily and payable monthly.

     Except for the services and facilities provided by the Manager,  the Funds
pay all other  expenses  incurred in their  operations.  Expenses for which the
Funds  are  responsible  include  taxes  (if  any);  brokerage  commissions  on
portfolio transactions (if any); expenses of issuance and redemption of shares;
charges of transfer agents, custodians, and dividend disbursing agents; cost of
preparing  and  distributing  proxy  material;  costs of printing and engraving
stock   certificates;   auditing  and  legal  expenses;   certain  expenses  of
registering  and  qualifying  shares for sale;  fees of  Directors  who are not
interested  persons  (not  affiliated)  of the  Manager;  costs of printing and
mailing the Prospectus, SAI, and periodic reports to existing shareholders; and
any other  charges or fees not  specifically  enumerated.  The Manager pays the
cost of printing and mailing copies of the Prospectus,  the SAI, and reports to
prospective shareholders.

     The Advisory Agreement will remain in effect until June 30, 2000, for each
Fund and will continue in effect from year to year  thereafter for each Fund as
long as it is approved at least  annually by a vote of the  outstanding  voting
securities  of such  Fund  (as  defined  by the  1940  Act) or by the  Board of
Directors  (on behalf of such Fund)  including a majority of the  Directors who
are not interested  persons of the Manager or (otherwise  than as Directors) of
the Company,  at a meeting  called for the purpose of voting on such  approval.
The Advisory  Agreement  may be terminated at any time by either the Company or
the Manager on 60 days' written notice. It will automatically  terminate in the
event of its assignment (as defined in the 1940 Act).

     From time to time the Manager may,  without prior notice to  shareholders,
waive all or any portion of fees or agree to reimburse  expenses  incurred by a
Fund. Any such waiver or reimbursement  may be terminated by the Manager at any
time without prior notice to shareholders.  The Manager has voluntarily  agreed
to limit each Fund's  annual  expenses to .50% of its ANA until August 1, 2000,
and will reimburse the Funds for all expenses in excess of the limitations.

                                      24
<PAGE>

     For the last three fiscal years, management fees were as follows:

                                   1997          1998          1999
                                 -------       --------      --------
New York Bond Fund               $248,023      $272,778      $317,866
New York Money Market Fund       $208,986      $217,662      $255,130

     Because the Funds'  expenses  exceeded  the  Manager's  voluntary  expense
limitation,  the Manager did not receive management fees to which it would have
been entitled as follows:

                                   1997          1998          1999
                                 -------       -------       -------
New York Bond Fund               $85,840       $71,681       $59,045
New York Money Market Fund       $86,217       $71,994       $62,576

UNDERWRITER

The Company has an agreement  with the Manager for exclusive  underwriting  and
distribution  of the Funds'  shares on a continuing  best efforts  basis.  This
agreement  provides that the Manager will receive no fee or other  compensation
for such distribution services.

TRANSFER AGENT

The Transfer  Agent  performs  transfer  agent services for the Company under a
Transfer Agency Agreement.  Services include maintenance of shareholder account
records,  handling of communications  with  shareholders,  distribution of Fund
dividends,  and  production  of reports  with  respect to account  activity for
shareholders  and the  Company.  For its  services  under the  Transfer  Agency
Agreement,  each Fund pays the Transfer Agent an annual fixed fee of $28.50 per
account. This fee is subject to change at any time.

     The fee to the Transfer Agent includes  processing of all transactions and
correspondence.  Fees are billed on a monthly basis at the rate of  one-twelfth
of the annual fee. In addition,  each Fund pays all  Out-of-pocket  expenses of
the  Transfer  Agent and other  expenses  which are  incurred  at the  specific
direction of the Company.

                              GENERAL INFORMATION

CUSTODIAN

State Street Bank and Trust Company,  P.O. Box 1713,  Boston,  MA 02105, is the
Company's  Custodian.  The Custodian is  responsible  for,  among other things,
safeguarding  and controlling  the Company's cash and securities,  handling the
receipt and delivery of securities,  and  collecting  interest on the Company's
investments.

COUNSEL

Goodwin,  Procter & Hoar LLP,  Exchange Place,  Boston,  MA 02109,  will review
certain legal matters for the Company in connection  with the shares offered by
the Prospectus.

INDEPENDENT AUDITORS

KPMG LLP, 112 East Pecan Suite 2400,  San Antonio,  TX 78205,  is the Company's
independent auditor. In this capacity, the firm is responsible for auditing the
annual financial statements of the Funds and reporting thereon.

                        CALCULATION OF PERFORMANCE DATA

Information regarding the total return and yield of each Fund is provided under
COULD THE VALUE OF YOUR INVESTMENT IN THESE FUNDS FLUCTUATE? in the Prospectus.
See VALUATION OF SECURITIES herein for a discussion of the manner in which each
Fund's price per share is calculated.

TOTAL RETURN

The New York Bond Fund may  advertise  performance  in terms of average  annual
total return for 1-, 5-, and 10-year periods,  or for such lesser period as the
Fund has been in existence.  Average annual total return is computed by finding
the average  annual  compounded  rates of return  over the  periods  that would
equate the initial amount invested to the ending redeemable value, according to
the following formula:

                                P(1 + T)N = ERV

     Where:       P   =   a hypothetical initial payment of $1,000
                  T   =   average annual total return

                                      25
<PAGE>

                  n   =   number of years
                ERV   =   ending  redeemable  value of a hypothetical  $1,000
                          payment  made  at the  beginning  of the 1-,  5-,  or
                          10-year periods at the end of the year or period

     The  calculation  assumes all charges are deducted from the initial $1,000
payment and assumes all dividends and distributions by such Fund are reinvested
at the price  stated in the  Prospectus  on the  reinvestment  dates during the
period and  includes  all  recurring  fees that are charged to all  shareholder
accounts.

     The date of  commencement  of  operations  for the New York  Bond Fund was
October 15, 1990. The Fund's average annual total returns for the periods ended
March 31, 1999 were:

      1 year........5.73%    5 years.......7.36%    Since inception....8.25%


YIELD

The New York Bond Fund may  advertise  performance  in terms of a 30-day  yield
quotation.  The  30-day  yield  quotation  is  computed  by  dividing  the  net
investment  income per share earned  during the period by the maximum  offering
price  per  share on the last day of the  period,  according  to the  following
formula:
                         Yield = 2[((a-b)/(cd)+1)^6 -1]

Where:        a  =  dividends and interest earned during the period
              b  =  expenses accrued for the period (net of reimbursement)
              c  =  the average daily number of shares outstanding during the
                    period that were entitled to receive dividends
              d  =  the maximum offering price per share on the last day of the
                    period

     For purposes of the yield  calculation,  interest income is computed based
on the yield to maturity of each debt  obligation  in the Fund's  portfolio and
all recurring charges are recognized.

The Fund's 30-day yield for the period ended March 31, 1999 was 4.36%.

YIELD - NEW YORK MONEY MARKET FUND

When the New York Money Market Fund quotes a current  annualized  yield,  it is
based on a specified recent  seven-calendar-day  period.  It is computed by (1)
determining the net change,  exclusive of capital changes and income other than
investment income, in the value of a hypothetical  preexisting account having a
balance of one share at the  beginning  of the  period,  (2)  dividing  the net
change in account  value by the value of the  account at the  beginning  of the
base period to obtain the base  return,  then (3)  multiplying  the base period
return by 52.14 (365/7).  The resulting  yield figure is carried to the nearest
hundredth of one percent.

     The calculation includes (1) the value of additional shares purchased with
dividends on the original  share,  and dividends  declared on both the original
share  and  any  such  additional  shares  and  (2)  any  fees  charged  to all
shareholder  accounts,  in  proportion to the length of the base period and the
Fund's average account size.

     The capital changes  excluded from the  calculation  are realized  capital
gains and losses from the sale of securities  and unrealized  appreciation  and
depreciation.  The Fund's  effective  (compounded)  yield will be  computed  by
dividing the seven-day  annualized  yield as defined above by 365,  adding 1 to
the quotient,  raising the sum to the 365th power,  and  subtracting 1 from the
result.

     Current and effective  yields  fluctuate  daily and will vary with factors
such as  interest  rates and the  quality,  length of  maturities,  and type of
investments in the portfolio.

            Yield For 7-day Period Ended March 31, 1999, was 2.60%.
       Effective Yield For 7-day Period Ended March 31, 1999, was 2.63%.

TAX-EQUIVALENT YIELD

A  tax-exempt  mutual fund may  provide  more  "take-home"  income than a fully
taxable mutual fund after paying taxes.  Calculating a  "tax-equivalent  yield"
means converting a tax-exempt yield to a pretax equivalent so that a meaningful
comparison can be made between a tax-exempt  municipal fund and a fully taxable
fund.  The New York Money Market Fund may advertise  performance  in terms of a
tax-equivalent  yield based on the 7-day yield or  effective  yield and the New
York Bond Fund may advertise  performance  in terms of a 30-day  tax-equivalent
yield.

     To calculate a  tax-equivalent  yield, the New York investor must know his
Effective  Marginal Tax Rate or EMTR.  Assuming an investor  can fully  itemize
deductions on his or her federal tax return, the EMTR is the sum of the Federal
marginal  tax rate and the state  (and City if  applicable)  marginal  tax rate
adjusted

                                      26
<PAGE>

to  reflect  the  deductibility  of state (and City if  applicable)  taxes from
federal  taxable  income.  The formula for  computing  the EMTR to compare with
fully taxable securities subject to federal, state, and City taxes is:

         EMTR = Federal Marginal Tax Rate + [State Marginal Tax Rate x
                         (1-Federal Marginal Tax Rate)]

     The tax-equivalent yield is then computed by dividing the tax-exempt yield
of a fund by the complement of the EMTR.  The  complement,  for example,  of an
EMTR of 42.84% is 57.16%, that is (1.00-0.4284= 0.5716).

   Tax-Equivalent Yield = Tax-Exempt Yield / (1-Effective Marginal Tax Rate)

     Using a federal  marginal tax rate of 36% and state and City  marginal tax
rate of 10.68%,  resulting in an EMTR of 42.84%, the tax-equivalent  yields for
the New York Bond and New York Money  Market  Funds for the period  ended March
31, 1999, were 7.63% and 4.55%, respectively.

              APPENDIX A - TAX-EXEMPT SECURITIES AND THEIR RATINGS

TAX-EXEMPT SECURITIES

Tax-exempt  securities  generally include debt obligations issued by states and
their   political   subdivisions,   and  duly   constituted   authorities   and
corporations,  to obtain funds to construct,  repair or improve  various public
facilities such as airports,  bridges, highways,  hospitals,  housing, schools,
streets, and water and sewer works. Tax-exempt securities may also be issued to
refinance  outstanding  obligations  as well as to  obtain  funds  for  general
operating expenses and for loans to other public institutions and facilities.

     The two principal  classifications  of tax-exempt  securities are "general
obligations" and "revenue" or "special tax" bonds. General obligation bonds are
secured by the issuer's  pledge of its full faith,  credit and taxing power for
the payment of principal and interest. Revenue or special tax bonds are payable
only  from  the  revenues  derived  from a  particular  facility  or  class  of
facilities  or, in some cases,  from the proceeds of a special  excise or other
tax, but not from general tax revenues. The Funds may also invest in tax-exempt
private activity bonds,  which in most cases are revenue bonds and generally do
not have the pledge of the credit of the issuer.  The payment of the  principal
and  interest  on such  industrial  revenue  bonds is  dependent  solely on the
ability  of the  user of the  facilities  financed  by the  bonds  to meet  its
financial  obligations and the pledge, if any, of real and personal property so
financed as security for such payment. There are, of course, many variations in
the terms of, and the security underlying,  tax-exempt  securities.  Short-term
obligations  issued by states,  cities,  municipalities or municipal  agencies,
include Tax Anticipation Notes,  Revenue  Anticipation Notes, Bond Anticipation
Notes, Construction Loan Notes, and Short-Term Notes.

     The yields of tax-exempt securities depend on, among other things, general
money market conditions,  conditions of the tax-exempt bond market, the size of
a particular  offering,  the maturity of the obligation,  and the rating of the
issue. The ratings of Moody's Investors  Service,  Inc.  (Moody's),  Standard &
Poor's Ratings Group (S&P),  Fitch IBCA, Inc. (Fitch),  Duff & Phelps Inc., and
Thompson  BankWatch,  Inc.  represent  their  opinions  of the  quality  of the
securities rated by them. It should be emphasized that such ratings are general
and are not absolute  standards of quality.  Consequently,  securities with the
same maturity,  coupon, and rating may have different yields,  while securities
of the same  maturity and coupon but with  different  ratings may have the same
yield. It will be the  responsibility of the Manager to appraise  independently
the  fundamental  quality of the  tax-exempt  securities  included  in a Fund's
portfolio.

1.  LONG-TERM DEBT RATINGS:

MOODY'S INVESTOR SERVICES, INC.

Aaa      Bonds which are rated Aaa are judged to be of the best  quality.  They
         carry  the  smallest  degree  of  investment  risk  and are  generally
         referred to as "gilt  edged."  Interest  payments  are  protected by a
         large or by an  exceptionally  stable  margin and principal is secure.
         While the  various  protective  elements  are likely to  change,  such
         changes  as  can  be  visualized  are  most  unlikely  to  impair  the
         fundamentally strong position of such issues.

Aa       Bonds  which are  rated Aa are  judged  to be of high  quality  by all
         standards.  Together  with  the  Aaa  group  they  comprise  what  are
         generally  known as  high-grade  bonds.  They are rated lower than the
         best bonds because margins of protection may not be as large as in Aaa
         securities or  fluctuation  of  protective  elements may be of greater
         amplitude  or  there  may be other  elements  present  which  make the
         long-term risk appear somewhat larger than in Aaa securities.

A        Bonds which are rated A possess many favorable  investment  attributes
         and are to be considered as  upper-medium-grade  obligations.  Factors
         giving security to principal and interest are considered

                                      27
<PAGE>

         adequate, but elements may be present  which suggest a  susceptibility
         to impairment sometime in the future.

Baa      Bonds which are rated Baa are considered as  medium-grade  obligations
         (i.e., they are neither highly protected nor poorly secured). Interest
         payments and principal  security  appear  adequate for the present but
         certain    protective    elements   may   be   lacking   or   may   be
         characteristically  unreliable  over any great  length  of time.  Such
         bonds lack  outstanding  investment  characteristics  and in fact have
         speculative characteristics as well.

NOTE:  MOODY'S APPLIES  NUMERICAL  MODIFIERS 1, 2, AND 3 IN EACH GENERIC RATING
CLASSIFICATION.  THE  MODIFIER 1  INDICATES  THAT THE  OBLIGATION  RANKS IN THE
HIGHER END OF ITS GENERIC RATING CATEGORY, THE MODIFIER 2 INDICATES A MID-RANGE
RANKING,  AND THE  MODIFIER  3  INDICATES  A  RANKING  IN THE LOWER END OF THAT
GENERIC RATING CATEGORY.

STANDARD & POOR'S RATINGS GROUP

AAA      An obligation  rated AAA has the highest rating assigned by Standard &
         Poor's. The obligor's capacity to meet its financial commitment on the
         obligation is extremely strong.

AA       An  obligation  rated AA differs from the highest rated issues only in
         small degree. The obligor's capacity to meet its financial  commitment
         on the obligation is VERY STRONG.

A        An  obligation  rated A is somewhat  more  susceptible  to the adverse
         effects of changes  in  circumstances  and  economic  conditions  than
         obligations  in  higher  rated  categories.   However,  the  obligor's
         capacity to meet its financial  commitment on the  obligation is still
         STRONG.

BBB      An obligation rated BBB exhibits adequate capacity to pay interest and
         repay  principal.  However,  adverse  economic  conditions or changing
         circumstances  are more  likely to lead to a weakened  capacity of the
         obligor to meet its financial commitment on the obligation.

PLUS  (+) OR MINUS  (-):  THE  RATINGS  FROM AA TO BBB MAY BE  MODIFIED  BY THE
ADDITION  OF A PLUS OR MINUS SIGN TO SHOW  RELATIVE  STANDING  WITHIN THE MAJOR
RATING CATEGORIES.

FITCH IBCA, INC.

AAA      Highest credit quality. "AAA" ratings denote the lowest expectation of
         credit risk.  They are assigned only in case of  exceptionally  strong
         capacity for timely payment of financial commitments. This capacity is
         highly unlikely to be adversely affected by foreseeable events.

AA       Very high credit  quality.  "AA" ratings denote a very low expectation
         of credit risk.  They indicate very strong capacity for timely payment
         of  financial   commitments.   This  capacity  is  not   significantly
         vulnerable to foreseeable events.

A        High credit  quality.  "A" ratings denote a low  expectation of credit
         risk.  The capacity for timely  payment of  financial  commitments  is
         considered strong. This capacity may, nevertheless, be more vulnerable
         to changes in circumstances or in economic conditions than is the case
         for higher ratings.

BBB      Good credit quality.  "BBB" ratings indicate that there is currently a
         low  expectation  of credit risk.  The capacity for timely  payment of
         financial  commitments is considered adequate,  but adverse changes in
         circumstances  and in  economic  conditions  are more likely to impair
         this capacity. This is the lowest investment-grade category.

PLUS AND MINUS  SIGNS ARE USED WITH A RATING  SYMBOL TO INDICATE  THE  RELATIVE
POSITION OF A CREDIT WITHIN THE RATING CATEGORY. PLUS AND MINUS SIGNS, HOWEVER,
ARE NOT USED IN THE AAA CATEGORY.

DUFF & PHELPS, INC.

AAA      Highest credit quality.  The risk factors are  negligible,  being only
         slightly more than for risk-free U.S. Treasury debt.

AA       High credit quality. Protection factors are strong. Risk is modest but
         may vary slightly from time to time because of economic conditions.

A        Protection factors are average but adequate. However, risk factors are
         more variable and greater in periods of economic stress.

BBB      Below average protection  factors but still considered  sufficient for
         prudent investment.  Considerable  variability in risk during economic
         cycles.

                                      28
<PAGE>

2. SHORT-TERM DEBT RATINGS:

MOODY'S STATE AND TAX-EXEMPT NOTES

MIG-1/VMIG1       This  designation  denotes  best  quality.  There is  present
                  strong   protection  by  established  cash  flows,   superior
                  liquidity support, or demonstrated  broad-based access to the
                  market for refinancing.

MIG-2/VMIG2       This designation denotes high quality.  Margins of protection
                  are ample although not so large as in the preceding group.

MOODY'S COMMERCIAL PAPER

Prime-1    Issuers rated Prime-1 (or supporting  institutions)  have a superior
           ability for repayment of senior short-term  promissory  obligations.
           Prime-1  repayment  capacity  will  normally  be  evidenced  by  the
           following characteristics:

           *   Leading market positions in well-established industries.
           *   High rates of return on funds employed.
           *   Conservative capitalization structures with moderate reliance on
               debt and ample asset protection.
           *   Broad margins in earning coverage of fixed  financial chargesand
               high internal cash generation.
           *   Well-established  access  to  a  range  of financial markets and
               assured sources of alternate liquidity.

Prime-2    Issuers rated  Prime-2 (or  supporting  institutions)  have a strong
           ability for repayment of senior short-term  promissory  obligations.
           This will normally be evidenced by many of the characteristics cited
           above but to a lesser degree.  Earnings trends and coverage  ratios,
           while  sound,  may be  more  subject  to  variation.  Capitalization
           characteristics,  while still  appropriate,  may be more affected by
           external conditions. Ample alternate liquidity is maintained.

S&P TAX-EXEMPT NOTES

SP-1     Strong  capacity to pay principal and interest.  Issues  determined to
         possess very strong  characteristics are given a plus (+) designation.

SP-2     Satisfactory  capacity  to  pay  principal  and  interest,  with  some
         vulnerability to adverse  financial and economic changes over the term
         of the notes.

S&P COMMERCIAL PAPER

A-1      This highest  category  indicates that the degree of safety  regarding
         timely payment is strong. Those issues determined to possess extremely
         strong  safety  characteristics  are  denoted  with  a plus  (+)  sign
         designation.

A-2      Capacity  for  timely  payment  on  issues  with this  designation  is
         satisfactory. However, the relative degree of safety is not as high as
         for issues designated A-1.

FITCH'S COMMERCIAL PAPER, CERTIFICATES OF DEPOSIT, AND TAX-EXEMPT NOTES

F1       Highest credit  quality.  Indicates the strongest  capacity for timely
         payment of financial commitments;  may have an added "+" to denote any
         exceptionally strong credit features.

F2       Good credit  quality.  A  satisfactory  capacity for timely payment of
         financial commitments,  but the margin of safety is not as great as in
         the case of the higher ratings.

F3       Fair credit  quality.  The  capacity  for timely  payment of financial
         commitments  is adequate;  however,  near-term  adverse  changes could
         result in a reduction to non-investment grade.

DUFF & PHELPS COMMERCIAL PAPER

D-1+     Highest certainty of timely payment.  Short-term  liquidity, including
         internal operating  factors  and/or access to alternative  sources  of
         funds,  is  outstanding,  and  safety  is  just  below  risk-free U.S.
         Treasury short-term obligations.

D-1      Very high certainty of timely payment. Liquidity factors are excellent
         and supported by good fundamental protection factors. Risk factors are
         minor.

D-1-     High  certainty of timely  payment.  Liquidity  factors are strong and
         supported by good  fundamental  protection  factors.  Risk factors are
         very small.

D-2      Good  certainty  of timely  payment.  Liquidity  factors  and  company
         fundamentals  are sound.  Although  ongoing  funding needs may enlarge
         total financing requirements,  access to capital markets is good. Risk
         factors are small.

                                      29
<PAGE>

THOMPSON BANKWATCH, INC.

TBW-1    The highest category;  indicates a very high likelihood that principal
         and interest will be paid on a timely basis.

TBW-2    The second  highest  category;  while the  degree of safety  regarding
         timely  repayment  of principal  and interest is strong,  the relative
         degree of safety is not as high as for issues rated TBW-1.

TBW-3    The  lowest  investment-grade  category;   indicates  that  while  the
         obligation is more susceptible to adverse  developments (both internal
         and external) than those with higher ratings,  the capacity to service
         principal and interest in a timely fashion is considered adequate.

                APPENDIX B - COMPARISON OF PORTFOLIO PERFORMANCE

Occasionally,  we may make  comparisons  in  advertising  and sales  literature
between the Funds  contained  in this SAI and other Funds in the USAA Family of
Funds. These comparisons may include such topics as risk and reward, investment
objectives, investment strategies, and performance.

     Fund  performance  also may be compared to the performance of broad groups
of  mutual  funds  with  similar  investment  goals  or  unmanaged  indexes  of
comparable  securities.  Evaluations  of Fund  performance  made by independent
sources may be used in advertisements  concerning the Fund,  including reprints
of, or selections from,  editorials or articles about the Fund. The Fund or its
performance  may also be compared to products  and  services  not  constituting
securities  subject to  registration  under the Securities Act of 1933 such as,
but not limited to, certificates of deposit and money market accounts.  Sources
for performance information and articles about the Fund may include but are not
restricted to the following:

AAII  JOURNAL,  a monthly  association  magazine  for  members of the  American
Association of Individual Investors.

ARIZONA REPUBLIC, a newspaper that may cover financial and investment news.

AUSTIN AMERICAN-STATESMAN, a newspaper that may cover financial news.

BARRON'S, a Dow Jones and  Company, Inc.  business  and  financial  weekly that
periodically  reviews  mutual fund performance data.

THE BOND BUYER, a daily newspaper that covers bond market news.

BUSINESS  WEEK,  a national  business  weekly  that  periodically  reports  the
performance rankings and ratings of a variety of mutual funds.

CHICAGO TRIBUNE, a newspaper that may cover financial news.

CONSUMER  REPORTS,  a  monthly  magazine  that  from  time to time  reports  on
companies in the mutual fund industry.

DALLAS MORNING NEWS, a newspaper that may cover financial news.

DENVER POST, a newspaper that may quote financial news.

FINANCIAL PLANNING, a monthly magazine that periodically  features companies in
the mutual fund industry.

FINANCIAL SERVICES WEEK, a weekly newspaper that covers financial news.

FINANCIAL WORLD, a monthly magazine that periodically features companies in the
mutual fund industry.

FORBES,  a  national  business   publication  that  periodically   reports  the
performance of companies in the mutual fund industry.

FORTUNE,   a  national  business   publication  that  periodically   rates  the
performance of a variety of mutual funds.

FUND ACTION, a mutual fund news report.

HOUSTON CHRONICLE, a newspaper that may cover financial news.

HOUSTON POST, a newspaper that may cover financial news.

IBC'S MONEY FUND REPORT,  a weekly  publication  of IBC Financial  Data,  Inc.,
reporting on the  performance of the nation's  money market funds,  summarizing
money market fund  activity,  and  including  certain  averages as  performance
benchmarks, specifically: (1) Taxable Money Fund Averages: "100% U.S. Treasury"
and "First Tier" and (2) Tax-Free Money Fund Averages: "Stockbroker and General
Purpose" and "State Specific Stockbroker and General Purpose."

IBC'S MONEY MARKET INSIGHT,  a monthly money market industry  analysis prepared
by IBC Financial Data, Inc.

                                      30
<PAGE>


IBC'S  MONEYLETTER,  a biweekly  newsletter that covers financial news and from
time to time rates specific mutual funds.


INCOME AND SAFETY, a monthly newsletter that rates mutual funds.

INVESTECH, a bimonthly investment newsletter.

INVESTMENT  ADVISOR,  a monthly  publication  directed primarily to the advisor
community; includes ranking of mutual funds using a proprietary methodology.

INVESTMENT  COMPANY  INSTITUTE,   the  national  association  of  the  American
Investment Company industry.

INVESTOR'S BUSINESS DAILY, a newspaper that covers financial news.

KIPLINGER'S   PERSONAL  FINANCE  MAGAZINE,   a  monthly   investment   advisory
publication  that  periodically  features  the  performance  of  a  variety  of
securities.

LIPPER ANALYTICAL SERVICES,  INC.'S EQUITY FUND PERFORMANCE  ANALYSIS, a weekly
and monthly  publication of industry-wide  mutual fund performance  averages by
type of fund.

LIPPER ANALYTICAL  SERVICES,  INC.'S FIXED INCOME FUND PERFORMANCE  ANALYSIS, a
monthly publication of industry-wide  mutual fund performance  averages by type
of fund.

LOS ANGELES TIMES, a newspaper that may cover financial news.

LOUIS RUKEYSER'S WALL STREET, a publication for investors.

MEDICAL  ECONOMICS,  a monthly  magazine  providing  information to the medical
profession.

MONEY, a monthly  magazine that features the performance of both specific funds
and the mutual fund industry as a whole.

MORNINGSTAR 5 STAR INVESTOR,  a monthly  newsletter that covers  financial news
and rates  mutual  funds  produced by  Morningstar,  Inc. (a data  service that
tracks open-end mutual funds).

MUNI BOND FUND REPORT,  a monthly  newsletter that covers news on the municipal
bond market and features performance data for municipal bond mutual funds.

MUNIWEEK, a weekly newspaper that covers news on the municipal bond market.

MUTUAL FUND FORECASTER, a monthly newsletter that ranks mutual funds.

MUTUAL FUND INVESTING, a newsletter covering mutual funds.

MUTUAL  FUND  PERFORMANCE   REPORT,  a  monthly   publication  of  mutual  fund
performance and rankings, produced by Morningstar, Inc.

MUTUAL  FUNDS  MAGAZINE,  a  monthly  publication   reporting  on  mutual  fund
investing.

MUTUAL FUND SOURCE BOOK,  an annual publication  produced by  Morningstar, Inc.
that  describes and rates mutual
funds.

MUTUAL  FUND  VALUES,  a  biweekly   guidebook  to  mutual  funds  produced  by
Morningstar, Inc.

NEWSWEEK, a national business weekly.

NEW YORK TIMES, a newspaper that may cover financial news.

NO LOAD FUND  INVESTOR,  a  newsletter  covering  companies  in the mutual fund
industry.

ORLANDO SENTINEL, a newspaper that may cover financial news.

PERSONAL  INVESTOR,  a monthly  magazine that from time to time features mutual
fund companies and the mutual fund industry.

SAN ANTONIO  BUSINESS  JOURNAL,  a weekly  newspaper that  periodically  covers
mutual fund companies as well as financial news.

SAN ANTONIO EXPRESS-NEWS, a newspaper that may cover financial news.

SAN FRANCISCO CHRONICLE, a newspaper that may cover financial news.

SMART MONEY,  a monthly  magazine  featuring news and articles on investing and
mutual funds.

USA TODAY, a newspaper that may cover financial news.

U.S. NEWS  AND WORLD REPORT,  a  national  business  weekly  that  periodically
reports mutual fund performance data.

WALL STREET JOURNAL, a  Dow Jones  and  Company,  Inc.  newspaper  that  covers
financial news.

WASHINGTON POST, a newspaper that may cover financial news.


                                      31
<PAGE>

WEISENBERGER  MUTUAL FUNDS INVESTMENT REPORT, a monthly newsletter that reports
on both specific mutual fund companies and the mutual fund industry as a whole.

WORTH,  a magazine that covers  financial  and  investment  subjects  including
mutual funds.

YOUR MONEY, a monthly magazine directed towards the novice investor.

     In  addition to the sources  above,  performance  of our Funds may also be
tracked by Lipper  Analytical  Services,  Inc. and Morningstar,  Inc. Each Fund
will be  compared  to  Lipper's  or  Morningstar's  appropriate  fund  category
according  to  its   objective(s)   and   portfolio   holdings.   Footnotes  in
advertisements  and  other  sales  literature  will  include  the  time  period
applicable for any rankings used.

     For comparative  purposes,  unmanaged indices of comparable  securities or
economic data may be cited. Examples include the following:

     -Shearson  Lehman Hutton Bond Indices,  indices of fixed-rate  debt issues
rated investment grade or higher which can be found in the BOND MARKET REPORT.

     -Bond  Buyer  Indices,  indices  of debt of varying  maturities  including
revenue bonds,  general  obligation bonds, and U.S. Treasury bonds which can be
found in MUNIWEEK and THE BOND BUYER.

     Other  sources for total  return and other  performance  data which may be
used by the Funds or by those  publications  listed  previously  are  Schabaker
Investment Management and Investment Company Data, Inc. These are services that
collect and compile data on mutual fund companies.


                       APPENDIX C - DOLLAR-COST AVERAGING

Dollar-cost  averaging is a systematic  investing method,  which can be used by
investors as a disciplined technique for investing.  A fixed amount of money is
invested in a security (such as a stock or mutual fund) on a regular basis over
a period of time,  regardless  of whether  securities  markets are moving up or
down.

     This  practice  reduces  average  share costs to the investor who acquires
more shares in periods of lower  securities  prices and fewer shares in periods
of higher prices.

     While  dollar-cost  averaging does not assure a profit or protect  against
loss in declining markets, this investment strategy is an effective way to help
calm the effect of fluctuations in the financial markets.  Systematic investing
involves  continuous  investment in securities  regardless of fluctuating price
levels of such securities. Investors should consider their financial ability to
continue purchases through periods of low and high price levels.

         As the following  chart  illustrates,  dollar-cost  averaging tends to
keep the overall cost of shares lower.  This example is for illustration  only,
and different trends would result in different average costs.

                        HOW DOLLAR-COST AVERAGING WORKS

                     $100 Invested Regularly for 5 Periods
                                  Market Trend
      --------------------------------------------------------------------

                  Down                     Up                    Mixed
           --------------------   ---------------------    --------------------
             Share     Shares       Share      Shares        Share     Shares
Investment   Price    Purchased     Price     Purchased      Price    Purchased
           --------------------   ---------------------    --------------------
   $100       10        10            6         16.67         10          10
    100        9        11.1          7         14.29          9          11.1
    100        8        12.5          7         14.29          8          12.5
    100        8        12.5          9         11.1           9          11.1
    100        6        16.67        10         10            10          10
   ----       --        -----        --         -----         --          -----
   $500    ***41        62.77     ***39         66.35      ***46          54.7

          *Avg. Cost:  $ 7.97    *Avg. Cost:   $ 7.54        *Avg. Cost: $ 9.14
                        -----                    -----                    -----
         **Avg. Price: $ 8.20    **Avg. Price: $ 7.80      **Avg. Price: $ 9.20
                        -----                    -----                    -----

  *  Average  Cost is the total  amount  invested  divided  by number of shares
     purchased.
 **  Average  Price  is  the  sum of the  prices  paid  divided  by  number  of
     purchases.
***  Cumulative total of share prices used to compute average prices.

17005-0899

                                      32
<PAGE>


                                     Part B


                  Statement of Additional Information for the
                               Virginia Bond and
                          Virginia Money Market Funds
<PAGE>

USAA              USAA                                   STATEMENT OF
EAGLE             TAX EXEMPT                             ADDITIONAL INFORMATION
LOGO              FUND, INC.                             August 1, 1999
- -------------------------------------------------------------------------------

                           USAA TAX EXEMPT FUND, INC.
                                 VIRGINIA FUNDS

USAA TAX EXEMPT FUND,  INC.  (the Company) is a registered  investment  company
offering shares of ten no-load mutual funds, two of which are described in this
Statement of Additional  Information (SAI): the Virginia Bond Fund and Virginia
Money Market Fund (collectively, the Funds or the Virginia Funds). Each Fund is
classified as diversified  and has a common  investment  objective of providing
Virginia  investors with a high level of current interest income that is exempt
from federal and Virginia  state income taxes.  The Virginia  Money Market Fund
has a further objective of preserving capital and maintaining liquidity.

You may  obtain a free  copy of a  Prospectus  dated  August 1,  1999,  for the
Virginia Funds by writing to USAA Tax Exempt Fund,  Inc.,  9800  Fredericksburg
Road,  San  Antonio,  TX 78288,  or by calling  toll free  1-800-531-8181.  The
Prospectus  provides the basic  information you should know before investing in
the Funds. This SAI is not a Prospectus and contains information in addition to
and more  detailed  than that set forth in the  Prospectus.  It is  intended to
provide you with additional information regarding the activities and operations
of the  Company  and the  Funds,  and  should be read in  conjunction  with the
Prospectus.

The financial  statements  of the Funds and the  Independent  Auditors'  Report
thereon  for the  fiscal  year  ended  March  31,  1999,  are  included  in the
accompanying  Annual Report to Shareholders  of that date and are  incorporated
herein by reference.

- -------------------------------------------------------------------------------

                               TABLE OF CONTENTS

          PAGE

           2   Valuation of Securities
           2   Conditions of Purchase and Redemption
           3   Additional Information Regarding Redemption of Shares
           4   Investment Plans
           5   Investment Policies
           6   Investment Restrictions
           7   Special Risk Considerations
           9   Portfolio Transactions
          10   Description of Shares
          11   Certain Federal Income Tax Considerations
          13   Virginia Taxation
          13   Directors and Officers of the Company
          16   The Company's Manager
          17   General Information
          18   Calculation of Performance Data
          19   Appendix A - Tax-Exempt Securities and Their Ratings
          22   Appendix B - Comparison of Portfolio Performance
          25   Appendix C - Dollar-Cost Averaging


<PAGE>

                            VALUATION OF SECURITIES

Shares of each Fund are offered on a  continuing,  best-efforts  basis  through
USAA Investment  Management  Company (IMCO or the Manager).  The offering price
for  shares of each Fund is equal to the  current  net  asset  value  (NAV) per
share.  The NAV value per share of each Fund is  calculated by adding the value
of all its portfolio  securities and other assets,  deducting its  liabilities,
and dividing by the number of shares outstanding.

     A Fund's NAV per share is  calculated  each day,  Monday  through  Friday,
except days on which the New York Stock Exchange (NYSE) is closed.  The NYSE is
currently  scheduled to be closed on New Year's Day,  Martin  Luther King,  Jr.
Day, Presidents' Day, Good Friday,  Memorial Day,  Independence Day, Labor Day,
Thanksgiving,  and Christmas,  and on the preceding Friday or subsequent Monday
when one of these holidays falls on a Saturday or Sunday, respectively.

     The  investments of the VIRGINIA BOND FUND are valued each business day by
a pricing  service (the Service)  approved by the Company's Board of Directors.
The Service uses the mean between  quoted bid and asked prices or the last sale
price to price  securities  when, in the Service's  judgment,  these prices are
readily available and are  representative of the securities' market values. For
many securities,  such prices are not readily available.  The Service generally
prices these securities based on methods which include  consideration of yields
or prices of tax-exempt securities of comparable quality,  coupon, maturity and
type,  indications as to values from dealers in securities,  and general market
conditions.  Securities purchased with maturities of 60 days or less are stated
at amortized cost which approximates  market value.  Repurchase  agreements are
valued at cost.  Securities that cannot be valued by the Service, and all other
assets,  are valued in good faith at fair value using methods determined by the
Manager under the general supervision of the Board of Directors.

     The value of the VIRGINIA  MONEY  MARKET  FUND'S  securities  is stated at
amortized  cost  which  approximates  market  value.  This  involves  valuing a
security  at its  cost and  thereafter  assuming  a  constant  amortization  to
maturity of any discount or premium,  regardless  of the impact of  fluctuating
interest  rates.  While this method  provides  certainty in  valuation,  it may
result in periods  during which the value of an  instrument,  as  determined by
amortized  cost,  is higher or lower than the price the Fund would receive upon
the sale of the instrument.

     The valuation of the Virginia  Money Market Fund's  portfolio  instruments
based upon their  amortized cost is subject to the Fund's  adherence to certain
procedures and conditions. Consistent with regulatory requirements, the Manager
will only purchase securities with remaining maturities of 397 days or less and
will maintain a dollar-weighted  average portfolio  maturity of no more than 90
days. The Manager will invest only in securities  that have been  determined to
present  minimal  credit risk and that satisfy the quality and  diversification
requirements of applicable rules and regulations of the Securities and Exchange
Commission (SEC).

     The Board of Directors has  established  procedures  designed to stabilize
the Virginia  Money Market Fund's price per share,  as computed for the purpose
of sales and redemptions,  at $1. There can be no assurance,  however, that the
Fund will at all times be able to  maintain a constant  $1 NAV per share.  Such
procedures include review of the Fund's holdings at such intervals as is deemed
appropriate to determine  whether the Fund's NAV calculated by using  available
market quotations deviates from $1 per share and, if so, whether such deviation
may  result  in  material   dilution  or  is   otherwise   unfair  to  existing
shareholders.  In the event that it is determined that such a deviation exists,
the Board of Directors will take such corrective action as it regards necessary
and appropriate. Such action may include selling portfolio instruments prior to
maturity to realize  capital  gains or losses or to shorten  average  portfolio
maturity,  withholding  dividends,  or  establishing  a NAV per  share by using
available market quotations.

                     CONDITIONS OF PURCHASE AND REDEMPTION

NONPAYMENT

If any order to purchase shares is canceled due to nonpayment or if the Company
does not receive good funds either by check or electronic funds transfer,  USAA
Shareholder  Account Services (Transfer Agent) will treat the cancellation as a
redemption of shares  purchased,  and you will be responsible for any resulting
loss  incurred  by the  Fund  or the  Manager.  If you are a  shareholder,  the
Transfer Agent can redeem shares from your account(s) as reimbursement  for all
losses.  In addition,  you may be prohibited  or restricted  from making future
purchases  in any of the USAA  Family of Funds.  A $15 fee is  charged  for all
returned items, including checks and electronic funds transfers.

                                       2
<PAGE>

TRANSFER OF SHARES

You may transfer Fund shares to another person by sending written  instructions
to the Transfer  Agent.  The account must be clearly  identified,  and you must
include  the  number  of  shares  to be  transferred,  the  signatures  of  all
registered owners, and all stock certificates, if any, which are the subject of
transfer.  You also need to send written  instructions signed by all registered
owners and supporting documents to change an account registration due to events
such as divorce,  marriage, or death. If a new account needs to be established,
you must complete and return an application to the Transfer Agent.

             ADDITIONAL INFORMATION REGARDING REDEMPTION OF SHARES

The value of your investment at the time of redemption may be more or less than
the cost at  purchase,  depending on the value of the  securities  held in each
Fund's  portfolio.  Requests  for  redemption  that are  subject to any special
conditions  or which  specify an effective  date other than as provided  herein
cannot be accepted. A gain or loss for tax purposes may be realized on the sale
of shares, depending upon the price when redeemed.

     The Board of  Directors  may cause the  redemption  of an  account  with a
balance of less than 50 shares  provided  (1) the value of the account has been
reduced,  for reasons  other than  market  action,  below the  minimum  initial
investment in such Fund at the time of the  establishment  of the account,  (2)
the account has  remained  below the minimum  level for six months,  and (3) 60
days' prior  written  notice of the proposed  redemption  has been sent to you.
Shares  will be  redeemed  at the NAV on the date fixed for  redemption  by the
Board of  Directors.  Prompt  payment  will be made by mail to your last  known
address.

     The  Company  reserves  the right to suspend  the right of  redemption  or
postpone  the date of  payment(1)  for any  periods  during  which  the NYSE is
closed,  (2) when  trading in the  markets  the  Company  normally  utilizes is
restricted, or an emergency exists as determined by the SEC so that disposal of
the  Company's  investments  or  determination  of its  NAV  is not  reasonably
practicable,  or (3) for such other  periods as the SEC by order may permit for
protection of the Company's shareholders.

     For the mutual  protection of the investor and the Funds,  the Company may
require a signature  guarantee.  If  required,  EACH  signature  on the account
registration must be guaranteed.  Signature guarantees are acceptable from FDIC
member  banks,  brokers,  dealers,   municipal  securities  dealers,  municipal
securities  brokers,   government  securities  dealers,  government  securities
brokers,  credit unions,  national securities exchanges,  registered securities
associations,   clearing  agencies,  and  savings  associations.   A  signature
guarantee for active duty military  personnel  stationed abroad may be provided
by an officer of the United States Embassy or Consulate, a staff officer of the
Judge Advocate General, or an individual's commanding officer.

REDEMPTION BY CHECK

Shareholders  in the  Virginia  Money  Market Fund may  request  that checks be
issued for their account. Checks must be written in amounts of at least $250.

     Checks issued to  shareholders of the Fund will be sent only to the person
in whose name the account is registered and only to the address of record.  The
checks  must be  manually  signed by the  registered  owner(s)  exactly  as the
account is registered. For joint accounts the signature of either or both joint
owners will be required on the check,  according  to the  election  made on the
signature  card.  You will  continue  to earn  dividends  until the  shares are
redeemed by the presentation of a check.

     When a check is presented to the Transfer Agent for payment,  a sufficient
number of full and  fractional  shares  from your  account  will be redeemed to
cover the amount of the check.  If the account balance is not adequate to cover
the amount of a check, the check will be returned unpaid.  Because the value of
each account changes as dividends are accrued on a daily basis,  checks may not
be used to close an account.

     The  checkwriting   privilege  is  subject  to  the  customary  rules  and
regulations  of State Street Bank and Trust  Company  (State Street Bank or the
Custodian)  governing checking accounts.  There is no charge to you for the use
of the checks or for subsequent reorders of checks.

     The Company  reserves  the right to assess a  processing  fee against your
account for any  redemption  check not  honored by a clearing or paying  agent.
Currently,  this fee is $15 and is subject to change at any time. Some examples
of such dishonor are improper  endorsement,  checks  written for an amount less
than the minimum check amount, and insufficient or uncollectible funds.

     The Company,  the Transfer  Agent,  and State Street Bank each reserve the
right to change or suspend the  checkwriting  privilege  upon 30 days'  written
notice to participating shareholders.

                                       3
<PAGE>

     You may  request  that the  Transfer  Agent stop  payment on a check.  The
Transfer Agent will use its best efforts to execute stop payment  instructions,
but does not guarantee that such efforts will be effective.  The Transfer Agent
will charge you $10 for each stop payment you request.

                                INVESTMENT PLANS

The Company makes available the following  investment  plans to shareholders of
the Funds.  At the time you sign up for any of the following  investment  plans
that utilize the electronic funds transfer service,  you will choose the day of
the month (the  effective  date) on which you would like to regularly  purchase
shares.  When this day falls on a weekend or holiday,  the electronic  transfer
will take place on the last  business day before the  effective  date.  You may
terminate your participation in a plan at any time. Please call the Manager for
details and necessary forms or applications.

AUTOMATIC PURCHASE OF SHARES

INVESTRONIC(R) - The regular purchase of additional  shares through  electronic
funds transfer from a checking or savings account.  You may invest as little as
$50 per month.

DIRECT PURCHASE  SERVICE - The periodic  purchase of shares through  electronic
funds  transfer  from  a   non-governmental   employer,   an   income-producing
investment, or an account with a participating financial institution.

DIRECT DEPOSIT PROGRAM - The monthly  transfer of certain  federal  benefits to
directly  purchase  shares of a USAA mutual  fund.  Eligible  federal  benefits
include:  Social Security,  Supplemental Security Income, Veterans Compensation
and Pension,  Civil Service  Retirement  Annuity,  and Civil  Service  Survivor
Annuity.

GOVERNMENT  ALLOTMENT - The  transfer of  military  pay by the U.S.  Government
Finance Center for the purchase of USAA mutual fund shares.

AUTOMATIC  PURCHASE  PLAN - The  periodic  transfer  of funds from a USAA money
market fund to purchase  shares in another  non-money  market USAA mutual fund.
There is a minimum investment  required for this program of $5,000 in the money
market fund, with a monthly transaction minimum of $50.

BUY/SELL  SERVICE - The  intermittent  purchase or redemption of shares through
electronic  funds  transfer to or from a checking or savings  account.  You may
initiate a "buy" or "sell" whenever you choose.

DIRECTED  DIVIDENDS  - If you own  shares  in more than one of the Funds in the
USAA  Family of Funds,  you may  direct  that  dividends  and/or  capital  gain
distributions  earned in one fund be used to purchase shares  automatically  in
another fund.

     Participation in these  systematic  purchase plans allows you to engage in
dollar-cost  averaging.  For additional  information concerning the benefits of
dollar-cost averaging, see APPENDIX C.

SYSTEMATIC WITHDRAWAL PLAN

If you own shares having a NAV of $5,000 or more in a single investment account
(accounts in different  Funds cannot be aggregated for this  purpose),  you may
request  that enough  shares to produce a fixed  amount of money be  liquidated
from the account monthly or quarterly. The amount of each withdrawal must be at
least $50. Using the electronic funds transfer service,  you may choose to have
withdrawals   electronically   deposited  at  your  bank  or  other   financial
institution. You may also elect to have checks mailed to a designated address.

     This plan may be initiated by depositing shares worth at least $5,000 with
the  Transfer  Agent  and  by  completing  the   Systematic   Withdrawal   Plan
application,  which  may be  requested  from  the  Manager.  You may  terminate
participation  in the plan at any time.  You are not  charged  for  withdrawals
under the Systematic Withdrawal Plan. The Company will not bear any expenses in
administering the plan beyond the regular transfer agent and custodian costs of
issuing and redeeming shares. The Manager will bear any additional  expenses of
administering the plan.

     Withdrawals  will be made by redeeming full and  fractional  shares on the
date you select at the time the plan is established.  Withdrawal  payments made
under this plan may exceed  dividends  and  distributions  and, to this extent,
will  involve the use of  principal  and could  reduce the dollar value of your
investment  and  eventually  exhaust the  account.  Reinvesting  dividends  and
distributions  helps  replenish  the  account.  Because  share  values  and net
investment income can fluctuate, you should not expect withdrawals to be offset
by rising income or share value gains.

     Each  redemption  of shares  may  result in a gain or loss,  which must be
reported  on your  income tax  return.  Therefore,  you should keep an accurate
record of any gain or loss on each withdrawal.

                                       4
<PAGE>

                              INVESTMENT POLICIES

The sections  captioned  WHAT ARE EACH FUND'S  INVESTMENT  OBJECTIVES  AND MAIN
STRATEGIES?  and FUND  INVESTMENTS in the Prospectus  describe the  fundamental
investment  objective(s) and the investment  policies  applicable to each Fund.
Each Fund's objective(s) cannot be changed without  shareholder  approval.  The
following is provided as additional information.

CALCULATION OF PORTFOLIO WEIGHTED AVERAGE MATURITIES

Weighted  average  maturity  is  derived  by  multiplying  the  value  of  each
investment by the number of days remaining to its maturity,  adding the results
of these  calculations,  and then dividing the total by the value of the Fund's
portfolio.  An obligation's  maturity is typically determined on a stated final
maturity basis, although there are some exceptions to this rule.

     With  respect to  obligations  held by the  Virginia  Bond Fund,  if it is
probable  that  the  issuer  of  an  instrument   will  take   advantage  of  a
maturity-shortening device, such as a call, refunding, or redemption provision,
the date on which the instrument will probably be called, refunded, or redeemed
may be considered to be its maturity  date.  Also, the maturities of securities
subject to sinking fund  arrangements are determined on a weighted average life
basis,  which is the average  time for  principal  to be repaid.  The  weighted
average life of these  securities  is likely to be  substantially  shorter than
their stated final maturity. In addition, for purposes of the Fund's investment
policies,  an instrument will be treated as having a maturity  earlier than its
stated  maturity date if the instrument has technical  features such as puts or
demand  features  that,  in the  judgment  of the  Manager,  will result in the
instrument being valued in the market as though it has the earlier maturity.

     The  Virginia  Money  Market  Fund  will  determine  the  maturity  of  an
obligation in its portfolio in accordance  with Rule 2a-7 under the  Investment
Company Act of 1940, as amended (1940 Act).

LENDING OF SECURITIES

Each Fund may lend its  securities.  A lending  policy may be authorized by the
Company's  Directors and  implemented  by the Manager,  but  securities  may be
loaned only to qualified  broker-dealers or institutional  investors that agree
to maintain cash collateral with the Company equal at all time to at least 100%
of the value of the loaned securities.  The Directors will establish procedures
and monitor the  creditworthiness  of any institution or  broker-dealer  during
such time as any loan is  outstanding.  The  Company  will  continue to receive
interest  on the  loaned  securities  and will  invest the cash  collateral  in
readily  marketable  short-term  obligations of high quality,  thereby  earning
additional interest.  Interest on loaned tax-exempt  securities received by the
borrower and paid to the Company  will not be exempt from federal  income taxes
in the hands of the Company.

     No loan of securities will be made if, as a result,  the aggregate of such
loans would exceed  33 1/3% of the value of a Fund's total  assets. The Company
may terminate such loans at any time.

REPURCHASE AGREEMENTS

Each Fund may invest up to 5% of its total assets in repurchase  agreements.  A
repurchase  agreement is a transaction  in which a security is purchased with a
simultaneous  commitment  to sell the security back to the seller (a commercial
bank or recognized securities dealer) at an agreed upon price on an agreed upon
date,  usually not more than seven days from the date of  purchase.  The resale
price  reflects the purchase  price plus an agreed upon market rate of interest
which is unrelated to the coupon rate or maturity of the purchased security.  A
repurchase  agreement  involves the  obligation of the seller to pay the agreed
upon  price,  which  obligation  is in  effect  secured  by  the  value  of the
underlying security. In these transactions,  the securities purchased by a Fund
will have a total value  equal to or in excess of the amount of the  repurchase
obligation and will be held by the Funds' custodian until  repurchased.  If the
seller defaults and the value of the underlying  security declines,  a Fund may
incur a loss and may incur  expenses in selling the  collateral.  If the seller
seeks relief under the bankruptcy  laws, the  disposition of the collateral may
be delayed or limited. Any investments in repurchase  agreements will give rise
to income which will not qualify as  tax-exempt  income when  distributed  by a
Fund.

WHEN-ISSUED SECURITIES

Each  Fund may  invest in new  issues of  tax-exempt  securities  offered  on a
when-issued  basis;  that is, delivery and payment take place after the date of
the commitment to purchase,  normally  within 45 days.  Both price and interest
rate are fixed at the time of commitment. The Funds do not earn interest on the
securities  until  settlement,  and the  market  value  of the  securities  may
fluctuate  between purchase and settlement.  Such securities can be sold before
settlement date.

                                       5
<PAGE>

     Cash or high  quality  liquid debt  securities  equal to the amount of the
when-issued  commitments  are  segregated  at the Fund's  custodian  bank.  The
segregated  securities are valued at market,  and daily adjustments are made to
keep the  value of the cash and  segregated  securities  at least  equal to the
amount of such  commitments by the Fund. On the settlement  date, the Fund will
meet its obligations  from then available cash, sale of segregated  securities,
sale of other securities, or sale of the when-issued securities themselves.

MUNICIPAL LEASE OBLIGATIONS

Each  Fund may  invest in  municipal  lease  obligations  and  certificates  of
participation in such obligations  (collectively,  lease obligations).  A lease
obligation  does not constitute a general  obligation of the  municipality  for
which the municipality's taxing power is pledged, although the lease obligation
is ordinarily backed by the municipality's  covenant to budget for the payments
due under the lease obligation.

     Certain  lease  obligations  contain   "non-appropriation"  clauses  which
provide  that the  municipality  has no  obligation  to make  lease  obligation
payments in future  years unless  money is  appropriated  for such purpose on a
yearly basis. Although "non-appropriation" lease obligations are secured by the
leased property,  disposition of the property in the event of foreclosure might
prove  difficult.  In  evaluating  a  potential  investment  in  such  a  lease
obligation,  the Manager will consider:  (1) the credit quality of the obligor,
(2) whether the underlying  property is essential to a  governmental  function,
and (3) whether the lease obligation contains covenants prohibiting the obligor
from substituting  similar property if the obligor fails to make appropriations
for the lease obligation.

TEMPORARY DEFENSIVE POLICY

Each Fund may on a temporary basis because of market,  economic,  political, or
other  conditions  invest  up to 100% of its  assets in  short-term  securities
whether or not they are exempt from  federal and Virginia  state income  taxes.
Such taxable securities may consist of obligations of the U.S. Government,  its
agencies  or  instrumentalities,  and  repurchase  agreements  secured  by such
instruments.

OTHER POLICIES

Although  the Virginia  Bond Fund is permitted to invest in options,  financial
futures contracts,  and options on financial futures contracts, the Fund has no
current  intention of doing so and will not invest in such  securities  without
first  notifying   shareholders  and  supplying  further   information  in  the
Prospectus.

                            INVESTMENT RESTRICTIONS

The following investment restrictions have been adopted by the Company for each
Fund. These restrictions may not be changed for any given Fund without approval
by the lesser of (1) 67% or more of the voting securities  present at a meeting
of the Fund if more than 50% of the outstanding  voting  securities of the Fund
are  present  or  represented  by  proxy or (2)  more  than  50% of the  Fund's
outstanding voting securities.  The investment  restrictions of one Fund may be
changed without affecting those of the other Fund.

Under the restrictions, neither Fund will:

 (1)  with  respect  to 75% of its total  assets,  purchase  securities  of any
      issuer  (other than a security  issued or  guaranteed  as to principal or
      interest by the United States, or by a person controlled or supervised by
      and acting as an  instrumentality of the Government of the United States;
      or any  certificate  of deposit for any of the  foregoing) if as a result
      more  than 5% of the  total  assets of that  Fund  would be  invested  in
      securities   of  such   issuer;   for   purposes   of  this   limitation,
      identification  of the "issuer" will be based on a  determination  of the
      source of assets and revenues committed to meeting interest and principal
      payments  of  each  security;   for  purposes  of  this   limitation  the
      Commonwealth of Virginia or other  jurisdictions and each of its separate
      political  subdivisions,  agencies,  authorities,  and  instrumentalities
      shall be treated as a separate issuer;

 (2)  purchase  more  than  10%  of the  outstanding  voting  securities of any
      issuer;

 (3)  borrow money, except for temporary or emergency purposes in an amount not
      exceeding  33 1/3% of  its  total  assets (including the amount borrowed)
      less liabilities (other than borrowings);

 (4)  pledge, mortgage, or hypothecate  its  assets to any extent  greater than
      10% of the value of its total assets;

 (5)  purchase or retain securities of any issuer if any officer or Director of
      the Company or its Manager owns  individually  more than  one-half of one
      percent (1/2%) of the  securities of that issuer,  and  collectively  the
      officers and Directors of the Company and Manager  together own more than
      5% of the securities of that issuer;

                                       6
<PAGE>

 (6)  purchase  any  securities  which  would cause 25% or more of the value of
      that Fund's total  assets at the time of such  purchase to be invested in
      securities  the interest  upon which is derived from revenues or projects
      with similar  characteristics,  such as toll road revenue bonds,  housing
      revenue  bonds,  electric power project  revenue bonds,  or in industrial
      revenue bonds which are based,  directly or indirectly,  on the credit of
      private  entities  of any  one  industry;  provided  that  the  foregoing
      limitation  does not apply with respect to investments  in U.S.  Treasury
      Bills, other obligations issued or guaranteed by the U.S. Government, its
      agencies and  instrumentalities,  and, in the case of the Virginia  Money
      Market Fund, certificates of deposit and banker's acceptances of domestic
      banks;

 (7)  invest in issuers for the purpose of exercising control or management;

 (8)  issue senior  securities  as defined in the 1940 Act,  except that it may
      purchase tax-exempt  securities on a "when-issued" basis and may purchase
      and sell financial  futures contracts and options as permitted by Section
      18(f)(2);

 (9)  underwrite securities of other issuers,  except to the extent that it may
      be deemed to act as a statutory  underwriter in the  distribution  of any
      restricted securities or not readily marketable securities;

 (10) purchase or sell real estate,  but this shall not prevent  investments in
      tax-exempt securities secured by real estate or interests therein;

 (11) lend any securities or make any loan  if, as a result, more  than 33 1/3%
      of its  total  assets  would  be lent to other  parties, except that this
      limitation  does  not  apply  to  purchases  of  debt  securities  or  to
      repurchase agreements;

 (12) purchase on margin or sell short;  for purposes of this  restriction  the
      deposit or payment of initial  or  variation  margin in  connection  with
      financial futures contracts or related options will not be deemed to be a
      purchase of securities on margin by a Fund;

 (13) purchase or sell  commodities or commodities  contracts,  except that the
      Fund may invest in financial futures contracts and options thereon;

 (14) invest its assets in securities of other  investment  companies except by
      purchases  in  the  open  market   involving  only   customary   brokers'
      commissions  or as part of a  merger,  consolidation,  reorganization  or
      purchase of assets approved by the shareholders; or

 (15) invest in put,  call,  straddle,  or spread  options or interests in oil,
      gas, or other mineral exploration or development programs,  except that a
      Fund may write covered call options and purchase put options.

ADDITIONAL RESTRICTIONS

The following restrictions are not considered to be fundamental policies of the
Funds. The Board of Directors may change these additional  restrictions without
notice to or approval by the shareholders.

Neither Fund will:

 (1)  invest more than 15% (10% with respect to the Virginia Money Market Fund)
      of  the  value  of its  net  assets  in  illiquid  securities,  including
      repurchase agreements maturing in more than seven days; or

 (2)  purchase any  security while  borrowings representing more than 5% of the
      Fund's total assets are outstanding.

                          SPECIAL RISK CONSIDERATIONS

A  substantial   portion  of  the  Funds'  investments  will  consist  of  debt
obligations issued to obtain funds for bonds issued by or on behalf of Virginia
state and local governments and other public authorities (Virginia Issues). For
this reason, the Funds are affected by political, economic, regulatory or other
developments  which  constrain  the taxing,  revenue  collecting  and  spending
authority  of  Virginia  issuers or  otherwise  affect the  ability of Virginia
issuers  to pay  interest,  repay  principal,  or any  premium.  The  following
information  constitutes only a brief summary of some of such  developments and
does not purport to be a complete description.

     Investors  should  be aware of  certain  factors  that  might  affect  the
financial condition of issuers of Virginia municipal securities.

     Virginia Issues may include primarily debt obligations of the subdivisions
of the  Commonwealth  of Virginia  issued to obtain  funds for  various  public
purposes,  including the construction of a wide range of public facilities such
as airports,  bridges,  highways,  schools,  streets and water and sewer works.
Other  purposes for which bonds may be issued include the obtaining of funds to
lend to public or private

                                       7
<PAGE>

institutions for the construction of facilities such as educational,  hospital,
housing, and solid waste disposal facilities.  The latter are generally payable
from private  sources which, in varying  degrees,  may depend on local economic
conditions, but are not necessarily affected by the ability of the Commonwealth
of Virginia and its political subdivisions to pay their debts.  Therefore,  the
general risk factors as to the credit of the State or its political subdivision
discussed herein may not be relevant to the Virginia Issues.

     (a) THE COMMONWEALTH AS AN ISSUER. To the extent bonds of the Commonwealth
of Virginia are included in the Virginia  Issues,  information on the financial
condition of the Commonwealth is noted. The Constitution of Virginia limits the
ability  of the  Commonwealth  to create  debt.  The  Constitution  requires  a
balanced  budget.  The  Commonwealth  has  maintained  a high  level of  fiscal
stability for many years due in large part to conservative financial operations
and diverse  sources of revenue.  The fiscal year ended June 30, 1998,  general
fund revenues exceeded budget  projections by $194 million.  The economy of the
Commonwealth  is  based  primarily  on  manufacturing,  the  government  sector
(including  defense),  agriculture,  mining and tourism.  Defense spending is a
major component.  Defense  installations are concentrated in Northern Virginia,
the location of the Pentagon,  and the Hampton Roads area, including the Cities
of Newport News, Hampton,  Norfolk, and Virginia Beach, the locations of, among
other installations,  the Army Transportation  Center (Ft. Eustis), the Langley
Air  Force  Base,  Norfolk  Naval  Base,  and the  Oceana  Naval  Air  Station,
respectively.  Any substantial  reductions in defense spending  generally or in
particular areas, including base closings, could adversely affect the state and
local economies.

     The  Commonwealth  currently  has a Standard & Poor's  rating of AAA and a
Moody's  rating  of  Aaa on  its  general  obligation  bonds.  There  can be no
assurance  that the economic  conditions  on which these ratings are based will
continue  or that  particular  bond  issues may not be  adversely  affected  by
changes  in  economic  or  political  conditions.  Further,  the  credit of the
Commonwealth  is not  material to the  ability of  political  subdivisions  and
private entities to make payments on the obligations described below.

     (b) BONDS OF OTHER  ENTITIES.  General  obligations  of cities,  towns and
counties in  Virginia  are  payable  from the  general  revenues of the entity,
including  ad valorem tax  revenues on property  within the  jurisdiction.  The
obligation  to levy taxes could be enforced by mandamus,  but such a remedy may
be  impracticable  and difficult to enforce.  Under section  15.1-227.61 of the
Code of Virginia of 1950, as amended,  a holder of any general  obligation bond
in default may file an affidavit  setting forth such default with the Governor.
If, after  investigating,  the Governor determines that such default exists, he
is directed to order the State Comptroller to withhold State funds appropriated
and payable to the entity and apply the amount so withheld to unpaid  principal
and  interest.  The  Commonwealth,  however,  has no  obligation to provide any
additional funds necessary to pay such principal and interest.

     Revenue  bonds  issued by  Virginia  political  subdivisions  include  (1)
revenue  bonds  payable   exclusively  from  revenue   producing   governmental
enterprises  and (2)  industrial  revenue bonds,  college and hospital  revenue
bonds and other "private activity bonds" which are essentially non-governmental
debt  issues and which are  payable  exclusively  by private  entities  such as
non-profit  organizations and business  concerns of all sizes.  State and local
governments  have no obligation to provide for payment of such private activity
bonds and in many cases would be legally prohibited from doing so. The value of
such  private  activity  bonds may be  affected  by a wide  variety  of factors
relevant  to  particular   localities   or   industries,   including   economic
developments outside of Virginia.

     Virginia  municipal  securities that are lease obligations are customarily
subject to "non-appropriation"  clauses which allow the municipality,  or other
public entity,  to terminate its lease  obligations if moneys to make the lease
payments are not appropriated  for that purpose.  Legal principles may restrict
the  enforcement  of  provisions  in lease  financing  limiting  the  municipal
issuer's  ability to utilize  property similar to that leased in the event that
debt service is not appropriated.

     Recent amendments to Chapter 9 of the United States Bankruptcy Code, which
applies to bankruptcies by political subdivisions,  limit the filing under that
chapter to political subdivisions that have been specifically  authorized to do
so under  applicable  state law.  The  Company  is not aware of any  statute in
Virginia  that  gives  any such  authorization  to  political  subdivisions  in
Virginia.  Bonds payable  exclusively by private entities may be subject to the
provisions of the United States Bankruptcy Code other than Chapter 9.

     (c) OTHER  FACTORS.  Virginia  municipal  issuers have  generally not been
required to provide ongoing  information about their finances and operations to
holders of their debt  obligations,  although a number of cities,  counties and
other issuers prepare annual reports. Virginia political subdivisions that sell
bonds  after  July 3, 1995,  will be  subject  to Rule  15c2-12 of the SEC that
requires continuing disclosure,  including annual audited financial statements,
with respect to those obligations, unless exempted by the Rule.

                                       8
<PAGE>

     Although  revenue   obligations  of  the  Commonwealth  or  its  political
subdivisions may be payable from a specific project or source,  including lease
rentals,  there can be no assurance that future economic  difficulties  and the
resulting  impact  on  Commonwealth  and  local  government  finances  will not
adversely  affect the market value of the  portfolio of the Fund or the ability
of the respective obligors to make timely payments of principal and interest on
such obligations.

     With  respect  to  Virginia  Issues  that are backed by a letter of credit
issued by a foreign or domestic  bank,  the  ultimate  source of payment is the
bank.  Investment  in foreign  banks may involve  risks not present in domestic
investments.  These  include the fact that the  foreign  bank may be subject to
different,  and in  some  cases  less  comprehensive,  regulatory,  accounting,
financial reporting and disclosure standards than are domestic banks.

     When Virginia  Issues are insured by a municipal  bond insurer,  there are
certain risks which the bond insurance  policy  typically  does not cover.  For
example, some insurance policies do not insure against loss resulting from: (1)
a  pre-payment  premium;  (2) an optional or mandatory  redemption  (other than
sinking fund  redemptions);  (3) an accelerated  payment;  (4) a payment of the
purchase price of Virginia  Issues upon tender  thereof;  and (5) a preference.
Certain municipal bond insurers may not insure against  nonpayment of principal
of or interest on Virginia Issues resulting from the insolvency,  negligence or
any other act or omission of a paying  agent for  Virginia  Issues.  Also,  the
capitalization  of the various  municipal  bond insurers is not uniform.  If an
insurer of Virginia  Issues must make payments  pursuant to its bond  insurance
policy,  such payments could be limited by, among other things, such companies'
capitalization and insurance regulatory authorities.

     The rights of the holders of the Virginia Issues and the enforceability of
the  Virginia  Issues  and  the  financing  documents  may  be  subject  to (1)
bankruptcy,  insolvency,  reorganization,  moratorium  and other  similar  laws
relating to or affecting  creditors' rights, in effect now or after the date of
the issuance of Virginia Issues, to the extent constitutionally applicable, (2)
principles of equity, and (3) the exercise of judicial discretion.

     There are risks in any investment program,  and there is no assurance that
either Fund will achieve its investment objective.  Virginia Issues are subject
to relative degrees of risk, including credit risk, market volatility,  tax law
change and  fluctuation of the return of the investment of the Virginia  Issues
proceeds.  Credit  risk  relates  to the  issuer's,  pledgor's,  contributor's,
grantor's, credit enhancer's and/or guarantor's ability to make timely payments
of  principal  and  interest  and any  premium.  Furthermore,  in revenue  bond
financings,  the bonds may be payable  exclusively from moneys derived from the
fees, rents and other charges collected from the bond-financed project. Payment
of  principal,  interest and any premium on the bonds by the issuer of Virginia
Issues which are revenue bonds may be adversely  affected if the  collection of
fees,  rents and charges  from the  project is  diminished.  Market  volatility
relates to the changes in market price that occur as a result of  variations in
the level of prevailing interest rates and yield relationships  between sectors
in the tax-exempt  securities market and other market factors.  Also, each Fund
will be affected by general  changes in interest  rates  nationally  which will
result in increases or  decreases in the value of the  securities  held by such
Fund.

     The ability of each Fund to achieve its investment objectives is dependent
on the continuing  ability of the issuers of Virginia  Issues in which the Fund
invests to meet their  obligations  for the payment of principal,  interest and
premium when due.

                             PORTFOLIO TRANSACTIONS

The  Manager,   pursuant  to  the  Advisory  Agreement  dated  July  20,  1990,
supplemented  by letter  agreement  dated  July 26,  1990,  and  subject to the
general control of the Company's Board of Directors,  places all orders for the
purchase and sale of Fund  securities.  Purchases of Fund  securities  are made
either  directly  from  the  issuer  or from  dealers  who  deal in  tax-exempt
securities.  The  Manager  may  sell  Fund  securities  prior  to  maturity  if
circumstances  warrant and if it believes such  disposition  is  advisable.  In
connection with portfolio  transactions  for the Company,  the Manager seeks to
obtain  the best  available  net price  and most  favorable  execution  for its
orders.  The Manager has no agreement or commitment to place  transaction  with
any  broker-dealer  and no regular  formula is used to  allocate  orders to any
broker-dealer.  However,  the Manager may place security orders with brokers or
dealers who furnish  research or other services to the Manager as long as there
is no sacrifice in obtaining the best overall terms available. Payment for such
services  would be generated  only  through  purchase of new issue fixed income
securities.

     Such  research  and  other  services  may  include,  for  example:  advice
concerning  the  value  of  securities,   the  advisability  of  investing  in,
purchasing,  or selling  securities,  and the availability of securities or the

                                       9
<PAGE>

purchasers or sellers of securities;  analyses and reports concerning  issuers,
industries,  securities,  economic factors and trends,  portfolio strategy, and
performance  of  accounts;   and  various  functions  incidental  to  effecting
securities  transactions,  such as clearance  and  settlement.  These  research
services may also include access to research on third party data bases, such as
historical  data on  companies,  financial  statements,  earnings  history  and
estimates and corporate releases; real-time quotes and financial news; research
on specific fixed income securities;  research on international market news and
securities;  and rating  services  on  companies  and  industries.  The Manager
continuously  reviews the performance of the broker-dealers with whom it places
orders for  transactions.  The receipt of  research  from  broker-dealers  that
execute  transactions  on behalf of the Company may be useful to the Manager in
rendering investment management services to other clients (including affiliates
of the Manager),  and conversely,  such research provided by broker-dealers who
have  executed  transaction  orders on behalf of other clients may be useful to
the Manager in carrying out its obligations to the Company. While such research
is available to and may be used by the Manager in providing  investment  advice
to all its  clients  (including  affiliates  of the  Manager),  not all of such
research  may be used by the  Manager  for the  benefit  of the  Company.  Such
research  and  services  will be in addition to and not in lieu of research and
services  provided by the  Manager,  and the  expenses of the Manager  will not
necessarily be reduced by the receipt of such  supplemental  research.  See THE
COMPANY'S MANAGER.

     On occasions  when the Manager deems the purchase or sale of a security to
be in the best interest of the Company, as well as the Manager's other clients,
the Manager,  to the extent permitted by applicable laws and  regulations,  may
aggregate such securities to be sold or purchased for the Company with those to
be sold or purchased for other  customers in order to obtain best execution and
lower  brokerage  commissions,  if  any.  In  such  event,  allocation  of  the
securities  so  purchased  or sold,  as well as the  expenses  incurred  in the
transaction,  will be made by the Manager in the manner it considers to be most
equitable and consistent with its fiduciary  obligations to all such customers,
including the Company.  In some instances,  this procedure may impact the price
and size of the position obtainable for the Company.

     The  tax-exempt  security  market is typically a "dealer"  market in which
investment  dealers buy and sell bonds for their own accounts,  rather than for
customers,  and although the price may reflect a dealer's mark-up or mark-down,
the Company pays no brokerage commissions as such. In addition, some securities
may be purchased directly from issuers.

PORTFOLIO TURNOVER RATES

The  portfolio  turnover  rate is  computed by  dividing  the dollar  amount of
securities  purchased or sold  (whichever  is smaller) by the average  value of
securities owned during the year.

     The rate of  portfolio  turnover  will not be a limiting  factor  when the
Manager deems changes in the Virginia Bond Fund's portfolio appropriate in view
of  its  investment  objective.   For  example,   securities  may  be  sold  in
anticipation  of a rise in interest  rates  (market  decline) or  purchased  in
anticipation  of a decline in interest  rates  (market rise) and later sold. In
addition, a security may be sold and another security of comparable quality may
be purchased at approximately  the same time in order to take advantage of what
the Fund believes to be a temporary  disparity in the normal yield relationship
between the two securities.  These yield  disparities may occur for reasons not
directly related to the investment  quality of particular issues or the general
movement of interest rates, such as changes in the overall demand for or supply
of various types of tax-exempt securities.

     For the last two fiscal years the Virginia Bond Fund's portfolio  turnover
rates were as follows:

             1998. . . . . 14.24%         1999. . . . . 10.55%

     Portfolio  turnover  rates  have  been  calculated   excluding  short-term
variable rate securities,  which are those with put date intervals of less than
one year.

                             DESCRIPTION OF SHARES

The Funds are  series of USAA Tax  Exempt  Fund,  Inc.  (the  Company)  and are
diversified.   The  Company  is  an  open-end  management   investment  company
incorporated  under the laws of the state of Maryland on November 16, 1981. The
Company is  authorized to issue shares in separate  series or funds.  There are
ten mutual funds in the Company,  two of which are described in this SAI. Under
the Articles of  Incorporation,  the Board of Directors is authorized to create
new  portfolios  in  addition to those  already  existing  without  shareholder
approval.  The Company began offering  shares of the Virginia Bond and Virginia
Money Market Funds in October 1990.

                                      10
<PAGE>

     Each  Fund's  assets  and all  income,  earnings,  profits,  and  proceeds
thereof, subject only to the rights of creditors, are specifically allocated to
such Fund. They constitute the underlying  assets of each Fund, are required to
be segregated on the books of account,  and are to be charged with the expenses
of such Fund. Any general  expenses of the Company not readily  identifiable as
belonging  to a  particular  Fund are  allocated  on the  basis  of the  Funds'
relative net assets during the fiscal year or in such other manner as the Board
determines  to be fair and  equitable.  Each share of each Fund  represents  an
equal  proportionate  interest  in that  Fund  with  every  other  share and is
entitled to dividends and distributions out of the net income and capital gains
belonging to that Fund when declared by the Board.

     Under the  provisions of the Bylaws of the Company,  no annual  meeting of
shareholders is required. Thus, there will ordinarily be no shareholder meeting
unless  required  by  the  1940  Act.  Under  certain  circumstances,  however,
shareholders  may apply to the Directors for shareholder  information to obtain
signatures  to request a special  shareholder  meeting.  The  Company  may fill
vacancies on the Board or appoint new  Directors if the result is that at least
two-thirds of the Directors have still been elected by shareholders.  Moreover,
pursuant  to the  Bylaws of the  Company,  any  Director  may be removed by the
affirmative vote of a majority of the outstanding  Company shares;  and holders
of 10% or more of the outstanding  shares of the Company can require  Directors
to call a meeting of  shareholders  for the purpose of voting on the removal of
one or more  Directors.  The  Company  will  assist in  communicating  to other
shareholders  about the meeting.  On any matter submitted to the  shareholders,
the  holder  of each  Fund  share  is  entitled  to one vote  per  share  (with
proportionate  voting for  fractional  shares)  regardless  of the relative net
asset values of the Funds' shares.  However, on matters affecting an individual
Fund a separate vote of the shareholders of that Fund is required. Shareholders
of a Fund are not entitled to vote on any matter that does not affect that Fund
but  which  requires  a  separate  vote of  another  Fund.  Shares  do not have
cumulative  voting  rights,  which  means that  holders of more than 50% of the
shares  voting for the  election of Directors  can elect 100% of the  Company's
Board of  Directors,  and the holders of less than 50% of the shares voting for
the election of Directors will not be able to elect any person as a Director.

     Shareholders of a particular Fund might have the power to elect all of the
Directors  of the  Company  because  that  Fund  has a  majority  of the  total
outstanding  shares of the Company.  When issued,  each Fund's shares are fully
paid and  nonassessable,  have no pre-emptive or subscription  rights,  and are
fully transferable. There are no conversion rights.

                   CERTAIN FEDERAL INCOME TAX CONSIDERATIONS

TAXATION OF THE FUNDS

Each Fund intends to qualify as a regulated investment company under Subchapter
M of the  Internal  Revenue Code of 1986,  as amended (the Code).  Accordingly,
each  Fund will not be liable  for  federal  income  taxes on its  taxable  net
investment  income and net capital  gains  (capital  gains in excess of capital
losses)  that  are  distributed  to  shareholders,   provided  that  each  Fund
distributes  at  least  90% of its net  investment  income  and net  short-term
capital gain for the taxable year.

     To qualify as a regulated  investment  company,  a Fund must,  among other
things,  (1) derive in each  taxable year at least 90% of its gross income from
dividends,  interest, payments with respect to securities loans, gains from the
sale or other disposition of stock, securities or foreign currencies,  or other
income  derived  with  respect to its  business  of  investing  in such  stock,
securities,   or   currencies   (the  90%   test)  and  (2)   satisfy   certain
diversification requirements at the close of each quarter of the Fund's taxable
year. Furthermore, to pay tax-exempt interest income dividends, at least 50% of
the value of each  Fund's  total  assets at the  close of each  quarter  of its
taxable year must consist of  obligations  the interest of which is exempt from
federal income tax. Each Fund intends to satisfy this requirement.

     The Code imposes a nondeductible  4% excise tax on a regulated  investment
company that fails to  distribute  during each calendar year an amount at least
equal  to the sum of (1)  98% of its  taxable  net  investment  income  for the
calendar  year,  (2) 98% of its  capital  gain net income for the  twelve-month
period  ending on October 31, and (3) any prior amounts not  distributed.  Each
Fund intends to make such distributions as are necessary to avoid imposition of
this excise tax.

     For federal income tax purposes,  debt  securities  purchased by the Funds
may be treated as having  original  issue  discount.  Original  issue  discount
represents interest income for federal income tax purposes and can generally be
defined as the  excess of the stated  redemption  price at  maturity  of a debt
obligation over the issue price. Original issue discount is treated for federal
income  tax  purposes  as earned by the  Funds,  whether  or not any  income is
actually received, and therefore is subject to the distribution

                                      11
<PAGE>

requirements  of the Code.  However,  original  issue  discount with respect to
tax-exempt  obligations  generally  will be  excluded  from the Funds'  taxable
income, although such discount will be included in gross income for purposes of
the 90% test  described  previously.  Original  issue  discount with respect to
tax-exempt  securities  is accrued and added to the  adjusted tax basis of such
securities for purposes of  determining  gain or loss upon sale or at maturity.
Generally,  the amount of original issue discount is determined on the basis of
a constant  yield to maturity  which  takes into  account  the  compounding  of
accrued  interest.  An investment  in a stripped  bond or stripped  coupon will
result in original issue discount.

     Debt securities may be purchased by the Funds at a market discount. Market
discount  occurs when a security is purchased at a price less than the original
issue price  adjusted for accrued  original issue  discount,  if any. The Funds
intend to defer  recognition of accrued market discount until maturity or other
disposition  of the bond. For securities  purchased at a market  discount,  the
gain realized on disposition  will be treated as taxable ordinary income to the
extent it does not exceed accrued market discount on the bond.

     The Funds may also  purchase  debt  securities  at a premium,  i.e.,  at a
purchase price in excess of face amount. With respect to tax-exempt securities,
the premium must be amortized to the maturity  date but no deduction is allowed
for the premium amortization. The amortized bond premium will reduce the Funds'
adjusted tax basis in the securities.  For taxable securities,  the premium may
be amortized if the Funds so elect. The amortized premium on taxable securities
is first offset against interest received on the securities and then allowed as
a deduction,  and, for  securities  issued after  September  27, 1985,  must be
amortized under an economic accrual method.

TAXATION OF THE SHAREHOLDERS

Taxable  distributions are generally  included in a shareholder's  gross income
for the taxable year in which they are received. Dividends declared in October,
November,  or December  and made  payable to  shareholders  of record in such a
month will be deemed to have been  received on December  31, if a Fund pays the
dividend during the following  January.  It is expected that none of the Funds'
distributions will qualify for the corporate dividends-received deduction.

     To the extent that a Fund's  dividends  distributed  to  shareholders  are
derived from interest  income exempt from federal income tax and are designated
as  "exempt-interest  dividends"  by a Fund,  they  will be  excludable  from a
shareholder's  gross income for federal income tax purposes.  Shareholders  who
are recipients of Social Security benefits should be aware that exempt-interest
dividends received from a Fund are includible in their "modified adjusted gross
income"  for  purposes  of  determining  the  amount  of such  Social  Security
benefits, if any, that are required to be included in their gross income.

     A shareholder  of the Virginia Bond Fund should be aware that a redemption
of shares  (including  any exchange  into another USAA Fund) is a taxable event
and,  accordingly,  a capital gain or loss may be recognized.  If a shareholder
receives an  exempt-interest  dividend with respect to any share and such share
has been held for six months or less,  any loss on the  redemption  or exchange
will be disallowed to the extent of such exempt-interest  dividend.  Similarly,
if a  shareholder  of the Fund  receives a  distribution  taxable as  long-term
capital gain with respect to shares of the Fund and redeems or exchanges shares
before  he or she has  held  them for more  than  six  months,  any loss on the
redemption  or  exchange  (not  otherwise  disallowed  as  attributable  to  an
exempt-interest dividend) will be treated as long-term capital loss.

     The Funds may  invest in  private  activity  bonds.  Interest  on  certain
private  activity  bonds  issued  after  August  7,  1986,  is an  item  of tax
preference for purposes of the Federal Alternative Minimum Tax (AMT),  although
the interest  continues to be excludable  from gross income for other purposes.
AMT is a  supplemental  tax  designed to ensure that  taxpayers  pay at least a
minimum  amount of tax on their income,  even if they make  substantial  use of
certain tax deductions and  exclusions  (referred to as tax preference  items).
Interest from private activity bonds is one of the tax preference items that is
added to income from other  sources for the purposes of  determining  whether a
taxpayer  is  subject  to the AMT and the  amount  of any tax to be  paid.  For
corporate investors,  alternative minimum taxable income is increased by 75% of
the amount by which adjusted current earnings (ACE) exceeds alternative minimum
taxable  income  before  the  ACE  adjustment.  For  corporate  taxpayers,  all
tax-exempt  interest is considered in  calculating  the AMT as part of the ACE.
Prospective investors should consult their own tax advisers with respect to the
possible application of the AMT to their tax situation.

     Opinions  relating  to the  validity  of  tax-exempt  securities  and  the
exemption  of  interest  thereon  from  federal  income  tax  are  rendered  by
recognized  bond counsel to the issuers.  Neither the  Manager's nor the Funds'
counsel makes any review of the basis of such opinions.

                                      12
<PAGE>

                               VIRGINIA TAXATION

As a regulated investment company, each Fund may distribute dividends (Virginia
exempt-interest  dividends) that are exempt from the Virginia income tax to its
shareholders  if (1) at the close of each quarter of its taxable year, at least
50% of the value of its total assets consists of  obligations,  the interest on
which is excluded from gross income for federal income tax purposes and (2) the
Fund satisfies  certain Virginia  reporting  requirements.  The Funds intend to
qualify  and report  under the above  requirement  so that they can  distribute
Virginia exempt-interest dividends. If a Fund fails to so qualify or report, no
part of its dividends will be exempt from the Virginia income tax.

     The portion of dividends constituting Virginia  exempt-interest  dividends
is  that  portion  derived  from  obligations  of  Virginia  or  its  political
subdivisions or  instrumentalities  which pay interest  excludable from federal
gross  income or  derived  from  obligations  of the  United  States  which pay
interest  excludable from Virginia  taxable income under the laws of the United
States.  Dividends  (1) paid by the Funds,  (2) excluded  from gross income for
federal  income tax purposes,  and (3) derived from interest on  obligations of
certain  territories  and  possessions  of the United  States  (those issued by
Puerto  Rico,  the Virgin  Islands and Guam) will be exempt  from the  Virginia
income tax.

     To the extent any portion of the dividends distributed to the shareholders
by the Funds is derived  from taxable  interest for Virginia  purposes or, as a
general  rule,  net  short-term  gains,  such  portion  will be  taxable to the
shareholders  as ordinary  income.  Distributions  of long-term  capital  gains
realized  and  distributed  by the Funds  generally  will be  taxable  to their
shareholders  regardless of how long the  shareholders  have held their shares.
Generally,  interest on  indebtedness  incurred by  shareholders to purchase or
carry  shares of the Funds  will not be  deductible  for  Virginia  income  tax
purposes.

     The foregoing is only a summary of some of the important  Virginia  income
tax considerations  generally affecting the Funds and their  shareholders,  and
does not address any Virginia taxes other than income taxes. No attempt is made
to present a detailed  explanation of the Virginia  income tax treatment of the
Funds  or  their  shareholders,  and  this  discussion  is  not  intended  as a
substitute for careful planning. Accordingly,  potential investors in the Funds
should  consult their tax advisers with respect to the  application of Virginia
taxes to the receipt of the Funds'  dividends  and as to their own Virginia tax
situation.

                     DIRECTORS AND OFFICERS OF THE COMPANY

The Board of Directors of the Company consists of seven Directors who supervise
the business  affairs of the  Company.  Set forth below are the  Directors  and
officers of the Company, and their respective offices and principal occupations
during the last five years. Unless otherwise indicated, the business address of
each is 9800 Fredericksburg Road, San Antonio, TX 78288.


Robert G. Davis 1, 2
Director and Chairman of the Board of Directors
Age: 52

Chief  Operating  Officer  of United  Services  Automobile  Association  (USAA)
(6/99-present);  Deputy Chief Executive Officer for Capital  Management of USAA
(6/98-5/99); President, Chief Executive Officer, Director, and Vice Chairman of
the  Board  of  Directors  of  USAA  Capital  Corporation  and  several  of its
subsidiaries and affiliates (1/97-present); President, Chief Executive Officer,
Director,  and Chairman of the Board of Directors  of USAA  Financial  Planning
Network,  Inc.  (1/97-present);   Executive  Vice  President,  Chief  Operating
Officer,  Director,  and  Vice  Chairman  of the  Board  of  Directors  of USAA
Financial Planning Network, Inc.  (6/96-12/96);  Special Assistant to Chairman,
USAA  (6/96-12/96);  President  and Chief  Executive  Officer,  Banc One Credit
Corporation  (12/95-6/96);  and President and Chief Executive Officer, Banc One
Columbus,  (8/91-12/95). Mr. Davis serves as a Director/Trustee and Chairman of
the Boards of Directors/Trustees of each of the remaining funds within the USAA
Family of Funds;  Director  and  Chairman  of the Boards of  Directors  of USAA
Investment  Management Company (IMCO), USAA Shareholder Account Services,  USAA
Federal Savings Bank, and USAA Real Estate Company.

Michael J.C. Roth 1, 2
Director, President, and Vice Chairman of the Board of Directors
Age: 57

Chief Executive Officer, IMCO (10/93-present);  President,  Director,  and Vice
Chairman of the Board of  Directors,  IMCO  (1/90-present).  Mr. Roth serves as
President,   Director/Trustee,   and   Vice   Chairman   of   the   Boards   of
Directors/Trustees  of each of the  remaining  funds  within the USAA Family of
Funds and USAA

                                      13
<PAGE>

Shareholder  Account  Services;  Director of USAA  Life  Insurance Company; and
Trustee and Vice Chairman of USAA Life Investment Trust.

John W. Saunders, Jr. 1, 2, 4
Director and Vice President
Age: 64

Senior Vice President,  Fixed Income  Investments,  IMCO  (10/85-present).  Mr.
Saunders serves as a Director/Trustee of each of the remaining funds within the
USAA  Family  of  Funds;  Director  of  IMCO;  Senior  Vice  President  of USAA
Shareholder Account Services, and Vice President of USAA Life Investment Trust.

Barbara B. Dreeben 3, 4, 5
200 Patterson #1008
San Antonio, TX 78209
Director
Age: 54

President,   Postal  Addvantage  (7/92-present);   Consultant,   Nancy  Harkins
Stationer  (8/91-12/95).  Mrs. Dreeben serves as a Director/Trustee  of each of
the remaining funds within the USAA Family of Funds.

Howard L. Freeman,  Jr. 2, 3, 4, 5
2710 Hopeton
San Antonio,  TX 78230
Director
Age: 64

Retired. Assistant General Manager for Finance, San Antonio City Public Service
Board  (1976-1996).  Mr.  Freeman serves as a  Director/Trustee  of each of the
remaining funds within the USAA Family of Funds.

Robert L. Mason, Ph.D. 3, 4, 5
12823 Queens Forest
San Antonio, TX 78230
Director
Age: 53

Staff Analyst,  Statistical  Analysis  Section,  Southwest  Research  Institute
(9/98-present);  Manager,  Statistical  Analysis  Section,  Southwest  Research
Institute (8/75-9/98).  Dr. Mason serves as a Director/Trustee of the remaining
funds within each of the USAA Family of Funds.

Richard A. Zucker 3, 4, 5
407 Arch Bluff
San Antonio, TX 78216
Director
Age: 56

Vice President, Beldon Roofing and Remodeling (1985-present). Mr. Zucker serves
as a Director/Trustee  of each of the remaining funds within the USAA Family of
Funds.

Michael D. Wagner 1
Secretary
Age: 51

Senior Vice President,  CAPCO General Counsel (01/99-present);  Vice President,
Corporate Counsel, USAA (1982-01/99).  Mr. Wagner has held various positions in
the  legal  department  of USAA  since  1970  and  serves  as  Vice  President,
Secretary, and Counsel, IMCO and USAA Shareholder Account Services;  Secretary,
of each of the remaining funds within the USAA Family of Funds; Vice President,
Corporate Counsel for various other USAA subsidiaries and affiliates.

                                      14
<PAGE>

Alex M. Ciccone 1
Assistant Secretary
Age: 49

Vice  President,  Compliance,  IMCO  (12/94-present);  Vice President and Chief
Operating Officer, Commonwealth Shareholder Services (6/94-11/94).  Mr. Ciccone
serves as Assistant  Secretary of each of the  remaining  funds within the USAA
Family of Funds.

Mark S. Howard 1
Assistant Secretary
Age: 35

Assistant Vice President,  Securities Counsel,  USAA (2/98-present);  Executive
Director,  Securities  Counsel,  USAA  (9/96-2/98);  Senior Associate  Counsel,
Securities  Counsel,  USAA  (5/95-8/96);  Attorney,  Kirkpatrick & Lockhart LLP
(9/90-4/95).  Mr.  Howard  serves as Assistant  Vice  President  and  Assistant
Secretary,  IMCO and USAA Shareholder Account Services;  Assistant Secretary of
each of the remaining funds within the USAA Family of Funds; and Assistant Vice
President,   Securities   Counsel  for  various  other  USAA  subsidiaries  and
affiliates.

Sherron A. Kirk 1
Treasurer
Age: 54

Vice President, Senior Financial Officer, IMCO (8/98-present);  Vice President,
Controller,  IMCO  (10/92-8/98).  Mrs.  Kirk serves as Treasurer of each of the
remaining  funds  within  the USAA  Family of  Funds;  Vice  President,  Senior
Financial Officer of USAA Shareholder Account Services.

Caryl Swann 1
Assistant Treasurer
Age: 51

Executive  Director,  Mutual  Fund  Analysis & Support,  IMCO  (10/98-present);
Director, Mutual Fund Portfolio Analysis & Support, IMCO (2/98-10/98); Manager,
Mutual  Fund  Accounting,  IMCO  (7/92-2/98).  Ms.  Swann  serves as  Assistant
Treasurer for each of the remaining funds within the USAA Family of Funds.

- ------------------------

 1 Indicates  those  Directors and officers who are employees of the Manager or
   affiliated companies and are considered  "interested persons" under the 1940
   Act.
 2 Member of Executive Committee
 3 Member of Audit Committee
 4 Member of Pricing and Investment Committee
 5 Member of Corporate Governance Committee

     Between the meetings of the Board of Directors  and while the Board is not
in session,  the  Executive  Committee  of the Board of  Directors  has all the
powers  and may  exercise  all the  duties  of the  Board of  Directors  in the
management  of the business of the Company  which may be delegated to it by the
Board. The Pricing and Investment Committee of the Board of Directors acts upon
various  investment-related  issues and other matters which have been delegated
to it by the Board.  The Audit Committee of the Board of Directors  reviews the
financial  statements and the auditor's reports and undertakes  certain studies
and analyses as directed by the Board.  The Corporate  Governance  Committee of
the Board of Directors  maintains  oversight of the organization,  performance,
and effectiveness of the Board and Independent Directors.

     In addition to the  previously  listed  Directors  and/or  officers of the
Company  who also  serve as  Directors  and/or  officers  of the  Manager,  the
following  individuals are Directors and/or executive  officers of the Manager:
Carl W. Shirley, Senior Vice President,  Insurance Company Portfolios;  John J.
Dallahan,  Senior Vice President,  Investment  Services;  and David G. Peebles,
Senior Vice President,  Equity Investments.  There are no family  relationships
among the Directors, officers and managerial level employees of the Company, or
its Manager.

                                      15
<PAGE>

     The following table sets forth information  describing the compensation of
the current  Directors of the Company for their  services as Directors  for the
fiscal year ended March 31, 1999.

     NAME                           AGGREGATE            TOTAL COMPENSATION
      OF                          COMPENSATION             FROM THE USAA
    DIRECTOR                     FROM THE COMPANY        FAMILY OF FUNDS (b)
    --------                     -----------------       -------------------
    Robert G. Davis                   None (a)                   None (a)
    Barbara B. Dreeben              $9,678                    $36,500
    Howard L. Freeman, Jr.          $9,678                    $36,500
    Robert L. Mason                 $9,678                    $36,500
    Michael J.C. Roth                 None (a)                   None (a)
    John W. Saunders, Jr.             None (a)                   None (a)
    Richard A. Zucker               $9,678                    $36,500

- -----------------

(a)  Robert  G. Davis,  Michael  J.C.  Roth,  and  John  W.  Saunders,  Jr. are
     affiliated   with   the   Company's   investment   adviser,  IMCO,  and,
     accordingly,  receive  no  remuneration  from  the  Company  or  any other
     Fund of the USAA Family of Funds.

(b)  At March 31, 1999, the USAA Family of Funds  consisted of four  registered
     investment companies offering 35 individual funds. Each Director presently
     serves as a Trustee or  Director  of each  investment  company in the USAA
     Family of Funds.  In addition,  Michael J.C.  Roth  presently  serves as a
     Trustee of USAA Life  Investment  Trust, a registered  investment  company
     advised by IMCO,  consisting  of seven funds  available to the public only
     through the purchase of certain  variable  annuity  contracts and variable
     life insurance policies offered by USAA Life Insurance  Company.  Mr. Roth
     receives no compensation as Trustee of USAA Life Investment Trust.

     All of the above Directors are also  Trustees/Directors of the other funds
within the USAA  Family of Funds.  No  compensation  is paid by any fund to any
Trustee/Director  who is a  director,  officer,  or  employee  of  IMCO  or its
affiliates.  No  pension or  retirement  benefits  are  accrued as part of fund
expenses.  The Company reimburses certain expenses of the Directors who are not
affiliated with the investment  adviser. As of  May 14, 1999,  the officers and
Directors of the Company and their families as a group owned beneficially or of
record less than 1% of the outstanding shares of the Company.

     The  Company  knows of no one person who,  as  of  May 14,  1999,  held of
record or owned beneficially 5% or more of either Fund's shares.

                             THE COMPANY'S MANAGER

As described  in the  Prospectus,  USAA  Investment  Management  Company is the
Manager  and  investment   adviser,   providing  services  under  the  Advisory
Agreement.  The Manager, a wholly owned indirect  subsidiary of United Services
Automobile   Association  (USAA),  a  large,   diversified  financial  services
institution, was organized in May 1970 and has served as investment adviser and
underwriter for USAA Tax Exempt Fund, Inc. from its inception.

     In addition to managing  the  Company's  assets,  the Manager  advises and
manages the investments for USAA and its affiliated  companies as well as those
of USAA Mutual Fund,  Inc., USAA Investment  Trust,  USAA State Tax-Free Trust,
and USAA Life Investment  Trust. As of the date of this SAI, total assets under
management   by  the  Manager  were   approximately   $__  billion,   of  which
approximately $__ billion were in mutual fund portfolios.

ADVISORY AGREEMENT

Under the  Advisory  Agreement,  the Manager  provides an  investment  program,
carries out the investment  policy,  and manages the portfolio  assets for each
Fund.  The  Manager  is  authorized,  subject  to the  control  of the Board of
Directors of the Company,  to determine the selection,  amount, and time to buy
or sell securities for each Fund. In addition to providing investment services,
the  Manager  pays  for  office  space,  facilities,  business  equipment,  and
accounting  services (in addition to those  provided by the  Custodian) for the
Company. The Manager compensates all personnel,  officers, and Directors of the
Company if such persons are also  employees  of the Manager or its  affiliates.
For these services under the Advisory Agreement,  the Company has agreed to pay
the  Manager  a  fee  computed  as  described  under  FUND  MANAGEMENT  in  the
Prospectus. Management fees are computed and accrued daily and payable monthly.

                                     16
<PAGE>

     Except for the services and facilities provided by the Manager,  the Funds
pay all other  expenses  incurred in their  operations.  Expenses for which the
Funds  are  responsible  include  taxes  (if  any);  brokerage  commissions  on
portfolio transactions (if any); expenses of issuance and redemption of shares;
charges of transfer agents, custodians, and dividend disbursing agents; cost of
preparing  and  distributing  proxy  material;  costs of printing and engraving
stock   certificates;   auditing  and  legal  expenses;   certain  expenses  of
registering  and  qualifying  shares for sale;  fees of  Directors  who are not
interested  persons  (not  affiliated)  of the  Manager;  costs of printing and
mailing the Prospectus, SAI, and periodic reports to existing shareholders; and
any other  charges or fees not  specifically  enumerated.  The Manager pays the
cost of printing and mailing copies of the Prospectus,  the SAI, and reports to
prospective shareholders.

     The Advisory Agreement will remain in effect until June 30, 2000, for each
Fund and will continue in effect from year to year  thereafter for each Fund as
long as it is approved at least  annually by a vote of the  outstanding  voting
securities  of such  Fund  (as  defined  by the  1940  Act) or by the  Board of
Directors  (on behalf of such Fund)  including a majority of the  Directors who
are not interested  persons of the Manager or (otherwise  than as Directors) of
the Company,  at a meeting  called for the purpose of voting on such  approval.
The Advisory  Agreement  may be terminated at any time by either the Company or
the Manager on 60 days' written notice. It will automatically  terminate in the
event of its assignment (as defined in the 1940 Act).

     From time to time the Manager may,  without prior notice to  shareholders,
waive all or any portion of fees or agree to reimburse  expenses  incurred by a
Fund. Any such waiver or reimbursement  may be terminated by the Manager at any
time without prior notice to shareholders.  The Manager has voluntarily  agreed
to limit each Fund's  annual  expenses to .50% of its ANA until August 1, 2000,
and will reimburse the Funds for all expenses in excess of the limitations.

     For the last three fiscal years, management fees were as follows:

                                     1997          1998          1999
                                   --------     ----------    ----------
    Virginia Bond Fund             $940,252     $1,063,438    $1,227,753
    Virginia Money Market Fund     $371,358     $  388,424      $434,276

     Because the  expenses of the  Virginia  Money  Market  Fund  exceeded  the
Manager's voluntary expense limitation,  in 1997, 1998 and 1999 the Manager did
not receive management fees of $36,204,  $13,712 and $3,706 respectively,  from
that Fund.

UNDERWRITER

The Company has an agreement  with the Manager for exclusive  underwriting  and
distribution  of the Funds'  shares on a continuing  best efforts  basis.  This
agreement  provides that the Manager will receive no fee or other  compensation
for such distribution services.

TRANSFER AGENT

The Transfer  Agent  performs  transfer  agent services for the Company under a
Transfer Agency Agreement.  Services include maintenance of shareholder account
records,  handling of communications  with  shareholders,  distribution of Fund
dividends,  and  production  of reports  with  respect to account  activity for
shareholders  and the  Company.  For its  services  under the  Transfer  Agency
Agreement,  each Fund pays the Transfer Agent an annual fixed fee of $28.50 per
account. This fee is subject to change at any time.

     The fee to the Transfer Agent includes  processing of all transactions and
correspondence.  Fees are billed on a monthly basis at the rate of  one-twelfth
of the annual fee. In addition,  each Fund pays all  out-of-pocket  expenses of
the  Transfer  Agent and other  expenses  which are  incurred  at the  specific
direction of the Company.

                              GENERAL INFORMATION

CUSTODIAN

State Street Bank and Trust Company,  P.O. Box 1713,  Boston,  MA 02105, is the
Company's  Custodian.  The Custodian is  responsible  for,  among other things,
safeguarding  and controlling  the Company's cash and securities,  handling the
receipt and delivery of securities,  and  collecting  interest on the Company's
investments.

COUNSEL

Goodwin,  Procter & Hoar LLP,  Exchange Place,  Boston,  MA 02109,  will review
certain legal matters for the Company in connection  with the shares offered by
the Prospectus.

                                      17
<PAGE>

INDEPENDENT AUDITORS

KPMG LLP, 112 East Pecan,  Suite 2400, San Antonio,  TX 78205, is the Company's
independent auditor. In this capacity, the firm is responsible for auditing the
annual financial statements of the Funds and reporting thereon.

                        CALCULATION OF PERFORMANCE DATA

Information regarding the total return and yield of each Fund is provided under
COULD THE VALUE OF YOUR INVESTMENT IN THESE FUNDS FLUCTUATE? in the Prospectus.
See VALUATION OF SECURITIES herein for a discussion of the manner in which each
Fund's price per share is calculated.

TOTAL RETURN

The Virginia Bond Fund may  advertise  performance  in terms of average  annual
total return for 1-, 5-, and 10-year periods,  or for such lesser period as the
Fund has been in existence.  Average annual total return is computed by finding
the average  annual  compounded  rates of return  over the  periods  that would
equate the initial amount invested to the ending redeemable value, according to
the following formula:

                                P(1 + T)N = ERV

     Where:       P   =   a hypothetical initial payment of $1,000
                  T   =   average annual total return
                  n   =   number of years
                ERV   =   ending  redeemable  value  of a  hypothetical  $1,000
                          payment  made  at the   beginning  of the 1-,  5-, or
                          10-year periods at the end of the year or period

     The  calculation  assumes all charges are deducted from the initial $1,000
payment and assumes all dividends and distributions by such Fund are reinvested
at the price  stated in the  Prospectus  on the  reinvestment  dates during the
period and  includes  all  recurring  fees that are charged to all  shareholder
accounts.

     The date of  commencement  of  operations  for the Virginia  Bond Fund was
October 15, 1990. The Fund's average annual total returns for the periods ended
March 31, 1999, were:

      1 year. . .  5.62%     5 years . .  7.33%     Since inception . . 7.94%

YIELD

The Virginia  Bond Fund may  advertise  performance  in terms of a 30-day yield
quotation.  The  30-day  yield  quotation  is  computed  by  dividing  the  net
investment  income per share earned  during the period by the maximum  offering
price  per  share on the last day of the  period,  according  to the  following
formula:
                         Yield = 2[((a-b)/(cd)+1)^6 -1]

     Where:    a  =  dividends and interest earned during the period
               b  =  expenses accrued for the period (net of reimbursement)
               c  =  the average daily number of shares outstanding during the
                     period that were entitled to receive dividends
               d  =  the maximum offering price per share on the last day of
                     the period

     For purposes of the yield  calculation,  interest income is computed based
on the yield to maturity of each debt  obligation  in the Fund's  portfolio and
all recurring charges are recognized.

     The Fund's 30-day yield for the period ended March 31, 1999, was 4.47%.

YIELD -- VIRGINIA MONEY MARKET FUND

When the Virginia Money Market Fund quotes a current  annualized  yield,  it is
based on a specified recent  seven-calendar-day  period.  It is computed by (1)
determining the net change,  exclusive of capital changes and income other than
investment income, in the value of a hypothetical  preexisting account having a
balance of one share at the  beginning  of the  period,  (2)  dividing  the net
change in account  value by the value of the  account at the  beginning  of the
base period to obtain the base  return,  then (3)  multiplying  the base period
return by 52.14 (365/7).  The resulting  yield figure is carried to the nearest
hundredth of one percent.

     The calculation includes (1) the value of additional shares purchased with
dividends on the original  share,  and dividends  declared on both the original
share  and  any  such  additional  shares  and  (2)  any  fees  charged  to all
shareholder  accounts,  in  proportion to the length of the base period and the
Fund's average account size.

                                      18
<PAGE>

     The capital changes  excluded from the  calculation  are realized  capital
gains and losses from the sale of securities  and unrealized  appreciation  and
depreciation.  The Fund's  effective  (compounded)  yield will be  computed  by
dividing the seven-day  annualized  yield as defined above by 365,  adding 1 to
the quotient,  raising the sum to the 365th power,  and  subtracting 1 from the
result.

     Current and effective  yields  fluctuate  daily and will vary with factors
such as  interest  rates and the  quality,  length of  maturities,  and type of
investments in the portfolio.

            Yield For 7-day Period Ended March 31, 1999, was 2.56%.
       Effective Yield For 7-day Period Ended March 31, 1999, was 2.59%.

TAX-EQUIVALENT YIELD

A  tax-exempt  mutual fund may  provide  more  "take-home"  income than a fully
taxable mutual fund after paying taxes.  Calculating a  "tax-equivalent  yield"
means converting a tax-exempt yield to a pretax equivalent so that a meaningful
comparison can be made between a tax-exempt  municipal fund and a fully taxable
fund.  The Virginia  Money Market Fund may advertise  performance in terms of a
tax-equivalent  yield  based on the  7-day  yield or  effective  yield  and the
Virginia   Bond  Fund  may   advertise   performance   in  terms  of  a  30-day
tax-equivalent yield.

     To calculate a tax-equivalent  yield, the Virginia  investor must know his
Effective  Marginal Tax Rate or EMTR.  Assuming an investor  can fully  itemize
deductions on his or her federal tax return, the EMTR is the sum of the federal
marginal  tax rate and the state  marginal  tax rate  adjusted  to reflect  the
deductibility  of state  taxes from  federal  taxable  income.  The formula for
computing  the EMTR to compare with fully  taxable  securities  subject to both
federal and state taxes is:

    EMTR = Federal Marginal Tax Rate + [State Marginal Tax Rate x (1-Federal
                              Marginal Tax Rate)]

     The tax-equivalent yield is then computed by dividing the tax-exempt yield
of a fund by the complement of the EMTR.  The  complement,  for example,  of an
EMTR of 39.68% is 60.32%, that is (1.00-0.3968= 0.6032).

   Tax-Equivalent Yield = Tax-Exempt Yield / (1-Effective Marginal Tax Rate)

     Using a federal  marginal  tax rate of 36% and state  marginal tax rate of
5.75%,  resulting  in an EMTR of  39.68%,  the  tax-equivalent  yields  for the
Virginia  Bond and  Virginia  Money Market Funds for the period ended March 31,
1999 were 7.41% and 4.24%, respectively.

             APPENDIX A -- TAX-EXEMPT SECURITIES AND THEIR RATINGS

TAX-EXEMPT SECURITIES

Tax-exempt  securities  generally include debt obligations issued by states and
their   political   subdivisions,   and  duly   constituted   authorities   and
corporations,  to obtain funds to construct,  repair or improve  various public
facilities such as airports,  bridges, highways,  hospitals,  housing, schools,
streets, and water and sewer works. Tax-exempt securities may also be issued to
refinance  outstanding  obligations  as well as to  obtain  funds  for  general
operating expenses and for loans to other public institutions and facilities.

     The two principal  classifications  of tax-exempt  securities are "general
obligations" and "revenue" or "special tax" bonds. General obligation bonds are
secured by the issuer's  pledge of its full faith,  credit and taxing power for
the payment of principal and interest. Revenue or special tax bonds are payable
only  from  the  revenues  derived  from a  particular  facility  or  class  of
facilities  or, in some cases,  from the proceeds of a special  excise or other
tax, but not from general tax revenues. The Funds may also invest in tax-exempt
private activity bonds,  which in most cases are revenue bonds and generally do
not have the pledge of the credit of the issuer.  The payment of the  principal
and  interest  on such  industrial  revenue  bonds is  dependent  solely on the
ability  of the  user of the  facilities  financed  by the  bonds  to meet  its
financial  obligations and the pledge, if any, of real and personal property so
financed as security for such payment. There are, of course, many variations in
the terms of, and the security underlying,  tax-exempt  securities.  Short-term
obligations  issued by states,  cities,  municipalities or municipal  agencies,
include Tax Anticipation Notes,  Revenue  Anticipation Notes, Bond Anticipation
Notes, Construction Loan Notes, and Short-Term Notes.

     The yields of tax-exempt securities depend on, among other things, general
money market conditions,  conditions of the tax-exempt bond market, the size of
a particular  offering,  the maturity of the obligation,  and the rating of the
issue. The ratings of Moody's Investors  Service,  Inc.  (Moody's),  Standard &
Poor's Ratings Group (S&P),  Fitch IBCA, Inc. (Fitch),  Duff & Phelps Inc., and
Thompson  BankWatch,  Inc.  represent  their  opinions  of the  quality  of the
securities rated by them. It should be emphasized that such

                                      19
<PAGE>

ratings are general and are not absolute  standards  of quality.  Consequently,
securities  with the same  maturity,  coupon,  and  rating  may have  different
yields,  while  securities of the same  maturity and coupon but with  different
ratings may have the same yield. It will be the  responsibility  of the Manager
to appraise  independently the fundamental quality of the tax-exempt securities
included in a Fund's portfolio.

1.  LONG-TERM DEBT RATINGS:

MOODY'S INVESTOR SERVICES, INC.

Aaa      Bonds which are rated Aaa are judged to be of the best  quality.  They
         carry  the  smallest  degree  of  investment  risk  and are  generally
         referred to as "gilt  edged."  Interest  payments  are  protected by a
         large or by an  exceptionally  stable  margin and principal is secure.
         While the  various  protective  elements  are likely to  change,  such
         changes  as  can  be  visualized  are  most  unlikely  to  impair  the
         fundamentally strong position of such issues.

Aa       Bonds  which are  rated Aa are  judged  to be of high  quality  by all
         standards.  Together  with  the  Aaa  group  they  comprise  what  are
         generally  known as  high-grade  bonds.  They are rated lower than the
         best bonds because margins of protection may not be as large as in Aaa
         securities or  fluctuation  of  protective  elements may be of greater
         amplitude  or  there  may be other  elements  present  which  make the
         long-term risk appear somewhat larger than in Aaa securities.

A        Bonds which are rated A possess many favorable  investment  attributes
         and are to be considered as  upper-medium-grade  obligations.  Factors
         giving security to principal and interest are considered adequate, but
         elements may be present which suggest a  susceptibility  to impairment
         sometime in the future.

Baa      Bonds which are rated Baa are considered as  medium-grade  obligations
         (i.e., they are neither highly protected nor poorly secured). Interest
         payments and principal  security  appear  adequate for the present but
         certain    protective    elements   may   be   lacking   or   may   be
         characteristically  unreliable  over any great  length  of time.  Such
         bonds lack  outstanding  investment  characteristics  and in fact have
         speculative characteristics as well.

NOTE:  MOODY'S APPLIES  NUMERICAL  MODIFIERS 1, 2, AND 3 IN EACH GENERIC RATING
CLASSIFICATION.  THE  MODIFIER 1  INDICATES  THAT THE  OBLIGATION  RANKS IN THE
HIGHER END OF ITS GENERIC RATING CATEGORY, THE MODIFIER 2 INDICATES A MID-RANGE
RANKING,  AND THE  MODIFIER  3  INDICATES  A  RANKING  IN THE LOWER END OF THAT
GENERIC RATING CATEGORY.

STANDARD & POOR'S RATINGS GROUP

AAA      An obligation  rated AAA has the highest rating assigned by Standard &
         Poor's. The obligor's capacity to meet its financial commitment on the
         obligation is extremely strong.

AA       An  obligation  rated AA differs from the highest rated issues only in
         small degree. The obligor's capacity to meet its financial  commitment
         on the obligation is VERY STRONG.

A        An  obligation  rated A is somewhat  more  susceptible  to the adverse
         effects of changes  in  circumstances  and  economic  conditions  than
         obligations  in  higher  rated  categories.   However,  the  obligor's
         capacity to meet its financial  commitment on the  obligation is still
         STRONG.

BBB      An obligation rated BBB exhibits adequate capacity to pay interest and
         repay  principal.  However,  adverse  economic  conditions or changing
         circumstances  are more  likely to lead to a weakened  capacity of the
         obligor to meet its financial commitment on the obligation.

PLUS  (+) OR MINUS  (-):  THE  RATINGS  FROM AA TO BBB MAY BE  MODIFIED  BY THE
ADDITION  OF A PLUS OR MINUS SIGN TO SHOW  RELATIVE  STANDING  WITHIN THE MAJOR
RATING CATEGORIES.

FITCH IBCA, INC.

AAA      Highest credit quality. "AAA" ratings denote the lowest expectation of
         credit risk.  They are assigned only in case of  exceptionally  strong
         capacity for timely payment of financial commitments. This capacity is
         highly unlikely to be adversely affected by foreseeable events.

AA       Very high credit  quality.  "AA" ratings denote a very low expectation
         of credit risk.  They indicate very strong capacity for timely payment
         of  financial   commitments.   This  capacity  is  not   significantly
         vulnerable to foreseeable events.

A        High credit  quality.  "A" ratings denote a low  expectation of credit
         risk.  The capacity for timely  payment of  financial  commitments  is
         considered strong. This capacity may, nevertheless, be more vulnerable
         to changes in circumstances or in economic conditions than is the case
         for higher ratings.

                                      20
<PAGE>

BBB      Good credit quality.  "BBB" ratings indicate that there is currently a
         low  expectation  of credit risk.  The capacity for timely  payment of
         financial  commitments is considered adequate,  but adverse changes in
         circumstances  and in  economic  conditions  are more likely to impair
         this capacity. This is the lowest investment-grade category.

PLUS AND MINUS  SIGNS ARE USED WITH A RATING  SYMBOL TO INDICATE  THE  RELATIVE
POSITION OF A CREDIT WITHIN THE RATING CATEGORY. PLUS AND MINUS SIGNS, HOWEVER,
ARE NOT USED IN THE AAA CATEGORY.

DUFF & PHELPS, INC.

AAA      Highest credit quality.  The risk factors are  negligible,  being only
         slightly more than for risk-free U.S. Treasury debt.

AA       High credit quality. Protection factors are strong. Risk is modest but
         may vary slightly from time to time because of economic conditions.

A        Protection factors are average but adequate. However, risk factors are
         more variable and greater in periods of economic stress.

BBB      Below average protection  factors but still considered  sufficient for
         prudent investment.  Considerable  variability in risk during economic
         cycles.

2. SHORT-TERM DEBT RATINGS:

MOODY'S STATE AND TAX-EXEMPT NOTES

MIG-1/VMIG1       This  designation  denotes  best  quality.  There is  present
                  strong   protection  by  established  cash  flows,   superior
                  liquidity support, or demonstrated  broad-based access to the
                  market for refinancing.

MIG-2/VMIG2       This designation denotes high quality.  Margins of protection
                  are ample although not so large as in the preceding group.

MOODY'S COMMERCIAL PAPER

Prime-1    Issuers rated Prime-1 (or supporting  institutions)  have a superior
           ability for repayment of senior short-term  promissory  obligations.
           Prime-1  repayment  capacity  will  normally  be  evidenced  by  the
           following characteristics:

           *  Leading market positions in well-established industries.
           *  High rates of return on funds employed.
           *  Conservative capitalization  structures with moderate reliance on
              debt and ample asset protection.
           *  Broad margins in earning coverage of fixed  financial charges and
              high  internal cash  generation.
           *  Well-established access to a range of financial markets and
              assured sources of alternate liquidity.

Prime-2    Issuers rated  Prime-2 (or  supporting  institutions)  have a strong
           ability for repayment of senior short-term  promissory  obligations.
           This will normally be evidenced by many of the characteristics cited
           above but to a lesser degree.  Earnings trends and coverage  ratios,
           while  sound,  may be  more  subject  to  variation.  Capitalization
           characteristics,  while still  appropriate,  may be more affected by
           external conditions. Ample alternate liquidity is maintained.

S&P TAX-EXEMPT NOTES

SP-1     Strong  capacity to pay principal and interest.  Issues  determined to
         possess very strong characteristics are given a plus (+) designation.

SP-2     Satisfactory  capacity  to  pay  principal  and  interest,  with  some
         vulnerability to adverse  financial and economic changes over the term
         of the notes.

S&P COMMERCIAL PAPER

A-1      This highest  category  indicates that the degree of safety  regarding
         timely payment is strong. Those issues determined to possess extremely
         strong  safety  characteristics  are  denoted  with  a plus  (+)  sign
         designation.

A-2      Capacity  for  timely  payment  on  issues  with this  designation  is
         satisfactory. However, the relative degree of safety is not as high as
         for issues designated A-1.

FITCH'S COMMERCIAL PAPER, CERTIFICATES OF DEPOSIT, AND TAX-EXEMPT NOTES

F1       Highest credit  quality.  Indicates the strongest  capacity for timely
         payment of financial commitments;  may have an added "+" to denote any
         exceptionally strong credit features.

                                      21
<PAGE>

F2       Good credit  quality.  A  satisfactory  capacity for timely payment of
         financial commitments,  but the margin of safety is not as great as in
         the case of the higher ratings.

F3       Fair credit  quality.  The  capacity  for timely  payment of financial
         commitments  is adequate;  however,  near-term  adverse  changes could
         result in a reduction to non-investment grade.

DUFF & PHELPS COMMERCIAL PAPER

D-1+     Highest certainty of timely payment.  Short-term  liquidity, including
         internal operating factors and/or  access  to alternative  sources  of
         funds, is  outstanding,  and  safety  is  just  below  risk-free  U.S.
         Treasury short-term obligations.

D-1      Very high certainty of timely payment. Liquidity factors are excellent
         and supported by good fundamental protection factors. Risk factors are
         minor.

D-1-     High  certainty of timely  payment.  Liquidity  factors are strong and
         supported by good  fundamental  protection  factors.  Risk factors are
         very small.

D-2      Good  certainty  of timely  payment.  Liquidity  factors  and  company
         fundamentals  are sound.  Although  ongoing  funding needs may enlarge
         total financing requirements,  access to capital markets is good. Risk
         factors are small.

THOMPSON BANKWATCH, INC.

TBW-1    The highest category;  indicates a very high likelihood that principal
         and interest will be paid on a timely basis.

TBW-2    The second  highest  category;  while the  degree of safety  regarding
         timely  repayment  of principal  and interest is strong,  the relative
         degree of safety is not as high as for issues rated TBW-1.

TBW-3    The  lowest  investment-grade  category;   indicates  that  while  the
         obligation is more susceptible to adverse  developments (both internal
         and external) than those with higher ratings,  the capacity to service
         principal and interest in a timely fashion is considered adequate.

               APPENDIX B -- COMPARISON OF PORTFOLIO PERFORMANCE

Occasionally,  we may make  comparisons  in  advertising  and sales  literature
between the Funds  contained  in this SAI and other Funds in the USAA Family of
Funds. These comparisons may include such topics as risk and reward, investment
objectives, investment strategies, and performance.

     Fund  performance  also may be compared to the performance of broad groups
of  mutual  funds  with  similar  investment  goals  or  unmanaged  indexes  of
comparable  securities.  Evaluations  of Fund  performance  made by independent
sources may be used in advertisements  concerning the Fund,  including reprints
of, or selections from,  editorials or articles about the Fund. The Fund or its
performance  may also be compared to products  and  services  not  constituting
securities  subject to  registration  under the Securities Act of 1933 such as,
but not limited to, certificates of deposit and money market accounts.  Sources
for performance information and articles about the Fund may include but are not
restricted to the following:

AAII  JOURNAL,  a monthly  association  magazine  for  members of the  American
Association of Individual Investors.

ARIZONA REPUBLIC, a newspaper that may cover financial and investment news.

AUSTIN AMERICAN-STATESMAN, a newspaper that may cover financial news.

BARRON'S,  a Dow Jones and Company,  Inc.  business and  financial  weekly that
periodically  reviews  mutual fund performance data.

THE BOND BUYER, a daily newspaper that covers bond market news.

BUSINESS  WEEK,  a national  business  weekly  that  periodically  reports  the
performance rankings and ratings of a variety of mutual funds.

CHICAGO TRIBUNE, a newspaper that may cover financial news.

CONSUMER  REPORTS,  a  monthly  magazine  that  from  time to time  reports  on
companies in the mutual fund industry.

DALLAS MORNING NEWS, a newspaper that may cover financial news.

DENVER POST, a newspaper that may quote financial news.

FINANCIAL PLANNING, a monthly magazine that periodically  features companies in
the mutual fund industry.

                                      22
<PAGE>

FINANCIAL SERVICES WEEK, a weekly newspaper that covers financial news.

FINANCIAL WORLD, a monthly magazine that periodically features companies in the
mutual fund industry.

FORBES,  a  national  business   publication  that  periodically   reports  the
performance of companies in the mutual fund industry.

FORTUNE,   a  national  business   publication  that  periodically   rates  the
performance of a variety of mutual funds.

FUND ACTION, a mutual fund news report.

HOUSTON CHRONICLE, a newspaper that may cover financial news.

HOUSTON POST, a newspaper that may cover financial news.

IBC'S MONEY FUND REPORT,  a weekly  publication  of IBC Financial  Data,  Inc.,
reporting on the  performance of the nation's  money market funds,  summarizing
money market fund  activity,  and  including  certain  averages as  performance
benchmarks, specifically: (1) Taxable Money Fund Averages: "100% U.S. Treasury"
and "First Tier" and (2) Tax-Free Money Fund Averages: "Stockbroker and General
Purpose" and "State Specific Stockbroker and General Purpose."

IBC'S MONEY MARKET INSIGHT,  a monthly money market industry  analysis prepared
by IBC Financial Data, Inc.

IBC'S  MONEYLETTER,  a biweekly  newsletter that covers financial news and from
time to time rates specific mutual funds.

INCOME AND SAFETY, a monthly newsletter that rates mutual funds.

INVESTECH, a bimonthly investment newsletter.

INVESTMENT  ADVISOR,  a monthly  publication  directed primarily to the advisor
community; includes ranking of mutual funds using a proprietary methodology.

INVESTMENT  COMPANY  INSTITUTE,   the  national  association  of  the  American
Investment Company industry.

INVESTOR'S BUSINESS DAILY, a newspaper that covers financial news.

KIPLINGER'S   PERSONAL  FINANCE  MAGAZINE,   a  monthly   investment   advisory
publication  that  periodically  features  the  performance  of  a  variety  of
securities.

LIPPER ANALYTICAL SERVICES,  INC.'S EQUITY FUND PERFORMANCE  ANALYSIS, a weekly
and monthly  publication of industry-wide  mutual fund performance  averages by
type of fund.

LIPPER ANALYTICAL  SERVICES,  INC.'S FIXED INCOME FUND PERFORMANCE  ANALYSIS, a
monthly publication of industry-wide  mutual fund performance  averages by type
of fund.

LOS ANGELES TIMES, a newspaper that may cover financial news.

LOUIS RUKEYSER'S WALL STREET, a publication for investors.

MEDICAL  ECONOMICS,  a monthly  magazine  providing  information to the medical
profession.

MONEY, a monthly  magazine that features the performance of both specific funds
and the mutual fund industry as a whole.

MORNINGSTAR 5 STAR INVESTOR,  a monthly  newsletter that covers  financial news
and rates  mutual  funds  produced by  Morningstar,  Inc. (a data  service that
tracks open-end mutual funds).

MUNI BOND FUND REPORT,  a monthly  newsletter that covers news on the municipal
bond market and features performance data for municipal bond mutual funds.

MUNIWEEK, a weekly newspaper that covers news on the municipal bond market.

MUTUAL FUND FORECASTER, a monthly newsletter that ranks mutual funds.

MUTUAL FUND INVESTING, a newsletter covering mutual funds.

MUTUAL  FUND  PERFORMANCE   REPORT,  a  monthly   publication  of  mutual  fund
performance and rankings, produced by Morningstar, Inc.

MUTUAL  FUNDS  MAGAZINE,  a  monthly  publication   reporting  on  mutual  fund
investing.

MUTUAL FUND SOURCE BOOK, an annual publication  produced  by  Morningstar, Inc.
that  describes and rates mutual funds.

MUTUAL  FUND  VALUES,  a  biweekly   guidebook  to  mutual  funds  produced  by
Morningstar, Inc.

NEWSWEEK, a national business weekly.

                                      23
<PAGE>

NEW YORK TIMES, a newspaper that may cover financial news.

NO LOAD FUND  INVESTOR,  a  newsletter  covering  companies  in the mutual fund
industry.

ORLANDO SENTINEL, a newspaper that may cover financial news.

PERSONAL  INVESTOR,  a monthly  magazine that from time to time features mutual
fund companies and the mutual fund industry.

SAN ANTONIO  BUSINESS  JOURNAL,  a weekly  newspaper that  periodically  covers
mutual fund companies as well as financial news.

SAN ANTONIO EXPRESS-NEWS, a newspaper that may cover financial news.

SAN FRANCISCO CHRONICLE, a newspaper that may cover financial news.

SMART MONEY,  a monthly  magazine  featuring news and articles on investing and
mutual funds.

USA TODAY, a newspaper that may cover financial news.

U.S. NEWS  AND  WORLD  REPORT, a  national  business  weekly that  periodically
reports mutual fund performance data.

WALL STREET JOURNAL, a Dow Jones and Company, Inc. newspaper that covers
financial news.

WASHINGTON POST, a newspaper that may cover financial news.

WEISENBERGER  MUTUAL FUNDS INVESTMENT REPORT, a monthly newsletter that reports
on both specific mutual fund companies and the mutual fund industry as a whole.

WORTH,  a magazine that covers  financial  and  investment  subjects  including
mutual funds.

YOUR MONEY, a monthly magazine directed towards the novice investor.

     In  addition to the sources  above,  performance  of our Funds may also be
tracked by Lipper  Analytical  Services,  Inc. and Morningstar,  Inc. Each Fund
will be  compared  to  Lipper's  or  Morningstar's  appropriate  fund  category
according  to  its   objective(s)   and   portfolio   holdings.   Footnotes  in
advertisements  and  other  sales  literature  will  include  the  time  period
applicable for any rankings used.

     For comparative  purposes,  unmanaged indices of comparable  securities or
economic data may be cited. Examples include the following:

     -Shearson  Lehman Hutton Bond Indices,  indices of fixed-rate  debt issues
rated investment grade or higher which can be found in the BOND MARKET REPORT.

     -Bond  Buyer  Indices,  indices  of debt of varying  maturities  including
revenue bonds,  general  obligation bonds, and U.S. Treasury bonds which can be
found in MUNIWEEK and THE BOND BUYER.

     Other  sources for total  return and other  performance  data which may be
used by the Funds or by those  publications  listed  previously  are  Schabaker
Investment Management and Investment Company Data, Inc. These are services that
collect and compile data on mutual fund companies.

                                      24
<PAGE>

                      APPENDIX C -- DOLLAR-COST AVERAGING

Dollar-cost  averaging is a systematic  investing method,  which can be used by
investors as a disciplined technique for investing.  A fixed amount of money is
invested in a security (such as a stock or mutual fund) on a regular basis over
a period of time,  regardless  of whether  securities  markets are moving up or
down.

     This  practice  reduces  average  share costs to the investor who acquires
more shares in periods of lower  securities  prices and fewer shares in periods
of higher prices.

     While  dollar-cost  averaging does not assure a profit or protect  against
loss in declining markets, this investment strategy is an effective way to help
calm the effect of fluctuations in the financial markets.  Systematic investing
involves  continuous  investment in securities  regardless of fluctuating price
levels of such securities. Investors should consider their financial ability to
continue purchases through periods of low and high price levels.

     As the following chart  illustrates,  dollar-cost  averaging tends to keep
the overall cost of shares lower.  This example is for  illustration  only, and
different trends would result in different average costs.

                        HOW DOLLAR-COST AVERAGING WORKS

                     $100 Invested Regularly for 5 Periods
                                  Market Trend
      --------------------------------------------------------------------

                  Down                     Up                    Mixed
           --------------------   ---------------------    --------------------
             Share     Shares       Share      Shares        Share     Shares
Investment   Price    Purchased     Price     Purchased      Price    Purchased
           --------------------   ---------------------    --------------------
   $100       10        10            6         16.67         10          10
    100        9        11.1          7         14.29          9          11.1
    100        8        12.5          7         14.29          8          12.5
    100        8        12.5          9         11.1           9          11.1
    100        6        16.67        10         10            10          10
   ----       --        -----        --         -----         --          -----
   $500    ***41        62.77     ***39         66.35      ***46          54.7

          *Avg. Cost:  $ 7.97    *Avg. Cost:   $ 7.54        *Avg. Cost: $ 9.14
                        -----                    -----                    -----
         **Avg. Price: $ 8.20    **Avg. Price: $ 7.80      **Avg. Price: $ 9.20
                        -----                    -----                    -----

  *  Average  Cost is the total  amount  invested  divided  by number of shares
     purchased.
 **  Average  Price  is  the  sum of the  prices  paid  divided  by  number  of
     purchases.
***  Cumulative total of share prices used to compute average prices.

                                      25
<PAGE>

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                                      26
<PAGE>

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                                      27
<PAGE>

17004-0899

                                      28
<PAGE>

                           USAA TAX EXEMPT FUND, INC.

PART C.  OTHER INFORMATION

Item 23. EXHIBITS

EXHIBIT NO.                DESCRIPTION OF EXHIBITS

  1 (a)  Articles of Incorporation dated November 13, 1981 (1)
    (b)  Articles of Amendment to Articles of Incorporation dated
          December 18, 1981 (1)
    (c)  Articles Supplementary dated December 21, 1983 (1)
    (d)  Articles of Amendment to Articles of Incorporation dated
          July 17, 1984 (1)
    (e)  Articles Supplementary dated July 27, 1984 (1)
    (f)  Articles Supplementary dated August 1, 1985 (1)
    (g)  Articles Supplementary dated January 17, 1986 (1)
    (h)  Articles Supplementary dated September 15, 1988 (1)
    (i)  Articles Supplementary dated May 18, 1989 (1)
    (j)  Articles Supplementary dated August 24, 1989 (1)
    (k)  Articles Supplementary dated January 29, 1990 (1)
    (l)  Articles Supplementary dated July 25, 1990 (1)
    (m)  Articles Supplementary dated May 2, 1991 (1)
    (n)  Articles Supplementary dated September 9, 1991 (1)
    (o)  Articles Supplementary dated May 12, 1992 (1)
    (p)  Articles of Amendment to Articles of Incorporation dated
          July 22, 1992 (1)
    (q)  Articles Supplementary dated October 28, 1992 (1)
    (r)  Articles Supplementary dated January 28, 1993 (1)
    (s)  Articles Supplementary dated March 23, 1993 (1)
    (t)  Articles Supplementary dated May 5, 1993 (1)
    (u)  Articles Supplementary dated November 8, 1993 (1)
    (v)  Articles Supplementary dated January 18, 1994 (1)
    (w)  Articles Supplementary dated April 11, 1994 (1)
    (x)  Articles Supplementary dated July 9, 1997 (4)
    (y)  Articles Supplementary dated March 4, 1998 (5)
    (z)  Articles Supplementary dated April 3, 1998 (5)

2        Bylaws as amended February 11, 1999 (filed herewith)


3        SPECIMEN CERTIFICATES FOR SHARES OF
    (a)  Short-Term Fund (1)
    (b)  Intermediate-Term Fund (1)
    (c)  Long-Term Fund (1)
    (d)  Tax Exempt Money Market Fund (1)
    (e)  California Bond Fund (1)
    (f)  California Money Market Fund (1)
    (g)  New York Bond Fund (1)
    (h)  New York Money Market Fund (1)
    (i)  Virginia Bond Fund (1)
    (j)  Virginia Money Market Fund (1)

4   (a)  Advisory Agreement dated July 20, 1990 (1)
    (b)  Letter Agreement dated July 26, 1990 adding New York Bond Fund,
          New York Money Market Fund, Virginia Bond Fund, and Virginia
          Money Market Fund (1)

5   (a)  Underwriting Agreement dated July 25, 1990 (1)

                                      C-1
<PAGE>

EXHIBIT NO.    DESCRIPTION OF EXHIBITS

    (b)  Letter Agreement dated July 26, 1990 adding New York Bond Fund,
          New York Money Market Fund, Virginia Bond Fund, and Virginia
          Money Market Fund (1)

6        Not Applicable

7   (a)  Custodian Agreement dated June 23, 1989 (1)
    (b)  Letter Agreement dated July 26, 1990 adding New York Bond Fund,
          New York Money Market Fund, Virginia Bond Fund, and Virginia
          Money Market Fund (1)
    (c)  Subcustodian Agreement dated March 24, 1994 (3)

8   (a)  Transfer Agency Agreement dated January 23, 1992 (1)
    (b)  Amendments dated January 1, 1999 to Transfer Agency Agreement Fee
          Schedules for Long-Term Fund, Intermediate-Term Fund, Short-
          Term Fund, Tax Exempt Money Market Fund, California Bond Fund,
          California Money Market Fund, New York Bond Fund, New York
          Money Market Fund, Virginia Bond Fund, and Virginia Money
          Market Fund (filed herewith)
    (c)  Master Revolving Credit Facility Agreement with USAA Capital
          Corporation dated January 12, 1999 ($500,000,000) (filed herewith)
    (d)  Master Revolving Credit Facility Agreement with NationsBank of Texas
          dated January 13, 1999 (filed herewith)
    (e)  Master Revolving Credit Facility Agreement with USAA Capital
          Corporation dated January 12, 1999 ($250,000,000) (filed
          herewith)

9   (a)  Opinion of Counsel (5)
    (b)  Consent of Counsel (filed herewith)

10  Consent of Independent Accountants (filed herewith)

11  Omitted Financial statements - Not Applicable

12  SUBSCRIPTIONS AND INVESTMENT LETTERS
    (a)  Short-Term Fund, Intermediate-Term Fund, and High-Yield Fund
          dated December 7, 1981 (1)
    (b)  California Bond Fund and California Money Market Fund dated
          June 23, 1989 and June 26, 1989 (1)
    (c)  New York Bond Fund, New York Money Market Fund, Virginia Bond
          Fund, and Virginia Money Market Fund dated September 5, 1990 (1)

13  12b-1 Plans - Not Applicable

14  FINANCIAL DATA SCHEDULES
    (a)  Long-Term Fund (filed herewith)
    (b)  Intermediate-Term Fund (filed herewith)
    (c)  Short-Term Fund (filed herewith)
    (d)  Tax Exempt Money Market Fund (filed herewith)
    (e)  California Bond Fund (filed herewith)
    (f)  California Money Market Fund (filed herewith)
    (g)  New York Bond Fund (filed herewith)
    (h)  New York Money Market Fund (filed herewith)
    (i)  Virginia Bond Fund (filed herewith)
    (j)  Virginia Money Market Fund (filed herewith)

                                      C-2
<PAGE>

EXHIBIT NO.    DESCRIPTION OF EXHIBITS

15  Plan Adopting Multiple Class of Shares - Not Applicable

16  POWERS OF ATTORNEY
    (a)  Powers of Attorney for Michael J.C. Roth, Sherron A. Kirk, John
          W. Saunders, Jr., George E. Brown, Howard L. Freeman, Jr., and
          Richard A.  Zucker dated June 25, 1993 (1)
    (b)  Power of Attorney for Barbara B. Dreeben dated July 12, 1995 (1)
    (c)  Power of Attorney for Robert G. Davis dated July 9, 1997 (4)
    (d)  Power of Attorney for Robert L. Mason dated July 9, 1997 (4)
______________________

(1) Previously filed with Post-Effective Amendment No. 23 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on July
    24, 1995.

(2) Previously filed with Post-Effective Amendment No. 24 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on May
    22, 1996.

(3) Previously filed with Post-Effective Amendment No. 25 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on July
    25, 1996.

(4) Previously filed with Post-Effective Amendment No. 26 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on July
    30, 1997.

(5) Previously filed with Post-Effective Amendment No. 27 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on May
    29, 1998.

                                      C-3
<PAGE>

Item 24. PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH THE FUND

         Information  pertaining  to  persons  controlled  by or  under  common
         control with  Registrant  is hereby  incorporated  by reference to the
         section  captioned "Fund Management" in the Prospectus and the section
         captioned  "Directors and Officers of the Company" in the Statement of
         Additional Information.

Item 25. INDEMNIFICATION

        Protection for the liability of the adviser and underwriter and for the
        officers and directors of the Registrant is  provided  by  two methods:

        (a)  THE DIRECTOR AND OFFICER LIABILITY POLICY.  This policy covers all
             losses incurred by the Registrant, its adviser and its underwriter
             from any claim made against  those  entities or persons during the
             policy period by any shareholder or former shareholder of the Fund
             by  reason  of  any  alleged   negligent  act, error  or  omission
             committed in connection with the administration of the investments
             of said Registrant.

        (b)  STATUTORY INDEMNIFICATION PROVISIONS.  Under Section 2-418  of the
             Maryland General  Corporation Law, the Registrant is authorized to
             indemnify any past or present director, officer, agent or employee
             against  judgments, penalties, fines, settlements  and  reasonable
             expenses  actually  incurred  by   him  in   connection  with  any
             proceeding  in which he is a party by reason of having served as a
             director,  officer, agent or  employee, if he acted in good  faith
             and reasonably believed (i) in the case of conduct in his official
             capacity  with the  Registrant,  that his conduct  was in the best
             interests of the Registrant, or (ii) in all other  cases, that his
             conduct  was at least not opposed to  the best  interests  of  the
             Registrant. In the case of any criminal proceeding, said director,
             officer, agent or employee must in addition have had no reasonable
             cause to believe that his conduct was unlawful.  In  the case of a
             proceeding  by or in the right of the  Registrant, indemnification
             may only be made against  reasonable  expenses and may not be made
             in  respect  of any  proceeding  in  which  the director, officer,
             agent or employee  shall have been  adjudged to  be liable  to the
             Registrant.  The  termination   of  any  proceeding  by  judgment,
             order, settlement,  conviction, or upon a plea of  nolo contendere
             or  its  equivalent  creates  a  rebuttable  presumption  that the
             director,  officer,  agent or employee did not meet  the requisite
             standard of conduct for  indemnification.  No indemnification  may
             be made in respect of any proceeding  charging  improper  personal
             benefit to the director,  officer,  agent  or  employee whether or
             not  involving  action  in  suc person's  official  capacity,  if
             such person was  adjudged to be liable on the basis that  improper
             personal  benefit was  received.  If such director, officer, agent
             or  employee is successful, on the merits or otherwise, in defense
             of  any such  proceeding  against  him,  he shall be  indemnified
             against  the  reasonable  expenses incurred  by him (unless  such
             indemnification  is limited by the Registrant's charter,  which it
             is  not).  Additionally, a  court of appropriate jurisdiction  may
             order  indemnification  in  certain  circumstances,  even  if  the
             appropriate  standard  of conduct  set forth  above  was  not met.
             Indemnification   may  not  be  made  unless   authorized  in  the
             specific  case  after determination  that the applicable  standard
             of conduct  has  been  met. Such  determination  shall be made by
             either:  (i) the  board  of directors  by  either (x) a  majority
             vote of  a quorum  consisting  of  directors  not parties to  the
             proceeding or (y) if such  quorum  cannot  be obtained, then by a
             majority vote of a committee  of the board  consisting  solely of
             two or more  directors not at the time parties to such proceeding
             who were duly  designated  to act in the matter by a majority vote
             of the  full  board  in  which  the  designated directors  who are
             parties may participate;  (ii) special  legal  counsel selected by
             the board of directors or a committee of the board by vote as set
             forth  in  (i)  above, or, if the requisite  quorum  of  the board
             cannot be obtained

                                      C-4
<PAGE>

             therefor  and  the committee cannot be  established, by a majority
             vote  of  the full  board in  which  directors   who  are  parties
             may  participate;  or  (iii)  the stockholders.

             Reasonable expenses may  be reimbursed or paid  by  the Registrant
             in  advance  of  final  disposition  of  a  proceeding  after  a
             determination, made in accordance with the procedures set forth in
             the preceding paragraph, that the facts then known to those making
             the determination  would not preclude  indemnification  under  the
             applicable  standards  provided  the  Registrant  receives  (i) a
             written  affirmation  of  the   good  faith  beliefof  the  person
             seeking  indemnification  that the  applicable standard of conduct
             necessary for  indemnification  has  been  met, and (ii) a written
             undertaking to  repay  the  advanced  sums  if  it  is  ultimately
             determined that the applicable  standard of conduct has  not  been
             met.

             Insofar as  indemnification  for  liabilities  arising  under the
             Securities  Act of 1933 may be  permitted  to  directors, officers
             and  controlling  persons  of  the  Registrant  pursuant  to  the
             Registrant's   Articles  of   Incorporation   or  otherwise,  the
             Registrant has been advised that, in the opinion of the Securities
             and Exchange  Commission,  such  indemnification is against public
             policy as expressed in the Act and is,  therefore,  unenforceable.
             In the  event  that a  claim  for  indemnification  against  such
             liabilities  (other than the payment by the Registrant of expenses
             incurred  or paid  by a director, officer  or  controlling  person
             of the Registrant in the successful defense of any action, suit or
             proceeding) is asserted by such director,  officer or controlling
             person in connection with the securities being  registered,   then
             the  Registrant will,  unless in the  opinion  of its counsel  the
             matter  has been  settled  by a  controlling precedent,  submit to
             a court of  appropriate  jurisdiction  the  question   of  whether
             indemnification by it is against public policy as expressed in the
             Act and will be governed by the final adjudication of such  issue.

Item 26. BUSINESS AND OTHER CONNECTIONS OF THE INVESTMENT ADVISER

         Information  pertaining  to  business  and  other  connections  of the
         Registrant's investment adviser is hereby incorporated by reference to
         the section of the Prospectus  captioned "Fund  Management" and to the
         section  of  the   Statement  of  Additional   Information   captioned
         "Directors and Officers of the Company."

Item 27. PRINCIPAL UNDERWRITERS

         (a)  USAA  Investment  Management  Company  (the  "Adviser")  acts  as
              principal  underwriter   and  distributor  of  the   Registrant's
              shares  on  a   best-efforts  basis  and  receives   no   fee  or
              commission for  its  underwriting services.   The Adviser, wholly
              owned  by  United  Services  Automobile  Association, also serves
              as   principal  underwriter  for   USAA  Mutual  Fund, Inc., USAA
              Investment Trust, and  USAA State  Tax-Free  Trust.

         (b)  Following  is  information  concerning  directors  and  executive
              officers  of  USAA  Investment Management Company.

                                      c-5
<PAGE>


Name and Principal            Position and Offices        Position and Offices
Business Address                with Underwriter             with Registrant
- ------------------            --------------------        ---------------------

Robert G. Davis               Director and Chairman       Director and Chairman
9800 Fredericksburg Road       of the Board of             of the Board of
San Antonio, TX  78288         Directors                   Directors

Michael J.C. Roth             Chief Executive Officer,    President, Director
9800 Fredericksburg Road       President, Director,        and Vice Chairman
San Antonio, TX  78288         and Vice Chairman of        of the Board of
                               the Board of Directors      Directors

John W. Saunders, Jr.         Senior Vice President,      Vice President and
9800 Fredericksburg Road       Fixed Income Investments,   Director
San Antonio, TX  78288         and Director

David G. Peebles              Senior Vice President,      None
9800 Fredericksburg Road       Equity Investments
San Antonio, TX  78288         and Director

John J. Dallahan              Senior Vice President,      None
9800 Fredericksburg Road       Investment Services
San Antonio, TX  78288

Carl W. Shirley               Senior Vice President,      None
9800 Fredericksburg Road       Insurance Company
San Antonio, TX  78288         Portfolios

Michael D. Wagner             Vice President,             Secretary
9800 Fredericksburg Road       Secretary and Counsel
San Antonio, TX  78288

Sherron A. Kirk               Vice President,             Treasurer
9800 Fredericksburg Road       Senior Financial Officer,
San Antonio, TX  78288         Controller, and Treasurer

Alex M. Ciccone               Vice President, Compliance  Assistant Secretary
9800 Fredericksburg Road       and Assistant Secretary

        (c)  Not Applicable.

Item 28. LOCATION OF ACCOUNTS AND RECORDS

         The  following  entities  prepare,  maintain  and preserve the records
         required by Section  31(a) of the  Investment  Company Act of 1940(the
         "1940 Act") for the  Registrant.  Thes  services  are  provided to the
         Registrant  through  written  agreements  between  the  parties to the
         effect that such services will be provided to the  Registrant for such
         periods  prescribed by the Rules and Regulations of the Securities and
         Exchange  Commission  under  the  1940 Act and  such  records  are the
         property of the entity  required to maintain and preserve such records
         and will be surrendered promptly on request:

              USAA Investment Management Company
              9800 Fredericksburg Road
              San Antonio, Texas 78288

              USAA Shareholder Account Services
              10750 Robert F. McDermott Freeway
              San Antonio, Texas 78288

                                      c-6
<PAGE>

              State Street Bank and Trust Company
              1776 Heritage Drive
              North Quincy, Massachusetts 02171

Item 29. MANAGEMENT SERVICES

         Not Applicable.

Item 30. UNDERTAKINGS

         None

                                      C-7
<PAGE>

                                   SIGNATURES


     Pursuant to the  requirements  of the  Securities  Act and the  Investment
Company Act, the Registrant certifies that it has duly caused this amendment to
its registration statement to be signed on its behalf by the undersigned,  duly
authorized,  in the city of San  Antonio  and state of Texas on the 27th day of
May, 1999.
                                            USAA TAX EXEMPT FUND, INC.

                                                           *
                                            ----------------------------------
                                            Michael J.C. Roth
                                            President

     Pursuant to the  requirements of the Securities Act, this amendment to the
registration  statement has been signed below by the  following  persons in the
capacities and on the date(s) indicated.

     (Signature)                         (Title)                (Date)

              *
- ----------------------------       Chairman of the              May 27, 1999
 Robert G. Davis                   Board of Directors

              *
- ----------------------------       Vice Chairman of the Board   May 27, 1999
Michael J.C. Roth                  of Directors and President
                                   (Principal Executive Officer)

              *
- ----------------------------       Treasurer (Principal         May 27, 1999
Sherron A. Kirk                    Financial and
                                   Accounting Officer)

              *
- ----------------------------       Director                     May 27, 1999
John W. Saunders, Jr.

              *
- ---------------------------        Director                     May 27, 1999
Robert L. Mason

              *
- ----------------------------       Director                     May 27, 1999
Howard L. Freeman, Jr.

              *
- ----------------------------       Director                     May 27, 1999
Richard A. Zucker

              *
- ----------------------------       Director                     May 27, 1999
Barbara B. Dreeben


*By: /s/ MICHAEL D. WAGNER
     ---------------------
     Michael D. Wagner,  Attorney-in-Fact,  under Powers of Attorney dated June
     25, 1993 and July 12, 1995,  incorporated  by reference to  Post-Effective
     Amendment  No. 23, and filed with  Securities  and Exchange  Commission on
     July 24, 1995, and Powers of Attorney dated July 9, 1997,  incorporated by
     reference  to  Post-Effective   Amendment  No.  26,  and  filed  with  the
     Securities and Exchange Commission on July 30, 1997.

                                      C-8

<PAGE>

                                 Exhibit Index

EXHIBIT                    ITEM                                    PAGE NO. *

1  (a)  Articles of Incorporation dated November 13, 1981 (1)
   (b)  Articles  of Amendment  to  Articles of  Incorporation
         dated  December 18, 1981 (1)
   (c)  Articles Supplementary dated December 21, 1983 (1)
   (d)  Articles  of  Amendment to  Articles  of  Incorporation
         dated  July 17, 1984 (1)
   (e)  Articles Supplementary dated July 27, 1984 (1)
   (f)  Articles Supplementary dated August 1, 1985 (1)
   (g)  Articles Supplementary dated January 17, 1986 (1)
   (h)  Articles Supplementary dated September 15, 1988 (1)
   (i)  Articles Supplementary dated May 18, 1989 (1)
   (j)  Articles Supplementary dated August 24, 1989 (1)
   (k)  Articles Supplementary dated January 29, 1990 (1)
   (l)  Articles Supplementary dated July 25, 1990 (1)
   (m)  Articles Supplementary dated May 2, 1991 (1)
   (n)  Articles Supplementary dated September 9, 1991 (1)
   (o)  Articles Supplementary dated May 12, 1992 (1)
   (p)  Articles  of  Amendment  to  Articles  of Incorporation
         dated  July 22, 1992 (1)
   (q)  Articles Supplementary dated October 28, 1992 (1)
   (r)  Articles Supplementary dated January 28, 1993 (1)
   (s)  Articles Supplementary dated March 23, 1993 (1)
   (t)  Articles Supplementary dated May 5, 1993 (1)
   (u)  Articles Supplementary dated November 8, 1993 (1)
   (v)  Articles Supplementary dated January 18, 1994 (1)
   (w)  Articles Supplementary dated April 11, 1994 (1)
   (x)  Articles Supplementary dated July 9, 1997 (4)
   (y)  Articles Supplementary dated March 4, 1998 (5)
   (z)  Articles Supplementary dated April 3, 1998 (5)

2       Bylaws as amended February 11, 1999 (filed herewith)                283


3       SPECIMEN CERTIFICATES FOR SHARES OF
   (a)  Short-Term Fund (1)
   (b)  Intermediate-Term Fund (1)
   (c)  Long-Term Fund (1)
   (d)  Tax Exempt Money Market Fund (1)
   (e)  California Bond Fund (1)
   (f)  California Money Market Fund (1)
   (g)  New York Bond Fund (1)
   (h)  New York Money Market Fund (1)
   (i)  Virginia Bond Fund (1)
   (j)  Virginia Money Market Fund (1)

4  (a)  Advisory Agreement dated July 20, 1990 (1)
   (b)  Letter Agreement dated July 26, 1990 adding  New York  Bond Fund,
         New York Money Market Fund, Virginia Bond Fund, and Virginia
         Money Market Fund (1)

5  (a)  Underwriting Agreement dated July 25, 1990 (1)
   (b)  Letter Agreement dated July 26, 1990 adding New York Bond Fund,
         New York Money Market Fund, Virginia Bond Fund, and Virginia
         Money Market Fund (1)

                                      C-9
<PAGE>

                              Exhibit Index, cont.
EXHIBIT  ITEM                                                       PAGE NO. *

6       Not Applicable

7  (a)  Custodian Agreement dated June 23, 1989 (1)
   (b)  Letter Agreement dated July 26, 1990 adding New York
         Bond Fund, New York Money Market Fund, Virginia Bond
         Fund, and Virginia Money Market Fund (1)
   (c)   Subcustodian Agreement dated March 24, 1994 (3)

8  (a)  Transfer Agency Agreement dated January 23, 1992 (1)
   (b)  Amendments dated January 1, 1999 to Transfer Agency
         Agreement Fee Schedules for Long-Term Fund,
         Intermediate-Term Fund, Short-Term Fund, Tax Exempt
         Money Market Fund, California Bond Fund, California
         Money Market Fund, New York Bond Fund, New York
         Money Market Fund, Virginia Bond Fund, and Virginia
         Money Market Fund (filed herewith)                                 294
   (c)  Master Revolving Credit Facility Agreement with USAA
         Capital Corporation dated January 12, 1999
         ($500,000,000) (filed herewith)                                    305
   (d)  Master Revolving Credit Facility Agreement with
         NationsBank of Texas dated January 13, 1999 (filed
         herewith)                                                          328
   (e)  Master Revolving Credit Facility Agreement with USAA
         Capital Corporation dated  January 12, 1999
         ($250,000,000) (filed herewith)                                    353

9  (a)  Opinion of Counsel (5)
   (b)  Consent of Counsel (filed herewith)                                 376

10      Consent of Independent Accountants (filed herewith)                 378

11      Omitted Financial statements - Not Applicable

12      SUBSCRIPTIONS AND INVESTMENT LETTERS
   (a)  Short-Term Fund, Intermediate-Term Fund, and High-Yield Fund
         dated December 7, 1981 (1)
   (b)  California Bond Fund and California Money Market Fund dated
         June 23, 1989 and June 26, 1989 (1)
   (c)  New York Bond Fund, New York Money Market Fund, Virginia
         Bond Fund, and Virginia Money Market Fund dated September
         5, 1990 (1)

13      12b-1 Plans - Not Applicable

14      FINANCIAL DATA SCHEDULES
   (a)  Long-Term Fund (filed herewith)                                     380
   (b)  Intermediate-Term Fund (filed herewith)                             382
   (c)  Short-Term Fund (filed herewith)                                    384
   (d)  Tax Exempt Money Market Fund (filed herewith)                       386
   (e)  California Bond Fund (filed herewith)                               388
   (f)  California Money Market Fund (filed herewith)                       390
   (g)  New York Bond Fund (filed herewith)                                 392
   (h)  New York Money Market Fund (filed herewith)                         394
   (i)  Virginia Bond Fund (filed herewith)                                 396
   (j)  Virginia Money Market Fund (filed herewith)                         398

                                     C-10
<PAGE>

                              Exhibit Index, cont.
EXHIBIT ITEM                                                        PAGE NO. *

15      Plan Adopting Multiple Class of Shares - Not Applicable

16      Powers of Attorney
   (a)  Powers of Attorney for Michael J.C. Roth, Sherron A. Kirk,
         John W. Saunders, Jr., George E. Brown, Howard L. Freeman,
         Jr., and Richard A.  Zucker dated June 25, 1993
                      (1)
   (b)  Power of Attorney for Barbara B.  Dreeben dated July 12, 1995 (1)
   (c)  Power of Attorney for Robert G. Davis dated July 9, 1997 (4)
   (d)  Power of Attorney for Robert L. Mason dated July 9, 1997 (4)
________________________

(1) Previously filed with Post-Effective Amendment No. 23 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on
    July 24, 1995.

(2) Previously filed with Post-Effective Amendment No. 24 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on
    May 22, 1996.

(3) Previously filed with Post-Effective Amendment No. 25 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on
    July 25, 1996.

(4) Previously filed with Post-Effective Amendment No. 26 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on
    July 30, 1997.

(5) Previously filed with Post-Effective Amendment No. 27 of the Registrant
    (No. 2-75093) filed with the Securities and Exchange Commission on
     May 29, 1998.

__________________________

   *  Refers to sequentially numbered pages

                                     C-11

                                   EXHIBIT 2
<PAGE>

                           USAA TAX EXEMPT FUND, INC.

                                     BYLAWS

                          AS AMENDED February 11, 1999


                                   ARTICLE I

                                    OFFICES

     SECTION 1.1.  PRINCIPAL OFFICE. The principal office of the Company in the
State of Maryland shall be in the City of Baltimore, State of Maryland.

     SECTION  1.2.  OTHER  OFFICES.  The Company may also have  offices at such
other  places  both  within and  without  the State of Maryland as the Board of
Directors  may from time to time  determine  or the business of the Company may
require, including without limitation, offices at San Antonio, Texas.

                                   ARTICLE II

                                  SHAREHOLDERS

     SECTION 2.1. PLACE OF MEETINGS.  Meetings of shareholders shall be held at
the  offices of the  Company in the State of  Maryland,  at the  offices of the
Company in the City of San  Antonio,  Texas,  or at any other place  within the
United  States  as  shall  be  designated  from  time to time by the  Board  of
Directors and stated in the notice of meeting or in a duly  executed  waiver of
notice thereof.

     SECTION 2.2. ANNUAL MEETING. The Company is not required to hold an annual
meeting of its  stockholders  in any year in which the election of directors is
not  required  to be acted upon under the  Investment  Company Act of 1940 (the
"1940  Act").  If the  Company is required by the 1940 Act to hold a meeting of
stockholders to elect directors,  such meeting shall be held at a date and time
set by the Board of Directors in accordance with the 1940 Act and no later than
120  days  after  the  occurrence  of the  event  requiring  the  meeting.  Any
stockholders'  meeting held in accordance with the preceding sentence shall for
all purposes  constitute the annual meeting of stockholders for the fiscal year
of the Company in which the  meeting is held.  Except as the Charter or statute
provides otherwise, any business may be considered at an annual meeting without
the purpose of the meeting having been specified in the notice. Failure to hold
an annual  meeting does not  invalidate  the Company's  existence or affect any
otherwise valid corporate acts.

     SECTION 2.3. SPECIAL MEETINGS. Special meetings of the shareholders may be
called by the Board of  Directors  or by the  President.  Special  meetings  of
shareholders  shall be called by the  Secretary  upon the  written  request  of
holders of shares  entitled  to cast not less than ten percent of all the votes
entitled to be cast at such  meeting.  Such request  shall state the purpose or
purposes of such meeting and the matters  proposed to be acted on thereat.  The
Secretary shall inform such requesting shareholders of the reasonably estimated
cost of preparing  and mailing such notice of the meeting and,  upon payment to
the Company of such costs,  the Secretary shall give notice stating the purpose
or  purposes  of the  meeting to all  shareholders  entitled  to notice of such
meeting.  No special  meeting  need be called to consider  any matter  which is
substantially  the same as a matter  voted upon at any  special  meeting of the
shareholders  held during the preceding  twelve months unless  requested by the
holders of shares  entitled to cast a majority of all votes entitled to be cast
at such meeting.
                                       1
<PAGE>

     SECTION  2.4.  NOTICE  AND  PURPOSE.  Not less than ten (10) nor more then
ninety (90) days before the date of every shareholders'  meeting, the Secretary
shall give to each  shareholder  entitled to vote at such meeting,  and to each
shareholder not entitled to vote who is entitled by statute to notice,  written
or printed  notice stating the time and place of the meeting and the purpose or
purposes for which the meeting is called, either by mail or by presenting it to
him personally or by leaving it at his residence or usual place of business. If
mailed,  such notice  shall be deemed to be given when  deposited in the United
States mail  addressed  to the  shareholder  at his  post-office  address as it
appears on the records of the Company,  with postage thereon prepaid.  Business
transacted  at any  special  meeting  of  shareholders  shall be limited to the
purposes stated in the notice.

     SECTION 2.5.  RECORD DATE.  The Board of Directors may fix, in advance,  a
date as the record date for the purpose of determining shareholders entitled to
notice  of, or to vote at,  any  meeting  of  shareholders  or any  adjournment
thereof, or entitled to receive payment of any dividend or the allotment of any
rights,  or in order to make a  determination  of  shareholders  for any  other
proper purpose.  Such date in any case shall be not more than ninety (90) days,
and in case of a meeting of shareholders, not less than ten (10) days, prior to
the date on  which  the  particular  action  requiring  such  determination  of
shareholders is to be taken.

     SECTION 2.6.  QUORUM.  The holders of a majority of the shares entitled to
vote, represented in person or by proxy, shall constitute a quorum at a meeting
of the  shareholders,  but,  if a quorum  is not  represented,  a  majority  in
interest  of those  represented  may  adjourn  the  meeting  from time to time,
without notice other than announcement at the meeting,  until a quorum shall be
present or represented.  At such adjourned meeting,  at which a quorum shall be
present or  represented,  any business may be transacted  which might have been
transacted at the meeting as originally notified.

     SECTION 2.7. VOTING. Any holder of shares of the Company shall be entitled
to  vote to the  extent  provided  in  subsection  6.2(f)  of the  Articles  of
Incorporation,  either  in  person or by proxy.  A  shareholder  may  authorize
another  person to act as proxy for the  shareholder  in any  manner  permitted
under  Maryland  law,  including by  authorizing  a person or  organization  to
execute a proxy for the  shareholder  pursuant to telephonic or  electronically
transmitted instructions.  Any holder of fractional shares of the Company shall
have proportionally the same voting rights as are provided for a full share. No
proxy shall be valid after  eleven  months from the date of  execution,  unless
otherwise provided in the proxy. Each proxy shall be revocable unless expressly
provided therein to be irrevocable or unless otherwise made irrevocable by law.
Proxies  shall be  delivered to the  Secretary of the Company  before or at the
time of such  meeting.  The vote of the  holders  of a  majority  of the shares
entitled  to vote and  represented  at a meeting  at which a quorum is  present
shall be the act of the  shareholders  meeting,  unless  the vote of a  greater
number is required by law, the Articles of Incorporation or these Bylaws.

     SECTION 2.8.  OFFICERS.  The President  shall preside at and the Secretary
shall keep the records of each meeting of  shareholders,  and in the absence of
either such officer,  his duties shall be performed by some person appointed by
the meeting.

     SECTION 2.9.  ORDER OF BUSINESS.  The business shall be transacted in such
order as the presiding officer shall determine.

                                  ARTICLE III

                                   DIRECTORS

     SECTION  3.1.  GENERAL  POWERS.  The  business and property of the Company
shall be managed by its Board of  Directors,  and  subject to the  restrictions
imposed by law, by the  Articles of  Incorporation,  or by these  Bylaws,  they
shall exercise all the powers of the Company.

                                       2
<PAGE>

     SECTION  3.2.  DELEGATION.  To the extent  permitted  by law, the Board of
Directors may delegate the duty of  management of the Company's  assets and may
delegate  such other of its powers and duties as are  permitted by the Articles
of  Incorporation  or these  Bylaws,  (a) to the  Executive  Committee or other
committees,  or (b) to another party to act as manager,  investment  adviser or
underwriter  pursuant to a written  contract or contracts to be approved in the
manner required by the Investment Company Act of 1940.

     SECTION 3.3.  NUMBER.  The Board of Directors  shall  consist of seven (7)
directors,  but the number of directors may be increased or decreased (provided
such decrease does not shorten the term of any incumbent director) from time to
time by the Board of Directors by  amendment of the Bylaws,  provided  that the
number of directors  shall not be more than twenty-one (21) nor less than three
(3).

     SECTION 3.4. ELECTION,  RESIGNATIONS,  TERM OF OFFICE AND VACANCIES. Until
the first meeting of  shareholders  or until their  successors are duly elected
and  qualified,  the Board of Directors  shall  consist of the persons named as
such in the  Articles of  Incorporation.  Cumulative  voting is not  permitted.
Directors need not be residents of the State of Maryland or shareholders of the
Company.  Each  director,  unless he sooner  resigns or is removed,  shall hold
office until his  successor is elected and shall have  qualified.  Any director
may resign his office at any time by delivering  his  resignation in writing to
the Company.  The acceptance of such resignation,  unless required by the terms
thereof, shall not be necessary to make such resignation effective.  Subject to
compliance  with  Section  16(a) of the  Investment  Company  Act of  1940,  as
amended, any vacancies occurring in the Board of Directors other than by reason
of an increase in the number of directors may be filled by the affirmative vote
of a majority of the  remaining  directors,  even though such  majority is less
than a quorum.  A director  elected by the Board of Directors to fill a vacancy
shall be elected for the  unexpired  term of his  predecessor  in office.  If a
special  meeting of  shareholders  is required  to fill a vacancy,  the meeting
shall be held within sixty (60) days or such longer  period as may be permitted
by the Securities and Exchange Commission.

     SECTION 3.5.  PLACE OF MEETING.  Meetings of the Board of Directors may be
held either  within or without  the State of  Maryland,  at  whatever  place is
specified  by the  officer  calling the  meeting.  In the absence of a specific
place  designation,  the meeting  shall be held at the office of the Company in
the City of San Antonio, Texas.

     SECTION 3.6.  ORGANIZATIONAL AND REGULAR MEETINGS. Any newly elected Board
of Directors may hold its first meeting for the purpose of organization and the
transaction  of business,  if a quorum is present,  immediately  following  its
election at a meeting of the  shareholders,  at the place of such  meeting.  No
notice of such first  meeting need be given to either old or new members of the
Board of Directors.  Regular  meetings may be held at such other times as shall
be  designated  by the Board of Directors  and notice of such regular  meetings
shall not be required.

     SECTION 3.7. SPECIAL MEETINGS.  Special meetings of the Board of Directors
may be held at any time upon the call of the President or any two (2) directors
of the Company.  The  Secretary  shall give notice of such  special  meeting by
mailing the same at least three (3) days or by  telegraphing or telephoning the
same at least one (1) day before the  meeting to each  director.  Notice of the
time,  place and  purpose  of such  meeting  may be waived in  accordance  with
Article VI of these Bylaws. Attendance of a director at such meeting shall also
constitute  a  waiver  of  notice  thereof,  except  where he  attends  for the
announced purpose of objecting to the transaction of any business on the ground
that the meeting is not lawfully called or convened. Except as otherwise herein
provided,  neither the  business to be  transacted  at, nor the purpose of, any
regular or special  meeting of the Board of Directors  need be specified in the
notice or waiver of notice of such meeting.

     SECTION  3.8.  quorum and manner of  acting.  A majority  of the number of
directors fixed by these Bylaws as from time to time amended shall constitute a
quorum for the  transaction of business,  but a smaller number may adjourn from
time to time until they can secure  the  attendance  of a quorum.  The act of a
majority of the  directors  present at any meeting at which a quorum is present
shall be the act of the Board of Directors, except

                                       3
<PAGE>

as otherwise  expressly required under the provisions of the Investment Company
Act of 1940,  as  amended,  or  where a larger  vote is  required  by law,  the
Articles of  Incorporation  or these Bylaws.  Any regular or special meeting of
the Board of  Directors  may be adjourned  from time to time by those  present,
whether a quorum is present or not.

     SECTION  3.9.  REMOVAL OF  DIRECTORS.  Any  director  may be removed  from
office,  either for or without cause, at any special meeting of shareholders by
the affirmative  vote of a majority of the outstanding  shares entitled to vote
for the election of  directors.  The notice  calling  such  meeting  shall give
notice of the intention to act upon such matter, and if the notice so provides,
the vacancy  caused by such  removal may be filled at such meeting by vote of a
majority of the shares represented at such meeting and entitled to vote for the
election of directors.

     SECTION 3.10.  ACTION  WITHOUT  MEETING.  Subject to the provisions of the
Investment Company Act of 1940, as amended, any action permitted or required by
law, these Bylaws or by the Articles of  Incorporation to be taken at a meeting
of the Board of Directors or any  committee may be taken without a meeting if a
consent in  writing,  setting  forth the action so taken,  is signed by all the
members of the Board of Directors of such  committee,  as the case may be. Such
consent shall have the same force and effect as a unanimous  vote at a meeting,
and  may be  stated  as such in any  document  or  instrument  filed  with  the
Secretary of State or State Department of Assessments and Taxation of Maryland.

                                   ARTICLE IV

                                   COMMITTEES

     SECTION  4.1.  EXECUTIVE  COMMITTEE.   The  Board  of  Directors  may,  by
resolution adopted by a majority of the entire Board of Directors, designate an
Executive  Committee  consisting  of  the  President  and  one or  more  of the
directors of the Company,  and may delegate to such Executive  Committee any of
the powers of the Board of Directors except:

    a.  the power to declare dividends or distributions on stock;

    b.  the power to recommend to the shareholders any action which requires
        shareholder approval;

    c.  the power to amend the Bylaws;

    d.  the power to approve any merger or share exchange which does not
        require shareholder approval; or

    e.  the power to issue stock, except as hereafter provided.

If the Board of Directors has given general  authorization  for the issuance of
stock of any class,  the  Executive  Committee,  in  accordance  with a general
formula or method  specified by the Board of Directors by  resolution,  may fix
the terms of such class and the terms on which any stock may be issued,  to the
extent permitted by law and the Articles of Incorporation.

The Executive Committee shall keep written minutes of its proceedings and shall
report such minutes to the Board of Directors.  All such  proceedings  shall be
subject to revision or alteration by the Board of Directors; provided, however,
that third parties shall not be prejudiced by such revision or alteration.

     SECTION 4.2. OTHER  COMMITTEES.  The Board of Directors may, by resolution
or resolutions adopted by a majority of the entire Board, designate one or more
committees, each committee to consist of two or more of the

                                       4
<PAGE>

directors  of the  Company,  which  committee  shall have and may  exercise the
powers of the Board of Directors in the  management of the business and affairs
of the Company to the extent provided in said resolution or resolutions, except
where action of the Board of Directors is specified by law.  Such  committee or
committees shall have such name or names as may be determined from time to time
by resolution  adopted by the Board of Directors.  The Board of Directors shall
have  the  power  at any  time to fill  vacancies  in,  to  change  the size or
membership of, and to discharge any such committees.

     SECTION 4.3. GENERAL. A committee shall fix its own rules of procedure not
inconsistent  with  these  Bylaws  and  with  any  directions  of the  Board of
Directors. It shall meet at such times and places and upon such notice as shall
be  provided  by such rules or by  resolution  of the Board of  Directors.  The
presence  of a  majority  shall  constitute  a quorum  for the  transaction  of
business, and in every case an affirmative vote of a majority of the members of
the  committee  present  shall be  necessary  for the taking of any  action.  A
committee  shall keep regular minutes of its proceedings and report the same to
the Board of Directors when required.

                                   ARTICLE V

                                    OFFICERS

     SECTION 5.1.  NUMBER.  The officers of the Company  shall be chosen by the
Board of Directors  and shall be a Chairman of the Board,  a President,  a Vice
President, a Secretary and a Treasurer.  The Board of Directors may also choose
additional Vice Presidents, and one or more Assistant Secretaries and Assistant
Treasurers.

     SECTION 5.2.  SELECTION.  The Board of Directors  annually  shall choose a
Chairman  of the  Board,  a  President,  and one or  more  Vice  Presidents,  a
Secretary and a Treasurer,  none of whom, other than the Chairman of the Board,
need be a member of the Board.  Any two or more offices,  except the offices of
President and Vice  President,  may be held by the same person,  but no officer
shall  execute,  acknowledge or verify any instrument in more than one capacity
if such instrument is required by law, the Articles of  Incorporation  or these
Bylaws to be executed, acknowledged or verified by two or more officers.

     SECTION 5.3. TERM OF OFFICE. The officers of the Company shall hold office
until their successors are chosen and qualified.  Any vacancy  occurring in any
office of the Company shall be filled by the Board of Directors.

     SECTION  5.4.  SELECTION  OF  OTHER  OFFICERS  AND  AGENTS.  The  Board of
Directors  may  appoint  such  other  officers  and  agents  as it  shall  deem
necessary,  who shall hold their offices for such terms and shall exercise such
powers and perform such duties as shall be determined  from time to time by the
Board of Directors.

     SECTION  5.5.  SALARIES.  The  salaries of all  officers and agents of the
Company  shall  be  fixed  by the  Board  of  Directors.  No  officer  shall be
disqualified  from receiving a salary by reason of his also being a director of
the Company.

     SECTION  5.6.  SUSPENSION.  Except for the  Chairman  of the Board and the
President  of  the  Company,  all  officers  shall  be  subject  to  peremptory
suspension by written order of the President,  subject to subsequent  action of
the Board of  Directors.  The  Chairman of the Board and the  President  of the
Company shall be subject to peremptory suspension by written order of the Board
of Directors.

     SECTION 5.7.  REMOVAL.  Any officer or agent of the Company may be removed
during his term by a majority vote of the Board of Directors  whenever,  in its
judgment, removal of such person would serve the best interests of the Company.
Such removal shall  terminate  all of such person's  authority as an officer of
agent,  but his right to salary and any  contract  rights  shall  depend on the
terms of his  employment  and the  circumstances  of his  removal.  Election or
appointment of an officer or agent shall not of itself create contract rights.

                                       5
<PAGE>

     SECTION  5.8.  CHAIRMAN  OF THE BOARD.  The  Chairman  of the Board  shall
preside at meetings of the Board of Directors.  He shall have such other powers
as are  usually  incident  to the  office  of  Chairman  of the Board and shall
exercise such other specific  powers as the Board of Directors may from time to
time assign him.

     SECTION 5.9. PRESIDENT.  Subject to the control of the Board of Directors,
the  President  shall be the chief  operating  officer of the Company and shall
preside at all meetings of the shareholders. He shall assume general and active
management  of the  business of the Company and general and active  supervision
and direction over the other officers, agents, and employees of the Company and
shall see that their duties are properly  performed.  The  foregoing  shall not
apply to any responsibilities delegated by the Board of Directors to a manager,
investment adviser,  underwriter,  custodian, or transfer agent pursuant to any
written  contract,  as provided for in the Articles of  Incorporation  or these
Bylaws.

     The President, either alone or (if so required by law, these Bylaws or the
Board of  Directors)  with the Secretary or any other officer of the Company so
authorized by the Board of Directors,  may sign  certificates  of shares of the
Company or any deeds, mortgages, bonds, contracts or other instruments that the
Board of Directors has authorized  for  execution,  except when the signing and
execution thereof shall be expressly  delegated by the Board of Directors or by
these Bylaws to some other officer or agent of the Company or shall be required
by law to be otherwise signed or executed.

     The President,  in conjunction with the Secretary,  may duly  authenticate
the  Company  records or copies  thereof  for use as  evidence in any action or
proceeding to which the Company may be a party.

     In general,  the President shall perform all duties incident to the office
of  President  and such  other  duties  as may be  prescribed  by the  Board of
Directors from time to time.

     SECTION 5.10. THE VICE PRESIDENTS.  The Vice President,  or if there shall
be more than one, the Vice  Presidents in the order  determined by the Board of
Directors,  shall be vested with all the powers and required to perform all the
duties of the  President  in his absence or  disability  or refusal to act, and
when  so  acting  shall  have  all  the  powers  of and be  subject  to all the
restrictions  upon the President.  Each Vice President shall perform such other
duties and have such other  powers as the  President  or the Board of Directors
may from time to time prescribe.

     SECTION 5.11.  THE SECRETARY AND ASSISTANT  SECRETARIES.  The Secretary of
the Company shall have the following powers and duties:

   a.   to keep the minutes of the meetings of shareholders, of the Board of
        Directors, and of any committee thereof in one or more books provided
        for that purpose;

   b.   to see that all notices are duly given, in accordance with these Bylaws
        or as required by law;

   c.   to be custodian of the corporate records and the seal of the Company;

   d.   to see that the seal of the Company is affixed to all documents duly
        authorized for execution under seal on behalf of the Company;

   e.   to keep or cause to be kept for the Company the stock ledger described
        in Section 7.2 of these Bylaws;

   f.   to countersign certificates for Company shares, the issuance of which
        have been authorized by resolution of the Board of Directors;

                                       6
<PAGE>

   g.   to have general charge of the stock transfer books of the Company;

   h.   to duly authenticate, in conjunction with the President, the Company
        records or copies thereof to be used as evidence in any action or
        proceedings to which the Company may be a party and

   i.   to perform all duties incidental to the Office of Secretary and such
        other duties as, from time to time, may be assigned to the Secretary by
        the President or Board of Directors.

The  Assistant  Secretary,  or  if  there  by  more  than  one,  the  Assistant
Secretaries in the order  determined by the Board of Directors,  shall,  in the
absence or refusal to act or  disability of the  Secretary,  perform the duties
and exercise the powers of the  Secretary  and shall  perform such other duties
as, from time to time, may be assigned by the  President,  the Secretary or the
Board of Directors.

   SECTION 5.12.  THE TREASURER AND ASSISTANT TREASURERS.  The Treasurer shall:

   a.   have charge and custody of, and be responsible for, all the funds and
        securities of the Company, except those which the Company has placed in
        the custody of a bank or trust company pursuant to a written agreement
        designating such bank or trust company as custodian of the property of
        the Company;

   b.   keep full and accurate accounts of the receipts and disbursements in
        books belonging to the Company;

   c.   cause all monies and other valuables to be deposited to the credit of
        the Company;

   d.   receive, and give receipts for, monies due and payable to the Company
        from any source whatsoever;

   e.   disburse the funds of the Company and supervise  the  investment of its
        funds as ordered or authorized by the Board of Directors, taking proper
        vouchers therefore; and

   f.   in general, perform all the duties incident to the office  of Treasurer
        and such other duties  as  from time to time may be assigned to him  by
        the President, or the Board of Directors.

     The  Assistant  Treasurer,  or if there be more  than one,  the  Assistant
Treasurers in the order  determined by the Board of  Directors,  shall,  in the
absence or refusal to act or  disability of the  Treasurer,  perform such other
duties as, from time to time, may be assigned by the  President,  the Treasurer
or the Board of Directors.

     SECTION 5.13. OTHER SUBORDINATE  OFFICERS.  Other subordinate officers and
agents  appointed  by the Board of  Directors  shall  exercise  such powers and
perform such duties as may be assigned by the  President or may be delegated to
them by the resolution  appointing them, or by subsequent  resolutions  adopted
from time to time by the Board of Directors.

     SECTION  5.14.  BONDING.  The Board of Directors  may require any officer,
agent or employee to give bond for the  faithful  discharge of his duty and for
the  protection  of the Company in such sum and with such surety or sureties as
the Board of Directors may deem advisable.

                                       7
<PAGE>

                                   ARTICLE VI

                               WAIVERS OF NOTICE

     Whenever,  under the provisions of any law, the Articles of  Incorporation
of amendments  thereto,  or these Bylaws, any notice is required to be given to
any  shareholder,  director or committee  member,  a waiver  thereof in writing
signed by the person or persons  entitled  to such  notice,  whether  before or
after  the time  stated  therein,  shall be  equivalent  to the  giving of such
notice.  Waivers  given by telegram,  radiogram,  or cablegram  shall be deemed
waivers in writing within the meaning of these Bylaws.

                                  ARTICLE VII

                                 CAPITAL STOCK

     SECTION  7.1.  SHARE  CERTIFICATES.  The Company  will issue upon  written
request  certificates  representing  all full shares to which  shareholders are
entitled. No certificate may be issued until payment for the shares represented
thereby  has been  made in  full.  Such  certificates  shall  be  numbered  and
registered  in the  order in which  they are  issued,  shall be  signed  by the
Chairman of the Board,  President or Vice  President and  countersigned  by the
Secretary,  any Assistant Secretary,  the Treasurer or any Assistant Treasurer,
and may bear the seal of the Company or a facsimile thereof.  The signatures of
such officers upon a  certificate  may be  facsimiles,  if the  certificate  is
countersigned  by a transfer agent. In case any officer who has signed or whose
facsimile  signature has been placed upon such certificate shall have ceased to
be such  officer  before such  certificate  is issued,  it may be issued by the
Company  with the same  effect  as if he were such  officer  at the date of its
issuance.  Each  share  certificate  shall  include on its face the name of the
Company,  the name of the  shareholder  and the  class of stock  and  number of
shares represented by the certificate. In addition it shall contain on its face
or  its  back  a  statement  that  the  Company  will  furnish  to  any  of the
shareholders   upon  request  and  without  charge  a  full  statement  of  the
designations and any preferences,  conversion and other rights,  voting powers,
restrictions,  limitations  as to  dividends,  qualifications,  and  terms  and
conditions  of  redemption  of the  shares of each class  which the  Company is
authorized  to issue and the  authority  of the Board of Directors to designate
new classes and determine such matters with respect thereto.

     SECTION 7.2.  STOCK LEDGER AND RECORD OF  SHAREHOLDERS.  The Company shall
maintain at its offices in the City of San Antonio,  State of Texas,  or at the
offices of a transfer  agent,  if one is  appointed,  an original or  duplicate
stock ledger  containing  the names and addresses of all  shareholders  and the
number of shares of each class held by each shareholder,  and, if a certificate
has been  issued,  the  certificate  number,  date of issue and  whether it was
original  issue or by  transfer.  The Board of  Directors  of the  Company  may
appoint one or more  transfer  agents of the stock of the  Company.  Unless and
until such appointment is made, the Secretary of the Company shall maintain the
stock  ledger.  The names of  shareholders  as they appear on the stock  ledger
shall be the  official  list of  shareholders  of record of the Company for all
purposes.  The  Company  shall be entitled to treat the holder of record of any
shares of the Company as the owner thereof for all  purposes,  and shall not be
bound to recognize any equitable or other claim to, or interest in, such shares
or any  rights  deriving  from such  shares,  on the part of any other  person,
including (but without limitation) a purchaser,  assignee or transferee, unless
and until  such  other  person  becomes  the  holder of record of such  shares,
whether or not the Company shall have either actual or  constructive  notice of
the interest of such other person,  except as otherwise provided by the laws of
Maryland.

     SECTION  7.3.  TRANSFERS  OF SHARES.  The shares of the  Company  shall be
transferable  on the stock  certificate  books of the company upon  appropriate
authorization in person by the holder of record thereof, or his duly authorized
attorney or legal  representative,  and,  if a  certificate  was  issued,  upon
endorsement and surrender for  cancellation of the certificate for such shares.
All  certificates  surrendered  for  transfer  shall be  cancelled,  and no new
certificates  shall be issued to the transferee  until a former  certificate or
certificates for a like number of
                                       9
<PAGE>

shares shall have been surrendered and cancelled,  except that in the case of a
lost,  destroyed  or mutilated  certificate,  a new  certificate  may be issued
therefor  upon  such  conditions  for the  protection  of the  Company  and any
transfer agent of the Company as the Board of Directors may prescribe.

     SECTION 7.4. ACCOUNT MAINTENANCE  CHARGES.  The Board of Directors may, in
accordance  with  such  terms  and  conditions  as it may  from  time  to  time
prescribe,  establish an account  maintenance charge to be paid by shareholders
of the Company  for  maintenance  of their  accounts.  Any account  maintenance
charge  established  by the Board of  Directors  of the  Company may be charged
against  income  credited to a shareholder  account and, to the extent there is
not sufficient income credited to a shareholder  account in any period to cover
such charge, the Company may redeem sufficient shares owned by a shareholder to
cover such charges. A shareholder  charged with any maintenance charge pursuant
to this  Section 7.4 as a result of having an account  with a value less than a
specified amount shall be given prompt written notice at the time of imposition
of such charge.

                                  ARTICLE VIII

                                   CUSTODIAN

     SECTION 8.1.  EMPLOYMENT OF CUSTODIAN.  All assets of the Company shall be
held by one or more custodian banks or trust companies meeting the requirements
of the Investment Company Act of 1940, as amended, and having capital,  surplus
and undivided  profits of at least $2,000,000 and may be registered in the name
of the Company,  including a designation of the particular  class to which such
assets belong, or any such custodian, or a nominee of either of them. The terms
of any custodian agreement shall be determined by the Board of Directors, which
terms shall be in accordance with the provisions of the Investment  Company Act
of 1940, as amended. If so directed by vote of the holders of a majority of the
outstanding  shares of a particular class or by vote of the Board of Directors,
the custodian of the assets  belonging to such class shall deliver and pay over
such assets as specified in such vote.

     Subject  to such  rules,  regulations  and  orders as the  Securities  and
Exchange  Commission  may adopt,  the Company may direct a custodian to deposit
all or any part of the  securities  owned by the  Company  in a system  for the
central handling of securities established by a national securities exchange or
a national securities  association  registered with the Securities and Exchange
Commission, or otherwise in accordance with the Investment Company Act of 1940,
as amended,  pursuant to which system all securities of any particular class of
any issuer  deposited  within the system  are  treated as  fungible  and may be
transferred or pledged by bookkeeping  entry without physical  delivery of such
securities, provided that all such deposits shall be subject to withdrawal only
upon the order of the Company or a custodian.

                                   ARTICLE IX

                    INSPECTION OF BOOKS AND SHAREHOLDER LIST

     SECTION 9.1.  INSPECTION OF BOOKS.  The Board of Directors  shall have the
power from time to time to determine  whether and to what  extent,  and at what
times and places,  and under what  conditions and  regulations the accounts and
books of the Company (other than the stock ledger) or any of them shall be open
to the inspection of the  shareholders.  No shareholder shall have any right to
inspect any account or book or document of the Company  except as  conferred by
law or authorized by the Board of Directors or the shareholders.

     SECTION 9.2. INSPECTION OF SHAREHOLDER LIST. Any one or more persons,  who
together are and for at lease six months have been shareholders of record of at
least 5% of the  outstanding  shares of the  Company,  may submit  (unless  the
Company at the time of the request  maintains a duplicate  stock  ledger at its
principal  office in Maryland) a written  request to any officer of the Company
or its  resident  agent  in  Maryland  for a list  of the  shareholders  of the
Company.
                                       9
<PAGE>

Within 20 days after such a request,  there shall be prepared  and filed at the
Company's  principal  office in  Maryland  a list,  verified  under  oath by an
officer of the Company or by its stock transfer agent or registrar,  which sets
forth the name and address of each shareholder and the number of shares of each
class which the shareholder holds.

                                   ARTICLE X

                                 MISCELLANEOUS

     SECTION 10.1.  FISCAL YEAR.  The fiscal year of the Company shall begin on
the first day of April and end on the thirty-first day of March in each year.

     SECTION 10.2.  Seal. The corporate  seal shall have inscribed  thereon the
name of the  Company,  the year of its  organization  and the words  "Corporate
Seal,  Maryland." The seal may be used by causing it or a facsimile  thereof to
be impressed or affixed or reproduced or otherwise.

     SECTION  10.3.  ANNUAL  STATEMENT  OF AFFAIRS.  The  President or any Vice
President or the Treasurer shall prepare annually a full and correct  statement
of the  affairs  of the  Company,  to include a balance  sheet and a  financial
statement of operations for the preceding fiscal year. The statement of affairs
shall be placed on file at the Company's principal office within 120 days after
the end of the fiscal year.

                                   ARTICLE XI

                                   AMENDMENT

     SECTION  11.1.  BY  SHAREHOLDERS.  These  Bylaws may be amended,  altered,
repealed  or added to at any  special  meeting  called for that  purpose by the
affirmative  vote of a majority of the shares  entitled to vote and represented
at such meeting.

     SECTION  11.2.  BY  DIRECTORS.  The Board of Directors may alter and amend
these Bylaws at any regular  meeting of the Board, or at any special meeting of
the Board called for that  purpose,  by the  affirmative  vote of a majority of
such  Board,  except  where a vote of  shareholders  is  required  by law,  the
Articles of Incorporation, or these Bylaws.

bylaws\bylaws.tef2-11-99.doc
                                      10

                                 EXHIBIT 8(b)
<PAGE>

                          USAA Transfer Agency Company


                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                                 Long-Term Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account  maintenance plus out-of pocket expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      Long-Term Fund - charge per account                   $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
Long-Term Fund


By:   /s/ MICHAEL J.C. ROTH                     By:  /s/ JOSEPH H.L. JIMENEZ
      ---------------------                          ------------------------
      Michael J. C. Roth                             Joseph H. L. Jimenez
      President                                      Vice President


Date: January 1, 1999                           Date: January 1, 1999

<PAGE>

                          USAA Transfer Agency Company


                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                             Intermediate-Term Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account  maintenance plus out-of pocket expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      Intermediate-Term Fund - charge per account            $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
Intermediate-Term Fund


By:  /s/ MICHAEL J.C. ROTH                      By: /s/ JOSEPH H.L. JIMENEZ
     ----------------------                         ------------------------
     Michael J. C. Roth                             Joseph H. L. Jimenez
     President                                      Vice President


Date: January 1, 1999                           Date: January 1, 1999

<PAGE>

                          USAA Transfer Agency Company


                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                                Short-Term Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account  maintenance plus out-of pocket expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      Short-Term Fund - charge per account                  $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
Short-Term Fund


By:  /s/ MICHAEL J.C. ROTH                      By: /s/ JOSEPH H.L. JIMENEZ
     ---------------------                          -----------------------
     Michael J. C. Roth                             Joseph H. L. Jimenez
     President                                      Vice President

Date: January 1, 1999                           Date: January 1, 1999

<PAGE>

                          USAA Transfer Agency Company

                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                          Tax Exempt Money Market Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account  maintenance plus out-of pocket expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      Tax Exempt Money Market Fund - charge per account     $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
Tax Exempt Money Market Fund


By:  /s/ MICHAEL J.C. ROTH                      By:  /s/ JOSEPH H.L. JIMENEZ
     ---------------------                          -------------------------
     Michael J. C. Roth                             Joseph H. L. Jimenez
     President                                      Vice President


Date: January 1, 1999                           Date: January 1, 1999

<PAGE>

                          USAA Transfer Agency Company

                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                              California Bond Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account  maintenance plus out-of pocket expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      California Bond Fund - charge per account     $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
California Bond Fund


By:  /s/ MICHAEL J.C. ROTH                      By:  /s/ JOSEPH H.L. JIMENEZ
     ---------------------                          ------------------------
     Michael J. C. Roth                             Joseph H. L. Jimenez
     President                                      Vice President


Date: January 1, 1999                           Date: January 1, 1999

<PAGE>

                          USAA Transfer Agency Company

                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                       California Money Market Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account  maintenance plus out-of pocket expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      California Money Market Fund - charge per account             $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
California Money Market Fund


By:  /s/ MICHAEL J.C. ROTH                      By: /s/ JOSEPH H.L. JIMENEZ
     ---------------------                           -----------------------
     Michael J. C. Roth                             Joseph H. L. Jimenez
     President                                      Vice President


Date: January 1, 1999                           Date: January 1, 1999

<PAGE>

                          USAA Transfer Agency Company

                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                               New York Bond Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account maintenance plus out-of-pocket  expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      New York Bond Fund - charge per account       $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
New York Bond Fund


By:  /s/ MICHAEL J.C. ROTH                      By:  /s/ JOSEPH H.L. JIMENEZ
     ---------------------                           -----------------------
     Michael J. C. Roth                              Joseph H. L. Jimenez
     President                                       Vice President


Date: January 1, 1999                           Date:    January 1, 1999

<PAGE>

                          USAA Transfer Agency Company

                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                             New York Money Market Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account maintenance plus out-of-pocket  expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      New York Money Market Fund - charge per account               $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
New York Money Market Fund


By:  /s/ MICHAEL J.C. ROTH                    By:  /s/ JOSEPH H.L. JIMENEZ
     ---------------------                         -----------------------
      Michael J. C. Roth                           Joseph H. L. Jimenez
      President                                    Vice President


Date: January 1, 1999                           Date:    January 1, 1999

<PAGE>

                          USAA Transfer Agency Company

                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                               Virginia Bond Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account maintenance plus out-of-pocket  expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      Virginia Bond Fund - charge per account       $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
Virginia Bond Fund


By:  /s/ MICHAEL J.C. ROTH                    By: /s/ JOSEPH H.L. JIMENEZ
     ---------------------                        -----------------------
     Michael J. C. Roth                           Joseph H. L. Jimenez
     President                                    Vice President


Date: January 1, 1999                           Date:    January 1, 1999

<PAGE>

                          USAA Transfer Agency Company

                        Fee Information for Services as
                  Plan, Transfer and Dividend Disbursing Agent

                           USAA TAX EXEMPT FUND, INC.
                           Virginia Money Market Fund


GENERAL  - Fees are based on an  annual  per  shareholder  account  charge  for
account maintenance plus out-of-pocket  expenses.  There is a minimum charge of
$2,000 per month applicable to the entire fund complex.

ANNUAL  MAINTENANCE  CHARGES  - The  annual  maintenance  charge  includes  the
processing of all  transactions  and  correspondence.  The fee is billable on a
monthly  basis at the rate of 1/12 of the  annual  fee.  USAA  Transfer  Agency
Company  will charge for each open account from the month the account is opened
through  January of the year following the year all funds are redeemed from the
account.


      Virginia Money Market Fund - charge per account               $28.50


USAA TAX EXEMPT FUND, INC.                      USAA TRANSFER AGENCY COMPANY
Virginia Money Market Fund


By:  /s/ MICHAEL J.C. ROTH                       By:  /s/ JOSEPH H.L. JIMENEZ
     ---------------------                            -----------------------
     Michael J. C. Roth                               Joseph H. L. Jimenez
     President                                        Vice President


Date: January 1, 1999                           Date:    January 1, 1999

<PAGE>

                                 EXHIBIT 8(c)

January 12, 1999

USAA Mutual Fund, Inc.,
USAA Investment Trust,
USAA Tax Exempt Fund, Inc., and USAA State Tax-Free Trust, on behalf of and for
the benefit of the series of funds  comprising  each such Borrower as set forth
on Schedule A hereto 9800 Fredericksburg Road San Antonio, Texas 78288

Attention: Michael J.C. Roth, President

Gentlemen:

This  Facility  Agreement  Letter (this  "Agreement")  sets forth the terms and
conditions  for loans (each a "Loan" and  collectively  the "Loans") which USAA
Capital  Corporation  ("CAPCO")  may from time to time make  during  the period
commencing January 12, 1999 and ending January 11, 2000 (the "Facility Period")
to USAA Mutual Fund, Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc.,
and USAA State Tax-Free Trust,  and each investment  company which may become a
party hereto  pursuant to the terms of this  Agreement  (each a "Borrower"  and
collectively  the  "Borrowers"),  each of which is executing  this Agreement on
behalf  of and for the  benefit  of the  series of funds  comprising  each such
Borrower as set forth on Schedule A hereto (as hereafter modified or amended in
accordance with the terms hereof) (each a "Fund" and collectively the "Funds"),
under a master  revolving  credit  facility (the  "Facility").  USAA Investment
Management  Company is the Manager and  Investment  Advisor of each Fund.  This
Agreement replaces in its entirety that certain Facility Agreement Letter dated
January 13, 1998,  between the  Borrowers  and CAPCO.  CAPCO and the  Borrowers
hereby agree as follows:

       1.  AMOUNT.  The  aggregate  principal  amount of the Loans which may be
advanced  under this Facility  shall not exceed,  at any one time  outstanding,
Five Hundred Million Dollars ($500,000,000).  The aggregate principal amount of
the Loans which may be borrowed by a Borrower  for the benefit of a  particular
Fund under this Facility shall not exceed the borrowing  limit (the  "Borrowing
Limit")  on  borrowings  applicable  to such Fund,  as set forth on  Schedule A
hereto.

       2. PURPOSE AND  LIMITATIONS  ON  BORROWINGS.  Each Borrower will use the
proceeds of each Loan made to it solely for temporary or emergency  purposes of
the Fund for whose  benefit it is  borrowing  in  accordance  with such  Fund's
Borrowing Limit (Schedule A) and prospectus in effect at the time of such Loan.
Portfolio  securities  may not be  purchased  by a Fund  while  there is a Loan
outstanding  under the Facility or any other facility,  if the aggregate amount
of such Loan and any other  such loan  exceeds  5% of the total  assets of such
Fund.

<PAGE>

       3.  BORROWING  RATE AND  MATURITY  OF LOANS.  CAPCO may make  Loans to a
Borrower and the principal  amount of the Loans  outstanding  from time to time
shall  bear  interest  at a rate per  annum  equal  to the rate at which  CAPCO
obtains  funding  in the  capital  markets.  Interest  on the  Loans  shall  be
calculated  on the basis of a year of 360 days and the actual days  elapsed but
shall not exceed the highest lawful rate.  Each loan will be for an established
number  of  days   agreed   upon  by  the   applicable   Borrower   and  CAPCO.
Notwithstanding the above, all Loans to a Borrower shall be made available at a
rate per annum equal to the rate at which CAPCO would make loans to  affiliates
and  subsidiaries.  Further,  if the  CAPCO  rate  exceeds  the rate at which a
Borrower could obtain funds pursuant to the NationsBank,  N.A.  ("NationsBank")
364-day committed  $100,000,000 Master Revolving Credit Facility,  the Borrower
will in the absence of predominating  circumstances,  borrow from  NationsBank.
Any past due principal  and/or  accrued  interest shall bear interest at a rate
per annum equal to the  aggregate of the Federal Funds Rate plus 1 percent (100
basis points) and shall be payable on demand.

       4. ADVANCES, PAYMENTS,  PREPAYMENTS AND READVANCES. Upon each Borrower's
request,  and subject to the terms and conditions  contained herein,  CAPCO may
make Loans to each Borrower on behalf of and for the benefit of its  respective
Fund(s) during the Facility  Period,  and each Borrower may at CAPCO's sole and
absolute  discretion,  borrow,  repay and reborrow funds  hereunder.  The Loans
shall be evidenced by a duly executed and delivered Master Grid Promissory Note
in the form of EXHIBIT A. Each Loan  shall be in an  aggregate  amount not less
than One Hundred Thousand United States Dollars (U.S.  $100,000) and increments
of One Thousand United States Dollars (U.S. $1,000) in excess thereof.  Payment
of principal and interest due with respect to each Loan shall be payable at the
maturity of such Loan and shall be made in funds immediately available to CAPCO
prior to 2 p.m.  San Antonio  time on the day such  payment is due, or as CAPCO
shall  otherwise  direct  from  time to time  and,  subject  to the  terms  and
conditions  hereof,  may  be  repaid  with  the  proceeds  of a  new  borrowing
hereunder. Notwithstanding any provision of this Agreement to the contrary, all
Loans, accrued but unpaid interest and other amounts payable hereunder shall be
due and payable upon  termination of the Facility  (whether by  acceleration or
otherwise).

       5. FACILITY FEE. As this Facility is uncommitted,  no facility fee shall
be charged by CAPCO.

       6.  OPTIONAL  TERMINATION.  The  Borrowers  shall have the right upon at
least three (3) business days prior written  notice to CAPCO,  to terminate the
Facility.

       7. MANDATORY TERMINATION OF THE FACILITY. The Facility,  unless extended
by written  amendment,  shall  automatically  terminate  on the last day of the
Facility Period and any Loans then outstanding  (together with accrued interest
thereon and any other amounts owing hereunder) shall be due and payable on such
date.

<PAGE>

       8. UNCOMMITTED FACILITY.  The Borrowers acknowledge that the Facility is
an  uncommitted  facility and that CAPCO shall have no  obligation  to make any
Loan requested during the Facility Period under this Agreement.  Further, CAPCO
shall not make any Loan if this Facility has been  terminated by the Borrowers,
or if at the time of a  request  for a Loan by a  Borrower  (on  behalf  of the
applicable  Fund(s)) there exists any Event of Default or condition which, with
the passage of time or giving of notice, or both, would constitute or become an
Event of Default with respect to such Borrower (or such applicable Fund(s)).

       9. LOAN  REQUESTS.  Each request for a Loan (each a "Borrowing  Notice")
shall be in writing by the applicable Borrower(s), except that such Borrower(s)
may make an oral  request  (each an "Oral  Request")  provided  that  each Oral
Request  shall be followed by a written  Borrowing  Notice  within one business
day. Each Borrowing  Notice shall specify the following  terms ("Terms") of the
requested  Loan:  (i) the date on which such Loan is to be disbursed,  (ii) the
principal amount of such Loan,  (iii) the Borrower(s)  which are borrowing such
Loan and the  amount of such Loan to be  borrowed  by each  Borrower,  (iv) the
Funds for whose  benefit the loan is being  borrowed and the amount of the Loan
which is for the benefit of each such Fund, and (v) the requested maturity date
of the Loan.  Each  Borrowing  Notice  shall also set forth the total assets of
each Fund for whose  benefit a portion of the Loan is being  borrowed as of the
close of business on the day  immediately  preceding the date of such Borrowing
Notice.  Borrowing notices shall be delivered to CAPCO by 9:00 a.m. San Antonio
time on the day the Loan is requested to be made.

Each  Borrowing  Notice  shall  constitute  a  representation  to  CAPCO by the
applicable  Borrower(s)  that  all of the  representations  and  warranties  in
Section  12 hereof  are true and  correct  as of such date and that no Event of
Default or other  condition which with the passage of time or giving of notice,
or both, would result in an Event of Default, has occurred or is occurring.

       10.  CONFIRMATIONS;  CREDITING OF FUNDS; RELIANCE BY CAPCO. Upon receipt
by CAPCO of a Borrowing Notice:

               (a)  CAPCO  shall  provide  each  applicable   Borrower  written
       confirmation  of the Terms of such Loan via  facsimile or  telecopy,  as
       soon as reasonably practicable;  provided,  however, that the failure to
       do so shall not affect the obligation of any such Borrower;

               (b) CAPCO shall make such Loan in  accordance  with the Terms by
       transfer  of the Loan  amount in  immediately  available  funds,  to the
       account of the applicable  Borrower(s) as specified in EXHIBIT B to this
       Agreement or as such Borrower(s)  shall otherwise  specify to CAPCO in a
       writing signed by an Authorized Individual (as defined in Section 11) of
       such Borrower(s); and

<PAGE>

               (c) CAPCO  shall  make  appropriate  entries  on the Note or the
       records of CAPCO to reflect  the Terms of the Loan;  provided,  however,
       that the  failure  to do so  shall  not  affect  the  obligation  of any
       Borrower.

               (d)  CAPCO  shall be  entitled  to rely  upon and act  hereunder
       pursuant to any Oral Request which it  reasonably  believes to have been
       made by the applicable Borrower through an Authorized Individual. If any
       Borrower  believes that the  confirmation  relating to any Loan contains
       any error or discrepancy from the applicable Oral Request, such Borrower
       will promptly notify CAPCO thereof.

       11.  BORROWING  RESOLUTIONS  AND  OFFICERS'  CERTIFICATES.  Prior to the
making  of any Loan  pursuant  to this  Agreement,  the  Borrowers  shall  have
delivered  to  CAPCO  (a) the  duly  executed  Note,  (b)  Resolutions  of each
Borrower's Trustees or Board of Directors authorizing such Borrower to execute,
deliver and perform  this  Agreement  and the Note on behalf of the  applicable
Funds,  (c) an Officer's  Certificate  in  substantially  the form set forth in
EXHIBIT  D to this  Agreement,  authorizing  certain  individuals  ("Authorized
Individuals"),  to take on behalf of each Borrower (on behalf of the applicable
Funds) actions contemplated by this Agreement and the Note, and (d) the Opinion
of Counsel to USAA Investment  Management  Company,  Manager and Advisor to the
Borrowers, with respect to such matters as CAPCO may reasonably request .

       12.  REPRESENTATIONS  AND WARRANTIES.  In order to induce CAPCO to enter
into this Agreement and to make the Loans provided for hereunder, each Borrower
hereby  makes with  respect to itself,  and as may be  relevant,  the series of
Funds comprising such Borrower,  the following  representations and warranties,
which shall survive the execution and delivery hereof and of the Note:

               (a) ORGANIZATION,  STANDING,  ETC. The Borrower is a corporation
       or trust duly organized,  validly  existing,  and in good standing under
       applicable state laws and has all requisite corporate or trust power and
       authority to carry on its  respective  businesses  as now  conducted and
       proposed to be  conducted,  to enter into this  Agreement  and all other
       documents  to be  executed  by it in  connection  with the  transactions
       contemplated hereby, to issue and borrow under the Note and to carry out
       the terms hereof and thereof;

               (b)  FINANCIAL  INFORMATION;  DISCLOSURE,  ETC. The Borrower has
       furnished CAPCO with certain financial  statements of such Borrower with
       respect to itself and the applicable  Funds, all of which such financial
       statements  have been prepared in  accordance  with  generally  accepted
       accounting  principles  applied on a consistent basis and fairly present
       the  financial  position and results of  operations of such Borrower and
       the applicable Funds on the dates and for the periods indicated. Neither
       this Agreement nor any financial statements,  reports or other documents
       or  certificates  furnished to CAPCO by such Borrower or the  applicable
       Funds in connection with the  transactions  contemplated  hereby contain
       any untrue  statement  of a material  fact or omit to state any material
       fact  necessary to make the  statements  contained  herein or therein in
       light of the circumstances when made not misleading;

<PAGE>

               (c)  AUTHORIZATION;   COMPLIANCE  WITH  OTHER  INSTRUMENTS.  The
       execution,  delivery and performance of this Agreement and the Note, and
       borrowings  hereunder,  have  been  duly  authorized  by  all  necessary
       corporate  or trust  action of the  Borrower  and will not result in any
       violation of or be in conflict  with or  constitute a default  under any
       term of the charter,  by-laws or trust agreement of such Borrower or the
       applicable  Funds,  or of any  borrowing  restrictions  or prospectus or
       statement of additional  information  of such Borrower or the applicable
       Funds,  or  of  any  agreement,  instrument,  judgment,  decree,  order,
       statute, rule or governmental regulation applicable to such Borrower, or
       result in the creation of any mortgage, lien, charge or encumbrance upon
       any of the properties or assets of such Borrower or the applicable Funds
       pursuant to any such term. The Borrower and the applicable Funds are not
       in violation of any term of their respective  charter,  by-laws or trust
       agreement,  and  such  Borrower  and  the  applicable  Funds  are not in
       violation of any material  term of any  agreement or instrument to which
       they are a party,  or to the best of such Borrower's  knowledge,  of any
       judgment,  decree,  order,  statute,  rule  or  governmental  regulation
       applicable to them;

               (d) SEC COMPLIANCE. The Borrower and the applicable Funds are in
       compliance  in  all  material   respects  with  all  federal  and  state
       securities  or similar  laws and  regulations,  including  all  material
       rules,  regulations  and  administrative  orders of the  Securities  and
       Exchange Commission (the "SEC") and applicable Blue Sky authorities. The
       Borrower  and the  applicable  Funds are in  compliance  in all material
       respects  with all of the  provisions of the  Investment  Company Act of
       1940,  and such  Borrower  has filed all  reports  with the SEC that are
       required of it or the applicable Funds;

               (e) LITIGATION.  There is no action,  suit or proceeding pending
       or, to the best of the  Borrower's  knowledge,  threatened  against such
       Borrower or the  applicable  Funds in any court or before any arbitrator
       or  governmental  body which seeks to restrain  any of the  transactions
       contemplated by this Agreement or which, if adversely determined,  could
       have a material  adverse effect on the assets or business  operations of
       such  Borrower or the  applicable  Funds or the ability of such Borrower
       and the applicable Funds to pay and perform their obligations  hereunder
       and under the Notes;

               (f) BORROWERS'  RELATIONSHIP  TO FUNDS.  The assets of each Fund
       for whose  benefit  Loans are  borrowed by the  applicable  Borrower are
       subject  to and  liable  for such  Loans and are  available  (except  as
       subordinated to borrowings under the NationsBank  committed facility) to
       the applicable Borrower for the repayment of such Loans; and

               (G) YEAR 2000  PREPAREDNESS.  Each  Borrower has (i) initiated a
       review and  assessment  of all areas within its business and  operations
       (including  those  affected by suppliers,  vendors and  customers)  that
       could be  adversely  affected by the "Year 2000  Problem"  (that is, the
       risk that computer  applications  used by such Borrower may be unable to
       recognize  and  perform  properly  date-sensitive   functions  involving
       certain  dates  prior to and any date after  December  31,  1999),  (ii)
       developed a plan and timeline for  addressing the Year 2000 Problem on a
       timely basis, and (iii) to date, implemented that

<PAGE>

       plan in accordance  with that  timetable.  Based on the foregoing,  such
       Borrower  reasonably  believes that all computer  applications  that are
       material to its business and  operations  are  reasonably  expected on a
       timely basis to be able to perform properly date-sensitive functions for
       all dates  before  and after  January  1, 2000  (that is, be "Year  2000
       compliant"),  except to the  extent  that a  failure  to do so could not
       reasonably be expected to have a material  adverse  effect on the assets
       or business  operations of such Borrower or the applicable  Funds or the
       ability of such  Borrower  and the  applicable  Funds to pay and perform
       their obligations hereunder and under the Note.

       13.  AFFIRMATIVE  COVENANTS  OF THE  BORROWERS.  Until  such time as all
amounts of principal  and  interest due to CAPCO by a Borrower  pursuant to any
Loan made to such Borrower is irrevocably  paid in full, and until the Facility
is terminated, such Borrower (for itself and on behalf of its respective Funds)
agrees:

               (a) To  deliver  to CAPCO as soon as  possible  and in any event
       within  ninety  (90)  days  after  the end of each  fiscal  year of such
       Borrower and the applicable Funds, Statements of Assets and Liabilities,
       Statements of Operations and Statements of Changes in Net Assets of each
       applicable  Fund for such fiscal year,  as set forth in each  applicable
       Fund's Annual Report to shareholders  together with a calculation of the
       maximum  amount  which  each  applicable  Fund  could  borrow  under its
       Borrowing Limit as of the end of such fiscal year;

               (b) To  deliver to CAPCO as soon as  available  and in any event
       within seventy-five (75) days after the end of each semiannual period of
       such  Borrower  and the  applicable  Funds,  Statements  of  Assets  and
       Liabilities,  Statement of Operations  and  Statements of Changes in Net
       Assets of each applicable Fund as of the end of such semiannual  period,
       as set forth in each applicable Funds Semiannual Report to shareholders,
       together with a calculation of the maximum amount which each  applicable
       Fund  could  borrow  under  its  Borrowing  Limit  at the  end  of  such
       semiannual period;

               (c) To deliver to CAPCO prompt  notice of the  occurrence of any
       event or  condition  which  constitutes,  or is likely  to result  in, a
       change in such Borrower or any applicable Fund which could reasonably be
       expected to materially  adversely  affect the ability of any  applicable
       Fund to  promptly  repay  outstanding  Loans made for its benefit or the
       ability of such Borrower to perform its obligations under this Agreement
       or the Note;

               (d) To do, or cause to be done, all things necessary to preserve
       and keep in full force and effect the  corporate  or trust  existence of
       such Borrower and all permits,  rights and privileges  necessary for the
       conduct of its  businesses  and to comply in all material  respects with
       all  applicable  laws,   regulations  and  orders,   including   without
       limitation, all rules and regulations promulgated by the SEC;

<PAGE>

               (e) To promptly notify CAPCO of any litigation, threatened legal
       proceeding or  investigation  by a  governmental  authority  which could
       materially  affect the ability of such Borrower or the applicable  Funds
       to promptly  repay the  outstanding  Loans or  otherwise  perform  their
       obligations hereunder;

               (f) In the event a Loan for the benefit of a particular  Fund is
       not repaid in full  within 10 days  after the date it is  borrowed , and
       until  such Loan is repaid in full,  to  deliver  to CAPCO,  within  two
       business  days  after  each  Friday  occurring  after  such 10th day,  a
       statement setting forth the total assets of such Fund as of the close of
       business on each such Friday; and

               (g) Upon the  request  of CAPCO  which may be made by CAPCO from
       time to time in the event  CAPCO in good faith  believes  that there has
       been a material  adverse  change in the capital  markets  generally,  to
       deliver  to CAPCO,  within two  business  days  after  such  request,  a
       statement  setting forth the total assets of each Fund for whose benefit
       a Loan is outstanding on the date of such request.

       14. NEGATIVE COVENANTS OF THE BORROWERS.  Until such time as all amounts
of principal and interest due to CAPCO by a Borrower  pursuant to any Loan made
to such  Borrower  is  irrevocably  paid in full,  and  until the  Facility  is
terminated,  such Borrower (for itself and on behalf of its  respective  Funds)
agrees:

               (a) Not to incur any indebtedness for borrowed money (other than
       pursuant  to the One Hundred  Million  Dollar  ($100,000,000)  committed
       Master Revolving Credit Facility with NationsBank, the Two Hundred Fifty
       Million Dollar ($250,000,000) committed Master Revolving Credit Facility
       with CAPCO and for  overdrafts  incurred at the  custodian  of the Funds
       from time to time in the normal  course of  business)  except the Loans,
       without the prior  written  consent of CAPCO,  which consent will not be
       unreasonably withheld; and

               (b) Not to  dissolve or  terminate  its  existence,  or merge or
       consolidate   with  any  other   person  or  entity,   or  sell  all  or
       substantially  all of its  assets in a single  transaction  or series of
       related  transactions  (other than assets  consisting of margin  stock),
       each without the prior written consent of CAPCO,  which consent will not
       be  unreasonably  withheld;  provided  that a Borrower  may without such
       consent merge,  consolidate  with, or purchase  substantially all of the
       assets of, or sell  substantially  all of its  assets to, an  affiliated
       investment  company or series thereof,  as provided for in Rule 17a-8 of
       the Investment Company Act of 1940.

       15. EVENTS OF DEFAULT. If any of the following events (each an "Event of
Default")  shall  occur  (it being  understood  that an Event of  Default  with
respect to one Fund or Borrower  shall not  constitute an Event of Default with
respect to any other Fund or Borrower):

               (a) Any  Borrower  or  Fund  shall  default  in the  payment  of
       principal or interest on any Loan or any other fee due  hereunder  for a
       period of five (5) days after the same

<PAGE>

       becomes due and  payable,  whether at  maturity  or with  respect to any
       Facility Fee at a date fixed for the payment thereof;

               (b) Any Borrower or Fund shall default in the  performance of or
       compliance with any term contained in Section 13 hereof and such default
       shall not have been  remedied  within  thirty  (30) days  after  written
       notice thereof shall have been given such Borrower or Fund by CAPCO;

               (c) Any Borrower or Fund shall default in the  performance of or
       compliance with any term contained in Section 14 hereof;

               (d) Any  Borrower or Fund shall  default in the  performance  or
       compliance  with any other term contained  herein and such default shall
       not have been  remedied  within  thirty (30) days after  written  notice
       thereof shall have been given such Borrower or Fund by CAPCO;

               (e) Any  representation  or warranty  made by a Borrower or Fund
       herein or pursuant hereto shall prove to have been false or incorrect in
       any material respect when made;

               (f) An event of default shall occur and be continuing  under any
       other facility;  then, in any event, and at any time thereafter,  if any
       Event of Default shall be continuing, CAPCO may by written notice to the
       applicable  Borrower or Fund (i)  terminate the Facility with respect to
       such  Borrower or Fund and (ii)  declare the  principal  and interest in
       respect of any outstanding  Loans with respect to such Borrower or Fund,
       and all other  amounts due  hereunder  with respect to such  Borrower or
       Fund,  to be  immediately  due and payable  whereupon  the principal and
       interest in respect  thereof and all other amounts due  hereunder  shall
       become forthwith due and payable without presentment, demand, protest or
       other  notice of any  kind,  all of which  are  expressly  waived by the
       Borrowers.

       16.  NEW  BORROWERS;  NEW  FUNDS.  So long as no  Event  of  Default  or
condition  which,  with the  passage of time or the giving of notice,  or both,
would  constitute or become an Event of Default has occurred and is continuing,
and with the prior  consent of CAPCO,  which  consent will not be  unreasonably
withheld:

               (a) Any investment  company that becomes part of the same "group
       of  investment  companies"  (as that term is defined in Rule 11a-3 under
       the  Investment  Company Act of 1940) as the original  Borrowers to this
       Agreement,  may, by  submitting  an amended  Schedule A and Exhibit B to
       this  Agreement to CAPCO (which  amended  Schedule A and Exhibit B shall
       replace the corresponding Schedule and Exhibit which are, then a part of
       this  Agreement)  and  such  other  documents  as CAPCO  may  reasonably
       request,  become a party to this  Agreement  and may become a "Borrower"
       hereunder; and

<PAGE>

               (b) A Borrower  may,  by  submitting  an amended  Schedule A and
       Exhibit B to this  Agreement  to CAPCO  (which  amended  Schedule  A and
       Exhibit B shall replace the corresponding Schedule and Exhibit which are
       then a part of this  Agreement),  add additional Funds for whose benefit
       such Borrower may borrow Loans.  No such amendment of Schedule A to this
       Agreement shall amend the Borrowing Limit applicable to any Fund without
       the prior approval of CAPCO.

       17. LIMITED  RECOURSE.  CAPCO agrees (i) that any claim,  liability,  or
obligation  arising  hereunder  or under the Note  whether  on  account  of the
principal of any Loan,  interest thereon,  or any other amount due hereunder or
thereunder  shall be satisfied  only from the assets of the  specific  Fund for
whose  benefit a Loan is  borrowed  and in any event in an amount not to exceed
the outstanding  principal amount of any Loan borrowed for such Fund's benefit,
together  with  accrued and unpaid  interest  due and owing  thereon,  and such
Fund's  share  of any  other  amount  due  hereunder  and  under  the  Note (as
determined in accordance with the provisions hereof) and (ii) that no assets of
any fund shall be used to satisfy any claim,  liability,  or obligation arising
hereunder or under the Note with respect to the outstanding principal amount of
any Loan  borrowed  for the benefit of any other Fund or any accrued and unpaid
interest  due and owing  thereon or such other Fund's share of any other amount
due  hereunder  and  under  the  Note (as  determined  in  accordance  with the
provisions hereof).

       18. REMEDIES ON DEFAULT. In case any one or more Events of Default shall
occur and be continuing, CAPCO may proceed to protect and enforce its rights by
an action at law, suit in equity or other appropriate proceedings,  against the
applicable  Borrower(s)  and/or  Fund(s),  as the case may be. In the case of a
default  in the  payment of any  principal  or  interest  on any Loan or in the
payment of any fee due hereunder,  the relevant  Fund(s) (to be allocated among
such Funds as the Borrowers deem  appropriate)  shall pay to CAPCO such further
amount as shall be  sufficient  to cover the cost and  expense  of  collection,
including, without limitation, reasonable attorney's fees and expenses.

       19. NO WAIVER OF  REMEDIES.  No course of dealing or failure or delay on
the part of CAPCO in exercising any right or remedy hereunder or under the Note
shall  constitute a waiver of any right or remedy  hereunder or under the Note,
nor shall any partial  exercise of any right or remedy  hereunder  or under the
Note preclude any further  exercise  thereof or the exercise of any other right
or remedy  hereunder  or under the Note.  Such  rights and  remedies  expressly
provided are cumulative and not exclusive of any rights or remedies which CAPCO
would otherwise have.

       20.  EXPENSES.  The  Fund(s)  (to be  allocated  among  the Funds as the
Borrowers deem  appropriate)  shall pay on demand all reasonable  out-of-pocket
costs and expenses (including reasonable attorney's fees and expenses) incurred
by  CAPCO  in  connection  with  the  collection  and  any  other   enforcement
proceedings of or regarding this Agreement, any Loan or the Note.

       21.  BENEFIT OF AGREEMENT.  This Agreement and the Note shall be binding
upon  and  inure  for  the  benefit  of and be  enforceable  by the  respective
successors  and assigns of the parties  hereto;  provided that no party to this
Agreement  or the Note may  assign any of its rights  hereunder  or  thereunder
without the prior written consent of the other parties.

<PAGE>

       22.  NOTICES.  All  notices  hereunder  and all  written,  facsimile  or
telecopied  confirmations  of Oral Requests made hereunder shall be sent to the
Borrowers as indicated on EXHIBIT B and to CAPCO as indicated on EXHIBIT C.

       23.  MODIFICATIONS.  No provision  of this  Agreement or the Note may be
waived,  modified  or  discharged  except by mutual  written  agreement  of all
parties. THIS WRITTEN LOAN AGREEMENT AND THE NOTE REPRESENT THE FINAL AGREEMENT
BETWEEN  THE  PARTIES  AND  MAY  NOT BE  CONTRADICTED  BY  EVIDENCE  OF  PRIOR,
CONTEMPORANEOUS  OR SUBSEQUENT  ORAL  AGREEMENTS  OF THE PARTIES.  THERE ARE NO
UNWRITTEN AGREEMENTS BETWEEN THE PARTIES.

       24. GOVERNING LAW AND JURISDICTION.  This Agreement shall be governed by
and construed in accordance  with the laws of the state of Texas without regard
to the choice of law provisions thereof.

       25. TRUST  DISCLAIMER.  Neither the  shareholders,  trustees,  officers,
employees and other agents of any Borrower or Fund shall be personally bound by
or liable for any indebtedness,  liability or obligation hereunder or under the
Note nor shall resort be had to their private  property for the satisfaction of
any obligation or claim hereunder.

If this letter  correctly  reflects your agreement with us, please execute both
copies hereof and return one to us,  whereupon this Agreement  shall be binding
upon the Borrowers, the Funds and CAPCO.

Sincerely,

USAA CAPITAL CORPORATION


By:      /S/ LAURIE B. BLANK
         ------------------------
         Laurie B. Blank
         Vice President-Treasurer

<PAGE>

AGREED AND ACCEPTED this 12th
Day of January, 1999.

USAA MUTUAL FUND, INC.,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:      /S/ MICHAEL J.C. ROTH
         ------------------------
         Michael J.C. Roth
         President


USAA INVESTMENT  TRUST,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:      /S/ MICHAEL J.C. ROTH
         ------------------------
         Michael J.C. Roth
         President


USAA TAX EXEMPT FUND,  INC.,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:      /S/ MICHAEL J.C. ROTH
         ------------------------
         Michael J.C. Roth
         President


USAA STATE  TAX-FREE  TRUST,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:      /S/ MICHAEL J.C. ROTH
         ------------------------
         Michael J.C. Roth
         President

<PAGE>

                                   SCHEDULE A
                                   ----------

                       FUNDS FOR WHOSE BENEFIT LOANS CAN
                      BE BORROWED UNDER FACILITY AGREEMENT

       BORROWER                      FUNDS                    BORROWING LIMIT
       --------                      -----                    ---------------

                                                           (Maximum  percent of
                                                           total  assets  which
                                                           can   be    borrowed
                                                           under  Facility  and
                                                           the        committed
                                                           facility with CAPCO)
USAA MUTUAL FUND, INC.       USAA Aggressive Growth        5% of Total Assets
                             USAA Growth & Income                    "
                             USAA Income Stock                       "
                             USAA Short-Term Bond                    "
                             USAA Money Market                       "
                             USAA Growth                             "
                             USAA Income                             "
                             USAA S&P 500 Index                      "
                             USAA Science & Technology               "
                             USAA First Start Growth                 "

USAA INVESTMENT TRUST        USAA Cornerstone Strategy               "
                             USAA Gold                               "
                             USAA International                      "
                             USAA World Growth                       "
                             USAA GNMA Trust                         "
                             USAA Treasury Money Market Trust        "
                             USAA Emerging Markets                   "
                             USAA Growth and Tax Strategy            "
                             USAA Balanced Strategy                  "
                             USAA Growth Strategy                    "
                             USAA Income Strategy                    "

USAA TAX EXEMPT FUND, INC.   USAA Long-Term                          "
                             USAA Intermediate-Term                  "
                             USAA Short-Term                         "
                             USAA Tax Exempt Money Market            "
                             USAA California Bond                    "
                             USAA California Money Market            "
                             USAA New York Bond                      "
                             USAA New York Money Market              "
                             USAA Virginia Bond                      "
                             USAA Virginia Money Market              "

USAA STATE TAX-FREE TRUST    USAA Florida Tax-Free Income            "
                             USAA Florida Tax-Free Money Market      "
                             USAA Texas Tax-Free Income              "
                             USAA Texas Tax-Free Money Market        "

<PAGE>

                                                                      EXHIBIT A
                                                                      ---------

                          MASTER GRID PROMISSORY NOTE


U.S. $500,000,000                                       Dated: January 12, 1999


       FOR VALUE  RECEIVED,  each of the  undersigned  (each a  "Borrower"  and
collectively the "Borrowers"),  severally and not jointly, on behalf of and for
the benefit of the series of funds  comprising  each such Borrower as listed on
Schedule A to the  Agreement as defined  below (each a "Fund" and  collectively
the "Funds") promises to pay to the order of USAA Capital Corporation ("CAPCO")
at CAPCO's  office  located at 9800  Fredericksburg  Road,  San Antonio,  Texas
78288,  in  lawful  money of the  United  States  of  America,  in  immediately
available  funds,  the  principal  amount  of all  Loans  made by CAPCO to such
Borrower for the benefit of the applicable  Funds under the Facility  Agreement
Letter dated January 12, 1999 (as amended or modified, the "Agreement"),  among
the  Borrowers and CAPCO,  together with interest  thereon at the rate or rates
set forth in the Agreement.  All payments of interest and principal outstanding
shall be made in accordance with the terms of the Agreement.

       This Note  evidences  Loans made  pursuant  to, and is  entitled  to the
benefits  of,  the  Agreement.  Terms not  defined in this Note shall be as set
forth in the Agreement.

       CAPCO is authorized to endorse the  particulars  of each Loan  evidenced
hereby  on  the  attached  Schedule  and  to  attach  additional  Schedules  as
necessary,  provided  that the failure of CAPCO to do so or to do so accurately
shall not affect the obligations of any Borrower (or the Fund for whose benefit
it is borrowing) hereunder.

       Each Borrower waives all claims to  presentment,  demand,  protest,  and
notice  of  dishonor.  Each  Borrower  agrees  to pay all  reasonable  costs of
collection,  including  reasonable  attorney's  fees  in  connection  with  the
enforcement of this Note.

       CAPCO hereby agrees (i) that any claim, liability, or obligation arising
hereunder  or under the  Agreement  whether on account of the  principal of any
Loan,  interest thereon,  or any other amount due hereunder or thereunder shall
be satisfied only from the assets of the specific Fund for whose benefit a Loan
is  borrowed  and in any  event in an  amount  not to  exceed  the  outstanding
principal  amount of any Loan borrowed for such Fund's  benefit,  together with
accrued and unpaid interest due and owing thereon, and such Fund's share of any
other amount due hereunder and under the Agreement (as determined in accordance
with the provisions of the Agreement) and (ii) that no assets of any Fund shall
be used to satisfy any claim,  liability,  or obligation  arising  hereunder or
under the Agreement  with respect to the  outstanding  principal  amount of any
Loan  borrowed  for the  benefit  of any other Fund or any  accrued  and unpaid
interest  due and owing  thereon or such other Fund's share of any other amount
due hereunder

<PAGE>
and under the  Agreement  (as  determined in accordance  with the provisions of
the Agreement).

       Neither the shareholders, trustees, officers, employees and other agents
of any  Borrower  or Fund  shall  be  personally  bound  by or  liable  for any
indebtedness,  liability  or  obligation  hereunder or under the Note nor shall
resort be had to their private  property for the satisfaction of any obligation
or claim hereunder.

       Loans under the Agreement and this Note are  subordinated  to loans made
under the  $100,000,000  364-day  committed  Mater  Revolving  Credit  Facility
Agreement  between the Borrowers and  NationsBank,  N.A.  (NationsBank),  dated
January 13,  1999,  in the manner and to the extent set forth in the  Agreement
among the Borrowers, CAPCO and NationsBank, dated January 13, 1999.

         This Note shall be governed by the laws of the state of Texas.

                                                  USAA MUTUAL FUND, INC.,
                                                  on  behalf  of  and  for  the
                                                  benefit   of  its  series  of
                                                  Funds   as   set   forth   on
                                                  Schedule A to the Agreement


                                                  By:  /S/ MICHAEL J.C. ROTH
                                                       ------------------------
                                                       Michael J.C. Roth
                                                       President


                                                  USAA INVESTMENT TRUST,
                                                  on  behalf  of  and  for  the
                                                  benefit   of  its  series  of
                                                  Funds   as   set   forth   on
                                                  Schedule A to the Agreement


                                                  By:  /S/ MICHAEL J.C. ROTH
                                                       ------------------------
                                                       Michael J.C. Roth
                                                       President

<PAGE>

                                                  USAA  TAX   EXEMPT   FUND,
                                                  INC.,  on  behalf  of and for
                                                  the  benefit of its series of
                                                  Funds   as   set   forth   on
                                                  Schedule A to the Agreement


                                                  By:  /S/ MICHAEL J.C. ROTH
                                                       ------------------------
                                                       Michael J.C. Roth
                                                       President


                                                  USAA STATE TAX-FREE TRUST,
                                                  on  behalf  of  and  for  the
                                                  benefit   of  its  series  of
                                                  Funds   as   set   forth   on
                                                  Schedule A to the Agreement


                                                  By:  /S/ MICHAEL J.C. ROTH
                                                       ------------------------
                                                       Michael J.C. Roth
                                                       President

<PAGE>

                         LOANS AND PAYMENT OF PRINCIPAL

This  schedule  (grid) is  attached to and made a part of the  Promissory  Note
dated January 12, 1999,  executed by USAA MUTUAL FUND,  INC.,  USAA  INVESTMENT
TRUST,  USAA TAX EXEMPT FUND,  INC. AND USAA STATE  TAX-FREE TRUST on behalf of
and for the  benefit  of the  series of funds  comprising  each  such  Borrower
payable to the order of USAA CAPITAL CORPORATION.

[GRID]
Date of Loan

Borrower
and Fund

Amount of
Loan

Type of Rate and
Interest Rate on Date
of Borrowing

Amount of
Principal Repaid

Date of
Repayment

Other
Expenses

Notation made
by

<PAGE>

                                                                      EXHIBIT B

                            USAA CAPITAL CORPORATION
                                MASTER REVOLVING
                           CREDIT FACILITY AGREEMENT
                           BORROWER INFORMATION SHEET


BORROWER:  USAA MUTUAL FUND, INC., USAA INVESTMENT TRUST, USAA TAX EXEMPT FUND,
           INC. AND USAA STATE TAX-FREE TRUST

ADDRESS FOR NOTICES AND OTHER COMMUNICATIONS TO THE BORROWER:

                           9800 Fredericksburg Road
                           San Antonio, Texas 78288 (For Federal Express,78240)
                           Attention:       John W. Saunders, Jr.
                                            Senior Vice President,
                                            Fixed Income Investments

                           Telephone:       (210) 498-7320
                           Telecopy:        (210) 498-5689

                                            David G. Peebles
                                            Senior Vice President,
                                            Equity Investments

                           Telephone:       (210) 498-7340
                           Telecopy:        (210) 498-2954

ADDRESS FOR BORROWING AND PAYMENTS:

                           9800 Fredericksburg Road
                           San Antonio, Texas 78288
                           Attention:       Caryl J. Swann

                           Telephone:       (210) 498-7303
                           Telecopy:        (210) 498-0382 or 498-7819
                           Telex:           767424

INSTRUCTIONS FOR PAYMENTS TO BORROWER:

WE PAY VIA:  __X__FED FUNDS   _____CHIPS

<PAGE>

TO:    (PLEASE  PLACE  BANK NAME,  CORRESPONDENT  NAME (IF  APPLICABLE),  CHIPS
       AND/OR FED FUNDS ACCOUNT NUMBER BELOW)

STATE STREET BANK AND TRUST COMPANY, BOSTON, MASSACHUSETTS
- ----------------------------------------------------------

ABA #011-00-0028
- ----------------

USAA MUTUAL FUND, INC.
======================

USAA AGGRESSIVE GROWTH FUND                 ACCT.# 6938-502-9
- -------------------------------------------------------------
USAA GROWTH & INCOME FUND                   ACCT.# 6938-519-3
- -------------------------------------------------------------
USAA INCOME STOCK FUND                      ACCT.# 6938-495-6
- -------------------------------------------------------------
USAA SHORT-TERM BOND FUND                   ACCT.# 6938-517-7
- -------------------------------------------------------------
USAA MONEY MARKET FUND                      ACCT.# 6938-498-0
- -------------------------------------------------------------
USAA GROWTH FUND                            ACCT.# 6938-490-7
- -------------------------------------------------------------
USAA INCOME FUND                            ACCT.# 6938-494-9
- -------------------------------------------------------------
USAA S&P 500 INDEX FUND                     ACCT.# 6938-478-2
- -------------------------------------------------------------
USAA SCIENCE & TECHNOLOGY FUND              ACCT.# 6938-515-1
- -------------------------------------------------------------
USAA FIRST START GROWTH FUND                ACCT.# 6938-468-3
- -------------------------------------------------------------

USAA INVESTMENT TRUST
=====================

USAA CORNERSTONE STRATEGY FUND              ACCT.# 6938-487-3
- -------------------------------------------------------------
USAA GOLD FUND                              ACCT.# 6938-488-1
- -------------------------------------------------------------
USAA INTERNATIONAL FUND                     ACCT.# 6938-497-2
- -------------------------------------------------------------
USAA WORLD GROWTH FUND                      ACCT.# 6938-504-5
- -------------------------------------------------------------
USAA GNMA TRUST                             ACCT.# 6938-486-5
- -------------------------------------------------------------

<PAGE>
- -------------------------------------------------------------
USAA TREASURY MONEY MARKET TRUST            ACCT.# 6938-493-1
- -------------------------------------------------------------
USAA EMERGING MARKETS FUND                  ACCT.# 6938-501-1
- -------------------------------------------------------------
USAA GROWTH AND TAX STRATEGY FUND           ACCT.# 6938-509-4
- -------------------------------------------------------------
USAA BALANCED STRATEGY FUND                 ACCT.# 6938-507-8
- -------------------------------------------------------------
USAA GROWTH STRATEGY FUND                   ACCT.# 6938-510-2
- -------------------------------------------------------------
USAA INCOME STRATEGY FUND                   ACCT.# 6938-508-6
- -------------------------------------------------------------

USAA TAX EXEMPT FUND, INC.
==========================

USAA LONG-TERM FUND                         ACCT.# 6938-492-3
- -------------------------------------------------------------
USAA INTERMEDIATE-TERM FUND                 ACCT.# 6938-496-4
- -------------------------------------------------------------
USAA SHORT-TERM FUND                        ACCT.# 6938-500-3
- -------------------------------------------------------------
USAA TAX EXEMPT MONEY MARKET FUND           ACCT.# 6938-514-4
- -------------------------------------------------------------
USAA CALIFORNIA BOND FUND                   ACCT.# 6938-489-9
- -------------------------------------------------------------
USAA CALIFORNIA MONEY MARKET FUND           ACCT.# 6938-491-5
- -------------------------------------------------------------
USAA NEW YORK BOND FUND                     ACCT.# 6938-503-7
- -------------------------------------------------------------
USAA NEW YORK MONEY MARKET FUND             ACCT.# 6938-511-0
- -------------------------------------------------------------
USAA VIRGINIA BOND FUND                     ACCT.# 6938-512-8
- -------------------------------------------------------------
USAA VIRGINIA MONEY MARKET FUND             ACCT.# 6938-513-6
- -------------------------------------------------------------

USAA STATE TAX-FREE TRUST
=========================

USAA FLORIDA TAX-FREE INCOME FUND           ACCT.# 6938-473-3
- -------------------------------------------------------------
USAA FLORIDA TAX-FREE MONEY MARKET FUND     ACCT.# 6938-467-5
- -------------------------------------------------------------
USAA TEXAS TAX-FREE INCOME FUND             ACCT.# 6938-602-7
- -------------------------------------------------------------
USAA TEXAS TAX-FREE MONEY MARKET FUND       ACCT.# 6938-601-9
- -------------------------------------------------------------

<PAGE>

                                                                      EXHIBIT C
                                                                      ---------

                      ADDRESS FOR USAA CAPITAL CORPORATION

                            USAA Capital Corporation
                            9800 Fredericksburg Road
                            San Antonio, Texas 78288

                            Attention:          Laurie B. Blank
                            Telephone No.:      (210) 498-0825
                            Telecopy No.:       (210) 498-6566

<PAGE>

                                                                      EXHIBIT D
                                                                      ---------
                             OFFICER'S CERTIFICATE
                             ---------------------

The undersigned  hereby certifies that he is the duly elected Secretary of USAA
Mutual Fund, Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc. and USAA
State Tax-Free  Trust and that he is authorized to execute this  Certificate on
behalf of USAA Mutual Fund, Inc., USAA Investment  Trust, USAA Tax Exempt Fund,
Inc. and USAA State Tax-Free Trust. The undersigned hereby further certifies to
the following:

The following  individuals  are duly authorized to act on behalf of USAA Mutual
Fund,  Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc. and USAA State
Tax-Free Trust, by transmitting telephonic, telex, or telecopy instructions and
other  communications  with regard to borrowing  and  payments  pursuant to the
uncommitted  Master Revolving  Credit Agreement with USAA Capital  Corporation.
The  signature  set  opposite  the  name  of  each  individual  below  is  that
individual's genuine signature.

         NAME                       OFFICE                     SIGNATURE
         ----                       ------                     ---------

Michael J.C. Roth          President                  /S/ MICHAEL J.C. ROTH
                                                      -------------------------

John W. Saunders, Jr.      Senior Vice President,
                           Fixed Income Investments   /S/ JOHN W. SAUNDERS, JR.
                                                      -------------------------

David G. Peebles           Senior Vice President,
                           Equity Investments         /S/ DAVID G. PEEBLES
                                                      -------------------------

Kenneth E. Willmann        Vice President,
                           Mutual Fund Portfolios     /S/ KENNETH E. WILLMANN
                                                      -------------------------

Sherron A. Kirk            Vice President,
                           Controller                 /S/ SHERRON A. KIRK
                                                      -------------------------

Caryl J. Swann             Executive Director,
                           Mutual Fund Analysis
                           and Support                /S/ CARYL J. SWANN
                                                      -------------------------

IN WITNESS  WHEREOF,  I have executed this  Certificate  as of this 12th day of
January, 1999.


                                                      /S/ MICHAEL D. WAGNER
                                                      -------------------------
                                                      Michael D. Wagner
                                                      Secretary

<PAGE>

I, Michael J.C.  Roth,  President of USAA Mutual Fund,  Inc.,  USAA  Investment
Trust,  USAA Tax Exempt Fund, Inc. And USAA State Tax-Free Trust hereby certify
that  Michael D. Wagner is, and has been at all times since a date prior to the
date of this Certificate,  the duly elected, qualified, and acting Secretary of
USAA Mutual Fund, Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc. And
USAA State  Tax-Free  Trust and that the  signature set forth above is his true
and correct signature.

DATE: January 12, 1999                                /S/ MICHAEL J.C. ROTH
                                                      -------------------------
                                                      Michael J.C. Roth
                                                      President
<PAGE>

                                 EXHIBIT 8(d)
<PAGE>


January 13, 1999

USAA Mutual Fund, Inc.,
USAA Investment Trust,
USAA Tax Exempt Fund, Inc., and USAA State Tax-Free Trust, on behalf of and for
the benefit of the series of funds  comprising  each such Borrower as set forth
on Schedule A hereto 9800 Fredericksburg Road San Antonio, Texas 78288

Attention:   Michael J.C. Roth, President

Gentlemen:

This  Facility  Agreement  Letter (this  "Agreement")  sets forth the terms and
conditions  for  loans  (each a "Loan"  and  collectively  the  "Loans")  which
NationsBank,  N.A.,  successor by merger to  NationsBank  of Texas,  N.A.  (the
"Bank"),  agrees to make  during the period  commencing  January  13,  1999 and
ending January 12, 2000 (the "Facility Period") to USAA Mutual Fund, Inc., USAA
Investment  Trust,  USAA Tax Exempt Fund,  Inc., and USAA State Tax-Free Trust,
and each  investment  company  which may become a party hereto  pursuant to the
terms of this Agreement (each a "Borrower" and collectively  the  "Borrowers"),
each of which is executing  this  Agreement on behalf of and for the benefit of
the series of funds  comprising  each such  Borrower as set forth on Schedule A
hereto (as hereafter  modified or amended in accordance  with the terms hereof)
(each a "Fund" and collectively  the "Funds"),  under a master revolving credit
facility (the "Facility"). This Agreement replaces in its entirety that certain
Facility  Agreement  Letter dated January 14, 1998,  as  heretofore  amended or
modified, between the Borrowers and the Bank. The Bank and the Borrowers hereby
agree as follows:

       1. AMOUNT.  The aggregate  principal  amount of the Loans to be advanced
under this Facility shall not exceed, at any one time outstanding,  One Hundred
Million  United States  Dollars (U.S.  $100,000,000)  (the  "Commitment").  The
aggregate principal amount of the Loans which may be borrowed by a Borrower for
the benefit of a particular  Fund under the  Facility and the Other  Facilities
(hereinafter  defined) shall not exceed the percentage (the "Borrowing  Limit")
of the total assets of such Fund as set forth on Schedule A hereto.

       2. PURPOSE AND  LIMITATIONS  ON  BORROWINGS.  Each Borrower will use the
proceeds of each Loan made to it solely for temporary or emergency  purposes of
the Fund for whose  benefit it is  borrowing  in  accordance  with such  Fund's
Borrowing  Limit and  prospectus in effect at the time of such Loan.  Portfolio
securities  may not be  purchased  by a Fund while there is a Loan  outstanding
under the Facility and/or a loan outstanding under the Other Facilities for the
benefit of such Fund, if the aggregate amount of such Loan and such other loans
exceed 5% of the total assets

<PAGE>

of such Fund. The Borrowers will not, and will not permit any Fund to, directly
or indirectly, use any proceeds of any Loan for any purpose which would violate
any provision of any  applicable  statute,  regulation,  order or  restriction,
including, without limitation,  Regulation U, Regulation T, Regulation X or any
other regulation of the Board of Governors of the Federal Reserve System or the
Securities  Exchange Act of 1934,  as amended.  If  requested by the Bank,  the
Borrowers  will promptly  furnish the Bank with a statement in conformity  with
the requirements of Federal Reserve Form U-1 as referred to in Regulation U.

       3.  BORROWING  RATE AND MATURITY OF LOANS.  The principal  amount of the
Loans  outstanding  from time to time shall bear  interest  at a rate per annum
equal to, at the option of the applicable Borrower(s), (i) the aggregate of the
Federal  Funds Rate (as defined  below) plus .28 of one percent  (1%) (28 basis
points) or (ii) the aggregate of the London Interbank  Offered Rate (as defined
below) plus 28 basis points.  The rate of interest  payable on such outstanding
amounts  shall  change on each date that the Federal  Funds Rate shall  change.
Interest  on the Loans shall be  calculated  on the basis of a year of 360 days
and the actual days elapsed but shall not exceed the highest lawful rate.  Each
Loan  will  be for an  established  number  of days  to be  agreed  upon by the
applicable Borrower(s) and the Bank and, in the absence of such agreement, will
mature on the earlier of three  months  after the date of such Loan or the last
day of the  Facility  Period.  The term  "Federal  Funds Rate," as used herein,
shall mean the overnight  rate for Federal funds  transactions  between  member
banks of the Federal Reserve  System,  as published by the Federal Reserve Bank
of New York or, if not so published, as determined in good faith by the Bank in
accordance with its customary practices; and the term "London Interbank Offered
Rate," as used  herein,  shall  mean the rate per annum  (rounded  upwards,  if
necessary,  to the nearest 1/100 of 1%) appearing on Telerate Page 3750 (or any
successor page) as the London interbank offered rate for deposits in Dollars at
approximately  11:00 a.m.  London time two business days prior to the first day
of the interest period (of 7 or 14 days or one, two or three months as selected
by the  Borrower(s))  for which the London  Interbank  Offered Rate is to be in
effect,  as  adjusted  by the Bank in good  faith  and in  accordance  with its
customary  practices  for any reserve  costs  imposed on the Bank under Federal
Reserve Board  Regulation D with respect to  "Euro-currency  Liabilities".  The
London Interbank  Offered Rate shall not be available  hereunder if it would be
unlawful  for the Bank to make or maintain  Loans based on such rate or if such
rate does not, in the good faith judgment of the Bank,  fairly reflect the cost
to the Bank of making or maintaining  Loans. The London Interbank  Offered Rate
shall  not be  available  for any  interest  period  which,  if such  rate were
available,  would begin after the occurrence and during the  continuation of an
Event of Default (as defined  below).  Any past due  principal  and/or  accrued
interest  shall bear interest at a rate per annum equal to the aggregate of the
Federal Funds Rate plus 1.125 percent (112.5 basis points) and shall be payable
on demand.  If the applicable  Borrowers do not  affirmatively  elect to have a
Loan or Loans bear interest based on the London Interbank Offered Rate at least
two  business  days  prior  to the  first  day of a  possible  interest  period
applicable thereto, such Loan or Loans shall bear interest based on the Federal
Funds Rate until such election is affirmatively made.

       4. ADVANCES, PAYMENTS,  PREPAYMENTS AND READVANCES. Upon each Borrower's
request,  and subject to the terms and conditions  contained  herein,  the Bank
shall  make  Loans to each  Borrower  on behalf of and for the  benefit  of its
respective  Fund(s) during the Facility  Period,  and each Borrower may borrow,
repay and reborrow funds hereunder. The Loans shall be

<PAGE>

evidenced by a dulyexecuted  and delivered  Master Grid  Promissory Note in the
form of EXHIBIT A. Each Loan shall be in an aggregate  amount not less than One
Hundred  Thousand  United States Dollars (U.S.  $100,000) and increments of One
Thousand  United States  Dollars (U.S.  $1,000) in excess  thereof.  Payment of
principal  and  interest  due with respect to each Loan shall be payable at the
maturity of such Loan and shall be made in funds  immediately  available to the
Bank prior to 2 p.m. Dallas time on the day such payment is due, or as the Bank
shall  otherwise  direct  from  time to time  and,  subject  to the  terms  and
conditions  hereof,  may  be  repaid  with  the  proceeds  of a  new  borrowing
hereunder. Notwithstanding any provision of this Agreement to the contrary, all
Loans, accrued but unpaid interest and other amounts payable hereunder shall be
due and payable upon  termination of the Facility  (whether by  acceleration or
otherwise).  If any Loan bearing interest based on the London Interbank Offered
Rate is repaid or  prepaid  other  than on the last day of an  interest  period
applicable thereto, the Fund which is the beneficiary of such Loan shall pay to
the Bank promptly upon demand such amount as the Bank  determines in good faith
is necessary to compensate the Bank for any reasonable cost or expense incurred
by the Bank as a result of such repayment or prepayment in connection  with the
reemployment  of funds in an  amount  equal to such  repayment  or  prepayment.
Whenever  the Bank seeks to assess for any such cost or expense it will provide
a certificate as the Borrower(s) shall reasonably request.

       5. FACILITY  FEE.  Beginning  with the date of this  Agreement and until
such time as all Loans have been  irrevocably  repaid to the Bank in full,  and
the Bank is no longer obligated to make Loans, the Funds (to be allocated among
the Funds as the Borrowers deem  appropriate)  shall pay to the Bank a facility
fee (the  "Facility  Fee") in the amount of .07 of one percent (7 basis points)
of the amount of the  Commitment,  as it may be reduced  pursuant to section 6.
The Facility  Fee shall be payable  quarterly  in arrears  beginning  March 31,
1999,  and  upon  termination  of the  Facility  (whether  by  acceleration  or
otherwise).

       6. OPTIONAL TERMINATION OR REDUCTION OF COMMITMENT.  The Borrowers shall
have the right upon at least three (3) business  days prior  written  notice to
the Bank, to terminate or reduce the unused portion of the Commitment. Any such
reduction  of the  Commitment  shall be in the  amount of Five  Million  United
States Dollars (U.S. $5,000,000) or any larger integral multiple of One Million
United States  Dollars (U.S.  $1,000,000)  (except that any reduction may be in
the aggregate  amount of the unused  Commitment).  Accrued fees with respect to
the terminated Commitment shall be payable to the Bank on the effective date of
such termination.

       7.   MANDATORY   TERMINATION  OF   COMMITMENT.   The  Commitment   shall
automatically  terminate on the last day of the  Facility  Period and any Loans
then outstanding  (together with accrued interest thereon and any other amounts
owing hereunder) shall be due and payable on such date.

       8.  COMMITTED  FACILITY.  The Bank  acknowledges  that the Facility is a
committed  facility  and  that the Bank  shall  be  obligated  to make any Loan
requested during the Facility Period under this Agreement, subject to the terms
and conditions hereof; provided,  however, that the Bank shall not be obligated
to make any Loan if this Facility has been  terminated by the Borrowers,  or if
at the time of a request for a Loan by a Borrower (on behalf of the  applicable
Fund(s)) there exists any Event of Default or condition which, with the passage
of time or giving of notice, or both, would

<PAGE>

constitute or become an Event of Default with respect to such Borrower (or such
applicable Fund(s)).

       9. LOAN  REQUESTS.  Each request for a Loan (each a "Borrowing  Notice")
shall be in writing by the applicable Borrower(s), except that such Borrower(s)
may make an oral  request  (each an "Oral  Request")  provided  that  each Oral
Request  shall be followed by a written  Borrowing  Notice  within one business
day. Each Borrowing  Notice shall specify the following  terms ("Terms") of the
requested  Loan:  (i) the date on which such Loan is to be disbursed,  (ii) the
principal amount of such Loan,  (iii) the Borrower(s)  which are borrowing such
Loan and the  amount of such Loan to be  borrowed  by each  Borrower,  (iv) the
Funds for whose  benefit the Loan is being  borrowed and the amount of the Loan
which is for the benefit of each such Fund,  (v)  whether  such Loan shall bear
interest at the Federal Funds Rate or the London  Interbank  Offered Rate,  and
(vi) the requested  maturity date of the Loan. Each Borrowing Notice shall also
set forth the total assets of each Fund for whose benefit a portion of the Loan
is being borrowed as of the close of business on the day immediately  preceding
the date of such Borrowing Notice.  Borrowing Notices shall be delivered to the
Bank by 1:00 p.m.  Dallas time on the day the Loan is  requested  to be made if
such Loan is to bear interest  based on the Federal Funds Rate or by 10:00 a.m.
Dallas time on the second  business day before the Loan is requested to be made
if such Loan is to bear interest based on the London Interbank Offered Rate.

Each  Borrowing  Notice shall  constitute a  representation  to the Bank by the
applicable  Borrower(s)  that  all of the  representations  and  warranties  in
Section  12 hereof  are true and  correct  as of such date and that no Event of
Default or other  condition which with the passage of time or giving of notice,
or both, would result in an Event of Default, has occurred or is occurring.

       10.  CONFIRMATIONS;  CREDITING  OF FUNDS;  RELIANCE  BY THE  BANK.  Upon
receipt by the Bank of a Borrowing Notice:

               (a)  The  Bank  shall  send  each  applicable  Borrower  written
       confirmation  of the Terms of such Loan via  facsimile or  telecopy,  as
       soon as reasonably practicable;  provided,  however, that the failure to
       do so shall not affect the obligation of any such Borrower;

               (b) The Bank shall make such Loan in  accordance  with the Terms
       by transfer of the Loan amount in immediately  available  funds,  to the
       account of the applicable  Borrower(s) as specified in EXHIBIT B to this
       Agreement or as such Borrower(s)  shall otherwise specify to the Bank in
       a writing signed by an Authorized  Individual (as defined in Section 11)
       of such Borrower(s) and sent to the Bank via facsimile or telecopy; and

               (c) The Bank shall make  appropriate  entries on the Note or the
       records of the Bank to reflect the Terms of the Loan; provided, however,
       that the  failure  to do so  shall  not  affect  the  obligation  of any
       Borrower.

The Bank shall be entitled to rely upon and act hereunder  pursuant to any Oral
Request  which it  reasonably  believes  to have  been  made by the  applicable
Borrower through an Authorized  Individual.  If any Borrower  believes that the
confirmation relating to any Loan contains any error

<PAGE>

or discrepancy  from the applicable  Oral Request,  such Borrower will promptly
notify the Bank thereof.

       11.  BORROWING  RESOLUTIONS  AND OFFICERS'  CERTIFICATES;  SUBORDINATION
AGREEMENT.  Prior to the making of any Loan  pursuant  to this  Agreement,  the
Borrowers  shall have  delivered to the Bank (a) the duly  executed  Note,  (b)
resolutions of each Borrower's Trustees or Board of Directors  authorizing such
Borrower to execute,  deliver and perform this Agreement and the Note on behalf
of the applicable Funds, (c) an Officer's Certificate in substantially the form
set  forth in  EXHIBIT D to this  Agreement,  authorizing  certain  individuals
("Authorized  Individuals"),  to take on behalf of each  Borrower (on behalf of
the applicable Funds) actions  contemplated by this Agreement and the Note, (d)
a subordination  agreement in substantially  the form set forth in EXHIBIT E to
this Agreement,  and (e) the opinion of counsel to USAA  Investment  Management
Company, manager and advisor to the Borrowers,  with respect to such matters as
the Bank may reasonably request.

       12. REPRESENTATIONS AND WARRANTIES. In order to induce the Bank to enter
into this Agreement and to make the Loans provided for hereunder, each Borrower
hereby  makes with  respect to itself,  and as may be  relevant,  the series of
Funds  comprising such Borrower the following  representations  and warranties,
which shall survive the execution and delivery hereof and of the Note:

               (a) ORGANIZATION;  STANDING,  ETC. The Borrower is a corporation
       or trust duly organized,  validly  existing,  and in good standing under
       applicable state laws and has all requisite corporate or trust power and
       authority to carry on its  respective  businesses  as now  conducted and
       proposed to be  conducted,  to enter into this  Agreement  and all other
       documents  to be  executed  by it in  connection  with the  transactions
       contemplated hereby, to issue and borrow under the Note and to carry out
       the terms hereof and thereof;

               (b)  FINANCIAL  INFORMATION;  DISCLOSURE,  ETC. The Borrower has
       furnished  the Bank with certain  financial  statements of such Borrower
       with  respect  to itself  and the  applicable  Funds,  all of which such
       financial  statements  have been prepared in accordance  with  generally
       accepted accounting  principles applied on a consistent basis and fairly
       present  the  financial  position  and  results  of  operations  of such
       Borrower  and the  applicable  Funds on the  dates  and for the  periods
       indicated. Neither this Agreement nor any financial statements,  reports
       or  other  documents  or  certificates  furnished  to the  Bank  by such
       Borrower or the  applicable  Funds in connection  with the  transactions
       contemplated  hereby contain any untrue  statement of a material fact or
       omit to  state  any  material  fact  necessary  to make  the  statements
       contained herein or therein in light of the circumstances  when made not
       misleading;

               (c)  AUTHORIZATION;   COMPLIANCE  WITH  OTHER  INSTRUMENTS.  The
       execution,  delivery and performance of this Agreement and the Note, and
       borrowings  hereunder,  have  been  duly  authorized  by  all  necessary
       corporate  or trust  action of the  Borrower  and will not result in any
       violation of or be in conflict  with or  constitute a default  under any
       term of the charter,  by-laws or trust agreement of such Borrower or the
       applicable  Funds,  or of any  borrowing  restrictions  or prospectus or
       statement of additional information of such Borrower

<PAGE>

       or the  applicable  Funds,  or of any agreement,  instrument,  judgment,
       decree, order,  statute,  rule or governmental  regulation applicable to
       such Borrower,  or result in the creation of any mortgage,  lien, charge
       or encumbrance  upon any of the properties or assets of such Borrower or
       the  applicable  Funds  pursuant to any such term.  The Borrower and the
       applicable  Funds are not in violation  of any term of their  respective
       charter,   by-laws  or  trust  agreement,  and  such  Borrower  and  the
       applicable  Funds  are  not in  violation  of any  material  term of any
       agreement  or  instrument  to which they are a party,  or to the best of
       such Borrower's knowledge, of any judgment, decree, order, statute, rule
       or governmental regulation applicable to them;

               (d) SEC COMPLIANCE. The Borrower and the applicable Funds are in
       compliance  in  all  material   respects  with  all  federal  and  state
       securities  or similar  laws and  regulations,  including  all  material
       rules,  regulations  and  administrative  orders of the  Securities  and
       Exchange Commission (the "SEC") and applicable Blue Sky authorities. The
       Borrower  and the  applicable  Funds are in  compliance  in all material
       respects  with all of the  provisions of the  Investment  Company Act of
       1940,  and such  Borrower  has filed all  reports  with the SEC that are
       required of it or the applicable Funds;

               (e) LITIGATION.  There is no action,  suit or proceeding pending
       or, to the best of the  Borrower's  knowledge,  threatened  against such
       Borrower or the  applicable  Funds in any court or before any arbitrator
       or  governmental  body which seeks to restrain  any of the  transactions
       contemplated by this Agreement or which, if adversely determined,  could
       have a material  adverse effect on the assets or business  operations of
       such  Borrower or the  applicable  Funds or the ability of such Borrower
       and the applicable Funds to pay and perform their obligations  hereunder
       and under the Notes;

               (f) BORROWERS'  RELATIONSHIP  TO FUNDS.  The assets of each Fund
       for whose  benefit  Loans are  borrowed by the  applicable  Borrower are
       subject to and liable for such Loans and are available to the applicable
       Borrower for the repayment of such Loans; and

               (g) YEAR 2000  PREPAREDNESS.  The Borrower  has (i)  initiated a
       review and  assessment  of all areas within its business and  operations
       (including  those  affected by suppliers,  vendors and  customers)  that
       could be  adversely  affected by the "Year 2000  Problem"  (that is, the
       risk that computer  applications  used by such Borrower may be unable to
       recognize  and  perform  properly  date-sensitive   functions  involving
       certain  dates  prior to and any date after  December  31,  1999),  (ii)
       developed a plan and timeline for  addressing the Year 2000 Problem on a
       timely  basis,  and (iii) to date,  implemented  that plan in accordance
       with that timetable.  Based on the foregoing,  such Borrower  reasonably
       believes  that  all  computer  applications  that  are  material  to its
       business and operations are reasonably  expected on a timely basis to be
       able to perform properly  date-sensitive  functions for all dates before
       and after January 1, 2000 (that is, be "Year 2000 compliant"), except to
       the extent that a failure to do so could not  reasonably  be expected to
       have a material  adverse effect on the assets or business  operations of
       such  Borrower or the  applicable  Funds or the ability of such Borrower
       and the applicable Funds to pay and perform their obligations  hereunder
       and under the Note.

<PAGE>

       13.  AFFIRMATIVE  COVENANTS  OF THE  BORROWERS.  Until  such time as all
amounts of principal and interest due to the Bank by a Borrower pursuant to any
Loan made to such Borrower is  irrevocably  paid in full, and until the Bank is
no longer  obligated to make Loans to such Borrower,  such Borrower (for itself
and on behalf of its respective Funds) agrees:

               (a) To deliver to the Bank as soon as possible  and in any event
       within  ninety  (90)  days  after  the end of each  fiscal  year of such
       Borrower and the applicable Funds, Statements of Assets and Liabilities,
       Statements of Operations and Statements of Changes in Net Assets of each
       applicable  Fund for such fiscal year,  as set forth in each  applicable
       Fund's Annual Report to shareholders  together with a calculation of the
       maximum  amount  which  each  applicable  Fund  could  borrow  under its
       Borrowing Limit as of the end of such fiscal year;

               (b) To deliver to the Bank as soon as available and in any event
       within seventy-five (75) days after the end of each semiannual period of
       such  Borrower  and the  applicable  Funds,  Statements  of  Assets  and
       Liabilities,  Statements of Operations  and Statements of Changes in Net
       Assets of each applicable Fund as of the end of such semiannual  period,
       as  set  forth  in  each   applicable   Fund's   Semiannual   Report  to
       shareholders,  together with a calculation  of the maximum  amount which
       each  applicable  Fund could borrow under its Borrowing Limit at the end
       of such semiannual period;

               (c) To deliver to the Bank prompt  notice of the  occurrence  of
       any event or condition which  constitutes,  or is likely to result in, a
       change in such Borrower or any applicable Fund which could reasonably be
       expected to materially  adversely  affect the ability of any  applicable
       Fund to  promptly  repay  outstanding  Loans made for its benefit or the
       ability of such Borrower to perform its obligations under this Agreement
       or the Note;

               (d) To do, or cause to be done, all things necessary to preserve
       and keep in full force and effect the  corporate  or trust  existence of
       such Borrower and all permits,  rights and privileges  necessary for the
       conduct of its  businesses  and to comply in all material  respects with
       all  applicable  laws,   regulations  and  orders,   including   without
       limitation, all rules and regulations promulgated by the SEC;

               (e) To promptly  notify the Bank of any  litigation,  threatened
       legal  proceeding or  investigation  by a governmental  authority  which
       could  materially  affect the ability of such Borrower or the applicable
       Funds to promptly repay the outstanding Loans or otherwise perform their
       obligations hereunder;

               (f) In the event a Loan for the benefit of a particular  Fund is
       not  repaid in full  within 10 days after the date it is  borrowed,  and
       until such Loan is repaid in full,  to  deliver to the Bank,  within two
       business  days  after  each  Friday  occurring  after  such 10th day,  a
       statement setting forth the total assets of such Fund as of the close of
       business on each such Friday; and

               (g) Upon the request of the Bank,  which may be made by the Bank
       from  time to time in the  event the Bank in good  faith  believes  that
       there has been a material adverse

<PAGE>

       change in the capital markets generally,  to deliver to the Bank, within
       two business  days after such  request,  a statement  setting  forth the
       total assets of each Fund for whose benefit a Loan is outstanding on the
       date of such request.

       14. NEGATIVE COVENANTS OF THE BORROWERS.  Until such time as all amounts
of principal  and  interest due to the Bank by a Borrower  pursuant to any Loan
made to such  Borrower is  irrevocably  paid in full,  and until the Bank is no
longer obligated to make Loans to such Borrower,  such Borrower (for itself and
on behalf of its respective Funds) agrees:

               (a) Not to incur any indebtedness for borrowed money (other than
       pursuant  to  a  Five  Hundred   Million   United  States  Dollar  (U.S.
       $500,000,000)  uncommitted  master  revolving  credit facility and a Two
       Hundred Fifty Million United States Dollar (U.S. $250,000,000) Committed
       Master  Revolving  Credit  Facility with USAA Capital  Corporation  (the
       "Other  Facilities")  and  overdrafts  incurred at the  custodian of the
       Funds from time to time in the ordinary  course of business)  except the
       Loans, without the prior written consent of the Bank, which consent will
       not be unreasonably withheld; and

               (b) Not to  dissolve or  terminate  its  existence,  or merge or
       consolidate   with  any  other   person  or  entity,   or  sell  all  or
       substantially  all of its  assets in a single  transaction  or series of
       related  transactions  (other than assets  consisting of margin  stock),
       each without the prior written  consent of the Bank,  which consent will
       not be unreasonably withheld;  provided that a Borrower may without such
       consent merge,  consolidate  with, or purchase  substantially all of the
       assets of, or sell  substantially  all of its  assets to, an  affiliated
       investment  company or series thereof,  as provided for in Rule 17a-8 of
       the Investment Company Act of 1940.

       15. EVENTS OF DEFAULT. If any of the following events (each an "Event of
Default")  shall  occur  (it being  understood  that an Event of  Default  with
respect to one Fund or Borrower  shall not  constitute an Event of Default with
respect to any other Fund or Borrower):

               (a) Any  Borrower  or  Fund  shall  default  in the  payment  of
       principal or interest on any Loan or any other fee due  hereunder  for a
       period of five (5) days after the same becomes due and payable,  whether
       at maturity or with  respect to the Facility Fee at a date fixed for the
       payment thereof;

               (b) Any Borrower or Fund shall default in the  performance of or
       compliance with any term contained in Section 13 hereof and such default
       shall not have been  remedied  within  thirty  (30) days  after  written
       notice thereof shall have been given such Borrower or Fund by the Bank;

               (c) Any Borrower or Fund shall default in the  performance of or
       compliance with any term contained in Section 14 hereof;

               (d) Any  Borrower or Fund shall  default in the  performance  or
       compliance  with any other term contained  herein and such default shall
       not have been  remedied  within  thirty (30) days after  written  notice
       thereof shall have been given such Borrower or Fund by the Bank;

<PAGE>

               (e) Any  representation  or warranty  made by a Borrower or Fund
       herein or pursuant hereto shall prove to have been false or incorrect in
       any material respect when made;

               (f) USAA Investment  Management Company or any successor manager
       or investment  adviser,  provided that such  successor is a wholly-owned
       subsidiary  of USAA Capital  Corporation,  shall cease to be the Manager
       and investment advisor of each Fund; or

               (g) An event of default shall occur and be continuing  under the
       Other Facilities; then, in any event, and at any time thereafter, if any
       Event of Default shall be continuing,  the Bank may by written notice to
       the applicable Borrower or Fund (i) terminate its commitment to make any
       Loan  hereunder,  whereupon said commitment  shall  forthwith  terminate
       without any other  notice of any kind with  respect to such  Borrower or
       Fund and (ii)  declare  the  principal  and  interest  in respect of any
       outstanding  Loans with respect to such Borrower or Fund,  and all other
       amounts due  hereunder  with  respect to such  Borrower  or Fund,  to be
       immediately  due and payable  whereupon  the  principal  and interest in
       respect  thereof  and all  other  amounts  due  hereunder  shall  become
       forthwith due and payable without presentment,  demand, protest or other
       notice of any kind, all of which are expressly waived by the Borrowers.

       16.  NEW  BORROWERS;  NEW  FUNDS.  So long as no  Event  of  Default  or
condition  which,  with the  passage of time or the giving of notice,  or both,
would  constitute or become an Event of Default has occurred and is continuing,
and with the prior consent of the Bank,  which consent will not be unreasonably
withheld:

                (a) Any investment company that becomes part of the same "group
       of  investment  companies"  (as that term is defined in Rule 11a-3 under
       the  Investment  Company Act of 1940) as the original  Borrowers to this
       Agreement,  may, by  submitting  an amended  Schedule A and Exhibit B to
       this Agreement to the Bank (which amended Schedule A and Exhibit B shall
       replace  the  Schedule  A and  Exhibit  B which  are then a part of this
       Agreement) and such other documents as the Bank may reasonably  request,
       become a party to this Agreement and may become a "Borrower"  hereunder;
       and

                (b) A Borrower  may, by  submitting  an amended  Schedule A and
       Exhibit B to this  Agreement to the Bank (which  amended  Schedule A and
       Exhibit B shall  replace  the  Schedule A and Exhibit B which are then a
       part of this  Agreement),  add  additional  Funds for whose benefit such
       Borrower  may borrow  Loans.  No such  amendment  of  Schedule A to this
       Agreement shall amend the Borrowing Limit applicable to any Fund without
       the prior consent of the Bank.

       17. LIMITED RECOURSE. The Bank agrees (i) that any claim,  liability, or
obligation  arising  hereunder  or under the Note  whether  on  account  of the
principal of any Loan,  interest thereon,  or any other amount due hereunder or
thereunder  shall be satisfied  only from the assets of the  specific  Fund for
whose  benefit a Loan is  borrowed  and in any event in an amount not to exceed
the outstanding  principal amount of any Loan borrowed for such Fund's benefit,
together  with  accrued and unpaid  interest  due and owing  thereon,  and such
Fund's  share  of any  other  amount  due  hereunder  and  under  the  Note (as
determined in accordance with the provisions hereof) and (ii) that

<PAGE>

no  assets  of any Fund  shall be used to  satisfy  any  claim,  liability,  or
obligation  arising hereunder or under the Note with respect to the outstanding
principal  amount of any Loan borrowed for the benefit of any other Fund or any
accrued and unpaid interest due and owing thereon or such other Fund's share of
any other amount due hereunder and under the Note (as  determined in accordance
with the provisions hereof).

       18. REMEDIES ON DEFAULT. In case any one or more Events of Default shall
occur and be continuing, the Bank may proceed to protect and enforce its rights
by an action at law, suit in equity or other appropriate  proceedings,  against
the applicable Borrower(s) and/or Fund(s), as the case may be. In the case of a
default  in the  payment of any  principal  or  interest  on any Loan or in the
payment of any fee due hereunder,  the relevant  Fund(s) (to be allocated among
such  Funds as the  Borrowers  deem  appropriate)  shall  pay to the Bank  such
further  amount  as  shall be  sufficient  to cover  the  cost and  expense  of
collection,  including,  without  limitation,  reasonable  attorney's  fees and
expenses.

       19. NO WAIVER OF  REMEDIES.  No course of dealing or failure or delay on
the part of the Bank in exercising  any right or remedy  hereunder or under the
Note shall  constitute  a waiver of any right or remedy  hereunder or under the
Note, nor shall any partial  exercise of any right or remedy hereunder or under
the Note  preclude  any further  exercise  thereof or the exercise of any other
right or remedy hereunder or under the Note. Such rights and remedies expressly
provided are  cumulative  and not exclusive of any rights or remedies which the
Bank would otherwise have.

       20.  EXPENSES.  The  Fund(s)  (to be  allocated  among  the Funds as the
Borrowers deem  appropriate)  shall pay on demand all reasonable  out-of-pocket
costs and expenses (including reasonable attorney's fees and expenses) incurred
by the  Bank in  connection  with  the  collection  and any  other  enforcement
proceedings of or regarding this Agreement, any Loan or the Note.

       21.  BENEFIT OF AGREEMENT.  This Agreement and the Note shall be binding
upon  and  inure  for  the  benefit  of and be  enforceable  by the  respective
successors  and assigns of the parties  hereto;  provided that no party to this
Agreement  or the Note may  assign any of its rights  hereunder  or  thereunder
without the prior written  consent of the other parties.  The Bank may not sell
participations  and  subparticipations  in all or any  part of the  Loans  made
hereunder  without the prior consent of the Borrowers,  which consent shall not
be unreasonably withheld.

       22.  NOTICES.  All notices  hereunder  and all  written,  facsimiled  or
telecopied  confirmations  of Oral Requests made hereunder shall be sent to the
Borrowers  as indicated on EXHIBIT B and to the Bank as indicated on EXHIBIT C.
Written  communications  shall be deemed  to have  been duly  given and made as
follows: If sent by mail, seventy-two (72) hours after deposit in the mail with
first-class postage prepaid, addressed as provided in EXHIBIT B (the Borrowers)
and EXHIBIT C (the Bank);  and in the case of facsimile  or telecopy,  when the
facsimile or telecopy is received if on a business day or otherwise on the next
business day.

       23.  MODIFICATIONS.  No provision  of this  Agreement or the Note may be
waived,  modified  or  discharged  except by mutual  written  agreement  of all
parties. THIS WRITTEN LOAN AGREEMENT AND THE NOTE REPRESENT THE FINAL AGREEMENT
BETWEEN THE

<PAGE>

PARTIES AND MAY NOT BE  CONTRADICTED BY EVIDENCE OF PRIOR,  CONTEMPORANEOUS  OR
SUBSEQUENT  ORAL AGREEMENTS OF THE PARTIES.  THERE ARE NO UNWRITTEN  AGREEMENTS
BETWEEN THE PARTIES.

       24.  INCREASED  COST AND REDUCED  RETURN.  If at any time after the date
hereof,  the Bank (which  shall  include,  for  purposes of this  Section,  any
corporation  controlling the Bank) determines that the adoption or modification
of any applicable law regarding the Bank's required  levels of reserves,  other
than the reserve  requirement  taken into  account  when  computing  the London
Interbank  Offered  Rate as  provided in Section 3, or capital  (including  any
allocation of capital requirements or conditions), or similar requirements,  or
any  interpretation  or  administration  thereof  by  a  governmental  body  or
compliance  by the Bank with any of such  requirements,  has or would  have the
effect of (a)  increasing  the  Bank's  costs  relating  to the  Loans,  or (b)
reducing the yield or rate of return of the Bank on the Loans, to a level below
that which the Bank could have achieved but for the adoption or modification of
any such  requirements,  the  Funds  (to be  allocated  among  the Funds as the
Borrowers deem appropriate)  shall,  within fifteen (15) days of any request by
the Bank,  pay to the Bank  such  additional  amounts  as (in the  Bank's  sole
judgment, after good faith and reasonable computation) will compensate the Bank
for such increase in costs or reduction in yield or rate of return of the Bank.
Whenever  the  Bank  shall  seek  compensation  for any  increase  in  costs or
reduction in yield or rate of return,  the Bank shall provide a certificate  as
the Borrower(s) shall reasonably request. Failure by the Bank to demand payment
within 90 days of any additional  amounts payable  hereunder shall constitute a
waiver of the Bank's right to demand  payment of such amounts at any subsequent
time.  Nothing herein  contained shall be construed or so operate as to require
the Borrowers or the Funds to pay any interest,  fees, costs or charges greater
than is permitted by applicable law.

       25. GOVERNING LAW AND JURISDICTION.  This Agreement shall be governed by
and construed in accordance  with the laws of the state of Texas without regard
to the choice of law provisions thereof.

       26. TRUST  DISCLAIMER.  Neither the  shareholders,  trustees,  officers,
employees and other agents of any Borrower or Fund shall be personally bound by
or liable for any indebtedness,  liability or obligation hereunder or under the
Note nor shall resort be had to their private  property for the satisfaction of
any  obligation  or claim  hereunder.  If this letter  correctly  reflects your
agreement  with us,  please  execute  both copies  hereof and return one to us,
whereupon this Agreement shall be binding upon the Borrowers, the Funds and the
Bank.

Sincerely,

NATIONSBANK, N.A.


By:    /S/ JOAN D'AMICO
       ------------------------
       Joan D'Amico
       Vice President

<PAGE>

AGREED AND ACCEPTED:


USAA MUTUAL FUND, INC.,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:    /S/ MICHAEL J.C. ROTH
       ------------------------
       Michael J.C. Roth
       President


USAA INVESTMENT  TRUST,
on behalf of and for the benefit
of its series of Funds as set forth
 on Schedule A to this Agreement


By:    /S/ MICHAEL J.C. ROTH
       ------------------------
       Michael J.C. Roth
       President


USAA TAX EXEMPT FUND,  INC.,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:    /S/ MICHAEL J.C. ROTH
       ------------------------
       Michael J.C. Roth
       President


USAA STATE  TAX-FREE  TRUST,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:    /S/ MICHAEL J.C. ROTH
       ------------------------
       Michael J.C. Roth
       President

<PAGE>

                                                                     SCHEDULE A

                       FUNDS FOR WHOSE BENEFIT LOANS CAN
                      BE BORROWED UNDER FACILITY AGREEMENT
                              AND BORROWING LIMIT

                                                         Maximum Percent of the
                                                         Total Assets Which Can
                                                     Be Borrowed Under Facility
      BORROWER                     FUNDS         AGREEMENT AND OTHER FACILITIES
      --------                     -----         ------------------------------

USAA MUTUAL FUND, INC.      USAA Aggressive Growth                25%
                            USAA Growth & Income                  25
                            USAA Income Stock                     25
                            USAA Short-Term Bond                  25
                            USAA Money Market                     25
                            USAA Growth                           25
                            USAA Income                           25
                            USAA S&P 500 Index                    25
                            USAA Science & Technology             25
                            USAA First Start Growth               25

USAA INVESTMENT TRUST       USAA Cornerstone Strategy             25
                            USAA Gold                             25
                            USAA International                    25
                            USAA World Growth                     25
                            USAA GNMA Trust                       25
                            USAA Treasury Money Market Trust      25
                            USAA Emerging Markets                 25
                            USAA Growth and Tax Strategy          25
                            USAA Growth Strategy                  25
                            USAA Income Strategy                  25
                            USAA Balanced Strategy                25

USAA TAX EXEMPT FUND, INC.  USAA Long-Term                        15
                            USAA Intermediate-Term                15
                            USAA Short-Term                       15
                            USAA Tax Exempt Money Market          15
                            USAA California Bond                  15
                            USAA California Money Market          15
                            USAA New York Bond                    15
                            USAA New York Money Market            15
                            USAA Virginia Bond                    15
                            USAA Virginia Money Market            15

USAA STATE TAX-FREE TRUST   USAA Florida Tax-Free Income          15
                            USAA Florida Tax-Free Money Market    15
                            USAA Texas Tax-Free Income            15
                            USAA Texas Tax-Free Money Market      15
<PAGE>

                                                                      EXHIBIT A
                                                                      ---------

                          MASTER GRID PROMISSORY NOTE

U.S. $100,000,000                                      Dated:  January 13, 1999

         FOR VALUE  RECEIVED,  each of the  undersigned  (each a "Borrower" and
collectively the "Borrowers"),  severally and not jointly, on behalf of and for
the benefit of the series of funds  comprising  each such Borrower as listed on
Schedule A to the  Agreement as defined  below (each a "Fund" and  collectively
the "Funds") promises to pay to the order of NATIONSBANK,  N.A. (the "Bank") at
the Bank's office  located at 901 Main Street,  Dallas,  Dallas  County,  Texas
75202,  in  lawful  money of the  United  States  of  America,  in  immediately
available  funds,  the  principal  amount of all Loans made by the Bank to such
Borrower for the benefit of the applicable  Funds under the Facility  Agreement
Letter dated January 13, 1999 (as amended or modified, the "Agreement"),  among
the Borrowers and the Bank, together with interest thereon at the rate or rates
set forth in the Agreement.  All payments of interest and principal outstanding
shall be made in accordance with the terms of the Agreement.

         This Note  evidences  Loans made  pursuant  to, and is entitled to the
benefits  of,  the  Agreement.  Terms not  defined in this Note shall be as set
forth in the Agreement.

         The  Bank is  authorized  to  endorse  the  particulars  of each  Loan
evidenced hereby on the attached Schedule and to attach additional Schedules as
necessary,  provided  that  the  failure  of  the  Bank  to  do  so or to do so
accurately  shall not affect the  obligations  of any Borrower (or the Fund for
whose benefit it is borrowing) hereunder.

         Each Borrower waives all claims to presentment,  demand,  protest, and
notice  of  dishonor.  Each  Borrower  agrees  to pay all  reasonable  costs of
collection,  including  reasonable  attorney's  fees  in  connection  with  the
enforcement of this Note.

         The Bank hereby  agrees (i) that any claim,  liability,  or obligation
arising hereunder or under the Agreement whether on account of the principal of
any Loan,  interest  thereon,  or any other amount due  hereunder or thereunder
shall be satisfied  only from the assets of the specific Fund for whose benefit
a Loan is borrowed and in any event in an amount not to exceed the  outstanding
principal  amount of any Loan borrowed for such Fund's  benefit,  together with
accrued and unpaid interest due and owing thereon, and such Fund's share of any
other amount due hereunder and under the Agreement (as determined in accordance
with the provisions of the Agreement) and (ii) that no assets of any Fund shall
be used to satisfy any claim,  liability,  or obligation  arising  hereunder or
under the Agreement  with respect to the  outstanding  principal  amount of any
Loan  borrowed  for the  benefit  of any other Fund or any  accrued  and unpaid
interest  due and owing  thereon or such other Fund's share of any other amount
due hereunder and under the  Agreement  (as  determined in accordance  with the
provisions of the Agreement).

         Neither the  shareholders,  trustees,  officers,  employees  and other
agents of any Borrower or Fund shall be  personally  bound by or liable for any
indebtedness, liability or obligation hereunder

<PAGE>

or under the Note nor shall  resort be had to their  private  property  for the
satisfaction of any obligation or claim hereunder.

         This Note shall be governed by the laws of the state of Texas.

                                             USAA MUTUAL FUND,  INC.,
                                             on behalf  of and for the  benefit
                                             of  its  series  of  Funds  as set
                                             forth   on   Schedule   A  to  the
                                             Agreement


                                             By: /S/ MICHAEL J.C. ROTH
                                                 ----------------------
                                                 Michael J.C. Roth
                                                 President


                                             USAA INVESTMENT TRUST,
                                             on behalf  of and for the  benefit
                                             of  its  series  of  Funds  as set
                                             forth   on   Schedule   A  to  the
                                             Agreement


                                             By: /S/ MICHAEL J.C. ROTH
                                                 ----------------------
                                                 Michael J.C. Roth
                                                 President


                                             USAA TAX EXEMPT FUND, INC.,
                                             on behalf  of and for the  benefit
                                             of  its  series  of  Funds  as set
                                             forth   on   Schedule   A  to  the
                                             Agreement


                                             By: /S/ MICHAEL J.C. ROTH
                                                 ----------------------
                                                 Michael J.C. Roth
                                                 President


                                             USAA STATE TAX-FREE TRUST,
                                             on behalf  of and for the  benefit
                                             of  its  series  of  Funds  as set
                                             forth   on   Schedule   A  to  the
                                             Agreement


                                             By: /S/ MICHAEL J.C. ROTH
                                                 ----------------------
                                                 Michael J.C. Roth
                                                 President

<PAGE>

                         LOANS AND PAYMENT OF PRINCIPAL

This  schedule  (grid) is  attached to and made a part of the  Promissory  Note
dated January 13, 1999,  executed by USAA MUTUAL FUND,  INC.,  USAA  INVESTMENT
TRUST,  USAA TAX EXEMPT FUND,  INC. AND USAA STATE  TAX-FREE TRUST on behalf of
and for the  benefit  of the  series of funds  comprising  each  such  Borrower
payable to the order of NATIONSBANK, N.A.

[GRID]
Date of Loan

Borrower
and Fund

Amount of
Loan

Type of Rate and
Interest Rate on Date
of Borrowing

Amount of
Principal Repaid

Date of
Repayment

Other
Expenses

Notation made
by

<PAGE>

                                                                      EXHIBIT B
                                                                      ---------

                               NATIONSBANK, N.A.
                                MASTER REVOLVING
                           CREDIT FACILITY AGREEMENT
                           BORROWER INFORMATION SHEET


BORROWER:      USAA MUTUAL FUND, INC., USAA INVESTMENT TRUST,
          USAA TAX EXEMPT FUND, INC. AND USAA STATE TAX-FREE TRUST

ADDRESS FOR NOTICES AND OTHER COMMUNICATIONS TO THE BORROWER:

                         9800 Fredericksburg Road
                         San Antonio, Texas  78288 (for Federal Express, 78240)
                         Attention:         John W. Saunders, Jr.
                                            Senior Vice President,
                                            Fixed Income Investments

                         Telephone:         (210) 498-7320
                         Telecopy:          (210) 498-5689

                                            David G. Peebles
                                            Senior Vice President,
                                            Equity Investments

                         Telephone:         (210) 498-7340
                         Telecopy:          (210) 498-2954

ADDRESS FOR BORROWING AND PAYMENTS:

                         9800 Fredericksburg Road
                         San Antonio, Texas  78288 (for Federal Express, 78240)
                         Attention:         Caryl J. Swann

                         Telephone:         (210) 498-7303
                         Telecopy:          (210) 498-0382 or 498-7819
                         Telex:             767424

INSTRUCTIONS FOR PAYMENTS TO BORROWER:

WE PAY VIA:  __X__FED FUNDS   _____CHIPS

<PAGE>

TO:  (PLEASE PLACE BANK NAME,  CORESPONDENT NAME (IF APPLICABLE),  CHIPS AND/OR
     FED FUNDS ACCOUNT NUMBER BELOW)

STATE STREET BANK AND TRUST COMPANY, BOSTON, MASSACHUSETTS
- ----------------------------------------------------------

ABA #011-00-0028
- ----------------

USAA MUTUAL FUND, INC.
======================

USAA AGGRESSIVE GROWTH FUND                          ACCT.# 6938-502-9
- ----------------------------------------------------------------------
USAA GROWTH & INCOME FUND                            ACCT.# 6938-519-3
- ----------------------------------------------------------------------
USAA INCOME STOCK FUND                               ACCT.# 6938-495-6
- ----------------------------------------------------------------------
USAA SHORT-TERM BOND FUND                            ACCT.# 6938-517-7
- ----------------------------------------------------------------------
USAA MONEY MARKET FUND                               ACCT.# 6938-498-0
- ----------------------------------------------------------------------
USAA GROWTH FUND                                     ACCT.# 6938-490-7
- ----------------------------------------------------------------------
USAA INCOME FUND                                     ACCT.# 6938-494-9
- ----------------------------------------------------------------------
USAA S&P 500 INDEX FUND                              ACCT.# 6938-478-2
- ----------------------------------------------------------------------
USAA SCIENCE & TECHNOLOGY FUND                       ACCT.# 6938-515-1
- ----------------------------------------------------------------------
USAA FIRST START GROWTH FUND                         ACCT.# 6938-468-3
- ----------------------------------------------------------------------

USAA INVESTMENT TRUST
=====================

USAA CORNERSTONE STRATEGY FUND                       ACCT.# 6938-487-3
- ----------------------------------------------------------------------
USAA GOLD FUND                                       ACCT.# 6938-488-1
- ----------------------------------------------------------------------
USAA INTERNATIONAL FUND                              ACCT.# 6938-497-2
- ----------------------------------------------------------------------
USAA WORLD GROWTH FUND                               ACCT.# 6938-504-5
- ----------------------------------------------------------------------
USAA GNMA TRUST                                      ACCT.# 6938-486-5
- ----------------------------------------------------------------------
USAA TREASURY MONEY MARKET TRUST                     ACCT.# 6938-493-1
- ----------------------------------------------------------------------
<PAGE>

USAA EMERGING MARKETS FUND                           ACCT.# 6938-501-1
- ----------------------------------------------------------------------
USAA GROWTH AND TAX STRATEGY FUND                    ACCT.# 6938-509-4
- ----------------------------------------------------------------------
USAA GROWTH STRATEGY FUND                            ACCT.# 6938-510-2
- ----------------------------------------------------------------------
USAA INCOME STRATEGY FUND                            ACCT.# 6938-508-6
- ----------------------------------------------------------------------
USAA BALANCED STRATEGY FUND                          ACCT.# 6938-507-8
- ----------------------------------------------------------------------

USAA TAX EXEMPT FUND, INC.
==========================

USAA LONG-TERM FUND                                  ACCT.# 6938-492-3
- ----------------------------------------------------------------------
USAA INTERMEDIATE-TERM FUND                          ACCT.# 6938-496-4
- ----------------------------------------------------------------------
USAA SHORT-TERM FUND                                 ACCT.# 6938-500-3
- ----------------------------------------------------------------------
USAA TAX EXEMPT MONEY MARKET FUND                    ACCT.# 6938-514-4
- ----------------------------------------------------------------------
USAA CALIFORNIA BOND FUND                            ACCT.# 6938-489-9
- ----------------------------------------------------------------------
USAA CALIFORNIA MONEY MARKET FUND                    ACCT.# 6938-491-5
- ----------------------------------------------------------------------
USAA NEW YORK BOND FUND                              ACCT.# 6938-503-7
- ----------------------------------------------------------------------
USAA NEW YORK MONEY MARKET FUND                      ACCT.# 6938-511-0
- ----------------------------------------------------------------------
USAA VIRGINIA BOND FUND                              ACCT.# 6938-512-8
- ----------------------------------------------------------------------
USAA VIRGINIA MONEY MARKET FUND                      ACCT.# 6938-513-6
- ----------------------------------------------------------------------

USAA STATE TAX-FREE TRUST
=========================

USAA FLORIDA TAX-FREE INCOME FUND                    ACCT.# 6938-473-3
- ----------------------------------------------------------------------
USAA FLORIDA TAX-FREE MONEY MARKET FUND              ACCT.# 6938-467-5
- ----------------------------------------------------------------------
USAA TEXAS TAX-FREE INCOME FUND                      ACCT.# 6938-602-7
- ----------------------------------------------------------------------
USAA TEXAS TAX-FREE MONEY MARKET FUND                ACCT.# 6938-601-9
- ----------------------------------------------------------------------

<PAGE>

                                                                      EXHIBIT C
                                                                      ---------

                              ADDRESS FOR THE BANK

                               NationsBank, N.A.
                               901 Main Street
                               66th Floor
                               Dallas, Texas 75202


                               Attention:          Joan D'Amico
                               Telephone No.:      (214) 508-3307
                               Telecopy No.:       (214) 508-0604

<PAGE>

                                                                      EXHIBIT D
                                                                      ---------

                             OFFICER'S CERTIFICATE
                             ---------------------


The undersigned  hereby certifies that he is the duly elected Secretary of USAA
Mutual Fund, Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc. and USAA
State Tax-Free  Trust and that he is authorized to execute this  Certificate on
behalf of USAA Mutual Fund, Inc., USAA Investment  Trust, USAA Tax Exempt Fund,
Inc. and USAA State Tax-Free Trust. The undersigned hereby further certifies to
the following:

The following  individuals  are duly authorized to act on behalf of USAA Mutual
Fund,  Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc. and USAA State
Tax-Free Trust, by transmitting telephonic, telex, or telecopy instructions and
other  communications  with regard to borrowings  and payments  pursuant to the
Master Revolving Credit Facility Agreement with NationsBank, N.A. The signature
set opposite the name of each  individual  below is that  individual's  genuine
signature.

         NAME                       OFFICE                     SIGNATURE
         ----                       ------                     ---------


Michael J.C. Roth          President                  /S/ MICHAEL J.C. ROTH
                                                      -------------------------

John W. Saunders, Jr.      Senior Vice President,
                           Fixed Income Investments   /S/ JOHN W. SAUNDERS, JR.
                                                      -------------------------

David G. Peebles           Senior Vice President,
                           Equity Investments         /S/ DAVID G. PEEBLES
                                                      -------------------------

Kenneth E. Willmann        Vice President,
                           Mutual Fund Portfolios     /S/ KENNETH E. WILLMANN
                                                      -------------------------

Sherron A. Kirk            Vice President,
                           Controller                 /S/ SHERRON A. KIRK
                                                      -------------------------

Caryl J. Swann             Executive Director,
                           Mutual Fund Analysis
                           and Support                /S/ CARYL J. SWANN
                                                      -------------------------

IN WITNESS  WHEREOF,  I have executed this  Certificate  as of this 12th day of
January, 1999.


                                                      /S/ MICHAEL D. WAGNER
                                                      -------------------------
                                                      Michael D. Wagner
                                                      Secretary

<PAGE>

I, Michael J. C. Roth,  President of USAA Mutual Fund,  Inc.,  USAA  Investment
Trust,  USAA Tax Exempt Fund, Inc. and USAA State Tax-Free Trust hereby certify
that  Michael D. Wagner is, and has been at all times since a date prior to the
date of this Certificate,  the duly elected, qualified, and acting Secretary of
USAA Mutual Fund, Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc. and
USAA State  Tax-Free  Trust and that the  signature set forth above is his true
and correct signature.


DATE:  January 13, 1999                            /S/ MICHAEL J.C. ROTH
                                                   ----------------------------
                                                   Michael J.C. Roth
                                                   President

<PAGE>

NationsBank                    SUBORDINATION                          EXHIBIT E
NationsBank, N.A.                AGREEMENT
- --------------- ---------------------------------------------------------------
THIS IS AN AGREEMENT AMONG:                             DATED: January 13, 1999
- -------------------------------------------------------------------------------
NAME AND ADDRESS OF LENDER   NAME AND ADDRESS            NAME AND ADDRESS OF
 (INCLUDING COUNTY):           OF BORROWER                     CREDITOR:

NationsBank, N.A.         USAA Mutual Fund, Inc.      USAA Capital Corporation
901 Main Street           USAA Investment Trust       9800 Fredericksburg Road
Dallas, Dallas County,                                San Antonio, Texas  78288
Texas  75202              USAA Tax Exempt Fund, Inc.
                          USAA State Tax-Free Trust
                          9800 Fredericksburg Road
                          San Antonio, Texas  78288

(LENDER)                           (DEBTOR)                    (CREDITOR)
- -------------------------------------------------------------------------------

1.   BACKGROUND.  Debtor is or  may be  indebted  to  Lender  pursuant to  that
     certain  Facility  Agreement  Letter dated January 13, 1999 between Debtor
     and  Lender  ("Senior  Facility  Agreement").  Debtor  also  is or  may be
     indebted to Creditor pursuant to certain Facility  Agreement Letters dated
     January 12,  1999  between  Debtor and  Creditor  ("Subordinated  Facility
     Agreements").  All debt (as hereinafter defined) under the Senior Facility
     Agreement  is  hereinafter  referred to as "senior  debt" and all debt (as
     hereinafter  defined)  under  the  Subordinated   Facility  Agreements  is
     hereinafter referred to as "subordinated debt".

2.   DEFINITION OF DEBT. The term "debt" as  used in  the  terms "senior  debt"
     and "subordinated debt" means all debts, obligations and liabilities,  now
     or hereafter existing, direct or indirect,  absolute or contingent,  joint
     or several, secured or unsecured, due or not due, contractual or tortious,
     liquidated  or  unliquidated,  arising by operation  of law or  otherwise,
     irrespective  of the person in whose favor such debt may  originally  have
     been created and  regardless  of the manner in which such debt has been or
     may  hereafter be acquired by Lender or Creditor,  as the case may be, and
     includes all costs  incurred to obtain,  preserve,  perfect or enforce any
     security  interest,  lien  or  mortgage,  or to  collect  any  debt  or to
     maintain,  preserve,  collect and enforce any collateral,  and interest on
     such amounts.

3.   SUBORDINATION OF DEBT. Until  senior  debt  has  been paid in full, Debtor
     will not pay and Creditor will not accept any payment on subordinated debt
     at any time that an Event of Default  (as  defined in the Senior  Facility
     Agreement)  has  occurred  and is  continuing  in respect of senior  debt.
     Anything of value received by Creditor on account of subordinated  debt in
     violation  of  this  agreement  will  be held by  Creditor  in  trust  and
     immediately  will be  turned  over to Lender  in the form  received  to be
     applied by Lender on senior debt.

4.   REMEDIES  OF  CREDITOR.  Until all senior  debt  has  been  paid in  full,
     without Lender's permission, Creditor will not be a party to any action or
     proceeding  against any person to recover  subordinated debt. Upon written
     request of Lender,  Creditor will file any claim or proof of claim or take
     any  other  action  to  collect   subordinated  debt  in  any  bankruptcy,
     receivership,  liquidation,  reorganization or other proceeding for relief
     of debtors or in connection with Debtor's insolvency, or in liquidation or
     marshaling  of  Debtor's  assets  or   liabilities,   or  in  any  probate
     proceeding,  and if any distribution  shall be made to Creditor,  Creditor
     will hold the same in trust for Lender and immediately  pay to Lender,  in
     the form received to be applied on senior debt,  all money or other assets
     received in any such  proceedings  on account of  subordinated  debt until
     senior debt shall have been paid in full.  If Creditor  shall fail to take
     any such  action  when  requested  by  Lender,  Lender  may  enforce  this
     agreement or as attorney in fact for Creditor and Debtor may take any such
     action on Creditor's behalf.  Creditor hereby irrevocably  appoints Lender
     Creditor's  attorney in fact to take any such  action  that  Lender  might
     request Creditor to take hereunder,  and to sue for,  compromise,  collect
     and receive all such money and other  assets and take any other  action in
     Lender's  own  name or in  Creditor's  name  that  Lender  shall  consider
     advisable for  enforcement  and  collection of  subordinated  debt, and to
     apply any amounts received on senior debt.

<PAGE>

5.   MODIFICATIONS.  At  any  time  and  from time to time,  without Creditor's
     consent or notice to  Creditor  and  without  liability  to  Creditor  and
     without  releasing or impairing any of Lender's rights against Creditor or
     any of Creditor's  obligations  hereunder,  Lender may take  additional or
     other security for senior debt;  release,  exchange,  subordinated or lose
     any security for senior debt; release any person obligated on senior debt,
     modify,  amend or waive  compliance with any agreement  relating to senior
     debt;  grant any  adjustment,  indulgence or forbearance to, or compromise
     with, any person liable for senior debt;  neglect,  delay,  omit,  fail or
     refuse to take or prosecute  any action for  collection of any senior debt
     or to foreclose upon any collateral or take or prosecute any action on any
     agreement securing any senior debt.

6.   SUBORDINATION OF LIENS. Creditor subordinates  and  makes inferior  to any
     security  interests,  liens or mortgages now or hereafter  securing senior
     debt all security interests, liens, or mortgages now or hereafter securing
     subordinated  debt. Any foreclosure  against any property  securing senior
     debt shall  foreclose,  extinguish  and discharge all security  interests,
     liens and mortgages  securing  subordinated debt, and any purchaser at any
     such foreclosure sale shall take title to the property so sold free of all
     security interest, liens and mortgages securing subordinated debt.

7.   STATEMENT  OF  SUBORDINATION;   ASSIGNMENT  BY   CREDITOR;   ADDITIONAL
     INSTRUMENTS.  Debtor and Creditor will cause any instrument  evidencing or
     securing  subordinated  debt to bear upon its face a  statement  that such
     instrument  is  subordinated  to senior debt as set forth  herein and will
     take all actions and execute all documents  appropriate  to carry out this
     agreement.  Creditor  will notify  Lender not less than 10 days before any
     assignment of any subordinated debt.

8.   ASSIGNMENT BY LENDER. Lender's rights under this agreement may be assigned
     in connection with any assignment or transfer of any senior debt.

9.   VENUE.  Debtor and Creditor agree  that  this agreement is  performable in
     the county of Lender's address set out above.

10.  CUMULATIVE RIGHTS; WAIVERS.  This instrument  is cumulative  of  all other
     rights  and  securities  of the  Lender.  No waiver by Lender of any right
     hereunder,  with respect to a particular  payment,  shall affect or impair
     its rights in any matters thereafter occurring.

11.  SUCCESSORS  AND  ASSIGNS.  This  instrument  is  binding  upon  and  shall
     inure to the benefit of the heirs, executors,  administrators,  successors
     and assigns of each of the parties hereto,  but Creditor covenants that it
     will not assign subordinated debt, or any part thereof, without making the
     rights and interests of the assignee  subject in all respects to the terms
     of this instrument.

12.  TERMINATION.  This agreement  shall terminate upon the termination of the
     Senior Facility Agreement and repayment in full of the senior debt.

   (LENDER)                (DEBTOR)                    (CREDITOR)
   NationsBank, N.A.       USAA Mutual Fund, Inc.      USAA Capital Corporation
                           USAA Investment Trust
                           USAA Tax Exempt Fund, Inc.
                           USAA State Tax-Free Trust

   By  /S/ JOAN D'AMICO    By  /S/ MICHAEL J.C. ROTH   By  /S/ LAURIE B. BLANK
       ----------------        ---------------------      --------------------
      Its  VICE PRESIDENT        Its  PRESIDENT              Its  TREASURER
<PAGE>

                                 EXHIBIT 8(e)
<PAGE>

January 12, 1999

USAA Mutual Fund, Inc.,
USAA Investment Trust,
USAA Tax Exempt Fund, Inc., and
USAA State Tax-Free Trust, on behalf of and for the
benefit of the series
of funds comprising each such Borrower
as set forth on Schedule A hereto
9800 Fredericksburg Road
San Antonio, Texas 78288

Attention: Michael J.C. Roth, President

Gentlemen:

This  Facility  Agreement  Letter (this  "Agreement")  sets forth the terms and
conditions  for loans (each a "Loan" and  collectively  the "Loans") which USAA
Capital  Corporation  ("CAPCO")  may from time to time make  during  the period
commencing January 12, 1999 and ending January 11, 2000 (the "Facility Period")
to USAA Mutual Fund, Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc.,
and USAA State Tax-Free Trust,  and each investment  company which may become a
party hereto  pursuant to the terms of this  Agreement  (each a "Borrower"  and
collectively  the  "Borrowers"),  each of which is executing  this Agreement on
behalf  of and for the  benefit  of the  series of funds  comprising  each such
Borrower as set forth on Schedule A hereto (as hereafter modified or amended in
accordance with the terms hereof) (each a "Fund" and collectively the "Funds"),
under a master  revolving  credit  facility (the  "Facility").  USAA Investment
Management  Company is the Manager and Investment  Advisor of each Fund.  CAPCO
and the Borrowers hereby agree as follows:

       1.  AMOUNT.  The  aggregate  principal  amount of the Loans which may be
advanced under this Facility shall not exceed, at any one time outstanding, Two
Hundred Fifty Million Dollars ($250,000,000). The aggregate principal amount of
the Loans which may be borrowed by a Borrower  for the benefit of a  particular
Fund under this Facility shall not exceed the borrowing  limit (the  "Borrowing
Limit")  on  borrowings  applicable  to such Fund,  as set forth on  Schedule A
hereto.

       2. PURPOSE AND  LIMITATIONS  ON  BORROWINGS.  Each Borrower will use the
proceeds of each Loan made to it solely for temporary or emergency  purposes of
the Fund for whose  benefit it is  borrowing  in  accordance  with such  Fund's
Borrowing Limit (Schedule A) and prospectus in effect at the time of such Loan.
Portfolio  securities  may not be  purchased  by a Fund  while  there is a Loan
outstanding  under the Facility or any other facility,  if the aggregate amount
of such Loan and any other  such loan  exceeds  5% of the total  assets of such
Fund.

<PAGE>

       3.  BORROWING  RATE AND  MATURITY  OF LOANS.  CAPCO may make  Loans to a
Borrower and the principal  amount of the Loans  outstanding  from time to time
shall  bear  interest  at a rate per  annum  equal  to the rate at which  CAPCO
obtains  funding  in the  capital  markets.  Interest  on the  Loans  shall  be
calculated  on the basis of a year of 360 days and the actual days  elapsed but
shall not exceed the highest lawful rate.  Each loan will be for an established
number  of  days   agreed   upon  by  the   applicable   Borrower   and  CAPCO.
Notwithstanding the above, all Loans to a Borrower shall be made available at a
rate per annum equal to the rate at which CAPCO would make loans to  affiliates
and  subsidiaries.  Further,  if the  CAPCO  rate  exceeds  the rate at which a
Borrower could obtain funds pursuant to the NationsBank,  N.A.  ("NationsBank")
364-day committed  $100,000,000 Master Revolving Credit Facility,  the Borrower
will in the absence of predominating  circumstances,  borrow from  NationsBank.
Any past due principal  and/or  accrued  interest shall bear interest at a rate
per annum equal to the  aggregate of the Federal Funds Rate plus 1 percent (100
basis points) and shall be payable on demand.

       4. ADVANCES, PAYMENTS,  PREPAYMENTS AND READVANCES. Upon each Borrower's
request,  and subject to the terms and conditions contained herein, CAPCO shall
make Loans to each Borrower on behalf of and for the benefit of its  respective
Fund(s) during the Facility  Period,  and each Borrower may at CAPCO's sole and
absolute  discretion,  borrow,  repay and reborrow funds  hereunder.  The Loans
shall be evidenced by a duly executed and delivered Master Grid Promissory Note
in the form of EXHIBIT A. Each Loan  shall be in an  aggregate  amount not less
than One Hundred Thousand United States Dollars (U.S.  $100,000) and increments
of One Thousand United States Dollars (U.S. $1,000) in excess thereof.  Payment
of principal and interest due with respect to each Loan shall be payable at the
maturity of such Loan and shall be made in funds immediately available to CAPCO
prior to 2 p.m.  San Antonio  time on the day such  payment is due, or as CAPCO
shall  otherwise  direct  from  time to time  and,  subject  to the  terms  and
conditions  hereof,  may  be  repaid  with  the  proceeds  of a  new  borrowing
hereunder. Notwithstanding any provision of this Agreement to the contrary, all
Loans, accrued but unpaid interest and other amounts payable hereunder shall be
due and payable upon  termination of the Facility  (whether by  acceleration or
otherwise).

       5. FACILITY  FEE.  Beginning  with the date of this  Agreement and until
such time as all Loans have been irrevocably repaid to CAPCO in full, and CAPCO
is no longer  obligated  to make Loans,  the Funds (to be  allocated  among the
Funds as the Borrowers deem  appropriate)  may pay to CAPCO a facility fee (the
"Facility  Fee") in the amount up to .04 of one percent (4 basis points) of the
amount of the  Commitment,  as it may be  reduced  pursuant  to  section 6. The
Facility Fee shall be payable  quarterly in arrears  beginning  March 31, 1999,
and upon termination of the Facility (whether by acceleration or otherwise).

       6. OPTIONAL TERMINATION OR REDUCTION OF COMMITMENT.  The Borrowers shall
have the right upon at least three (3) business  days prior  written  notice to
CAPCO,  to terminate or reduce the unused portion of the  Commitment.  Any such
reduction  of the  commitment  shall be in the  amount of Five  Million  United
States Dollars (U.S. $5,000,000) or any larger integral

<PAGE>

multiple of One Million  United States Dollars (U.S.  $1,000,000)  (except that
any reduction may be in the aggregate amount of the unused Commitment). Accrued
fees with respect to the terminated Commitment shall be payable to CAPCO on the
effective date of such termination.

       7. MANDATORY TERMINATION OF THE FACILITY. The Facility,  unless extended
by written  amendment,  shall  automatically  terminate  on the last day of the
Facility Period and any Loans then outstanding  (together with accrued interest
thereon and any other amounts owing hereunder) shall be due and payable on such
date.

       8.  COMMITTED  FACILITY.  CAPCO  acknowledges  that  the  Facility  is a
committed facility and that CAPCO shall be obligated to make any Loan requested
during  the  Facility  Period  under this  Agreement,  subject to the terms and
conditions hereof; provided, however, that CAPCO shall not be obligated to make
any Loan if this Facility has been  terminated by the  Borrowers,  or if at the
time of a  request  for a Loan  by a  Borrower  (on  behalf  of the  applicable
Fund(s)) there exists any Event of Default or condition which, with the passage
of time or giving of notice,  or both,  would  constitute or become an Event of
Default with respect to such Borrower (or such applicable Fund(s)).

       9. LOAN  REQUESTS.  Each request for a Loan (each a "Borrowing  Notice")
shall be in writing by the applicable Borrower(s), except that such Borrower(s)
may make an oral  request  (each an "Oral  Request")  provided  that  each Oral
Request  shall be followed by a written  Borrowing  Notice  within one business
day. Each Borrowing  Notice shall specify the following  terms ("Terms") of the
requested  Loan:  (i) the date on which such Loan is to be disbursed,  (ii) the
principal amount of such Loan,  (iii) the Borrower(s)  which are borrowing such
Loan and the  amount of such Loan to be  borrowed  by each  Borrower,  (iv) the
Funds for whose  benefit the loan is being  borrowed and the amount of the Loan
which is for the benefit of each such Fund, and (v) the requested maturity date
of the Loan.  Each  Borrowing  Notice  shall also set forth the total assets of
each Fund for whose  benefit a portion of the Loan is being  borrowed as of the
close of business on the day  immediately  preceding the date of such Borrowing
Notice.  Borrowing notices shall be delivered to CAPCO by 9:00 a.m. San Antonio
time on the day the Loan is requested to be made.

Each  Borrowing  Notice  shall  constitute  a  representation  to  CAPCO by the
applicable  Borrower(s)  that  all of the  representations  and  warranties  in
Section  12 hereof  are true and  correct  as of such date and that no Event of
Default or other  condition which with the passage of time or giving of notice,
or both, would result in an Event of Default, has occurred or is occurring.

       10.  CONFIRMATIONS;  CREDITING OF FUNDS; RELIANCE BY CAPCO. Upon receipt
by CAPCO of a Borrowing Notice:

               (a)  CAPCO  shall  provide  each  applicable   Borrower  written
       confirmation  of the Terms of such Loan via  facsimile or  telecopy,  as
       soon as reasonably practicable;  provided,  however, that the failure to
       do so shall not affect the obligation of any such

<PAGE>

       Borrower;

               (b) CAPCO shall make such Loan in  accordance  with the Terms by
       transfer  of the Loan  amount in  immediately  available  funds,  to the
       account of the applicable  Borrower(s) as specified in EXHIBIT B to this
       Agreement or as such Borrower(s)  shall otherwise  specify to CAPCO in a
       writing signed by an Authorized Individual (as defined in Section 11) of
       such Borrower(s); and

               (c) CAPCO  shall  make  appropriate  entries  on the Note or the
       records of CAPCO to reflect  the Terms of the Loan;  provided,  however,
       that the  failure  to do so  shall  not  affect  the  obligation  of any
       Borrower.

               (d)  CAPCO  shall be  entitled  to rely  upon and act  hereunder
       pursuant to any Oral Request which it  reasonably  believes to have been
       made by the applicable Borrower through an Authorized Individual. If any
       Borrower  believes that the  confirmation  relating to any Loan contains
       any error or discrepancy from the applicable Oral Request, such Borrower
       will promptly notify CAPCO thereof.

       11.  BORROWING  RESOLUTIONS  AND  OFFICERS'  CERTIFICATES.  Prior to the
making  of any Loan  pursuant  to this  Agreement,  the  Borrowers  shall  have
delivered  to  CAPCO  (a) the  duly  executed  Note,  (b)  Resolutions  of each
Borrower's Trustees or Board of Directors authorizing such Borrower to execute,
deliver and perform  this  Agreement  and the Note on behalf of the  applicable
Funds,  (c) an Officer's  Certificate  in  substantially  the form set forth in
EXHIBIT  D to this  Agreement,  authorizing  certain  individuals  ("Authorized
Individuals"),  to take on behalf of each Borrower (on behalf of the applicable
Funds) actions contemplated by this Agreement and the Note, and (d) the Opinion
of Counsel to USAA Investment  Management  Company,  Manager and Advisor to the
Borrowers, with respect to such matters as CAPCO may reasonably request .

       12.  REPRESENTATIONS  AND WARRANTIES.  In order to induce CAPCO to enter
into this Agreement and to make the Loans provided for hereunder, each Borrower
hereby  makes with  respect to itself,  and as may be  relevant,  the series of
Funds comprising such Borrower,  the following  representations and warranties,
which shall survive the execution and delivery hereof and of the Note:

               (a) ORGANIZATION,  STANDING,  ETC. The Borrower is a corporation
       or trust duly organized,  validly  existing,  and in good standing under
       applicable state laws and has all requisite corporate or trust power and
       authority to carry on its  respective  businesses  as now  conducted and
       proposed to be  conducted,  to enter into this  Agreement  and all other
       documents  to be  executed  by it in  connection  with the  transactions
       contemplated hereby, to issue and borrow under the Note and to carry out
       the terms hereof and thereof;

               (b)  FINANCIAL  INFORMATION;  DISCLOSURE,  ETC. The Borrower has
       furnished CAPCO with certain financial  statements of such Borrower with
       respect to itself and the applicable  Funds, all of which such financial
       statements  have been prepared in

<PAGE>

       accordance  with generally  accepted  accounting  principles  applied on
       a consistent basis and fairly present the financial position and results
       of operations of such Borrower and the applicable Funds on the dates and
       for the periods indicated.  Neither this  Agreement  nor  any  financial
       statements, reports or other  documents  or  certificates  furnished  to
       CAPCO by  such  Borrower  or the  applicable  Funds in  connection  with
       the  transactions  contemplated  hereby  contain  any  untrue  statement
       of a material  fact or omit to state  any  material  fact  necessary  to
       make  the  statements  contained  herein  or  therein  in  light of  the
       circumstances when made not misleading;

               (c)  AUTHORIZATION;   COMPLIANCE  WITH  OTHER  INSTRUMENTS.  The
       execution,  delivery and performance of this Agreement and the Note, and
       borrowings  hereunder,  have  been  duly  authorized  by  all  necessary
       corporate  or trust  action of the  Borrower  and will not result in any
       violation of or be in conflict  with or  constitute a default  under any
       term of the charter,  by-laws or trust agreement of such Borrower or the
       applicable  Funds,  or of any  borrowing  restrictions  or prospectus or
       statement of additional  information  of such Borrower or the applicable
       Funds,  or  of  any  agreement,  instrument,  judgment,  decree,  order,
       statute, rule or governmental regulation applicable to such Borrower, or
       result in the creation of any mortgage, lien, charge or encumbrance upon
       any of the properties or assets of such Borrower or the applicable Funds
       pursuant to any such term. The Borrower and the applicable Funds are not
       in violation of any term of their respective  charter,  by-laws or trust
       agreement,  and  such  Borrower  and  the  applicable  Funds  are not in
       violation of any material  term of any  agreement or instrument to which
       they are a party,  or to the best of such Borrower's  knowledge,  of any
       judgment,  decree,  order,  statute,  rule  or  governmental  regulation
       applicable to them;

               (d) SEC COMPLIANCE. The Borrower and the applicable Funds are in
       compliance  in  all  material   respects  with  all  federal  and  state
       securities  or similar  laws and  regulations,  including  all  material
       rules,  regulations  and  administrative  orders of the  Securities  and
       Exchange Commission (the "SEC") and applicable Blue Sky authorities. The
       Borrower  and the  applicable  Funds are in  compliance  in all material
       respects  with all of the  provisions of the  Investment  Company Act of
       1940,  and such  Borrower  has filed all  reports  with the SEC that are
       required of it or the applicable Funds;

               (e) LITIGATION.  There is no action,  suit or proceeding pending
       or, to the best of the  Borrower's  knowledge,  threatened  against such
       Borrower or the  applicable  Funds in any court or before any arbitrator
       or  governmental  body which seeks to restrain  any of the  transactions
       contemplated by this Agreement or which, if adversely determined,  could
       have a material  adverse effect on the assets or business  operations of
       such  Borrower or the  applicable  Funds or the ability of such Borrower
       and the applicable Funds to pay and perform their obligations  hereunder
       and under the Notes;

               (f) BORROWERS'  RELATIONSHIP  TO FUNDS.  The assets of each Fund
       for whose  benefit  Loans are  borrowed by the  applicable  Borrower are
       subject  to and  liable  for such  Loans and are  available  (except  as
       subordinated to borrowings under the NationsBank

<PAGE>

       committed facility) to the applicable Borrower for the repayment of such
       Loans; and

               (G) YEAR 2000  PREPAREDNESS.  Each  Borrower has (i) initiated a
       review and  assessment  of all areas within its business and  operations
       (including  those  affected by suppliers,  vendors and  customers)  that
       could be  adversely  affected by the "Year 2000  Problem"  (that is, the
       risk that computer  applications  used by such Borrower may be unable to
       recognize  and  perform  properly  date-sensitive   functions  involving
       certain  dates  prior to and any date after  December  31,  1999),  (ii)
       developed a plan and timeline for  addressing the Year 2000 Problem on a
       timely  basis,  and (iii) to date,  implemented  that plan in accordance
       with that timetable.  Based on the foregoing,  such Borrower  reasonably
       believes  that  all  computer  applications  that  are  material  to its
       business and operations are reasonably  expected on a timely basis to be
       able to perform properly  date-sensitive  functions for all dates before
       and after January 1, 2000 (that is, be "Year 2000 compliant"), except to
       the extent that a failure to do so could not  reasonably  be expected to
       have a material  adverse effect on the assets or business  operations of
       such  Borrower or the  applicable  Funds or the ability of such Borrower
       and the applicable Funds to pay and perform their obligations  hereunder
       and under the Note.

       13.  AFFIRMATIVE  COVENANTS  OF THE  BORROWERS.  Until  such time as all
amounts of principal  and  interest due to CAPCO by a Borrower  pursuant to any
Loan made to such Borrower is irrevocably  paid in full, and until the Facility
is terminated, such Borrower (for itself and on behalf of its respective Funds)
agrees:

               (a) To  deliver  to CAPCO as soon as  possible  and in any event
       within  ninety  (90)  days  after  the end of each  fiscal  year of such
       Borrower and the applicable Funds, Statements of Assets and Liabilities,
       Statements of Operations and Statements of Changes in Net Assets of each
       applicable  Fund for such fiscal year,  as set forth in each  applicable
       Fund's Annual Report to shareholders  together with a calculation of the
       maximum  amount  which  each  applicable  Fund  could  borrow  under its
       Borrowing Limit as of the end of such fiscal year;

               (b) To  deliver to CAPCO as soon as  available  and in any event
       within seventy-five (75) days after the end of each semiannual period of
       such  Borrower  and the  applicable  Funds,  Statements  of  Assets  and
       Liabilities,  Statement of Operations  and  Statements of Changes in Net
       Assets of each applicable Fund as of the end of such semiannual  period,
       as set forth in each applicable Funds Semiannual Report to shareholders,
       together with a calculation of the maximum amount which each  applicable
       Fund  could  borrow  under  its  Borrowing  Limit  at the  end  of  such
       semiannual period;

               (c) To deliver to CAPCO prompt  notice of the  occurrence of any
       event or  condition  which  constitutes,  or is likely  to result  in, a
       change in such Borrower or any applicable Fund which could reasonably be
       expected to materially  adversely  affect the ability of any  applicable
       Fund to  promptly  repay  outstanding  Loans made for its benefit or the
       ability of such Borrower to perform its obligations under this Agreement
       or the

<PAGE>

       Note;

               (d) To do, or cause to be done, all things necessary to preserve
       and keep in full force and effect the  corporate  or trust  existence of
       such Borrower and all permits,  rights and privileges  necessary for the
       conduct of its  businesses  and to comply in all material  respects with
       all  applicable  laws,   regulations  and  orders,   including   without
       limitation, all rules and regulations promulgated by the SEC;

               (e) To promptly notify CAPCO of any litigation, threatened legal
       proceeding or  investigation  by a  governmental  authority  which could
       materially  affect the ability of such Borrower or the applicable  Funds
       to promptly  repay the  outstanding  Loans or  otherwise  perform  their
       obligations hereunder;

               (f) In the event a Loan for the benefit of a particular  Fund is
       not repaid in full  within 10 days  after the date it is  borrowed , and
       until  such Loan is repaid in full,  to  deliver  to CAPCO,  within  two
       business  days  after  each  Friday  occurring  after  such 10th day,  a
       statement setting forth the total assets of such Fund as of the close of
       business on each such Friday; and

               (g) Upon the  request  of CAPCO  which may be made by CAPCO from
       time to time in the event  CAPCO in good faith  believes  that there has
       been a material  adverse  change in the capital  markets  generally,  to
       deliver  to CAPCO,  within two  business  days  after  such  request,  a
       statement  setting forth the total assets of each Fund for whose benefit
       a Loan is outstanding on the date of such request.

       14. NEGATIVE COVENANTS OF THE BORROWERS.  Until such time as all amounts
of principal and interest due to CAPCO by a Borrower  pursuant to any Loan made
to such  Borrower  is  irrevocably  paid in full,  and  until the  Facility  is
terminated,  such Borrower (for itself and on behalf of its  respective  Funds)
agrees:

               (a) Not to incur any indebtedness for borrowed money (other than
       pursuant  to the One Hundred  Million  Dollar  ($100,000,000)  committed
       Master  Revolving  Credit  Facility with  NationsBank,  the Five Hundred
       Million  Dollar  ($500,000,000)   uncommitted  Master  Revolving  Credit
       Facility with CAPCO and for overdrafts  incurred at the custodian of the
       Funds from time to time in the  normal  course of  business)  except the
       Loans,  without the prior written  consent of CAPCO,  which consent will
       not be unreasonably withheld; and

               (b) Not to  dissolve or  terminate  its  existence,  or merge or
       consolidate   with  any  other   person  or  entity,   or  sell  all  or
       substantially  all of its  assets in a single  transaction  or series of
       related  transactions  (other than assets  consisting of margin  stock),
       each without the prior written consent of CAPCO,  which consent will not
       be  unreasonably  withheld;  provided  that a Borrower  may without such
       consent merge,  consolidate  with, or purchase  substantially all of the
       assets of, or sell  substantially  all of its  assets to, an  affiliated

<PAGE>

       investment  company or series thereof,  as provided for in Rule 17a-8 of
       the Investment Company Act of 1940.

       15. EVENTS OF DEFAULT. If any of the following events (each an "Event of
Default")  shall  occur  (it being  understood  that an Event of  Default  with
respect to one Fund or Borrower  shall not  constitute an Event of Default with
respect to any other Fund or Borrower):

               (a) Any  Borrower  or  Fund  shall  default  in the  payment  of
       principal or interest on any Loan or any other fee due  hereunder  for a
       period of five (5) days after the same becomes due and payable,  whether
       at maturity or with  respect to any Facility Fee at a date fixed for the
       payment thereof;

               (b) Any Borrower or Fund shall default in the  performance of or
       compliance with any term contained in Section 13 hereof and such default
       shall not have been  remedied  within  thirty  (30) days  after  written
       notice thereof shall have been given such Borrower or Fund by CAPCO;

               (c) Any Borrower or Fund shall default in the  performance of or
       compliance with any term contained in Section 14 hereof;

               (d) Any  Borrower or Fund shall  default in the  performance  or
       compliance  with any other term contained  herein and such default shall
       not have been  remedied  within  thirty (30) days after  written  notice
       thereof shall have been given such Borrower or Fund by CAPCO;

               (e) Any  representation  or warranty  made by a Borrower or Fund
       herein or pursuant hereto shall prove to have been false or incorrect in
       any material respect when made;

               (f) An event of default shall occur and be continuing  under any
       other facility;  then, in any event, and at any time thereafter,  if any
       Event of Default shall be continuing, CAPCO may by written notice to the
       applicable  Borrower or Fund (i)  terminate the Facility with respect to
       such  Borrower or Fund and (ii)  declare the  principal  and interest in
       respect of any outstanding  Loans with respect to such Borrower or Fund,
       and all other  amounts due  hereunder  with respect to such  Borrower or
       Fund,  to be  immediately  due and payable  whereupon  the principal and
       interest in respect  thereof and all other amounts due  hereunder  shall
       become forthwith due and payable without presentment, demand, protest or
       other  notice of any  kind,  all of which  are  expressly  waived by the
       Borrowers.

       16.  NEW  BORROWERS;  NEW  FUNDS.  So long as no  Event  of  Default  or
condition  which,  with the  passage of time or the giving of notice,  or both,
would  constitute or become an Event of Default has occurred and is continuing,
and with the prior  consent of CAPCO,  which  consent will not be  unreasonably
withheld:

<PAGE>

               (a) Any investment  company that becomes part of the same "group
       of  investment  companies"  (as that term is defined in Rule 11a-3 under
       the  Investment  Company Act of 1940) as the original  Borrowers to this
       Agreement,  may, by  submitting  an amended  Schedule A and Exhibit B to
       this  Agreement to CAPCO (which  amended  Schedule A and Exhibit B shall
       replace the corresponding Schedule and Exhibit which are, then a part of
       this  Agreement)  and  such  other  documents  as CAPCO  may  reasonably
       request,  become a party to this  Agreement  and may become a "Borrower"
       hereunder; and

               (b) A Borrower  may,  by  submitting  an amended  Schedule A and
       Exhibit B to this  Agreement  to CAPCO  (which  amended  Schedule  A and
       Exhibit B shall replace the corresponding Schedule and Exhibit which are
       then a part of this  Agreement),  add additional Funds for whose benefit
       such Borrower may borrow Loans.  No such amendment of Schedule A to this
       Agreement shall amend the Borrowing Limit applicable to any Fund without
       the prior approval of CAPCO.

       17. LIMITED  RECOURSE.  CAPCO agrees (i) that any claim,  liability,  or
obligation  arising  hereunder  or under the Note  whether  on  account  of the
principal of any Loan,  interest thereon,  or any other amount due hereunder or
thereunder  shall be satisfied  only from the assets of the  specific  Fund for
whose  benefit a Loan is  borrowed  and in any event in an amount not to exceed
the outstanding  principal amount of any Loan borrowed for such Fund's benefit,
together  with  accrued and unpaid  interest  due and owing  thereon,  and such
Fund's  share  of any  other  amount  due  hereunder  and  under  the  Note (as
determined in accordance with the provisions hereof) and (ii) that no assets of
any fund shall be used to satisfy any claim,  liability,  or obligation arising
hereunder or under the Note with respect to the outstanding principal amount of
any Loan  borrowed  for the benefit of any other Fund or any accrued and unpaid
interest  due and owing  thereon or such other Fund's share of any other amount
due  hereunder  and  under  the  Note (as  determined  in  accordance  with the
provisions hereof).

       18. REMEDIES ON DEFAULT. In case any one or more Events of Default shall
occur and be continuing, CAPCO may proceed to protect and enforce its rights by
an action at law, suit in equity or other appropriate proceedings,  against the
applicable  Borrower(s)  and/or  Fund(s),  as the case may be. In the case of a
default  in the  payment of any  principal  or  interest  on any Loan or in the
payment of any fee due hereunder,  the relevant  Fund(s) (to be allocated among
such Funds as the Borrowers deem  appropriate)  shall pay to CAPCO such further
amount as shall be  sufficient  to cover the cost and  expense  of  collection,
including, without limitation, reasonable attorney's fees and expenses.

       19. NO WAIVER OF  REMEDIES.  No course of dealing or failure or delay on
the part of CAPCO in exercising any right or remedy hereunder or under the Note
shall  constitute a waiver of any right or remedy  hereunder or under the Note,
nor shall any partial  exercise of any right or remedy  hereunder  or under the
Note preclude any further  exercise  thereof or the exercise of any other right
or remedy  hereunder  or under the Note.  Such  rights and  remedies  expressly
provided are cumulative and not exclusive of any rights or remedies which CAPCO
would otherwise have.

<PAGE>

       20.  EXPENSES.  The  Fund(s)  (to be  allocated  among  the Funds as the
Borrowers deem  appropriate)  shall pay on demand all reasonable  out-of-pocket
costs and expenses (including reasonable attorney's fees and expenses) incurred
by  CAPCO  in  connection  with  the  collection  and  any  other   enforcement
proceedings of or regarding this Agreement, any Loan or the Note.

       21.  BENEFIT OF AGREEMENT.  This Agreement and the Note shall be binding
upon  and  inure  for  the  benefit  of and be  enforceable  by the  respective
successors  and assigns of the parties  hereto;  provided that no party to this
Agreement  or the Note may  assign any of its rights  hereunder  or  thereunder
without the prior written consent of the other parties.

       22.  NOTICES.  All  notices  hereunder  and all  written,  facsimile  or
telecopied  confirmations  of Oral Requests made hereunder shall be sent to the
Borrowers as indicated on EXHIBIT B and to CAPCO as indicated on EXHIBIT C.

       23.  MODIFICATIONS.  No provision  of this  Agreement or the Note may be
waived,  modified  or  discharged  except by mutual  written  agreement  of all
parties. THIS WRITTEN LOAN AGREEMENT AND THE NOTE REPRESENT THE FINAL AGREEMENT
BETWEEN  THE  PARTIES  AND  MAY  NOT BE  CONTRADICTED  BY  EVIDENCE  OF  PRIOR,
CONTEMPORANEOUS  OR SUBSEQUENT  ORAL  AGREEMENTS  OF THE PARTIES.  THERE ARE NO
UNWRITTEN AGREEMENTS BETWEEN THE PARTIES.

       24. GOVERNING LAW AND JURISDICTION.  This Agreement shall be governed by
and construed in accordance  with the laws of the state of Texas without regard
to the choice of law provisions thereof.

       25. TRUST  DISCLAIMER.  Neither the  shareholders,  trustees,  officers,
employees and other agents of any Borrower or Fund shall be personally bound by
or liable for any indebtedness,  liability or obligation hereunder or under the
Note nor shall resort be had to their private  property for the satisfaction of
any obligation or claim hereunder.

If this letter  correctly  reflects your agreement with us, please execute both
copies hereof and return one to us,  whereupon this Agreement  shall be binding
upon the Borrowers, the Funds and CAPCO.

Sincerely,

USAA CAPITAL CORPORATION


By:      /S/ LAURIE B. BLANK
         -----------------------
         Laurie B. Blank
         Vice President-Treasurer

<PAGE>

AGREED AND ACCEPTED this 12th Day of January, 1999.

USAA MUTUAL FUND, INC.,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:      /S/ MICHAEL J.C. ROTH
         -----------------------
         Michael J.C. Roth
         President


USAA INVESTMENT  TRUST,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:      /S/ MICHAEL J.C. ROTH
         -----------------------
         Michael J.C. Roth
         President


USAA TAX EXEMPT FUND,  INC.,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:      /S/ MICHAEL J.C. ROTH
         -----------------------
         Michael J.C. Roth
         President


USAA STATE  TAX-FREE  TRUST,
on behalf of and for the benefit
of its series of Funds as set forth
on Schedule A to this Agreement


By:      /S/ MICHAEL J.C. ROTH
         -----------------------
         Michael J.C. Roth
         President

<PAGE>

                                   SCHEDULE A
                                   ----------


                       FUNDS FOR WHOSE BENEFIT LOANS CAN
                      BE BORROWED UNDER FACILITY AGREEMENT

BORROWER                 FUNDS                       BORROWING LIMIT
- --------                 -----                       ---------------
                                                     (Maximum  percent of total
                                                     assets    which   can   be
                                                     borrowed   under  Facility
                                                     and    the     uncommitted
                                                     facility with CAPCO)

USAA MUTUAL FUND, INC.       USAA Aggressive Growth       5% of Total Assets
                             USAA Growth & Income                 "
                             USAA Income Stock                    "
                             USAA Short-Term Bond                 "
                             USAA Money Market                    "
                             USAA Growth                          "
                             USAA Income                          "
                             USAA S&P 500 Index                   "
                             USAA Science & Technology            "
                             USAA First Start Growth              "

USAA INVESTMENT TRUST        USAA Cornerstone Strategy            "
                             USAA Gold                            "
                             USAA International                   "
                             USAA World Growth                    "
                             USAA GNMA Trust                      "
                             USAA Treasury Money Market Trust     "
                             USAA Emerging Markets                "
                             USAA Growth and Tax Strategy         "
                             USAA Balanced Strategy               "
                             USAA Growth Strategy                 "
                             USAA Income Strategy                 "

USAA TAX EXEMPT FUND, INC.   USAA Long-Term                       "
                             USAA Intermediate-Term               "
                             USAA Short-Term                      "
                             USAA Tax Exempt Money Market         "
                             USAA California Bond                 "
                             USAA California Money Market         "
                             USAA New York Bond                   "
                             USAA New York Money Market           "
                             USAA Virginia Bond                   "
                             USAA Virginia Money Market           "

USAA STATE TAX-FREE TRUST    USAA Florida Tax-Free Income         "
                             USAA Florida Tax-Free Money Market   "
                             USAA Texas Tax-Free Income           "
                             USAA Texas Tax-Free Money Market     "

<PAGE>

                                                                      EXHIBIT A
                                                                      ---------

                          MASTER GRID PROMISSORY NOTE


U.S. $250,000,000                                       Dated: January 12, 1999


       FOR VALUE  RECEIVED,  each of the  undersigned  (each a  "Borrower"  and
collectively the "Borrowers"),  severally and not jointly, on behalf of and for
the benefit of the series of funds  comprising  each such Borrower as listed on
Schedule A to the  Agreement as defined  below (each a "Fund" and  collectively
the "Funds") promises to pay to the order of USAA Capital Corporation ("CAPCO")
at CAPCO's  office  located at 9800  Fredericksburg  Road,  San Antonio,  Texas
78288,  in  lawful  money of the  United  States  of  America,  in  immediately
available  funds,  the  principal  amount  of all  Loans  made by CAPCO to such
Borrower for the benefit of the applicable  Funds under the Facility  Agreement
Letter dated January 12, 1999 (as amended or modified, the "Agreement"),  among
the  Borrowers and CAPCO,  together with interest  thereon at the rate or rates
set forth in the Agreement.  All payments of interest and principal outstanding
shall be made in accordance with the terms of the Agreement.

       This Note  evidences  Loans made  pursuant  to, and is  entitled  to the
benefits  of,  the  Agreement.  Terms not  defined in this Note shall be as set
forth in the Agreement.

       CAPCO is authorized to endorse the  particulars  of each Loan  evidenced
hereby  on  the  attached  Schedule  and  to  attach  additional  Schedules  as
necessary,  provided  that the failure of CAPCO to do so or to do so accurately
shall not affect the obligations of any Borrower (or the Fund for whose benefit
it is borrowing) hereunder.

       Each Borrower waives all claims to  presentment,  demand,  protest,  and
notice  of  dishonor.  Each  Borrower  agrees  to pay all  reasonable  costs of
collection,  including  reasonable  attorney's  fees  in  connection  with  the
enforcement of this Note.

       CAPCO hereby agrees (i) that any claim, liability, or obligation arising
hereunder  or under the  Agreement  whether on account of the  principal of any
Loan,  interest thereon,  or any other amount due hereunder or thereunder shall
be satisfied only from the assets of the specific Fund for whose benefit a Loan
is  borrowed  and in any  event in an  amount  not to  exceed  the  outstanding
principal  amount of any Loan borrowed for such Fund's  benefit,  together with
accrued and unpaid interest due and owing thereon, and such Fund's share of any
other amount due hereunder and under the Agreement (as determined in accordance
with the provisions of the Agreement) and (ii) that no assets of any Fund shall
be used to satisfy any claim,  liability,  or obligation  arising  hereunder or
under the Agreement  with respect to the  outstanding  principal  amount of any
Loan  borrowed  for the  benefit  of any other Fund or any  accrued  and unpaid
interest  due and owing  thereon or such other Fund's share of any other amount
due hereunder

<PAGE>

and under the Agreement (as determined in accordance with the provisions of the
Agreement).
       Neither the shareholders, trustees, officers, employees and other agents
of any  Borrower  or Fund  shall  be  personally  bound  by or  liable  for any
indebtedness,  liability  or  obligation  hereunder or under the Note nor shall
resort be had to their private  property for the satisfaction of any obligation
or claim hereunder.

       Loans under the Agreement and this Note are  subordinated  to loans made
under the  $100,000,000  364-day  committed  Mater  Revolving  Credit  Facility
Agreement  between the Borrowers and  NationsBank,  N.A.  (NationsBank),  dated
January 13,  1999,  in the manner and to the extent set forth in the  Agreement
among the Borrowers, CAPCO and NationsBank, dated January 13, 1999.

         This Note shall be governed by the laws of the state of Texas.

                                                    USAA MUTUAL FUND,  INC., on
                                                    behalf   of  and   for  the
                                                    benefit  of its  series  of
                                                    Funds   as  set   forth  on
                                                    Schedule A to the Agreement


                                                    By:  /S/ MICHAEL J.C. ROTH
                                                         ----------------------
                                                         Michael J.C. Roth
                                                         President


                                                    USAA  INVESTMENT  TRUST, on
                                                    behalf   of  and   for  the
                                                    benefit  of its  series  of
                                                    Funds   as  set   forth  on
                                                    Schedule A to the Agreement


                                                    By:  /S/ MICHAEL J.C. ROTH
                                                         ----------------------
                                                         Michael J.C. Roth
                                                         President

<PAGE>

                                                    USAA TAX EXEMPT FUND, INC.,
                                                    on  behalf  of and  for the
                                                    benefit  of its  series  of
                                                    Funds   as  set   forth  on
                                                    Schedule A to the Agreement


                                                    By:  /S/ MICHAEL J.C. ROTH
                                                         ----------------------
                                                         Michael J.C. Roth
                                                         President


                                                    USAA STATE TAX-FREE  TRUST,
                                                    on  behalf  of and  for the
                                                    benefit  of its  series  of
                                                    Funds   as  set   forth  on
                                                    Schedule A to the Agreement


                                                    By:  /S/ MICHAEL J.C. ROTH
                                                         ----------------------
                                                         Michael J.C. Roth
                                                         President

<PAGE>

                         LOANS AND PAYMENT OF PRINCIPAL

This  schedule  (grid) is  attached to and made a part of the  Promissory  Note
dated January 12, 1999,  executed by USAA MUTUAL FUND,  INC.,  USAA  INVESTMENT
TRUST,  USAA TAX EXEMPT FUND,  INC. AND USAA STATE  TAX-FREE TRUST on behalf of
and for the  benefit  of the  series of funds  comprising  each  such  Borrower
payable to the order of USAA CAPITAL CORPORATION.

[GRID]
Date of Loan

Borrower
and Fund

Amount of
Loan

Type of Rate and
Interest Rate on Date
of Borrowing

Amount of
Principal Repaid

Date of
Repayment

Other
Expenses

Notation made
by

<PAGE>

                                                                      EXHIBIT B
                                                                      ---------

                            USAA CAPITAL CORPORATION
                                MASTER REVOLVING
                           CREDIT FACILITY AGREEMENT
                           BORROWER INFORMATION SHEET


BORROWER:   USAA MUTUAL FUND,  INC.,  USAA  INVESTMENT  TRUST,  USAA TAX EXEMPT
            FUND, INC. AND USAA STATE TAX-FREE TRUST

ADDRESS FOR NOTICES AND OTHER COMMUNICATIONS TO THE BORROWER:

                           9800 Fredericksburg Road
                           San Antonio, Texas 78288 (For Federal Express,78240)
                           Attention:       John W. Saunders, Jr.
                                            Senior Vice President,
                                            Fixed Income Investments

                           Telephone:       (210) 498-7320
                           Telecopy:        (210) 498-5689

                                            David G. Peebles
                                            Senior Vice President,
                                            Equity Investments

                           Telephone:       (210) 498-7340
                           Telecopy:        (210) 498-2954

ADDRESS FOR BORROWING AND PAYMENTS:

                           9800 Fredericksburg Road
                           San Antonio, Texas 78288
                           Attention:       Caryl J. Swann

                           Telephone:       (210) 498-7303
                           Telecopy:        (210) 498-0382 or 498-7819
                           Telex:           767424

INSTRUCTIONS FOR PAYMENTS TO BORROWER:

WE PAY VIA:  __X__FED FUNDS   _____CHIPS

<PAGE>

TO:    (PLEASE  PLACE  BANK NAME,  CORRESPONDENT  NAME (IF  APPLICABLE),  CHIPS
       AND/OR FED FUNDS ACCOUNT NUMBER BELOW)

STATE STREET BANK AND TRUST COMPANY, BOSTON, MASSACHUSETTS
- ----------------------------------------------------------

ABA #011-00-0028
- ----------------


USAA MUTUAL FUND, INC.
======================

USAA AGGRESSIVE GROWTH FUND                 ACCT.# 6938-502-9
- -------------------------------------------------------------
USAA GROWTH & INCOME FUND                   ACCT.# 6938-519-3
- -------------------------------------------------------------
USAA INCOME STOCK FUND                      ACCT.# 6938-495-6
- -------------------------------------------------------------
USAA SHORT-TERM BOND FUND                   ACCT.# 6938-517-7
- -------------------------------------------------------------
USAA MONEY MARKET FUND                      ACCT.# 6938-498-0
- -------------------------------------------------------------
USAA GROWTH FUND                            ACCT.# 6938-490-7
- -------------------------------------------------------------
USAA INCOME FUND                            ACCT.# 6938-494-9
- -------------------------------------------------------------
USAA S&P 500 INDEX FUND                     ACCT.# 6938-478-2
- -------------------------------------------------------------
USAA SCIENCE & TECHNOLOGY FUND              ACCT.# 6938-515-1
- -------------------------------------------------------------
USAA FIRST START GROWTH FUND                ACCT.# 6938-468-3
- -------------------------------------------------------------

USAA INVESTMENT TRUST
=====================

USAA CORNERSTONE STRATEGY FUND              ACCT.# 6938-487-3
- -------------------------------------------------------------
USAA GOLD FUND                              ACCT.# 6938-488-1
- -------------------------------------------------------------
USAA INTERNATIONAL FUND                     ACCT.# 6938-497-2
- -------------------------------------------------------------
USAA WORLD GROWTH FUND                      ACCT.# 6938-504-5
- -------------------------------------------------------------
USAA GNMA TRUST                             ACCT.# 6938-486-5
- -------------------------------------------------------------
USAA TREASURY MONEY MARKET TRUST            ACCT.# 6938-493-1
- -------------------------------------------------------------

<PAGE>

- -------------------------------------------------------------
USAA EMERGING MARKETS FUND                  ACCT.# 6938-501-1
- -------------------------------------------------------------
USAA GROWTH AND TAX STRATEGY FUND           ACCT.# 6938-509-4
- -------------------------------------------------------------
USAA BALANCED STRATEGY FUND                 ACCT.# 6938-507-8
- -------------------------------------------------------------
USAA GROWTH STRATEGY FUND                   ACCT.# 6938-510-2
- -------------------------------------------------------------
USAA INCOME STRATEGY FUND                   ACCT.# 6938-508-6
- -------------------------------------------------------------

USAA TAX EXEMPT FUND, INC.
==========================

USAA LONG-TERM FUND                         ACCT.# 6938-492-3
- -------------------------------------------------------------
USAA INTERMEDIATE-TERM FUND                 ACCT.# 6938-496-4
- -------------------------------------------------------------
USAA SHORT-TERM FUND                        ACCT.# 6938-500-3
- -------------------------------------------------------------
USAA TAX EXEMPT MONEY MARKET FUND           ACCT.# 6938-514-4
- -------------------------------------------------------------
USAA CALIFORNIA BOND FUND                   ACCT.# 6938-489-9
- -------------------------------------------------------------
USAA CALIFORNIA MONEY MARKET FUND           ACCT.# 6938-491-5
- -------------------------------------------------------------
USAA NEW YORK BOND FUND                     ACCT.# 6938-503-7
- -------------------------------------------------------------
USAA NEW YORK MONEY MARKET FUND             ACCT.# 6938-511-0
- -------------------------------------------------------------
USAA VIRGINIA BOND FUND                     ACCT.# 6938-512-8
- -------------------------------------------------------------
USAA VIRGINIA MONEY MARKET FUND             ACCT.# 6938-513-6
- -------------------------------------------------------------

USAA STATE TAX-FREE TRUST
=========================

USAA FLORIDA TAX-FREE INCOME FUND           ACCT.# 6938-473-3
- -------------------------------------------------------------
USAA FLORIDA TAX-FREE MONEY MARKET FUND     ACCT.# 6938-467-5
- -------------------------------------------------------------
USAA TEXAS TAX-FREE INCOME FUND             ACCT.# 6938-602-7
- -------------------------------------------------------------
USAA TEXAS TAX-FREE MONEY MARKET FUND       ACCT.# 6938-601-9
- -------------------------------------------------------------

<PAGE>

                                                                      EXHIBIT C
                                                                      ---------

                      ADDRESS FOR USAA CAPITAL CORPORATION

                            USAA Capital Corporation
                            9800 Fredericksburg Road
                            San Antonio, Texas 78288

                            Attention:          Laurie B. Blank
                            Telephone No.:      (210) 498-0825
                            Telecopy No.:       (210) 498-6566

<PAGE>

                                                                      EXHIBIT D
                                                                      ---------

                             OFFICER'S CERTIFICATE
                             ---------------------

The undersigned  hereby certifies that he is the duly elected Secretary of USAA
Mutual Fund, Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc. and USAA
State Tax-Free  Trust and that he is authorized to execute this  Certificate on
behalf of USAA Mutual Fund, Inc., USAA Investment  Trust, USAA Tax Exempt Fund,
Inc. and USAA State Tax-Free Trust. The undersigned hereby further certifies to
the following:

The following  individuals  are duly authorized to act on behalf of USAA Mutual
Fund,  Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc. and USAA State
Tax-Free Trust, by transmitting telephonic, telex, or telecopy instructions and
other  communications  with regard to borrowing  and  payments  pursuant to the
committed Master Revolving Credit Agreement with USAA Capital Corporation.  The
signature set opposite the name of each individual  below is that  individual's
genuine signature.

         NAME                       OFFICE                     SIGNATURE
         ----                       ------                     ---------


Michael J.C. Roth          President                  /S/ MICHAEL J.C. ROTH
                                                      -------------------------

John W. Saunders, Jr.      Senior Vice President,
                           Fixed Income Investments   /S/ JOHN W. SAUNDERS, JR.
                                                      -------------------------

David G. Peebles           Senior Vice President,
                           Equity Investments         /S/ DAVID G. PEEBLES
                                                      -------------------------

Kenneth E. Willmann        Vice President,
                           Mutual Fund Portfolios     /S/ KENNETH E. WILLMANN
                                                      -------------------------

Sherron A. Kirk            Vice President,
                           Controller                 /S/ SHERRON A. KIRK
                                                      -------------------------

Caryl J. Swann             Executive Director,
                           Mutual Fund Analysis
                           and Support                /S/ CARYL J. SWANN
                                                      -------------------------

IN WITNESS  WHEREOF,  I have executed this  Certificate  as of this 12th day of
January, 1999.


                                                      /S/ MICHAEL D. WAGNER
                                                      -------------------------
                                                      Michael D. Wagner
                                                      Secretary

<PAGE>

I, Michael J.C.  Roth,  President of USAA Mutual Fund,  Inc.,  USAA  Investment
Trust,  USAA Tax Exempt Fund, Inc. And USAA State Tax-Free Trust hereby certify
that  Michael D. Wagner is, and has been at all times since a date prior to the
date of this Certificate,  the duly elected, qualified, and acting Secretary of
USAA Mutual Fund, Inc., USAA Investment  Trust,  USAA Tax Exempt Fund, Inc. And
USAA State  Tax-Free  Trust and that the  signature set forth above is his true
and correct signature.


DATE: January 12, 1999                                /S/ MICHAEL J.C. ROTH
                                                      -------------------------
                                                      Michael J.C. Roth
                                                      President


                          GOODWIN, PROCTER & HOAR LLP

                               COUNSELLORS AT LAW
                                 EXCHANGE PLACE
                        BOSTON, MASSACHUSETTS 02109-2881

                                                       TELEPHONE (617) 570-1000
                                                      TELECOPIER (617) 523-1231


                                  June 1, 1999


USAA Tax Exempt Fund, Inc.
USAA Building
9800 Fredericksburg Road
San Antonio, Texas  78288-0227

Ladies and Gentlemen:

         We hereby consent to the reference in Post-Effective  Amendment No. 28
(the  "Amendment") to the Registration  Statement (No. 2-75093) on Form N-1A of
USAA Tax Exempt Fund, Inc. (the "Registrant"),  a Maryland corporation,  to our
opinion  with  respect  to  the  legality  of  the  shares  of  the  Registrant
representing   interests  in  the  Long-Term  Fund,   Intermediate-Term   Fund,
Short-Term Fund, Tax Exempt Money Market Fund, California Bond Fund, California
Money Market  Fund,  New York Bond Fund,  New York Money Market Fund,  Virginia
Bond Fund and  Virginia  Money  Market  Fund  series of the  Registrant,  which
opinion  was filed with  Post-Effective  Amendment  No. 27 to the  Registration
Statement.

         We also hereby consent to the reference to this firm in the statements
of  additional  information  under the heading  "General  Information--Counsel"
which  form a part of the  Amendment  and to the  filing of this  consent as an
exhibit to the Amendment.

                                                Very truly yours,

                                                /s/GOODWIN, PROCTER & HOAR  LLP
                                                -------------------------------
                                                   GOODWIN, PROCTER & HOAR  LLP

DOCSC\756946.1

The Shareholders and Board of Directors                              Exhibit 10
USAA Tax Exempt Fund Inc:

We consent to the use of our reports dated May 7, 1999,  incorporated herein by
reference  and to the  references  to our firm  under the  headings  "Financial
Highlights" in the prospectuses and "Independent  Auditors" in the statement of
additional information.

                                                              KPMG LLP

San Antonio, Texas
June 1, 1999
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 1
   <NAME> LONG-TERM FUND
<MULTIPLIER> 1,000

<S>                             <C>
<PERIOD-TYPE>                   12-MOS
<FISCAL-YEAR-END>                          MAR-31-1999
<PERIOD-END>                               MAR-31-1999
<INVESTMENTS-AT-COST>                        1,992,761
<INVESTMENTS-AT-VALUE>                       2,147,335
<RECEIVABLES>                                   74,115
<ASSETS-OTHER>                                     488
<OTHER-ITEMS-ASSETS>                                 0
<TOTAL-ASSETS>                               2,221,938
<PAYABLE-FOR-SECURITIES>                        49,057
<SENIOR-LONG-TERM-DEBT>                              0
<OTHER-ITEMS-LIABILITIES>                        4,639
<TOTAL-LIABILITIES>                             53,696
<SENIOR-EQUITY>                                      0
<PAID-IN-CAPITAL-COMMON>                     2,032,092
<SHARES-COMMON-STOCK>                          155,789
<SHARES-COMMON-PRIOR>                          145,921
<ACCUMULATED-NII-CURRENT>                            0
<OVERDISTRIBUTION-NII>                               0
<ACCUMULATED-NET-GAINS>                       (18,424)
<OVERDISTRIBUTION-GAINS>                             0
<ACCUM-APPREC-OR-DEPREC>                       154,574
<NET-ASSETS>                                 2,168,242
<DIVIDEND-INCOME>                                    0
<INTEREST-INCOME>                              123,377
<OTHER-INCOME>                                       0
<EXPENSES-NET>                                 (7,625)
<NET-INVESTMENT-INCOME>                        115,752
<REALIZED-GAINS-CURRENT>                        14,433
<APPREC-INCREASE-CURRENT>                     (26,388)
<NET-CHANGE-FROM-OPS>                          103,797
<EQUALIZATION>                                       0
<DISTRIBUTIONS-OF-INCOME>                    (115,752)
<DISTRIBUTIONS-OF-GAINS>                             0
<DISTRIBUTIONS-OTHER>                                0
<NUMBER-OF-SHARES-SOLD>                         48,886
<NUMBER-OF-SHARES-REDEEMED>                   (44,798)
<SHARES-REINVESTED>                              5,780
<NET-CHANGE-IN-ASSETS>                         125,717
<ACCUMULATED-NII-PRIOR>                              0
<ACCUMULATED-GAINS-PRIOR>                     (32,857)
<OVERDISTRIB-NII-PRIOR>                              0
<OVERDIST-NET-GAINS-PRIOR>                           0
<GROSS-ADVISORY-FEES>                            5,953
<INTEREST-EXPENSE>                                   0
<GROSS-EXPENSE>                                  7,625
<AVERAGE-NET-ASSETS>                         2,123,281
<PER-SHARE-NAV-BEGIN>                            14.00
<PER-SHARE-NII>                                   0.76
<PER-SHARE-GAIN-APPREC>                         (0.08)
<PER-SHARE-DIVIDEND>                            (0.76)
<PER-SHARE-DISTRIBUTIONS>                         0.00
<RETURNS-OF-CAPITAL>                              0.00
<PER-SHARE-NAV-END>                              13.92
<EXPENSE-RATIO>                                   0.36
[AVG-DEBT-OUTSTANDING]                               0
[AVG-DEBT-PER-SHARE]                                 0


</TABLE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 2
   <NAME> INTERMEDIATE-TERM FUND
<MULTIPLIER> 1,000

<S>                             <C>
<PERIOD-TYPE>                   12-MOS
<FISCAL-YEAR-END>                          MAR-31-1999
<PERIOD-END>                               MAR-31-1999
<INVESTMENTS-AT-COST>                        2,186,720
<INVESTMENTS-AT-VALUE>                       2,322,721
<RECEIVABLES>                                   34,784
<ASSETS-OTHER>                                     532
<OTHER-ITEMS-ASSETS>                                 0
<TOTAL-ASSETS>                               2,358,037
<PAYABLE-FOR-SECURITIES>                         9,830
<SENIOR-LONG-TERM-DEBT>                              0
<OTHER-ITEMS-LIABILITIES>                        3,806
<TOTAL-LIABILITIES>                             13,636
<SENIOR-EQUITY>                                      0
<PAID-IN-CAPITAL-COMMON>                     2,208,590
<SHARES-COMMON-STOCK>                          175,024
<SHARES-COMMON-PRIOR>                          152,420
<ACCUMULATED-NII-CURRENT>                            0
<OVERDISTRIBUTION-NII>                               0
<ACCUMULATED-NET-GAINS>                          (190)
<OVERDISTRIBUTION-GAINS>                             0
<ACCUM-APPREC-OR-DEPREC>                       136,001
<NET-ASSETS>                                 2,344,401
<DIVIDEND-INCOME>                                    0
<INTEREST-INCOME>                              121,825
<OTHER-INCOME>                                       0
<EXPENSES-NET>                                 (7,885)
<NET-INVESTMENT-INCOME>                        113,940
<REALIZED-GAINS-CURRENT>                         2,285
<APPREC-INCREASE-CURRENT>                      (1,210)
<NET-CHANGE-FROM-OPS>                          115,015
<EQUALIZATION>                                       0
<DISTRIBUTIONS-OF-INCOME>                    (113,940)
<DISTRIBUTIONS-OF-GAINS>                             0
<DISTRIBUTIONS-OTHER>                                0
<NUMBER-OF-SHARES-SOLD>                         35,847
<NUMBER-OF-SHARES-REDEEMED>                   (19,784)
<SHARES-REINVESTED>                              6,541
<NET-CHANGE-IN-ASSETS>                         304,896
<ACCUMULATED-NII-PRIOR>                              0
<ACCUMULATED-GAINS-PRIOR>                      (2,475)
<OVERDISTRIB-NII-PRIOR>                              0
<OVERDIST-NET-GAINS-PRIOR>                           0
<GROSS-ADVISORY-FEES>                            6,119
<INTEREST-EXPENSE>                                   0
<GROSS-EXPENSE>                                  7,885
<AVERAGE-NET-ASSETS>                         2,184,148
<PER-SHARE-NAV-BEGIN>                            13.38
<PER-SHARE-NII>                                   0.70
<PER-SHARE-GAIN-APPREC>                           0.01
<PER-SHARE-DIVIDEND>                            (0.70)
<PER-SHARE-DISTRIBUTIONS>                         0.00
<RETURNS-OF-CAPITAL>                              0.00
<PER-SHARE-NAV-END>                              13.39
<EXPENSE-RATIO>                                   0.36
[AVG-DEBT-OUTSTANDING]                               0
[AVG-DEBT-PER-SHARE]                                 0


</TABLE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 3
   <NAME> SHORT-TERM FUND
<MULTIPLIER> 1,000

<S>                             <C>
<PERIOD-TYPE>                   12-MOS
<FISCAL-YEAR-END>                          MAR-31-1999
<PERIOD-END>                               MAR-31-1999
<INVESTMENTS-AT-COST>                        1,019,672
<INVESTMENTS-AT-VALUE>                       1,037,335
<RECEIVABLES>                                   12,728
<ASSETS-OTHER>                                     773
<OTHER-ITEMS-ASSETS>                                 0
<TOTAL-ASSETS>                               1,050,836
<PAYABLE-FOR-SECURITIES>                        14,063
<SENIOR-LONG-TERM-DEBT>                              0
<OTHER-ITEMS-LIABILITIES>                        3,213
<TOTAL-LIABILITIES>                             17,276
<SENIOR-EQUITY>                                      0
<PAID-IN-CAPITAL-COMMON>                     1,019,351
<SHARES-COMMON-STOCK>                           96,372
<SHARES-COMMON-PRIOR>                           90,431
<ACCUMULATED-NII-CURRENT>                            0
<OVERDISTRIBUTION-NII>                               0
<ACCUMULATED-NET-GAINS>                        (3,454)
<OVERDISTRIBUTION-GAINS>                             0
<ACCUM-APPREC-OR-DEPREC>                        17,663
<NET-ASSETS>                                 1,033,560
<DIVIDEND-INCOME>                                    0
<INTEREST-INCOME>                               49,014
<OTHER-INCOME>                                       0
<EXPENSES-NET>                                 (3,789)
<NET-INVESTMENT-INCOME>                         45,225
<REALIZED-GAINS-CURRENT>                           149
<APPREC-INCREASE-CURRENT>                      (1,264)
<NET-CHANGE-FROM-OPS>                           44,110
<EQUALIZATION>                                       0
<DISTRIBUTIONS-OF-INCOME>                     (45,225)
<DISTRIBUTIONS-OF-GAINS>                             0
<DISTRIBUTIONS-OTHER>                                0
<NUMBER-OF-SHARES-SOLD>                         35,919
<NUMBER-OF-SHARES-REDEEMED>                   (33,532)
<SHARES-REINVESTED>                              3,554
<NET-CHANGE-IN-ASSETS>                          62,755
<ACCUMULATED-NII-PRIOR>                              0
<ACCUMULATED-GAINS-PRIOR>                      (3,603)
<OVERDISTRIB-NII-PRIOR>                              0
<OVERDIST-NET-GAINS-PRIOR>                           0
<GROSS-ADVISORY-FEES>                            2,781
<INTEREST-EXPENSE>                                   0
<GROSS-EXPENSE>                                  3,789
<AVERAGE-NET-ASSETS>                           991,422
<PER-SHARE-NAV-BEGIN>                            10.74
<PER-SHARE-NII>                                   0.49
<PER-SHARE-GAIN-APPREC>                         (0.02)
<PER-SHARE-DIVIDEND>                            (0.49)
<PER-SHARE-DISTRIBUTIONS>                         0.00
<RETURNS-OF-CAPITAL>                              0.00
<PER-SHARE-NAV-END>                              10.72
<EXPENSE-RATIO>                                   0.38
[AVG-DEBT-OUTSTANDING]                               0
[AVG-DEBT-PER-SHARE]                                 0


</TABLE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 4
   <NAME> TAX EXEMPT MONEY MARKET FUND
<MULTIPLIER> 1,000

<S>                             <C>
<PERIOD-TYPE>                   12-MOS
<FISCAL-YEAR-END>                          MAR-31-1999
<PERIOD-END>                               MAR-31-1999
<INVESTMENTS-AT-COST>                        1,784,691
<INVESTMENTS-AT-VALUE>                       1,784,691
<RECEIVABLES>                                   17,287
<ASSETS-OTHER>                                   3,481
<OTHER-ITEMS-ASSETS>                                 0
<TOTAL-ASSETS>                               1,805,459
<PAYABLE-FOR-SECURITIES>                        32,957
<SENIOR-LONG-TERM-DEBT>                              0
<OTHER-ITEMS-LIABILITIES>                        5,466
<TOTAL-LIABILITIES>                             38,423
<SENIOR-EQUITY>                                      0
<PAID-IN-CAPITAL-COMMON>                     1,767,036
<SHARES-COMMON-STOCK>                        1,767,036
<SHARES-COMMON-PRIOR>                        1,631,785
<ACCUMULATED-NII-CURRENT>                            0
<OVERDISTRIBUTION-NII>                               0
<ACCUMULATED-NET-GAINS>                              0
<OVERDISTRIBUTION-GAINS>                             0
<ACCUM-APPREC-OR-DEPREC>                             0
<NET-ASSETS>                                 1,767,036
<DIVIDEND-INCOME>                                    0
<INTEREST-INCOME>                               59,361
<OTHER-INCOME>                                       0
<EXPENSES-NET>                                 (6,275)
<NET-INVESTMENT-INCOME>                         53,086
<REALIZED-GAINS-CURRENT>                             0
<APPREC-INCREASE-CURRENT>                            0
<NET-CHANGE-FROM-OPS>                           53,086
<EQUALIZATION>                                       0
<DISTRIBUTIONS-OF-INCOME>                     (53,086)
<DISTRIBUTIONS-OF-GAINS>                             0
<DISTRIBUTIONS-OTHER>                                0
<NUMBER-OF-SHARES-SOLD>                      1,991,129
<NUMBER-OF-SHARES-REDEEMED>                (1,906,313)
<SHARES-REINVESTED>                             50,435
<NET-CHANGE-IN-ASSETS>                         135,251
<ACCUMULATED-NII-PRIOR>                              0
<ACCUMULATED-GAINS-PRIOR>                            0
<OVERDISTRIB-NII-PRIOR>                              0
<OVERDIST-NET-GAINS-PRIOR>                           0
<GROSS-ADVISORY-FEES>                            4,635
<INTEREST-EXPENSE>                                   0
<GROSS-EXPENSE>                                  6,275
<AVERAGE-NET-ASSETS>                         1,655,046
<PER-SHARE-NAV-BEGIN>                             1.00
<PER-SHARE-NII>                                   0.03
<PER-SHARE-GAIN-APPREC>                           0.00
<PER-SHARE-DIVIDEND>                            (0.03)
<PER-SHARE-DISTRIBUTIONS>                         0.00
<RETURNS-OF-CAPITAL>                              0.00
<PER-SHARE-NAV-END>                               1.00
<EXPENSE-RATIO>                                   0.38
[AVG-DEBT-OUTSTANDING]                               0
[AVG-DEBT-PER-SHARE]                                 0


</TABLE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 5
   <NAME> CALIFORNIA BOND FUND
<MULTIPLIER> 1,000

<S>                             <C>
<PERIOD-TYPE>                   12-MOS
<FISCAL-YEAR-END>                          MAR-31-1999
<PERIOD-END>                               MAR-31-1999
<INVESTMENTS-AT-COST>                          591,181
<INVESTMENTS-AT-VALUE>                         639,248
<RECEIVABLES>                                    8,782
<ASSETS-OTHER>                                      17
<OTHER-ITEMS-ASSETS>                                 0
<TOTAL-ASSETS>                                 648,047
<PAYABLE-FOR-SECURITIES>                         4,982
<SENIOR-LONG-TERM-DEBT>                              0
<OTHER-ITEMS-LIABILITIES>                        1,412
<TOTAL-LIABILITIES>                              6,394
<SENIOR-EQUITY>                                      0
<PAID-IN-CAPITAL-COMMON>                       593,707
<SHARES-COMMON-STOCK>                           56,827
<SHARES-COMMON-PRIOR>                           47,782
<ACCUMULATED-NII-CURRENT>                            0
<OVERDISTRIBUTION-NII>                               0
<ACCUMULATED-NET-GAINS>                          (121)
<OVERDISTRIBUTION-GAINS>                             0
<ACCUM-APPREC-OR-DEPREC>                        48,067
<NET-ASSETS>                                   641,653
<DIVIDEND-INCOME>                                    0
<INTEREST-INCOME>                               32,721
<OTHER-INCOME>                                       0
<EXPENSES-NET>                                 (2,297)
<NET-INVESTMENT-INCOME>                         30,424
<REALIZED-GAINS-CURRENT>                           119
<APPREC-INCREASE-CURRENT>                        5,588
<NET-CHANGE-FROM-OPS>                           36,131
<EQUALIZATION>                                       0
<DISTRIBUTIONS-OF-INCOME>                     (30,424)
<DISTRIBUTIONS-OF-GAINS>                             0
<DISTRIBUTIONS-OTHER>                                0
<NUMBER-OF-SHARES-SOLD>                         13,515
<NUMBER-OF-SHARES-REDEEMED>                    (6,329)
<SHARES-REINVESTED>                              1,859
<NET-CHANGE-IN-ASSETS>                         107,906
<ACCUMULATED-NII-PRIOR>                              0
<ACCUMULATED-GAINS-PRIOR>                        (240)
<OVERDISTRIB-NII-PRIOR>                              0
<OVERDIST-NET-GAINS-PRIOR>                           0
<GROSS-ADVISORY-FEES>                            1,843
<INTEREST-EXPENSE>                                   0
<GROSS-EXPENSE>                                  2,297
<AVERAGE-NET-ASSETS>                           584,363
<PER-SHARE-NAV-BEGIN>                            11.17
<PER-SHARE-NII>                                   0.59
<PER-SHARE-GAIN-APPREC>                           0.12
<PER-SHARE-DIVIDEND>                            (0.59)
<PER-SHARE-DISTRIBUTIONS>                         0.00
<RETURNS-OF-CAPITAL>                              0.00
<PER-SHARE-NAV-END>                              11.29
<EXPENSE-RATIO>                                   0.39
[AVG-DEBT-OUTSTANDING]                               0
[AVG-DEBT-PER-SHARE]                                 0


</TABLE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 6
   <NAME> CALIFORNIA MONEY MARKET FUND
<MULTIPLIER> 1,000

<S>                             <C>
<PERIOD-TYPE>                   12-MOS
<FISCAL-YEAR-END>                          MAR-31-1999
<PERIOD-END>                               MAR-31-1999
<INVESTMENTS-AT-COST>                          397,213
<INVESTMENTS-AT-VALUE>                         397,213
<RECEIVABLES>                                    2,762
<ASSETS-OTHER>                                  44,637
<OTHER-ITEMS-ASSETS>                                 0
<TOTAL-ASSETS>                                 444,612
<PAYABLE-FOR-SECURITIES>                         3,850
<SENIOR-LONG-TERM-DEBT>                              0
<OTHER-ITEMS-LIABILITIES>                        1,554
<TOTAL-LIABILITIES>                              5,404
<SENIOR-EQUITY>                                      0
<PAID-IN-CAPITAL-COMMON>                       439,208
<SHARES-COMMON-STOCK>                          439,208
<SHARES-COMMON-PRIOR>                          431,754
<ACCUMULATED-NII-CURRENT>                            0
<OVERDISTRIBUTION-NII>                               0
<ACCUMULATED-NET-GAINS>                              0
<OVERDISTRIBUTION-GAINS>                             0
<ACCUM-APPREC-OR-DEPREC>                             0
<NET-ASSETS>                                   439,208
<DIVIDEND-INCOME>                                    0
<INTEREST-INCOME>                               13,521
<OTHER-INCOME>                                       0
<EXPENSES-NET>                                 (1,675)
<NET-INVESTMENT-INCOME>                         11,846
<REALIZED-GAINS-CURRENT>                             0
<APPREC-INCREASE-CURRENT>                            0
<NET-CHANGE-FROM-OPS>                           11,846
<EQUALIZATION>                                       0
<DISTRIBUTIONS-OF-INCOME>                     (11,846)
<DISTRIBUTIONS-OF-GAINS>                             0
<DISTRIBUTIONS-OTHER>                                0
<NUMBER-OF-SHARES-SOLD>                        482,344
<NUMBER-OF-SHARES-REDEEMED>                  (485,999)
<SHARES-REINVESTED>                             11,109
<NET-CHANGE-IN-ASSETS>                           7,454
<ACCUMULATED-NII-PRIOR>                              0
<ACCUMULATED-GAINS-PRIOR>                            0
<OVERDISTRIB-NII-PRIOR>                              0
<OVERDIST-NET-GAINS-PRIOR>                           0
<GROSS-ADVISORY-FEES>                            1,251
<INTEREST-EXPENSE>                                   0
<GROSS-EXPENSE>                                  1,675
<AVERAGE-NET-ASSETS>                           396,770
<PER-SHARE-NAV-BEGIN>                             1.00
<PER-SHARE-NII>                                   0.03
<PER-SHARE-GAIN-APPREC>                           0.00
<PER-SHARE-DIVIDEND>                            (0.03)
<PER-SHARE-DISTRIBUTIONS>                         0.00
<RETURNS-OF-CAPITAL>                              0.00
<PER-SHARE-NAV-END>                               1.00
<EXPENSE-RATIO>                                   0.42
[AVG-DEBT-OUTSTANDING]                               0
[AVG-DEBT-PER-SHARE]                                 0



</TABLE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 7
   <NAME> NEW YORK BOND FUND
<MULTIPLIER> 1,000

<S>                             <C>
<PERIOD-TYPE>                   12-MOS
<FISCAL-YEAR-END>                          MAR-31-1999
<PERIOD-END>                               MAR-31-1999
<INVESTMENTS-AT-COST>                           83,929
<INVESTMENTS-AT-VALUE>                          89,204
<RECEIVABLES>                                    3,801
<ASSETS-OTHER>                                       4
<OTHER-ITEMS-ASSETS>                                 0
<TOTAL-ASSETS>                                  93,009
<PAYABLE-FOR-SECURITIES>                         4,355
<SENIOR-LONG-TERM-DEBT>                              0
<OTHER-ITEMS-LIABILITIES>                          174
<TOTAL-LIABILITIES>                              4,529
<SENIOR-EQUITY>                                      0
<PAID-IN-CAPITAL-COMMON>                        85,856
<SHARES-COMMON-STOCK>                            7,586
<SHARES-COMMON-PRIOR>                            6,076
<ACCUMULATED-NII-CURRENT>                            0
<OVERDISTRIBUTION-NII>                               0
<ACCUMULATED-NET-GAINS>                        (2,651)
<OVERDISTRIBUTION-GAINS>                             0
<ACCUM-APPREC-OR-DEPREC>                         5,275
<NET-ASSETS>                                    88,480
<DIVIDEND-INCOME>                                    0
<INTEREST-INCOME>                                4,489
<OTHER-INCOME>                                       0
<EXPENSES-NET>                                   (391)
<NET-INVESTMENT-INCOME>                          4,098
<REALIZED-GAINS-CURRENT>                           125
<APPREC-INCREASE-CURRENT>                           21
<NET-CHANGE-FROM-OPS>                            4,244
<EQUALIZATION>                                       0
<DISTRIBUTIONS-OF-INCOME>                      (4,098)
<DISTRIBUTIONS-OF-GAINS>                             0
<DISTRIBUTIONS-OTHER>                                0
<NUMBER-OF-SHARES-SOLD>                          2,111
<NUMBER-OF-SHARES-REDEEMED>                      (861)
<SHARES-REINVESTED>                                260
<NET-CHANGE-IN-ASSETS>                          17,869
<ACCUMULATED-NII-PRIOR>                              0
<ACCUMULATED-GAINS-PRIOR>                      (2,776)
<OVERDISTRIB-NII-PRIOR>                              0
<OVERDIST-NET-GAINS-PRIOR>                           0
<GROSS-ADVISORY-FEES>                              318
<INTEREST-EXPENSE>                                   0
<GROSS-EXPENSE>                                    450
<AVERAGE-NET-ASSETS>                            78,314
<PER-SHARE-NAV-BEGIN>                            11.62
<PER-SHARE-NII>                                   0.61
<PER-SHARE-GAIN-APPREC>                           0.04
<PER-SHARE-DIVIDEND>                            (0.61)
<PER-SHARE-DISTRIBUTIONS>                         0.00
<RETURNS-OF-CAPITAL>                              0.00
<PER-SHARE-NAV-END>                              11.66
<EXPENSE-RATIO>                                   0.50
[AVG-DEBT-OUTSTANDING]                               0
[AVG-DEBT-PER-SHARE]                                 0


</TABLE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 8
   <NAME> NEW YORK MONEY MARKET FUND
<MULTIPLIER> 1,000

<S>                             <C>
<PERIOD-TYPE>                   12-MOS
<FISCAL-YEAR-END>                          MAR-31-1999
<PERIOD-END>                               MAR-31-1999
<INVESTMENTS-AT-COST>                           71,161
<INVESTMENTS-AT-VALUE>                          71,161
<RECEIVABLES>                                      531
<ASSETS-OTHER>                                     162
<OTHER-ITEMS-ASSETS>                                 0
<TOTAL-ASSETS>                                  71,854
<PAYABLE-FOR-SECURITIES>                         2,498
<SENIOR-LONG-TERM-DEBT>                              0
<OTHER-ITEMS-LIABILITIES>                          522
<TOTAL-LIABILITIES>                              3,020
<SENIOR-EQUITY>                                      0
<PAID-IN-CAPITAL-COMMON>                        68,834
<SHARES-COMMON-STOCK>                           68,834
<SHARES-COMMON-PRIOR>                           62,226
<ACCUMULATED-NII-CURRENT>                            0
<OVERDISTRIBUTION-NII>                               0
<ACCUMULATED-NET-GAINS>                              0
<OVERDISTRIBUTION-GAINS>                             0
<ACCUM-APPREC-OR-DEPREC>                             0
<NET-ASSETS>                                    68,834
<DIVIDEND-INCOME>                                    0
<INTEREST-INCOME>                                2,110
<OTHER-INCOME>                                       0
<EXPENSES-NET>                                   (314)
<NET-INVESTMENT-INCOME>                          1,796
<REALIZED-GAINS-CURRENT>                             0
<APPREC-INCREASE-CURRENT>                            0
<NET-CHANGE-FROM-OPS>                            1,796
<EQUALIZATION>                                       0
<DISTRIBUTIONS-OF-INCOME>                      (1,796)
<DISTRIBUTIONS-OF-GAINS>                             0
<DISTRIBUTIONS-OTHER>                                0
<NUMBER-OF-SHARES-SOLD>                         69,814
<NUMBER-OF-SHARES-REDEEMED>                   (64,914)
<SHARES-REINVESTED>                              1,708
<NET-CHANGE-IN-ASSETS>                           6,608
<ACCUMULATED-NII-PRIOR>                              0
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WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 9
   <NAME> VIRGINIA BOND FUND
<MULTIPLIER> 1,000

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</TABLE>
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.

<TABLE> <S> <C>

<ARTICLE> 6
<CIK> 0000356555
<NAME> USAA TAX EXEMPT FUND, INC.
<SERIES>
   <NUMBER> 10
   <NAME> VIRGINIA MONEY MARKET FUND
<MULTIPLIER> 1,000

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[AVG-DEBT-OUTSTANDING]                               0
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</TABLE>


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