<PAGE>
<PAGE>
Dear Shareholder:
We cordially invite you to attend a special meeting of shareholders of the T.
Rowe Price Virginia Short-Term Tax-Free Bond Fund on Wednesday, October 25,
2000. The purpose of the meeting is to vote on a recommendation by the fund's
Board of Trustees that would merge the fund's assets into the T. Rowe Price
Tax-Free Short-Intermediate Fund. The proxy contains detailed information on
both funds. WE ASK YOU TO READ THE ENCLOSED INFORMATION CAREFULLY AND REGISTER
YOUR VOTE.
The trustees and management of the Virginia fund considered the following in
making their recommendation:
. Increased efficiency. We have found that investor demand is limited for a
fund investing solely in short-term municipal bonds issued in Virginia.
Demand has not expanded in recent years, and we do not foresee future
growth. The fund's modest asset size impairs the manager's ability to
execute its investment strategy in the most efficient manner. The larger
size of the Tax-Free Short-Intermediate Fund gives the manager greater
flexibility in implementing its investment program and also leads to
economies of scale, which can help reduce expenses.
. Similarities of the funds' investment programs. Both funds invest primarily
in high-quality municipal bonds and maintain weighted average maturities of
less than five years. Both provide income that is exempt from federal
income tax. Tax-Free Short-Intermediate invests nationally and, therefore,
is more broadly diversified than the Virginia fund.
. Yields are similar. Although income generated by the national fund is not
exempt from Virginia income taxes, the national fund's yield has
historically been higher than that of the Virginia fund, although there is
no guarantee this would always be the case. (As of July 31, the 30-day SEC
standardized yield was 3.96% for the Virginia fund and 4.31% for the
national fund.)* The national fund's higher yield reflects in part its
longer weighted average maturity, which, in turn, results in somewhat
higher price fluctuation.
. Lower expense ratio. The Virginia fund's expense ratio is higher than that
of the much larger Tax-Free Short-Intermediate Fund, so your investment in
the latter fund would benefit from the lower expense ratio.
VAS
<PAGE>
. Tax-free exchange of shares. The transaction should not create any tax
liabilities for you as a Virginia Short-Term Tax Free Bond Fund
shareholder. Your cost basis and holding periods carry over and apply to
shares you will hold in the Tax-Free Short-Intermediate Fund.
Your fund's managers and directors believe you will be better served over time
by voting for the merger of assets. If these proposals are approved on October
25, the merger will take place a few days thereafter, and you will own shares of
equal value in the Tax-Free Short-Intermediate Fund.
We realize it may be difficult for you to attend the meeting to vote your
shares. HOWEVER, WE NEED YOUR VOTE. YOU CAN VOTE BY MAIL, TELEPHONE, OR THROUGH
THE INTERNET, AS EXPLAINED ON THE ENCLOSED CARD.
If you have any questions, please call us at 1-800-541-5910. YOUR VOTE IS
EXTREMELY IMPORTANT.
Sincerely,
James S. Riepe
Vice Chairman of the Board
T. Rowe Price Associates, Inc.
* The 30-day dividend yields for the same periods (based on actual income paid
to shareholders) were 3.81% for the Virginia Short-Term Tax-Free Bond Fund and
4.31% for the Tax-Free Short-Intermediate Fund.
<PAGE>
Virginia Short-Term Tax-Free Bond Fund
(a series of the T. Rowe Price State Tax-Free Income Trust)
NOTICE OF SPECIAL MEETING OF SHAREHOLDERS
T. Rowe Price Funds
100 East Pratt Street
Baltimore, Maryland 21202
Patricia B. Lippert
Secretary
September 1, 2000
A special meeting of shareholders of the Virginia Short-Term Tax-Free Bond Fund
(the "Virginia Fund"), a series of the T. Rowe Price State Tax-Free Income Trust
(the "Company"), will be held on Wednesday, October 25, 2000, at 8:00 a.m.,
eastern time, at the Four Seasons Hotel, 2800 Pennsylvania Avenue, N.W.,
Washington, D.C. 20007. The following matters will be acted upon at that time:
1. To consider and act upon a proposal to approve or disapprove an Agreement
and Plan of Reorganization ("Plan"). The Plan provides for the transfer of
substantially all of the assets of Virginia Fund to T. Rowe Price Tax-Free
Short-Intermediate Fund, Inc. (the "Tax-Free Fund"), in exchange for shares of
the Tax-Free Fund, and the distribution of Tax-Free Fund shares to the
shareholders of the Virginia Fund in liquidation of the Virginia Fund; and
2. To transact such other business as may properly come before the meeting and
any adjournments thereof.
Only shareholders of record of common stock at the close of business on August
25, 2000, are entitled to notice of, and to vote at, this meeting or any
adjournment thereof. THE BOARD RECOMMENDS THAT SHAREHOLDERS VOTE IN FAVOR OF
THIS PROPOSAL.
PATRICIA B. LIPPERT
<PAGE>
<TABLE>
<CAPTION>
YOUR VOTE IS IMPORTANT
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<S><C>
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SHAREHOLDERS ARE URGED TO DESIGNATE THEIR CHOICES ON EACH OF THE MATTERS TO BE
ACTED UPON BY USING ONE OF THE FOLLOWING THREE METHODS:
1. VOTE BY INTERNET.
. Read the proxy statement.
. Go to the proxy voting link found on your proxy card.
. Enter the control number found on your proxy card.
. Follow the instructions using your proxy card as a guide.
2. VOTE BY TELEPHONE.
. Read the proxy statement.
. Call the toll-free number found on your proxy card.
. Enter the control number found on your proxy card.
. Follow the recorded instructions using your proxy card as a guide.
3. VOTE BY MAIL.
. Date, sign, and return the enclosed proxy card in the envelope
provided, which requires no postage if mailed in the United States.
YOUR PROMPT RESPONSE WILL HELP ASSURE A QUORUM AT THE MEETING AND AVOID THE
ADDITIONAL EXPENSE OF FURTHER SOLICITATION.
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</TABLE>
<PAGE>
Acquisition of the Assets of
VIRGINIA SHORT-TERM TAX-FREE BOND FUND
(a series of the T. Rowe Price State Tax-Free Income Trust)
By and In Exchange for Shares of
T. ROWE PRICE TAX-FREE SHORT-INTERMEDIATE FUND, INC.
Special Meeting of Shareholders -- October 25, 2000
PROXY STATEMENT
This Combined Proxy Statement and Prospectus ("Statement") is furnished in
connection with the solicitation of proxies by the Board of Trustees of the T.
Rowe Price State Tax-Free Income Trust (the "Company"), for use at a special
meeting of shareholders of the Virginia Short-Term Tax-Free Bond Fund (the
"Virginia Fund") to be held on Wednesday, October 25, 2000. At the meeting,
shareholders of Virginia Fund will be asked to approve or disapprove an
Agreement and Plan of Reorganization dated September 1, 2000 (the "Plan"),
between the Company on behalf of Virginia Fund and the T. Rowe Price Tax-Free
Short-Intermediate Fund, Inc. (the "Tax-Free Fund"). A copy of the Plan is
included as Exhibit A to this Statement. If you have any questions, please feel
free to call us toll free, 1-800-541-5910.
The proposed Plan provides for the transfer of substantially all of the assets
of Virginia Fund to the Tax-Free Fund in exchange for shares of the Tax-Free
Fund and the distribution of the Tax-Free Fund shares received in the exchange
to Virginia Fund shareholders in complete liquidation of Virginia Fund.
Shareholders of Virginia Fund will receive Tax-Free Fund shares having an
aggregate net asset value equal to the aggregate net asset value of their
Virginia Fund shares on the business day immediately preceding the closing date
of the reorganization.
The Tax-Free Fund seeks to provide, consistent with modest price fluctuation, a
high level of income exempt from federal income taxes by investing primarily in
short- and intermediate-term investment-grade municipal securities. The
investment objective, policies, and restrictions of the Tax-Free Fund and
Virginia Fund are similar, but differ in certain respects, including their
weighted average maturities and the fact that the Virginia Fund invests
substantially all of its assets in municipal securities exempt from federal and
Virginia taxes. Income from the Tax-Free Fund is not exempt from Virginia taxes.
See "Comparison of Investment Objectives, Policies, and Restrictions."
<PAGE>
This Statement, dated September 1, 2000, sets forth concisely the information
you should know about the Tax-Free Fund and the Plan before voting on the Plan
and the transactions contemplated thereby. Please read this Statement and keep
it for future reference. Further information about each fund is found in their
prospectuses. Additional copies of each fund's prospectus are available at no
cost by calling 1-800-541-5910; writing to the Virginia Fund, 100 East Pratt
Street, Baltimore, Maryland 21202; or visiting our website at
www.troweprice.com. A Statement of Additional Information dated September 1,
2000, containing further information about the Tax-Free Fund and the Plan has
been filed with the Securities and Exchange Commission and is available upon
request without charge at the above address, or by calling 1-800-541-5910. The
Statement of Additional Information and the Annual Reports of the Virginia and
Tax-Free Funds are incorporated herein by reference. This Statement was first
mailed to shareholders on or about September 1, 2000.
THE SECURITIES AND EXCHANGE COMMISSION HAS NOT APPROVED OR DISAPPROVED THESE
SECURITIES OR PASSED UPON THE ADEQUACY OF THIS COMBINED PROXY STATEMENT AND
PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<PAGE>
TABLE OF CONTENTS
Summary. . . . . . . . . . . . . . . . .6
Reasons For the Reorganization. . . . . 11
Information About the Reorganization. . 13
Financial Statements. . . . . . . . . . 17
Comparison of Investment Objectives, Policies, and Restrictions 19
Additional Information About the Funds. 25
Further Information About Voting and the Special Meeting 26
General Information About the Funds. . .28
Transfer Agent and Custodian. . . . . . 29
Legal Matters. . . . . . . . . . . . . .29
Experts. . . . . . . . . . . . . . . . .29
Exhibit A - Agreement and Plan of Reorganization 30
No person has been authorized to give any information or to make any
representations other than what is in this Statement or in the materials
expressly incorporated herein by reference. Any such other information or
representation should not be relied upon as having been authorized by T. Rowe
Price State Tax-Free Income Trust.
<PAGE>
SUMMARY
The information contained in this summary is qualified by reference to the more
detailed information appearing elsewhere in this Statement and the Plan, which
is included as Exhibit A to this Statement.
What are shareholders being asked to vote on?
At a meeting held on July 18, 2000, the Board of the Company, including a
majority of the independent trustees, approved submitting the Plan to
shareholders. The Plan provides for the transfer of substantially all the assets
of Virginia Fund to the Tax-Free Fund in exchange for shares of the Tax-Free
Fund. Following the transfer, the Tax-Free Fund shares received in the exchange
will be distributed to shareholders of Virginia Fund in complete liquidation of
Virginia Fund. As a result of the proposed transactions, each Virginia Fund
shareholder will cease to be a shareholder of Virginia Fund and instead will
become the owner of shares of the Tax-Free Fund having an aggregate net asset
value equal to the aggregate net asset value of the shareholder's Virginia Fund
shares determined on the business day preceding the closing date of the
reorganization.
What vote is required to approve the Plan?
Approval of the Plan requires an affirmative vote of the lesser of (a) 67% or
more of the fund's shares present at the meeting in person or by proxy or (b) a
majority of the fund's outstanding shares. THE BOARD OF TRUSTEES RECOMMENDS THAT
SHAREHOLDERS VOTE FOR THE PROPOSAL.
Will there be any tax consequences to Virginia Fund or its shareholders?
The reorganization is designed so as not to create any tax liabilities for
shareholders of Virginia Fund or the Virginia Fund itself.
In the opinion of counsel to the Company, for federal income tax purposes:
. no gain or loss will be recognized by Virginia Fund or its shareholders as
a result of the reorganization,
. the holding period and adjusted basis of the Tax-Free Fund shares received
by a shareholder will be the same as the holding period and adjusted basis
of the shareholder's shares of Virginia Fund, and
. the holding period and adjusted basis of each asset of Virginia Fund in the
hands of the Tax-Free Fund will be the same as the holding period and
adjusted basis of the asset in the hands of Virginia Fund immediately prior
to the reorganization. See "Information About the Reorganization - Tax
Considerations."
<PAGE>
What are the investment objectives and policies of Virginia Fund and the
Tax-Free Fund?
The Virginia Fund seeks to provide the highest level of income exempt from
federal and Virginia state income taxes consistent with modest fluctuation in
principal value by investing primarily in investment-grade Virginia municipal
bonds. The Tax-Free Fund seeks to provide, consistent with modest price
fluctuation, a high level of income exempt from federal income taxes by
investing primarily in short- and intermediate-term investment-grade municipal
securities. The investment policies and restrictions of Virginia Fund and the
Tax-Free Fund are similar in certain respects; however, Virginia Fund's weighted
average maturity will not exceed three years while the Tax-Free Fund's weighted
average maturity normally ranges from two to five years and is not expected to
exceed five years. Additionally, the Virginia Fund seeks to provide income that
is exempt from Virginia state income taxes as well as federal income taxes.
Income from the Tax-Free Fund is only exempt from federal income taxes. There
are other differences which fund shareholders should consider. See "Comparison
of Investment Objectives, Policies, and Restrictions."
What are the management arrangements?
The Virginia Fund and the Tax-Free Fund are advised and managed by T. Rowe Price
Associates, Inc. ("T. Rowe Price"), 100 East Pratt Street, Baltimore, Maryland
21202. T. Rowe Price was incorporated in Maryland in 1947 as successor to the
investment counseling firm founded by Mr. Thomas Rowe Price, Jr. in 1937. As of
June 30, 2000, T. Rowe Price and its affiliates managed $179.0 billion,
including over $7.2 billion in municipal bond assets, for more than 8 million
individual and institutional investor accounts. All decisions regarding the
purchase and sale of fund investments are made by T. Rowe Price -specifically
by each fund's portfolio managers. Each fund has an Investment Advisory
Committee whose chairman has day-to-day responsibility for managing the
portfolio and works with the committee in developing and executing each fund's
investment program. The Investment Advisory Committees comprise the following
members:
Virginia Fund-Charles B. Hill, Chairman, Linda A. Brisson, Patricia S. Deford,
Hugh D. McGuirk, Mary J. Miller, Julie A. Salsbery, and Arthur S. Varnado. Mr.
Hill has been chairman of the fund's committee since its inception in 1994. He
joined T. Rowe Price in 1991 and has been managing investments since 1986.
Tax-Free Fund-Charles B. Hill, Chairman, Janet G. Albright, Patricia S. Deford,
Joseph K. Lynagh, Konstantine B. Mallas, Mary J. Miller, and Arthur S. Varnado.
Mr. Hill has been chairman of the fund's committee since 1997. He joined T. Rowe
Price in 1991 and has been managing investments since 1986.
<PAGE>
Fees and Expenses
Set forth below are the fees and expenses of the funds based on their most
recent fiscal year average net assets and pro forma fees and expenses, assuming
the transaction takes place as scheduled.
<TABLE>
Table 1 Fees and Expenses of the Funds
<CAPTION>
Annual fund operating expense
(expenses that are deducted from fund assets)
Total annual Fee waiver/
Fund Management Other fund operating expense Net
---------------------- fee expenses expenses reimbursement expenses -----
<S> <C> <C> <C> <C> <C> <S>
Virginia/a/ 0.42% 0.53% 0.95% 0.35% 0.60%
---------------------------------------------------------------
Tax-Free 0.42 0.11 0.53 -- --
---------------------------------------------------------------
Pro Forma Combined- 0.42 0.10 0.52 -- 0.52
Tax-Free
------------------------------------------------------------------------------------------
</TABLE>
/a/Effective March 1, 2000, T. Rowe Price contractually obligated itself to
waive any fees and bear any expenses through February 28, 2002, to the extent
such fees or expenses would cause the Virginia Fund's ratio of expenses to
average net assets to exceed 0.60%. Fees waived or expenses paid or assumed
under this agreement are subject to reimbursement to T. Rowe Price whenever
the Virginia Fund's expense ratio is below 0.60%; however, no reimbursement
will be made after February 29, 2004, or if it would result in the expense
ratio exceeding 0.60%. Any amounts reimbursed have the effect of increasing
fees otherwise paid by the Virginia Fund.
EXAMPLE. The following table gives you a rough idea of how expense ratios may
translate into dollars and helps you to compare the cost of investing in these
funds with that of other mutual funds. Although your actual costs may be higher
or lower, the table shows how much you would pay if operating expenses remain
the same, the expense limitation of the Virginia Fund currently in place is not
renewed, you invest $10,000, earn a 5% annual return, and hold the investment
for the following periods and then redeem:
<TABLE>
<CAPTION>
Fund 1 year 3 years 5 years 10 years
---------------------------------------------------------------
<S> <C> <C> <C> <C> <S>
Virginia $61 $231 $455 $1,100
------------------------------------
Tax-Free 54 170 296 665
------------------------------------
Pro Forma Combined- 53 167 291 653
Tax-Free
---------------------------------------------------------------
</TABLE>
The investment management fees paid by the Tax-Free Fund and Virginia Fund to T.
Rowe Price are structured in the same manner (they include a group fee and an
individual fee) and paid at the same rate.
For the year ended February 29, 2000, the group fee rate and total combined
management fee rate for both the Tax-Free Fund and Virginia Fund were 0.32% and
0.42%, respectively. The fund's calculate and accrue the fee daily.
<PAGE>
Risk Factors
What are the main risks of investing in these funds and how do they differ?
Any of the following could cause a decline in a fund's price or income.
. INTEREST RATE RISK This risk refers to the decline in bond prices that
accompanies a rise in the overall level of interest rates. (Bond prices and
interest rates move in opposite directions.) Generally, the longer the
maturity of a fund or security, the greater its interest rate risk.
Interest rate risk is somewhat higher for the Tax-Free Fund because it is
permitted to have a weighted average maturity varying between two and five
years while the Virginia Fund's weighted average maturity can not exceed
three years.
While a rise in rates is the principal source of interest rate risk for
bond funds, falling rates bring the possibility that a bond may be
"called," or redeemed before maturity, and that the proceeds may be
reinvested in lower-yielding securities.
. CREDIT RISK This is the chance that any of a fund's holdings will have its
credit rating downgraded or will default (fail to make scheduled interest
or principal payments), potentially reducing the fund's income level and
share price. While generally considered to be of medium quality, securities
in the BBB category may be more susceptible to adverse economic or
investing conditions, and some BBB securities have speculative
characteristics. Each fund invests primarily in investment grade
securities. However, the funds may retain a security whose credit quality
is downgraded after purchase and each fund may invest up to 5% of its
assets in non-investment grade securities.
. POLITICAL RISK This is the chance that a significant restructuring of
federal income tax rates, or even serious discussion on the topic in
Congress, could cause municipal bond prices to fall. The demand for
municipal securities is strongly influenced by the value of tax-exempt
income to investors. Broadly lower income tax rates could reduce the
advantage of owning municipals. This risk is essentially the same for both
funds.
The funds' investments in the Commonwealth of Puerto Rico and its public
corporations (as well as the U.S. territories of Guam and the Virgin Islands)
require careful assessment of certain risk factors, including reliance on
substantial federal assistance and favorable tax programs that have recently
become subject to phaseout by Congress.
There are additional differences in the investment programs of the funds which
fund shareholders should consider. See "Risk Factors" and "Comparison of
Investment Objectives, Policies, and Restrictions."
<PAGE>
Additional risks for the Virginia Fund are set forth below.
VIRGINIA FUND
As of June 1, 2000, the state of Virginia was rated Aaa by Moody's, AAA by
Standard & Poor's and Fitch.
The fund may invest a significant portion of assets in securities that are not
general obligations of the state. These may be issued by local governments or
public authorities and are rated according to their particular creditworthiness,
which may vary from the state's general obligations. Political and economic
developments within the state may have direct and indirect repercussions on
virtually all municipal bonds issued in the state.
. NONDIVERSIFIED RISK Because it is a nondiversified fund, the Virginia Fund
can invest more of its assets in a smaller number of issuers than the
diversified Tax-Free Fund. This could result in greater potential losses.
. GEOGRAPHICAL RISK A fund investing within a single state is, by
definition, less diversified geographically than one investing across many
states and therefore has greater exposure to adverse economic and political
changes within that state.
What are some of the other risks to which the funds are subject?
Bonds of certain sectors have special risks. For example, the health care
industry can be affected by federal or state legislation, electric utilities are
subject to governmental regulation, and private activity bonds are not
government backed.
To the extent each fund invests in derivatives, it may be exposed to additional
volatility and potential losses.
Each fund's share price may decline; so when shareholders sell their shares,
they may lose money.
What are the procedures for purchasing, redeeming, and pricing shares?
Shares of Virginia Fund and the Tax-Free Fund are sold on a continuous basis.
Shares of the funds are sold at their net asset value without a sales charge.
Each fund requires a minimum initial investment of $2,500 ($1,000 for gifts or
transfers to minors (UGMA/ UTMA) accounts. These minimums will not apply in
connection with the reorganization transaction. The minimum subsequent
investment is generally $100 ($50 for Automatic Asset Builder and gifts or
transfers to minors (UGMA/UTMA) accounts).
Redemption and exchange rights of the funds are identical. Shares of the funds
may be redeemed at their respective net asset values; however, if, in any 90-day
period, a shareholder redeems (sells) more than $250,000, or the sale amounts to
more than 1% of fund net assets,
<PAGE>
the fund has the right to pay the difference between the redemption amount and
the lesser of the two previously mentioned figures with securities from the
fund.
The funds' procedures for pricing their shares are identical. Fund share prices
are calculated at the close of the New York Stock Exchange (normally 4:00 p.m.
ET) each day the exchange is open. To calculate the NAV, each fund's assets are
valued and totaled, liabilities are subtracted, and the balance, called net
assets, is divided by the number of shares outstanding.
What are the funds' policies on dividends and distributions?
The funds' policies on dividends and distributions are identical. Each fund has
a policy of distributing all of its net investment income and realized capital
gains to its respective shareholders. Dividends from net investment income for
each fund are declared daily and paid monthly. Distributions from net capital
gains, if any, are usually declared and paid in December. Dividends and capital
gain distributions are reinvested in additional shares, unless the shareholder
selects another option on the New Account Form. The tax treatment of a capital
gain distribution is determined by how long the fund held the portfolio
securities, not how long a fund shareholder held shares in the fund.
The reorganization is designed so as not to create any tax liabilities for the
funds or their shareholders. Of course, fund shareholders who sell their shares
may have a capital gain or loss. And, while regular monthly income dividends
from the Virginia Fund are expected to be exempt from federal and Virginia state
and local (if any) taxes, such dividends are only exempt from federal income
taxes for the Tax-Free Fund shareholders. The funds follow the same policies on
reporting tax information to their shareholders and the IRS.
REASONS FOR THE REORGANIZATION
Reasons for the Reorganization and Liquidation
The Company's Board of Trustees, including a majority of the independent
trustees, and the Tax-Free Fund's Board of Directors, including a majority of
the independent directors, have determined that the proposed transaction is in
the best interests of the shareholders of Virginia Fund and the Tax-Free Fund
and that the interests of shareholders of Virginia Fund and the Tax-Free Fund
will not be diluted as a result of the proposed transaction.
The Boards of the funds believe the transaction is in the best interests of the
funds for the following reasons:
SIZE OF FUND. The assets of the Virginia Fund have grown very slowly since
its inception in 1994. There is no sign this trend will reverse itself.
<PAGE>
IMPACT ON INVESTMENT PROGRAM. If trends on the short-term investment sector
continue, the relatively small size of the Virginia Fund will affect the ability
of T. Rowe Price to optimize the fund's investment program. The market needs to
be larger to justify a fund investing in this sector of the market. The assets
received by Tax-Free Fund will be consistent with its investment program.
IMPACT ON EXPENSE RATIO. The small size of the Virginia Fund has caused the
fund's actual expense ratio to remain relatively high. While the fund's expense
cap has effectively muted any impact on shareholders, there is no requirement
for T. Rowe Price to maintain the expense cap indefinitely and little
opportunity for expenses to fall below the cap. The addition of assets to the
Tax-Free Fund could have a beneficial impact on its expense ratio.
TAX-FREE FUND'S INVESTMENT PROGRAM. The investment program of Tax-Free Fund
differs from that of Virginia Fund, in that the Tax-Free Fund does not limit its
investments to securities whose income is exempt from federal and Virginia
income taxes. Also, the Tax-Free Fund's weighted average maturity normally
ranges from two to five years and is not expected to exceed five years instead
of the three year limitation for the Virginia Fund. Nevertheless, both funds
invest in securities whose income is exempt from federal income tax and have
similar credit quality restrictions. While the Tax-Free Fund's longer weighted
average maturity has resulted in slightly more volatility than the Virginia
Fund, the Board of Trustees of the Company believes the Tax-Free Fund's
investment program is compatible with the Virginia Fund's program. Finally, the
securities received by the Tax-Free Fund from the Virginia Fund will be
consistent with the Tax-Free Fund's investment program.
TAX-FREE REORGANIZATION. The merger permits Virginia Fund shareholders to
defer recognition of gain or loss on their investment. The merger permits the
Tax-Free Fund to receive assets from the Virginia Fund that have the same
holding period and tax basis as the assets had while in the hands of Virginia
Fund.
NO DILUTION. The assets of Virginia Fund will be transferred to Tax-Free
Fund at their fair market value on the valuation date of the transaction. Shares
of Tax-Free Fund equal in value to the assets will be received in exchange.
Expenses of the transaction, other than brokerage, interest, taxes and
extraordinary items, will be borne by T. Rowe Price. These items will be borne
by the fund that incurs them. Therefore, shareholders of the funds will not be
diluted as a result of the transaction.
The Boards of the funds based their decision to approve the Plan on an inquiry
into a number of factors, including the following:
(1)
the relative past growth in assets and investment performance and future
prospects of the funds and similar funds;
<PAGE>
(2)the expense ratios of each fund and the impact of the proposed
transaction on them;
(3)the tax-free nature of the reorganization to the funds and their
shareholders;
(4)the compatibility of the investment objectives, policies, and
restrictions of the funds; and
(5)
the comparative investment performance of the funds.
If the Plan is not approved by Virginia Fund shareholders, the Company's Board
of Trustees may consider other appropriate action, such as the liquidation of
Virginia Fund or a merger or other business combination with an investment
company other than Tax-Free Fund. Such other actions may require shareholder
approval.
INFORMATION ABOUT THE REORGANIZATION
The following summary of the terms and conditions of the Plan is qualified by
reference to the Plan, which is included as Exhibit A to this Statement.
Plan of Reorganization
If the shareholders of Virginia Fund approve the Plan, the reorganization of
Virginia Fund will be consummated on or about November 1, 2000, or such other
date as is agreed to by Virginia Fund and Tax-Free Fund (the "Closing Date").
The parties may postpone the Closing Date until a later date on which all of the
conditions to the obligations of each of the parties under the Plan are
satisfied, provided that the Plan may be terminated by either party if the
Closing Date does not occur on or before January 31, 2001. See "Conditions to
Closing" below.
On the Closing Date, Virginia Fund will transfer substantially all of its assets
to Tax-Free Fund in exchange for shares of the Tax-Free Fund having an aggregate
net asset value equal to the aggregate value of the assets so transferred as of
the close of regular trading on the New York Stock Exchange on the business day
immediately preceding the Closing Date (the "Valuation Date"). The Tax-Free Fund
will not assume or otherwise be responsible for any liabilities of Virginia
Fund. The number of Tax-Free Fund shares issued in the exchange will be
determined by dividing the aggregate value of the assets of Virginia Fund
transferred (computed in accordance with the policies and procedures set forth
in the current Prospectus of the Tax-Free Fund, subject to review and approval
by Virginia Fund) by the net asset value per share of the Tax-Free Fund as of
the close of regular trading on the Valuation Date. While it is not possible to
determine the exact exchange ratio until the Valuation Date, due to, among other
matters, market fluctuations and differences in the relative performances of
<PAGE>
Virginia Fund and the Tax-Free Fund, if the Valuation Date had been June 30,
2000, shareholders of Virginia Fund would have received 0.969 shares of the
Tax-Free Fund for each fund share held.
As soon as practicable after the Closing Date, Virginia Fund will distribute, in
liquidation of Virginia Fund, pro rata to its shareholders of record as of the
close of business on the Valuation Date, the full and fractional shares of the
Tax-Free Fund received in the exchange. The Virginia Fund will accomplish this
distribution by transferring the Tax-Free Fund shares then credited to the
account of Virginia Fund on the books of the Tax-Free Fund to open accounts on
the share records of the Tax-Free Fund in the names of Virginia Fund's
shareholders, and representing the respective pro rata number of Tax-Free Fund
shares due such shareholders. All issued and outstanding shares of Virginia Fund
will be simultaneously cancelled on the books of the Company.
The Virginia Fund was closed to investments in new accounts at 4:00 p.m. on July
18, 2000 and will be closed to existing accounts by September 1, 2000.
The stock transfer books of the Company with respect to Virginia Fund will be
permanently closed as of the close of business on the Valuation Date. The
Virginia Fund will only accept redemption requests received prior to the close
of regular trading on the New York Stock Exchange on the Valuation Date.
Redemption requests received thereafter will be deemed to be requests for
redemption of the Tax-Free Fund shares to be distributed to fund shareholders
pursuant to the Plan.
The Plan provides that after the Closing Date the Virginia Fund will pay or make
provision for all of its liabilities and distribute all of its remaining assets,
if any, to its former shareholders.
Conditions to Closing
The obligation of Virginia Fund to transfer its assets to the Tax-Free Fund
pursuant to the Plan is subject to the satisfaction of certain conditions
precedent, including performance by the Tax-Free Fund in all material respects
of its agreements and undertakings under the Plan, receipt of certain documents
from the Tax-Free Fund, receipt of an opinion of counsel to the Tax-Free Fund
and approval of the Plan by the shareholders of Virginia Fund as described
above. The obligation of the Tax-Free Fund to consummate the reorganization is
subject to the satisfaction of certain conditions precedent, including
performance by Virginia Fund of its agreements and undertakings under the Plan,
receipt of certain documents and financial statements from Virginia Fund and
receipt of an opinion of counsel to Virginia Fund.
The consummation of the proposed transaction is subject to a number of
conditions set forth in the Plan, some of which may be waived by the Board of
Trustees of the Company. The Plan may be terminated and the proposed transaction
abandoned at any time, before or after approval by the shareholders of Virginia
Fund, prior to the Closing
<PAGE>
Date. In addition, the Plan may be amended in any mutually agreeable manner,
except that no amendment may be made subsequent to the meeting of shareholders
of Virginia Fund that would detrimentally affect the value of Tax-Free Fund's
shares to be distributed.
Expenses of Reorganization
T. Rowe Price is responsible for the payment of all expenses the funds incurred
in connection with the reorganization, other than taxes, interest, brokerage or
extraordinary items. These items will be borne by the fund that incurs them.
Tax Considerations
The reorganization is intended to qualify for federal income tax purposes as a
tax-free reorganization under Section 368(a)(1)(C) of the Internal Revenue Code
of 1986, as amended (the "Code"), with no gain or loss recognized as a
consequence of the reorganization by the Tax-Free Fund, Virginia Fund or its
shareholders. The consummation of the transactions contemplated under the Plan
is conditioned upon receipt of an opinion from Swidler Berlin Shereff Friedman,
LLP, counsel to the Company, to the effect that, on the basis of certain
representations of fact by officers of Virginia Fund and Tax-Free Fund, the
existing provisions of the Code, current administrative rules and court
decisions, for federal income tax purposes:
. no gain or loss will be recognized by Virginia Fund on the transfer of its
assets to the Tax-Free Fund solely in exchange for shares of the Tax-Free
Fund and no gain or loss will be recognized by Virginia Fund on the
distribution of shares received pursuant to the Plan to shareholders of
Virginia Fund in complete liquidation of Virginia Fund;
. no gain or loss will be recognized by the Tax-Free Fund on the receipt of
the assets of Virginia Fund solely in exchange for the Tax-Free Fund
shares;
. the adjusted basis of each asset of Virginia Fund in the hands of the
Tax-Free Fund will be the same as the adjusted basis of such asset in the
hands of Virginia Fund immediately prior to the transaction;
. the holding period of each asset of Virginia Fund in the hands of the
Tax-Free Fund will include the holding period of such asset in the hands of
Virginia Fund immediately prior to the transaction;
. no gain or loss will be recognized by fund shareholders upon the receipt of
the Tax-Free Fund shares (including fractional shares) solely in exchange
for shares of Virginia Fund;
<PAGE>
. the adjusted basis of the Tax-Free Fund shares received by each fund
shareholder (including fractional shares) will be the same as the adjusted
basis of Virginia Fund shares surrendered in exchange therefore; and
. the holding period of the Tax-Free Fund shares (including fractional
shares) received by each fund shareholder will include the holding period
of Virginia Fund shares surrendered in exchange therefore, provided that
such shares were held as a capital asset in the hands of Virginia Fund
shareholder on the date of the exchange.
It is anticipated that at the date of the reorganization, both Virginia Fund and
Tax-Free Fund will have tax basis net capital losses available to offset future
tax basis net capital gains. Applicable provisions of the Internal Revenue Code
may limit the ability of Tax-Free Fund to use such losses to offset future
gains, or may extend the period during which such offset would otherwise have
occurred.
Shareholders should recognize that an opinion of counsel is not binding on the
Internal Revenue Service (the "IRS") or on any court. The Company does not
expect to obtain a ruling from the IRS regarding the consequences of the
reorganization. Accordingly, if the IRS sought to challenge the tax treatment of
the reorganization and was successful, neither of which is anticipated, the
reorganization would be treated as a taxable sale of assets of Virginia Fund,
followed by the taxable liquidation of Virginia Fund.
Description of Tax-Free Fund Shares
Full and fractional shares of the Tax-Free Fund will be issued to shareholders
of Virginia Fund in accordance with the procedures under the Plan as described
above. Each Tax-Free Fund share will be fully paid and nonassessable when
issued, will have no preemptive or conversion rights and will be transferrable
on the books of the Tax-Free Fund. Ownership of Tax-Free Fund shares by former
shareholders of Virginia Fund will be recorded electronically and the Tax-Free
Fund will issue a confirmation to such shareholders relating to those shares
acquired as a result of the reorganization. After the reorganization, former
shareholders of Virginia Fund who were eligible to participate in the dividend
reinvestment program, the automatic withdrawal plan or the automatic investment
plan will automatically become participants in the corresponding programs
offered in respect of the Tax-Free Fund.
The voting rights of Virginia Fund and Tax-Free Fund are the same. As
shareholders of the Tax-Free Fund, former shareholders of Virginia Fund will
have the same voting rights with respect to the Tax-Free Fund and the Company as
they currently have with respect to Virginia Fund and the Company. The Company
does not routinely hold annual meetings of shareholders.
<PAGE>
Capitalization
The following table shows the unaudited capitalization of Virginia Fund and the
Tax-Free Fund as of June 30, 2000, and on a pro forma basis as of that date
giving effect to the proposed acquisition of Virginia Fund assets. The actual
net assets of Virginia Fund and the Tax-Free Fund on the Valuation Date will
differ due to fluctuations in net asset values, subsequent purchases and
redemptions of shares.
<TABLE>
<CAPTION>
Net Assets Net Asset Value Shares
Fund (000's) Per Share Outstanding (000's)
------------------------ -----
<S> <C> <C> <C> <S>
Virginia $ 32,620 $5.07 6,435
--------------------------------------------------
Tax-Free 393,149 5.23 75,182
--------------------------------------------------
Pro Forma 425,769 5.23 81,419
Combined-Tax-Free
-------------------------------------------------------------------------------
</TABLE>
Other Matters
To the extent permitted by law, the Plan may be amended without shareholder
approval by the Board of Trustees/Directors of the funds; and the funds may
waive without shareholder approval any default by the other party or the failure
to satisfy any of the conditions of their obligations, provided that no such
amendment or waiver may be made if it would adversely affect shareholders of
Virginia Fund or the Tax-Free Fund. The Plan may be terminated and the
reorganization abandoned at any time before or, to the extent permitted by law,
after the approval of shareholders of Virginia Fund by action of the Board of
Trustees of the Company. The Company may, at its election, terminate the Plan in
the event that the reorganization has not closed on or before January 31, 2001.
FINANCIAL STATEMENTS
The audited financial statements of the Tax-Free Fund and Virginia Fund for the
year ended February 28, 2000 are incorporated by reference in this Statement.
Each fund's prospectus also contains financial highlights for the fund's fiscal
year ended February 28, 2000, as shown below:
<PAGE>
<TABLE>
Table 2 Financial Highlights
<CAPTION>
Year ended February 28
Virginia 1996/a/ 1997 1998 1999 2000/a/
------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Net asset value,
beginning of period $ 5.06 $ 5.16 $ 5.13 $ 5.15 $ 5.18
Income From Investment Operations
Net investment income 0.21/b/ 0.20/b/ 0.19/b/ 0.19/b/ 0.18/b/
-------------------------------------------------------
Net gains or losses
on securities (both
realized and 0.11 (0.03) 0.03 0.04 (0.11)
unrealized)
-------------------------------------------------------
Total from investment
operations 0.32 0.17 0.22 0.23 0.07
Less Distributions
Dividends (from net (0.21) (0.20) (0.19) (0.19) (0.18)
investment income)
-------------------------------------------------------
Distributions (from (0.01) -- (0.01) (0.01) (0.01)
capital gains)
-------------------------------------------------------
Total distributions (0.22) (0.20) (0.20) (0.20) (0.19)
-------------------------------------------------------
Net asset value, end $ 5.16 $ 5.13 $ 5.15 $ 5.18 $ 5.06
of period
-------------------------------------------------------
Total return 6.43%/b/ 3.33%/b/ 4.48%/b/ 4.51%/b/ 1.48%/b/
Ratios/Supplemental Data
Net assets, end of $12,480 $16,314 $20,361 $26,772 $27,620
period (in thousands)
-------------------------------------------------------
Ratio of expenses to 0.65%/b/ 0.65%/b/ 0.65%/b/ 0.62%/b/ 0.60%/b/
average net assets
-------------------------------------------------------
Ratio of net income 4.07%/b/ 3.84%/b/ 3.81%/b/ 3.65%/b/ 3.61%/b/
to average net assets
-------------------------------------------------------
Portfolio turnover 36.4% 32.5% 75.0% 22.5% 39.3%
rate
------------------------------------------------------------------------------------
</TABLE>
/a/ Year ended February 29.
/b/
Excludes expenses in excess of a 0.65% voluntary expense limitation in effect
through June 30, 1998, and a 0.60% voluntary expense limitation in effect
from July 1, 1998, through February 29, 2000.
<PAGE>
<TABLE>
Table 2 Financial Highlights (continued)
<CAPTION>
Year ended February 28
Tax-Free 1996/a/ 1997 1998 1999 2000/a/
------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Net asset value,
beginning of period $ 5.25 $ 5.37 $ 5.35 $ 5.37 $ 5.39
Income From Investment Operations
Net investment income 0.23 0.23 0.22 0.22 0.21
-------------------------------------------------------
Net gains or losses
on securities (both
realized and 0.12 (0.02) 0.05 0.04 (0.18)
unrealized)
-------------------------------------------------------
Total from investment
operations 0.35 0.21 0.27 0.26 0.03
Less Distributions
Dividends (from net (0.23) (0.23) (0.22) (0.22) (0.21)
investment income)
-------------------------------------------------------
Distributions (from -- -- (0.03) (0.02) (0.01)
capital gains)
-------------------------------------------------------
Total distributions (0.23) (0.23) (0.25) (0.24) (0.22)
-------------------------------------------------------
Net asset value, end $ 5.37 $ 5.35 $ 5.37 $ 5.39 $ 5.20
of period
-------------------------------------------------------
Total return 6.87% 4.02% 5.28% 4.90% 0.67%
Ratios/Supplemental Data
Net assets, end of $445,228 $443,631 $438,951 $459,319 $404,634
period (in thousands)
-------------------------------------------------------
Ratio of expenses to 0.57% 0.56% 0.54% 0.53% 0.53%
average net assets
-------------------------------------------------------
Ratio of net income 4.39% 4.30% 4.23% 4.06% 4.07%
to average net assets
-------------------------------------------------------
Portfolio turnover 69.9% 84.3% 76.8% 39.9% 49.7%
rate
------------------------------------------------------------------------------------
</TABLE>
/a / Year ended February 29.
COMPARISON OF INVESTMENT OBJECTIVES, POLICIES, AND RESTRICTIONS
The investment objective, policies, and restrictions of the Tax-Free Fund are
described in greater detail in its prospectus.
Investment Policies and Objectives
In seeking to achieve their respective investment objectives, the Tax-Free Fund
and Virginia Fund are guided by similar but different investment policies and
restrictions which should be considered by the shareholders of Virginia Fund.
Unless otherwise specified, the investment policies and restrictions of the
Tax-Free Fund and Virginia Fund described below may be changed without
shareholder approval. Fundamental policies may not be changed without the
approval of the lesser of (i) 67% of a fund's shares present at a meeting of
shareholders
<PAGE>
if the holders of more than 50% of the outstanding shares are present in person
or by proxy, or (ii) more than 50% of a fund's outstanding shares.
. VIRGINIA FUND. The Virginia Fund seeks to provide the highest level of
income exempt from federal and Virginia state income taxes consistent with
modest fluctuation in principal value.
The fund will invest at least 65% of its total assets in investment-grade
Virginia municipal bonds. The portfolio's weighted average maturity will
not exceed three years, but there is no maturity limit on individual
securities.
The fund will generally purchase investment-grade securities, which means
its ratings are within the four highest credit categories (AAA, AA, A, BBB)
as determined by a national rating organization or, if unrated, by T. Rowe
Price. The fund may occasionally purchase below-investment-grade securities
(including those with the lowest or no rating) but no such purchase will be
made if it would cause the fund's noninvestment-grade bonds to exceed 5% of
its net assets.
The fund sometimes invests in obligations of the Commonwealth of Puerto
Rico and its public corporations (as well as the U.S. territories of Guam
and the Virgin Islands) that are exempt from federal and Virginia state
income taxes. The fund will generally purchase these securities when they
offer a comparably attractive combination of risk and return.
Due to seasonal variations or shortages in the supply of suitable Virginia
securities, the fund may invest in municipals whose interest is exempt from
federal but not Virginia state income taxes. Every effort will be made to
minimize such investments, but they could compose up to 10% of the fund's
annual income.
Income from Virginia municipal securities is exempt from federal and
Virginia state income taxes.
. TAX-FREE FUND. The Tax-Free Fund seeks to provide, consistent with modest
price fluctuation, a high level of income exempt from federal income taxes
by investing primarily in short- and intermediate-term investment-grade
municipal securities.
The fund invests primarily in short- and intermediate-term municipal
securities. Its weighted average maturity normally ranges from two to five
years and is not expected to exceed five years. The fund generally buys
investment-grade securities, which means their ratings are within the four
highest credit categories (AAA, AA, A, BBB) as determined by a national
rating organization or, if unrated, by T. Rowe Price. The fund may invest
up to 5% of assets in below-investment-grade securities with ratings of BB
(or the T. Rowe Price equivalent).
<PAGE>
VIRGINIA AND TAX-FREE FUNDS
Investment decisions for each fund reflect T. Rowe Price's outlook for
interest rates and the economy as well as the prices and yields of various
securities. This approach is designed to help T. Rowe Price capture
appreciation opportunities when rates are falling and reduce the impact of
falling prices when rates are rising. For example, if we expect rates to
fall, we may buy longer-term securities within each fund's maturity range
to provide higher yield and greater appreciation potential. And if our
economic outlook is positive, we may take advantage of the funds' 5%
"baskets" for noninvestment-grade bonds. From time to time, a fund may
invest a significant portion of its assets in municipal bonds of certain
sectors with special risks such as hospital, electric utility, or private
activity bonds. The funds may sell holdings for a variety of reasons, such
as to adjust a portfolio's average maturity or quality or to shift assets
into higher-yielding securities.
While most assets will be invested in municipal securities, other
securities may also be purchased, including derivatives such as futures and
municipal warrants, in keeping with the funds' objectives.
Investment Restrictions
Except as previously discussed, the investment restrictions of the funds are the
same, with the exception of the funds' fundamental policy on the percent limit
on assets invested in any one issuer and percent limit on share ownership of any
one issuer. As previously noted, the Virginia Fund is a non-diversified fund and
the Tax-Free Fund is a diversified fund.
How has each fund performed?
The bar charts showing calendar year returns and the average annual total return
table indicate risk by illustrating how much returns can differ from one year to
the next and over time. Fund past performance is no guarantee of future returns.
The funds can also experience short-term performance swings, as shown by the
best and worst calendar quarter returns during the years depicted in the charts.
<PAGE>
<TABLE>
<CAPTION>
<S> <C>
LOGO LOGO
The Virginia Fund's
return for the six The Tax-Free Fund's return for the six months ended
months ended 6/30/00 was 2.55%.
6/30/00 was 2.11%.
</TABLE>
<TABLE>
Table 3 Average Annual Total Returns
<CAPTION>
Periods ended
December 31, 1999
Shorter of
10 years or Inception
1 year 5 years since inception date
---------------------------------
<S> <C> <C> <C> <S>
Virginia Fund 1.44% 4.30% 4.30% 11/30/94
Lehman 3-Year State GO Bond
Index 1.89 5.12 5.09
Lipper Short Municipal Debt
Funds Average 1.69 4.32 4.32
Tax-Free Fund 0.99 4.65 4.97 12/23/83
Lehman Brothers 3 Year General
Obligation Municipal Bond
Index 1.92 5.16 5.62
Lipper Short-Intermediate
Municipal Debt Funds Average 0.31 4.41 5.17
Lipper Short Intermediate 0.71 4.58 --
Municipal Debt Funds Index
------------------------------------------------------------------------------
</TABLE>
These figures include changes in principal value, reinvested dividends, and
capital gain distributions, if any.
Lehman indices do not reflect the deduction of any fees or expenses.
Performance of Virginia Fund
The following information is excerpted from Virginia Fund's annual report dated
February 29, 2000.
<PAGE>
Higher interest rates made progress difficult for the six months ended February
29, but results were positive nonetheless. Dividends per share held steady at
$0.09 for the period, more than offsetting a $0.04 decline in per share price.
Our resulting 1.26% six-month total return comfortably outdistanced the Lipper
benchmark of 1.07%. Returns for the 12-month period matched the Lipper average.
For the past six months we carried higher cash balances as yields moved higher.
Our strategy was to keep duration short in the face of the Fed's tightening
moves, while pursuing bonds that offer more yield whenever they are available -
which is not often because of the high quality of the Virginia municipal market.
(Duration measures a bond or bond fund's price sensitivity to changes in
interest rates. The price of a bond fund with a duration of two years, for
example, would drop 2% if rates rose by one percentage point.)
The fund's duration ranged between 1.75 and 2.15 years after July 1999,
considerably shorter than the 2.15 to 2.55 range we previously maintained. In
October, however, five-year yields approached 5% for the first time since March
1995, and we saw an opportunity to extend duration again, to 2.15 years. The
portfolio finished the period with an average duration of 1.8 years. Given the
recent high yields, we would like to buy as many four-year bonds as possible,
but we are mindful of not becoming too aggressive while the Fed continues to
tighten.
Our portfolio is skewed toward higher-yielding sectors of the investment-grade
market, including hospital (11%), lease revenue (11%), and solid waste revenue
bonds (7%). In the fall we purchased $1.1 million of Halifax County IDA Old
Dominion Electric - issues we rarely have the opportunity to buy - which pushed
our electric revenue exposure to 5%. We prefer to pursue these quality,
higher-yielding opportunities because over time the yield component adds
significantly to shareholder total returns, a combination of dividends and price
appreciation.
The fund's largest allocations are to prerefunded bonds at 23% of assets and
local general obligation bonds at 18%, up from 13% six months ago. While these
numbers seem high, they are significantly below their share of outstanding debt
in the short-term sector of the Virginia municipal market.
Performance Comparison
This chart shows the value of a hypothetical $10,000 investment in the Virginia
Fund since inception. The result is compared with benchmarks, which may include
a broad-based market index and a peer group average or index. Market indexes do
not include expenses, which are deducted from fund returns as well as mutual
fund averages and indexes.
<PAGE>
LOGO
Performance of Tax-Free Fund
The following information is excerpted from Tax-Free Fund's annual report dated
February 29, 2000.
Your fund managed to provide modest positive returns for the 6- and 12-month
periods ended February 29, 2000, in an environment characterized by falling
prices and rising yields for all but the shortest maturities. Fund results
exceeded the Lipper Short-Intermediate Municipal Debt Funds Average in both
periods, largely because of our duration and credit strategy and the fund's low
expenses.
Earlier in the fund's fiscal year, we had maintained a conservative duration to
protect the portfolio against rising rates. In November, we took advantage of an
opportunity to extend the fund's duration when the yield on 10-year municipal
bonds approached 5.25%. (Duration is a measure of a bond fund's sensitivity to
interest rates. For example, a fund with a duration of three years would fall or
rise about 3% in price in response to a one-percentage-point rise or fall in
interest rates.) Bond prices rallied shortly afterward, and rates moved lower in
December, at which time we took the opportunity to shorten duration to a neutral
position. In January, rates on 10-year securities rose to 5.25%, and we
lengthened once again. More recently, with interest rates falling, we have been
maintaining an above-average duration because of the value we see in the market
despite the Fed's bias toward a tighter monetary policy. Ten-year municipal
yields are as high as they have been since 1994 and are extremely attractive in
both absolute and relative terms compared with similar Treasuries.
We had been overweighting sectors of the market that offer more yield to take
advantage of improving credit ratings. For example, we began to focus on New
York bonds about four years ago when the state started to benefit from strength
in the financial industry, and we currently hold about 18% of fund assets in
various New York issues-three times the amount of our next-largest state
allocation. Many of these securities were upgraded as New York's economy
improved. In addition, we focused on uninsured bonds in three areas: electric/
nuclear revenue, lease-backed, and industrial revenue/pollution
<PAGE>
control. All three sectors offer incremental yield and improving fundamentals.
Conversely, we have been underweighted in insured and prerefunded bonds, which
do not provide the yields we find in the other areas.
Our goal was to raise the portfolio's yield by swapping securities for others
with higher yields. The six-month dividend yield rose from 4.03% to 4.22% over
the past six months-equal to a taxable yield of 6.59% for someone in the 36%
income tax bracket.
Performance Comparison
This chart shows the value of a hypothetical $10,000 investment in the Tax-Free
Fund over the past 10 fiscal year periods. The result is compared with
benchmarks, which may include a broad-based market index and a peer group
average or index. Market indexes do not include expenses, which are deducted
from fund returns as well as mutual fund averages and indexes.
LOGO
ADDITIONAL INFORMATION ABOUT THE FUNDS
How can I get more information about the funds?
The funds file proxy materials, reports and other information with the
Securities and Exchange Commission. These reports can be inspected and copied at
the public reference facilities maintained by the Securities and Exchange
Commission at 450 Fifth Street, N.W., Washington, D.C. 20549 and at the
Commission's New York Regional Office, Seven World Trade Center, Suite 1300, New
York, New York 10048, and Chicago Regional Office, Citicorp Center, Suite 1400,
500 West Madison Street, Chicago, Illinois 60661. Copies of these materials can
also be obtained from the Public Reference Branch, Office of Consumer Affairs
and Information Services, Securities and Exchange Commission, Washington, D.C.
20549, at prescribed rates.
A copy of each fund's most current annual shareholder report was mailed to all
shareholders of record at the close of business for the funds' fiscal
period-end. If you would like to receive additional copies
<PAGE>
of the report, please contact T. Rowe Price by calling 1-800-541-5910; writing
to T. Rowe Price, 100 East Pratt Street, Baltimore, Maryland 21202; or visiting
our website at www.troweprice.com. All copies are provided free of charge.
FURTHER INFORMATION ABOUT VOTING AND THE SPECIAL MEETING
Who is asking for my vote?
For the reasons set forth under "Reasons for the Reorganization," the Board of
the Company, including a majority of the independent trustees, has concluded
that the reorganization is in the best interests of the shareholders of Virginia
Fund and therefore recommends that shareholders vote for approval of the Plan.
The votes will be formally counted at the special meeting on Wednesday, October
25, 2000, and if the special meeting is adjourned, at any later meeting. The
Virginia Fund's shareholders may vote in person at the special meeting, by
Internet, by telephone, or by returning your completed proxy card in the
postage-paid envelope provided. Details can be found on the enclosed proxy
insert. Do not mail the proxy card if you are voting by Internet or telephone.
Who is eligible to vote?
Shareholders of record at the close of business on August 25, 2000, (the "RECORD
DATE") are entitled to vote. The notice of special meeting, the proxy card, and
the proxy statement were mailed to shareholders of record on or about September
1, 2000.
Shareholders are entitled to one vote for each full share and a proportionate
vote for each fractional share of the fund(s) they held as of August 25, 2000.
Under Massachusetts law, shares owned by two or more persons (whether as joint
tenants, co-fiduciaries, or otherwise) will be voted as follows, unless a
written instrument or court order providing to the contrary has been filed with
the fund(s): (1) if only one votes, that vote will bind all; (2) if more than
one votes, the vote of the majority will bind all; and (3) if more than one
votes and the vote is evenly divided, the vote will be cast proportionately.
What is the required quorum?
To hold the meeting, a majority of Virginia Fund's shares entitled to be voted
must have been received by proxy or be present at the meeting. In the event that
a quorum is present but sufficient votes in favor of the proposal are not
received by the meeting date, the persons named as proxies may propose one or
more adjournments to permit further solicitation of proxies. Any such
adjournment will require the affirmative vote of a majority of the shares
present in person or by
<PAGE>
proxy at the meeting to be adjourned. The persons named as proxies will vote in
favor of such adjournment if they determine that additional solicitation is
reasonable and in the interests of Virginia Fund's shareholders.
How are the votes counted?
The individuals named as proxies (or their substitutes) on the enclosed proxy
card (or cards, if you have multiple accounts) will vote according to your
directions if your proxy is received properly executed, or in accordance with
your instructions given when voting by telephone or Internet. You may direct the
proxy holders to vote your shares on the proposal by checking the appropriate
box "FOR" or "AGAINST," or instruct them not to vote those shares on the
proposal by checking the "ABSTAIN" box. Alternatively, you may simply sign,
date, and return your proxy card(s) with no specific instructions as to the
proposal. IF YOU PROPERLY EXECUTE YOUR PROXY CARD AND GIVE NO VOTING
INSTRUCTIONS WITH RESPECT TO THE PROPOSAL, YOUR SHARES WILL BE VOTED FOR THE
PROPOSAL.
Abstentions and "broker non-votes" (as defined below) are counted for purposes
of determining whether a quorum is present for purposes of convening the
meeting. "Broker non-votes" are shares held by a broker or nominee for which an
executed proxy is received by the fund but are not voted as to the proposal
because instructions have not been received from the beneficial owners or
persons entitled to vote, and the broker or nominee does not have discretionary
voting power. Because the proposal must be approved by a percentage of voting
securities present at the meeting or a majority of the Virginia Fund's
outstanding shares, abstentions and broker non-votes will be considered to be
voting securities that are present and will have the effect of being counted as
votes against the proposal.
Can additional matters be acted upon at the special meeting?
The management of Virginia Fund knows of no other business which may come before
the meeting. However, if any additional matters are properly presented at the
meeting, it is intended that the persons named in the enclosed proxy, or their
substitutes, will vote on such matters in accordance with their judgment.
How can proxies be recorded?
You may record your votes on the proxy card enclosed with this statement and
mail it in the prepaid envelope provided to Management Information Services
Corp., who Virginia Fund has retained to tabulate the votes. In addition,
Virginia Fund has arranged to have votes recorded through the Internet or by
telephone. The telephone and Internet voting procedures are designed to
authenticate shareholders'
<PAGE>
identities, to allow shareholders to authorize the voting of their shares in
accordance with their instructions, and to confirm that their instructions have
been properly recorded.
How can proxies be solicited, and who pays for the costs involved?
Trustees, officers, or employees of the Virginia Fund or of its investment
manager, T. Rowe Price, may solicit proxies by mail, in person, or by telephone.
In the event that votes are solicited by telephone, shareholders would be called
at the telephone number T. Rowe Price has in its records for their accounts, and
would be asked for their Social Security number or other identifying
information. The shareholders would then be given an opportunity to authorize
proxies to vote their shares at the meeting in accordance with their
instructions. To ensure that shareholders' instructions have been recorded
correctly, confirmation of the instructions is also mailed. A special toll-free
number will be available in case the information contained in the confirmation
is incorrect.
The costs of the meeting, including the solicitation of proxies, will be paid by
T. Rowe Price. To ensure that sufficient shares of common stock are represented
at the meeting to permit approval of the proposal outlined in this Statement, T.
Rowe Price may retain the services of a proxy solicitor to assist it in
soliciting proxies for a fee plus reimbursement of out-of-pocket expenses.
Securities brokers, custodians, fiduciaries, and other persons holding shares as
nominees will be reimbursed, upon request, for their reasonable expenses in
sending solicitation materials to the principals of the accounts.
Can I change my vote after I mail my proxy?
Any proxy, including those given via the Internet or by telephone, may be
revoked at any time before it is voted by filing a written notice of revocation
with Virginia Fund, by delivering a properly executed proxy bearing a later
date, or by attending the meeting and voting in person.
GENERAL INFORMATION ABOUT THE FUNDS
Who are the principal holders of each fund's shares?
Table 4 sets forth the persons owning more than 5% of each fund's outstanding
common stock as of June 30, 2000.
<PAGE>
<TABLE>
Table 4 Record Ownership of the Funds' Shares
<CAPTION>
Fund Owner % Ownership
--------------------------------------------------------------------------------------------------
<S> <S> <C>
Virginia National Financial Services for the 12.68
Exclusive Benefit of our Customers
200 Liberty
One Financial Center, 4th Floor
New York, New York 10005-3500
--------------------------------------------------------------------------------------------------
Tax-Free Charles Schwab & Co. Inc. 5.67
Reinvest Account
Attn.: Mutual Fund Dept.
101 Montgomery Street
San Francisco, California 94104-4122
--------------------------------------------------------------------------------------------------
</TABLE>
As of June 30, 2000, the executive officers and directors of the Tax-Free Fund,
as a group, beneficially owned, directly or indirectly, 192,232 shares,
representing less than 1% of its outstanding stock.
TRANSFER AGENT AND CUSTODIAN
T. Rowe Price Services, Inc., 100 East Pratt Street, Baltimore, Maryland 21202,
serves as the transfer agent and dividend disbursing agent for the funds. State
Street Bank and Trust Company ("State Street"), 225 Franklin Street, Boston,
Massachusetts 02110, is the custodian for the funds' securities.
LEGAL MATTERS
Certain legal matters concerning the issuance of shares of the Tax-Free Fund are
being passed upon by Swidler Berlin Shereff Friedman, LLP, 405 Lexington Avenue,
New York, New York 10174.
EXPERTS
The financial statements of the Tax-Free Fund and Virginia Fund included in the
Annual Reports to Shareholders for the fiscal year ended February 29, 2000 have
been incorporated by reference in reliance on the reports of
PricewaterhouseCoopers LLP given on their authority as experts in auditing and
accounting.
<PAGE>
Exhibit A
AGREEMENT AND PLAN OF REORGANIZATION
THIS AGREEMENT AND PLAN OF REORGANIZATION ("Agreement") is made this 1st
day of September, 2000, by and between T. Rowe Price Tax-Free Short-Intermediate
Fund, Inc., a corporation organized and existing under the laws of Maryland (the
"Acquiring Fund"), and T. Rowe Price State Tax-Free Income Trust (a
Massachusetts business trust), on behalf of its separately designated series,
the Virginia Short-Term Tax-Free Bond Fund (the "Acquired Fund"). All references
in this agreement to the Acquired Fund are, as applicable, to T. Rowe Price
State Tax-Free Income Trust, on behalf of the Virginia Short-Term Tax-Free Bond
Fund.
W I T N E S S E T H:
The Acquiring Fund and the Acquired Fund are each registered under the
Investment Company Act of 1940 ("1940 Act") as an open-end management investment
company. The Acquired Fund owns securities that are assets of the character in
which the Acquiring Fund is permitted to invest. The Acquiring Fund and the
Acquired Fund have agreed to combine through the transfer of substantially all
of the assets of the Acquired Fund to the Acquiring Fund in exchange solely for
shares of Common Stock, par value $.01 per share, of the Acquiring Fund (the
"Acquiring Fund Shares") and the distribution of Acquiring Fund Shares to the
shareholders of the Acquired Fund in liquidation of the Acquired Fund. The
Acquiring Fund wishes to enter into a definitive agreement setting forth the
terms and conditions of the foregoing transactions as a "plan of reorganization"
and "liquidation" within the meaning of Section 368(a)(1)(C) of the Internal
Revenue Code of 1986, as amended (the "Code").
NOW, THEREFORE, in consideration of the mutual promises herein contained,
the parties hereto agree as follows:
1. ASSETS TO BE TRANSFERRED
A.
REORGANIZATION. Prior to the close of regular trading on the New York Stock
Exchange (the "Exchange") on the Closing Date (as hereinafter defined), all the
assets of the Acquired Fund, net of appropriate reserves and those assets
described in paragraph 1.C. below, shall be delivered as provided in paragraph
2.C. to State Street Bank and Trust Company, custodian of the Acquired Fund's
assets (the "Custodian"), in exchange for and against delivery by the Acquiring
Fund to the Acquired Fund on the Closing Date of a number of Acquiring Fund
Shares (including, if applicable, fractional shares) having an aggregate net
asset value equal to the value of the assets of the Acquired Fund so
transferred, assigned and delivered, all determined and adjusted as provided in
paragraph 1.B. below.
<PAGE>
Notwithstanding the foregoing, the assets of the Acquired Fund to be acquired by
the Acquiring Fund shall constitute at least 90% of the fair market value of the
net assets of the Acquired Fund and at least 70% of the fair market value of the
gross assets of the Acquired Fund as described on the "Valuation Date"
(hereinafter defined).
B.
VALUATION. The net asset value of shares of the Acquiring Fund and the value of
the assets of the Acquired Fund to be transferred shall, in each case, be
computed as of the close of regular trading on the Exchange on the Valuation
Date (as hereinafter defined). The net asset value of the Acquiring Fund Shares
shall be computed in the manner set forth in the Acquiring Fund's current
prospectus and statement of additional information under the Securities Act of
1933 (the "1933 Act") and the 1940 Act. The value of the assets of the Acquired
Fund to be transferred shall be computed by the Acquiring Fund in accordance
with the policies and procedures of the Acquiring Fund as described in the
Acquiring Fund's current prospectus and statement of additional information
under the 1933 Act and the 1940 Act, subject to review and approval by the
Acquired Fund and to such adjustments, if any, agreed to by the parties.
C.EXCLUDABLE ASSETS. If on the Closing Date the assets of the Acquired Fund
include accounts receivable, causes of actions, claims and demands of whatever
nature, contract rights, leases, business records, books of accounts and
shareholder records, the Acquiring Fund may for reasonable cause refuse either
to accept or to value such assets (other than fully collectible and transferable
dividends, interest and tax refunds). For purposes of this paragraph l.C.,
"reasonable cause" includes the inability to obtain a reliable value, the
likelihood of engaging in protracted collection efforts or the likelihood of
engaging in burdensome administrative responsibilities to receive value. In
addition, there shall be deducted from the assets of the Acquired Fund described
in paragraph 1.A. assets not transferred pursuant to paragraph 1.A. and cash in
an amount estimated by the Acquired Fund to be sufficient to pay all the
liabilities of the Acquired Fund, including, without limitation, (i) amounts
owed to any shareholders including declared but unpaid dividends and amounts
owed to any former shareholders in respect of redemptions in the ordinary course
of business, (ii) accounts payable and other accrued and unpaid expenses
incurred in the normal operation of its business up to and including the Closing
Date, and (iii) the costs and expenses, if any, incurred by the Acquired Fund in
making and carrying out this Agreement (other than costs and expenses to be paid
for by T. Rowe Price Associates, Inc.).
2. DEFINITIONS
A.CLOSING AND CLOSING DATE. Subject to the terms and conditions hereof, the
closing of the transactions contemplated by this Agreement (the "Closing") shall
be conducted at the offices of the Acquiring Fund in Baltimore, Maryland
beginning at 10:00 a.m.,
<PAGE>
Eastern time, on November 1, 2000, or at such other place or on such later
business day as may be agreed upon by the parties. In the event that on the
Valuation Date (i) the Exchange is closed or trading thereon is restricted, or
(ii) trading or the reporting of trading on the Exchange or elsewhere is
disrupted so that accurate appraisal of the value of the Acquired Fund assets or
the net asset value of the Acquiring Fund Shares is impractical, the Closing
shall be postponed until the first business day after the first business day
when trading on the Exchange or elsewhere shall have been fully resumed and
reporting thereon shall have been restored, or such other business day as soon
thereafter as may be agreed upon by the parties. The date on which the Closing
actually occurs is herein referred to as the "Closing Date."
B.
VALUATION DATE. The business day next preceding the Closing Date shall be the
"Valuation Date." The stock transfer books of the Acquired Fund will be
permanently closed as of the close of business on the Valuation Date. The
Acquired Fund shall only accept redemption requests received by it in proper
form prior to the close of regular trading on the Exchange on the Valuation
Date. Redemption requests received thereafter shall be deemed to be redemption
requests for Acquiring Fund shares to be distributed to Acquired Fund
shareholders pursuant to the Plan (assuming that the transactions contemplated
by this Agreement have been consummated).
C.
DELIVERY. Portfolio securities shall be delivered by the Acquired Fund to the
Custodian, to be held until the Closing for the account of the Acquired Fund, no
later than three (3) business days preceding the Closing (the "Delivery Date"),
duly endorsed in proper form for transfer in such condition as to constitute a
good delivery thereof, in accordance with the custom of brokers, and shall be
accompanied by all necessary state stock transfer stamps, if any, or a check for
the appropriate purchase price thereof. Cash of the Acquired Fund shall be
delivered by the Acquired Fund on the Closing Date and shall be in the form of
currency or wire transfer in federal funds, payable to the order of the
Custodian. A confirmation for the Acquiring Fund Shares, credited to the account
of the Acquired Fund and registered in the name of the Acquired Fund, shall be
delivered by the Acquiring Fund to the Acquired Fund at the Closing.
3. FAILURE TO DELIVER SECURITIES. If, on the Delivery Date, the Acquired Fund
is unable to make delivery under paragraph 2.C. to the Custodian of any of the
portfolio securities of the Acquired Fund, the Acquiring Fund may waive the
delivery requirements of paragraph 2.C. with respect to said undelivered
securities, if the Acquired Fund has delivered to the Custodian by or on the
Delivery Date and, with respect to said undelivered securities, such documents
in the form of executed copies of an agreement of assignment and escrow
agreement and due bills and the like as may be required by the Acquiring Fund or
the Custodian, including brokers' confirmation slips.
<PAGE>
4. POST-CLOSING DISTRIBUTION AND LIQUIDATION OF THE ACQUIRED FUND. As soon as
practicable after the Closing, the Acquired Fund shall pay or make provisions
for all of its debts, taxes and other liabilities and shall distribute all of
the remaining assets thereof to the shareholders of the Acquired Fund; and the
Acquired Fund shall no longer be listed on Form N-SAR. At, or as soon as may be
practicable following the Closing Date, the Acquired Fund shall for federal
income tax purposes be liquidated, and distribute the Acquiring Fund Shares
received hereunder by instructing the Acquiring Fund that the pro rata interest
(in full and fractional Acquiring Fund Shares) of each of the holders of record
of shares of the Acquired Fund as of the close of business on the Valuation Date
as certified by the Acquired Fund's transfer agent (the "Acquired Fund Record
Holders") be registered on the books of the Acquiring Fund in the names of each
of the Acquired Fund Record Holders. The Acquiring Fund agrees to comply
promptly with said instruction. All issued and outstanding shares of the
Acquired Fund shall thereupon be cancelled on the books of the Acquired Fund.
The Acquiring Fund shall have no obligation to inquire as to the validity,
propriety or correctness of any such instruction, but shall, in each case,
assume that such instruction is valid, proper and correct. The Acquiring Fund
shall record on its books the ownership of Acquiring Fund Shares by Acquired
Fund Record Holders. No redemption or repurchase of any Acquiring Fund Shares
credited to Acquired Fund Record Holders in respect of the Acquired Fund Shares
represented by unsurrendered stock certificates shall be permitted until such
certificates have been surrendered to the Custodian for cancellation. Any
transfer taxes payable upon issuance of Acquiring Fund Shares in a name other
than the name of the Acquired Fund Record Holder on the books of the Acquiring
Fund as of the Closing Date shall, as a condition of such issuance and transfer,
be paid by the person to whom such Acquiring Fund Shares are to be issued and
transferred.
5. ACQUIRED FUND SECURITIES. The Acquired Fund has provided the Acquiring Fund
with a list of all of the Acquired Fund's portfolio investments as of the date
of execution of this Agreement. The Acquired Fund may sell any of these
investments and will confer with the Acquiring Fund with respect to investments
for the Acquired Fund. The Acquiring Fund will, within a reasonable time prior
to the Closing Date, furnish the Acquired Fund with a statement of the Acquiring
Fund's investment objectives, policies, and restrictions and a list of the
investments, if any, on the list referred to in the first sentence of this
paragraph 5 that do not conform to such objectives, policies, and restrictions.
In the event that the Acquired Fund holds any investments that the Acquiring
Fund may not hold, the Acquired Fund will, consistent with the foregoing and its
own policies and restrictions, use its reasonable efforts to dispose of such
investments prior to the Closing Date, provided, however, that in no event will
the Acquired
<PAGE>
Fund be required to dispose of assets to an extent which would cause less than
50% of the historic business assets of the Acquired Fund to be transferred to
the Acquiring Fund pursuant to this Agreement or to take any action that is
inconsistent with paragraph 8.M. below. In addition, if it is determined that
the portfolios of the Acquired Fund and the Acquiring Fund, when aggregated,
would contain any investments exceeding certain percentage limitations
applicable to the Acquiring Fund with respect to such investments, the Acquired
Fund will, if requested by the Acquiring Fund, in a manner consistent with the
foregoing and its own policies and restrictions, use its reasonable efforts to
dispose of an amount of such investments sufficient to avoid violating such
limitations as of the Closing Date. On the Delivery Date, the Acquired Fund
shall deliver to the Acquiring Fund a list setting forth the securities then
owned by the Acquired Fund (the "Securities List"), which shall be prepared in
accordance with the requirements of the Code and the regulations promulgated
thereunder for specific identification tax lot accounting and which shall
clearly reflect the basis used for determination of gain and loss realized on
the partial sale of any security transferred to the Acquiring Fund. The records
from which the Securities List will be prepared shall be made available by the
Acquired Fund prior to the Closing Date for inspection by the Acquiring Fund's
Treasurer or his designee or the auditors of the Acquiring Fund upon reasonable
request.
6. LIABILITIES AND EXPENSES. The Acquiring Fund shall not assume any of the
liabilities of the Acquired Fund, and the Acquired Fund will use its reasonable
efforts to discharge all its known liabilities, so far as may be possible, prior
to the Closing Date. The Acquiring Fund shall not be responsible for any of the
Acquired Fund's expenses in connection with the carrying-out of this Agreement.
7. LEGAL OPINIONS.
A.OPINION OF ACQUIRED FUND COUNSEL. At the Closing, the Acquired Fund shall
furnish the Acquiring Fund with such written opinions (including opinions as to
certain federal income tax matters) of Swidler Berlin Shereff Friedman, LLP, and
the factual representations supporting such opinions as shall be, in form and
substance reasonably satisfactory to the Acquiring Fund.
B.
OPINION OF ACQUIRING FUND COUNSEL. At the Closing, the Acquiring Fund shall
furnish the Acquired Fund with a written opinion of Swidler Berlin Shereff
Friedman, LLP, and the factual representations supporting such opinions shall
be, in form and substance reasonably satisfactory to the Acquired Fund.
8. ACQUIRED FUND REPRESENTATIONS, WARRANTIES AND COVENANTS. The Acquired Fund
hereby represents and warrants to the Acquiring Fund, and covenants and agrees
with the Acquiring Fund:
A.
that the audited statement of assets and liabilities, including the schedule of
portfolio investments, and the related
<PAGE>
statement of operations and statement of changes in net assets of the Acquired
Fund as of February 29, 2000 and for the year then ended heretofore delivered to
the Acquiring Fund were prepared in accordance with generally accepted
accounting principles, reflect all liabilities of the Acquired Fund, whether
accrued or contingent, which are required to be reflected or reserved against in
accordance with generally accepted accounting principles, and present fairly the
financial position and results of operations of the Acquired Fund as of said
date and for the period covered thereby;
B.
that the Acquired Fund will furnish to the Acquiring Fund an unaudited statement
of assets and liabilities, including the schedule of portfolio investments (or a
statement of net assets in lieu of a statement of assets and liabilities and a
schedule of portfolio investments), and the related statement of operations and
statement of changes in net assets of the Acquired Fund for the period
commencing on the date following the date specified in paragraph 8.A. above and
ending on August 31, 2000. These financial statements will be prepared in
accordance with generally accepted accounting principles and will reflect all
liabilities of the Acquired Fund, whether accrued or contingent, which are
required to be reflected or reserved against in accordance with generally
accepted accounting principles, will present fairly the financial position and
results of operations of the Acquired Fund as of the dates of such statements
and for the periods covered thereby;
C.
that there are no legal, administrative or other proceedings pending or, to the
knowledge of the Acquired Fund, overtly threatened against the Acquired Fund
which would individually or in the aggregate materially affect the financial
condition of the Acquired Fund or the Acquiring Fund's ability to consummate the
transactions contemplated hereby;
D.
that the execution and delivery of this Agreement by the Acquired Fund and the
consummation of the transactions contemplated herein have been authorized by the
Board of Trustees by vote taken at a meeting of the Board of Directors of the
Acquiring Fund duly called and held on July 18, 2000, and that the Acquired Fund
will (i) take all steps necessary duly to call, give notice of, convene and hold
a meeting of the shareholders of the Acquired Fund as soon as practicable and in
accordance with applicable Massachusetts and federal law, for the purpose of
approving this Agreement and the transactions contemplated herein and for such
other purposes as may be necessary and desirable, and (ii) recommend to such
shareholders the approval of this Agreement and the transactions contemplated
herein and such other matters as may be submitted to such shareholders in
connection with the transactions contemplated herein;
E.
that from the date of this Agreement through the Closing Date, there shall not
have been:
<PAGE>
(1)
any material change in the business, results of operations, assets or
financial condition or the manner of conducting the business of the
Acquired Fund (other than changes in the ordinary course of its business or
relating to the transactions contemplated by this Agreement, including,
without limitation, dividends and distributions in the ordinary course,
changes in the net asset value per share, redemptions in the ordinary
course of business, and changes in sales volume), which has had a material
adverse effect on such business, results of operations, assets or financial
condition, except in all instances as set forth in the financial statements
of the Acquired Fund referred to in paragraphs 8.A. and B. above;
(2)
any loss (whether or not covered by insurance) suffered by the Acquired
Fund materially and adversely affecting the assets of the Acquired Fund,
other than depreciation of securities;
(3)
issued any option to purchase or other right to acquire stock of the
Acquired Fund of any class granted by the Acquired Fund to any person
(excluding sales in the ordinary course and a dividend reinvestment
program);
(4)
any indebtedness incurred by the Acquired Fund for borrowed money or any
commitment to borrow money entered into by the Acquired Fund, except as
provided in the current prospectus and statement of additional information
of the Acquired Fund or so long as it will not prevent the Acquired Fund
from complying with paragraph 8.I.;
(5)
any amendment to the Articles of Incorporation or By-Laws of the Acquired
Fund except to effectuate the transactions contemplated hereunder or
otherwise as disclosed in writing to the Acquiring Fund; or
(6)
any grant or imposition of any lien, claim, charge or encumbrance upon any
asset of the Acquired Fund except as provided in the current prospectus and
statement of additional information of the Acquired Fund or so long as it
will not prevent the Acquired Fund from complying with paragraph 8.I.;
F.
that there are no material contracts outstanding to which the Acquired Fund is
bound other than as disclosed to the Acquiring Fund;
G.
that the Acquired Fund has filed all federal, state and local tax returns and
reports required by law to have been filed, that all federal, state and local
income, franchise, property, sales, employment or other taxes payable pursuant
to such returns and reports have been paid so far as due, or provision has been
made for the payment thereof,
<PAGE>
and that, to the knowledge of the Acquired Fund, no such return is currently
under audit and no assessment has been asserted with respect to any such return
other than with respect to all such matters which are not material individually
or in the aggregate;
H.
that, as promptly as practicable, but in any case within 60 days after the
Closing Date, the Acquired Fund shall furnish the Acquiring Fund with a
statement of the earnings and profits of the Acquired Fund for federal income
tax purposes;
I.
that on the Closing Date the Acquired Fund will have good and marketable title
to the assets of the Acquired Fund to be conveyed hereunder, free and clear of
all liens, mortgages, pledges, encumbrances, charges, claims and equities
whatsoever, and full right, power and authority to sell, assign, transfer and
deliver such assets and shall deliver such assets to the Acquiring Fund as set
forth in paragraph 1.A. hereof. Upon delivery of such assets, the Acquiring Fund
will receive good and marketable title to such assets, free and clear of all
liens, mortgages, pledges, encumbrances, charges, claims and equities, except as
to adverse claims of which the Acquiring Fund has notice at or prior to the time
of delivery. Except as set forth on the Securities List, none of the securities
comprising the assets of the Acquired Fund will be "restricted securities" under
the 1933 Act or the rules and regulations of the Securities and Exchange
Commission (the "Commission") thereunder;
J.that the Proxy Statement/Prospectus (hereinafter defined) at the time of
delivery by the Acquired Fund to its shareholders in connection with the meeting
of shareholders to approve this transaction, on the Closing Date and at the time
of the liquidation of the Acquired Fund set forth in paragraph 4. above, as
amended or as supplemented if it shall have been amended or supplemented, will
conform in all material respects to the applicable requirements of the 1933 Act,
the Securities Exchange Act of 1934 (the "1934 Act") and the 1940 Act and the
rules and regulations of the Commission thereunder, and will not include any
untrue statement of a material fact or omit to state any material fact required
to be stated therein or necessary to make the statements therein, in light of
the circumstances under which they were made, not materially misleading, except
that no representations or warranties in this section apply to statements or
omissions which are based on written information furnished by the Acquiring Fund
to the Acquired Fund;
K.
that the Acquired Fund is not, and the execution, delivery and performance of
this Agreement will not result, in a material violation of any provision of its
Master Trust Agreement or By-Laws or of any material agreement, indenture,
instrument, contract, lease or other undertaking to which the Acquired Fund is a
party or by which it is bound and that this Agreement constitutes a valid and
legally binding obligation of the Acquired Fund, enforceable against
<PAGE>
the Acquired Fund in accordance with its terms, except as enforceability may be
affected by bankruptcy laws, laws affecting creditors generally and general
principles of equity;
L.
that the Acquired Fund will take all actions within its control necessary to
cause the exchange of Acquiring Fund Shares for assets of the Acquired Fund made
under this Agreement to qualify, as of and after the Closing, as a
reorganization within the meaning of Section 368(a)(1)(C) of the Code; and
M.
that the Acquired Fund is registered with the Commission under the 1940 Act,
classified as a management company and subclassified as an open-end
non-diversified company.
9. ACQUIRING FUND REPRESENTATIONS, WARRANTIES AND COVENANTS. The Acquiring
Fund hereby represents and warrants to the Acquired Fund, and covenants and
agrees with the Acquired Fund:
A.
that the audited statement of assets and liabilities, including the schedule of
portfolio investments, and the related statement of operations and statement of
changes in net assets of the Acquiring Fund as of February 29, 2000 and for the
year then ended heretofore delivered to the Acquired Fund were prepared in
accordance with generally accepted accounting principles, reflect all
liabilities of the Acquiring Fund, whether accrued or contingent, which are
required to be reflected or reserved against in accordance with generally
accepted accounting principles, and present fairly the financial position and
results of operations of the Acquiring Fund as of said date and for the period
covered thereby;
B.
that the Acquiring Fund shall furnish to the Acquired Fund unaudited schedules
of portfolio investments and unaudited statements of assets and liabilities (or
a statement of net assets in lieu of a statement of assets and liabilities and a
schedule of portfolio investments) and the related statements of operation and
statements of changes in net assets of the Acquiring Fund for the semiannual
period of the Acquiring Fund occurring between the date following the date
specified in paragraph 9.A. above and August 31, 2000. These financial
statements will be prepared in accordance with generally accepted accounting
principles, will reflect all liabilities of the Acquiring Fund, whether accrued
or contingent, which are required to be reflected or reserved against in
accordance with generally accepted accounting principles, will present fairly
the financial position and results of operations of the Acquiring Fund as of the
dates of such statements and for the periods covered thereby;
C.
that there are no legal, administrative or other proceedings pending or, to its
knowledge, overtly threatened against the Acquiring Fund which would
individually or in the aggregate materially affect the financial condition of
the Acquiring Fund's ability to consummate the transactions contemplated hereby;
<PAGE>
D.
that the execution and delivery of this Agreement by the Acquiring Fund and the
consummation of the transactions contemplated herein have been authorized by the
Board of Directors of the Acquiring Fund by vote taken at a meeting of the Board
of Directors of the Acquiring Fund duly called and held on July 18, 2000, and
that approval by the Acquiring Fund's shareholders of this Agreement or the
consummation of the transactions contemplated herein is not required under
applicable Maryland and federal law;
E.
that from the date of this Agreement through the Closing Date, there shall not
have been any material change in the business, results of operations, assets or
financial condition or the manner of conducting the business of the Acquiring
Fund (other than changes in the ordinary course of its business, including,
without limitation, dividends and distributions in the ordinary course, changes
in the net asset value per share, redemptions in the ordinary course of business
and changes in sales volume), which has had an adverse material effect on such
business, results of operations, assets or financial condition, except in all
instances as set forth in the financial statements of the Acquiring Fund
referred to in paragraph 9.A. and B. above;
F.
that the Acquiring Fund is registered with the Commission under the 1940 Act,
classified as a management company and subclassified as an open-end diversified
company;
G.
that the shares of the Acquiring Fund to be issued pursuant to paragraph 1.A.
will be duly registered under the 1933 Act by the Registration Statement
(hereinafter defined) in effect on the Closing Date and at the time of the
liquidation of the Acquired Fund set forth in paragraph 4. above;
H.
that the Acquiring Fund Shares are duly authorized and validly issued and are
fully paid, nonassessable and free of any preemptive rights and conform in all
material respects to the description thereof contained in the Proxy
Statement/Prospectus as in effect on the Closing Date and at the time of the
liquidation of the Acquired Fund set forth in paragraph 4. above;
I.
that the Acquiring Fund is not, and the execution, delivery and performance of
this Agreement will not result, in a material violation of any provision of the
Acquiring Fund's Articles of Incorporation or By-Laws or of any material
agreement, indenture, instrument, contract, lease or other undertaking to which
the Acquiring Fund is a party or by which it is bound, and that this Agreement
constitutes a valid and legally binding obligation of the Acquiring Fund,
enforceable against the Acquiring Fund in accordance with its terms, except as
enforceability may be affected by bankruptcy laws, laws affecting creditors
generally and general principles of equity;
<PAGE>
J.
that the Acquiring Fund will take all actions within its control necessary to
cause the exchange of Acquiring Fund Shares for assets of the Acquired Fund made
under this Agreement to qualify, as of and after the Closing, as a
reorganization within the meaning of Section 368(a)(1)(C) of the Code;
K.
that the Acquiring Fund has filed all federal, state and local tax returns and
reports required by law to have been filed, that all federal, state and local
income, franchise, property, sales, employment or other taxes payable pursuant
to such returns and reports have been paid so far as due, or provision has been
made for the payment thereof, and that, to the knowledge of the Acquiring Fund,
no such return is currently under audit and no assessment has been asserted with
respect to any such return, other than with respect to all such matters those
which are not material individually or in the aggregate;
L.
that the Proxy Statement/Prospectus at the time of delivery by the Acquired Fund
to its shareholders in connection with the meeting of shareholders to approve
this transaction, on the Closing Date and at the liquidation of the Acquired
Fund set forth in paragraph 4. above, as amended or as supplemented if it shall
have been amended or supplemented, and the Registration Statement on the
effective date thereof, on the Closing Date and at the liquidation of the
Acquired Fund set forth in paragraph 4. above, will conform in all material
respects to the applicable requirements of the 1933 Act, the 1934 Act and the
1940 Act and the rules and regulations of the Commission thereunder, and will
not include any untrue statement of a material fact or omit to state a material
fact required to be stated therein or necessary to make the statements therein,
in light of the circumstances under which such statements were made, not
materially misleading, except that no representations or warranties in this
section apply to statements or omissions which are based on written information
furnished by the Acquired Fund to the Acquiring Fund; and
M.
the current prospectus and statement of additional information of the Acquiring
Fund (copies of which have been delivered to the Acquired Fund) conform in all
material respects to the applicable requirements of the 1933 Act and the 1940
Act and the rules and regulations of the Commission thereunder and do not
include any untrue statement of a material fact or omit to state any material
fact required to be stated therein or necessary to make the statements therein,
in light of the circumstances under which they were made, not materially
misleading.
10. CERTAIN CONDITIONS.
Unless waived by the parties in writing in their sole discretion, all
obligations of the parties hereunder are subject to the fulfillment, prior to or
at the Closing, of each of the following conditions:
<PAGE>
A.
REGISTRATION STATEMENT AND PROXY STATEMENT/ PROSPECTUS. The Acquiring Fund will
file a registration statement on Form N-14 with the Commission under the 1933
Act in order to register the Acquiring Fund Shares to be issued hereunder. Such
registration statement in the form in which it shall become effective and, in
the event any post-effective amendment thereto becomes effective prior to the
Closing Date, such registration statement as amended, is referred to herein as
the "Registration Statement." The Acquired Fund will file preliminary proxy
materials with the Commission under the 1940 Act and the 1934 Act, relating to
the meeting of the shareholders of the Acquired Fund at which this Agreement and
the transactions herein contemplated will be considered and voted upon, in the
form of a combined proxy statement and prospectus and related statement of
additional information included in the Registration Statement. The combined
proxy statement and prospectus and related statement of additional information
that is first filed pursuant to Rule 497(b) under the 1933 Act is referred to
herein as the "Proxy Statement/Prospectus." The Acquiring Fund and the Acquired
Fund each will exert reasonable efforts to cause the Registration Statement to
become effective under the 1933 Act as soon as practical and agree to cooperate
in such efforts. The Registration Statement shall have become effective under
the 1933 Act and no stop orders suspending the effectiveness thereof shall have
been issued and, to the knowledge of the parties hereto, no investigation or
proceeding for that purpose shall have been instituted or be pending, threatened
or contemplated under the 1933 Act. Upon effectiveness of the Registration
Statement, the Acquired Fund will cause the Proxy Statement/Prospectus to be
delivered to the shareholders of the Acquired Fund entitled to vote on the
transactions contemplated by this Agreement at least 20 days prior to the date
of the meeting of shareholders called to act upon such transactions.
B.
SHAREHOLDER VOTE. The obligations of the Acquired Fund under this Agreement
shall be subject to the shareholders of the Acquired Fund duly approving the
execution and delivery of this Agreement and the transactions contemplated
herein.
C.
PENDING OR THREATENED PROCEEDINGS. On the Closing Date, no action, suit or other
proceeding shall be threatened or pending before any court or governmental
agency in which it is sought to restrain or prohibit, or obtain damages or other
relief in connection with, this Agreement or the transactions contemplated
herein.
D.
APPROPRIATE ARTICLES. The Acquired Fund shall execute and cause to be filed with
the state of Massachusetts, such articles of transfer, articles supplementary or
other documents, as necessary to eliminate designation of the Acquired Fund, as
appropriate.
<PAGE>
E.
DECLARATION OF DIVIDEND. The Acquired Fund shall have declared a dividend or
dividends which, together with all previous such dividends, shall have the
effect of distributing to the Acquired Fund shareholders all of the investment
company taxable income and realized capital gain for all taxable periods of the
Acquired Fund which are required to be distributed to avoid federal income or
excise tax applicable to regulated investment companies.
F.
STATE SECURITIES LAWS. The parties shall have received all permits and other
authorizations necessary under state securities laws to consummate the
transactions contemplated herein.
G.
PERFORMANCE OF COVENANTS. Each party shall have performed and complied in all
material respects with each of its agreements and covenants required by this
Agreement to be performed or complied with by it prior to or at the Valuation
Date and the Closing Date.
H.
REPRESENTATIONS AND WARRANTIES. The representations and warranties of each party
set forth in this Agreement will be true and correct on the Closing Date, and
each party shall deliver to the other a certificate of a duly authorized officer
of such party to that effect.
11. NOTICES. All notices, requests, instructions and demands in the course of
the transactions herein contemplated shall be in writing addressed to the
respective parties as follows and shall be deemed given: (i) on the next day if
sent by prepaid overnight courier and (ii) on the same day if given by hand
delivery or telecopy.
If to the Acquiring Fund or Acquired Fund:
Henry H. Hopkins, Esquire
T. Rowe Price Associates, Inc.
100 East Pratt Street
Baltimore, Maryland 21202
Fax Number (410) 345-6575
with a copy to:
Joel H. Goldberg, Esquire
Swidler Berlin Shereff Friedman, LLP
405 Lexington Avenue
New York, New York 10174
Fax Number (212) 891-9598
or to such other address as the parties from time to time may designate by
written notice to all other parties hereto.
<PAGE>
12. TERMINATION.
A.
This Agreement may be terminated by the Acquiring Fund or the Acquired Fund upon
the giving of written notice to the other, if the conditions specified in
paragraphs 8., 9. and 10. have not been performed or do not exist on or before
January 31, 2001.
B.
In the event of termination of this Agreement pursuant to paragraph 12.A. of
this Agreement, neither party (nor its officers or trustees) shall have any
liability to the other.
13. EXHIBITS. All Exhibits shall be considered as part of this Agreement.
14. MISCELLANEOUS. This Agreement shall bind and inure to the benefit of the
parties and their respective successors and assigns. It shall be governed by,
construed and enforced in accordance with the laws of the State of Maryland. The
Acquired Fund and the Acquiring Fund represent and warrant to each other that
there are no brokers or finders entitled to receive any payments in connection
with the transactions provided for herein. The Acquired Fund and the Acquiring
Fund agree that no party has made any representation, warranty or covenant not
set forth herein and that this Agreement constitutes the entire agreement
between the parties as to the subject matter hereof. The representations,
warranties and covenants contained in this Agreement or in any document
delivered pursuant hereto or in connection herewith shall survive the
consummation of the transactions contemplated hereunder for a period of three
years thereafter. The paragraph headings contained in this Agreement are for
reference purposes only and shall not affect in any way the meaning or
interpretation of this Agreement. This Agreement shall be executed in any number
of counterparts, each of which shall be deemed an original. Nothing herein
expressed or implied is intended or shall be construed to confer upon or give
any person, firm or corporation, other than the parties hereto and their
respective successors and assigns, any rights or remedies under or by reason of
this Agreement. Whenever used herein, the use of any gender shall include all
genders.
15. AMENDMENTS. The Acquired Fund and the Acquiring Fund by mutual consent of
their Board of Trustees/Directors or authorized committees or officers may amend
this Agreement in such manner as may be agreed upon, whether before or after the
meeting of stockholders of the Acquired Fund at which action upon the
transactions contemplated hereby is to be taken; provided, however, that after
the requisite approval of the stockholders of the Acquired Fund has been
obtained, this Agreement shall not be amended or modified so as to change the
provisions with respect to the transactions herein contemplated in any manner
which would materially and adversely affect the rights of such stockholders
without their further approval.
<PAGE>
16. WAIVER. The failure of any party hereto to enforce at any time any of the
provisions of this Agreement shall in no way be construed to be a waiver of any
such provision, nor in any way to affect the validity of this Agreement or any
part hereof or the right of any party thereafter to enforce each and every such
provision. No waiver of any breach of this Agreement shall be held to be a
waiver of any other or subsequent breach.
17. LIABILITY.
A.The Acquired Fund and the Acquiring Fund acknowledge and agree that all
obligations of the Acquired Fund under this Agreement are binding only with
respect to the Acquired Fund; that any liability of the Acquired Fund under this
Agreement or in connection with the transactions contemplated herein shall be
discharged only out of the assets of the Acquired Fund.
B.The Acquiring Fund and the Acquired Fund acknowledge and agree that all
obligations of the Acquiring Fund under this Agreement are binding only with
respect to the Acquiring Fund; that any liability of the Acquiring Fund under
this Agreement or in connection with the transactions contemplated herein shall
be discharged only out of the assets of the Acquiring Fund.
IN WITNESS WHEREOF, each of the parties hereto has caused this Agreement to
be executed and by their officers thereunto duly authorized, as of the day and
year first above written.
WITNESS: T. ROWE PRICE TAX-FREE SHORT-INTERMEDIATE FUND, INC.
__________________By _______________________(SEAL)
Title: Vice President
WITNESS: T. ROWE PRICE STATE TAX-FREE INCOME TRUST, on behalf of the
Virginia Short-Term Tax-Free Bond Fund
__________________By ________________________(SEAL)
Title: Vice President
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION FOR
T. ROWE PRICE TAX-FREE SHORT-INTERMEDIATE FUND, INC.
----------------------------------------------------
Acquisition of the assets of
T. ROWE PRICE STATE TAX-FREE INCOME TRUST ON BEHALF OF
VIRGINIA SHORT-TERM TAX-FREE BOND FUND (THE VIRGINIA FUND)
By and in exchange for shares of
T. ROWE PRICE TAX-FREE SHORT-INTERMEDIATE FUND, INC. ON BEHALF OF
T. ROWE PRICE TAX-FREE SHORT-INTERMEDIATE FUND (THE TAX-FREE
FUND)
This Statement of Additional Information relates specifically to the proposed
acquisition of substantially all of the assets of the Virginia Fund by the
Tax-Free Fund in exchange for shares of the Tax-Free Fund.
This Statement of Additional Information consists of this Cover Page, the
Statement of Additional Information of the Tax-Free Fund and the Virginia Fund,
and the annual reports of the Tax-Free Fund and the Virginia Fund. Each of these
documents described below is attached hereto and incorporated by reference
herein.
(1)
Statement of Additional Information, dated July 1, 2000 for the Tax-Free Fund
and the Virginia Fund; and
(2)the annual reports, dated, February 29, 2000, for the Tax-Free Fund and the
Virginia Fund.
This Statement of Additional Information is not a prospectus; a Proxy
Statement/Prospectus dated September 1, 2000, relating to the above-reference
transaction may be obtained from T. Rowe Price Associates, Inc. This Statement
of Additional Information should be read in conjunction with such Proxy
Statement/Prospectus. The date of this Statement of Additional Information is
September 1, 2000.
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
The date of this Statement of Additional Information is July 1, 2000.
T. ROWE PRICE CALIFORNIA TAX-FREE INCOME TRUST (the "Trust")
California Tax-Free Bond Fund
California Tax-Free Money Fund
and
T. ROWE PRICE STATE TAX-FREE INCOME TRUST (the "Trust")
Florida Intermediate Tax-Free Fund
Georgia Tax-Free Bond Fund
Maryland Short-Term Tax-Free Bond Fund
Maryland Tax-Free Bond Fund
New Jersey Tax-Free Bond Fund
New York Tax-Free Bond Fund
New York Tax-Free Money Fund
Virginia Short-Term Tax-Free Bond Fund
Virginia Tax-Free Bond Fund
and
T. ROWE PRICE TAX-EFFICIENT FUNDS, INC.
T. Rowe Price Tax-Efficient Balanced Fund
T. Rowe Price Tax-Efficient Growth Fund
T. ROWE PRICE TAX-EXEMPT MONEY FUND, INC.
T. Rowe Price Tax-Exempt Money Fund
T. Rowe Price Tax-Exempt Money Fund--PLUS Class
T. ROWE PRICE TAX-FREE HIGH YIELD FUND, INC.
T. ROWE PRICE TAX-FREE INCOME FUND, INC.
T. ROWE PRICE TAX-FREE INTERMEDIATE BOND FUND, INC.
T. ROWE PRICE TAX-FREE SHORT-INTERMEDIATE FUND, INC.
-------------------------------------------------------------------------------
Mailing Address: T. Rowe Price Investment Services, Inc. 100 East Pratt
Street Baltimore, Maryland 21202 1-800-638-5660
This Statement of Additional Information is not a prospectus but should be
read in conjunction with the appropriate fund prospectus dated July 1, 2000,
which may be obtained from T. Rowe Price Investment Services, Inc.
("Investment Services").
Each fund's financial statements for the year ended February 29, 2000, and
the report of independent accountants are included in each fund's Annual
Report and incorporated by reference into this Statement of Additional
Information.
If you would like a prospectus or an annual or semiannual shareholder report
for a fund of which you are not a shareholder, please call 1-800-638-5660. A
prospectus with more complete information, including management fees and
expenses, will be sent to you. Please read it carefully.
C03-043 7/1/00
<PAGE>
<TABLE>
<CAPTION>
TABLE OF CONTENTS
-----------------
Page Page
---- ----
<S> <S> <C> <S> <S>
Capital Stock 69 Pricing of Securities 60
------------------------------ --------------------------------------------
Code of Ethics 53 Principal Holders of Securities 47
------------------------------ --------------------------------------------
Custodian 53 Ratings of Commercial Paper 75
------------------------------ --------------------------------------------
Distributor for the 52 Ratings of Municipal Debt Securities 73
Funds
------------------------------ --------------------------------------------
Dividends and 62 Ratings of Municipal Notes and 75
Distributions Variable Rate Securities
------------------------------ --------------------------------------------
Federal Registration 71 Risk Factors 3
of Shares
------------------------------ --------------------------------------------
Independent 71 Risk Factors Associated with a 5
Accountants California Portfolio
------------------------------ --------------------------------------------
Investment Management 48 Risk Factors Associated with a 7
Services Florida Portfolio
------------------------------ --------------------------------------------
Investment Objectives 2 Risk Factors Associated with a 9
and Policies Georgia Portfolio
------------------------------ --------------------------------------------
Investment Performance 66 Risk Factors Associated with a 11
Maryland Portfolio
------------------------------ --------------------------------------------
Investment Program 19 Risk Factors Associated with a New 12
Jersey Portfolio
------------------------------ --------------------------------------------
Investment 37 Risk Factors Associated with a New 13
Restrictions York Portfolio
------------------------------ --------------------------------------------
Legal Counsel 71 Risk Factors Associated with a 16
Virginia Portfolio
------------------------------ --------------------------------------------
Management of the Risk Factors Associated with
Funds Tax-Efficient Growth Fund and the
40 Equity Portion of Tax-Efficient 18
Balanced Fund
------------------------------ --------------------------------------------
Net Asset Value Per 61 Services by Outside Parties 53
Share
------------------------------ --------------------------------------------
Organization of the 70 Tax Status 62
Funds
------------------------------ --------------------------------------------
Portfolio Management 26 Yield Information 64
Practices
------------------------------ --------------------------------------------
Portfolio Transactions 54
------------------------------ --------------------------------------------
</TABLE>
INVESTMENT OBJECTIVES AND POLICIES
-------------------------------------------------------------------------------
The following information supplements the discussion of each fund's
investment objectives and policies discussed in each fund's prospectus.
The funds will not make a material change in their investment objectives
without obtaining shareholder approval. Unless otherwise specified, the
investment programs and restrictions of the funds are not fundamental
policies. Each fund's operating policies are subject to change by each Board
of Directors/Trustees without shareholder approval. However, shareholders
will be notified of a material change in an operating policy. Each fund's
fundamental policies may not be changed without the approval of at least a
majority of the outstanding shares of the fund or, if it is less, 67% of the
shares represented at a meeting of shareholders at which the holders of 50%
or more of the shares are represented. References to the following are as
indicated:
Investment Company Act of 1940 ("1940 Act")
Securities and Exchange Commission ("SEC")
T. Rowe Price Associates, Inc. ("T. Rowe Price")
Moody's Investors Service, Inc. ("Moody's")
Standard & Poor's Corporation ("S&P")
Internal Revenue Code of 1986 ("Code")
Rowe Price-Fleming International, Inc. ("Price-Fleming")
Throughout this Statement of Additional Information, "the fund" is intended
to refer to each fund listed on the cover page, unless otherwise indicated.
<PAGE>
RISK FACTORS
-------------------------------------------------------------------------------
Reference is also made to the sections entitled "Types of Securities" and
"Portfolio Management Practices" for discussions of the risks associated with
the investments and practices described therein as they apply to the fund.
All Funds (other than Tax-Efficient Growth Fund)
The funds are designed for investors who, because of their tax bracket, can
benefit from investment in municipal bonds whose income is exempt from
federal taxes. The funds are not appropriate for qualified retirement plans
where income is already tax-deferred.
All Funds
Because of their investment policies, the funds may or may not be suitable or
appropriate for all investors. The funds (except for the Money Funds) are not
an appropriate investment for those whose primary objective is principal
stability. The value of the portfolio securities of the fund will fluctuate
based upon market conditions. The Tax-Efficient Balanced Fund will normally
have 40-50% of its assets in equity securities. The Tax-Efficient Growth Fund
will normally invest substantially all of its assets in common stocks. Assets
of these funds invested in equity securities will be subject to all of the
risks of investing in the stock market. There can, of course, be no assurance
that the funds will achieve their investment objectives.
All Funds (other than Tax-Efficient Growth Fund)
Municipal Securities
Yields on municipal securities are dependent on a variety of factors,
including the general conditions of the money market and the municipal bond
market, the size of a particular offering, the maturity of the obligations,
and the rating of the issue. Municipal securities with longer maturities tend
to produce higher yields and are generally subject to potentially greater
capital appreciation and depreciation than obligations with shorter
maturities and lower yields. The market prices of municipal securities
usually vary, depending upon available yields. An increase in interest rates
will generally reduce the value of portfolio investments, and a decline in
interest rates will generally increase the value of portfolio investments.
The ability of all the funds to achieve their investment objectives is also
dependent on the continuing ability of the issuers of municipal securities in
which the funds invest to meet their obligations for the payment of interest
and principal when due. The ratings of Moody's, S&P, and Fitch IBCA, Inc.
("Fitch") represent their opinions as to the quality of municipal securities
which they undertake to rate. Ratings are not absolute standards of quality;
consequently, municipal securities with the same maturity, coupon, and rating
may have different yields. There are variations in municipal securities, both
within a particular classification and between classifications, depending on
numerous factors. It should also be pointed out that, unlike other types of
investments, offerings of municipal securities have traditionally not been
subject to regulation by, or registration with, the SEC, although there have
been proposals which would provide for regulation in the future.
The federal bankruptcy statutes relating to the debts of political
subdivisions and authorities of states of the United States provide that, in
certain circumstances, such subdivisions or authorities may be authorized to
initiate bankruptcy proceedings without prior notice to or consent of
creditors, which proceedings could result in material and adverse changes in
the rights of holders of their obligations.
Proposals have been introduced in Congress to restrict or eliminate the
federal income tax exemption for interest on municipal securities, and
similar proposals may be introduced in the future. Proposed "Flat Tax" and
"Value Added Tax" proposals would also have the effect of eliminating the tax
preference for municipal securities. Some of the past proposals would have
applied to interest on municipal securities issued before the date of
enactment, which would have adversely affected their value to a material
degree. If such a proposal were enacted, the availability of municipal
securities for investment by the funds and the value of a fund's portfolio
would be affected and, in such an event, a fund would reevaluate its
investment objectives and policies.
<PAGE>
Although the banks and securities dealers with which the fund will transact
business will be banks and securities dealers that T. Rowe Price believes to
be financially sound, there can be no assurance that they will be able to
honor their obligations to the fund with respect to such transactions.
After purchase by a fund, a security may cease to be rated or its rating may
be reduced below the minimum required for purchase by the fund. Neither event
would require a sale of such security by the fund. However, T. Rowe Price
will consider such events in its determination of whether the fund should
continue to hold the security. To the extent that the ratings given by
Moody's, S&P, or Fitch may change as a result of changes in such
organizations or their rating systems, the fund will attempt to use
comparable ratings as standards for investments in accordance with the
investment policies contained in the prospectus. When purchasing unrated
securities, T. Rowe Price, under the supervision of the fund's Board of
Directors/Trustees, determines whether the unrated security is of a quality
comparable to that which the fund is allowed to purchase.
Municipal Bond Insurance All of the funds may purchase insured bonds from
time to time. Municipal bond insurance provides an unconditional and
irrevocable guarantee that the insured bond's principal and interest will be
paid when due. The guarantee is purchased from a private, non-governmental
insurance company.
There are two types of insured securities that may be purchased by the funds:
bonds carrying either (1) new issue insurance; or (2) secondary insurance.
New issue insurance is purchased by the issuer of a bond in order to improve
-------------------
the bond's credit rating. By meeting the insurer's standards and paying an
insurance premium based on the bond's principal value, the issuer is able to
obtain a higher credit rating for the bond. Once purchased, municipal bond
insurance cannot be canceled, and the protection it affords continues as long
as the bonds are outstanding and the insurer remains solvent.
The funds may also purchase bonds that carry secondary insurance purchased by
-------------------
an investor after a bond's original issuance. Such policies insure a security
for the remainder of its term. Generally, the funds expect that portfolio
bonds carrying secondary insurance will have been insured by a prior
investor. However, the funds may, on occasion, purchase secondary insurance
on their own behalf.
Each of the municipal bond insurance companies has established reserves to
cover estimated losses. Both the method of establishing these reserves and
the amount of the reserves vary from company to company. The risk that a
municipal bond insurance company may experience a claim extends over the life
of each insured bond. Municipal bond insurance companies are obligated to pay
a bond's interest and principal when due if the issuing entity defaults on
the insured bond. Although defaults on insured municipal bonds have been low
to date, there is no assurance this low rate will continue in the future. A
higher than expected default rate could deplete loss reserves and adversely
affect the ability of a municipal bond insurer to pay claims to holders of
insured bonds, such as the fund.
Money Funds
The Money Funds will limit their purchases of portfolio instruments to those
U.S. dollar-denominated securities which the fund's Board of
Directors/Trustees determines present minimal credit risk, and which are
Eligible Securities as defined in Rule 2a-7 under the 1940 Act. Eligible
Securities are generally securities which have been rated (or whose issuer
has been rated or whose issuer has comparable securities rated) in one of the
two highest short-term rating categories (which may include sub-categories)
by nationally recognized statistical rating organizations or, in the case of
any instrument that is not so rated, is of comparable high quality as
determined by T. Rowe Price pursuant to written guidelines established under
the supervision of the fund's Board of Directors/Trustees. In addition, the
fund may treat variable and floating rate instruments with demand features as
short-term securities pursuant to Rule 2a-7 under the 1940 Act.
Bond and Balanced Funds
Because of their investment policies, the Bond and Balanced Funds may not be
suitable or appropriate for all investors. The funds are designed for
investors who wish to invest in non-money market funds for income, and who
would benefit, because of their tax bracket, from receiving income that is
exempt from federal income taxes. The Bond and Balanced Funds' investment
programs permit the purchase of investment-grade securities that do not meet
the high-quality standards of the Money Fund. Since investors generally
perceive
<PAGE>
that there are greater risks associated with investment in lower-quality
securities, the yield from such securities normally exceeds those obtainable
from higher-quality securities. In addition, the principal value of long-term
lower-rated securities generally will fluctuate more widely than
higher-quality securities. Lower-quality investments entail a higher risk of
default--that is, the nonpayment of interest and principal by the issuer than
higher-quality investments. The value of the portfolio securities of the Bond
and Balanced Funds will fluctuate based upon market conditions. Although
these funds seek to reduce credit risk by investing in a diversified
portfolio, such diversification does not eliminate all risk. These funds are
also not intended to provide a vehicle for short-term trading purposes.
Special Risks of High-Yield Investing The fund may invest in low-quality
bonds commonly referred to as "junk bonds." Junk bonds are regarded as
predominantly speculative with respect to the issuer's continuing ability to
meet principal and interest payments. Because investment in low- and
lower-medium-quality bonds involves greater investment risk, to the extent
the fund invests in such bonds, achievement of its investment objective will
be more dependent on T. Rowe Price's credit analysis than would be the case
if the fund were investing in higher-quality bonds. High-yield bonds may be
more susceptible to real or perceived adverse economic conditions than
investment-grade bonds. A projection of an economic downturn, or higher
interest rates, for example, could cause a decline in high-yield bond prices
because the advent of such events could lessen the ability of highly
leveraged issuers to make principal and interest payments on their debt
securities. In addition, the secondary trading market for high-yield bonds
may be less liquid than the market for higher-grade bonds, which can
adversely affect the ability of a fund to dispose of its portfolio
securities. Bonds for which there is only a "thin" market can be more
difficult to value inasmuch as objective pricing data may be less available
and judgment may play a greater role in the valuation process.
RISK FACTORS ASSOCIATED WITH A CALIFORNIA PORTFOLIO
The funds' concentration in debt obligations of one state carries a higher
risk than a portfolio that is geographically diversified. In addition to
state general obligations and notes, the funds will invest in local bond
issues, lease obligations and revenue bonds, the credit quality and risk of
which will vary according to each security's own structure and underlying
economics.
Debt The state, its agencies and local governmental entities issued $27.0
billion in long-term debt in 1999. Approximately 25% was general obligation
debt, backed by the taxing power of the issuer, while 75% were revenue bonds
and lease-backed obligations, issued for a wide variety of purposes,
including transportation, housing, education and health care.
As of February 1, 2000, the State of California had approximately $20.4
billion in outstanding general obligation bonds secured by the state's
revenue and taxing power. An additional $11.7 billion in authorized but
unissued state general obligation debt remains to be issued to comply with
voter initiatives and legislative mandates. Debt service on roughly 20% of
the state's outstanding debt is met from revenue producing projects such as
water, harbor, and housing facilities. As part of its cash management
program, the state regularly issues short-term notes to meet its disbursement
requirements in advance of revenue collections. During fiscal 2000, the state
issued $1.0 billion in short-term notes for this purpose. California also
operates a commercial paper program which it uses to finance construction
projects. $1.0 billion of commercial paper was outstanding as of February 1,
2000. The state supports $5.7 billion in lease-purchase obligations
attributable to the State Public Works Board and other issuers. These
obligations are not backed by the full faith and credit of the state but
instead, are subject to annual appropriations from the State's General Fund.
In addition to the state obligations described above, bonds have been issued
by special public authorities in California that are not obligations of the
state. These include bonds issued by the California Housing Finance Agency,
the Department of Water Resources, the Department of Veterans Affairs,
California State University and the California Transportation Commission.
Economy California's economy is the largest among the 50 states and one of
the largest in the world. Its 1999 population of 34 million represents 12% of
the U.S. total. The state's per capita personal income in 1999 exceeded the
U.S. average by 3%. The State of California has benefitted from its focus on
the high technology sector.
<PAGE>
California's economy suffered through a severe recession during the early
1990s as the effects of a slowdown in the national economy were compounded by
federal defense spending cuts and military base closings. Since 1994, the
state has been in a steady recovery, exhibiting significant job growth and
gains in personal income. Growth was expected to moderate in 1999 and 2000,
but is, in fact, continuing at strong levels. The level of economic activity
within the state is important as it influences the growth or contraction of
state and local government revenues available for operations and debt
service.
Recessionary influences and the effects of overbuilding in selected areas
resulted in a contraction in real estate values in many regions of the state
in prior years. All urban areas have shown improvement corresponding to gains
in the general economic level. Future declines in property values could have
a negative effect on the ability of certain local governments to meet their
obligations.
As a state, California is more prone to earthquakes than most other states in
the country, creating potential economic losses from damages. On January 17,
1994, a major earthquake, measuring 6.8 on the Richter scale, hit Southern
California centered in the area of Northridge. Total damage has been
estimated at $20 billion. Significant federal aid has been received.
Legislative Due to the funds' concentration in the State of California and
its municipal issuers, the funds may be affected by certain amendments to the
California constitution and state statutes which limit the taxing and
spending authority of California governmental entities and may affect their
ability to meet their debt service obligations.
In 1978, California voters approved "Proposition 13" adding Article XIIIA, to
the state constitution which limits ad valorem taxes on real property to 1%
of "full cash value" and restricts the ability of taxing entities to increase
real property taxes. In subsequent actions, the state substantially increased
its expenditures to provide assistance to its local governments to offset the
losses in revenues and to maintain essential local services; later the state
phased out most local aid in response to its own fiscal pressures.
Another constitutional amendment, Article XIIIB, was passed by voters in 1979
prohibiting the state from spending revenues beyond its annually adjusted
"appropriations limit." Any revenues exceeding this limit must be returned to
the taxpayers as a revision in the tax rate or fee schedule over the
following two years. Such a refund, in the amount of $1.1 billion, occurred
in fiscal year 1987 and it is possible another refund will occur in the near
term based on the strong growth in personal income tax revenues.
Proposition 218, the "Right to Vote on Taxes Act," was approved by the voters
in 1996. It further restricts the ability of local governments to levy and
collect both existing and future taxes, assessments and fees. In addition to
further limiting the financial flexibility of local governments in the state,
it also increases the possibility of voter determined tax rollbacks and
repeals. The interpretation and application of this proposition will
ultimately be determined by the courts.
An effect of the tax and spending limitations in California has been a broad
scale shift by local governments away from general obligation debt that
requires voter approval and pledging future tax revenues, towards lease
revenue financing that is subject to abatement and does not require voter
approval. Lease-backed debt is generally viewed as a less secure form of
borrowing and therefore entails greater credit risk. Local governments also
raise capital through the use of Mello-Roos, 1915 Act, and Tax Increment
Bonds, all of which are generally riskier than general obligation debt as
they often rely on tax revenues to be generated by future development for
their support.
Proposition 98, enacted in 1988, changed the state's method of funding
education for grades below the university level. Under this constitutional
amendment, the schools are guaranteed a minimum share of state General Fund
revenues. The major effect of Proposition 98 has been to restrict the state's
flexibility to respond to fiscal stress.
Future initiatives, if proposed and adopted, or future court decisions could
create renewed pressure on California governments and their ability to raise
revenues. The state and its underlying localities have displayed flexibility,
however, in overcoming the negative effects of past initiatives.
<PAGE>
Financial The recession of the early 1990s placed California's finances under
pressure. From 1991 through 1995, accumulated deficits were carried over into
the following years and the state's general obligation bonds were downgraded
from AAA to A.
Reflecting the recent trend of economic recovery, the state's financial
condition has improved considerably. Fiscal 1999 closed with a reserve
balance of $3.9 billion. Much of this cushion is the result of explosive
growth in capital gains tax collections and sales tax receipts. The Governor
has proposed a budget for fiscal 2000 which features continued growth in
capital gains tax collections, offset by a cut in the vehicle license fee.
The state's reserve is projected to be $3.0 billion at the end of fiscal 2000
(1.2% of revenues.) Revenues have been coming in above forecast. In October
1998, Moody's upgraded the state's general obligation bonds to Aa3 from A1;
in August 1999, S&P upgraded the state's general obligations to AA- from A+;
in February 2000, Fitch upgraded the state's general obligation bonds to AA
from AA-. The consequences of the state's fiscal actions reach beyond its own
general obligation bond ratings. Many state agencies and local governments
which depend upon state appropriations realized significant cutbacks in
funding during the last recession. Entities which have been forced to make
program reductions or to increase fees or raise special taxes to cover their
debt service and lease obligations may recover somewhat during periods of
economic prosperity.
On December 6, 1994, Orange County filed for protection under Chapter 9 of
the U.S. Bankruptcy Code after reports of significant losses in its
investment pool. Upon restructuring, the realized losses in the pool were
$1.6 billion or 21% of assets. More than 200 public entities, most of which,
but not all, are located in Orange County were also depositors in the pool.
The County defaulted on a number of its debt obligations. The County emerged
from bankruptcy on June 12, 1996. Through a series of long-term financings,
it repaid most of its obligations to pool depositors and has become current
on its public debt obligations. The balance of claims against the County are
payable from any proceeds received from litigation against securities dealers
and other parties. The County's ratings were restored to investment grade in
1998 and were upgraded again in 1999.
Sectors Certain areas of potential investment concentration present unique
risks. In 1999, $2.4 billion of tax- exempt debt issued in California was for
public or nonprofit hospitals. A significant portion of the funds' assets may
be invested in health care issues. For over a decade, the hospital industry
has been under significant pressure to reduce expenses and shorten length of
stay, a phenomenon which has negatively affected the financial health of many
hospitals. All hospitals are dependent on third-party reimbursement sources
such as the federal Medicare and state MediCal programs or private insurers.
To the extent these third-party payers reduce reimbursement levels, the
individual hospitals may be affected. In the face of these pressures, the
trend of hospital mergers and acquisitions has accelerated in recent years.
These organizational changes present both risks and opportunities for the
institutions involved.
The funds may from time to time invest in electric revenue issues. The
financial performance of these utilities may be impacted as the industry
moves toward deregulation and increased competition. California's electric
utility restructuring plan, Assembly Bill 1890, permits direct competition to
be phased in between 1998 and 2002. Municipal utilities, while not subject to
the legislation, are being faced with competitive market forces and must use
the transition period wisely to proactively prepare for deregulation. They
are under pressure to reduce rates and cut costs in order to maintain their
customer bases. In addition, some electric revenue issues have exposure to or
participate in nuclear power plants which could affect the issuer's financial
performance. Risks include unexpected outages or plant shutdowns, increased
Nuclear Regulatory Commission surveillance or inadequate rate relief.
The funds may invest in private activity bond issues for corporate and
nonprofit borrowers. These issues sold through various governmental conduits,
are backed solely by the revenues pledged by the respective borrower
corporations. No governmental support is implied.
RISK FACTORS ASSOCIATED WITH A FLORIDA PORTFOLIO
The fund's program of investing primarily in AAA-rated Florida municipal
bonds should significantly lessen the credit risks which would be associated
with a portfolio of lower quality Florida bonds. Nevertheless, the fund's
concentration in securities issued by the State of Florida and its political
subdivisions involves greater
<PAGE>
risk than a fund broadly invested in bonds across many states and
municipalities. The credit quality of the fund will depend upon the continued
financial strength of the State of Florida and the numerous public bodies,
municipalities and other issuers of debt securities in Florida.
Debt The State of Florida and its local governments issue three basic types
of debt, with varying degrees of credit risk: general obligation bonds backed
by the unlimited taxing power of the issuer, revenue bonds secured by
specific pledged funds or charges for a related project, and tax-exempt lease
obligations, supported by annual appropriations from the issuer, usually with
no implied tax or specific revenue pledge. During 1999, $11.6 billion in
state and local debt was issued in Florida, a 24% decrease from the previous
year. Debt issued in 1999 was for a wide variety of public purposes,
including transportation, housing, education, health care and utilities.
As of June 30,1999, the State of Florida had $9.2 billion outstanding general
obligation bonds secured by the state's full faith and credit and taxing
power. General bonded debt service accounted for a modest 2.4% of all
governmental expenditures in fiscal year 1990. Approximately an additional $4
billion in outstanding bonds have been issued by the state and secured by
limited state tax and revenue sources. General obligation debt of the State
of Florida is rated Aa2 by Moody's, AA+ by S&P, and AA by Fitch as of May 8,
2000. State debt may only be used to fund capital outlay projects; Florida is
not authorized to issue obligations to fund operations.
Several agencies of the state are also authorized to issue debt which does
not represent a pledge of the state's credit. The Florida Housing Finance
Authority and Florida Board of Regents are the largest issuers of this type.
The principal and interest on bonds issued by these bodies are payable solely
from specified sources such as mortgage repayments and university tuition and
fees.
Economy The State of Florida has a population of approximately 15.3 million,
making it the fourth largest state. Due to immigration, the state's
population has grown at a rate exceeding the nation for four decades.
Florida's economy is broadly based with a large concentration in the service
and trade sectors. Tourism is one of Florida's most important industries. In
1999, visitor arrivals once again surpassed all previous years and this trend
is expected to continue. Forecasts show a 5% increase is anticipated for 2000
and total arrivals will grow to 51.2 million.
During most of the 1980s, as Florida's population and employment base grew,
its job growth rate was double that of the nation. However, beginning in
1988, job growth slowed and unemployment rates began trending above national
levels for a number of years. During 1991, Florida's unemployment rate was
8.2% versus 7.4% nationally. Florida's rapid non-farm job growth since 1996
has reversed this trend and the state's February 2000 unemployment rate now
stands at 3.7% versus the rate of 4% one year ago. State per capita income is
98% of the national average and 108% of the level for the Southeast.
Legislative The State of Florida does not have a personal income tax. A
constitutional amendment would be required in order to implement such a tax.
Although the probability appears very low, the fund cannot rule out the
possibility that a personal income tax may be implemented at some time in the
future. If such a tax were to be imposed, there is no assurance that interest
earned on Florida Municipal Obligations would be exempt from this tax.
Under current Florida law, shares of the fund will be exempt from the state's
intangible personal property tax to the extent that on the annual assessment
date (January 1) its assets are solely invested in Florida Municipal
Obligations and U.S. government securities, certain short-term cash
investments, or other exempt securities. In recent years, the Florida
legislature began efforts to gradually reduce the intangibles tax. In the
1998 and 1999 legislative sessions the rate has been reduced to its current
level of $.01 per thousand dollars. It is anticipated that the legislature
will continue to reduce or possibly eliminate the tax in future years.
The Florida Constitution limits the total ad valorem property tax that may be
levied by each county, municipality and school district to ten mills (1.0% of
value). The limit applies only to taxes levied for operating purposes and
excludes taxes levied for the payment of bonds. This restricts the operating
flexibility of local governments in the state and may result from time to
time in budget deficits for some local units.
<PAGE>
Financial The Florida Constitution and Statutes mandate that the state budget
as a whole, and each separate fund within the state budget, be kept in
balance from currently available revenues each state fiscal year (July 1-June
30). The Governor and Comptroller are responsible for insuring that
sufficient revenues are collected to meet appropriations and that no deficit
occurs in any state fund.
The state's revenue structure is narrowly based, relying on the sales and
selective sales tax for 75% of its general revenues. This structure has
brought some volatility to the state's finances, demonstrated most recently
when the state developed budget shortfalls in fiscal years 1991 and 1992.
Additionally, the ongoing moratorium one Commerce and internet sales tax
could affect the states general revenues if such sales are allowed to
continue without taxation. The state's location also leaves it vulnerable to
natural disasters such as hurricanes. While these events can be devastating,
the impact can sometimes be stimulative to the economy. For example, the
state's finances received a substantial boost in fiscal 1993 as a result of
increased economic activity associated with rebuilding efforts after
Hurricane Andrew, which hit south Florida on August 24, 1992. Finally, in
1996 Florida settled a lawsuit with the tobacco industry where the state
sought to recover the costs associated with tobacco usage by Floridians. The
total amount expected to be collected from the tobacco companies through the
settlement is estimated to be $13 billion over 25 years. This money is
earmarked to be used for children's health coverage, to reimburse the state
for smoking related medical expenses and for state enforcement efforts to
reduce sales of tobacco products. To date, settlement collections of $1
billion have been reported by the state.
In November 1994, state voters passed a proposal to limit state revenue
growth to the average annual growth in personal income over the previous five
years. The cap excludes revenue to pay certain expenditures, including debt
service. The limitation should not pose an onerous burden on state finance.
However, the demand for governmental services continues to grow because of
above-average population growth and demographics.
Sectors Certain areas of potential investment concentration present unique
risks. For example, a significant portion of the fund's assets may be
invested in health care issues.
For over a decade, the hospital industry has been under significant pressure
to reduce expenses and shorten length of stay, a phenomenon which has
negatively affected the financial health of many hospitals. All hospitals are
dependent on third-party reimbursement sources such as the federal Medicare
and state Medicaid programs or private insurers. To the extent these payors
reduce reimbursement levels, the individual hospitals may be affected. In the
face of these pressures, the trend of hospital mergers and acquisitions has
accelerated in recent years. These organizational changes present both risks
and opportunities for the institutions involved. Due to the high proportion
of elderly residents, Florida hospitals tend to be highly dependent on
Medicare. In addition to the regulations imposed by Medicare, the state also
regulates health care. A state board must approve the budgets of all Florida
hospitals; certificates of need are required for all significant capital
expenditures. The primary management objective is cost control. The inability
of some hospitals to achieve adequate cost control while operating in a
competitive environment has led to a number of hospital bond defaults.
The fund may from time to time invest in electric revenue issues which have
exposure to or participate in nuclear power plants which could affect the
issuers' financial performance. Such risks include unexpected outages or
plant shutdowns, increased Nuclear Regulatory Commission surveillance or
inadequate rate relief. In addition, the financial performance of electric
utilities may be impacted by increased competition and deregulation in the
electric utility industry.
The fund may invest in private activity bond issues for corporate and
nonprofit borrowers. These issues, sold through various governmental
conduits, are backed solely by the revenues pledged by the respective
borrowing corporations. No government support is implied.
RISK FACTORS ASSOCIATED WITH A GEORGIA PORTFOLIO
The fund's concentration in the debt obligations of one state carries a
higher risk than a portfolio that is geographically diversified. In addition
to State of Georgia general obligations and state agency issues, the fund
<PAGE>
will invest in local bond issues, lease obligations and revenue bonds, the
credit quality and risk of which will vary according to each security's own
structure and underlying economics.
Debt The State of Georgia and its local governments issued $5.6 billion in
municipal bonds in 1999, a 7% decrease from the previous year. As of May 8,
2000, the state was rated Aaa by Moody's and AAA by S&P and Fitch.
The State of Georgia currently has net direct obligations of approximately
$5.2 billion. Since 1973, when a Constitutional Amendment authorizing the
issuance of state general obligation (GO) bonds was implemented, the state
has funded most of its capital needs through the issuance of GO bonds.
Previously, capital requirements were funded through the issuance of bonds by
10 separate authorities and secured by lease rental agreements and annual
state appropriations. Its Constitution permits the state to issue bonds for
two types of public purposes: (1) general obligation debt and (2) guaranteed
revenue debt. The Constitution imposes certain debt limits and controls. GO
debt service cannot exceed 10% of total revenue receipts less refunds of the
state treasury. GO bonds have a maximum maturity of 25 years and 67% of the
state's debt is scheduled to be retired in 10 years or less. Maximum GO debt
service requirements are well below the legal limit at 5.1% of fiscal year
1999 treasury receipts.
Georgia has also taken the step to establish "debt affordability" limits
which state that outstanding debt will not exceed 2.7% of personal income or
that maximum annual debt service will not exceed 5% of prior years revenues.
State debt issuance in the next few years will be limited so that the state
will decrease to these levels.
In addition to the general obligation and lease-backed debt described above,
$318 million bonds have been issued and are outstanding by the Georgia World
Congress Authority and $754 million bonds have been issued and are
outstanding by the Georgia Housing and Finance Authority, none of which
represent direct obligations of the state.
Economy The State of Georgia has a population of approximately 7.6 million,
making it the 10th largest state. Since the 1960s, the state's population has
grown at a rate exceeding the national average, with the growth rate during
the 1980s nearly twice that of the entire country. Stable to strong economic
growth during the 1980s was led by the Atlanta metropolitan statistical area,
where approximately 45% of the state's population is located. This area
includes the capital city of Atlanta, and 18 surrounding counties. The next
largest metropolitan area is the Columbus-Muscogee area followed by the Macon
area.
The state's economy is well diversified. The current labor force of 4 million
is largely concentrated in service and wholesale/retail trade jobs, followed
by lesser amounts in manufacturing and government. Employment gains have
substantially exceeded the region and the U.S. since 1980. Georgia's one year
employment growth (February 1999 to February 2000) stood at 4.6% compared to
the national rate of 2.4%. The state's economy continues to outperform the
nation. Georgia's per capita income has steadily improved against the
national average since the 1960s and currently is 94% of the U.S. and 105% of
the Southeast region.
Financial To a large degree, the creditworthiness of the portfolio is
dependent on the financial strength of the State of Georgia and its
localities. During the 1980s, the state's strong economic performance
translated into solid financial performance and the accumulation of
substantial reserves.
During fiscal 1989 to 1991, the state's financial condition was affected by
three years of revenue shortfalls brought on by recession. During these
periods, the Governor called special legislative sessions to enact sizable
spending cuts to achieve budget balance. Economic conditions improved in
1992, allowing the state to restore its financial cushion. Results for fiscal
1998 showed a continuation of this positive trend with a surplus of $685
million and an ending general fund balance of $1.2 billion, or 9% of
revenues.
A significant portion of the portfolio's assets is expected to be invested in
the debt obligations of local governments and public authorities with
investment-grade ratings of BBB or higher. While local governments in Georgia
are primarily reliant on independent revenue sources, such as property taxes,
they are not immune to budget shortfalls caused by cutbacks in state aid. The
fund may purchase obligations issued by public authorities in Georgia which
are not backed by the full faith and credit of the state and may or may not
be subject to annual appropriations from the State's General Fund. Likewise,
certain enterprises such as water and sewer systems or hospitals may be
affected by changes in economic activity.
<PAGE>
Sectors Certain areas of potential investment concentration present unique
risks. A significant portion of the fund's assets may be invested in health
care issues. For over a decade, the hospital industry has been under
significant pressure to reduce expenses and shorten length of stay, a
phenomenon which has negatively affected the financial health of many
hospitals. All hospitals are dependent on third-party reimbursement sources
such as the federal Medicare and state Medicaid programs or private insurers.
To the extent these payors reduce reimbursement levels, the individual
hospitals may be affected. In the face of these pressures, the trend of
hospital mergers and acquisitions has accelerated in recent years. These
organizational changes present both risks and opportunities for the
institutions involved.
The fund may from time to time invest in electric revenue issues which have
exposure to or participate in nuclear power plants which could affect the
issuers' financial performance. Such risks include unexpected outages or
plant shutdowns, increased Nuclear Regulatory Commission surveillance or
inadequate rate relief. In addition, the financial performance of electric
utilities may be impacted by increased competition and deregulation of the
electric utility industry.
The fund may invest in private activity bond issues for corporate and
nonprofit borrowers. These issues sold through various governmental conduits,
are backed solely by the revenues pledged by the respective borrowing
corporations. No governmental support is implied.
RISK FACTORS ASSOCIATED WITH A MARYLAND PORTFOLIO
The fund's concentration in the debt obligations of one state carries a
higher risk than a portfolio that is more geographically diversified. In
addition to State of Maryland general obligations and state agency issues,
the fund will invest in local bond issues, lease obligations and revenue
bonds, the credit quality and risk of which will vary according to each
security's own structure and underlying economics.
Debt The State of Maryland and its local governments issue two basic types of
debt, with varying degrees of credit risk: general obligation bonds backed by
the unlimited taxing power of the issuer and revenue bonds secured by
specific pledged fees or charges for a related project. Included within the
revenue bond sector are tax-exempt lease obligations that are subject to
annual appropriations of a governmental body, usually with no implied tax or
specific revenue pledge.
The State of Maryland disclosed in its fiscal year 1999 Comprehensive Annual
Financial Report (CAFR) dated June 30, 1999 that it has approximately $3.5
billion in general obligation bonds outstanding and an additional $1.4
billion in other tax-supported debt. General obligation debt of the State of
Maryland is rated Triple-A by Moody's, S&P, and Fitch. There is no general
debt limit imposed by the State Constitution or public general laws. The
State Constitution imposes a 15-year maturity limit on state general
obligation bonds. Although voters approved a constitutional amendment in 1982
permitting the state to borrow up to $100 million in short-term notes in
anticipation of taxes and revenues, the state has not made use of this
authority.
Many agencies of the state government are authorized to borrow money under
legislation which expressly provides that the loan obligations shall not be
deemed to constitute debt or a pledge of the faith and credit of the state.
The Community Development Administration of the Department of Housing and
Community Development, the Maryland Water Quality Financing Administration of
the Department of Environment, the Maryland State Lottery Agency, certain
State higher education institutions, the Maryland Stadium Authority, the
Maryland Food Center Authority, and the Maryland Environmental Service have
issued and have outstanding bonds of this type. The principal of and interest
on bonds issued by these bodies are payable solely from pledged revenues,
principally fees generated from use of the facilities, enterprises financed
by the bonds, or other dedicated fees.
Economy According to the 1999 CAFR, Maryland experienced solid growth in
calendar year 1998. The strongest areas of employment growth were services,
construction, and government. Total non-agricultural employment in the State
increased 2.5%. The State reports that non-agricultural employment is
expected to grow 2.1% in 1999, slowing to 1.6% in 2000. Personal income is
estimated to grow by 5.7% in 1999, decelerating slightly to 5.6% in 2000.
Projections of slower growth in employment and personal income reflect the
expectation that the nation will experience an economic slowdown in 2000.
<PAGE>
Financial To a large degree, the risk of the portfolio is dependent upon the
financial strength of the State of Maryland and its localities. The State
continues to demonstrate a conservative approach to managing its finances.
Fiscal year 1999 concluded with a general fund operating surplus of $1.1
billion. The general fund balance rose to a healthy $2.0 billion or 16% of
general revenues. The State continues to show strong performance in fiscal
year 2000. In December 1999, the State's Board of Revenue Estimates reported
that revenues for fiscal year 2000 have been revised upward to $9.1 billion,
an increase of $575 million.
Sectors Investment concentration in a particular sector can present unique
risks.
A significant portion of the funds' assets may be invested in health care
issues. For over a decade, the hospital industry has been under significant
pressure to reduce expenses and shorten length of stay, a phenomenon which
has negatively affected the financial health of some hospitals. All hospitals
are dependent on third-party reimbursement mechanisms. At the present time,
Maryland hospitals operate under a system in which reimbursement is
determined by a state-administered set of rates and charges that applies to
all payors. A federal waiver also allows this system to be applied to
Medicare reimbursement rather than the Federal Diagnosis-Related Group (DRG)
system required elsewhere. In order to maintain this Medicare waiver, the
cumulative rate of increase in Maryland hospital charges since the base year
1980 must remain below that of U.S. hospitals overall. From 1983 through
1992, the rate of increase for Maryland hospitals was below the national
average; for the seven years from 1993 through 1999, Maryland hospital costs
have grown faster than the national rate, although the cumulative rate of
increase since the base year is still below the national average. Any loss of
the Medicare waiver in the future may have an adverse impact upon the credit
quality of Maryland hospitals.
The fund may from time to time invest in electric revenue issues which have
exposure to or participate in nuclear power plants which could affect the
issuer's financial performance. Such risks include delay in construction and
operation due to increased regulation, unexpected outages or plant shutdowns,
increased Nuclear Regulatory Commission surveillance or inadequate rate
relief. In addition, the financial performance of electric utilities may be
impacted by increased competition and deregulation of the industry.
The fund may invest in private activity bond issues for corporate and
nonprofit borrowers. These issues sold through various governmental conduits
are backed solely by the revenues pledged by the respective borrowing
corporations. No governmental support is implied.
RISK FACTORS ASSOCIATED WITH A NEW JERSEY PORTFOLIO
The fund's concentration in the debt obligations of one state carries a
higher risk than a portfolio that is more geographically diversified. In
addition to State of New Jersey general obligations and state agency issues,
the fund will invest in local bond issues, lease obligations and revenue
bonds, the credit quality and risk of which will vary according to each
security's own structure and underlying economics.
Debt The State of New Jersey and its local governments issue two basic types
of debt, with varying degrees of credit risk: general obligation bonds backed
by the unlimited taxing power of the issuer and revenue bonds secured by
specific pledged fees or charges for a related project. Included within the
revenue bond sector are tax-exempt lease obligations that are subject to
annual appropriations of a governmental body, usually with no implied tax or
specific revenue pledge.
The State of New Jersey disclosed in its fiscal year 1999 Comprehensive
Annual Financial Report (CAFR) dated June 30, 1999 that it has approximately
$3.6 billion in general obligation bonds outstanding. In addition, the State
has guaranteed the principal and interest payments on certain bonds issued by
the New Jersey Sports and Exposition Authority and the State has also
contracted with the Authority to provide annual appropriations for payment of
debt service on certain other bonds. As of June 30, 1999, the amounts
outstanding were $111 million and $571 million respectively. The State may
also be required to provide appropriations to meet a deficiency in debt
service payments for the South Jersey Port Corporation and the New Jersey
Housing and Mortgage Finance Agency. General obligation debt of the state is
rated Aa1 by Moody's and AA+ by S&P and Fitch.
<PAGE>
Many agencies of the state government are authorized to borrow money under
legislation which expressly provides that the loan obligations shall not be
deemed to constitute debt or a pledge of the faith and credit of the state.
The New Jersey Building Authority, New Jersey Transportation Trust Fund
Authority, New Jersey Economic Development Authority, New Jersey Educational
Facilities Authority, New Jersey Health Care Facilities Financing Authority,
New Jersey Highway Authority, New Jersey Housing and Mortgage Finance Agency,
New Jersey Sports and Exposition Authority, New Jersey Transit Corporation,
and New Jersey Turnpike Authority have outstanding bonds of this type.
Economy According to the 1999 CAFR, New Jersey's large and diverse economy
had the best two-year period of economic growth from 1997-1998 since
1987-1988. In 1998, personal income grew 5.6% and employment experienced a
second year of 2% growth. Growth is expected to moderate in 1999-2000 as
growth in the nation's economy slows. Employment is projected to grow 1.7% in
1999 and 1.4% in 2000. Personal income growth is expected to remain
approximately 5%. Unemployment dropped to a 4.5% average for 1999, which was
the lowest annual rate in ten years.
Financial To a large degree, the risk of the portfolio is dependent on the
financial strength of the State of New Jersey and its localities. The State
had a stable 1999 fiscal year with a net increase in fund balance of $343
million for a healthy year-end amount of $2.2 billion or about 13% of general
revenues. The New Jersey State Treasurer disclosed on April 12, 2000 that
revenues for the first nine months of the current fiscal year totaled $13.4
billion, about one percent or $118 million below the budget forecast.
Treasurer Machold stated that he was pleased that the budget was within one
percent of the target for the year. Expenditures have also traditionally been
below projected budgeted levels in the State of New Jersey.
Sectors Investment concentration in a particular sector can present unique
risks.
A significant portion of the fund's assets may be invested in health care
issues. For over a decade, the hospital industry has been under significant
pressure to reduce expenses and shorten length of stay, a phenomenon which
has negatively affected the financial health of many hospitals. While each
hospital bond issue is separately secured by the individual hospital's
revenues, third-party reimbursement sources such as the federal Medicare or
Medicaid programs and private insurers are common to all hospitals. To the
extent these payors reduce reimbursement levels, the individual hospitals may
be affected. In the face of these pressures, the trend of hospital mergers
and acquisitions has accelerated in recent years. These organizational
changes present both risks and opportunities for the institutions involved.
The fund may from time to time invest in electric revenue issues which have
exposure to or participate in nuclear power plants which could affect the
issuer's financial performance. Such risks include delay in construction and
operation due to increased regulation, unexpected outages or plant shutdowns,
increased Nuclear Regulatory Commission surveillance or inadequate rate
relief. In addition, financial performance of electric utilities may be
impacted by increased competition and deregulation in the industry.
The fund may invest in private activity bond issues for corporate and
nonprofit borrowers. These issues sold through government conduits, such as
the New Jersey Economic Development Authority and various local issuers, are
backed solely by the revenues pledged by the respective borrowing
corporations. No governmental support is implied. In the past, a number of
New Jersey Economic Development Authority issues have defaulted as a result
of borrower financial difficulties.
The fund may be exposed to solid waste projects. A number of counties and
utility authorities in the state have issued several billion dollars of bonds
to fund incinerator projects and solid waste projects. A federal decision
striking down New Jersey's system of solid waste flow control increases the
potential risk of default absent a legislative solution, or some form of
subsidy by local or state governments.
RISK FACTORS ASSOCIATED WITH A NEW YORK PORTFOLIO
The funds' concentration in the debt obligations of one state carries a
higher risk than a portfolio that is geographically diversified. In addition
to state general obligation bonds and notes and the debt of various state
agencies, the fund will invest in local bond issues, lease obligations and
revenue bonds, the credit quality and risk of which will vary according to
each security's own structure and underlying economics.
<PAGE>
The funds' ability to maintain a high level of "triple-exempt" income is
primarily dependent upon the ability of New York issuers to continue to meet
debt service obligations in a timely fashion. In 1975 the state, New York
City, and other related issuers experienced serious financial difficulties
that ultimately resulted in much lower credit ratings and loss of access to
the public debt markets. A series of fiscal reforms and an improved economic
climate allowed these entities to return to financial stability by the early
1980s. Credit ratings were reinstated or raised and access to the public
credit markets was restored. During the early 1990s, the State and City
confronted renewed fiscal pressure, as the region suffered moderate economic
decline. Conditions began to improve in 1993, though below-average economic
performance and tight budgetary conditions persisted. Both entities
experienced financial relief in fiscal 1997 because of the strong national
economy, a robust financial services sector, and vigilant spending control.
The State and City continue to face out-year budget gaps due to spending
growth which is anticipated to outpace revenue growth.
New York State
The state, its agencies, and local governments issued $20.1 billion in
long-term municipal bonds in 1999, a 44% decrease from the previous year. As
of March 31, 2000, total state-related bonded debt was projected to be $35.4
billion, of which $4.8 billion was general obligation debt and $30.6 billion
was financed under lease-purchase or other contractual obligations. In
addition, the state had $293 million in bond anticipation notes outstanding.
Since 1993, the state has not issued Tax and Revenue Anticipation Notes
(TRANs) terminating the practice of annual seasonal borrowing which had
occurred since 1952. As of May 8, 2000, the state's general obligation bonds
were rated A2 by Moody's, A+ by S&P and A+ by Fitch. All general obligation
bonds must be approved by the voters prior to issuance. The state no longer
seeks rating from Moody's however.
The fiscal stability of the state is also important for numerous authorities
which have responsibilities for financing, constructing, and operating
revenue-producing public benefit facilities. As of May 8, 2000, there were 17
authorities that had aggregate debt outstanding, including refunding bonds
and combined with state debt, of $95 billion. This makes New York State by
far the largest debt issuer in the country.
The authorities most reliant upon annual direct state support include the
Metropolitan Transit Authority (MTA), the Urban Development Authority (UDC) -
now the Empire State Development Corporation (ESDC), and the New York Housing
Finance Agency (HFA). In February 1975, the UDC defaulted on approximately
$1.0 billion of short-term notes. The default was ultimately cured by the
creation of the Project Finance Authority (PFA), through which the state
provided assistance to the UDC, including support for debt service. Since
then, there have been no additional defaults by state authorities although
substantial annual assistance is required by the MTA and the HFA in
particular.
Subsequent to the fiscal crisis of the mid-70s, New York State maintained
balanced operations on a cash basis, although by 1992 it had built up an
accumulated general fund deficit of over $6 billion on a Generally Accepted
Accounting Principles (GAAP) basis. This deficit consisted mainly of overdue
tax refunds and payments due localities.
To resolve its accumulated general fund deficit the state established the
Local Government Assistance Corporation (LGAC) in 1990. A total of $5.2
billion in LGAC bonds have been issued. The proceeds of these bonds were used
to provide the state's assistance to localities and school districts,
enabling the state to reduce its accumulated general fund deficit. State
short-term borrowing requirements, which peaked at a record $5.9 billion in
fiscal 1991, have been reduced to zero. Due to a strong Wall Street
performance and a booming economy, New York ended fiscal 1999 with an
accumulated surplus of $1.66 billion. The adopted budget for fiscal 2000
included tax cuts and a debt reform. Spending is projected to increase by
5.6%, a rate that is above projected inflation. Because of strong growth in
personal income and business taxes, fiscal year 1999 ended with an operating
surplus of $1.08 billion, which helped smooth budget balancing efforts for
fiscal year 2000. Fiscal year 2000 is estimated to have ended with another
large operating surplus.
New York State has a large, diversified economy which has witnessed a basic
shift away from manufacturing toward service sector employment. In 1999, per
capita income in New York State was $30,752, 20% above the national average.
Like most northeastern states, New York suffered a population loss during the
1970s. However, during the 1980's that trend reversed and population
increased slightly, standing at 18,175,301 in 1999. During 1990-1992, the
state experienced a slowing of economic growth evidenced by the loss of
<PAGE>
425,000 jobs. Conditions have improved with non-farm employment growing by
3.1% as of February 2000 compared to 2.4% the prior year. Concerns over the
state's economy continue to focus on the slow growth of the upstate region in
comparison to the New York City region.
New York City
The financial problems of New York City were acute between 1975 and 1979,
highlighted by a payment moratorium on the City's short-term obligations. In
the subsequent decade, the City made a significant recovery. The most
important contribution to the City's fiscal recovery was the creation of the
Municipal Assistance Corporation for the City of New York (MAC). Backed by
sales, use, stock transfer, and other taxes, MAC issued bonds and used the
proceeds to purchase City bonds and notes. Although the MAC bonds met with
reluctance by investors at first, the program has proven to be very
successful.
Much progress has been made since the fiscal crisis of 1975. By 1981, the
City achieved a budget balanced in accordance with GAAP and has continued to
generate small surpluses on an operating basis. By 1983, the City eliminated
its accumulated General Fund deficit and as of the fiscal year ending June
30, 1999, had a total General Fund balance of $388 million. Although the City
continues to finance its seasonal cash flow needs through public borrowings,
the total amount of these borrowings has not exceeded 10% of any year's
revenues and all have been repaid by the end of the fiscal year.
As of May 1, 1999 the City's general obligation bonds are rated A3 by
Moody's, A- by S&P and A by Fitch.
While New York City sustained a decade long record of relative financial
stability, during the 1990's budgetary pressures have been evident. Its major
revenue sources, income and sales taxes, were slowed and a downturn in the
real estate market reduced property tax revenues. Nonetheless, the City
concluded the 1999 fiscal year with an operating surplus of $1.66 billion.
The City's finances have been bolstered by strong tax receipts growth, fueled
by strong financial markets over the last several years. Revenues and
expenditures for the 1999 fiscal year were balanced in accordance with GAAP
for the nineteenth consecutive year. New York City remains exposed to future
budget pressure should there be a sharp downturn in the financial services
sector, though it has established a budget stabilization account for
contingency.
Long Island and LILCO
The Long Island Lighting Company (LILCO) was the single largest property
taxpayer in both Nassau and Suffolk Counties. LILCO experienced substantial
financial difficulty primarily arising from problems related to its completed
but unlicensed 809 megawatt Shoreham Nuclear Power Facility located in
Suffolk County. In 1986, the State Legislature created the Long Island Power
Authority (LIPA) and ownership of the Shoreham Plant was subsequently
transferred to LIPA for one dollar in exchange for certain rate benefits to
LILCO.
As requested by the Governor, LIPA proposed a plan to restructure LILCO,
reduce rates on Long Island and provide a framework for long-term competition
in power production. With the issuance of $7 billion in debt, LIPA purchased
LILCO common stock, acquired or redeemed certain preferred stock and
outstanding debt, and funded the cost of certain rebates and credits to
LIPA's customers. With these purchases, LIPA acquired LILCO's electric
transmission and distribution system, its 18% ownership interest in the Nine
Mile Point 2 nuclear plant and the regulatory asset of Shoreham. In May 1998,
LIPA sold its first two series of bonds amounting to $4.9 billion. This
allowed for the acquisition of LILCO by LIPA and a merger of the remaining
portions of the former LILCO business with Keyspan Energy to form Marketspan
Corp. LIPA will now be the provider of retail electric service throughout
most of Long Island. In 2000, LIPA and Suffolk County finally reached a
settlement of County's tax liability for the Shoreham plant.
Sectors Certain areas of potential investment concentration present unique
risks. A significant portion of the fund's assets may be invested in health
care issues. For over a decade, the hospital industry has been under
significant pressure to reduce expenses and shorten length of stay, a
phenomenon which has negatively affected the financial health of many
hospitals. While each hospital bond issue is separately secured by the
individual hospital's revenues, third-party reimbursement sources such as the
federal Medicare and state Medicaid programs or private insurers are common
to all hospitals. To the extent these third-party payors reduce reimbursement
levels, the individual hospitals may be affected. The state's support for
Medicaid and health services has slowed over the last several years. In 1997
health care reform was implemented. Under the
<PAGE>
new system, hospitals are permitted to negotiate inpatient payment rates with
private payors. In addition, the federal balanced budget act of 1997 contains
provisions to reduce Medicare expenditures. In the face of these pressures,
the trend of hospital mergers and acquisitions has accelerated in recent
years. These organizational changes present both risks and opportunities for
the institutions.
The funds may from time to time invest in electric revenue issues which have
exposure to or participate in nuclear power plants which could affect the
issuers' financial performance. Such risks include unexpected outages or plan
shutdowns, increased Nuclear Regulatory Commission surveillance or inadequate
rate relief. In addition, the financial performance of electric utilities may
be impacted by increased competition and deregulation in the industry.
The funds may invest in private activity bond issues for corporate and
nonprofit borrowers. These issues sold through various governmental conduits,
are backed solely by the revenues pledged by the respective borrowing
corporations. No governmental support is implied.
RISK FACTORS ASSOCIATED WITH A VIRGINIA PORTFOLIO
The funds' concentration in the debt obligations of one state carries a
higher risk than a portfolio that is geographically diversified. In addition
to Commonwealth of Virginia general obligations and agency issues, the fund
will invest in local bond issues, lease obligations and revenue bonds, the
credit quality and risk of which will vary according to each security's own
structure and underlying economics.
Debt The Commonwealth of Virginia and its local governments issued $4.3
billion of municipal bonds in 1999, including general obligation debt backed
by the unlimited taxing power of the issuer and revenue bonds secured by
specific pledged fees or charges for an enterprise or project. Included
within the revenue bond category are tax-exempt lease obligations that are
subject to annual appropriations of a governmental body to meet debt service,
usually with no implied tax or specific revenue pledge. Debt issued in 1999
was for a wide variety of public purposes, including transportation, housing,
education, health care, and industrial development.
As of June 30, 1999, the Commonwealth of Virginia had $1.1 billion
outstanding general obligation bonds secured by the Commonwealth's revenue
and taxing power, a modest amount compared to many other states. Under state
law, general obligation debt is limited to 1.15 times the average of the
preceding three years' income tax and sales and use tax collections. The
Commonwealth's outstanding general obligation debt is well below that limit
and over 90% of the debt service is actually met from revenue producing
capital projects such as universities and toll roads.
The Commonwealth also supports $2.0 billion in debt issued by the Virginia
Public Building Authority, the Commonwealth Transportation Board, the
Virginia College Building Authority, the Virginia Biotechnology Research Park
Authority, the Virginia Port Authority, and the Innovative Technology
Authority for transportation purposes. These bonds are not backed by the full
faith and credit of the Commonwealth but instead, are subject to annual
appropriations from the Commonwealth's General Fund.
In addition to the Commonwealth and public authorities described above, an
additional $8.2 billion in bonds has been issued by special public
authorities in Virginia that are not obligations of the Commonwealth. These
bonds include debt issued by the Virginia Public School Authority, the
Virginia Resources Authority, and the Virginia Housing Development Authority.
Economy The Commonwealth of Virginia has a population of approximately 6.8
million, making it the twelfth largest state. Since the 1930s the
Commonwealth's population has grown at a rate near or exceeding the national
average. Stable to strong economic growth during the 1980s was led by the
northern Virginia area outside of Washington, D.C. where approximately 30% of
the Commonwealth's population is concentrated. The next largest metropolitan
area is the Norfolk-Virginia Beach-Newport News area, followed by the
Richmond-Petersburg area, including the Commonwealth's capital of Richmond.
The Commonwealth's economy is broadly based, with a large concentration in
service and governmental jobs, followed by manufacturing. Virginia has
significant concentrations of high technology employers, with nearly 150,000
<PAGE>
people employed in 3,900 establishments. Per capita income exceeds national
averages while unemployment figures have consistently tracked below national
averages.
Financial To a large degree, the risk of the portfolio is dependent on the
financial strength of the Commonwealth of Virginia and its localities.
Virginia is rated AAA by Moody's, S&P and Fitch. The Commonwealth's budget is
prepared on a biennial basis. From 1970 through 1998 the General Fund showed
a positive balance for all of its two-year budgetary periods. The national
recession and its negative effects on Virginia's personal income tax
collections did, however, force the Commonwealth to draw down its General
Fund balances to a deficit position in 1992. Spending cuts and improved
economic conditions allowed for positive operations from 1993 on. The
Commonwealth posted a budgetary surplus for fiscal years 1995 to 1999 despite
federal retiree settlements and other transfers. On June 30, 1999, the
unreserved general fund balance, including a revenue stabilization account,
totaled $983 million.
A significant portion of the funds' assets is expected to be invested in the
debt obligations of local governments and public authorities with
investment-grade ratings of BBB or higher. While local governments in
Virginia are primarily reliant on independent revenue sources, such as
property taxes, they are not immune to budget shortfalls caused by cutbacks
in state aid. Likewise, certain enterprises such as toll roads or hospitals
may be affected by changes in economic activity.
Sectors Certain areas of potential investment concentration present unique
risks. A significant portion of the fund's assets may be invested in health
care issues. For over a decade, the hospital industry has been under
significant pressure to reduce expenses and shorten length of stay, a
phenomenon which has negatively affected the financial health of many
hospitals. While each hospital bond issue is separately secured by the
individual hospital's revenues, third-party reimbursement sources such as the
federal Medicare and state Medicaid programs or private insurers are common
to all hospitals. To the extent these payors reduce reimbursement levels, the
individual hospitals may be affected. In the face of these pressures, the
trend of hospital mergers and acquisitions has accelerated in recent years.
These organizational changes present both risks and opportunities for the
institutions involved.
The funds may from time to time invest in electric revenue issues which have
exposure to or participate in nuclear power plants which could affect the
issuers' financial performance. Such risks include unexpected outages or
plant shutdowns, increased Nuclear Regulatory Commission surveillance or
inadequate rate relief.
The funds may invest in private activity bond issues for corporate and
nonprofit borrowers. These issues sold through various governmental conduits
are backed solely by the revenues pledged by the respective borrowing
corporations. No governmental support is implied.
All Funds
Puerto Rico From time to time the funds invest in obligations of the
Commonwealth of the Puerto Rico and its public corporations which are exempt
form general state and city or local income taxes. The majority of the
Commonwealth's debt is issued by the major public agencies that are
responsible for many of the island's public functions, such as water,
wastewater, highways, telecommunications, education and public construction.
In 1999, issuance in the Commonwealth totaled $1.6 billion, a decrease of 67%
from the previous year total of $5 billion. As of June 30, 1999, public
sector debt issued by the Commonwealth and its public corporations totaled
approximately $24 billion.
Since the 1980's Puerto Rico's economy and financial operations have
paralleled the economic cycles of the United States. The island's economy,
particularly the manufacturing sector has experienced substantial gains in
employment. Much of these economic gains are attributable in part to
favorable treatment under Section 936 of the Federal Internal Revenue Code
for United States corporations doing business in Puerto Rico. The number of
persons employed in Puerto Rico during fiscal year 1999 reached 1.1 million
people. The number of unemployed citizens, however, remains high at 11.2
percent but has been decreasing consistently over the past several years.
Debt ratios for the Commonwealth remain high as it assumes much of the
responsibility for the local infrastructure. Sizable infrastructure programs
are ongoing to upgrade the island's water, sewer and
<PAGE>
transportation systems. The Commonwealth's general obligation debt is secured
by a first lien on revenues. The Commonwealth has maintained a fiscal policy
which seeks to correlate the growth in spending with the growth of the
economic base available to service that debt. Between fiscal years 1996 and
1999, however the debt increased 27% while gross product rose 15%. Short-term
debt remained a modest 7.8% of total debt outstanding as of June 30, 1999.
The maximum annual debt service requirement on Commonwealth general
obligation debt totals 8.9% of governmental revenues for fiscal year 1998.
This is well below the 15% limit imposed by the Commonwealth of Puerto Rico
but if other public corporation debt is included, the number rises
significantly. This level of debt continues to be of concern.
The fiscal year 1994 budget was balanced with an increase in the tollgate tax
on Section 936 companies and improved revenue collections, which enabled the
Commonwealth to record a strong turnaround in the General Fund balance to
$309 million (6.8% of general fund expenses). A General Fund balance of $185
million was recorded for the end of fiscal year 1999. At 1.9% of general fund
revenues, this reserve level is low compared to other states.
The Commonwealth's economy remains vulnerable to changes in oil prices,
American trade, foreign policy, levels of foreign assistance, and natural
disasters. On September 21, 1998, Puerto Rico was directly hit by Hurricane
Georges, which caused extensive public and private damage. Despite the
overall destructiveness of the storm, the net impact may have been positive,
as aid from the Federal Emergency Management Agency and insurers is estimated
to exceed $3 billion.
Per capita income levels, while being the highest in the Caribbean, lag far
behind the United States. In 1997 legislation was introduced proposing a
mechanism to permanently settle the political relationship with the United
States. In March 1998, the U.S. House of Representatives voted in favor of a
political status act that includes a referendum and a 10-year transition
plan. A referendum held in December of 1998 resulted in an ambiguous outcome
to the status question. Of the voting options available, a majority of voters
opted for the choice labeled "None of the Above." While there are various
interpretations to this result, it remains clear that no definite resolution
to the status issue is anticipated in the near future.
For many years U.S. companies operating in Puerto Rico were eligible to
receive a special tax credit available under Section 936 of the federal tax
code, which helped spur significant expansion in capital intensive
manufacturing activity. Federal tax legislation was passed in 1993 which
revised the tax benefits received by U.S. corporations (Section 936 firms)
that operate manufacturing facilities in Puerto Rico. The legislation
provides these firms with two options: a 5-year phased reduction of the
income based tax credit to 40% of the previously allowable credit or the
conversion to a wage based standard, allowing a tax credit for the first 60%
of qualified compensation paid to employees as defined in the IRS Code.
Studies indicate that there have been no reductions in the economic growth
rate or employment in industries which were expected to be impacted by the
1993 amendments. In 1996, amendments were signed into law to phase out the
tax credit over a 10-year period for existing claimants and to eliminate it
for corporations without established operations after October 1995. At
present, it is difficult to forecast what the short- and long-term effects of
a phaseout of the Section 936 credit would have on the Puerto Rican economy.
A final risk factor with Commonwealth is the large amount of unfunded pension
liabilities. The two main public pension systems are largely unfunded. The
employees retirement system has an unfunded liability of $6 billion and the
teachers retirement system has an unfunded liability of $1 billion. The
government is working to resolve the liability as evidenced by the use of a
portion of the proceeds of a sale of the Puerto Rican Telephone Company to
cover a portion of the fund's deficiency.
RISK FACTORS ASSOCIATED WITH TAX-EFFICIENT GROWTH FUND AND
THE EQUITY PORTION OF TAX-EFFICIENT BALANCED FUND
Foreign Securities
The fund may invest in U.S. dollar-denominated and non-U.S.
dollar-denominated securities of foreign issuers.
<PAGE>
Investments may be made in foreign securities. These include
nondollar-denominated securities traded outside of the U.S. and
dollar-denominated securities of foreign issuers traded in the U.S. (such as
ADRs). Such investments increase a portfolio's diversification and may
enhance return, but they also involve some special risks, such as exposure to
potentially adverse local, political, and economic developments;
nationalization and exchange controls; potentially lower liquidity and higher
volatility; possible problems arising from accounting, disclosure,
settlement, and regulatory practices that differ from U.S. standards; and the
chance that fluctuations in foreign exchange rates will decrease the
investment's value (favorable changes can increase its value). These risks
are heightened for investments in developing countries, and there is no limit
on the amount of fund foreign investments that may be made in such countries.
INVESTMENT PROGRAM
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Types of Securities
Set forth below is additional information about certain of the investments
described in each fund's prospectus.
Municipal Securities
Subject to the investment objectives and programs described in the prospectus
and the additional investment restrictions described in this Statement of
Additional Information, each fund's portfolio may consist of any combination
of the various types of municipal securities described below or other types
of municipal securities that may be developed. The amount of each fund's
assets invested in any particular type of municipal security can be expected
to vary.
The term "municipal securities" means obligations issued by or on behalf of
states, territories, and possessions of the United States and the District of
Columbia and their political subdivisions, agencies and instrumentalities, as
well as certain other persons and entities, the interest from which is exempt
from federal, state, and/or city or local, if applicable, income tax. In
determining the tax-exempt status of a municipal security, the fund relies on
the opinion of the issuer's bond counsel at the time of the issuance of the
security. However, it is possible this opinion could be overturned, and as a
result, the interest received by the fund from such a security might not be
exempt from federal income tax.
Municipal securities are classified by maturity as notes, bonds, or
adjustable rate securities.
Municipal Notes
Municipal notes generally are used to provide short-term operating or capital
needs and generally have maturities of one year or less. Municipal notes
include:
. Tax Anticipation Notes Tax anticipation notes are issued to finance working
capital needs of municipalities. Generally, they are issued in anticipation
of various seasonal tax revenue, such as income, property, use and business
taxes, and are payable from these specific future taxes.
. Revenue Anticipation Notes Revenue anticipation notes are issued in
expectation of receipt of revenues, such as sales taxes, toll revenues or
water and sewer charges, that are used to pay off the notes.
. Bond Anticipation Notes Bond anticipation notes are issued to provide
interim financing until long-term financing can be arranged. In most cases,
the long-term bonds then provide the money for the repayment of the notes.
. Tax-Exempt Commercial Paper Tax-exempt commercial paper is a short-term
obligation with a stated maturity of 270 days or less. It is issued by state
and local governments or their agencies to finance seasonal working capital
needs or as short-term financing in anticipation of longer-term financing.
. Municipal Bonds Municipal bonds, which meet longer-term capital needs and
generally have maturities of more than one year when issued, have two
principal classifications: general obligation bonds and revenue bonds. Two
additional categories of potential purchases are lease revenue bonds and
pre-refunded/escrowed to maturity bonds. Another type of municipal bond is
referred to as an Industrial Development Bond.
<PAGE>
. General Obligation Bonds Issuers of general obligation bonds include states,
counties, cities, towns, and special districts. The proceeds of these
obligations are used to fund a wide range of public projects, including
construction or improvement of schools, public buildings, highways and roads,
and general projects not supported by user fees or specifically identified
revenues. The basic security behind general obligation bonds is the issuer's
pledge of its full faith and credit and taxing power for the payment of
principal and interest. The taxes that can be levied for the payment of debt
service may be limited or unlimited as to the rate or amount of special
assessments. In many cases voter approval is required before an issuer may
sell this type of bond.
. Revenue Bonds The principal security for a revenue bond is generally the net
revenues derived from a particular facility, or enterprise, or in some cases,
the proceeds of a special charge or other pledged revenue source. Revenue
bonds are issued to finance a wide variety of capital projects including:
electric, gas, water and sewer systems; highways, bridges, and tunnels; port
and airport facilities; colleges and universities; and hospitals. Revenue
bonds are sometimes used to finance various privately operated facilities
provided they meet certain tests established for tax-exempt status.
Although the principal security behind these bonds may vary, many provide
additional security in the form of a mortgage or debt service reserve fund.
Some authorities provide further security in the form of the state's ability
(without obligation) to make up deficiencies in the debt service reserve
fund. Revenue bonds usually do not require prior voter approval before they
may be issued.
. Lease Revenue Bonds Municipal borrowers may also finance capital
improvements or purchases with tax-exempt leases. The security for a lease is
generally the borrower's pledge to make annual appropriations for lease
payments. The lease payment is treated as an operating expense subject to
appropriation risk and not a full faith and credit obligation of the issuer.
Lease revenue bonds are generally considered less secure than a general
obligation or revenue bond and often do not include a debt service reserve
fund. To the extent the fund's Board determines such securities are illiquid,
they will be subject to the fund's limit on illiquid securities. There have
also been certain legal challenges to the use of lease revenue bonds in
various states.
The liquidity of such securities will be determined based on a variety of
factors which may include, among others: (1) the frequency of trades and
quotes for the obligation; (2) the number of dealers willing to purchase or
sell the security and the number of other potential buyers; (3) the
willingness of dealers to undertake to make a market in the security; (4) the
nature of the marketplace trades, including the time needed to dispose of the
security, the method of soliciting offers, and the mechanics of transfer; and
(5) the rating assigned to the obligation by an established rating agency or
T. Rowe Price.
. Pre-refunded/Escrowed to Maturity Bonds Certain municipal bonds have been
refunded with a later bond issue from the same issuer. The proceeds from the
later issue are used to defease the original issue. In many cases the
original issue cannot be redeemed or repaid until the first call date or
original maturity date. In these cases, the refunding bond proceeds typically
are used to buy U.S. Treasury securities that are held in an escrow account
until the original call date or maturity date. The original bonds then become
"pre-refunded" or "escrowed to maturity" and are considered as high-quality
investments. While still tax-exempt, the security is the proceeds of the
escrow account. To the extent permitted by the SEC and the Internal Revenue
Service, a fund's investment in such securities refunded with U.S. Treasury
securities will, for purposes of diversification rules applicable to the
fund, be considered as an investment in U.S. Treasury securities.
. Private Activity Bonds Under current tax law all municipal debt is divided
broadly into two groups: governmental purpose bonds and private activity
bonds. Governmental purpose bonds are issued to finance traditional public
purpose projects such as public buildings and roads. Private activity bonds
may be issued by a state or local government or public authority but
principally benefit private users and are considered taxable unless a
specific exemption is provided.
The tax code currently provides exemptions for certain private activity bonds
such as not-for-profit hospital bonds, small-issue industrial development
revenue bonds and mortgage subsidy bonds, which may still be issued as
tax-exempt bonds. Some, but not all, private activity bonds are subject to
alternative minimum tax.
. Industrial Development Bonds Industrial development bonds are considered
Municipal Bonds if the interest paid is exempt from federal income tax. They
are issued by or on behalf of public authorities to raise money to
<PAGE>
finance various privately operated facilities for business and manufacturing,
housing, sports, and pollution control. These bonds are also used to finance
public facilities such as airports, mass transit systems, ports, and parking.
The payment of the principal and interest on such bonds is dependent solely
on the ability of the facility's user to meet its financial obligations and
the pledge, if any, of real and personal property so financed as security for
such payment.
Adjustable Rate Securities
Municipal securities may be issued with adjustable interest rates that are
reset periodically by pre-determined formulas or indexes in order to minimize
movements in the principal value of the investment. Such securities may have
long-term maturities, but may be treated as a short-term investment under
certain conditions. Generally, as interest rates decrease or increase, the
potential for capital appreciation or depreciation on these securities is
less than for fixed-rate obligations. These securities may take the following
forms:
Variable Rate Securities Variable rate instruments are those whose terms
provide for the adjustment of their interest rates on set dates and
which, upon such adjustment, can reasonably be expected to have a market
value that approximates its par value. Subject to the provisions of Rule
2a-7 under the 1940 Act, (1) a variable rate instrument, the principal
amount of which is scheduled to be paid in 397 days or less, is deemed to
have a maturity equal to the period remaining until the next readjustment
of the interest; (2) a variable rate instrument which is subject to a
demand feature which entitles the purchaser to receive the principal
amount of the underlying security or securities either (i) upon notice of
usually 30 days, or (ii) at specified intervals not exceeding 397 days
and upon no more than 30 days' notice is deemed to have a maturity equal
to the longer of the period remaining until the next readjustment of the
interest rate or the period remaining until the principal amount can be
recovered through demand; and (3) an instrument that is issued or
guaranteed by the U.S. government or any agency thereof which has a
variable rate of interest readjusted no less frequently than every 762
days may be deemed to have a maturity equal to the period remaining until
the next readjustment of the interest rate. Should the provisions of Rule
2a-7 change, the funds will determine the maturity of these securities in
accordance with the amended provisions of such rule.
Floating Rate Securities Floating rate instruments are those whose terms
provide for the adjustment of their interest rates whenever a specified
interest rate changes and which, at any time, can reasonably be expected
to have a market value that approximates its par value. Subject to the
provisions of Rule 2a-7 under the 1940 Act, (1) the maturity of a
floating rate instrument is deemed to be the period remaining until the
date (noted on the face of the instrument) on which the principal amount
must be paid, or in the case of an instrument called for redemption, the
date on which the redemption payment must be made; and (2) floating rate
instruments with demand features are deemed to have a maturity equal to
the period remaining until the principal amount can be recovered through
demand. Should the provisions of Rule 2a-7 change, the funds will
determine the maturity of these securities in accordance with the amended
provisions or such rule.
Put Option Bonds Long-term obligations with maturities longer than one year
may provide purchasers an optional or mandatory tender of the security at par
value at predetermined intervals, often ranging from one month to several
years (e.g., a 30-year bond with a five-year tender period). These
instruments are deemed to have a maturity equal to the period remaining to
the put date.
Participation Interests The funds may purchase from third parties
participation interests in all or part of specific holdings of municipal
securities. The purchase may take different forms: in the case of short-term
securities, the participation may be backed by a liquidity facility that
allows the interest to be sold back to the third party (such as a trust,
broker or bank) for a predetermined price of par at stated intervals. The
seller may receive a fee from the funds in connection with the arrangement.
In the case of longer-term bonds, the funds may purchase interests in a pool
of municipal bonds or a single municipal bond or lease without the right to
sell the interest back to the third party.
The funds will not purchase participation interests unless a satisfactory
opinion of counsel or ruling of the Internal Revenue Service has been issued
that the interest earned from the municipal securities on which the
<PAGE>
funds hold participation interests is exempt from federal income tax to the
funds. However, there is no guarantee the IRS would treat such interest
income as tax-exempt.
Bond and Balanced Funds
. Residual Interest Bonds are a type of high-risk derivative. The funds may
purchase municipal bond issues that are structured as two-part, residual
interest bond and variable rate security offerings. The issuer is obligated
only to pay a fixed amount of tax-free income that is to be divided among the
holders of the two securities. The interest rate for the holders of the
variable rate securities will be determined by an index or auction process
held approximately every seven to 35 days while the bondholders will receive
all interest paid by the issuer minus the amount given to the variable rate
security holders and a nominal auction fee. Therefore, the coupon of the
residual interest bonds, and thus the income received, will move inversely
with respect to short-term, seven- to 35-day tax-exempt interest rates. There
is no assurance that the auction will be successful and that the variable
rate security will provide short-term liquidity. The issuer is not obligated
to provide such liquidity. In general, these securities offer a significant
yield advantage over standard municipal securities, due to the uncertainty of
the shape of the yield curve (i.e., short-term versus long-term rates) and
consequent income flows.
Unlike many adjustable rate securities, residual interest bonds are not
necessarily expected to trade at par and in fact present significant market
risks. In certain market environments, residual interest bonds may carry
substantial premiums or be at deep discounts. This is a relatively new
product in the municipal market with limited liquidity to date.
. Embedded Interest Rate Swaps and Caps In a fixed rate, long-term municipal
bond with an interest rate swap attached to it, the bondholder usually
receives the bond's fixed coupon payment as well as a variable rate payment
that represents the difference between a fixed rate for the term of the swap
(which is typically shorter than the bond it is attached to) and a variable
rate, short-term municipal index. The bondholder receives excess income when
short-term rates remain below the fixed interest rate swap rate. If
short-term rates rise above the fixed income swap rate, the bondholder's
income is reduced. At the end of the interest rate swap term, the bond
reverts to a single fixed coupon payment. Embedded interest rate swaps
enhance yields, but also increase interest rate risk.
An embedded interest rate cap allows the bondholder to receive payments
whenever short-term rates rise above a level established at the time of
purchase. They normally are used to hedge against rising short-term interest
rates. Both instruments may be volatile and of limited liquidity, and their
use may adversely affect the fund's total return.
The funds may invest in other types of derivative instruments as they become
available.
For the purpose of the funds' investment restrictions, the identification of
the "issuer" of municipal securities which are not general obligation bonds
is made by the funds' investment manager, T. Rowe Price, on the basis of the
characteristics of the obligation as described above, the most significant of
which is the source of funds for the payment of principal and interest on
such securities.
There are, of course, other types of securities that are, or may become
available, which are similar to the foregoing and the funds may invest in
these securities.
All Funds (other than Tax-Efficient Growth Fund)
When-Issued Securities
New issues of municipal securities are often offered on a when-issued basis;
that is, delivery and payment for the securities normally takes place 15 to
45 days or more after the date of the commitment to purchase. The payment
obligation and the interest rate that will be received on the securities are
each fixed at the time the buyer enters into the commitment. A fund will only
make a commitment to purchase such securities with the intention of actually
acquiring the securities. However, a fund may sell these securities before
the settlement date if it is deemed advisable as a matter of investment
strategy. Each fund will maintain cash, high-grade marketable debt securities
or other suitable cover with its custodian bank equal in value to commitments
for when-issued securities. Such securities either will mature or, if
necessary, be sold on or before the settlement
<PAGE>
date. Securities purchased on a when-issued basis and the securities held in
a fund's portfolio are subject to changes in market value based upon the
public perception of the creditworthiness of the issuer and changes in the
level of interest rates (which will generally result in similar changes in
value, i.e., both experiencing appreciation when interest rates decline and
depreciation when interest rates rise). Therefore, to the extent a fund
remains fully invested or almost fully invested at the same time that it has
purchased securities on a when-issued basis, there will be greater
fluctuations in its net asset value than if it solely set aside cash to pay
for when-issued securities. In the case of the money funds, this could
increase the possibility that the market value of the fund's assets could
vary from $1.00 per share. In addition, there will be a greater potential for
the realization of capital gains, which are not exempt from federal income
tax. When the time comes to pay for when-issued securities, a fund will meet
its obligations from then-available cash flow, sale of securities or,
although it would not normally expect to do so, from sale of the when-issued
securities themselves (which may have a value greater or less than the
payment obligation). The policies described in this paragraph are not
fundamental and may be changed by a fund upon notice to its shareholders.
All Funds (other than the Money and Tax-Efficient Growth Funds)
Forwards
The funds may purchase bonds on a when-issued basis with longer than standard
settlement dates, in some cases exceeding one to two years. In such cases,
the funds must execute a receipt evidencing the obligation to purchase the
bond on the specified issue date, and must segregate cash internally to meet
that forward commitment. Municipal "forwards" typically carry a substantial
yield premium to compensate the buyer for the risks associated with a long
when-issued period, including: shifts in market interest rates that could
materially impact the principal value of the bond, deterioration in the
credit quality of the issuer, loss of alternative investment options during
the when-issued period, changes in tax law or issuer actions that would
affect the exempt interest status of the bonds and prevent delivery, failure
of the issuer to complete various steps required to issue the bonds, and
limited liquidity for the buyer to sell the escrow receipts during the
when-issued period.
Investment in Taxable Money Market Securities
Although the funds (other than Tax-Efficient Balanced and Tax-Efficient
Growth Funds) expect to be solely invested in municipal securities, for
temporary defensive purposes they may elect to invest in the taxable money
market securities listed next (without limitation) when such action is deemed
to be in the best interests of shareholders. The interest earned on these
money market securities is not exempt from federal income tax and may be
taxable to shareholders as ordinary income.
. U.S. Government Obligations Bills, notes, bonds, and other debt securities
issued by the U.S. Treasury. These are direct obligations of the U.S.
government and differ mainly in the length of their maturities.
. U.S. Government Agency Securities Issued or guaranteed by U.S.
government-sponsored enterprises and federal agencies. These include
securities issued by the Federal National Mortgage Association, Government
National Mortgage Association, Federal Home Loan Bank, Federal Land Banks,
Farmers Home Administration, Banks for Cooperatives, Federal Intermediate
Credit Banks, Federal Financing Bank, Farm Credit Banks, the Small Business
Association, and the Tennessee Valley Authority. Some of these securities are
supported by the full faith and credit of the U.S. Treasury; the remainder
are supported only by the credit of the instrumentality, which may or may not
include the right of the issuer to borrow from the Treasury.
. Bank Obligations Certificates of deposit, bankers' acceptances, and other
short-term debt obligations. Certificates of deposit are short-term
obligations of commercial banks. A bankers' acceptance is a time draft drawn
on a commercial bank by a borrower, usually in connection with international
commercial transactions. Certificates of deposit may have fixed or variable
rates. The fund may invest in U.S. banks, foreign branches of U.S. banks,
U.S. branches of foreign banks, and foreign branches of foreign banks.
. Short-Term Corporate Debt Securities Short-term corporate debt securities
rated at least AA by S&P, Moody's or Fitch.
<PAGE>
. Commercial Paper Paper rated A-2 or better by S&P, Prime-2 or better by
Moody's, or F-2 or better by Fitch, or, if not rated, is issued by a
corporation having an outstanding debt issue rated A or better by Moody's,
S&P or Fitch and, with respect to the Money Funds, is of equivalent
investment quality as determined by the Board of Directors/Trustees.
. Determination of Maturity of Money Market Securities The Money Funds may
only purchase securities which at the time of investment have remaining
maturities of 397 calendar days or less. The other funds may also purchase
money market securities. In determining the maturity of money market
securities, funds will follow the provisions of Rule 2a-7 under the 1940 Act.
Tax-Efficient Balanced and Tax-Efficient Growth Funds
Hybrid Instruments
Hybrid Instruments (a type of potentially high-risk derivative) have been
developed and combine the elements of futures contracts or options with those
of debt, preferred equity, or a depository instrument (hereinafter "Hybrid
Instruments"). Generally, a Hybrid Instrument will be a debt security,
preferred stock, depository share, trust certificate, certificate of deposit,
or other evidence of indebtedness on which a portion of or all interest
payments, and/or the principal or stated amount payable at maturity,
redemption, or retirement, is determined by reference to prices, changes in
prices, or differences between prices, of securities, currencies,
intangibles, goods, articles, or commodities (collectively "Underlying
Assets") or by another objective index, economic factor, or other measure,
such as interest rates, currency exchange rates, commodity indices, and
securities indices (collectively "Benchmarks"). Thus, Hybrid Instruments may
take a variety of forms, including, but not limited to, debt instruments with
interest or principal payments or redemption terms determined by reference to
the value of a currency or commodity or securities index at a future point in
time, preferred stock with dividend rates determined by reference to the
value of a currency, or convertible securities with the conversion terms
related to a particular commodity.
Hybrid Instruments can be an efficient means of creating exposure to a
particular market, or segment of a market, with the objective of enhancing
total return. For example, a fund may wish to take advantage of expected
declines in interest rates in several European countries, but avoid the
transaction costs associated with buying and currency-hedging the foreign
bond positions. One solution would be to purchase a U.S. dollar-denominated
Hybrid Instrument whose redemption price is linked to the average three-year
interest rate in a designated group of countries. The redemption price
formula would provide for payoffs of greater than par if the average interest
rate was lower than a specified level, and payoffs of less than par if rates
were above the specified level. Furthermore, the fund could limit the
downside risk of the security by establishing a minimum redemption price so
that the principal paid at maturity could not be below a predetermined
minimum level if interest rates were to rise significantly. The purpose of
this arrangement, known as a structured security with an embedded put option,
would be to give the fund the desired European bond exposure while avoiding
currency risk, limiting downside market risk, and lowering transactions
costs. Of course, there is no guarantee that the strategy will be successful,
and the fund could lose money if, for example, interest rates do not move as
anticipated or credit problems develop with the issuer of the Hybrid
Instruments.
The risks of investing in Hybrid Instruments reflect a combination of the
risks of investing in securities, options, futures, and currencies. Thus, an
investment in a Hybrid Instrument may entail significant risks that are not
associated with a similar investment in a traditional debt instrument that
has a fixed principal amount, is denominated in U.S. dollars, or bears
interest either at a fixed rate or a floating rate determined by reference to
a common, nationally published benchmark. The risks of a particular Hybrid
Instrument will, of course, depend upon the terms of the instrument, but may
include, without limitation, the possibility of significant changes in the
Benchmarks or the prices of Underlying Assets to which the instrument is
linked. Such risks generally depend upon factors which are unrelated to the
operations or credit quality of the issuer of the Hybrid Instrument and which
may not be readily foreseen by the purchaser, such as economic and political
events, the supply and demand for the Underlying Assets, and interest rate
movements. In recent years, various Benchmarks and prices for Underlying
Assets have been highly volatile, and such volatility may be
<PAGE>
expected in the future. Reference is also made to the discussion of futures,
options, and forward contracts herein for a discussion of the risks
associated with such investments.
Hybrid Instruments are potentially more volatile and carry greater market
risks than traditional debt instruments. Depending on the structure of the
particular Hybrid Instrument, changes in a Benchmark may be magnified by the
terms of the Hybrid Instrument and have an even more dramatic and substantial
effect upon the value of the Hybrid Instrument. Also, the prices of the
Hybrid Instrument and the Benchmark or Underlying Asset may not move in the
same direction or at the same time.
Hybrid Instruments may bear interest or pay preferred dividends at below
market (or even relatively nominal) rates. Alternatively, Hybrid Instruments
may bear interest at above market rates but bear an increased risk of
principal loss (or gain). The latter scenario may result if "leverage" is
used to structure the Hybrid Instrument. Leverage risk occurs when the Hybrid
Instrument is structured so that a given change in a Benchmark or Underlying
Asset is multiplied to produce a greater value change in the Hybrid
Instrument, thereby magnifying the risk of loss as well as the potential for
gain.
Hybrid Instruments may also carry liquidity risk since the instruments are
often "customized" to meet the portfolio needs of a particular investor, and
therefore, the number of investors that are willing and able to buy such
instruments in the secondary market may be smaller than that for more
traditional debt securities. In addition, because the purchase and sale of
Hybrid Instruments could take place in an over-the-counter market without the
guarantee of a central clearing organization or in a transaction between the
fund and the issuer of the Hybrid Instrument, the creditworthiness of the
counterparty or issuer of the Hybrid Instrument would be an additional risk
factor which the fund would have to consider and monitor. Hybrid Instruments
also may not be subject to regulation of the Commodities Futures Trading
Commission ("CFTC"), which generally regulates the trading of commodity
futures by U.S. persons, the SEC, which regulates the offer and sale of
securities by and to U.S. persons, or any other governmental regulatory
authority.
The various risks discussed above, particularly the market risk of such
instruments, may in turn cause significant fluctuations in the net asset
value of the fund. Accordingly, the fund will limit its investments in Hybrid
Instruments to 10% of total assets. However, because of their volatility, it
is possible that the fund's investment in Hybrid Instruments will account for
more than 10% of the fund's return (positive or negative).
Illiquid or Restricted Securities
Restricted securities may be sold only in privately negotiated transactions
or in a public offering with respect to which a registration statement is in
effect under the Securities Act of 1933 (the "1933 Act"). Where registration
is required, the fund may be obligated to pay all or part of the registration
expenses, and a considerable period may elapse between the time of the
decision to sell and the time the fund may be permitted to sell a security
under an effective registration statement. If, during such a period, adverse
market conditions were to develop, the fund might obtain a less favorable
price than prevailed when it decided to sell. Restricted securities will be
priced at fair value as determined in accordance with procedures prescribed
by the fund's Board of Directors/Trustees. If, through the appreciation of
illiquid securities or the depreciation of liquid securities, the fund should
be in a position where more than 15% of the value of its net assets is
invested in illiquid assets, including restricted securities, the fund will
take appropriate steps to protect liquidity.
Notwithstanding the above, the fund may purchase securities which, while
privately placed, are eligible for purchase and sale under Rule 144A under
the 1933 Act. This rule permits certain qualified institutional buyers, such
as the fund, to trade in privately placed securities even though such
securities are not registered under the 1933 Act. T. Rowe Price, under the
supervision of the fund's Board of Directors/Trustees, will consider whether
securities purchased under Rule 144A are illiquid and thus subject to the
fund's restriction of investing no more than 15% of its net assets in
illiquid securities. A determination of whether a Rule 144A security is
liquid or not is a question of fact. In making this determination, T. Rowe
Price will consider the trading markets for the specific security taking into
account the unregistered nature of a Rule 144A security. In addition, T. Rowe
Price could consider the following: (1) frequency of trades and quotes; (2)
number of dealers and potential purchases; (3) dealer undertakings to make a
market; and (4) the nature of the security and of marketplace trades (e.g.,
the time needed to dispose of the security, the method of soliciting offers,
and
<PAGE>
the mechanics of transfer). The liquidity of Rule 144A securities would be
monitored and, if as a result of changed conditions it is determined that a
Rule 144A security is no longer liquid, the fund's holdings of illiquid
securities would be reviewed to determine what, if any, steps are required to
assure that the fund does not invest more than 15% of its net assets in
illiquid securities. Investing in Rule 144A securities could have the effect
of increasing the amount of the fund's assets invested in illiquid securities
if qualified institutional buyers are unwilling to purchase such securities.
Warrants
The fund may acquire warrants. Warrants can be highly volatile and have no
voting rights, pay no dividends, and have no rights with respect to the
assets of the corporation issuing them. Warrants basically are options to
purchase securities at a specific price valid for a specific period of time.
They do not represent ownership of the securities, but only the right to buy
them. Warrants differ from call options in that warrants are issued by the
issuer of the security which may be purchased on their exercise, whereas call
options may be written or issued by anyone. The prices of warrants do not
necessarily move parallel to the prices of the underlying securities.
PORTFOLIO MANAGEMENT PRACTICES
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All Funds (other than the Money Funds)
Futures Contracts
Futures contracts are a type of potentially high-risk derivative.
Transactions in Futures
The Bond Funds may enter into futures contracts including stock index,
interest rate, and currency futures ("futures" or "futures contracts").
The Tax-Efficient Balanced and Tax-Efficient Growth Funds may enter into
futures contracts including stock index, interest rate, and currency futures
("futures" or "futures contracts").
Bond, Balanced, and Growth Funds
The nature of such futures and the regulatory limitations and risks are the
same as those described below.
Stock index futures contracts may be used to provide a hedge for a portion of
the fund's portfolio, as a cash management tool, or as an efficient way for
T. Rowe Price to implement either an increase or decrease in portfolio market
exposure in response to changing market conditions. The fund may purchase or
sell futures contracts with respect to any stock index. Nevertheless, to
hedge the fund's portfolio successfully, the fund must sell futures contacts
with respect to indices or subindices whose movements will have a significant
correlation with movements in the prices of the fund's portfolio securities.
Interest rate or currency futures contracts may be used as a hedge against
changes in prevailing levels of interest rates or currency exchange rates in
order to establish more definitely the effective return on securities or
currencies held or intended to be acquired by the fund. In this regard, the
fund could sell interest rate or currency futures as an offset against the
effect of expected increases in interest rates or currency exchange rates and
purchase such futures as an offset against the effect of expected declines in
interest rates or currency exchange rates.
The fund will enter into futures contracts which are traded on national (and
for the Tax-Efficient Balanced and Tax-Efficient Growth Funds, foreign)
futures exchanges, and are standardized as to maturity date and underlying
financial instrument. Futures exchanges and trading in the United States are
regulated under the Commodity Exchange Act by the CFTC. Although techniques
other than the sale and purchase of futures contracts could be used for the
above-referenced purposes, futures contracts offer an effective and
relatively low cost means of implementing the fund's objectives in these
areas.
<PAGE>
Regulatory Limitations
If the fund purchases or sells futures contracts or related options which do
not qualify as bona fide hedging under applicable CFTC rules, the aggregate
initial margin deposits and premium required to establish those positions
cannot exceed 5% of the liquidation value of the fund after taking into
account unrealized profits and unrealized losses on any such contracts it has
entered into; provided, however, that in the case of an option that is
in-the-money at the time of purchase, the in-the-money amount may be excluded
in calculating the 5% limitation. For purposes of this policy, options on
futures contracts and foreign currency options traded on a commodities
exchange will be considered "related options." This policy may be modified by
the Board of Directors/Trustees without a shareholder vote and does not limit
the percentage of the fund's assets at risk to 5%.
In instances involving the purchase of futures contracts or the writing of
call or put options thereon by the fund, an amount of cash, liquid assets, or
other suitable cover as permitted by the SEC, equal to the market value of
the futures contracts and options thereon (less any related margin deposits),
will be identified by the fund to cover the position, or alternative cover
(such as owning an offsetting position) will be employed. Assets used as
cover or held in an identified account cannot be sold while the position in
the corresponding option or future is open, unless they are replaced with
similar assets. As a result, the commitment of a large portion of a fund's
assets to cover or identified accounts could impede portfolio management or
the fund's ability to meet redemption requests or other current obligations.
If the CFTC or other regulatory authorities adopt different (including less
stringent) or additional restrictions, the fund would comply with such new
restrictions.
Trading in Futures Contracts
A futures contract provides for the future sale by one party and purchase by
another party of a specified amount of a specific financial instrument (e.g.,
units of a stock index) for a specified price, date, time, and place
designated at the time the contract is made. Brokerage fees are incurred when
a futures contract is bought or sold and margin deposits must be maintained.
Entering into a contract to buy is commonly referred to as buying or
purchasing a contract or holding a long position. Entering into a contract to
sell is commonly referred to as selling a contract or holding a short
position.
Unlike when the fund purchases or sells a security, no price would be paid or
received by the fund upon the purchase or sale of a futures contract. Upon
entering into a futures contract, and to maintain the fund's open positions
in futures contracts, the fund would be required to deposit with its
custodian in a segregated account in the name of the futures broker an amount
of cash, or liquid assets known as "initial margin." The margin required for
a particular futures contract is set by the exchange on which the contract is
traded, and may be significantly modified from time to time by the exchange
during the term of the contract. Futures contracts are customarily purchased
and sold on margins that may range upward from less than 5% of the value of
the contract being traded.
If the price of an open futures contract changes (by increase in the case of
a sale or by decrease in the case of a purchase) so that the loss on the
futures contract reaches a point at which the margin on deposit does not
satisfy margin requirements, the broker will require an increase in the
margin. However, if the value of a position increases because of favorable
price changes in the futures contract so that the margin deposit exceeds the
required margin, the broker will pay the excess to the fund.
These subsequent payments, called "variation margin," to and from the futures
broker, are made on a daily basis as the price of the underlying assets
fluctuate, making the long and short positions in the futures contract more
or less valuable, a process known as "marking to market."
Although certain futures contracts, by their terms, require actual future
delivery of and payment for the underlying instruments, in practice most
futures contracts are usually closed out before the delivery date. Closing
out an open futures contract purchase or sale is effected by entering into an
offsetting futures contract sale or purchase, respectively, for the same
aggregate amount of the identical securities and the same delivery date. If
the offsetting purchase price is less than the original sale price, the fund
realizes a gain; if it is more, the fund realizes a loss. Conversely, if the
offsetting sale price is more than the original purchase price, the
<PAGE>
fund realizes a gain; if it is less, the fund realizes a loss. The
transaction costs must also be included in these calculations. There can be
no assurance, however, that the fund will be able to enter into an offsetting
transaction with respect to a particular futures contract at a particular
time. If the fund is not able to enter into an offsetting transaction, the
fund will continue to be required to maintain the margin deposits on the
futures contract.
As an example of an offsetting transaction in which the underlying instrument
is not delivered, the contractual obligations arising from the sale of one
contract of September Treasury bills on an exchange may be fulfilled at any
time before delivery of the contract is required (i.e., on a specified date
in September, the "delivery month") by the purchase of one contract of
September Treasury bills on the same exchange. In such instance, the
difference between the price at which the futures contract was sold and the
price paid for the offsetting purchase, after allowance for transaction
costs, represents the profit or loss to the fund.
Tax-Efficient Balanced and Tax-Efficient Growth Funds
For example, the S&P's 500 Stock Index is made up of 500 selected common
stocks, most of which are listed on the New York Stock Exchange. The S&P 500
Index assigns relative weightings to the common stocks included in the Index,
and the Index fluctuates with changes in the market values of those common
stocks. In the case of futures contracts on the S&P 500 Index, the contracts
are to buy or sell 250 units. Thus, if the value of the S&P 500 Index were
$150, one contract would be worth $37,500 (250 units x $150). The stock index
futures contract specifies that no delivery of the actual stocks making up
the index will take place. Instead, settlement in cash occurs. Over the life
of the contract, the gain or loss realized by the fund will equal the
difference between the purchase (or sale) price of the contract and the price
at which the contract is terminated. For example, if the fund enters into a
futures contract to buy 250 units of the S&P 500 Index at a specified future
date at a contract price of $150 and the S&P 500 Index is at $154 on that
future date, the fund will gain $1,000 (250 units x gain of $4). If the fund
enters into a futures contract to sell 250 units of the stock index at a
specified future date at a contract price of $150 and the S&P 500 Index is at
$152 on that future date, the fund will lose $500 (250 units x loss of $2).
Special Risks of Transactions in Futures Contracts
. Volatility and Leverage The prices of futures contracts are volatile and are
influenced, among other things, by actual and anticipated changes in the
market and interest rates, which in turn are affected by fiscal and monetary
policies and national and international political and economic events.
Most United States futures exchanges limit the amount of fluctuation
permitted in futures contract prices during a single trading day. The daily
limit establishes the maximum amount that the price of a futures contract may
vary either up or down from the previous day's settlement price at the end of
a trading session. Once the daily limit has been reached in a particular type
of futures contract, no trades may be made on that day at a price beyond that
limit. The daily limit governs only price movement during a particular
trading day and therefore does not limit potential losses, because the limit
may prevent the liquidation of unfavorable positions. Futures contract prices
have occasionally moved to the daily limit for several consecutive trading
days with little or no trading, thereby preventing prompt liquidation of
futures positions and subjecting some futures traders to substantial losses.
Margin deposits required on futures trading are low. As a result, a
relatively small price movement in a futures contract may result in immediate
and substantial loss, as well as gain, to the investor. For example, if at
the time of purchase, 10% of the value of the futures contract is deposited
as margin, a subsequent 10% decrease in the value of the futures contract
would result in a total loss of the margin deposit, before any deduction for
the transaction costs, if the account were then closed out. A 15% decrease
would result in a loss equal to 150% of the original margin deposit, if the
contract were closed out. Thus, a purchase or sale of a futures contract may
result in losses in excess of the amount invested in the futures contract.
. Liquidity The fund may elect to close some or all of its futures positions
at any time prior to their expiration. The fund would do so to reduce
exposure represented by long futures positions or short futures positions.
The fund may close its positions by taking opposite positions which would
operate to terminate the fund's position
<PAGE>
in the futures contracts. Final determinations of variation margin would then
be made, additional cash would be required to be paid by or released to the
fund, and the fund would realize a loss or a gain.
Futures contracts may be closed out only on the exchange or board of trade
where the contracts were initially traded. Although the fund intends to
purchase or sell futures contracts only on exchanges or boards of trade where
there appears to be an active market, there is no assurance that a liquid
market on an exchange or board of trade will exist for any particular
contract at any particular time. In such event, it might not be possible to
close a futures contract, and in the event of adverse price movements, the
fund would continue to be required to make daily cash payments of variation
margin. However, in the event futures contracts have been used to hedge the
underlying instruments, the fund would continue to hold the underlying
instruments subject to the hedge until the futures contracts could be
terminated. In such circumstances, an increase in the price of underlying
instruments, if any, might partially or completely offset losses on the
futures contract. However, as described next, there is no guarantee that the
price of the underlying instruments will, in fact, correlate with the price
movements in the futures contract and thus provide an offset to losses on a
futures contract.
. Hedging Risk A decision of whether, when, and how to hedge involves skill
and judgment, and even a well-conceived hedge may be unsuccessful to some
degree because of unexpected market behavior, market or interest rate trends.
There are several risks in connection with the use by the fund of futures
contracts as a hedging device. One risk arises because of the imperfect
correlation between movements in the prices of the futures contracts and
movements in the prices of the underlying instruments which are the subject
of the hedge. T. Rowe Price will, however, attempt to reduce this risk by
entering into futures contracts whose movements, in its judgment, will have a
significant correlation with movements in the prices of the fund's underlying
instruments sought to be hedged.
Successful use of futures contracts by the fund for hedging purposes is also
subject to T. Rowe Price's ability to correctly predict movements in the
direction of the market. It is possible that, when the fund has sold futures
to hedge its portfolio against a decline in the market, the index, indices,
or instruments underlying futures might advance and the value of the
underlying instruments held in the fund's portfolio might decline. If this
were to occur, the fund would lose money on the futures and also would
experience a decline in value in its underlying instruments. However, while
this might occur to a certain degree, T. Rowe Price believes that over time
the value of the fund's portfolio will tend to move in the same direction as
the market indices used to hedge the portfolio. It is also possible that, if
the fund were to hedge against the possibility of a decline in the market
(adversely affecting the underlying instruments held in its portfolio) and
prices instead increased, the fund would lose part or all of the benefit of
increased value of those underlying instruments that it has hedged, because
it would have offsetting losses in its futures positions. In addition, in
such situations, if the fund had insufficient cash, it might have to sell
underlying instruments to meet daily variation margin requirements. Such
sales of underlying instruments might be, but would not necessarily be, at
increased prices (which would reflect the rising market). The fund might have
to sell underlying instruments at a time when it would be disadvantageous to
do so.
In addition to the possibility that there might be an imperfect correlation,
or no correlation at all, between price movements in the futures contracts
and the portion of the portfolio being hedged, the price movements of futures
contracts might not correlate perfectly with price movements in the
underlying instruments due to certain market distortions. First, all
participants in the futures market are subject to margin deposit and
maintenance requirements. Rather than meeting additional margin deposit
requirements, investors might close futures contracts through offsetting
transactions, which could distort the normal relationship between the
underlying instruments and futures markets. Second, the margin requirements
in the futures market are less onerous than margin requirements in the
securities markets and, as a result, the futures market might attract more
speculators than the securities markets do. Increased participation by
speculators in the futures market might also cause temporary price
distortions. Due to the possibility of price distortion in the futures market
and also because of imperfect correlation between price movements in the
underlying instruments and movements in the prices of futures contracts, even
a correct forecast of general market trends by T. Rowe Price might not result
in a successful hedging transaction over a very short time period.
<PAGE>
All Funds (other than the Money Funds)
The fund may purchase and sell options on the same types of futures in which
it may invest.
Options on Futures Contracts
Bond and Tax-Efficient Balanced Funds
The fund might trade in municipal bond index option futures or similar
options on futures developed in the future. In addition, the fund may also
trade in options on futures contracts on U.S. government securities and any
U.S. government securities futures index contract which might be developed.
In the opinion of T. Rowe Price, there is a high degree of correlation in the
interest rate, and price movements of U.S. government securities and
municipal securities. However, the U.S. government securities market and
municipal securities markets are independent and may not move in tandem at
any point in time.
The fund may purchase put options on futures contracts to hedge its portfolio
of municipal securities against the risk of rising interest rates, and the
consequent decline in the prices of the municipal securities it owns. The
funds will also write call options on futures contracts as a hedge against a
modest decline in prices of the municipal securities held in the fund's
portfolio. If the futures price at expiration of a written call option is
below the exercise price, the fund will retain the full amount of the option
premium, thereby partially hedging against any decline that may have occurred
in the fund's holdings of debt securities. If the futures price when the
option is exercised is above the exercise price, however, the fund will incur
a loss, which may be wholly or partially offset by the increase of the value
of the securities in the fund's portfolio which were being hedged.
Tax-Efficient Balanced and Tax-Efficient Growth Funds
As an alternative to writing or purchasing call and put options on stock
index futures, the fund may write or purchase call and put options on stock
indices. Such options would be used in a manner similar to the use of options
on futures contracts.
All Funds (other than the Money Funds)
Writing a put option on a futures contract serves as a partial hedge against
an increase in the value of securities the fund intends to acquire. If the
futures price at expiration of the option is above the exercise price, the
fund will retain the full amount of the option premium which provides a
partial hedge against any increase that may have occurred in the price of the
debt securities the fund intends to acquire. If the futures price when the
option is exercised is below the exercise price, however, the fund will incur
a loss, which may be wholly or partially offset by the decrease in the price
of the securities the fund intends to acquire.
Options (another type of potentially high-risk derivative) on futures are
similar to options on underlying instruments except that options on futures
give the purchaser the right, in return for the premium paid, to assume a
position in a futures contract (a long position if the option is a call and a
short position if the option is a put), rather than to purchase or sell the
futures contract, at a specified exercise price at any time during the period
of the option. Upon exercise of the option, the delivery of the futures
position by the writer of the option to the holder of the option will be
accompanied by the delivery of the accumulated balance in the writer's
futures margin account which represents the amount by which the market price
of the futures contract, at exercise, exceeds (in the case of a call) or is
less than (in the case of a put) the exercise price of the option on the
futures contract. Purchasers of options who fail to exercise their options
prior to the exercise date suffer a loss of the premium paid.
From time to time a single order to purchase or sell futures contracts (or
options thereon) may be made on behalf of the fund and other T. Rowe Price
funds. Such aggregated orders would be allocated among the fund and the other
T. Rowe Price funds in a fair and non-discriminatory manner.
Special Risks of Transactions in Options on Futures Contracts
The risks described under "Special Risks in Transactions on Futures
Contracts" are substantially the same as the risks of using options on
futures. If the fund were to write an option on a futures contract, it would
be required to deposit and maintain initial and variation margin in the same
manner as a regular futures contract. In addition, where the fund seeks to
close out an option position by writing or buying an offsetting option
<PAGE>
covering the same index, underlying instrument or contract and having the
same exercise price and expiration date, its ability to establish and close
out positions on such options will be subject to the maintenance of a liquid
secondary market. Reasons for the absence of a liquid secondary market on an
exchange include the following: (1) there may be insufficient trading
interest in certain options; (2) restrictions may be imposed by an exchange
on opening transactions or closing transactions or both; (3) trading halts,
suspensions, or other restrictions may be imposed with respect to particular
classes or series of options, or underlying instruments; (4) unusual or
unforeseen circumstances may interrupt normal operations on an exchange; (5)
the facilities of an exchange or a clearing corporation may not at all times
be adequate to handle current trading volume; or (6) one or more exchanges
could, for economic or other reasons, decide or be compelled at some future
date to discontinue the trading of options (or a particular class or series
of options), in which event the secondary market on that exchange (or in the
class or series of options) would cease to exist, although outstanding
options on the exchange that had been issued by a clearing corporation as a
result of trades on that exchange would continue to be exercisable in
accordance with their terms. There is no assurance that higher than
anticipated trading activity or other unforeseen events might not, at times,
render certain of the facilities of any of the clearing corporations
inadequate, and thereby result in the institution by an exchange of special
procedures which may interfere with the timely execution of customers'
orders.
In addition, the correlation between movements in the price of options on
futures contracts and movements in the price of the securities hedged can
only be approximate. This risk is significantly increased when an option on a
U.S. government securities future or an option on some type of index future
is used as a proxy for hedging a portfolio consisting of other types of
securities. Another risk is that the movements in the price of options on
futures contract and the value of the call increases by more than the
increase in the value of the securities held as cover, the fund may realize a
loss on the call which is not completely offset by the appreciation in the
price of the securities held as cover and the premium received for writing
the call.
The successful use of options on futures contracts requires special expertise
and techniques different from those involved in portfolio securities
transactions. A decision of whether, when and how to hedge involves skill and
judgment, and even a well-conceived hedge may be unsuccessful to some degree
because of unexpected market behavior or interest rate trends. During periods
when municipal securities market prices are appreciating, the fund may
experience poorer overall performance than if it had not entered into any
options on futures contracts.
General Considerations Transactions by the fund in options on futures will be
subject to limitations established by each of the exchanges, boards of trade
or other trading facilities governing the maximum number of options in each
class which may be written or purchased by a single investor or group of
investors acting in concert, regardless of whether the options are written on
the same or different exchanges, boards of trade or other trading facilities
or are held or written in one or more accounts or through one or more
brokers. Thus, the number of contracts which the fund may write or purchase
may be affected by contracts written or purchased by other investment
advisory clients of T. Rowe Price. An exchange, board of trade or other
trading facility may order the liquidations of positions found to be in
excess of these limits, and it may impose certain other sanctions.
Additional Futures and Options Contracts
Although the fund has no current intention of engaging in futures or options
transactions other than those described above, it reserves the right to do
so. Such futures and options trading might involve risks which differ from
those involved in the futures and options described above.
Federal Tax Treatment of Options, Futures Contracts, and Forward Foreign
Exchange Contracts
Although the fund invests almost exclusively in securities that generate
income that is exempt from federal income taxes, the fund may enter into
certain option, futures, and foreign exchange contracts, including options
and futures on currencies, which will be treated as Section 1256 contracts or
straddles that are not exempt from such taxes. Therefore, use of the
investment techniques described above could result in taxable income to
shareholders of the fund.
<PAGE>
Transactions which are considered Section 1256 contracts will be considered
to have been closed at the end of the fund's fiscal year and any gains or
losses will be recognized for tax purposes at that time. Gains or losses
recognized from the normal closing or settlement of such transactions will be
characterized as 60% long-term capital gain or loss and 40% short-term
capital gain or loss, without regard to the holding period of the contract.
The fund will be required to distribute net gains on such transactions to
shareholders even though it may not have closed the transaction and received
cash to pay such distributions.
Options, futures, and forward foreign exchange contracts, including options
and futures on currencies, which offset a foreign dollar-denominated bond or
currency position may be considered straddles for tax purposes, in which case
a loss on any position in a straddle will be subject to deferral to the
extent of unrealized gain in an offsetting position. The holding period of
the securities or currencies comprising the straddle will be deemed not to
begin until the straddle is terminated. The holding period of the security
offsetting an "in-the-money qualified covered call" option on an equity
security will not include the period of time the option is outstanding.
Losses on written covered calls and purchased puts on securities, excluding
certain "qualified covered call" options on equity securities, may be
long-term capital losses, if the security covering the option was held for
more than 12 months prior to the writing of the option.
In order for the fund to continue to qualify for federal income tax treatment
as a regulated investment company, at least 90% of its gross income for a
taxable year must be derived from qualifying income, i.e., dividends,
interest, income derived from loans of securities, and gains from the sale of
securities or currencies. Tax regulations could be issued limiting the extent
that net gain realized from option, futures, or foreign forward exchange
contracts on currencies is qualifying income for purposes of the 90%
requirement.
As a result of the "Taxpayer Relief Act of 1997," entering into certain
options, futures contracts, or forward contracts may result in the
"constructive sale" of offsetting stocks or debt securities of the fund.
Options on Securities
Options are another type of potentially high-risk derivative.
Bond and Money Funds
The funds have no current intention of investing in options on securities,
although they reserve the right to do so. Appropriate disclosure would be
added to the funds' prospectus and Statement of Additional Information when
and if the funds decide to invest in options.
Tax-Efficient Balanced and Tax-Efficient Growth Funds
Writing Covered Call Options
The fund may write (sell) American or European style "covered" call options
and purchase options to close out options previously written by the fund. In
writing covered call options, the fund expects to generate additional premium
income which should serve to enhance the fund's total return and reduce the
effect of any price decline of the security or currency involved in the
option. Covered call options will generally be written on securities or
currencies which, in T. Rowe Price's opinion, are not expected to have any
major price increases or moves in the near future but which, over the long
term, are deemed to be attractive investments for the fund.
A call option gives the holder (buyer) the "right to purchase," and the
writer (seller) has the "obligation to sell," a security or currency at a
specified price (the exercise price) at expiration of the option (European
style) or at any time until a certain date (the expiration date) (American
style). So long as the obligation of the writer of a call option continues,
he may be assigned an exercise notice by the broker-dealer through whom such
option was sold, requiring him to deliver the underlying security or currency
against payment of the exercise price. This obligation terminates upon the
expiration of the call option, or such earlier time at which the writer
effects a closing purchase transaction by repurchasing an option identical to
that previously sold. To secure his obligation to deliver the underlying
security or currency in the case of a call option, a writer is required to
deposit in escrow the underlying security or currency or other assets in
accordance with the rules of a clearing corporation.
<PAGE>
The fund generally will write only covered call options. This means that the
fund will either own the security or currency subject to the option or an
option to purchase the same underlying security or currency, having an
exercise price equal to or less than the exercise price of the "covered"
option. From time to time, the fund will write a call option that is not
covered as indicated above but where the fund will establish and maintain
with its custodian for the term of the option, an account consisting of cash,
U.S. government securities, other liquid high-grade debt obligations, or
other suitable cover as permitted by the SEC having a value equal to the
fluctuating market value of the optioned securities or currencies. While such
an option would be "covered" with sufficient collateral to satisfy SEC
prohibitions on issuing senior securities, this type of strategy would expose
the fund to the risks of writing uncovered options.
Portfolio securities or currencies on which call options may be written will
be purchased solely on the basis of investment considerations consistent with
the fund's investment objective. The writing of covered call options is a
conservative investment technique believed to involve relatively little risk
(in contrast to the writing of naked or uncovered options, which the fund
generally will not do), but capable of enhancing the fund's total return.
When writing a covered call option, a fund, in return for the premium, gives
up the opportunity for profit from a price increase in the underlying
security or currency above the exercise price, but conversely retains the
risk of loss should the price of the security or currency decline. Unlike one
who owns securities or currencies not subject to an option, the fund has no
control over when it may be required to sell the underlying securities or
currencies, since it may be assigned an exercise notice at any time prior to
the expiration of its obligation as a writer. If a call option which the fund
has written expires, the fund will realize a gain in the amount of the
premium; however, such gain may be offset by a decline in the market value of
the underlying security or currency during the option period. If the call
option is exercised, the fund will realize a gain or loss from the sale of
the underlying security or currency. The fund does not consider a security or
currency covered by a call to be "pledged" as that term is used in the fund's
policy which limits the pledging or mortgaging of its assets. If the fund
writes an uncovered option as described above, it will bear the risk of
having to purchase the security subject to the option at a price higher than
the exercise price of the option. As the price of a security could appreciate
substantially, the fund's loss could be significant.
The premium received is the market value of an option. The premium the fund
will receive from writing a call option will reflect, among other things, the
current market price of the underlying security or currency, the relationship
of the exercise price to such market price, the historical price volatility
of the underlying security or currency, and the length of the option period.
Once the decision to write a call option has been made, T. Rowe Price, in
determining whether a particular call option should be written on a
particular security or currency, will consider the reasonableness of the
anticipated premium and the likelihood that a liquid secondary market will
exist for those options. The premium received by the fund for writing covered
call options will be recorded as a liability of the fund. This liability will
be adjusted daily to the option's current market value, which will be the
latest sale price at the time at which the net asset value per share of the
fund is computed (close of the New York Stock Exchange), or, in the absence
of such sale, the latest asked price. The option will be terminated upon
expiration of the option, the purchase of an identical option in a closing
transaction, or delivery of the underlying security or currency upon the
exercise of the option.
Closing transactions will be effected in order to realize a profit on an
outstanding call option, to prevent an underlying security or currency from
being called, or to permit the sale of the underlying security or currency.
Furthermore, effecting a closing transaction will permit the fund to write
another call option on the underlying security or currency with either a
different exercise price or expiration date or both. If the fund desires to
sell a particular security or currency from its portfolio on which it has
written a call option, or purchased a put option, it will seek to effect a
closing transaction prior to, or concurrently with, the sale of the security
or currency. There is, of course, no assurance that the fund will be able to
effect such closing transactions at favorable prices. If the fund cannot
enter into such a transaction, it may be required to hold a security or
currency that it might otherwise have sold. When the fund writes a covered
call option, it runs the risk of not being able to participate in the
appreciation of the underlying securities or currencies above the exercise
price, as well as the risk of being required to hold on to securities or
currencies that are depreciating in value. This could result in higher
transaction costs. The fund will pay transaction costs in connection with the
writing of options to close out previously written options. Such transaction
costs are normally higher than those applicable to purchases and sales of
portfolio securities.
<PAGE>
Call options written by the fund will normally have expiration dates of less
than nine months from the date written. The exercise price of the options may
be below, equal to, or above the current market values of the underlying
securities or currencies at the time the options are written. From time to
time, the fund may purchase an underlying security or currency for delivery
in accordance with an exercise notice of a call option assigned to it, rather
than delivering such security or currency from its portfolio. In such cases,
additional costs may be incurred.
The fund will realize a profit or loss from a closing purchase transaction if
the cost of the transaction is less or more than the premium received from
the writing of the option. Because increases in the market price of a call
option will generally reflect increases in the market price of the underlying
security or currency, any loss resulting from the repurchase of a call option
is likely to be offset in whole or in part by appreciation of the underlying
security or currency owned by the fund.
The fund will not write a covered call option if, as a result, the aggregate
market value of all portfolio securities or currencies covering written call
or put options exceeds 25% of the market value of the fund's net assets. In
calculating the 25% limit, the fund will offset, against the value of assets
covering written calls and puts, the value of purchased calls and puts on
identical securities or currencies with identical maturity dates.
Writing Covered Put Options
The fund may write American or European style covered put options and
purchase options to close out options previously written by the fund. A put
option gives the purchaser of the option the right to sell, and the writer
(seller) has the obligation to buy, the underlying security or currency at
the exercise price during the option period (American style) or at the
expiration of the option (European style). So long as the obligation of the
writer continues, he may be assigned an exercise notice by the broker-dealer
through whom such option was sold, requiring him to make payment to the
exercise price against delivery of the underlying security or currency. The
operation of put options in other respects, including their related risks and
rewards, is substantially identical to that of call options.
The fund would write put options only on a covered basis, which means that
the fund would maintain in a segregated account cash, U.S. government
securities, other liquid high-grade debt obligations, or other suitable cover
as determined by the SEC, in an amount not less than the exercise price or
the fund will own an option to sell the underlying security or currency
subject to the option having an exercise price equal to or greater than the
exercise price of the "covered" option at all times while the put option is
outstanding. (The rules of a clearing corporation currently require that such
assets be deposited in escrow to secure payment of the exercise price.)
The fund would generally write covered put options in circumstances where T.
Rowe Price wishes to purchase the underlying security or currency for the
fund's portfolio at a price lower than the current market price of the
security or currency. In such event the fund would write a put option at an
exercise price which, reduced by the premium received on the option, reflects
the lower price it is willing to pay. Since the fund would also receive
interest on debt securities or currencies maintained to cover the exercise
price of the option, this technique could be used to enhance current return
during periods of market uncertainty. The risk in such a transaction would be
that the market price of the underlying security or currency would decline
below the exercise price less the premiums received. Such a decline could be
substantial and result in a significant loss to the fund. In addition, the
fund, because it does not own the specific securities or currencies which it
may be required to purchase in exercise of the put, cannot benefit from
appreciation, if any, with respect to such specific securities or currencies.
The fund will not write a covered put option if, as a result, the aggregate
market value of all portfolio securities or currencies covering put or call
options exceeds 25% of the market value of the fund's net assets. In
calculating the 25% limit, the fund will offset, against the value of assets
covering written puts and calls, the value of purchased puts and calls on
identical securities or currencies with identical maturity dates.
<PAGE>
Purchasing Put Options
The fund may purchase American or European style put options. As the holder
of a put option, the fund has the right to sell the underlying security or
currency at the exercise price at any time during the option period (American
style) or at the expiration of the option (European style). The fund may
enter into closing sale transactions with respect to such options, exercise
them or permit them to expire. The fund may purchase put options for
defensive purposes in order to protect against an anticipated decline in the
value of its securities or currencies. An example of such use of put options
is provided next.
The fund may purchase a put option on an underlying security or currency (a
"protective put") owned by the fund as a defensive technique in order to
protect against an anticipated decline in the value of the security or
currency. Such hedge protection is provided only during the life of the put
option when the fund, as the holder of the put option, is able to sell the
underlying security or currency at the put exercise price regardless of any
decline in the underlying security's market price or currency's exchange
value. For example, a put option may be purchased in order to protect
unrealized appreciation of a security or currency where T. Rowe Price deems
it desirable to continue to hold the security or currency because of tax
considerations. The premium paid for the put option and any transaction costs
would reduce any capital gain otherwise available for distribution when the
security or currency is eventually sold.
The fund may also purchase put options at a time when the fund does not own
the underlying security or currency. By purchasing put options on a security
or currency it does not own, the fund seeks to benefit from a decline in the
market price of the underlying security or currency. If the put option is not
sold when it has remaining value, and if the market price of the underlying
security or currency remains equal to or greater than the exercise price
during the life of the put option, the fund will lose its entire investment
in the put option. In order for the purchase of a put option to be
profitable, the market price of the underlying security or currency must
decline sufficiently below the exercise price to cover the premium and
transaction costs, unless the put option is sold in a closing sale
transaction.
The fund will not commit more than 5% of its assets to premiums when
purchasing put and call options. The premium paid by the fund when purchasing
a put option will be recorded as an asset of the fund. This asset will be
adjusted daily to the option's current market value, which will be the latest
sale price at the time at which the net asset value per share of the fund is
computed (close of New York Stock Exchange), or, in the absence of such sale,
the latest bid price. This asset will be terminated upon expiration of the
option, the selling (writing) of an identical option in a closing
transaction, or the delivery of the underlying security or currency upon the
exercise of the option.
Purchasing Call Options
The fund may purchase American or European style call options. As the holder
of a call option, the fund has the right to purchase the underlying security
or currency at the exercise price at any time during the option period
(American style) or at the expiration of the option (European style). The
fund may enter into closing sale transactions with respect to such options,
exercise them or permit them to expire. The fund may purchase call options
for the purpose of increasing its current return or avoiding tax consequences
which could reduce its current return. The fund may also purchase call
options in order to acquire the underlying securities or currencies. Examples
of such uses of call options are provided next.
Call options may be purchased by the fund for the purpose of acquiring the
underlying securities or currencies for its portfolio. Utilized in this
fashion, the purchase of call options enables the fund to acquire the
securities or currencies at the exercise price of the call option plus the
premium paid. At times the net cost of acquiring securities or currencies in
this manner may be less than the cost of acquiring the securities or
currencies directly. This technique may also be useful to the fund in
purchasing a large block of securities or currencies that would be more
difficult to acquire by direct market purchases. So long as it holds such a
call option rather than the underlying security or currency itself, the fund
is partially protected from any unexpected decline in the market price of the
underlying security or currency and in such event could allow the call option
to expire, incurring a loss only to the extent of the premium paid for the
option.
<PAGE>
The fund will not commit more than 5% of its assets to premiums when
purchasing call and put options. The fund may also purchase call options on
underlying securities or currencies it owns in order to protect unrealized
gains on call options previously written by it. A call option would be
purchased for this purpose where tax considerations make it inadvisable to
realize such gains through a closing purchase transaction. Call options may
also be purchased at times to avoid realizing losses.
Dealer (Over-the-Counter) Options
The fund may engage in transactions involving dealer options. Certain risks
are specific to dealer options. While the fund would look to a clearing
corporation to exercise exchange-traded options, if the fund were to purchase
a dealer option, it would rely on the dealer from whom it purchased the
option to perform if the option were exercised. Failure by the dealer to do
so would result in the loss of the premium paid by the fund as well as loss
of the expected benefit of the transaction.
Exchange-traded options generally have a continuous liquid market while
dealer options have none. Consequently, the fund will generally be able to
realize the value of a dealer option it has purchased only by exercising it
or reselling it to the dealer who issued it. Similarly, when the fund writes
a dealer option, it generally will be able to close out the option prior to
its expiration only by entering into a closing purchase transaction with the
dealer to which the fund originally wrote the option. While the fund will
seek to enter into dealer options only with dealers who will agree to and
which are expected to be capable of entering into closing transactions with
the fund, there can be no assurance that the fund will be able to liquidate a
dealer option at a favorable price at any time prior to expiration. Until the
fund, as a covered dealer call option writer, is able to effect a closing
purchase transaction, it will not be able to liquidate securities (or other
assets) or currencies used as cover until the option expires or is exercised.
In the event of insolvency of the contra party, the fund may be unable to
liquidate a dealer option. With respect to options written by the fund, the
inability to enter into a closing transaction may result in material losses
to the fund. For example, since the fund must maintain a secured position
with respect to any call option on a security it writes, the fund may not
sell the assets which it has segregated to secure the position while it is
obligated under the option. This requirement may impair a fund's ability to
sell portfolio securities or currencies at a time when such sale might be
advantageous.
The Staff of the SEC has taken the position that purchased dealer options and
the assets used to secure the written dealer options are illiquid securities.
The fund may treat the cover used for written Over-the-Counter ("OTC")
options as liquid if the dealer agrees that the fund may repurchase the OTC
option it has written for a maximum price to be calculated by a predetermined
formula. In such cases, the OTC option would be considered illiquid only to
the extent the maximum repurchase price under the formula exceeds the
intrinsic value of the option.
Lending of Portfolio Securities
Securities loans are made to broker-dealers, institutional investors, or
other persons, pursuant to agreements requiring that the loans be
continuously secured by collateral at least equal at all times to the value
of the securities lent, marked to market on a daily basis. The collateral
received will consist of cash, U.S. government securities, letters of credit,
or such other collateral as may be permitted under its investment program.
While the securities are being lent, the fund will continue to receive the
equivalent of the interest or dividends paid by the issuer on the securities,
as well as interest on the investment of the collateral or a fee from the
borrower. The fund has a right to call each loan and obtain the securities,
within such period of time which coincides with the normal settlement period
for purchases and sales of such securities in the respective markets. The
fund will not have the right to vote on securities while they are being lent,
but it will call a loan in anticipation of any important vote. The risks in
lending portfolio securities, as with other extensions of secured credit,
consist of possible delay in receiving additional collateral or in the
recovery of the securities or possible loss of rights in the collateral
should the borrower fail financially. Loans will only be made to firms deemed
by T. Rowe Price to be of good standing and will not be made unless, in the
judgment of T. Rowe Price, the consideration to be earned from such loans
would justify the risk.
<PAGE>
Repurchase Agreements
The fund may enter into a repurchase agreement through which an investor
(such as the fund) purchases a security (known as the "underlying security")
from a well-established securities dealer or a bank that is a member of the
Federal Reserve System. Any such dealer or bank will be on T. Rowe Price's
approved list and have a credit rating with respect to its short-term debt of
at least A1 by S&P, P1 by Moody's, or the equivalent rating by T. Rowe Price.
At that time, the bank or securities dealer agrees to repurchase the
underlying security at the same price, plus specified interest. Repurchase
agreements are generally for a short period of time, often less than a week.
Repurchase agreements which do not provide for payment within seven days will
be treated as illiquid securities. The fund will only enter into repurchase
agreements where (1) the underlying securities are of the type (excluding
maturity limitations) which the fund's investment guidelines would allow it
to purchase directly, (2) the market value of the underlying security,
including interest accrued, will be at all times equal to or exceed the value
of the repurchase agreement, and (3) payment for the underlying security is
made only upon physical delivery or evidence of book-entry transfer to the
account of the custodian or a bank acting as agent. In the event of a
bankruptcy or other default of a seller of a repurchase agreement, the fund
could experience both delays in liquidating the underlying security and
losses, including: (a) possible decline in the value of the underlying
security during the period while the fund seeks to enforce its rights
thereto; (b) possible subnormal levels of income and lack of access to income
during this period; and (c) expenses of enforcing its rights.
Reverse Repurchase Agreements
Although the fund has no current intention of engaging in reverse repurchase
agreements, the fund reserves the right to do so. Reverse repurchase
agreements are ordinary repurchase agreements in which a fund is the seller
of, rather than the investor in, securities, and agrees to repurchase them at
an agreed upon time and price. Use of a reverse repurchase agreement may be
preferable to a regular sale and later repurchase of the securities because
it avoids certain market risks and transaction costs. A reverse repurchase
agreement may be viewed as a type of borrowing by the fund, subject to
Investment Restriction (1). (See "Investment Restrictions.")
All Funds
INVESTMENT RESTRICTIONS
-------------------------------------------------------------------------------
Fundamental policies may not be changed without the approval of the lesser of
(1) 67% of the fund's shares present at a meeting of shareholders if the
holders of more than 50% of the outstanding shares are present in person or
by proxy or (2) more than 50% of a fund's outstanding shares. Other
restrictions in the form of operating policies are subject to change by the
fund's Board of Directors/Trustees without shareholder approval. Any
investment restriction which involves a maximum percentage of securities or
assets shall not be considered to be violated unless an excess over the
percentage occurs immediately after, and is caused by, an acquisition of
securities or assets of, or borrowings by, the fund. Calculation of the
fund's total assets for compliance with any of the following fundamental or
operating policies or any other investment restrictions set forth in the
fund's prospectus or Statement of Additional Information will not include
cash collateral held in connection with securities lending activities.
Fundamental Policies
As a matter of fundamental policy, the fund may not:
(1) Borrowing Borrow money except that the fund may (i) borrow for
non-leveraging, temporary, or emergency purposes; and (ii) engage in
reverse repurchase agreements and make other investments or engage in
other transactions, which may involve a borrowing, in a manner consistent
with the fund's investment objective and program, provided that the
combination of (i) and (ii) shall not exceed 33/1//\\/3/\\% of the value
of the fund's total assets (including the amount borrowed) less
liabilities (other than borrowings) or such other percentage permitted by
law. Any borrowings which come to exceed this amount will be reduced in
accordance with applicable law. The fund may borrow from banks, other
Price Funds, or other persons to the extent permitted by applicable law;
<PAGE>
(2) Commodities Purchase or sell physical commodities; except that the fund
(other than the Money Funds) may enter into futures contracts and options
thereon;
(3) Industry Concentration Purchase the securities of any issuer if, as a
result, more than 25% of the value of the fund's total assets would be
invested in the securities of issuers having their principal business
activities in the same industry;
(4) Loans Make loans, although the fund may (i) lend portfolio securities and
participate in an interfund lending program with other Price Funds
provided that no such loan may be made if, as a result, the aggregate of
such loans would exceed 33/1//\\/3/\\% of the value of the fund's total
assets; (ii) purchase money market securities and enter into repurchase
agreements; and (iii) acquire publicly distributed or privately placed
debt securities and purchase debt;
(5) Percent Limit on Assets Invested in Any One Issuer (California,
Tax-Efficient Balanced, Tax-Efficient Growth, Tax-Exempt Money, Tax-Free
High Yield, Tax-Free Income, Tax-Free Intermediate Bond, and Tax-Free
Short-Intermediate Funds Only) Purchase a security if, as a result, with
respect to 75% of the value of its total assets, more than 5% of the
value of the fund's total assets would be invested in the securities of a
single issuer, except securities issued or guaranteed by the U.S.
government or any of its agencies or instrumentalities;
(6) Percent Limit on Share Ownership of Any One Issuer (California,
Tax-Efficient Balanced, Tax-Efficient Growth, Tax-Exempt Money, Tax-Free
High Yield, Tax-Free Income, Tax-Free Intermediate Bond, and Tax-Free
Short-Intermediate Funds Only) Purchase a security if, as a result, with
respect to 75% of the value of the fund's total assets, more than 10% of
the outstanding voting securities of any issuer would be held by the fund
(other than obligations issued or guaranteed by the U.S. government, its
agencies or instrumentalities);
(7) Real Estate Purchase or sell real estate, including limited partnership
interests therein, unless acquired as a result of ownership of securities
or other instruments (but this shall not prevent the fund from investing
in securities or other instruments backed by real estate or securities of
companies engaged in the real estate business);
(8) Senior Securities Issue senior securities except in compliance with the
1940 Act;
(9) Taxable Securities (All Funds, except Tax-Efficient Balanced and
Tax-Efficient Growth Funds) During periods of normal market conditions,
purchase any security if, as a result, less than 80% of the fund's income
would be exempt from federal, and if applicable, any state, city, or
local income tax. Normally, the fund will not purchase a security if, as
a result, more than 20% of the fund's income would be subject to the AMT;
or
(10) Underwriting Underwrite securities issued by other persons, except to
the extent that the fund may be deemed to be an underwriter within the
meaning of the 1933 Act in connection with the purchase and sale of its
portfolio securities in the ordinary course of pursuing its investment
program.
NOTES
The following Notes should be read in connection with the above-described
fundamental policies. The Notes are not fundamental policies.
With respect to investment restriction (1), the Money Funds have no
current intention of engaging in any borrowing transactions.
With respect to investment restriction (2), the fund does not consider
currency contracts or hybrid investments to be commodities.
For purposes of investment restriction (3), U.S., state, or local
governments, or related agencies or instrumentalities, are not considered
an industry. Industries are determined by reference to the
classifications of industries set forth in the fund's semiannual and
annual reports. It is the position of the Staff of the SEC that foreign
governments are industries for purposes of this restriction. Bonds
<PAGE>
which are refunded with escrowed U.S. government securities or subject to
certain types of guarantees are not subject to the industry limitation of
25%.
For purposes of investment restriction (4), the fund will consider the
acquisition of a debt security to include the execution of a note or
other evidence of an extension of credit with a term of more than nine
months.
For purposes of investment restriction (9), the fund measures the amount
of its income from taxable securities, including AMT securities, over the
course of the fund's taxable year.
Operating Policies
As a matter of operating policy, the fund may not:
(1) Borrowing Purchase additional securities when money borrowed exceeds 5%
of its total assets;
(2) Control of Portfolio Companies Invest in companies for the purpose of
exercising management or control;
(3) Equity Securities (All Funds except Tax-Efficient Balanced and
Tax-Efficient Growth Funds) Purchase any equity security or security
convertible into an equity security provided that the fund (other than
the Money Funds) may invest up to 10% of its total assets in equity
securities which pay tax-exempt dividends and which are otherwise
consistent with the fund's investment objective and, further provided,
that each Money Fund may invest up to 10% of its total assets in equity
securities of other tax-free open-end money market funds;
(4) Futures Contracts Purchase a futures contract or an option thereon, if,
with respect to positions in futures or options on futures which do not
represent bona fide hedging, the aggregate initial margin and premiums on
such options would exceed 5% of the fund's net asset value;
(5) Illiquid Securities Purchase illiquid securities if, as a result, more
than 15% (10% for Money Funds) of its net assets would be invested in
such securities;
(6) Investment Companies Purchase securities of open-end or closed-end
investment companies except (i) in compliance with the Investment Company
Act of 1940; (ii) in the case of the Tax-Free Funds, only securities of
other tax-free money market funds; or (iii) in the case of Tax-Efficient
Balanced and Tax-Efficient Growth Funds, securities of the Reserve
Investment or Government Reserve Investment Funds;
(7) Margin Purchase securities on margin, except (i) for use of short-term
credit necessary for clearance of purchases of portfolio securities and
(ii) it may make margin deposits in connection with futures contracts or
other permissible investments;
(8) Mortgaging Mortgage, pledge, hypothecate or, in any manner, transfer any
security owned by the fund as security for indebtedness except as may be
necessary in connection with permissible borrowings or investments and
then such mortgaging, pledging, or hypothecating may not exceed
33/1//\\/3/\\% of the fund's total assets at the time of borrowing or
investment;
(9) Oil and Gas Programs Purchase participations or other direct interests
in, or enter into leases with respect to oil, gas, or other mineral
exploration or development programs if, as a result thereof, more than 5%
of the value of the total assets of the fund would be invested in such
programs;
(10) Options, etc. Invest in puts, calls, straddles, spreads, or any
combination thereof, except to the extent permitted by the prospectus and
Statement of Additional Information;
(11) Short Sales Effect short sales of securities; or
(12) Warrants Invest in warrants if, as a result thereof, more than 2% of the
value of the net assets of the fund would be invested in warrants.
<PAGE>
NOTES
With respect to investment restriction (6), the funds have no current
intention of purchasing the securities of other investment companies.
Duplicate fees could result from any such purchases.
MANAGEMENT OF THE FUNDS
-------------------------------------------------------------------------------
The officers and directors/trustees of the fund are listed below. Unless
otherwise noted, the address of each is 100 East Pratt Street, Baltimore,
Maryland 21202. Except as indicated, each has been an employee of T. Rowe
Price for more than five years. In the list below, the fund's
directors/trustees who are considered "interested persons" of T. Rowe Price
as defined under Section 2(a)(19) of the 1940 Act are noted with an asterisk
(*). These directors/trustees are referred to as inside directors by virtue
of their officership, directorship, and/or employment with T. Rowe Price.
Independent Directors/Trustees/(a)/
All Funds except Tax-Efficient Funds
CALVIN W. BURNETT, PH.D., 3/16/32, President, Coppin State College; formerly:
Director, Maryland Chamber of Commerce and Provident Bank of Maryland;
formerly: President, Baltimore Area Council Boy Scouts of America; Vice
President and Board of Directors, The Walters Art Gallery; Address: 2500 West
North Avenue, Baltimore, Maryland 21216
ANTHONY W. DEERING, 1/28/45, Director, Chairman of the Board, President, and
Chief Executive Officer, The Rouse Company, real estate developers, Columbia,
Maryland; Address: 10275 Little Patuxent Parkway, Columbia, Maryland 21044
F. PIERCE LINAWEAVER, 8/22/34, President, F. Pierce Linaweaver & Associates,
Inc.; Consulting Environmental & Civil Engineers; formerly (1987-1991)
Executive Vice President, EA Engineering, Science, and Technology, Inc., and
President, EA Engineering, Inc., Baltimore, Maryland; Address: Green Spring
Station, 2360 West Joppa Road, Suite 224, Lutherville, Maryland 21093
JOHN G. SCHREIBER, 10/21/46, Owner/President, Schreiber Investments, Inc., a
real estate investment company; Director, AMLI Residential Properties Trust
and Urban Shopping Centers, Inc.; Partner, Blackstone Real Estate Partners,
L.P.; Director and formerly Executive Vice President, JMB Realty Corporation,
a national real estate investment manager and developer; Address: Centaur
Capital Partners, One Westminster Place, Lake Forest, IL 60045
Tax-Efficient Funds
DONALD W. DICK, JR., 1/27/43, Principal, EuroCapital Advisors, LLC, an
acquisition and management advisory firm; formerly (5/89-6/95) Principal,
Overseas Partners, Inc., a financial investment firm; formerly (6/65-3/89)
Director and Vice President, Consumer Products Division, McCormick & Company,
Inc., international food processors; Director, Waverly, Inc., Baltimore,
Maryland; Address: P.O.Box 491, Chilmark, Massachusetts 02535
DAVID K. FAGIN, 4/9/38, Director, Western Exploration and Development, Ltd.
(6/97 to present); Director (5/92 to present); formerly: Chairman (5/92 to
12/97) and Chief Executive Officer (5/92 to 5/96) of Golden Star Resources
Ltd.; formerly: President, Chief Operating Officer, and Director, Homestake
Mining Company; (5/86 to 7/91); Address: 1700 Lincoln Street, Suite 4710,
Denver, Colorado 80203
HANNE M. MERRIMAN, 11/16/41, Retail Business Consultant; Director, Ann Taylor
Stores Corporation, Central Illinois Public Service Company, Ameren Corp.,
Finlay Enterprises, Inc., The Rouse Company, State Farm Mutual Automobile
Insurance Company and USAirways Group, Inc.; Address: 3201 New Mexico Avenue,
N.W., Suite 350, Washington, D.C. 20016
HUBERT D. VOS, 8/2/33, Owner/President, Stonington Capital Corporation, a
private investment company; Address: 1114 State Street, Suite 247, P.O. Box
90409, Santa Barbara, California 93190-0409
<PAGE>
PAUL M. WYTHES, 6/23/33, Founding Partner of Sutter Hill Ventures, a venture
capital limited partnership, providing equity capital to young high
technology companies throughout the United States; Director, Teltone
Corporation and InterVentional Technologies Inc.; Address: 755 Page Mill
Road, Suite A200, Palo Alto, California 94304-1005
(a) Unless otherwise indicated, the Independent Directors/Trustees have been
at their respective companies for at least five years.
Officers
HENRY H. HOPKINS, 12/23/42, Vice President-Vice President, Price-Fleming and
T. Rowe Price Retirement Plan Services, Inc.; Director and Managing Director,
T. Rowe Price; Vice President and Director, T. Rowe Price Investment
Services, Inc., T. Rowe Price Services, Inc. and T. Rowe Price Trust Company
PATRICIA B. LIPPERT, 1/12/53, Secretary-Assistant Vice President, T. Rowe
Price and T. Rowe Price Investment Services, Inc.
JOSEPH A. CARRIER, 12/30/60, Treasurer-Vice President, T. Rowe Price and T.
Rowe Price Investment Services, Inc.
DAVID S. MIDDLETON, 1/18/56, Controller-Vice President, T. Rowe Price and T.
Rowe Price Trust Company
INGRID I. VORDEMBERGE, 9/27/35, Assistant Vice President-Employee, T. Rowe
Price
California and State Tax-Free Trusts
* WILLIAM T. REYNOLDS, 5/26/48, Chairman of the Board-Director and Managing
Director, T. Rowe Price; Chartered Financial Analyst
* JAMES S. RIEPE, 6/25/43, Trustee-Vice Chairman of the Board and Managing
Director, T. Rowe Price; Chairman of the Board, T. Rowe Price Investment
Services, Inc., T. Rowe Price Retirement Plan Services, Inc., and T. Rowe
Price Services, Inc.; Chairman of the Board, President, and Trust Officer, T.
Rowe Price Trust Company; Director, Price-Fleming and General Re Corporation
* M. DAVID TESTA, 4/22/44, Trustee-Chairman of the Board, Price-Fleming; Vice
Chairman of the Board, Chief Investment Officer, and Managing Director, T.
Rowe Price; Vice President and Director, T. Rowe Price Trust Company;
Chartered Financial Analyst
MARY J. MILLER, 7/19/55, President-Managing Director, T. Rowe Price
JANET G. ALBRIGHT, 3/31/57, Vice President-Vice President, T. Rowe Price
PATRICE BERCHTENBREITER ELY, 1/13/53, Vice President-Vice President, T. Rowe
Price
LINDA A. BRISSON, 7/8/59, Vice President-Vice President, T. Rowe Price
JOSEPH K. LYNAGH, 6/9/58, Vice President-Assistant Vice President, T. Rowe
Price
KONSTANTINE B. MALLAS, 5/26/63, Vice President-Vice President, T. Rowe Price
EDWARD T. SCHNEIDER, 9/19/59, Vice President-Vice President, T. Rowe Price
State Tax-Free Trust Only
JEREMY N. BAKER, 2/27/68, Vice President-Assistant Vice President, T. Rowe
Price
PATRICIA S. DEFORD, 9/29/57, Vice President-Vice President, T. Rowe Price
ROBERT A. DONAHUE, 11/8/64, Vice President-Assistant Vice President, T. Rowe
Price; (1998) formerly Director of Policy Evaluation, District of Columbia
Public Schools
CHARLES B. HILL, 9/22/61, Vice President-Vice President, T. Rowe Price
MARCY M. LASH, 1/30/63, Vice President-Assistant Vice President, T. Rowe
Price; (1998) formerly Assistant Vice President, underwriting, at Connie Lee
Insurance Company
<PAGE>
HUGH D. MCGUIRK, 7/6/60, Vice President-Vice President, T. Rowe Price
C. STEPHEN WOLFE II, 4/5/59, Vice President-Vice President, T. Rowe Price
Tax-Efficient Funds
* JAMES A.C. KENNEDY, 8/17/53, Director-Director and Managing Director, T.
Rowe Price; Chartered Financial Analyst
* JAMES S. RIEPE, 6/25/43, Director and President-Vice Chairman of the Board
and Managing Director, T. Rowe Price; Chairman of the Board, T. Rowe Price
Investment Services, Inc., T. Rowe Price Retirement Plan Services, Inc., and
T. Rowe Price Services, Inc.; Chairman of the Board, President, and Trust
Officer, T. Rowe Price Trust Company; Director, Price-Fleming and General Re
Corporation
* M. DAVID TESTA, 4/22/44, Director-Chairman of the Board, Price-Fleming;
Vice Chairman of the Board, Chief Investment Officer, and Managing Director,
T. Rowe Price; Vice President and Director, T. Rowe Price Trust Company;
Chartered Financial Analyst
MARY J. MILLER, 7/19/55, Executive Vice President-Managing Director, T. Rowe
Price
DONALD J. PETERS, 7/3/59, Executive Vice President-Vice President, T. Rowe
Price
STEPHEN W. BOESEL, 12/28/44, Vice President-Managing Director, T. Rowe Price;
Vice President, T. Rowe Price Trust Company
ROBERT N. GENSLER, 10/18/57, Vice President-Vice President, T. Rowe Price
JILL L. HAUSER, 6/23/58, Vice President-Vice President, T. Rowe Price
THOMAS J. HUBER, 9/23/66, Vice President-Vice President, T. Rowe Price;
formerly a Corporate Banking Officer with NationsBank; Chartered Financial
Analyst
HUGH D. MCGUIRK, 7/6/60, Vice President-Vice President, T. Rowe Price
LARRY J. PUGLIA, 8/25/60, Vice President-Managing Director, T. Rowe Price;
Chartered Financial Analyst
WILLIAM T. REYNOLDS, 5/26/48, Vice President-Director and Managing Director,
T. Rowe Price; Chartered Financial Analyst
WILLIAM J. STROMBERG, 3/10/60, Vice President-Managing Director, T. Rowe
Price; Chartered Financial Analyst
ARTHUR S. VARNADO, 6/1/60, Vice President-Vice President, T. Rowe Price
MARK R. WEIGMAN, 7/30/62, Vice President-Vice President, T. Rowe Price and T.
Rowe Price Trust Company; Chartered Financial Analyst
J. JEFFREY LANG, 1/10/62, Assistant Vice President-Assistant Vice President,
T. Rowe Price; Vice President, T. Rowe Price Trust Company
Tax-Exempt Money Fund
* WILLIAM T. REYNOLDS, 5/26/48, Chairman of the Board-Director and Managing
Director, T. Rowe Price; Chartered Financial Analyst
* JAMES S. RIEPE, 6/25/43, Director-Vice Chairman of the Board and Managing
Director, T. Rowe Price; Chairman of the Board, T. Rowe Price Investment
Services, Inc., T. Rowe Price Retirement Plan Services, Inc., and T. Rowe
Price Services, Inc.; Chairman of the Board, President, and Trust Officer, T.
Rowe Price Trust Company; Director, Price-Fleming and General Re Corporation
* M. DAVID TESTA, 4/22/44, Director-Chairman of the Board, Price-Fleming;
Vice Chairman of the Board, Chief Investment Officer, and Managing Director,
T. Rowe Price; Vice President and Director, T. Rowe Price Trust Company;
Chartered Financial Analyst
PATRICE BERCHTENBREITER ELY, 1/13/53, President-Vice President, T. Rowe Price
<PAGE>
JANET G. ALBRIGHT, 3/31/57, Vice President-Vice President, T. Rowe Price
JOSEPH K. LYNAGH, 6/9/58, Vice President-Vice President, T. Rowe Price
MARY J. MILLER, 7/19/55, Vice President-Managing Director, T. Rowe Price
EDWARD T. SCHNEIDER, 9/19/59, Vice President-Vice President, T. Rowe Price
Tax-Free High Yield Fund
* WILLIAM T. REYNOLDS, 5/26/48, Chairman of the Board-Director and Managing
Director, T. Rowe Price; Chartered Financial Analyst
* JAMES S. RIEPE, 6/25/43, Director-Vice Chairman of the Board and Managing
Director, T. Rowe Price; Chairman of the Board, T. Rowe Price Investment
Services, Inc., T. Rowe Price Retirement Plan Services, Inc., and T. Rowe
Price Services, Inc.; Chairman of the Board, President, and Trust Officer, T.
Rowe Price Trust Company; Director, Price-Fleming and General Re Corporation
* M. DAVID TESTA, 4/22/44, Director-Chairman of the Board, Price-Fleming;
Vice Chairman of the Board, Chief Investment Officer, and Managing Director,
T. Rowe Price; Vice President and Director, T. Rowe Price Trust Company;
Chartered Financial Analyst
MARY J. MILLER, 7/19/55, President-Managing Director, T. Rowe Price
PATRICIA S. DEFORD, 9/29/57, Vice President-Vice President, T. Rowe Price
CHARLES B. HILL, 9/22/61, Vice President-Vice President, T. Rowe Price
MARCY M. LASH, 1/30/63, Vice President-Assistant Vice President, T. Rowe
Price; (1998) formerly Assistant Vice President, underwriting, at Connie Lee
Insurance Company
KONSTANTINE B. MALLAS, 5/26/63, Vice President-Vice President, T. Rowe Price
HUGH D. MCGUIRK, 7/6/60, Vice President-Vice President, T. Rowe Price
EDWARD T. SCHNEIDER, 9/19/59, Vice President-Vice President, T. Rowe Price
C. STEPHEN WOLFE II, 4/5/59, Vice President-Vice President, T. Rowe Price
Tax-Free Income Fund
* WILLIAM T. REYNOLDS, 5/26/48, Chairman of the Board-Director and Managing
Director, T. Rowe Price; Chartered Financial Analyst
* JAMES S. RIEPE, 6/25/43, Director-Vice Chairman of the Board and Managing
Director, T. Rowe Price; Chairman of the Board, T. Rowe Price Investment
Services, Inc., T. Rowe Price Retirement Plan Services, Inc., and T. Rowe
Price Services, Inc.; Chairman of the Board, President, and Trust Officer, T.
Rowe Price Trust Company; Director, Price-Fleming and General Re Corporation
* M. DAVID TESTA, 4/22/44, Director-Chairman of the Board, Price-Fleming;
Vice Chairman of the Board, Chief Investment Officer, and Managing Director,
T. Rowe Price; Vice President and Director, T. Rowe Price Trust Company;
Chartered Financial Analyst
MARY J. MILLER, 7/19/55, President-Managing Director, T. Rowe Price
JANET G. ALBRIGHT, 3/31/57, Vice President-Vice President, T. Rowe Price
JEREMY N. BAKER, 2/27/68, Vice President-Assistant Vice President, T. Rowe
Price
PATRICE BERCHTENBREITER ELY, 1/13/53, Vice President-Vice President, T. Rowe
Price
PATRICIA S. DEFORD, 9/29/57, Vice President-Vice President, T. Rowe Price
CHARLES B. HILL, 9/22/61, Vice President-Vice President, T. Rowe Price
MARCY M. LASH, 1/30/63, Vice President-Assistant Vice President, T. Rowe
Price; (1998) formerly Assistant Vice President, underwriting, at Connie Lee
Insurance Company
<PAGE>
KONSTANTINE B. MALLAS, 5/26/63, Vice President-Vice President, T. Rowe Price
HUGH D. MCGUIRK, 7/6/60, Vice President-Vice President, T. Rowe Price
EDWARD T. SCHNEIDER, 9/19/59, Vice President-Vice President, T. Rowe Price
C. STEPHEN WOLFE II, 4/5/59, Vice President-Vice President, T. Rowe Price
Tax-Free Intermediate Bond Fund
* WILLIAM T. REYNOLDS, 5/26/48, Director-Director and Managing Director, T.
Rowe Price; Chartered Financial Analyst
* JAMES S. RIEPE, 6/25/43, Director-Vice Chairman of the Board and Managing
Director, T. Rowe Price; Chairman of the Board, T. Rowe Price Investment
Services, Inc., T. Rowe Price Retirement Plan Services, Inc., and T. Rowe
Price Services, Inc.; Chairman of the Board, President, and Trust Officer, T.
Rowe Price Trust Company; Director, Price-Fleming and General Re Corporation
* M. DAVID TESTA, 4/22/44, Director-Chairman of the Board, Price-Fleming;
Vice Chairman of the Board, Chief Investment Officer, and Managing Director,
T. Rowe Price; Vice President and Director, T. Rowe Price Trust Company;
Chartered Financial Analyst
CHARLES B. HILL, 9/22/61, President-Vice President, T. Rowe Price
MARY J. MILLER, 7/19/55, Executive Vice President-Managing Director, T. Rowe
Price
PATRICIA S. DEFORD, 9/29/57, Vice President-Vice President, T. Rowe Price
ROBERT A. DONAHUE, 11/8/64, Vice President-Assistant Vice President, T. Rowe
Price; (1998) formerly Director of Policy Evaluation, District of Columbia
Public Schools
ERIC N. MADER, 12/20/68, Vice President-Employee, T. Rowe Price; (1998)
formerly Special Assistant to the CFO, District of Columbia Public Schools
KONSTANTINE B. MALLAS, 5/26/63, Vice President-Vice President, T. Rowe Price
HUGH D. MCGUIRK, 7/6/60, Vice President-Vice President, T. Rowe Price
EDWARD T. SCHNEIDER, 9/19/59, Vice President-Vice President, T. Rowe Price
Tax-Free Short-Intermediate Fund
* WILLIAM T. REYNOLDS, 5/26/48, Chairman of the Board-Director and Managing
Director, T. Rowe Price; Chartered Financial Analyst
* JAMES S. RIEPE, 6/25/43, Director-Vice Chairman of the Board and Managing
Director, T. Rowe Price; Chairman of the Board, T. Rowe Price Investment
Services, Inc., T. Rowe Price Retirement Plan Services, Inc., and T. Rowe
Price Services, Inc.; Chairman of the Board, President, and Trust Officer, T.
Rowe Price Trust Company; Director, Price-Fleming and General Re Corporation
* M. DAVID TESTA, 4/22/44, Director-Chairman of the Board, Price-Fleming;
Vice Chairman of the Board, Chief Investment Officer, and Managing Director,
T. Rowe Price; Vice President and Director, T. Rowe Price Trust Company;
Chartered Financial Analyst
MARY J. MILLER, 7/19/55, President-Managing Director, T. Rowe Price
CHARLES B. HILL, 9/22/61, Executive Vice President-Vice President, T. Rowe
Price
JANET G. ALBRIGHT, 3/31/57, Vice President-Vice President, T. Rowe Price
PATRICE BERCHTENBREITER ELY, 1/13/53, Vice President-Vice President, T. Rowe
Price
PATRICIA S. DEFORD, 9/29/57, Vice President-Vice President, T. Rowe Price
KONSTANTINE B. MALLAS, 5/26/63, Vice President-Vice President, T. Rowe Price
HUGH D. MCGUIRK, 7/6/60, Vice President-Vice President, T. Rowe Price
<PAGE>
EDWARD T. SCHNEIDER, 9/19/59, Vice President-Vice President, T. Rowe Price
C. STEPHEN WOLFE II, 4/5/59, Vice President-Vice President, T. Rowe Price
Compensation Table
The funds do not pay pension or retirement benefits to their independent
officers or directors/trustees. Also, any director/trustee of a fund who is
an officer or employee of T. Rowe Price or Price-Fleming does not receive any
remuneration from the fund.
<TABLE>
<CAPTION>
Name of Person, Aggregate Compensation from Total Compensation from Fund and
Position Fund(a) Fund Complex Paid to Directors/
--------------------------- ---------------------------------------- Trustees(b)
------------------------------------------------------------------------------------------------------------------------
----------------------------------------------
<S> <S> <C>
California Tax-Free Bond Fund
Calvin W. Burnett, Trustee $1,486 $65,000
Anthony W. Deering, Trustee 1,328 80,000
F. Pierce Linaweaver, Trustee 1,486 67,000
John G. Schriber, Trustee 1,486 67,000
--------------------------------------------------------------------------------------------------------------------------
California Tax-Free Money Fund
Calvin W. Burnett, Trustee $1,355 $65,000
Anthony W. Deering, Trustee 1,281 80,000
F. Pierce Linaweaver, Trustee 1,355 67,000
John G. Schriber, Trustee 1,355 67,000
--------------------------------------------------------------------------------------------------------------------------
Florida Intermediate Tax-Free Fund
Calvin W. Burnett, Trustee $1,350 $65,000
Anthony W. Deering, Trustee 1,281 80,000
F. Pierce Linaweaver, Trustee 1,350 67,000
John G. Schriber, Trustee 1,350 67,000
--------------------------------------------------------------------------------------------------------------------------
Georgia Tax-Free Bond Fund
Calvin W. Burnett, Trustee $1,314 $65,000
Anthony W. Deering, Trustee 1,272 80,000
F. Pierce Linaweaver, Trustee 1,314 67,000
John G. Schriber, Trustee 1,314 67,000
--------------------------------------------------------------------------------------------------------------------------
Maryland Short-Term Tax-Free Bond Fund
Calvin W. Burnett, Trustee $1,383 $65,000
Anthony W. Deering, Trustee 1,296 80,000
F. Pierce Linaweaver, Trustee 1,383 67,000
John G. Schriber, Trustee 1,383 67,000
--------------------------------------------------------------------------------------------------------------------------
Maryland Tax-Free Bond Fund
Calvin W. Burnett, Trustee $2,363 $65,000
Anthony W. Deering, Trustee 1,618 80,000
F. Pierce Linaweaver, Trustee 2,363 67,000
John G. Schriber, Trustee 2,363 67,000
--------------------------------------------------------------------------------------------------------------------------
New Jersey Tax-Free Bond Fund
Calvin W. Burnett, Trustee $1,374 $65,000
Anthony W. Deering, Trustee 1,291 80,000
F. Pierce Linaweaver, Trustee 1,374 67,000
John G. Schriber, Trustee 1,374 67,000
--------------------------------------------------------------------------------------------------------------------------
New York Tax-Free Bond Fund
Calvin W. Burnett, Trustee $1,468 $65,000
Anthony W. Deering, Trustee 1,335 80,000
F. Pierce Linaweaver, Trustee 1,468 67,000
John G. Schriber, Trustee 1,468 67,000
--------------------------------------------------------------------------------------------------------------------------
New York Tax-Free Money Fund
Calvin W. Burnett, Trustee $1,365 $65,000
Anthony W. Deering, Trustee 1,284 80,000
F. Pierce Linaweaver, Trustee 1,365 67,000
John G. Schriber, Trustee 1,365 67,000
--------------------------------------------------------------------------------------------------------------------------
Virginia Short-Term Tax-Free Bond Fund
Calvin W. Burnett, Trustee $1,275 $65,000
Anthony W. Deering, Trustee 1,260 80,000
F. Pierce Linaweaver, Trustee 1,275 67,000
John G. Schriber, Trustee 1,275 67,000
--------------------------------------------------------------------------------------------------------------------------
Virginia Tax-Free Bond Fund
Calvin W. Burnett, Trustee $1,548 $65,000
Anthony W. Deering, Trustee 1,349 80,000
F. Pierce Linaweaver, Trustee 1,548 67,000
John G. Schriber, Trustee 1,548 67,000
--------------------------------------------------------------------------------------------------------------------------
Tax-Efficient Balanced Fund
Donald W. Dick, Jr., Director(c) $1,008 $82,000
David K. Fagin, Director 1,020 65,000
Hanne M. Merriman, Director 1,020 65,000
Hubert D. Vos, Director 1,020 66,000
Paul M. Wythes, Director 1,008 80,000
--------------------------------------------------------------------------------------------------------------------------
Tax-Efficient Growth Fund
Donald W. Dick, Jr., Director(c) $ 604 $82,000
David K. Fagin, Director 615 65,000
Hanne M. Merriman, Director 611 65,000
Hubert D. Vos, Director 611 66,000
Paul M. Wythes, Director 604 80,000
--------------------------------------------------------------------------------------------------------------------------
Tax-Exempt Money Fund
Calvin W. Burnett, Director $1,962 $65,000
Anthony W. Deering, Director 1,480 80,000
F. Pierce Linaweaver, Director 1,962 67,000
John G. Schriber, Director 1,962 67,000
--------------------------------------------------------------------------------------------------------------------------
Tax-Free High Yield Fund
Calvin W. Burnett, Director $2,619 $65,000
Anthony W. Deering, Director 1,695 80,000
F. Pierce Linaweaver, Director 2,619 67,000
John G. Schriber, Director 2,619 67,000
--------------------------------------------------------------------------------------------------------------------------
Tax-Free Income Fund
Calvin W. Burnett, Director $2,763 $65,000
Anthony W. Deering, Director 1,750 80,000
F. Pierce Linaweaver, Director 2,763 67,000
John G. Schriber, Director 2,763 67,000
--------------------------------------------------------------------------------------------------------------------------
Tax-Free Intermediate Bond Fund
Calvin W. Burnett, Director $1,373 $65,000
Anthony W. Deering, Director 1,289 80,000
F. Pierce Linaweaver, Director 1,373 67,000
John G. Schriber, Director 1,373 67,000
--------------------------------------------------------------------------------------------------------------------------
Tax-Free Short-Intermediate Fund
Calvin W. Burnett, Director $1,713 $65,000
Anthony W. Deering, Director 1,402 80,000
F. Pierce Linaweaver, Director 1,713 67,000
John G. Schriber, Director 1,713 67,000
--------------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
<PAGE>
(a) Amounts in this column are based on accrued compensation from March 1,
1999 to February 29, 2000.
(b) Amounts in this column are based on compensation received from January 1,
1999, to December 31, 1999. The T. Rowe Price complex included 88 funds as of
December 31, 1999.
All Funds
The fund's Executive Committee, consisting of the fund's interested
directors/trustees, has been authorized by its respective Board of
Directors/Trustees to exercise all powers of the Board to manage the funds in
the intervals between meetings of the Board, except the powers prohibited by
statute from being delegated.
PRINCIPAL HOLDERS OF SECURITIES
-------------------------------------------------------------------------------
As of the date of the prospectus, the officers and directors/trustees of the
fund, as a group, owned less than 1% of the outstanding shares of the fund.
As of May 31, 2000, the following shareholders beneficially owned more than
5% of the outstanding shares of the fund:
New York Tax-Free Money Fund: Coleman M. Brandt and Grace L. Brandt JT TEN,
330 West 72nd Street, Apt. 10A, New York, New York 10023-2649.
Tax-Efficient Balanced Fund: TRP Finance, Inc., 802 West Street, Suite 301,
Wilmington, Delaware 19801-1526.
Tax-Exempt Money Fund-PLUS Class: Larry J. Neiterman and Elin W. Neiterman JT
TEN, 8 Red Oak Drive, Sudbury, Massachusetts 01776-2826; George W. Mead, 700
Belle Isle, Wisconsin Rapids, Wisconsin 54494-4174.
<PAGE>
Tax-Free Short-Intermediate Fund: Charles Schwab & Co. Inc. reinvest account,
Attn.: Mutual Fund Dept., 101 Montgomery Street, San Francisco, California
94104-4122.
Virginia Short-Term Tax-Free Bond Fund: National Financial Services for the
exclusive benefit of our customers, 200 Liberty, One Financial Center, 4th
Floor, New York, New York 10005-3500.
INVESTMENT MANAGEMENT SERVICES
-------------------------------------------------------------------------------
Services
Under the Management Agreement, T. Rowe Price provides the fund with
discretionary investment services. Specifically, T. Rowe Price is responsible
for supervising and directing the investments of the fund in accordance with
the fund's investment objectives, program, and restrictions as provided in
its prospectus and this Statement of Additional Information. T. Rowe Price is
also responsible for effecting all security transactions on behalf of the
fund, including the negotiation of commissions and the allocation of
principal business and portfolio brokerage. In addition to these services, T.
Rowe Price provide the fund with certain corporate administrative services,
including: maintaining the fund's corporate existence and corporate records;
registering and qualifying fund shares under federal laws; monitoring the
financial, accounting, and administrative functions of the fund; maintaining
liaison with the agents employed by the fund such as the fund's custodian and
transfer agent; assisting the fund in the coordination of such agents'
activities; and permitting T. Rowe Price's employees to serve as officers,
directors/trustees, and committee members of the fund without cost to the
fund.
The Management Agreement also provides that T. Rowe Price, its
directors/trustees, officers, employees, and certain other persons performing
specific functions for the fund will only be liable to the fund for losses
resulting from willful misfeasance, bad faith, gross negligence, or reckless
disregard of duty.
Management Fee
The fund pays T. Rowe Price a fee ("Fee") which consists of two components: a
Group Management Fee ("Group Fee") and an Individual Fund Fee ("Fund Fee").
The Fee is paid monthly to T. Rowe Price on the first business day of the
next succeeding calendar month and is calculated as described next.
The monthly Group Fee ("Monthly Group Fee") is the sum of the daily Group Fee
accruals ("Daily Group Fee Accruals") for each month. The Daily Group Fee
Accrual for any particular day is computed by multiplying the Price Funds'
group fee accrual as determined below ("Daily Price Funds' Group Fee
Accrual") by the ratio of the Price Fund's net assets for that day to the sum
of the aggregate net assets of the Price Funds for that day. The Daily Price
Funds' Group Fee Accrual for any particular day is calculated by multiplying
the fraction of one (1) over the number of calendar days in the year by the
annualized Daily Price Funds' Group Fee Accrual for that day as determined in
accordance with the following schedule:
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C>
0.480% First $1 billion 0.360% Next $2 billion 0.310% Next $16 billion
------------------------------------------------------------------------------
0.450% Next $1 billion 0.350% Next $2 billion 0.305% Next $30 billion
------------------------------------------------------------------------------
0.420% Next $1 billion 0.340% Next $5 billion 0.300% Next $40 billion
------------------------------------------------------------------------------
0.390% Next $1 billion 0.330% Next $10 billion 0.295% Thereafter
------------------------------------------------------------------------------
0.370% Next $1 billion 0.320% Next $10 billion
</TABLE>
For the purpose of calculating the Group Fee, the Price Funds include all the
mutual funds distributed by Investment Services, (excluding the T. Rowe Price
Spectrum Funds, and any institutional, index, or private label mutual funds).
For the purpose of calculating the Daily Price Funds' Group Fee Accrual for
any particular day, the net assets of each Price Fund are determined in
accordance with the funds' prospectus as of the close of business on the
previous business day on which the fund was open for business.
The monthly Fund Fee ("Monthly Fund Fee") is the sum of the daily Fund Fee
accruals ("Daily Fund Fee Accruals") for each month. The Daily Fund Fee
Accrual for any particular day is computed by multiplying the fraction of one
(1) over the number of calendar days in the year by the individual Fund Fee
Rate and
<PAGE>
multiplying this product by the net assets of the fund for that day, as
determined in accordance with the fund's prospectus as of the close of
business on the previous business day on which the fund was open for
business. The individual fund fees of each fund are listed in the following
chart:
<TABLE>
<CAPTION>
<S> <C>
California Tax-Free Bond Fund 0.10%
California Tax-Free Money Fund 0.10
Florida Intermediate Tax-Free Fund 0.05
Georgia Tax-Free Bond Fund 0.10
Maryland Tax-Free Bond Fund 0.10
Maryland Short-Term Tax-Free Bond Fund 0.10
New Jersey Tax-Free Bond Fund 0.10
New York Tax-Free Bond Fund 0.10
New York Tax-Free Money Fund 0.10
Virginia Tax-Free Bond Fund 0.10
Virginia Short-Term Tax-Free Bond Fund 0.10
Tax-Efficient Balanced Fund 0.20
Tax-Efficient Growth Fund 0.30
Tax-Exempt Money Fund 0.10
Tax-Free High Yield Fund 0.30
Tax-Free Income Fund 0.15
Tax-Free Intermediate Bond Fund 0.05
Tax-Free Short-Intermediate Fund 0.10
</TABLE>
The following chart sets forth the total management fees, if any, paid to T.
Rowe Price by each fund, during the last three years:
<TABLE>
<CAPTION>
Fund 2000 1999 1998
---- ---- ---- ----
<S> <C> <C> <C>
California Tax-Free Bond $ 932,000 $ 878,000 $ 744,000
California Tax-Free Money 344,000 333,000 263,000
Florida Intermediate Tax-Free 352,000 343,000 302,000
Georgia Tax-Free Bond 191,000 157,000 108,000
Maryland Tax-Free Bond 4,357,000 4,157,000 3,659,000
Maryland Short-Term Tax-Free Bond 532,000 468,000 488,000
New Jersey Tax-Free Bond 506,000 462,000 352,000
New York Tax-Free Bond 863,000 818,000 670,000
New York Tax-Free Money 384,000 348,000 281,000
Virginia Tax-Free Bond 1,171,000 1,081,000 895,000
Virginia Short-Term Tax-Free Bond 19,000 5,000 0(a)
Tax-Efficient Balanced 200,000 14,000 0(b)
Tax-Efficient Growth 192,000 0(b) 0(b)
Tax-Exempt Money 2,774,000 3,176,000 2,989,000
Tax-Exempt Money Fund-PLUS Class 55,000 2,000 0(b)
Tax-Free High Yield 7,823,000 8,119,000 7,051,000
Tax-Free Income 6,600,000 6,800,000 6,428,000
Tax-Free Intermediate Bond 455,000 438,000 391,000
Tax-Free Short-Intermediate 1,811,000 1,895,000 1,856,000
--------------------------------------------------------------------------------------------
</TABLE>
(a) Due to effect of expense limitations discussed below, the fund did
not pay T. Rowe Price an investment management fee.
(b) Prior to commencement of operations.
<PAGE>
Limitation on Fund Expenses
The Management Agreement between the fund and T. Rowe Price provides that the
fund will bear all expenses of its operations not specifically assumed by T.
Rowe Price.
For the purpose of determining whether a fund is entitled to reimbursement,
the expenses of a fund are calculated on a monthly basis. If a fund is
entitled to reimbursement, that month's advisory fee will be reduced or
postponed, with any adjustment made after the end of the year.
The following chart sets forth expense ratio limitations and the periods for
which they are effective. For each, T. Rowe Price has agreed to bear any fund
expenses which would cause the fund's ratio of expenses to average net assets
to exceed the indicated percentage limitations. The expenses borne by T. Rowe
Price are subject to reimbursement by the fund through the indicated
reimbursement date, provided no reimbursement will be made if it would result
in the fund's expense ratio exceeding its applicable limitation.
No reimbursements may be made for the California and New York Funds unless
approved by shareholders.
California Tax-Free Money Fund, Georgia Tax-Free Bond Fund, Maryland
Short-Term Tax-Free Bond Fund, New York Tax-Free Money Fund, Tax-Efficient
Balanced Fund, Tax-Efficient Growth Fund, Tax-Exempt Money Fund-PLUS Class,
and Virginia Short-Term Tax-Free Bond Fund
<TABLE>
<CAPTION>
Expense Reimbursement
Fund Limitation Period ------- -------------
---- ----------------- Ratio Date
----- ----
Limitation
----------
<S> <S> <C> <S>
0
.
March 1, 1999 - 55
California Tax-Free Money(a) February 28, 2001 % February 28, 2003
0.
March 1, 1999 - 65
Georgia Tax-Free Bond(b) February 28, 2001 % February 28, 2003
0
.
March 1, 1999 - 60
Maryland Short-Term Tax-Free Bond(c) February 28, 2001 % February 28, 2003
0
.
March 15, 1999 - 5
New York Tax-Free Money(d) February 28, 2001 5% February 28, 2003
1
.
March 1, 1999 - 00
Tax-Efficient Balanced(e) February 28, 2001 % February 28, 2003
1.
1
July 30, 1999 - 0
Tax-Efficient Growth February 28, 2001 % February 28, 2003
May 1, 2000 - April
Tax-Exempt Money Fund-PLUS Class(f) 30, 2001 1.00% April 30, 2002
0
March 1, 2000 - .
Virginia Short-Term Tax-Free Bond(g) February 28, 2000 6 February 29, 2004
0%
-----------------------------------------------------------------------------------------------------
</TABLE>
(a) The California Tax-Free Money Fund previously operated under a 0.55%
limitation that expired February 28, 1999. The reimbursement period for this
limitation extends through February 28, 2001.
(b) The Georgia Tax-Free Bond Fund previously operated under a 0.65% limitation
that expired February 28, 1999. The reimbursement period for this limitation
extends through February 28, 2001.
(c) The Maryland Short-Term Tax-Free Bond Fund previously operated under a
0.60% limitation that expired February 28, 1999. The reimbursement period for
this limitation extends through February 28, 2001.
(d) The New York Tax-Free Money Fund previously operated under a 0.55%
limitation that expired February 28, 1999. The reimbursement period for this
limitation extends through February 28, 2001.
(e) The Tax-Efficient Balanced Fund previously operated under a 1.00%
limitation that expired February 28, 1999. The reimbursement period for this
limitation extends through February 28, 2001.
(f) The Tax-Exempt Money Fund-PLUS Class previously operated under a 1.00%
limitation that expired April 30, 2000. The reimbursement period for this
limitation extends through April 30, 2001.
(g) The Virginia Short-Term Tax-Free Bond Fund previously operated under a
0.60% limitation that expired February 29, 2000. The reimbursement period for
this limitation extends through February 28, 2002.
Florida Intermediate Tax-Free, New Jersey Tax-Free Bond, and Tax-Free
Intermediate Bond Funds
The Florida Intermediate Tax-Free Fund previously operated under a 0.60%
limitation that expired February 28, 1999. The reimbursement period for this
limitation extends through February 28, 2001.
The New Jersey Tax-Free Bond Fund previously operated under a 0.65%
limitation that expired February 28, 1999. The reimbursement period for this
limitation extends through February 28, 2001.
The Tax-Free Intermediate Bond Fund previously operated under a 0.65%
limitation that expired February 28, 1998. The reimbursement period for this
limitation extends through February 29, 2000.
<PAGE>
California Tax-Free Money and New York Tax-Free Money Funds
Pursuant to the California Money Fund's present expense limitation, $80,000,
of management fees were not accrued for the year ended February 29, 2000.
Additionally, $188,000 of unaccrued management fees related to a previous
expense limitation remain subject to reimbursement through February 28, 2001.
Pursuant to the New York Money Fund's present expense limitations, $70,000 of
management fees were not accrued for the year ended February 29, 2000.
Additionally, $177,000 of unaccrued management fees related to a previous
expense limitation remain subject to reimbursement through February 28, 2001.
Florida Intermediate Tax-Free Fund
Pursuant to a previous expense limitation, $6,000 of unaccrued management
fees were repaid during the year ended February 29, 2000.
Georgia Tax-Free Bond Fund
Pursuant to the present expense limitation, $61,000 of management fees were
not accrued by the fund for the year ended February 29, 2000. Additionally,
$158,000 of unaccrued management fees related to a previous expense
limitation are subject to reimbursement through February 28, 2001.
Maryland Short-Term Tax-Free Bond Fund
Pursuant to a previous expense limitation, $2,000 of management fees were not
accrued by the fund for the year ended February 29, 2000. Additionally,
$7,000 of unaccrued management fees related to a previous expense limitation
are subject to reimbursement through February 28, 2001.
New Jersey Tax-Free Bond Fund
Pursuant to the previous expense limitation, $17,000 of unaccrued 1998-1999
fees were repaid during the year ended February 29, 2000, and $8,000 remains
subject to reimbursement through February 28, 2001.
Virginia Short-Term Tax-Free Bond Fund
Pursuant to the previous expense limitation, $96,000 of management fees were
not accrued for the year ended February 29, 2000, and $97,000 remain
unaccrued from a prior period.
Tax-Efficient Balanced Fund
Pursuant to the present expense limitation, $6,000 of management fees were
not accrued by the fund for the year ended February 29, 2000. Additionally,
$200,000 of unaccrued management fees and expenses related to a previous
limitation remain subject to reimbursement through February 28, 2001.
Tax-Efficient Growth Fund
Pursuant to the present expense limitation, $32,000 of management fees were
not accrued by the fund for the year ended February 29, 2000.
Tax-Free Intermediate Bond Fund
Pursuant to the previous expense limitation, $23,000 of unaccrued fees were
repaid during the year ended February 29, 2000.
Management Related Services
As noted above, the Management Agreement spells out the expenses to be paid
by the fund. In addition to the Management Fee, the fund pays for the
following: shareholder service expenses; custodial, accounting, legal, and
audit fees; costs of preparing and printing prospectuses and reports sent to
shareholders; registration fees and expenses; proxy and annual meeting
expenses (if any); and director/trustee fees and expenses.
T. Rowe Price Services, Inc., a wholly owned subsidiary of T. Rowe Price,
acts as the fund's transfer and dividend disbursing agent and provides
shareholder and administrative services. Services for certain types of
retirement plans are provided by T. Rowe Price Retirement Plan Services,
Inc., also a wholly owned subsidiary.
<PAGE>
The address for each is 100 East Pratt St., Baltimore, MD 21202.
Additionally, T. Rowe Price, under a separate agreement with the funds,
provides accounting services to the funds.
The funds paid the expenses shown in the following table for the fiscal year
ended February 29, 2000, to T. Rowe Price and its affiliates.
<TABLE>
<CAPTION>
Fund Transfer Agent and Accounting
---- ------------------ ----------
Shareholder Services Services
-------------------- --------
<S> <C> <C>
California Tax-Free Bond $ 122,000 $ 77,000
California Tax-Free Money 69,000 70,000
Florida Intermediate Tax-Free 54,000 70,000
Georgia Tax-Free Bond 52,000 70,000
Maryland Short-Term Tax-Free Bond 74,000 70,000
Maryland Tax-Free Bond 478,000 86,000
New Jersey Tax-Free Bond 86,000 70,000
New York Tax-Free Bond 138,000 77,000
New York Tax-Free Money 64,000 70,000
Virginia Short-Term Tax-Free Bond 25,000 65,000
Virginia Tax-Free Bond 165,000 70,000
Tax-Efficient Balanced 46,000 64,000
Tax-Efficient Growth 67,000 37,000
Tax-Exempt Money 2,888,000 105,000
Tax-Exempt Money Fund-PLUS Class 9,000 2,000
Tax-Free High Yield 615,000 116,000
Tax-Free Income 582,000 116,000
Tax-Free Intermediate Bond 101,000 70,000
Tax-Free Short-Intermediate 209,000 95,000
--------------------------------------------------------------------------
</TABLE>
DISTRIBUTOR FOR THE FUNDS
-------------------------------------------------------------------------------
Investment Services, a Maryland corporation formed in 1980 as a wholly owned
subsidiary of T. Rowe Price, serves as the fund's distributor. Investment
Services is registered as a broker-dealer under the Securities Exchange Act
of 1934 and is a member of the National Association of Securities Dealers,
Inc. The offering of the fund's shares is continuous.
Investment Services is located at the same address as the fund and T. Rowe
Price-100 East Pratt Street, Baltimore, Maryland 21202.
Investment Services serves as distributor to the fund pursuant to an
Underwriting Agreement ("Underwriting Agreement"), which provides that the
fund will pay all fees and expenses in connection with: necessary state
filings; preparing, setting in type, printing, and mailing its prospectuses
and reports to shareholders; and issuing its shares, including expenses of
confirming purchase orders.
The Underwriting Agreement provides that Investment Services will pay all
fees and expenses in connection with: printing and distributing prospectuses
and reports for use in offering and selling fund shares; preparing, setting
in type, printing, and mailing all sales literature and advertising;
Investment Services' federal and state registrations as a broker-dealer; and
offering and selling shares, except for those fees and expenses specifically
assumed by the fund. Investment Services' expenses are paid by T. Rowe Price.
<PAGE>
Investment Services acts as the agent of the fund in connection with the sale
of its shares in the various states in which Investment Services is qualified
as a broker-dealer. Under the Underwriting Agreement, Investment Services
accepts orders for fund shares at net asset value. No sales charges are paid
by investors or the fund.
CUSTODIAN
-------------------------------------------------------------------------------
State Street Bank and Trust Company is the custodian for the fund's U.S.
securities and cash, but it does not participate in the fund's investment
decisions. Portfolio securities purchased in the U.S. are maintained in the
custody of the Bank and may be entered into the Federal Reserve Book Entry
System, or the security depository system of the Depository Trust
Corporation. State Street Bank's main office is at 225 Franklin Street,
Boston, Massachusetts 02110.
Tax-Efficient Balanced and Tax-Efficient Growth Funds
The fund has entered into a Custodian Agreement with The Chase Manhattan
Bank, N.A., London, pursuant to which portfolio securities which are
purchased outside the United States are maintained in the custody of various
foreign branches of The Chase Manhattan Bank and such other custodians,
including foreign banks and foreign securities depositories as are approved
in accordance with regulations under the 1940 Act. The address for The Chase
Manhattan Bank, N.A., London is Woolgate House, Coleman Street, London, EC2P
2HD, England.
All Funds
SERVICES BY OUTSIDE PARTIES
-------------------------------------------------------------------------------
The shares of some fund shareholders are held in omnibus accounts maintained
by various third parties, including retirement plan sponsors, insurance
companies, banks and broker-dealers. The fund has adopted an administrative
fee payment ("AFP") program that authorizes the fund to make payments to
these third parties. The payments are made for transfer agent, recordkeeping
and other administrative services provided by, or on behalf of, the third
parties with respect to such shareholders and the omnibus accounts. Under the
AFP program, the funds paid the amounts set forth below to various third
parties in 1999.
CODE OF ETHICS
-------------------------------------------------------------------------------
The fund's investment adviser (T. Rowe Price) has a written Code of Ethics
which requires all Access Persons to obtain prior clearance before engaging
in personal securities transactions. In addition, all Access Persons must
report their personal securities transactions within 10 days of their
execution. Access Persons will not be permitted to effect transactions in a
security: if there are pending client orders in the security; the security
has been purchased or sold by a client within seven calendar days; the
security is being considered for purchase for a client; or the security is
subject to internal trading restrictions. In addition, Access Persons are
prohibited from profiting from short-term trading (e.g., purchases and sales
involving the same security within 60 days). Any person becoming an Access
Person must file a statement of personal securities holdings within 10 days
of this date. All Access Persons are required to file an annual statement
with respect to their personal securities holdings. Any material violation of
the Code of Ethics is reported to the Board of the fund. The Board also
reviews the administration of the Code of Ethics on an annual basis.
<PAGE>
PORTFOLIO TRANSACTIONS
-------------------------------------------------------------------------------
Investment or Brokerage Discretion
Decisions with respect to the purchase and sale of portfolio securities on
behalf of the fund are made by T. Rowe Price. T. Rowe Price is also
responsible for implementing these decisions, including the negotiation of
commissions and the allocation of portfolio brokerage and principal business.
The fund's purchases and sales of fixed income portfolio securities are
normally done on a principal basis and do not involve the payment of a
commission although they may involve the designation of selling concessions.
That part of the discussion below relating solely to brokerage commissions
would not normally apply to the fund (other than Tax-Efficient Balanced and
Tax-Efficient Growth Funds to the extent they purchase equity securities).
However, it is included because T. Rowe Price does manage a significant
number of common stock portfolios (including the equity portion of the
Tax-Efficient Balanced and Tax-Efficient Growth Funds) which do engage in
agency transactions and pay commissions and because some research and
services resulting from the payment of such commissions may benefit the fund.
How Brokers and Dealers Are Selected
Equity Securities
In purchasing and selling equity securities, it is T. Rowe Price's policy to
obtain quality execution at the most favorable prices through responsible
brokers and dealers and at competitive commission rates where such rates are
negotiable. However, under certain conditions, the fund may pay higher
brokerage commissions in return for brokerage and research services. As a
general practice, over-the-counter orders are executed with market-makers. In
selecting among market-makers, T. Rowe Price generally seeks to select those
it believes to be actively and effectively trading the security being
purchased or sold. In selecting broker-dealers to execute the fund's
portfolio transactions, consideration is given to such factors as the price
of the security, the rate of the commission, the size and difficulty of the
order, the reliability, integrity, financial condition, general execution and
operational capabilities of competing brokers and dealers, their expertise in
particular markets and brokerage and research services provided by them. It
is not the policy of T. Rowe Price to seek the lowest available commission
rate where it is believed that a broker or dealer charging a higher
commission rate would offer greater reliability or provide better price or
execution.
Fixed Income Securities
Fixed income securities are generally purchased from the issuer or a primary
market-maker acting as principal for the securities on a net basis, with no
brokerage commission being paid by the client although the price usually
includes an undisclosed compensation. Transactions placed through dealers
serving as primary market-makers reflect the spread between the bid and asked
prices. Securities may also be purchased from underwriters at prices which
include underwriting fees.
With respect to equity and fixed income securities, T. Rowe Price may effect
principal transactions on behalf of the fund with a broker or dealer who
furnishes brokerage and/or research services, designate any such broker or
dealer to receive selling concessions, discounts, or other allowances, or
otherwise deal with any such broker or dealer in connection with the
acquisition of securities in underwritings. T. Rowe Price may receive
research services in connection with brokerage transactions, including
designations in fixed price offerings.
How Evaluations Are Made of the Overall Reasonableness of Brokerage Commissions
Paid
On a continuing basis, T. Rowe Price seeks to determine what levels of
commission rates are reasonable in the marketplace for transactions executed
on behalf of the fund. In evaluating the reasonableness of commission rates,
T. Rowe Price considers: (a) historical commission rates; (b) rates which
other institutional investors are paying, based on available public
information; (c) rates quoted by brokers and dealers; (d) the size of a
particular transaction, in terms of the number of shares, dollar amount, and
number of clients involved; (e) the complexity of a particular transaction in
terms of both execution and settlement; (f) the level and type of business
done with a particular firm over a period of time; and (g) the extent to
which the broker or dealer has capital at risk in the transaction.
<PAGE>
Descriptions of Research Services Received From Brokers and Dealers
T. Rowe Price receives a wide range of research services from brokers and
dealers. These services include information on the economy, industries,
groups of securities, individual companies, statistical information,
accounting and tax law interpretations, political developments, legal
developments affecting portfolio securities, technical market action, pricing
and appraisal services, credit analysis, risk measurement analysis,
performance analysis, and analysis of corporate responsibility issues. These
services provide both domestic and international perspective. Research
services are received primarily in the form of written reports, computer
generated services, telephone contacts, and personal meetings with security
analysts. In addition, such services may be provided in the form of meetings
arranged with corporate and industry spokespersons, economists, academicians,
and government representatives. In some cases, research services are
generated by third parties but are provided to T. Rowe Price by or through
broker-dealers.
Research services received from brokers and dealers are supplemental to T.
Rowe Price's own research effort and, when utilized, are subject to internal
analysis before being incorporated by T. Rowe Price into its investment
process. As a practical matter, it would not be possible for T. Rowe Price's
Equity Research Division to generate all of the information presently
provided by brokers and dealers. T. Rowe Price pays cash for certain research
services received from external sources. T. Rowe Price also allocates
brokerage for research services which are available for cash. While receipt
of research services from brokerage firms has not reduced T. Rowe Price's
normal research activities, the expenses of T. Rowe Price could be materially
increased if it attempted to generate such additional information through its
own staff. To the extent that research services of value are provided by
brokers or dealers, T. Rowe Price may be relieved of expenses which it might
otherwise bear.
T. Rowe Price has a policy of not allocating brokerage business in return for
products or services other than brokerage or research services. In accordance
with the provisions of Section 28(e) of the Securities Exchange Act of 1934,
T. Rowe Price may from time to time receive services and products which serve
both research and non-research functions. In such event, T. Rowe Price makes
a good faith determination of the anticipated research and non-research use
of the product or service and allocates brokerage only with respect to the
research component.
Commissions to Brokers Who Furnish Research Services
Certain brokers and dealers who provide quality brokerage and execution
services also furnish research services to T. Rowe Price. With regard to the
payment of brokerage commissions, T. Rowe Price has adopted a brokerage
allocation policy embodying the concepts of Section 28(e) of the Securities
Exchange Act of 1934, which permits an investment adviser to cause an account
to pay commission rates in excess of those another broker or dealer would
have charged for effecting the same transaction, if the adviser determines in
good faith that the commission paid is reasonable in relation to the value of
the brokerage and research services provided. The determination may be viewed
in terms of either the particular transaction involved or the overall
responsibilities of the adviser with respect to the accounts over which it
exercises investment discretion. Accordingly, while T. Rowe Price cannot
readily determine the extent to which commission rates or net prices charged
by broker-dealers reflect the value of their research services, T. Rowe Price
would expect to assess the reasonableness of commissions in light of the
total brokerage and research services provided by each particular broker. T.
Rowe Price may receive research, as defined in Section 28(e), in connection
with selling concessions and designations in fixed price offerings in which
the funds participate.
Internal Allocation Procedures
T. Rowe Price has a policy of not precommitting a specific amount of business
to any broker or dealer over any specific time period. Historically, the
majority of brokerage placement has been determined by the needs of a
specific transaction such as market-making, availability of a buyer or seller
of a particular security, or specialized execution skills. However, T. Rowe
Price does have an internal brokerage allocation procedure for that portion
of its discretionary client brokerage business where special needs do not
exist, or where the business may be allocated among several brokers or
dealers which are able to meet the needs of the transaction.
<PAGE>
Each year, T. Rowe Price assesses the contribution of the brokerage and
research services provided by brokers or dealers, and attempts to allocate a
portion of its brokerage business in response to these assessments. Research
analysts, counselors, various investment committees, and the Trading
Department each seek to evaluate the brokerage and research services they
receive from brokers or dealers and make judgments as to the level of
business which would recognize such services. In addition, brokers or dealers
sometimes suggest a level of business they would like to receive in return
for the various brokerage and research services they provide. Actual
brokerage received by any firm may be less than the suggested allocations but
can, and often does, exceed the suggestions, because the total business is
allocated on the basis of all the considerations described above. In no case
is a broker or dealer excluded from receiving business from T. Rowe Price
because it has not been identified as providing research services.
Miscellaneous
T. Rowe Price's brokerage allocation policy is consistently applied to all
its fully discretionary accounts, which represent a substantial majority of
all assets under management. Research services furnished by brokers or
dealers through which T. Rowe Price effects securities transactions may be
used in servicing all accounts (including non-fund accounts) managed by T.
Rowe Price. Conversely, research services received from brokers or dealers
which execute transactions for the fund are not necessarily used by T. Rowe
Price exclusively in connection with the management of the fund.
From time to time, orders for clients may be placed through a computerized
transaction network.
The fund does not allocate business to any broker-dealer on the basis of its
sales of the fund's shares. However, this does not mean that broker-dealers
who purchase fund shares for their clients will not receive business from the
fund.
Some of T. Rowe Price's other clients have investment objectives and programs
similar to those of the fund. T. Rowe Price may occasionally make
recommendations to other clients which result in their purchasing or selling
securities simultaneously with the fund. As a result, the demand for
securities being purchased or the supply of securities being sold may
increase, and this could have an adverse effect on the price of those
securities. It is T. Rowe Price's policy not to favor one client over another
in making recommendations or in placing orders. T. Rowe Price frequently
follows the practice of grouping orders of various clients for execution
which generally results in lower commission rates being attained. In certain
cases, where the aggregate order is executed in a series of transactions at
various prices on a given day, each participating client's proportionate
share of such order reflects the average price paid or received with respect
to the total order. T. Rowe Price has established a general investment policy
that it will ordinarily not make additional purchases of a common stock of a
company for its clients (including the T. Rowe Price funds) if, as a result
of such purchases, 10% or more of the outstanding common stock of such
company would be held by its clients in the aggregate.
To the extent possible, T. Rowe Price intends to recapture solicitation fees
paid in connection with tender offers through Investment Services, the fund's
distributor. At the present time, T. Rowe Price does not recapture
commissions or underwriting discounts or selling group concessions in
connection with taxable securities acquired in underwritten offerings. T.
Rowe Price does, however, attempt to negotiate elimination of all or a
portion of the selling group concession or underwriting discount when
purchasing tax-exempt municipal securities on behalf of its clients in
underwritten offerings.
Trade Allocation Policies
T. Rowe Price has developed written trade allocation guidelines for its
Equity, Municipal, and Taxable Fixed Income Trading Desks. Generally, when
the amount of securities available in a public offering or the secondary
market is insufficient to satisfy the volume or price requirements for the
participating client portfolios, the guidelines require a pro-rata allocation
based upon the amounts initially requested by each portfolio manager. In
allocating trades made on combined basis, the Trading Desks seek to achieve
the same net unit price of the securities for each participating client.
Because a pro-rata allocation may not always adequately accommodate all facts
and circumstances, the guidelines provide for exceptions to allocate trades
on an adjusted, pro-rata basis. Examples of where adjustments may be made
include: (i) reallocations to
<PAGE>
recognize the efforts of a portfolio manager in negotiating a transaction or
a private placement; (ii) reallocations to eliminate deminimis positions;
(iii) priority for accounts with specialized investment policies and
objectives; and (iv) reallocations in light of a participating portfolio's
characteristics (e.g., industry or issuer concentration, duration, and credit
exposure).
Transactions With Related Brokers and Dealers
As provided in the Investment Management Agreement between the fund and T.
Rowe Price, T. Rowe Price is responsible not only for making decisions with
respect to the purchase and sale of the fund's portfolio securities, but also
for implementing these decisions, including the negotiation of commissions
and the allocation of portfolio brokerage and principal business. It is
expected that, from time to time, T. Rowe Price may place orders for the
fund's portfolio transactions with broker-dealer affiliates of Robert Fleming
Holdings Limited ("RF"), an affiliate of Price-Fleming. RF, through Copthall
Overseas Limited, a wholly owned subsidiary, owns 25% of the common stock of
Price-Fleming. Fifty percent of the common stock of Price-Fleming is owned by
TRP Finance, Inc., a wholly owned subsidiary of T. Rowe Price, and the
remaining 25% is owned by Jardine Fleming International Holdings Limited, a
wholly owned subsidiary of Jardine Fleming Group Limited ("JF"). JF is owned
by RF.
The Board of Directors/Trustees of the fund has authorized T. Rowe Price to
utilize certain affiliates of RF and JF in the capacity of broker in
connection with the execution of the fund's portfolio transactions. Other
affiliates of RF and JF also may be used. Although it does not believe that
the fund's use of these brokers would be subject to Section 17(e) of the 1940
Act, the Board of Directors/Trustees of the fund has agreed that the
procedures set forth in Rule 17e-1 under that Act will be followed when using
such brokers.
Other
The funds engaged in portfolio transactions involving broker-dealers in the
following amounts for the fiscal years ended February 29, 2000, February 28,
1999, and 1998:
<TABLE>
<CAPTION>
Fund 2000 1999 1998
---- ---- ---- ----
<S> <C> <C> <C>
California Tax-Free Bond $ 399,657,000 $ 302,677,000 $ 289,794,000
California Tax-Free Money 529,005,000 515,251,000 506,606,000
Florida Intermediate Tax-Free 164,457,000 141,767,000 142,932,000
Georgia Tax-Free Bond 128,761,000 73,638,000 97,029,000
Maryland Tax-Free Bond 1,074,813,000 837,338,000 918,045,000
Maryland Short-Term Tax-Free
Bond 208,764,000 191,989,000 221,540,000
New Jersey Tax-Free Bond 246,768,000 158,774,000 161,209,000
New York Tax-Free Bond 557,693,000 445,461,000 354,373,000
New York Tax-Free Money 445,916,000 553,482,000 444,785,000
Virginia Tax-Free Bond 501,953,000 492,844,000 563,466,000
Virginia Short-Term Tax-Free
Bond 54,221,000 40,289,000 56,461,000
Tax-Efficient Balanced 35,978,000 51,569,000 39,110,000
Tax-Efficient Growth 190,748,000 0(a) 0(a)
Tax-Exempt Money 3,074,940,000 3,124,018,000 3,600,294,000
Tax-Free High Yield 2,863,124,000 2,000,100,000 1,755,491,000
Tax-Free Income 2,483,560,000 1,941,518,000 2,257,818,000
Tax-Free Intermediate Bond 233,442,000 153,826,000 272,682,000
Tax-Free Short-Intermediate 940,315,000 642,536,000 1,149,079,000
-------------------------------------------------------------------------------
</TABLE>
(a) Prior to commencement of operations.
<PAGE>
The following amounts consisted of principal transactions as to which the
funds have no knowledge of the profits or losses realized by the respective
broker-dealers for the fiscal years ended February 29, 2000, February 28,
1999, and 1998:
<TABLE>
<CAPTION>
Fund 2000 1999 1998
---- ---- ---- ----
<S> <C> <C> <C>
California Tax-Free Bond $ 363,741,000 $ 251,425,000 $ 253,929,000
California Tax-Free Money 529,005,000 510,210,000 503,591,000
Florida Intermediate Tax-Free 157,690,000 129,590,000 128,653,000
Georgia Tax-Free Bond 111,145,000 60,945,000 85,009,000
Maryland Tax-Free Bond 936,693,000 708,876,000 793,036,000
Maryland Short-Term Tax-Free
Bond 202,708,000 188,399,000 193,471,000
New Jersey Tax-Free Bond 210,964,000 140,671,000 136,223,000
New York Tax-Free Bond 509,250,000 383,633,000 299,419,000
New York Tax-Free Money 445,916,000 542,945,000 441,384,000
Virginia Tax-Free Bond 453,295,000 419,010,000 518,159,000
Virginia Short-Term Tax-Free
Bond 53,091,000 35,660,000 55,291,000
Tax-Efficient Balanced 27,426,000 37,355,000 27,555,000
Tax-Efficient Growth 108,589,000 0(a) 0(a)
Tax-Exempt Money 3,074,134,000 3,089,301,000 3,586,230,000
Tax-Free High Yield 2,557,197,000 1,644,317,000 1,527,098,000
Tax-Free Income 2,190,578,000 1,651,454,000 1,959,351,000
Tax-Free Intermediate Bond 221,818,000 143,749,000 249,144,000
Tax-Free Short-Intermediate 917,005,000 603,036,000 1,083,550,000
-------------------------------------------------------------------------------
</TABLE>
(a) Prior to commencement of operations.
The following amounts involved trades with brokers acting as agents or
underwriters for the fiscal years ended February 29, 2000, February 28, 1999,
and 1998:
<TABLE>
<CAPTION>
Fund 2000 1999 1998
---- ---- ---- ----
<S> <C> <C> <C>
California Tax-Free Bond $ 35,916,000 $ 51,252,000 $ 35,865,000
California Tax-Free Money 0 5,041,000 3,016,000
Florida Intermediate Tax-Free 6,767,000 12,177,000 14,279,000
Georgia Tax-Free Bond 17,616,000 12,693,000 12,020,000
Maryland Tax-Free Bond 138,120,000 128,462,000 125,009,000
Maryland Short-Term Tax-Free Bond 6,056,000 3,590,000 28,069,000
New Jersey Tax-Free Bond 35,804,000 18,103,000 24,987,000
New York Tax-Free Bond 48,443,000 61,828,000 54,954,000
New York Tax-Free Money 0 10,537,000 3,401,000
Virginia Tax-Free Bond 48,658,000 73,834,000 45,307,000
Virginia Short-Term Tax-Free Bond 1,130,000 4,629,000 1,170,000
Tax-Efficient Balanced 8,552,000 14,214,000 11,555,000
Tax-Efficient Growth 82,159,000 0(a) 0(a)
Tax-Exempt Money 806,000 34,717,000 14,064,000
Tax-Free High Yield 305,927,000 355,783,000 228,393,000
Tax-Free Income 292,982,000 290,064,000 298,468,000
Tax-Free Intermediate Bond 11,624,000 10,077,000 23,538,000
Tax-Free Short-Intermediate 23,310,000 39,500,000 65,529,000
-----------------------------------------------------------------------------
</TABLE>
(a) Prior to commencement of operations.
<PAGE>
The following amounts involved trades with brokers acting as agents or
underwriters, in which such brokers received total commissions, including
discounts received in connection with underwritings for the fiscal years
ended February 29, 2000, February 28, 1999, and 1998:
<TABLE>
<CAPTION>
Fund 2000 1999 1998
---- ---- ---- ----
<S> <C> <C> <C>
California Tax-Free Bond $ 228,000 $ 273,000 $ 206,000
California Tax-Free Money 0 10,000 2,000
Florida Intermediate Tax-Free 40,000 48,000 59,000
Georgia Tax-Free Bond 80,000 51,000 74,000
Maryland Tax-Free Bond 660,000 545,000 680,000
Maryland Short-Term Tax-Free Bond 45,000 16,000 106,000
New Jersey Tax-Free Bond 151,000 88,000 176,000
New York Tax-Free Bond 280,000 353,000 362,000
New York Tax-Free Money 0 1,000 24,000
Virginia Tax-Free Bond 238,000 346,000 271,000
Virginia Short-Term Tax-Free Bond 14,000 17,000 6,000
Tax-Efficient Balanced 50,000 47,000 33,000
Tax-Efficient Growth 41,000 0(a) 0(a)
Tax-Exempt Money 8,000 131,000 32,000
Tax-Free High Yield 2,301,000 2,152,000 1,655,000
Tax-Free Income 1,409,000 1,488,000 1,747,000
Tax-Free Intermediate Bond 46,000 49,000 112,000
Tax-Free Short-Intermediate 110,000 147,000 289,000
--------------------------------------------------------------------------------------------
</TABLE>
(a) Prior to commencement of operations.
Of all such portfolio transactions, none were placed with firms which
provided research, statistical, or other services to T. Rowe Price in
connection with the management of the funds, or in some cases, to the funds.
The portfolio turnover rate for each fund for the fiscal years ended February
29, 2000, February 28, 1999, and 1998, was as follows:
<TABLE>
<CAPTION>
Fund 2000 1999 1998
---- ---- ---- ----
<S> <C> <C> <C>
California Tax-Free Bond 40.8% 27.2% 35.0%
California Tax-Free Money N/A N/A N/A
Florida Intermediate Tax-Free 30.9 26.9 25.0
Georgia Tax-Free Bond 48.5 19.9 49.0
Maryland Tax-Free Bond 29.2 15.4 19.2
Maryland Short-Term Tax-Free Bond 41.4 46.4 60.4
New Jersey Tax-Free Bond 50.2 25.5 34.3
New York Tax-Free Bond 77.5 55.4 55.0
New York Tax-Free Money N/A N/A N/A
Virginia Tax-Free Bond 48.1 47.3 64.3
Virginia Short-Term Tax-Free Bond 39.3 22.5 75.0
Tax-Efficient Balanced 40.0 19.8 12.5
Tax-Efficient Growth 23.4 0(a) 0(a)
Tax-Exempt Money N/A N/A N/A
Tax-Free High Yield 57.4 38.9 24.4
Tax-Free Income 44.3 34.1 36.3
Tax-Free Intermediate Bond 47.6 24.3 56.1
Tax-Free Short-Intermediate 49.7 39.9 76.8
---------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
(a) Prior to commencement of operations.
PRICING OF SECURITIES
-------------------------------------------------------------------------------
Fixed income securities are generally traded in the over-the-counter market.
With the exception of the Money Funds, investments in securities are stated
at fair value using a bid-side valuation as furnished by dealers who make
markets in such securities or by an independent pricing service, which
considers yield or price of bonds of comparable quality, coupon, maturity,
and type, as well as prices quoted by dealers who make markets in such
securities. Securities held by the Money Funds are valued at amortized cost.
There are a number of pricing services available, and the Board of
Directors/Trustees, on the basis of an ongoing evaluation of these services,
may use or may discontinue the use of any pricing service in whole or part.
Securities or other assets for which the above valuation procedures are
deemed not to reflect fair value will be appraised at prices deemed best to
reflect their fair value. Such determinations will be made in good faith by
or under the supervision of officers of each fund as authorized by the Board
of Directors/Trustees.
Tax-Efficient Balanced and Tax-Efficient Growth Funds
Equity securities listed or regularly traded on a securities exchange are
valued at the last quoted sales price at the time the valuations are made. A
security that is listed or traded on more than one exchange is valued at the
quotation on the exchange determined to be the primary market for such
security. Listed securities not traded on a particular day and securities
regularly traded in the over-the-counter market are valued at the mean of the
latest bid and asked prices. Other equity securities are valued at a price
within the limits of the latest bid and asked prices deemed by the Board of
Directors/Trustees, or by persons delegated by the Board, best to reflect
fair value.
Investments in mutual funds are valued at the closing net asset value per
share of the mutual fund on the day of valuation. In the absence of a last
sale price, purchased and written options are valued at the mean of the
latest bid and asked prices, respectively.
For the purposes of determining the fund's net asset value per share, the
U.S. dollar value of all assets and liabilities initially expressed in
foreign currencies is determined by using the mean of the bid and offer
prices of such currencies against U.S. dollars quoted by a major bank.
Assets and liabilities for which the above valuation procedures are
inappropriate or are deemed not to reflect fair value, are stated at fair
value as determined in good faith by or under the supervision of the officers
of the fund, as authorized by the Board of Directors/Trustees.
Maintenance of Money Fund's Net Asset Value Per Share at $1.00
It is the policy of the fund to attempt to maintain a net asset value of
$1.00 per share by using the amortized cost method of valuation permitted by
Rule 2a-7 under the 1940 Act. Under this method, securities are valued by
reference to the fund's acquisition cost as adjusted for amortization of
premium or accumulation of discount rather than by reference to their market
value. Under Rule 2a-7:
(a) The Board of Directors/Trustees must establish written procedures
reasonably designed, taking into account current market conditions and
the fund's investment objectives, to stabilize the fund's net asset
<PAGE>
value per share, as computed for the purpose of distribution, redemption
and repurchase, at a single value;
(b) The fund must (i) maintain a dollar-weighted average portfolio maturity
appropriate to its objective of maintaining a stable price per share,
(ii) not purchase any instrument with a remaining maturity greater than
397 days, and (iii) maintain a dollar-weighted average portfolio maturity
of 90 days or less;
(c) The fund must limit its purchase of portfolio instruments, including
repurchase agreements, to those U.S. dollar-denominated instruments which
the fund's Board of Directors/Trustees determines present minimal credit
risks, and which are eligible securities as defined by Rule 2a-7; and
(d) The Board of Directors/Trustees must determine that (i) it is in the best
interest of the fund and its shareholders to maintain a stable net asset
value per share under the amortized cost method; and (ii) the fund will
continue to use the amortized cost method only so long as the Board of
Directors/Trustees believes that it fairly reflects the market based net
asset value per share.
Although the fund believes that it will be able to maintain its net asset
value at $1.00 per share under most conditions, there can be no absolute
assurance that it will be able to do so on a continuous basis. If the fund's
net asset value per share declined, or was expected to decline, below $1.00
(rounded to the nearest one cent), the Board of Directors/Trustees of the
fund might temporarily reduce or suspend dividend payments in an effort to
maintain the net asset value at $1.00 per share. As a result of such
reduction or suspension of dividends, an investor would receive less income
during a given period than if such a reduction or suspension had not taken
place. Such action could result in an investor receiving no dividend for the
period during which he holds his shares and in his receiving, upon
redemption, a price per share lower than that which he paid. On the other
hand, if the fund's net asset value per share were to increase, or were
anticipated to increase above $1.00 (rounded to the nearest one cent), the
Board of Directors/Trustees of the fund might supplement dividends in an
effort to maintain the net asset value at $1.00 per share.
NET ASSET VALUE PER SHARE
-------------------------------------------------------------------------------
The purchase and redemption price of the fund's shares is equal to the fund's
net asset value per share or share price. The fund determines its net asset
value per share by subtracting its liabilities (including accrued expenses
and dividends payable) from its total assets (the market value of the
securities the fund holds plus cash and other assets, including income
accrued but not yet received) and dividing the result by the total number of
shares outstanding. The net asset value per share of the fund is normally
calculated as of the close of trading on the New York Stock Exchange ("NYSE")
every day the NYSE is open for trading. The NYSE is closed on the following
days: New Year's Day, Dr. Martin Luther King, Jr. Holiday, Presidents' Day,
Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day, and
Christmas Day.
Determination of net asset value (and the offering, sale redemption and
repurchase of shares) for the fund may be suspended at times (a) during which
the NYSE is closed, other than customary weekend and holiday closings, (b)
during which trading on the NYSE is restricted, (c) during which an emergency
exists as a result of which disposal by the fund of securities owned by it is
not reasonably practicable or it is not reasonably practicable for the fund
fairly to determine the value of its net assets, or (d) during which a
governmental body having jurisdiction over the fund may by order permit such
a suspension for the protection of the fund's shareholders; provided that
applicable rules and regulations of the SEC (or any succeeding governmental
authority) shall govern as to whether the conditions prescribed in (b), (c),
or (d) exist.
<PAGE>
DIVIDENDS AND DISTRIBUTIONS
-------------------------------------------------------------------------------
Unless you elect otherwise, the fund's annual capital gain distribution and,
for the Tax-Efficient Balanced and Tax-Efficient Growth Funds, the annual
dividend, if any, will be reinvested on the reinvestment date using the NAV
per share of that date. The reinvestment date may precede the payment date by
as much as one day although the exact timing is subject to change and can be
as great as 10 days.
TAX STATUS
-------------------------------------------------------------------------------
The fund intends to qualify as a "regulated investment company" under
Subchapter M of the Code.
Generally, dividends paid by the funds are not eligible for the
dividends-received deduction applicable to corporate shareholders. For tax
purposes, it does not make any difference whether dividends and capital gain
distributions are paid in cash or in additional shares. Each fund must
declare by its year-end dividends equal to at least 90% of net tax-exempt
income (as of its year-end) to permit pass-through of tax-exempt income to
shareholders. Each fund must also declare dividends by December 31 of each
year equal to at least 98% of capital gains (as of October 31) in order to
avoid a federal excise tax, and distribute within 12 months 100% of taxable
income, if any, and capital gains (as of its tax year-end) to avoid federal
income tax.
At the time of your purchase, the fund's net asset value may reflect
undistributed capital gains or net unrealized appreciation of securities held
by the fund. A subsequent distribution to you of such amounts, although
constituting a return of your investment, would be taxable as a capital gain
distribution. For federal income tax purposes, the fund is permitted to carry
forward its net realized capital losses, if any, for eight years and realize
net capital gains up to the amount of such losses without being required to
pay taxes on, or distribute, such gains.
If, in any taxable year, the fund should not qualify as a regulated
investment company under the code: (i) the fund would be taxed at normal
corporate rates on the entire amount of its taxable income, if any, without
deduction for dividends or other distributions to shareholders; and (ii) the
fund's distributions to the extent made out of the fund's current or
accumulated earnings and profits would be taxable to shareholders as ordinary
dividends (regardless of whether they would otherwise have been considered
capital gain dividends).
The funds (other than Tax-Efficient Growth Fund) may acquire bonds after
initial issuance at a price less than the principal amount of such bonds
("market discount bonds"). Gain on the disposition of such bonds is treated
as taxable ordinary income to the extent of accrued market discount. Such
gains cannot be offset by losses on the sale of other securities but must be
distributed to shareholders annually and taxed as ordinary income.
Each year, the funds will mail you information on the tax status of dividends
and distributions.
All Funds (other than Tax-Efficient Balanced and Tax-Efficient Growth Funds)
The funds anticipate that substantially all of the dividends to be paid by
each fund will be exempt from federal income taxes. If any portion of a
fund's dividends is not exempt from federal income taxes, you will receive a
Form 1099-DIV stating the taxable portion. The funds will also advise you of
the percentage of your dividends, if any, which should be included in the
computation of alternative minimum tax. Social Security recipients who
receive interest from tax-exempt securities may have to pay taxes on a
portion of their Social Security benefit.
Because the interest on municipal securities is tax exempt, any interest on
money you borrow that is directly or indirectly used to purchase fund shares
is not deductible. (See Section 265(2) of the Internal Revenue Code.)
Further, entities or persons who are "substantial users" (or persons related
to "substantial users") of facilities financed by industrial development
bonds should consult their tax advisers before purchasing shares of a fund.
The income from such bonds may not be tax exempt for such substantial users.
<PAGE>
Tax-Efficient Growth Fund
A portion of the dividends paid by certain funds may be eligible for the
dividends-received deduction applicable to corporate shareholders. Long-term
capital gain distributions paid from these funds are never eligible for the
dividend received deduction. For tax purposes, it does not make any
difference whether dividends and capital gain distributions are paid in cash
or in additional shares. Each fund must declare dividends by December 31 of
each year equal to at least 98% of ordinary income (as of December 31) and
capital gains (as of October 31) in order to avoid a federal excise tax and
distribute within 12 months 100% of ordinary income and capital gains (as of
its tax year-end) to avoid a federal income tax.
Florida Intermediate Tax-Free Fund
Although Florida does not have a state income tax, it does impose an
intangible personal property tax (intangibles tax) on assets, including
shares of mutual funds. This tax is based on the net asset value of shares
owned on January 1.
Under Florida law, shares of the fund will be entirely exempt from the
intangibles tax if on January 1, at least 90% of the fund's portfolio of
assets is invested in certain exempt Florida securities, U.S. government
securities, certain short-term cash investments, or other exempt securities.
If, on January 1, less than 90% of the fund's portfolio of assets is invested
in these tax-exempt securities, only that portion of a share's net asset
value represented by U.S. government securities will be exempt from the
intangibles tax. Because the fund will make every effort to have its
portfolio invested exclusively in exempt Florida municipal obligations (and
other qualifying investments) on January 1, shares of the fund should be
exempt from the intangibles tax. However, under certain circumstances, the
fund may invest in securities other than Florida municipal obligations and
there can be no guarantee that such non-exempt investments would not be in
the fund's portfolio on January 1. In such cases, all or a portion of the
value of the fund's shares may be subject to the intangibles tax, and a
portion of the fund's income may be subject to federal income taxes.
Tax-Efficient Balanced and Tax-Efficient Growth Funds
Taxation of Foreign Shareholders
The Code provides that dividends from net income will be subject to U.S. tax.
For shareholders who are not engaged in a business in the U.S., this tax
would be imposed at the rate of 30% upon the gross amount of the dividends in
the absence of a Tax Treaty providing for a reduced rate or exemption from
U.S. taxation. Distributions of net long-term capital gains realized by the
fund are not subject to tax unless the foreign shareholder is a nonresident
alien individual who was physically present in the U.S. during the tax year
for more than 182 days.
Passive Foreign Investment Companies
The fund may purchase the securities of certain foreign investment funds or
trusts called passive foreign investment companies. Such trusts have been the
only or primary way to invest in certain countries. In addition to bearing
their proportionate share of the trust's expenses (management fees and
operating expenses), shareholders will also indirectly bear similar expenses
of such trusts. Capital gains on the sale of such holdings are considered
ordinary income regardless of how long the fund held its investment. In
addition, the fund may be subject to corporate income tax and an interest
charge on certain dividends and capital gains earned from these investments,
regardless of whether such income and gains are distributed to shareholders.
To avoid such tax and interest, the fund intends to treat these securities as
sold on the last day of its fiscal year and recognize any gains for tax
purposes at that time; deductions for losses are allowable only to the extent
of any gains resulting from these deemed sales for prior taxable years. Such
gains and losses will be treated as ordinary income. The fund will be
required to distribute any resulting income even though it has not sold the
security and received cash to pay such distributions.
<PAGE>
Foreign Currency Gains and Losses
Foreign currency gains and losses, including the portion of gain or loss on
the sale of debt securities attributable to foreign exchange rate
fluctuations, are taxable as ordinary income. If the net effect of these
transactions is a gain, the ordinary income dividend paid by the fund will be
increased. If the result is a loss, the income dividend paid by the fund will
be decreased, or to the extent such dividend has already been paid, it may be
classified as a return of capital. Adjustments to reflect these gains and
losses will be made at the end of the fund's taxable year.
YIELD INFORMATION
-------------------------------------------------------------------------------
Money Funds
The fund's current and historical yield for a period is calculated by
dividing the net change in value of an account (including all dividends
accrued and dividends reinvested in additional shares) by the account value
at the beginning of the period to obtain the base period return. This base
period return is divided by the number of days in the period, then multiplied
by 365 to arrive at the annualized yield for that period. The fund's
annualized compound yield for such period is compounded by dividing the base
period return by the number of days in the period, and compounding that
figure over 365 days.
The Money Funds' current and compound yields for the seven days ended
February 29, 2000, were:
<TABLE>
<CAPTION>
Fund Current Yield Compound Yield
---- ------------- --------------
<S> <C> <C>
California Tax-Free Money 2.19% 2.21%
New York Tax-Free Money 3.25 3.31
Tax-Exempt Money 3.36 3.41
</TABLE>
Bond Funds
An income factor is calculated for each security in the portfolio based upon
the security's market value at the beginning of the period and yield as
determined in conformity with regulations of the SEC. The income factors are
then totaled for all securities in the portfolio. Next, expenses of the fund
for the period, net of expected reimbursements, are deducted from the income
to arrive at net income, which is then converted to a per share amount by
dividing net income by the average number of shares outstanding during the
period. The net income per share is divided by the net asset value on the
last day of the period to produce a monthly yield which is then annualized.
If applicable, a taxable-equivalent yield is calculated by dividing this
yield by one minus the effective federal, state, and/or city or local income
tax rates. Quoted yield factors are for comparison purposes only, and are not
intended to indicate future performance or forecast the dividend per share of
the fund.
<PAGE>
The yield of each fund calculated under the above-described method for the
month ended February 29, 2000, was:
<TABLE>
<CAPTION>
<S> <C>
California Tax-Free Bond Fund 5.07%
Florida Intermediate Tax-Free Fund 4.55
Georgia Tax-Free Bond Fund 5.11
Maryland Tax-Free Bond Fund 5.18
Maryland Short-Term Tax-Free Bond Fund 4.17
New Jersey Tax-Free Bond Fund 5.16
New York Tax-Free Bond Fund 5.25
Virginia Tax-Free Bond Fund 5.15
Virginia Short-Term Tax-Free Bond Fund 4.10
Tax-Free High Yield Fund 5.85
Tax-Free Income Fund 5.23
Tax-Free Intermediate Bond Fund 4.61
Tax-Free Short-Intermediate Fund 4.48
</TABLE>
The tax-equivalent yields (assuming a federal tax bracket of 31.0%) for each
fund for the same period were as follows:
<TABLE>
<CAPTION>
<S> <C>
California Tax-Free Bond Fund(a) 8.10%
Florida Intermediate Tax-Free Fund(b) 6.74
Georgia Tax-Free Bond Fund(c) 7.87
Maryland Tax-Free Bond Fund(d) 8.14
Maryland Short-Term Tax-Free Bond Fund(d) 6.56
New Jersey Tax-Free Bond Fund(e) 7.99
New York Tax-Free Bond Fund(f) 8.52
Virginia Tax-Free Bond Fund(g) 7.92
Virginia Short-Term Tax-Free Bond Fund(g) 6.31
Tax-Free High Yield Fund 8.48
Tax-Free Income Fund 7.58
Tax-Free Intermediate Bond Fund 6.68
Tax-Free Short-Intermediate Fund 6.49
---------------------------------------------------------------
</TABLE>
(a) Assumes a state tax bracket of 9.3%.
(b) Assumes an intangibles tax rate of 0.15%.
(c) Assumes a state tax bracket of 6.0%.
(d) Assumes a state tax bracket of 4.85% and a local tax bracket
of 2.91%.
(e) Assumes a state tax bracket of 6.37%.
(f) Assumes a state tax bracket of 6.85% and a local tax bracket
of 3.83%.
(g) Assumes a state tax bracket of 5.75%.
<PAGE>
The tax-equivalent yields (assuming a federal tax bracket of 28.0%) for each
fund for the same period were as follows:
<TABLE>
<CAPTION>
<S> <C>
California Tax-Free Bond Fund(a) 7.76%
Florida Intermediate Tax-Free Fund(b) 6.47
Georgia Tax-Free Bond Fund(c) 7.55
Maryland Tax-Free Bond Fund(d) 7.80
Maryland Short-Term Tax-Free Bond Fund(d) 6.28
New Jersey Tax-Free Bond Fund(e) 7.59
New York Tax-Free Bond Fund(f) 8.16
Virginia Tax-Free Bond Fund(g) 7.58
Virginia Short-Term Tax-Free Bond Fund(g) 6.04
Tax-Free High Yield Fund 8.13
Tax-Free Income Fund 7.26
Tax-Free Intermediate Bond Fund 6.40
Tax-Free Short-Intermediate Fund 6.22
---------------------------------------------------------------
</TABLE>
(a) Assumes a state tax bracket of 9.3%.
(b) Assumes an intangibles tax rate of 0.15%.
(c) Assumes a state tax bracket of 6.0%.
(d) Assumes a state tax bracket of 4.85% and a local tax bracket
of 2.91%.
(e) Assumes a state tax bracket of 5.525%.
(f) Assumes a state tax bracket of 6.85% and a local tax bracket
of 3.83%.
(g) Assumes a state tax bracket of 5.75%.
INVESTMENT PERFORMANCE
-------------------------------------------------------------------------------
Total Return Performance
The fund's calculation of total return performance includes the reinvestment
of all capital gain distributions and income dividends for the period or
periods indicated, without regard to tax consequences to a shareholder in the
fund. Total return is calculated as the percentage change between the
beginning value of a static account in the fund and the ending value of that
account measured by the then current net asset value, including all shares
acquired through reinvestment of income and capital gain dividends. The
results shown are historical and should not be considered indicative of the
future performance of the fund. Each average annual compound rate of return
is derived from the cumulative performance of the fund over the time period
specified. The annual compound rate of return for the fund over any other
period of time will vary from the average.
<PAGE>
<TABLE>
<CAPTION>
Cumulative Performance Percentage Change
1 Yr. 5 Yrs. 10 Yrs. % Since Inception
Fund ----- ------ ------- ------- ---------
---- Ended Ended Ended Inception Date
----- ----- ----- --------- ----
2/29/00 2/29/00 2/29/00 2/29/00
------- ------- ------- -------
<S> <C> <C> <C> <C> <S>
California Tax-Free Bond -2.94% 30.96% 90.35% 121.47% 09/15/86
Florida Intermediate
Tax-Free -1.32 26.02 -- 38.68 03/31/93
Georgia Tax-Free Bond -3.46 30.24 -- 43.25 03/31/93
Maryland Short-Term Tax-Free
Bond 1.16 21.49 -- 31.21 01/29/93
Maryland Tax-Free Bond -2.98 29.01 86.46 111.70 03/31/87
New Jersey Tax-Free Bond -4.06 28.34 -- 71.74 04/30/91
New York Tax-Free Bond -4.47 29.00 90.72 129.98 08/28/86
Virginia Short-Term Tax-Free
Bond 1.48 21.85 -- 24.63 11/30/94
Virginia Tax-Free Bond -3.16 30.10 -- 72.69 04/30/91
Tax-Efficient Balanced 10.42 -- -- 45.28 06/30/97
Tax-Efficient Growth -- -- -- -- 07/30/99
Tax-Free High Yield -5.41 28.63 90.37 225.40 03/01/85
Tax-Free Income -3.42 28.82 89.99 359.19 10/26/76
Tax-Free Intermediate Bond -1.37 27.31 -- 47.24 11/30/92
Tax-Free Short-Intermediate 0.67 23.58 62.00 137.67 12/23/83
-------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Average Annual Compound Rates of Return
1 Yr. 5 Yrs. 10 Yrs. % Since Inception
Fund ----- ------ ------- ------- ---------
---- Ended Ended Ended Inception Date
----- ----- ----- --------- ----
2/29/00 2/29/00 2/29/00 2/29/00
------- ------- ------- -------
<S> <C> <C> <C> <C> <S>
California Tax-Free Bond -2.94% 5.54% 6.65% 6.09% 09/15/86
Florida Intermediate
Tax-Free -1.32 4.73 -- 4.84 03/31/93
Georgia Tax-Free Bond -3.46 5.43 -- 5.33 03/31/93
Maryland Short-Term Tax-Free
Bond 1.16 3.97 -- 3.91 01/29/93
Maryland Tax-Free Bond -2.98 5.23 6.43 5.98 03/31/87
New Jersey Tax-Free Bond -4.06 5.12 -- 6.31 04/30/91
New York Tax-Free Bond -4.47 5.22 6.67 6.36 08/28/86
Virginia Short-Term Tax-Free
Bond 1.48 4.03 -- 4.29 11/30/94
Virginia Tax-Free Bond -3.16 5.40 -- 6.38 04/30/91
Tax-Efficient Balanced 10.42 -- -- 15.03 06/30/97
Tax-Efficient Growth -- -- -- -- 07/30/99
Tax-Free High Yield -5.41 5.16 6.65 8.19 03/01/85
Tax-Free Income -3.42 5.20 6.63 6.75 10/26/76
Tax-Free Intermediate Bond -1.37 4.95 -- 5.48 11/30/92
Tax-Free Short-Intermediate 0.67 4.33 4.94 5.49 12/23/83
-------------------------------------------------------------------------------
</TABLE>
Outside Sources of Information
From time to time, in reports and promotional literature: (1) the fund's
total return performance, ranking, or any other measure of the fund's
performance may be compared to any one or combination of the following: (a) a
broad-based index; (b) other groups of mutual funds, including T. Rowe Price
funds, tracked by
<PAGE>
independent research firms ranking entities, or financial publications; (c)
indices of securities comparable to those in which the fund invests; (2) the
Consumer Price Index (or any other measure for inflation, government
statistics, such as GNP may be used to illustrate investment attributes of
the fund or the general economic, business, investment, or financial
environment in which the fund operates; (3) various financial, economic, and
market statistics developed by brokers, dealers, and other persons may be
used to illustrate aspects of the fund's performance; (4) the effect of
tax-deferred compounding on the fund's investment returns, or on returns in
general in both qualified and nonqualified retirement plans or any other tax
advantage product, may be illustrated by graphs, charts, etc.; and (5) the
sectors or industries in which the fund invests may be compared to relevant
indices or surveys in order to evaluate the fund's historical performance or
current or potential value with respect to the particular industry or sector.
Other Publications
From time to time, in newsletters and other publications issued by Investment
Services, T. Rowe Price mutual fund portfolio managers may discuss economic,
financial, and political developments in the U.S. and abroad and how these
conditions have affected or may affect securities prices or the fund;
individual securities within the fund's portfolio; and their philosophy
regarding the selection of individual stocks, including why specific stocks
have been added, removed, or excluded from the fund's portfolio.
Other Features and Benefits
The fund is a member of the T. Rowe Price family of funds and may help
investors achieve various long-term investment goals, which include, but are
not limited to, investing money for retirement, saving for a down payment on
a home, or paying college costs. To explain how the fund could be used to
assist investors in planning for these goals and to illustrate basic
principles of investing, various worksheets and guides prepared by T. Rowe
Price and/or Investment Services may be made available.
No-Load Versus Load and 12b-1 Funds
Many mutual funds charge sales fees to investors or use fund assets to
finance distribution activities. These fees are in addition to the normal
advisory fees and expenses charged by all mutual funds. There are several
types of fees charged which vary in magnitude and which may often be used in
combination. A sales charge (or "load") can be charged at the time the fund
is purchased (front-end load) or at the time of redemption (back-end load).
Front-end loads are charged on the total amount invested. Back-end loads or
"redemption fees" are charged either on the amount originally invested or on
the amount redeemed. 12b-1 plans allow for the payment of marketing and sales
expenses from fund assets. These expenses are usually computed daily as a
fixed percentage of assets.
The fund is a no-load fund which imposes no sales charges or 12b-1 fees.
No-load funds are generally sold directly to the public without the use of
commissioned sales representatives. This means that 100% of your purchase is
invested for you.
Redemptions in Kind
The fund has filed a notice of election under Rule 18f-1 of the 1940 Act.
This permits the fund to effect redemptions in kind as set forth in its
prospectus.
In the unlikely event a shareholder were to receive an in kind redemption of
portfolio securities of the fund, it would be the responsibility of the
shareholder to dispose of the securities. The shareholder would be at risk
that the value of the securities would decline prior to their sale, that it
would be difficult to sell the securities and that brokerage fees could be
incurred.
<PAGE>
CAPITAL STOCK
-------------------------------------------------------------------------------
Tax-Efficient Balanced, Tax-Efficient Growth, Tax-Exempt Money, Tax-Free High
Yield, Income, Intermediate Bond, and Short-Intermediate Funds
Currently, the T. Rowe Price Tax-Efficient Funds, Inc., which consists of two
series, Tax-Efficient Balanced Fund and Tax-Efficient Growth Fund, the T.
Rowe Price Tax-Exempt Money Fund, Inc., T. Rowe Price Tax-Free High Yield
Fund, Inc., T. Rowe Price Tax-Free Income Fund, Inc., T. Rowe Price Tax-Free
Intermediate Bond Fund, Inc., and the T. Rowe Price Tax-Free
Short-Intermediate Fund, Inc. are all organized as Maryland corporations.
The fund's Charter authorizes the Board of Directors/Trustees to classify and
reclassify any and all shares which are then unissued, including unissued
shares of capital stock into any number of classes or series, each class or
series consisting of such number of shares and having such designations, such
powers, preferences, rights, qualifications, limitations, and restrictions,
as shall be determined by the Board subject to the 1940 Act and other
applicable law. The shares of any such additional classes or series might
therefore differ from the shares of the present class and series of capital
stock and from each other as to preferences, conversions or other rights,
voting powers, restrictions, limitations as to dividends, qualifications or
terms or conditions of redemption, subject to applicable law, and might thus
be superior or inferior to the capital stock or to other classes or series in
various characteristics. The Board of Directors/Trustees may increase or
decrease the aggregate number of shares of stock or the number of shares of
stock of any class or series that the fund has authorized to issue without
shareholder approval.
Except to the extent that the fund's Board of Directors/Trustees might
provide by resolution that holders of shares of a particular class are
entitled to vote as a class on specified matters presented for a vote of the
holders of all shares entitled to vote on such matters, there would be no
right of class vote unless and to the extent that such a right might be
construed to exist under Maryland law. The Charter contains no provision
entitling the holders of the present class of capital stock to a vote as a
class on any matter. Accordingly, the preferences, rights, and other
characteristics attaching to any class of shares, including the present class
of capital stock, might be altered or eliminated, or the class might be
combined with another class or classes, by action approved by the vote of the
holders of a majority of all the shares of all classes entitled to be voted
on the proposal, without any additional right to vote as a class by the
holders of the capital stock or of another affected class or classes.
Shareholders are entitled to one vote for each full share held (and
fractional votes for fractional shares held) and will vote in the election of
or removal of directors/trustees (to the extent hereinafter provided) and on
other matters submitted to the vote of shareholders. There will normally be
no meetings of shareholders for the purpose of electing directors/trustees
unless and until such time as less than a majority of the directors/trustees
holding office have been elected by shareholders, at which time the
directors/trustees then in office will call a shareholders' meeting for the
election of directors/trustees. Except as set forth above, the
directors/trustees shall continue to hold office and may appoint successor
directors/trustees. Voting rights are not cumulative, so that the holders of
more than 50% of the shares voting in the election of directors/trustees can,
if they choose to do so, elect all the directors/trustees of the fund, in
which event the holders of the remaining shares will be unable to elect any
person as a director/trustee. As set forth in the By-Laws of the fund, a
special meeting of shareholders of the fund shall be called by the Secretary
of the fund on the written request of shareholders entitled to cast at least
10% of all the votes of the fund entitled to be cast at such meeting.
Shareholders requesting such a meeting must pay to the fund the reasonably
estimated costs of preparing and mailing the notice of the meeting. The fund,
however, will otherwise assist the shareholders seeking to hold the special
meeting in communicating to the other shareholders of the fund to the extent
required by Section 16(c) of the 1940 Act.
<PAGE>
ORGANIZATION OF THE FUNDS
-------------------------------------------------------------------------------
California and State Tax-Free Trusts
Currently, the T. Rowe Price California Tax-Free Income Trust consists of two
series, California Tax-Free Bond Fund and California Tax-Free Money Fund, and
the T. Rowe Price State Tax-Free Income Trust consists of nine series,
Florida Intermediate Tax-Free Fund, Georgia Tax-Free Bond Fund, Maryland
Short-Term Tax-Free Bond Fund, Maryland Tax-Free Bond Fund, New Jersey
Tax-Free Bond Fund, New York Tax-Free Bond Fund, New York Tax-Free Money
Fund, Virginia Short-Term Tax-Free Bond Fund, and Virginia Tax-Free Bond Fund
each of which represents a separate class of each Trust's shares and has
different objectives and investment policies.
For tax and business reasons, the Funds were organized as Massachusetts
Business Trusts, and are registered with the SEC under the 1940 Act as
diversified, open-end investment companies, commonly known as "mutual fund."
The Declaration of Trust permits the Board of Trustees to issue an unlimited
number of full and fractional shares of a single class. The Declaration of
Trust also provides that the Board of Trustees may issue additional series or
classes of shares. Each share represents an equal proportionate beneficial
interest in the fund. In the event of the liquidation of the fund, each share
is entitled to a pro-rata share of the net assets of the fund.
Shareholders are entitled to one vote for each full share held (and
fractional votes for fractional shares held) and will vote in the election of
or removal of trustees (to the extent hereinafter provided) and on other
matters submitted to the vote of shareholders. There will normally be no
meetings of shareholders for the purpose of electing trustees unless and
until such time as less than a majority of the trustees holding office have
been elected by shareholders, at which time the trustees then in office will
call a shareholders' meeting for the election of trustees. Pursuant to
Section 16(c) of the 1940 Act, holders of record of not less than two-thirds
of the outstanding shares of the fund may remove a trustee by a vote cast in
person or by proxy at a meeting called for that purpose. Except as set forth
above, the trustees shall continue to hold office and may appoint successor
trustees. Voting rights are not cumulative, so that the holders of more than
50% of the shares voting in the election of trustees can, if they choose to
do so, elect all the trustees of the Trust, in which event the holders of the
remaining shares will be unable to elect any person as a trustee. No
amendments may be made to the Declaration of Trust without the affirmative
vote of a majority of the outstanding shares of the Trust.
Shares have no preemptive or conversion rights; the right of redemption and
the privilege of exchange are described in the prospectus. Shares are fully
paid and nonassessable, except as set forth below. The Trust may be
terminated (i) upon the sale of its assets to another diversified, open-end
management investment company, if approved by the vote of the holders of
two-thirds of the outstanding shares of the Trust, or (ii) upon liquidation
and distribution of the assets of the Trust, if approved by the vote of the
holders of a majority of the outstanding shares of the Trust. If not so
terminated, the Trust will continue indefinitely.
Under Massachusetts law, shareholders could, under certain circumstances, be
held personally liable for the obligations of the fund. However, the
Declaration of Trust disclaims shareholder liability for acts or obligations
of the fund and requires that notice of such disclaimer be given in each
agreement, obligation or instrument entered into or executed by the fund or a
Trustee. The Declaration of Trust provides for indemnification from fund
property for all losses and expenses of any shareholder held personally
liable for the obligations of the fund. Thus, the risk of a shareholder
incurring financial loss on account of shareholder liability is limited to
circumstances in which the fund itself would be unable to meet its
obligations, a possibility which T. Rowe Price believes is remote. Upon
payment of any liability incurred by the fund, the shareholders of the fund
paying such liability will be entitled to reimbursement from the general
assets of the fund. The Trustees intend to conduct the operations of the fund
in such a way so as to avoid, as far as possible, ultimate liability of the
shareholders for liabilities of such fund.
<PAGE>
FEDERAL REGISTRATION OF SHARES
-------------------------------------------------------------------------------
The fund's shares are registered for sale under the 1933 Act. Registration of
the fund's shares is not required under any state law, but the fund is
required to make certain filings with and pay fees to the states in order to
sell its shares in the states.
LEGAL COUNSEL
-------------------------------------------------------------------------------
Swidler Berlin Shereff Friedman, LLP, whose address is The Chrysler Building,
405 Lexington Avenue, New York, New York 10174, is legal counsel to the fund.
INDEPENDENT ACCOUNTANTS
-------------------------------------------------------------------------------
PricewaterhouseCoopers LLP, 250 West Pratt Street, 21st Floor, Baltimore,
Maryland 21201, are the independent accountants to the funds.
The financial statements of the funds for the year ended February 29, 2000,
and the report of independent accountants are included in each fund's Annual
Report for the year ended February 29, 2000. A copy of each Annual Report
accompanies this Statement of Additional Information. The following financial
statements and the report of independent accountants appearing in each Annual
Report for the year ended February 29, 2000, are incorporated into this
Statement of Additional Information by reference:
<TABLE>
<CAPTION>
ANNUAL REPORT REFERENCES:
CALIFORNIA TAX- CALIFORNIA TAX- GEORGIA
FREE MONEY FREE BOND TAX-FREE
---------- --------- BOND
----
<S> <C> <C> <C>
Financial Highlights 10 11 9
Statement of Net Assets, February
29, 2000 12-16 17-24 10-14
Statement of Operations, year
ended
February 29, 2000 25 25 15
Statement of Changes in Net
Assets, years ended
February 29, 2000 and February
28, 1999 26 26 16
Notes to Financial Statements,
February 29, 2000 27-29 27-29 17-19
Report of Independent Accountants 30 30 20
</TABLE>
<TABLE>
<CAPTION>
NEW JERSEY FLORIDA NEW YORK TAX-
TAX-FREE INTERMEDIATE FREE MONEY
BOND TAX-FREE ----------
---- --------
<S> <C> <C> <C>
Financial Highlights 8 8 10
Statement of Net Assets, February
29, 2000 9-14 9-12 12-15
Statement of Operations, year ended
February 29, 2000 15 13 22
Statement of Changes in Net Assets,
years ended
February 29, 2000 and February 28,
1999 16 14 23
Notes to Financial Statements,
February 29, 2000 17-19 15-17 24-26
Report of Independent Accountants 20 18 27
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
NEW YORK VIRGINIA VIRGINIA
TAX-FREE BOND SHORT-TERM TAX-FREE
------------- TAX-FREE BOND BOND
------------- ----
<S> <C> <C> <C>
Financial Highlights 11 9 10
Statement of Net Assets, February 29,
2000 16-21 11-13 14-20
Statement of Operations, year ended
February 29, 2000 22 21 21
Statement of Changes in Net Assets,
years ended
February 29, 2000 and February 28,
1999 23 22 22
Notes to Financial Statements,
February 29, 2000 24-26 23-25 23-25
Report of Independent Accountants 27 26 26
</TABLE>
<TABLE>
<CAPTION>
MARYLAND MARYLAND
SHORT-TERM TAX-FREE BOND
TAX-FREE BOND -------------
-------------
<S> <C> <C>
Financial Highlights 10 11
Statement of Net Assets, February 29, 2000 12-16 17-28
Statement of Operations, year ended
February 29, 2000 29 29
Statement of Changes in Net Assets, years ended
February 29, 2000 and February 28, 1999 30 30
Notes to Financial Statements, February 29, 2000 31-33 31-33
Report of Independent Accountants 34 34
</TABLE>
<TABLE>
<CAPTION>
TAX-EXEMPT TAX-FREE HIGH TAX-FREE
MONEY YIELD INCOME
----- ----- ------
<S> <C> <C> <C>
Financial Highlights 2 2 2
Statement of Net Assets, February 29,
2000 4-16 3-23 3-21
Statement of Operations, year ended
February 29, 2000 17 24 22
Statement of Changes in Net Assets,
years ended
February 29, 2000 and February 28, 1999 18 25 23
Notes to Financial Statements, February
29, 2000 19-21 26-28 24-26
Report of Independent Accountants 22 29 27
</TABLE>
<TABLE>
<CAPTION>
TAX-FREE TAX-EFFICIENT TAX-FREE SHORT-
INTERMEDIATE BALANCED INTERMEDIATE
BOND -------- ------------
----
<S> <C> <C> <C>
Financial Highlights 2 17 2
Statement of Net Assets,
February 29, 2000 3-9 19-30 3-11
Statement of Operations, year
ended
February 29, 2000 10 38 12
Statement of Changes in Net
Assets, years ended
February 29, 2000 and February
28, 1999 11 39 13
Notes to Financial Statements,
February 29, 2000 12-14 40-43 14-16
Report of Independent 1
Accountants 5 44 17
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
TAX-EFFICIENT
GROWTH
------
<S> <C>
Financial Highlights 18
Portfolio of Investments, February 29, 2000 31-36
Statement of Assets and Liabilities, February 29, 2000 37
Statement of Operations, period from July 30, 1999
(commencement of operations) to February 29, 2000 38
Statement of Changes in Net Assets, period from July 30, 1999
(commencement of operations) to February 29, 2000 39
Notes to Financial Statements, February 29, 2000 40-43
Report of Independent Accountants 44
</TABLE>
<TABLE>
<CAPTION>
TAX-EXEMPT
MONEY FUND-
PLUS CLASS
----------
<S> <C>
Financial Highlights 3
Statement of Net Assets, February 29, 2000 4-16
Statement of Operations, year ended
February 29, 2000 17
Statement of Changes in Net Assets, years ended
February 29, 2000 and February 28, 1999 18
Notes to Financial Statements, February 29, 2000 19-21
Report of Independent Accountants 22
</TABLE>
RATINGS OF MUNICIPAL DEBT SECURITIES
-------------------------------------------------------------------------------
Moody's Investors Service, Inc.
Aaa-Bonds 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
edge."
Aa-Bonds rated Aa are judged to be of high quality by all standards. Together
with the Aaa group they comprise what are generally know as high-grade bonds.
A-Bonds rated A possess many favorable investment attributes and are to be
considered as upper medium-grade obligations.
Baa-Bonds 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.
Ba-Bonds rated Ba are judged to have speculative elements: their futures
cannot be considered as well assured. Often the protection of interest and
principal payments may be very moderate and thereby not well safeguarded
during both good and bad times over the future. Uncertainty of position
characterize bonds in this class.
B-Bonds rated B generally lack the characteristics of a desirable investment.
Assurance of interest and principal payments or of maintenance of other terms
of the contract over any long period of time may be small.
<PAGE>
Caa-Bonds rated Caa are of poor standing. Such issues may be in default or
there may be present elements of danger with respect to principal or
interest.
Ca-Bonds rated Ca represent obligations which are speculative in a high
degree. Such issues are often in default or have other marked short-comings.
C-Bonds rated C represent the lowest-rated, and have extremely poor prospects
of attaining investment standing.
Standard & Poor's Corporation
AAA-This is the highest rating assigned by Standard & Poor's to a debt
obligation and indicates an extremely strong capacity to pay principal and
interest.
AA-Bonds rated AA also qualify as high-quality debt obligations. Capacity to
pay principal and interest is very strong.
A-Bonds rated A have a strong capacity to pay principal and interest,
although they are somewhat more susceptible to the adverse effects of changes
in circumstances and economic conditions.
BBB-Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay principal and interest for bonds
in this category than for bonds in the A category.
BB, B, CCC, CC, C-Bonds rated BB, B, CCC, CC, and C are regarded on balance,
as predominantly speculative with respect to the issuer's capacity to pay
interest and repay principal. BB indicates the lowest degree of speculation
and C the highest degree of speculation. While such bonds will likely have
some quality and protective characteristics, these are outweighed by large
uncertainties or major risk exposures to adverse conditions.
D-In default.
Fitch IBCA, Inc.
AAA-High grade, broadly marketable, suitable for investment by trustees and
fiduciary institutions, and liable to slight market fluctuation other than
through changes in the money rate. The prime feature of a "AAA" bond is the
showing of earnings several times or many times interest requirements for
such stability of applicable interest that safety is beyond reasonable
question whenever changes occur in conditions. Other features may enter, such
as wide margin of protection through collateral, security or direct lien on
specific property. Sinking funds or voluntary reduction of debt by call or
purchase are often factors, while guarantee or assumption by parties other
than the original debtor may influence their rating.
AA-Of safety virtually beyond question and readily salable. Their merits are
not greatly unlike those of "AAA" class but a bond so rated may be junior
though of strong lien, or the margin of safety is less strikingly broad. The
issue may be the obligation of a small company, strongly secured, but
influenced as to rating by the lesser financial power of the enterprise and
more local type of market.
A-Bonds rated A are considered to be investment grade and of high credit
quality. The obligor's ability to pay interest and repay principal is
considered to be strong, but may be more vulnerable to adverse changes in
economic conditions and circumstances than bonds with higher ratings.
BBB-Bonds rated BBB are considered to be investment grade and of satisfactory
credit quality. The obligor's ability to pay interest and repay principal is
considered to be adequate. Adverse changes in economic conditions and
circumstances, however, are more likely to have adverse impact on these
bonds, and therefore impair timely payment. The likelihood that the ratings
of these bonds will fall below investment grade is higher than for bonds with
higher ratings.
BB, B, CCC, CC, and C are regarded on balance as predominantly speculative
with respect to the issuer's capacity to repay interest and repay principal
in accordance with the terms of the obligation for bond issues
<PAGE>
not in default. BB indicates the lowest degree of speculation and C the
highest degree of speculation. The rating takes into consideration special
features of the issue, its relationship to other obligations of the issuer,
and the current and prospective financial condition and operating performance
of the issuer.
RATINGS OF MUNICIPAL NOTES AND VARIABLE RATE SECURITIES
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Moody's Investors Service, Inc. VMIG1/MIG-1 the best quality. VMIG2/MIG-2
high quality, with margins of protection ample though not so large as in the
preceding group. VMIG3/MIG-3 favorable quality, with all security elements
accounted for, but lacking the undeniable strength of the preceding grades.
Market access for refinancing, in particular, is likely to be less well
established. VMIG4/MIG-4 adequate quality but there is specific risk.
Standard & Poor's Corporation SP-1 very strong or strong capacity to pay
principal and interest. Those issues determined to possess overwhelming
safety characteristics will be given a plus (+) designation. SP-2
satisfactory capacity to pay interest and principal. SP-3 speculative
capacity to pay principal and interest.
Fitch IBCA, Inc. F-1+ exceptionally strong credit quality, strongest degree
of assurance for timely payment. F-1 very strong credit quality. F-2 good
credit quality, having a satisfactory degree of assurance for timely payment.
F-3 fair credit quality, assurance for timely payment is adequate but adverse
changes could cause the securities to be rated below investment grade. F-5
weak credit quality, having characteristics suggesting a minimal degree of
assurance for timely payment.
RATINGS OF COMMERCIAL PAPER
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Moody's Investors Service, Inc. P-1 superior capacity for repayment. P-2
strong capacity for repayment. P-3 acceptable capacity for repayment of
short-term promissory obligations.
Standard & Poor's Corporation A-1 highest category, 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 satisfactory capacity to pay principal and interest. A-3
adequate capacity for timely payment, but are vulnerable to adverse effects
of changes in circumstances than higher-rated issues. B and C speculative
capacity to pay principal and interest.
Fitch IBCA, Inc. F-1+ exceptionally strong credit quality, strongest degree
of assurance for timely payment. F-1 very strong credit quality. F-2 good
credit quality, having a satisfactory degree of assurance for timely payment.
F-3 fair credit quality, assurance for timely payment is adequate but adverse
changes could cause the securities to be rated below investment grade. F-5
weak credit quality, having characteristics suggesting a minimal degree of
assurance for timely payment.
