AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON SEPTEMBER 13, 1995
REGISTRATION NO. 33-61281
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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AMENDMENT NO. 1
TO
FORM S-6
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FOR REGISTRATION UNDER THE SECURITIES ACT
OF 1933 OF SECURITIES OF UNIT INVESTMENT
TRUSTS REGISTERED ON FORM N-8B-2
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A. EXACT NAME OF TRUST:
MUNICIPAL INVESTMENT TRUST FUND
INSURED SERIES--226
DEFINED ASSET FUNDS
B. NAMES OF DEPOSITORS:
MERRILL LYNCH, PIERCE, FENNER & SMITH INCORPORATED
SMITH BARNEY INC.
PAINEWEBBER INCORPORATED
PRUDENTIAL SECURITIES INCORPORATED
DEAN WITTER REYNOLDS INC.
C. COMPLETE ADDRESSES OF DEPOSITORS' PRINCIPAL EXECUTIVE OFFICES:
MERRILL LYNCH, PIERCE,
FENNER & SMITH
INCORPORATED
DEFINED ASSET FUNDS
P.O. BOX 9051
PRINCETON, NJ 08543-9051 SMITH BARNEY INC.
388 GREENWICH
STREET--23RD FLOOR
NEW YORK, NY 10013
PAINEWEBBER INCORPORATED PRUDENTIAL SECURITIES DEAN WITTER REYNOLDS INC.
1285 AVENUE OF THE INCORPORATED TWO WORLD TRADE
AMERICAS ONE SEAPORT PLAZA CENTER--59TH FLOOR
NEW YORK, N.Y. 10019 199 WATER STREET NEW YORK, N.Y. 10048
NEW YORK, N.Y. 10292
D. NAMES AND COMPLETE ADDRESSES OF AGENTS FOR SERVICE:
TERESA KONCICK, ESQ. LAURIE HESSLEIN ROBERT E. HOLLEY
P.O. BOX 9051 388 GREENWICH STREET 1200 HARBOR BLVD.
PRINCETON, NJ 08543-9051 NEW YORK, N.Y. 10013 WEEKAWKEN, N.J. 07087
COPIES TO:
LEE B. SPENCER, JR. DOUGLAS LOWE, ESQ. PIERRE DE SAINT PHALLE,
ONE SEAPORT PLAZA 130 LIBERTY STREET--29TH ESQ.
199 WATER STREET FLOOR 450 LEXINGTON AVENUE
NEW YORK, N.Y. 10292 NEW YORK, N.Y. 10006 NEW YORK, N.Y. 10017
E. TITLE AND AMOUNT OF SECURITIES BEING REGISTERED:
An indefinite number of Units of Beneficial Interest pursuant to Rule 24f-2
promulgated under the Investment Company Act of 1940, as amended.
F. PROPOSED MAXIMUM OFFERING PRICE TO THE PUBLIC OF THE SECURITIES BEING
REGISTERED: Indefinite
G. AMOUNT OF FILING FEE: $500 (as required by Rule 24f-2)
H. APPROXIMATE DATE OF PROPOSED SALE TO PUBLIC:
As soon as practicable after the effective date of the registration statement.
/ x / Check box if it is proposed that this filing will become effective at 9:30
a.m. on September 13, 1995 pursuant to Rule 487.
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<PAGE>
DEFINED ASSET FUNDSSM
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MUNICIPAL INVESTMENT 5.42% ESTIMATED CURRENT RETURN shows the estimated
TRUST FUND annual cash to be received from interest-bearing
INSURED SERIES 226 bonds in the Portfolio (net of estimated annual
(A UNIT INVESTMENT expenses) divided by the Public Offering Price
TRUST) (including the maximum sales charge).
------------------------------5.50% ESTIMATED LONG TERM RETURN is a measure of
/ / DESIGNED FOR FEDERALLY the estimated return over the estimated life of
TAX-FREE INCOME the Fund. This represents an average of the yields
/ / DEFINED PORTFOLIO OF to maturity (or in certain cases, to an earlier
INSURED MUNICIPAL BONDS call date) of the individual bonds in the
/ / MONTHLY INCOME Portfolio, adjusted to reflect the maximum sales
/ / AAA-RATED charge and estimated expenses. The average yield
5.42% for the Portfolio is derived by weighting each
ESTIMATED CURRENT RETURN bond's yield by its market value and the time
5.50% remaining to the call or maturity date, depending
ESTIMATED LONG TERM RETURN on how the bond is priced. Unlike Estimated
AS OF SEPTEMBER 12, 1995 Current Return, Estimated Long Term Return takes
into account maturities, discounts and premiums of
the underlying bonds.
No return estimate can be predictive of your
actual return because returns will vary with
purchase price (including sales charges), how long
units are held, changes in Portfolio composition,
changes in interest income and changes in fees and
expenses. Therefore, Estimated Current Return and
Estimated Long Term Return are designed to be
comparative rather than predictive. A yield
calculation which is more comparable to an
individual bond may be higher or lower than
Estimated Current Return or Estimated Long Term
Return which are more comparable to return
calculations used by other investment products.
-------------------------------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR
DISAPPROVED BY THE SECURITIES AND EXCHANGE
COMMISSION OR ANY STATE SECURITIES COMMISSION NOR
SPONSORS: HAS THE COMMISSION OR ANY STATE SECURITIES
Merrill Lynch, COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY
Pierce, Fenner & Smith OF THIS DOCUMENT. ANY REPRESENTATION TO THE
Incorporated CONTRARY IS A CRIMINAL OFFENSE.
Smith Barney Inc. Inquiries should be directed to the Trustee at
Prudential Securities 1-800-221-7771.
Incorporated Prospectus dated September 13, 1995.
Dean Witter Reynolds Inc. INVESTORS SHOULD READ THIS PROSPECTUS CAREFULLY
PaineWebber Incorporated AND RETAIN IT FOR FUTURE REFERENCE.
<PAGE>
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Defined Asset FundsSM
Defined Asset Funds is America's oldest and largest family of unit investment
trusts, with over $100 billion sponsored in the last 25 years. Each Defined
Asset Fund is a portfolio of preselected securities. The portfolio is divided
into 'units' representing equal shares of the underlying assets. Each unit
receives an equal share of income and principal distributions.
Defined Asset Funds offer several defined 'distinctives'. You know in advance
what you are investing in and that changes in the portfolio are limited - a
defined portfolio. Most defined bond funds pay interest monthly - defined
income. The portfolio offers a convenient and simple way to invest - simplicity
defined.
Your financial professional can help you select a Defined Asset Fund to meet
your personal investment objectives. Our size and market presence enable us to
offer a wide variety of investments. The Defined Asset Funds family offers:
o Municipal portfolios
o Corporate portfolios
o Government portfolios
o Equity portfolios
o International portfolios
The terms of Defined Funds are as short as one year or as long as 30 years.
Special defined funds are available including: insured funds, double and triple
tax-free funds and funds with 'laddered maturities' to help protect against
changing interest rates. Defined Asset Funds are offered by prospectus only.
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Defined Insured Series
----------------------------------------------------------------
Our defined portfolio of municipal bonds offers you a simple and convenient way
to earn tax-free monthly income. By purchasing Defined Asset Funds, you not only
receive professional selection but also gain the advantage of reduced risk by
investing in bonds of several different issuers.
INVESTMENT OBJECTIVE
To provide interest income exempt from regular federal income taxes through
investment in a fixed portfolio consisting primarily of insured long-term
municipal bonds issued by or on behalf of states and their local governments and
authorities.
DIVERSIFICATION
The Portfolio contains 11 bond issues. Spreading your investment among different
issuers reduces your risk, but does not eliminate it. Because of maturities,
sales or other dispositions of bonds, the size, composition and return of the
Portfolio will change over time.
----------------------------------------------------------------
Defining Your Portfolio
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PROFESSIONAL SELECTION AND SUPERVISION
The Portfolio contains a variety of bonds selected by experienced buyers and
research analysts. The Fund is not actively managed; however, it is regularly
reviewed and a bond can be sold if retaining it is considered detrimental to
investors' interests.
TYPES OF BONDS
The Portfolio consists of $10,000,000 face amount of municipal bonds of the
following types:
APPROXIMATE
PORTFOLIO PERCENTAGE
/ / General Obligation Bonds 10%
/ / Lease Rental Appropriation 10%
/ / Universities/Colleges 10%
/ / Hospitals/Health Care Facilities 40%
/ / State/Local Municipal Electric Utilities 20%
/ / Special Tax 10%
AAA-RATED AND INSURED
The bonds included in the Portfolio are insured. This insurance guarantees the
timely payment of principal and interest of the bonds, but does not guarantee
the value of the bonds or the Fund units. As a result of the insurance, the
units of the Fund are AAA-rated by Standard & Poor's Ratings Group. Insurance
does not cover accelerated payments of principal or any increase in interest
payments or premiums payable on mandatory redemptions, including if interest on
a bond is determined to be taxable (see Bonds Backed by Letters of Credit or
Insurance in Part B.) The percentage of the aggregate face amount insured by
each insurance company is:
APPROXINATE
PORTFOLIO
INSURANCE COMPANY PERCENTAGE
MBIA Insurance Corporation 68%
AMBAC Indemnity Corporation 2%
Connie Lee Insurance Company 10%
Financial Guaranty Insurance Company 20%
BOND CALL FEATURES
It is possible that during periods of falling interest rates, a bond with a
coupon higher than current market rates will be prepaid or 'called', at the
option of the bond issuer, before its expected maturity. When bonds are
initially callable, the price is usually at a premium to par which then declines
to par over time. Bonds may also be subject to a mandatory sinking fund or have
extraordinary redemption provisions. For example, if the bond's proceeds are not
able to be used as intended the bond may be redeemed. This redemption and the
sinking fund are often at par.
A-2
<PAGE>
CALL PROTECTION
Although the bonds are subject to optional refunding or call provisions, we have
selected bonds with call protection. This call protection means that any bond in
the Portfolio generally cannot be called for a number of years and thereafter at
a declining premium over par.
TAX INFORMATION
Based on the opinion of bond counsel, income from the bonds held by this Fund is
generally 100% exempt under existing laws from regular federal income tax. Any
gain on a disposition of the underlying bonds or units will be subject to tax.
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Defining Your Investment
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PUBLIC OFFERING PRICE PER UNIT $1,034.28
The Public Offering Price as of September 12, 1995, the business day prior to
the Initial Date of Deposit, is based on the aggregate offer side value of the
underlying bonds in the Fund ($9,880,655.00), plus cash ($99,000.00), divided by
the number of units outstanding (10,099) plus a maximum sales charge of 4.5% on
the value of the underlying bonds. The Public Offering Price on any subsequent
date will vary. An amount equal to net accrued but undistributed interest on the
unit is added to the Public Offering Price. The underlying bonds are evaluated
by an independent evaluator at 3:30 p.m. Eastern time.
UNIT PAR VALUE
The par value of your unit--the amount of money you will receive by termination
of the Fund, assuming all the bonds are paid at maturity or are redeemed by the
issuer at par or sold by the Fund at par to meet redemptions--is $1,000.
LOW MINIMUM INVESTMENT
You can get started with a minimum purchase of about $1,000.
REINVESTMENT OPTION
You can elect to automatically reinvest your distributions into a separate
portfolio of federally tax-exempt bonds. Most or all of the bonds in that
portfolio, however, will not be insured. Reinvesting helps to compound your
income tax-free.
PRINCIPAL DISTRIBUTIONS
Principal from sales, redemptions and maturities of bonds in the Fund will be
distributed to investors periodically when the amount to be distributed is more
than $5.00 per unit.
TERMINATION DATE
The Fund will generally terminate following the maturity date of the last
maturing bond listed in the Portfolio. The Fund may be terminated if the value
is less than 40% of the face amount of bonds deposited.
SPONSORS' PROFIT OR LOSS
The Sponsors' profit or loss associated with the Fund will include the receipt
of applicable sales charges, any fees for underwriting or placing bonds,
fluctuations in the Public Offering Price or secondary market price of units and
a gain of $135,305.00 on the deposit of the bonds (see Underwriters' and
Sponsors' Profits in Part B).
UNDERWRITING ACCOUNT
None of the Sponsors has participated as sole underwriter, managing underwriter
or member of an underwriting syndicate from which any of the bonds in the
Portfolio were acquired.
SPONSORS
MERRILL LYNCH, PIERCE, FENNER & SMITH INCORPORATED
P.O. Box 9051,
Princeton, NJ 08543-9051 61.88%
SMITH BARNEY INC.
388 Greenwich Street--23rd Floor,
New York, NY 10013 12.38%
PRUDENTIAL SECURITIES INCORPORATED
One Seaport Plaza--199 Water Street,
New York, NY 10292 4.95%
DEAN WITTER REYNOLDS INC.
Two World Trade Center--59th Floor,
New York, NY 10048 5.94%
PAINEWEBBER INCORPORATED
1285 Avenue of the Americas,
New York, NY 10019 14.85%
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100.00%
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TAX-FREE VS. TAXABLE INCOME: A COMPARISON OF TAXABLE AND TAX-FREE YIELDS
<TABLE><CAPTION>
TAXABLE INCOME 1995* EFFECTIVE % TAX-FREE YIELD OF
SINGLE RETURN JOINT RETURN TAX BRACKET 4% 4.5% 5% 5.5% 6% 6.5%
IS EQUIVALENT TO A TAXABLE YIELD OF
---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
0- 23,350 $ 0- 39,000 15.00 4.71 5.29 5.88 6.47 7.06 7.65
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$ 23,350- 56,550 $ 39,000- 94,250 28.00 5.56 6.25 6.94 7.64 8.33 9.03
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$ 56,550-117,950 $ 94,250-143,600 31.00 5.80 6.52 7.25 7.97 8.70 9.42
---------------------------------------------------------------------------------------------------------------------------
$117,950-256,500 $143,600-256,500 36.00 6.25 7.03 7.81 8.59 9.38 10.16
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OVER $256,500 OVER $256,500 39.60 6.62 7.45 8.28 9.11 9.93 10.76
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<CAPTION>
TAXABLE INCOME 1995*
SINGLE RETURN 7% 7.5% 8%
------------------
<S> <C> <C> <C>
0- 23,350 8.24 8.82 9.41
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$ 23,350- 56,550 9.72 10.42 11.11
------------------
$ 56,550-117,950 10.14 10.87 11.59
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$117,950-256,500 10.94 11.72 12.50
------------------
OVER $256,500 11.59 12.42 13.25
------------------
</TABLE>
To compare the yield of a taxable security with the yield of a tax-free
security, find your taxable income and read across. The table incorporates
projected 1995 federal income tax rates and assumes that all income would
otherwise be taxed at the investor's highest tax rate. Yield figures are for
example only.
*Based upon net amount subject to federal income tax after deductions and
exemptions. This table does not reflect the possible effect of other tax
factors, such as alternative minimum tax, personal exemptions, the phase out of
exemptions, itemized deductions or the possible partial disallowance of
deductions. Consequently, holders are urged to consult their own tax advisers in
this regard.
A-3
<PAGE>
----------------------------------------------------------------
Defining Your Costs
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SALES CHARGES
Although the Fund is a unit investment trust rather than a mutual fund, the
following information is presented to permit a comparison of fees and an
understanding of the direct or indirect costs and expenses that you pay.
As a % As a %
of Initial Offer- of Secondary
ing Market
Period Public Public Offering
Offering Price Price
----------------- ---------------
Maximum Sales Charges 4.5% 5.5%
ESTIMATED ANNUAL FUND OPERATING EXPENSES
As a %
of Average
Net Assets* Per Unit
----------------- ---------------
Trustee's Fee .070% $ 0.69
Maximum Portfolio Supervision,
Bookkeeping and
Administrative Fees .040% $ 0.40
Evaluator's Fee .013% $ 0.13
Organizational Expenses .020% $ 0.20
Other Operating Expenses .034% $ 0.33
----------------- ---------------
TOTAL .177% $ 1.75
------------
* Based on the mean of the bid and offer side evaluations.
This Fund (and therefore the investors) will bear all or a portion of its
organizational costs--including costs of preparing the registration statement,
the trust indenture and other closing documents, registering units with the SEC
and the states and the initial audit of the Portfolio--as is common for mutual
funds. Historically, the Sponsors of unit investment trusts have paid all the
costs of establishing those trusts.
COSTS OVER TIME
You would pay the following cumulative expenses on a $1,000 investment, assuming
a 5% annual return on the investment throughout the indicated periods:
1 Year 3 Years 5 Years 10 Years
$47 $50 $55 $67
The example assumes reinvestment of all distributions into additional units of
the Fund (a reinvestment option different from that offered by this Fund) and
uses a 5% annual rate of return as mandated by Securities and Exchange
Commission regulations applicable to mutual funds. The Costs Over Time above
reflect both sales charges and operating expenses on an increasing investment
(because the net annual return is reinvested). The example should not be
considered a representation of past or future expenses or annual rate of return;
the actual expenses and annual rate of return may be more or less than the
example.
SELLING YOUR INVESTMENT
You may sell your units at any time. Your price is based on the Fund's then
current net asset value (generally based on the lower, bid side evaluation) plus
accrued interest. The bid side redemption and secondary market repurchase price
as of September 12, 1995 was $984.22 ($50.07 less than the Public Offering
Price). There is no fee for selling your units.
----------------------------------------------------------------
Defining Your Income
----------------------------------------------------------------
MONTHLY FEDERALLY TAX-FREE INTEREST INCOME
The Fund pays monthly income, even though the bonds generally pay interest
semi-annually.
WHAT YOU MAY EXPECT
(PAYABLE ON THE 25TH DAY OF THE MONTH TO HOLDERS OF RECORD ON THE 10TH DAY OF
THE MONTH):
First Distribution per unit
(October 25, 1995): $ 4.20
Regular Monthly Income per unit
(Beginning on November 25, 1995): $ 4.66
Annual Income per unit: $ 56.04
These figures are estimates determined as of the business day prior to the
Initial Date of Deposit and actual payments may vary.
Estimated cash flows are available upon request from the Sponsors.
----------------------------------------------------------------
Defining Your Risks
----------------------------------------------------------------
RISK FACTORS
Unit price fluctuates and could be adversely affected by increasing interest
rates as well as the financial condition of the issuers of the bonds and any
insurance companies backing the bonds. Because of the possible maturity, sale or
other disposition of securities, the size, composition and return of the
portfolio may change at any time. Because of the sales charges, returns of
principal and fluctuations in unit price, among other reasons, the sale price
will generally be less than the cost of your units. Unit prices could also be
adversely affected if a limited trading market exists in any security to be
sold. There is no guarantee that the Fund will achieve its investment objective.
The Fund is concentrated in Hospital/Health Care Facilities bonds and is
therefore dependent on revenues received from those particular activities as
well as on the financial condition of the insurers (see Risk Factors in Part B).
A-4
<PAGE>
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Defined Portfolio
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<TABLE><CAPTION>
Municipal Investment Trust Fund
Insured Series--226 September 13, 1995
OPTIONAL SINKING
RATING REFUNDING FUND COST
PORTFOLIO TITLE OF ISSUES (1) REDEMPTIONS (2) REDEMPTIONS (2) TO FUND (3)
-------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
1. $1,000,000 City of Athens, AL,
Elec. Rev. Warrants, Ser. 1995
(MBIA Ins.), 6.00%, 6/1/25 (4) AAA 6/1/05 @ 102 6/1/16 $ 1,008,260.00
2. $750,000 California Hlth. Fac.
Fin. Auth., Ins. Hosp. Rev. Bonds
(Scripps Hlth.), Ser. 1993 A (MBIA
Ins.), 4.625%, 10/1/13 AAA 10/1/03 @ 100 10/1/07 648,382.50
3. $1,000,000 Department of Wtr.
and Pwr. of The City of Los
Angeles, CA, Elec. Plant Rfdg. Rev.
Bonds, Iss. of 1993 (MBIA Ins.),
5.875%, 9/1/30 AAA 9/1/03 @ 102 9/1/24 981,780.00
4. $1,000,000 Public Bldg. Comm. of
Chicago, IL, Bldg. Rev. Bonds (Bd.
of Educ. of the City of Chicago),
Ser. 1993 A (MBIA Ins.), 5.75%,
12/1/18 AAA 12/1/03 @ 102 12/1/12 981,060.00
5. $1,000,000 Louisiana Stadium and
Expos. Dist., Hotel Occupancy Tax
Bonds, Ser. 1994 A (Financial
Guaranty Ins.), 6.00%, 7/1/24 AAA 7/1/04 @ 102 7/1/17 1,007,800.00
6. $1,000,000 Reeths-Puffer
Schools, Cnty. of Muskegon, MI
(1995 Sch. Bldg. and Site and Rfdg.
Bonds) G.O. Unlimited Tax Bonds,
(Financial Guaranty Ins.), 6.00%,
5/1/25 AAA 5/1/05 @ 101 5/1/16 1,016,660.00
7. $1,000,000 New York State Med.
Care Fac. Fin. Agy. (FHA Ins. Mtge.
Proj. Rev. Bonds), Ser. 1993 A
(MBIA Ins.), 5.90%, 8/15/33 AAA 8/15/03 @ 102 -- 985,040.00
8. $250,000 New York State Med.
Care Fac. Fin. Agy., Hlth. Ctr.
Proj. Rev. Bonds (Secured Mtge.
Prog.), Ser. 1995 A (AMBAC Ins.),
6.375%, 11/15/19 AAA 11/15/05 @ 102 11/15/11 260,182.50
9. $1,000,000 Lehigh Cnty., PA,
Gen. Purp. Auth., Hosp. Rev. Bonds
(Lehigh Valley Hosp., Inc.), Ser.
1994 A (MBIA Ins.), 6.00%, 7/1/25 AAA 7/1/04 @ 102 7/1/23 1,007,800.00
10. $1,000,000 Rhode Island Hlth.
and Educl. Bldg. Corp., Higher
Educ. Fac. Rev. Rfdg. Bonds
(Johnson & Wales Univ. Iss.), Ser.
1993 A (Connie Lee Ins.), 5.875%,
4/1/20 AAA 4/1/03 @ 102 4/1/17 990,340.00
11. $1,000,000 North Central Texas
Hlth. Fac. Dev. Corp., Hosp. Rev.
Bonds (Presbyterian Healthcare Sys.
Proj.), Ser. 1993 (MBIA Ins.),
5.90%, 6/1/21 AAA 6/1/03 @ 102 6/1/14 993,350.00
------------------
$ 9,880,655.00
------------------
------------------
</TABLE>
------------------------------------
(1) All ratings are by Standard & Poor's Ratings Group. (See Appendix A to Part
B.)
(2) Bonds are first subject to optional redemptions (which may be exercised in
whole or in part) on the dates and at the prices indicated under the Optional
Refunding Redemptions column. In subsequent years, bonds are redeemable at
declining prices, but typically not below par value. Some issues may be subject
to sinking fund redemption or extraordinary redemption without premium prior to
the dates shown.
(3) Evaluation of the bonds by the Evaluator is made on the basis of current
offer side evaluation. On this basis, 42% of the bonds were deposited at a
premium and 58% at a discount from par.
(4) These bonds are when-issued bonds that are expected to settle 10 days after
the settlement date for Units. The Trustee's fees and expenses will be reduced
by $0.17 per unit to compensate for interest that would have accrued on the
bonds between the settlement date for Units and the actual date of delivery of
the bonds. (See Income, Distributions and Reinvestment--Income in Part B.)
A-5
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
The Sponsors, Trustee and Holders of Municipal Investment Trust Fund, Insured
Series--226, Defined Asset Funds (the 'Fund'):
We have audited the accompanying statement of condition and the related defined
portfolio included in the Prospectus of the Fund as of September 13, 1995. This
financial statement is the responsibility of the Trustee. Our responsibility is
to express an opinion on this financial statement based on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statement is free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statement. Our procedures included
confirmation of cash and irrevocable letters of credit deposited for the
purchase of securities, as described in the statement of condition, with the
Trustee. An audit also includes assessing the accounting principles used and
significant estimates made by the Trustee, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the financial statement referred to above presents fairly, in
all material respects, the financial position of the Fund as of September 13,
1995 in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP
NEW YORK, N.Y.
SEPTEMBER 13, 1995
STATEMENT OF CONDITION AS OF SEPTEMBER 13, 1995
TRUST PROPERTY
Investments--Bonds and Contracts to purchase Bonds(1) $ 9,880,655.00
Cash 99,000.00
Accrued interest to Initial Date of Deposit on underlying
Bonds 127,789.93
Organizational costs(2) 10,099.00
--------------------
Total $ 10,117,543.93
--------------------
--------------------
LIABILITIES AND INTEREST OF HOLDERS
Liabilities: Advance by the Trustee for accrued
interest(3) $ 127,789.93
Accrued Liability(2) 10,099.00
--------------------
Subtotal 137,888.93
--------------------
Interest of Holders of 10,099 Units of fractional
undivided interest
outstanding:
Cost to investors(4) 10,445,218.90
Gross underwriting commissions(5) (465,563.90)
--------------------
Subtotal 9,979,655.00
--------------------
Total $ 10,117,543.93
--------------------
--------------------
---------------
(1) Aggregate cost to the Fund of the bonds listed under Defined
Portfolio is based upon the offer side evaluation determined by the Evaluator at
the evaluation time on the business day prior to the Initial Date of Deposit.
The contracts to purchase the bonds are collateralized by irrevocable letters of
credit which have been issued by The Sakura Bank, Ltd., New York Branch, The
Bank of Yokohama, Ltd., New York Branch and Hypo Bank, New York Branch, in the
amount of $9,876,147.20 and deposited with the Trustee. The amount of the
letters of credit includes $9,745,350.00 for the purchase of $10,000,000 face
amount of the bonds, plus $130,797.20 for accrued interest.
(2) This represents a portion of the Fund's organizational costs,
which will be deferred and amortized over five years.
(3) Representing a special distribution by the Trustee to the
Sponsors, of an amount equal to the accrued interest on the bonds as of the
Initial Date of Deposit.
(4) Aggregate public offering price (exclusive of interest) computed
on the basis of the offer side evaluation of the underlying bonds as of the
evaluation time on the business day prior to the Initial Date of Deposit.
(5) Assumes the maximum sales charge of 4.5%.
A-6
<PAGE>
MUNICIPAL INVESTMENT TRUST FUND
INSURED SERIES
DEFINED ASSET FUNDS
I want to learn more about automatic reinvestment in the Investment Accumulation
Program. Please send me information about participation in the Municipal Fund
Accumulation Program, Inc. and a current Prospectus.
My name (please
print) _________________________________________________________________________
My address (please print):
Street and Apt.
No. ____________________________________________________________________________
City, State, Zip
Code ___________________________________________________________________________
This page is a self-mailer. Please complete the information above, cut along the
dotted line, fold along the lines on the reverse side, tape, and mail with the
Trustee's address displayed on the outside.
12345678
A-7
<PAGE>
BUSINESS REPLY MAIL NO POSTAGE
FIRST CLASS PERMIT NO. 1313 NEW YORK, NY NECESSARY
IF MAILED
POSTAGE WILL BE PAID BY ADDRESSEE IN THE
THE BANK OF NEW YORK UNITED STATES
UNIT INVESTMENT TRUST DEPARTMENT
P.O. BOX 974
WALL STREET STATION
NEW YORK, NY 10268-0974
--------------------------------------------------------------------------------
(Fold along this line.)
--------------------------------------------------------------------------------
(Fold along this line.)
<PAGE>
DEFINED ASSET FUNDSSM
PROSPECTUS--PART B
DEFINED ASSET FUNDS MUNICIPAL SERIES
MUNICIPAL INVESTMENT TRUST FUND
FURTHER DETAIL REGARDING ANY OF THE INFORMATION PROVIDED IN THE PROSPECTUS MAY
BE OBTAINED
WITHIN FIVE DAYS OF WRITTEN OR TELEPHONIC REQUEST TO THE TRUSTEE, THE ADDRESS
AND
TELEPHONE NUMBER OF WHICH ARE SET FORTH ON THE BACK COVER OF THIS PROSPECTUS.
Index
PAGE
---------
Fund Description...................................... 1
Risk Factors.......................................... 2
How to Buy Units...................................... 7
How to Sell Units..................................... 9
Income, Distributions and Reinvestment................ 10
Fund Expenses......................................... 11
Taxes................................................. 11
Records and Reports................................... 12
PAGE
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Trust Indenture....................................... 13
Miscellaneous......................................... 13
Exchange Option....................................... 15
Supplemental Information.............................. 16
Appendix A--Description of Ratings.................... a-1
Appendix B--Sales Charge Schedules for Defined Asset
Funds Municipal Series................................ b-1
Appendix C--Sales Charge Schedules for Municipal
Investment Trust Fund................................. c-1
FUND DESCRIPTION
BOND PORTFOLIO SELECTION
Professional buyers and research analysts for Defined Asset Funds, with
access to extensive research, selected the Bonds for the Portfolio after
considering the Fund's investment objective as well as the quality of the Bonds
(all Bonds in the Portfolio are initially rated in the category A or better by
at least one nationally recognized rating organization or have comparable credit
characteristics), the yield and price of the Bonds compared to similar
securities, the maturities of the Bonds and the diversification of the
Portfolio. Only issues meeting these stringent criteria of the Defined Asset
Funds team of dedicated research analysts are included in the Portfolio. No
leverage or borrowing is used nor does the Portfolio contain other kinds of
securities to enhance yield. A summary of the Bonds in the Portfolio appears in
Part A of the Prospectus. In a Fund that includes multiple Trusts or Portfolios,
the word Fund should be understood to mean each individual Trust or Portfolio.
The deposit of the Bonds in the Fund on the initial date of deposit
established a proportionate relationship among the face amounts of the Bonds.
During the 90-day period following the initial date of deposit the Sponsors may
deposit additional Bonds in order to create new Units, maintaining to the extent
possible that original proportionate relationship. Deposits of additional Bonds
subsequent to the 90-day period must generally replicate exactly the
proportionate relationship among the face amounts of the Bonds at the end of the
initial 90-day period.
Yields on bonds depend on many factors including general conditions of the
bond markets, the size of a particular offering and the maturity and quality
rating of the particular issues. Yields can vary among bonds with similar
maturities, coupons and ratings. Ratings represent opinions of the rating
organizations as to the quality of the bonds rated, based on the credit of the
issuer or any guarantor, insurer or other credit provider, but these ratings are
only general standards of quality (see Appendix A).
After the initial date of deposit, the ratings of some Bonds may be reduced
or withdrawn, or the credit characteristics of the Bonds may no longer be
comparable to bonds rated A or better. Bonds rated BBB or Baa (the lowest
investment grade rating) or lower may have speculative characteristics, and
changes in economic conditions or other circumstances are more likely to lead to
a weakened capacity to make principal and interest payments than is the case
with higher grade bonds. Bonds rated below investment grade or unrated bonds
with similar credit characteristics are
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often subject to greater market fluctuations and risk of loss of principal and
income than higher grade bonds and their value may decline precipitously in
response to rising interest rates.
Because each Defined Asset Fund is a preselected portfolio of bonds, you
know the securities, maturities, call dates and ratings before you invest. Of
course, the Portfolio will change somewhat over time, as Bonds mature, are
redeemed or are sold to meet Unit redemptions or in other limited circumstances.
Because the Portfolio is not actively managed and principal is returned as the
Bonds are disposed of, this principal should be relatively unaffected by changes
in interest rates.
BOND PORTFOLIO SUPERVISION
The Fund follows a buy and hold investment strategy in contrast to the
frequent portfolio changes of a managed fund based on economic, financial and
market analyses. The Fund may retain an issuer's bonds despite adverse financial
developments. Experienced financial analysts regularly review the Portfolio and
a Bond may be sold in certain circumstances including the occurrence of a
default in payment or other default on the Bond, a decline in the projected
income pledged for debt service on a revenue bond, institution of certain legal
proceedings, if the Bond becomes taxable or is otherwise inconsistent with the
Fund's investment objectives, a decline in the price of the Bond or the
occurrence of other market or credit factors (including advance refunding) that,
in the opinion of Defined Asset Funds research analysts, makes retention of the
Bond detrimental to the interests of investors. The Trustee must generally
reject any offer by an issuer of a Bond to exchange another security pursuant to
a refunding or refinancing plan.
The Sponsors and the Trustee are not liable for any default or defect in a
Bond. If a contract to purchase any Bond fails, the Sponsors may generally
deposit a replacement bond so long as it is a tax-exempt bond, has a fixed
maturity or disposition date substantially similar to the failed Bond and is
rated A or better by at least one nationally recognized rating organization or
has comparable credit characteristics. A replacement bond must be deposited
within 110 days after deposit of the failed contract, at a cost that does not
exceed the funds reserved for purchasing the failed Bond and at a yield to
maturity and current return substantially equivalent (considering then current
market conditions and relative creditworthiness) to those of the failed Bond, as
of the date the failed contract was deposited.
RISK FACTORS
An investment in the Fund entails certain risks, including the risk that
the value of your investment will decline with increases in interest rates.
Generally speaking, bonds with longer maturities will fluctuate in value more
than bonds with shorter maturities. In recent years there have been wide
fluctuations in interest rates and in the value of fixed-rate bonds generally.
The Sponsors cannot predict the direction or scope of any future fluctuations.
Certain of the Bonds may have been deposited at a market discount or
premium principally because their interest rates are lower or higher than
prevailing rates on comparable debt securities. The current returns of market
discount bonds are lower than comparably rated bonds selling at par because
discount bonds tend to increase in market value as they approach maturity. The
current returns of market premium bonds are higher than comparably rated bonds
selling at par because premium bonds tend to decrease in market value as they
approach maturity. Because part of the purchase price is returned through
current income payments and not at maturity, an early redemption at par of a
premium bond will result in a reduction in yield to the Fund. Market premium or
discount attributable to interest rate changes does not indicate market
confidence or lack of confidence in the issue.
Certain Bonds deposited into the Fund may have been acquired on a
when-issued or delayed delivery basis. The purchase price for these Bonds is
determined prior to their delivery to the Fund and a gain or loss may result
from fluctuations in the value of the Bonds. Additionally, in any Defined Asset
Funds Municipal Series, if the value of the Bonds reserved for payment of the
periodic deferred sales charge, together with the interest thereon, were to
become insufficient to pay these charges, additional bonds would be required to
be sold.
The Fund may be concentrated in one or more of types of bonds.
Concentration in a State may involve additional risk because of the decreased
diversification of economic, political, financial and market risks. Set forth
below is a brief description of certain risks associated with bonds which may be
held by the Fund. Additional information is contained in the Information
Supplement which is available from the Trustee at no charge to the investor.
GENERAL OBLIGATION BONDS
Certain of the Bonds may be general obligations of a governmental entity.
General obligation bonds are backed by the issuer's pledge of its full faith,
credit and taxing power for the payment of principal and interest. However, the
taxing power of any governmental entity may be limited by provisions of state
constitutions or laws and its credit will
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depend on many factors, including an erosion of the tax base resulting from
population declines, natural disasters, declines in the state's industrial base
or an inability to attract new industries, economic limits on the ability to tax
without eroding the tax base and the extent to which the entity relies on
federal or state aid, access to capital markets or other factors beyond the
entity's control. In addition, political restrictions on the ability to tax and
budgetary constraints affecting state governmental aid may have an adverse
impact on the creditworthiness of cities, counties, school districts and other
local governmental units.
As a result of the recent recession's adverse impact upon both revenues and
expenditures, as well as other factors, many state and local governments have
confronted deficits which were the most severe in recent years. Many issuers are
facing highly difficult choices about significant tax increases and spending
reductions in order to restore budgetary balance. The failure to implement these
actions on a timely basis could force these issuers to issue additional debt to
finance deficits or cash flow needs and could lead to a reduction of their bond
ratings and the value of their outstanding bonds.
MORAL OBLIGATION BONDS
The Portfolio may include 'moral obligation' bonds. If an issuer of moral
obligation bonds is unable to meet its obligations, the repayment of the bonds
becomes a moral commitment but not a legal obligation of the state or local
government in question. Even though the state or local government may be called
on to restore any deficits in capital reserve funds of the agencies or
authorities which issued the bonds, any restoration generally requires
appropriation by the state or local legislature and does not constitute a
legally enforceable obligation or debt of the state or local government. The
agencies or authorities generally have no taxing power.
REFUNDED BONDS
Refunded bonds are typically secured by direct obligations of the U.S.
Government or in some cases obligations guaranteed by the U.S. Government placed
in an escrow account maintained by an independent trustee until maturity or a
predetermined redemption date. These obligations are generally noncallable prior
to maturity or the predetermined redemption date. In a few isolated instances,
however, bonds which were thought to be escrowed to maturity have been called
for redemption prior to maturity.
MUNICIPAL REVENUE BONDS
Municipal revenue bonds are tax-exempt securities issued by states,
municipalities, public authorities or similar entities to finance the cost of
acquiring, constructing or improving various projects. Municipal revenue bonds
are not general obligations of governmental entities backed by their taxing
power and payment is generally solely dependent upon the creditworthiness of the
public issuer or the financed project or state appropriations. Examples of
municipal revenue bonds are:
Municipal utility bonds, including electrical, water and sewer revenue
bonds, whose payments are dependent on various factors, including the rates
the utilities may charge, the demand for their services and their operating
costs, including expenses to comply with environmental legislation and
other energy and licensing laws and regulations. Utilities are particularly
sensitive to, among other things, the effects of inflation on operating and
construction costs, the unpredictability of future usage requirements, the
costs and availability of fuel and, with certain electric utilities, the
risks associated with the nuclear industry;
Lease rental bonds which are generally issued by governmental financing
authorities with no direct taxing power for the purchase of equipment or
construction of buildings that will be used by a state or local government.
Lease rental bonds are generally subject to an annual risk that the lessee
government might not appropriate funds for the leasing rental payments to
service the bonds and may also be subject to the risk that rental
obligations may terminate in the event of damage to or destruction or
condemnation of the equipment or building;
Multi-family housing revenue bonds and single family mortgage revenue
bonds which are issued to provide financing for various housing projects
and which are payable primarily from the revenues derived from mortgage
loans to housing projects for low to moderate income families or notes
secured by mortgages on residences; repayment of this type of bonds is
therefore dependent upon, among other things, occupancy levels, rental
income, the rate of default on underlying mortgage loans, the ability of
mortgage insurers to pay claims, the continued availability of federal,
state or local housing subsidy programs, economic conditions in local
markets, construction costs, taxes, utility costs and other operating
expenses and the managerial ability of project managers. Housing bonds are
generally prepayable at any time and therefore their average life will
ordinarily be less than their stated maturities;
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Hospital and health care facility bonds whose payments are dependent
upon revenues of hospitals and other health care facilities. These revenues
come from private third-party payors and government programs, including the
Medicare and Medicaid programs, which have generally undertaken cost
containment measures to limit payments to health care facilities. Hospitals
and health care facilities are subject to various legal claims by patients
and others and are adversely affected by increasing costs of insurance;
Airport, port, highway and transit authority revenue bonds which are
dependent for payment on revenues from the financed projects, including
user fees from ports and airports, tolls on turnpikes and bridges, rents
from buildings, transit fare revenues and additional financial resources
including federal and state subsidies, lease rentals paid by state or local
governments or a pledge of a special tax such as a sales tax or a property
tax. In the case of the air travel industry, airport income is largely
affected by the airlines' ability to meet their obligations under use
agreements which in turn is affected by increased competition among
airlines, excess capacity and increased fuel costs, among other factors.
Solid waste disposal bonds which are generally payable from dumping and
user fees and from revenues that may be earned by the facility on the sale
of electrical energy generated in the combustion of waste products and
which are therefore dependent upon the ability of municipalities to fully
utilize the facilities, sufficient supply of waste for disposal, economic
or population growth, the level of construction and maintenance costs, the
existence of lower-cost alternative modes of waste processing and
increasing environmental regulation. A recent decision of the U.S. Supreme
Court limiting a municipality's ability to require use of its facilities
may have an adverse affect on the credit quality of various issues of these
bonds;
Special tax bonds which are not secured by general tax revenues but are
only payable from and secured by the revenues derived by a municipality
from a particular tax--for example, a tax on the rental of a hotel room, on
the purchase of food and beverages, on the rental of automobiles or on the
consumption of liquor and may therefore be adversely affected by a
reduction in revenues resulting from a decline in the local economy or
population or a decline in the consumption, use or cost of the goods and
services that are subject to taxation;
Student loan revenue bonds which are typically secured by pledges of new
or existing student loans. The loans, in turn, are generally either
guaranteed by eligible guarantors and reinsured by the Secretary of the
U.S. Department of Education, directly insured by the federal government,
or financed as part of supplemental or alternative loan programs within a
state (e.g., loan repayments are not guaranteed). These bonds often permit
the issuer to enter into interest rate swap agreements with eligible
counterparties in which event the bonds are subject to the additional risk
of the counterparty's ability to fulfill its swap obligation;
University and college bonds, the payments on which are dependent upon
various factors, including the size and diversity of their sources of
revenues, enrollment, reputation, the availability of endowments and other
funds and, in the case of public institutions, the financial condition of
the relevant state or other governmental entity and its policies with
respect to education; and
Tax increment and tax allocation bonds, which are secured by ad valorem
taxes imposed on the incremental increase of taxable assessed valuation of
property within a jurisdiction above an established base of assessed value.
The issuers of these bonds do not have general taxing authority and the tax
assessments on which the taxes used to service the bonds are based may be
subject to devaluation due to market price declines or governmental action.
Puerto Rico. Certain Bonds may be affected by general economic conditions
in the Commonwealth of Puerto Rico. Puerto Rico's economy is largely dependent
for its development on federal programs and current federal budgetary policies
suggest that an expansion of its programs is unlikely. Reductions in federal tax
benefits or incentives or curtailment of spending programs could adversely
affect the Puerto Rican economy.
Industrial Development Revenue Bonds. Industrial development revenue bonds
are municipal obligations issued to finance various privately operated projects
including pollution control and manufacturing facilities. Payment is generally
solely dependent upon the creditworthiness of the corporate operator of the
project and, in certain cases, an affiliated or third party guarantor and may be
affected by economic factors relating to the particular industry as well as
varying degrees of governmental regulation. In many cases industrial revenue
bonds do not have the benefit of covenants which would prevent the corporations
from engaging in capital restructurings or borrowing transactions which could
reduce their ability to meet their obligations and result in a reduction in the
value of the Portfolio.
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BONDS BACKED BY LETTERS OF CREDIT OR INSURANCE
Certain Bonds may be secured by letters of credit issued by commercial
banks or savings banks, savings and loan associations and similar thrift
institutions or are direct obligations of banks or thrifts. The letter of credit
may be drawn upon, and the Bonds redeemed, if an issuer fails to pay amounts due
on the Bonds or, in certain cases, if the interest on the Bond becomes taxable.
Letters of credit are irrevocable obligations of the issuing institutions. The
profitability of a financial institution is largely dependent upon the credit
quality of its loan portfolio which, in turn, is affected by the institution's
underwriting criteria, concentrations within the portfolio and specific industry
and general economic conditions. The operating performance of financial
institutions is also impacted by changes in interest rates, the availability and
cost of funds, the intensity of competition and the degree of governmental
regulation.
Certain Bonds may be insured or guaranteed by insurance companies listed
below. The claims-paying ability of each of these companies, unless otherwise
indicated, was rated AAA by Standard & Poor's or another nationally recognized
rating organization at the time the insured Bonds were purchased by the Fund.
The ratings are subject to change at any time at the discretion of the rating
agencies. In the event that the rating of an Insured Fund is reduced, the
Sponsors are authorized to direct the Trustee to obtain other insurance on
behalf of the Fund. The insurance policies guarantee the timely payment of
principal and interest on the Bonds but do not guarantee their market value or
the value of the Units. The insurance policies generally do not provide for
accelerated payments of principal or cover redemptions resulting from events of
taxability.
The following summary information relating to the listed insurance
companies has been obtained from publicly available information:
<TABLE><CAPTION>
FINANCIAL INFORMATION
AS OF MARCH 31, 1995
(IN MILLIONS OF DOLLARS)
-------------------------------------
POLICYHOLDERS'
NAME DATE ESTABLISHED ADMITTED ASSETS SURPLUS
----------------------------------------------------- ----------------- --------------- --------------------
<S> <C> <C> <C>
AMBAC Indemnity Corporation.......................... 1970 $ 2,204 $ 792
Asset Guaranty Insurance Co. (AA by S&P)............. 1988 166 77
Capital Guaranty Insurance Company................... 1986 309 171
Capital Markets Assurance Corp....................... 1987 210 138
Connie Lee Insurance Company......................... 1987 195 108
Continental Casualty Company......................... 1948 19,816 3,502
Financial Guaranty Insurance Company................. 1984 2,172 963
Financial Security Assurance Inc..................... 1984 806 341
Firemen's Insurance Company of Newark, NJ 1855 2,038 390
Industrial Indemnity Co. (HIBI)...................... 1920 1,719 309
MBIA Insurance Corporation........................... 1986 3,504 1,132
</TABLE>
Insurance companies are subject to extensive regulation and supervision
where they do business by state insurance commissioners who regulate the
standards of solvency which must be maintained, the nature of and limitations on
investments, reports of financial condition, and requirements regarding reserves
for unearned premiums, losses and other matters. A significant portion of the
assets of insurance companies are required by law to be held in reserve against
potential claims on policies and is not available to general creditors. Although
the federal government does not regulate the business of insurance, federal
initiatives including pension regulation, controls on medical care costs,
minimum standards for no-fault automobile insurance, national health insurance,
tax law changes affecting life insurance companies and repeal of the antitrust
exemption for the insurance business can significantly impact the insurance
business.
STATE RISK FACTORS
Investment in a single State Trust, as opposed to a Fund which invests in
the obligations of several states, may involve some additional risk due to the
decreased diversification of economic, political, financial and market risks. A
brief description of the factors which may affect the financial condition of the
applicable State for any State Trust, together with a summary of tax
considerations relating to that State, appear in Part A (or for certain State
Trusts, Part C), of the Prospectus; further information is contained in the
Information Supplement.
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LITIGATION AND LEGISLATION
The Sponsors do not know of any pending litigation as of the initial date
of deposit which might reasonably be expected to have a material adverse effect
upon the Fund. At any time after the initial date of deposit, litigation may be
initiated on a variety of grounds, or legislation may be enacted, affecting the
Bonds in the Fund. Litigation, for example, challenging the issuance of
pollution control revenue bonds under environmental protection statutes may
affect the validity of certain Bonds or the tax-free nature of their interest.
While the outcome of litigation of this nature can never be entirely predicted,
opinions of bond counsel are delivered on the date of issuance of each Bond to
the effect that it has been validly issued and that the interest thereon is
exempt from federal income tax. From time to time, proposals are introduced in
Congress to, among other things, reduce federal income tax rates, impose a flat
tax, exempt investment income from tax or abolish the federal income tax and
replace it with another form of tax. Enactment of any such legislation could
adversely affect the value of the Units. The Fund, however, cannot predict what
legislation, if any, in respect of tax rates may be proposed, nor can it predict
which proposals, if any, might be enacted.
Also, certain proposals, in the form of state legislative proposals or
voter initiatives, seeking to limit real property taxes have been introduced in
various states, and an amendment to the constitution of the State of California,
providing for strict limitations on real property taxes, has had a significant
impact on the taxing powers of local governments and on the financial condition
of school districts and local governments in California. In addition, other
factors may arise from time to time which potentially may impair the ability of
issuers to make payments due on the Bonds. Under the Federal Bankruptcy Code,
for example, municipal bond issuers, as well as any underlying corporate
obligors or guarantors, may proceed to restructure or otherwise alter the terms
of their obligations.
From time to time Congress considers proposals to prospectively and
retroactively tax the interest on state and local obligations, such as the
Bonds. The Supreme Court clarified in South Carolina v. Baker (decided on April
20, 1988) that the U.S. Constitution does not prohibit Congress from passing a
nondiscriminatory tax on interest on state and local obligations. This type of
legislation, if enacted into law, could require investors to pay income tax on
interest from the Bonds and could adversely affect an investment in Units. See
Taxes.
PAYMENT OF THE BONDS AND LIFE OF THE FUND
The size and composition of the Portfolio will change over time. Most of
the Bonds are subject to redemption prior to their stated maturity dates
pursuant to optional refunding or sinking fund redemption provisions or
otherwise. In general, optional refunding redemption provisions are more likely
to be exercised when the value of a Bond is at a premium over par than when it
is at a discount from par. Some Bonds may be subject to sinking fund and
extraordinary redemption provisions which may commence early in the life of the
Fund. Additionally, the size and composition of the Fund will be affected by the
level of redemptions of Units that may occur from time to time. Principally,
this will depend upon the number of investors seeking to sell or redeem their
Units and whether or not the Sponsors are able to sell the Units acquired by
them in the secondary market. As a result, Units offered in the secondary market
may not represent the same face amount of Bonds as on the initial date of
deposit. Factors that the Sponsors will consider in determining whether or not
to sell Units acquired in the secondary market include the diversity of the
Portfolio, the size of the Fund relative to its original size, the ratio of Fund
expenses to income, the Fund's current and long-term returns, the degree to
which Units may be selling at a premium over par and the cost of maintaining a
current prospectus for the Fund. These factors may also lead the Sponsors to
seek to terminate the Fund earlier than its mandatory termination date.
FUND TERMINATION
The Fund will be terminated no later than the mandatory termination date
specified in Part A of the Prospectus. It will terminate earlier upon the
disposition of the last Bond or upon the consent of investors holding 51% of the
Units. The Fund may also be terminated earlier by the Sponsors once the total
assets of the Fund have fallen below the minimum value specified in Part A of
the Prospectus. A decision by the Sponsors to terminate the Fund early will be
based on factors similar to those considered by the Sponsors in determining
whether to continue the sale of Units in the secondary market.
Notice of impending termination will be provided to investors and
thereafter units will no longer be redeemable. On or shortly before termination,
the Fund will seek to dispose of any Bonds remaining in the Portfolio although
any Bond unable to be sold at a reasonable price may continue to be held by the
Trustee in a liquidating trust pending its final disposition. A proportional
share of the expenses associated with termination, including brokerage costs in
disposing of Bonds, will be borne by investors remaining at that time. This may
have the effect of reducing the amount of proceeds those investors are to
receive in any final distribution.
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LIQUIDITY
Up to 40% of the value of the Portfolio may be attributable to guarantees
or similar security provided by corporate entities. These guarantees or other
security may constitute restricted securities that cannot be sold publicly by
the Trustee without registration under the Securities Act of 1933, as amended.
The Sponsors nevertheless believe that, should a sale of the Bonds guaranteed or
secured be necessary in order to meet redemption of Units, the Trustee should be
able to consummate a sale with institutional investors.
The principal trading market for the Bonds will generally be in the
over-the-counter market and the existence of a liquid trading market for the
Bonds may depend on whether dealers will make a market in them. There can be no
assurance that a liquid trading market will exist for any of the Bonds,
especially since the Fund may be restricted under the Investment Company Act of
1940 from selling Bonds to any Sponsor. The value of the Portfolio will be
adversely affected if trading markets for the Bonds are limited or absent.
HOW TO BUY UNITS
Units are available from any of the Sponsors, Underwriters and other
broker-dealers at the Public Offering Price plus accrued interest on the Units.
The Public Offering Price varies each Business Day with changes in the value of
the Portfolio and other assets and liabilities of the Fund.
PUBLIC OFFERING PRICE--DEFINED ASSET FUNDS MUNICIPAL SERIES
To allow Units to be priced at $1,000, the Units outstanding as of the
Evaluation Time on the Initial Date of Deposit (all of which are held by the
Sponsors) will be split (or split in reverse).
During the initial offering period for at least the first three months of
the Fund, the Public Offering Price (and the Initial Repurchase Price) is based
on the higher, offer side evaluation of the Bonds at the next Evaluation Time
after the order is received. In the secondary market (after the initial offering
period), the Public Offering Price (and the Sponsors' Repurchase Price and the
Redemption Price) is based on the lower, bid side evaluation of the Bonds.
Investors will be subject to differing types and amounts of sales charge
depending upon the timing of their purchases and redemptions of Units. A
periodic deferred sales charge will be payable quarterly through about the fifth
anniversary of the Fund from a portion of the interest on and principal of Bonds
reserved for that purpose. Commencing on the first anniversary of the Fund, the
Public Offering Price will also include an up-front sales charge applied to the
value of the Bonds in the Portfolio. Lastly, investors redeeming their Units
prior to the fourth anniversary of the Fund will be charged a contingent
deferred sales charge payable out of the redemption proceeds of their Units.
These charges may be less than you would pay to buy and hold a comparable
managed fund. A complete schedule of sales charges appears in Appendix B. The
Sponsors have received an opinion of their counsel that the deferred sales
charge described in this Prospectus is consistent with an exemptive order
received from the SEC.
The regular Monthly Income Distribution is stated in Part A of the
Prospectus and will change as the composition of the Portfolio changes over
time.
PUBLIC OFFERING PRICE--MUNICIPAL INVESTMENT TRUST FUND
In the initial offering period, the Public Offering Price is based on the
next offer side evaluation of the Bonds, and includes a sales charge based on
the number of Units of a single Fund or Trust purchased on the same or any
preceding day by a single purchaser. See Initial Offering sales charge schedule
in Appendix C. The purchaser or his dealer must notify the Sponsors at the time
of purchase of any previous purchase to be aggregated and supply sufficient
information to permit confirmation of eligibility; acceptance of the purchase
order is subject to confirmation. Purchases of Fund Units may not be aggregated
with purchases of any other unit trust. This procedure may be amended or
terminated at any time without notice.
In the secondary market (after the initial offering period), the Public
Offering Price is based on the bid side evaluation of the Bonds, and includes a
sales charge based (a) on the number of Units of the Fund and any other Series
of Municipal Investment Trust Fund purchased in the secondary market on the same
day by a single purchaser (see Secondary Market sales charge schedule in
Appendix C) and (b) the maturities of the underlying Bonds (see Effective Sales
Charge Schedule in Appendix C). To qualify for a reduced sales charge, the
dealer must confirm that the sale is to a single purchaser or is purchased for
its own account and not for distribution. For these purposes, Units held in the
name of the purchaser's spouse or child under 21 years of age are deemed to be
purchased by a single purchaser. A trustee or other fiduciary purchasing
securities for a single trust estate or single fiduciary account is also
considered a single purchaser.
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In the secondary market, the Public Offering Price is further reduced
depending on the maturities of the various Bonds in the Portfolio, by
determining a sales charge percentage for each Bond, as stated in Effective
Sales Charge in Appendix C. The sales charges so determined, multiplied by the
bid side evaluation of the Bonds, are aggregated and the total divided by the
number of Units outstanding to determine the Effective Sales Charge. On any
purchase, the Effective Sales Charge is multiplied by the applicable secondary
market sales charge percentage (depending on the number of Units purchased) in
order to determine the sales charge component of the Public Offering Price.
* * *
Employees of certain Sponsors and Sponsor affiliates and non-employee
directors of Merrill Lynch & Co. Inc. may purchase Units at any time at prices
including a sales charge of not less than $5 per Unit.
Because accrued interest on the Bonds is not received by the Fund at a
constant rate throughout the year, any Monthly Income Distribution may be more
or less than the interest actually received by the Fund. To eliminate
fluctuations in the Monthly Income Distribution, a portion of the Public
Offering Price consists of cash to enable the Trustee to advance an amount
necessary to provide approximately equal distributions. Upon the sale or
redemption of Units, investors will receive their proportionate share of the
Trustee advance. In addition, if a Bond is sold, redeemed or otherwise disposed
of, the Fund will periodically distribute to investors the portion of the
Trustee advance that is attributable to the Bond.
Net accrued interest is added to the Public Offering Price, the Sponsors'
Repurchase Price and the Redemption Price per Unit. This represents the interest
accrued on the Bonds, net of Fund expenses, from the initial date of deposit to,
but not including, the settlement date for Units (less any prior distributions
of interest income to investors). Bonds deposited also carry accrued but unpaid
interest up to the initial date of deposit. To avoid having investors pay this
additional accrued interest (which earns no return) when they purchase Units,
the Trustee advances and distributes this amount to the Sponsors; it recovers
this advance from interest received on the Bonds. Because of varying interest
payment dates on the Bonds, accrued interest at any time will exceed the
interest actually received by the Fund.
EVALUATIONS
Evaluations are determined by the independent Evaluator on each Business
Day. This excludes Saturdays, Sundays and the following holidays as observed by
the New York Stock Exchange: New Year's Day, Presidents' Day, Good Friday,
Memorial Day, Independence Day, Labor Day, Thanksgiving and Christmas. Bond
evaluations are based on closing sales prices (unless the Evaluator deems these
prices inappropriate). If closing sales prices are not available, the evaluation
is generally determined on the basis of current bid or offer prices for the
Bonds or comparable securities or by appraisal or by any combination of these
methods. In the past, the bid prices of publicly offered tax-exempt issues have
been lower than the offer prices by as much as 3 1/2% or more of face amount in
the case of inactively traded issues and as little as 1/2 of 1% in the case of
actively traded issues, but the difference between the offer and bid prices has
averaged between 1 and 2% of face amount. Neither the Sponsors, the Trustee or
the Evaluator will be liable for errors in the Evaluator's judgment. The fees of
the Evaluator will be borne by the Fund.
CERTIFICATES
Certificates for Units are issued upon request and may be transferred by
paying any taxes or governmental charges and by complying with the requirements
for redeeming Certificates (see How To Sell Units--Trustee's Redemption of
Units). Certain Sponsors collect additional charges for registering and shipping
Certificates to purchasers. Lost or mutilated Certificates can be replaced upon
delivery of satisfactory indemnity and payment of costs.
HOW TO SELL UNITS
SPONSORS' MARKET FOR UNITS
You can sell your Units at any time without a fee. The Sponsors (although
not obligated to do so) will normally buy any Units offered for sale at the
repurchase price next computed after receipt of the order. The Sponsors have
maintained secondary markets in Defined Asset Funds for over 20 years. Primarily
because of the sales charge and fluctuations in the market value of the Bonds,
the sale price may be less than the cost of your Units. You should consult your
financial professional for current market prices to determine if other
broker-dealers or banks are offering higher prices for Units.
The Sponsors may discontinue this market without prior notice if the supply
of Units exceeds demand or for other business reasons; in that event, the
Sponsors may still purchase Units at the redemption price as a service to
investors. The Sponsors may reoffer or redeem Units repurchased.
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TRUSTEE'S REDEMPTION OF UNITS
You may redeem your Units by sending the Trustee a redemption request
together with any certificates you hold. Certificates must be properly endorsed
or accompanied by a written transfer instrument with signatures guaranteed by an
eligible institution. In certain instances, additional documents may be required
such as a certificate of death, trust instrument, certificate of corporate
authority or appointment as executor, administrator or guardian. If the Sponsors
are maintaining a market for Units, they will purchase any Units tendered at the
repurchase price described above. While Defined Asset Funds Municipal Series
have a declining deferred sales charge payable on redemption (see Appendix B),
Municipal Investment Trust Fund has no back-end load or 12b-1 fees, so there is
never a fee for cashing in your investment (see Appendix C). If they do not
purchase Units tendered, the Trustee is authorized in its discretion to sell
Units in the over-the-counter market if it believes it will obtain a higher net
price for the redeeming investor.
By the seventh calendar day after tender you will be mailed an amount equal
to the Redemption Price per Unit. Because of market movements or changes in the
Portfolio, this price may be more or less than the cost of your Units. The
Redemption Price per Unit is computed each Business Day by adding the value of
the Bonds, net accrued interest, cash and the value of any other Fund assets;
deducting unpaid taxes or other governmental charges, accrued but unpaid Fund
expenses, unreimbursed Trustee advances, cash held to redeem Units or for
distribution to investors and the value of any other Fund liabilities; and
dividing the result by the number of outstanding Units.
For Defined Asset Funds Municipal Series, Bonds are evaluated on the offer
side during the initial offering period and for at least the first three months
of the Fund (even in the secondary market) and on the bid side thereafter. For
Municipal Investment Trust Fund, Bonds are evaluated on the offer side during
the initial offering period and on the bid side thereafter.
If cash is not available in the Fund's Income and Capital Accounts to pay
redemptions, the Trustee may sell Bonds selected by the Agent for the Sponsors
based on market and credit factors determined to be in the best interest of the
Fund. These sales are often made at times when the Bonds would not otherwise be
sold and may result in lower prices than might be realized otherwise and will
also reduce the size and diversity of the Fund.
Redemptions may be suspended or payment postponed if the New York Stock
Exchange is closed other than for customary weekend and holiday closings, if the
SEC determines that trading on that Exchange is restricted or that an emergency
exists making disposal or evaluation of the Bonds not reasonably practicable, or
for any other period permitted by the SEC.
INCOME, DISTRIBUTIONS AND REINVESTMENT
INCOME
Some of the Bonds may have been purchased on a when-issued basis or may
have a delayed delivery. Since interest on these Bonds does not begin to accrue
until the date of their delivery to the Fund, the Trustee's annual fee and
expenses may be reduced to provide tax-exempt income to investors for this
non-accrual period. If a when-issued Bond is not delivered until later than
expected and the amount of the Trustee's annual fee and expenses is insufficient
to cover the additional accrued interest, the Sponsors will treat the contracts
as failed Bonds. The Trustee is compensated for its fee reduction by drawing on
the letter of credit deposited by the Sponsors before the settlement date for
these Bonds and depositing the proceeds in a non-interest bearing account for
the Fund.
Interest received is credited to an Income Account and other receipts to a
Capital Account. A Reserve Account may be created by withdrawing from the Income
and Capital Accounts amounts considered appropriate by the Trustee to reserve
for any material amount that may be payable out of the Fund.
DISTRIBUTIONS
Each Unit receives an equal share of monthly distributions of interest
income net of estimated expenses. Interest on the Bonds is generally received by
the Fund on a semi-annual or annual basis. Because interest on the Bonds is not
received at a constant rate throughout the year, any Monthly Income Distribution
may be more or less than the interest actually received. To eliminate
fluctuations in the Monthly Income Distribution, the Trustee will advance
amounts necessary to provide approximately equal interest distributions; it will
be reimbursed, without interest, from interest received on the Bonds, but the
Trustee is compensated, in part, by holding the Fund's cash balances in
non-interest bearing accounts. Along with the Monthly Income Distributions, the
Trustee will distribute the investor's pro rata share of principal received from
any disposition of a Bond to the extent available for distribution. In addition,
for Defined Asset Funds Municipal Series, distributions of amounts necessary to
pay the deferred portion of
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the sales charge will be made from the Capital and Income Accounts to an account
maintained by the Trustee for purposes of satisfying investors' sales charge
obligations.
The initial estimated annual income per Unit, after deducting estimated
annual Fund expenses (and, for Defined Asset Funds Municipal Series, the portion
of the deferred sales charge payable from interest income) as stated in Part A
of the Prospectus, will change as Bonds mature, are called or sold or otherwise
disposed of, as replacement bonds are deposited and as Fund expenses change.
Because the Portfolio is not actively managed, income distributions will
generally not be affected by changes in interest rates. Depending on the
financial conditions of the issuers of the Bonds, the amount of income should be
substantially maintained as long as the Portfolio remains unchanged; however,
optional bond redemptions or other Portfolio changes may occur more frequently
when interest rates decline, which would result in early returns of principal
and possibly earlier termination of the Fund.
REINVESTMENT
Distributions will be paid in cash unless the investor elects to have
distributions reinvested without sales charge in the Municipal Fund Accumulation
Program, Inc. The Program is an open-end management investment company whose
investment objective is to obtain income exempt from regular federal income
taxes by investing in a diversified portfolio of state, municipal and public
authority bonds rated A or better or with comparable credit characteristics.
Reinvesting compounds earnings free from federal tax. Investors participating in
the Program will be subject to state and local income taxes to the same extent
as if the distributions had been received in cash, and most of the income on the
Program is subject to state and local income taxes. For more complete
information about the Program, including charges and expenses, request the
Program's prospectus from the Trustee. Read it carefully before you decide to
participate. Written notice of election to participate must be received by the
Trustee at least ten days before the Record Day for the first distribution to
which the election is to apply.
FUND EXPENSES
Estimated annual Fund expenses are listed in Part A of the Prospectus; if
actual expenses exceed the estimate, the excess will be borne by the Fund. The
Trustee's annual fee is payable in monthly installments. The Trustee also
benefits when it holds cash for the Fund in non-interest bearing accounts.
Possible additional charges include Trustee fees and expenses for maintaining
the Fund's registration statement current with Federal and State authorities,
extraordinary services, costs of indemnifying the Trustee and the Sponsors,
costs of action taken to protect the Fund and other legal fees and expenses,
Fund termination expenses and any governmental charges. The Trustee has a lien
on Fund assets to secure reimbursement of these amounts and may sell Bonds for
this purpose if cash is not available. The Sponsors receive an annual fee of a
maximum of $0.35 per $1,000 face amount to reimburse them for the cost of
providing Portfolio supervisory services to the Fund. While the fee may exceed
their costs of providing these services to the Fund, the total supervision fees
from all Defined Asset Funds Municipal Series will not exceed their costs for
these services to all of those Series during any calendar year; and the total
supervision fees from all Series of Municipal Investment Trust Fund will not
exceed their costs for these services to all of those Series during any calendar
year. The Sponsors may also be reimbursed for their costs of providing
bookkeeping and administrative services to the Fund, currently estimated at
$0.10 per Unit. The Trustee's, Sponsors' and Evaluator's fees may be adjusted
for inflation without investors' approval.
All or a portion of expenses incurred in establishing the Fund, including
the cost of the initial preparation of documents relating to the Fund, Federal
and State registration fees, the initial fees and expenses of the Trustee, legal
expenses and any other out-of-pocket expenses will be paid by the Fund and
amortized over five years. Advertising and selling expenses will be paid from
the Underwriting Account at no charge to the Fund. Sales charges on Defined
Asset Funds range from under 1.0% to 5.5%. This may be less than you might pay
to buy and hold a comparable managed fund. Defined Asset Funds can be a
cost-effective way to purchase and hold investments. Annual operating expenses
are generally lower than for managed funds. Because Defined Asset Funds have no
management fees, limited transaction costs and no ongoing marketing expenses,
operating expenses are generally less than 0.25% a year. When compounded
annually, small differences in expense ratios can make a big difference in your
investment results. Because our portfolios rarely hold any significant amount of
cash, your money is more fully invested.
TAXES
The following discussion addresses only the U.S. federal and certain New
York State and City income tax consequences under current law of Units held as
capital assets and does not address the tax consequences of Units held by
dealers, financial institutions or insurance companies or other investors with
special circumstances.
In the opinion of Davis Polk & Wardwell, special counsel for the Sponsors,
under existing law:
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The Fund is not an association taxable as a corporation for federal
income tax purposes. Each investor will be considered the owner of a pro
rata portion of each Bond in the Fund under the grantor trust rules of
Sections 671-679 of the Internal Revenue Code of 1986, as amended (the
'Code'). Each investor will be considered to have received the interest and
accrued the original issue discount, if any, on his pro rata portion of
each Bond when interest on the Bond is received or original issue discount
is accrued by the Fund. The investor's basis in his Units will be equal to
the cost of his Units, including any up-front sales charge and the
organizational expenses borne by the investor.
When an investor pays for accrued interest, the investor's confirmation
of purchase will report to him the amount of accrued interest for which he
paid. These investors will receive the accrued interest amount as part of
their first monthly distribution. Accordingly, these investors should
reduce their tax basis by the accrued interest amount after the first
monthly distribution.
An investor will recognize taxable gain or loss when all or part of his
pro rata portion of a Bond is disposed of by the Fund. An investor will
also be considered to have disposed of all or a portion of his pro rata
portion of each Bond when he sells or redeems all or some of his Units. An
investor who is treated as having acquired his pro rata portion of a Bond
at a premium will be required to amortize the premium over the term of the
Bond. The amortization is only a reduction of basis for the investor's pro
rata portion of the Bond and does not result in any deduction against the
investor's income. Therefore, under some circumstances, an investor may
recognize taxable gain when his pro rata portion of a Bond is disposed of
for an amount equal to or less than his original tax basis therefor.
Under Section 265 of the Code, a non-corporate investor is not entitled
to a deduction for his pro rata share of fees and expenses of the Fund,
because the fees and expenses are incurred in connection with the
production of tax-exempt income. Further, if borrowed funds are used by an
investor to purchase or carry Units of the Fund, interest on this
indebtedness will not be deductible for federal income tax purposes. In
addition, under rules used by the Internal Revenue Service, the purchase of
Units may be considered to have been made with borrowed funds even though
the borrowed funds are not directly traceable to the purchase of Units.
Under the income tax laws of the State and City of New York, the Fund is
not an association taxable as a corporation and income received by the Fund
will be treated as the income of the investors in the same manner as for
federal income tax purposes, but will not be tax-exempt except to the
extent such income is earned by bonds in the Fund that are otherwise
tax-exempt for New York purposes.
The foregoing discussion relates only to U.S. federal and certain
aspects of New York State and City income taxes. Depending on their state
of residence, investors may be subject to state and local taxation and
should consult their own tax advisers in this regard.
* * *
In the opinion of bond counsel rendered on the date of issuance of each
Bond, the interest on each Bond is excludable from gross income under existing
law for regular federal income tax purposes (except in certain circumstances
depending on the investor) but may be subject to state and local taxes, and
interest on some or all of the Bonds may become subject to regular federal
income tax, perhaps retroactively to their date of issuance, as a result of
changes in federal law or as a result of the failure of issuers (or other users
of the proceeds of the Bonds) to comply with certain ongoing requirements. If
the interest on a Bond should be determined to be taxable, the Bond would
generally have to be sold at a substantial discount. In addition, investors
could be required to pay income tax on interest received prior to the date on
which the interest is determined to be taxable.
Neither the Sponsors nor Davis Polk & Wardwell have made or will make any
review of the proceedings relating to the issuance of the Bonds or the basis for
these opinions and there can be no assurance that the issuer (and other users)
will comply with any ongoing requirements necessary for a Bond to maintain its
tax-exempt character.
The Internal Revenue Service is currently engaged in a program of intensive
audits of certain tax-exempt hospital and health care facility organizations.
Although these audits have not yet been completed, it has been reported that the
tax-exempt status of some of these organizations may be revoked. At this time,
it is uncertain whether any of the hospital and health care facility obligations
held by the Fund will be affected by such audit proceedings.
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RECORDS AND REPORTS
The Trustee keeps a register of the names, addresses and holdings of all
investors. The Trustee also keeps records of the transactions of the Fund,
including a current list of the Bonds and a copy of the Indenture, and
supplemental information on the operations of the Fund and the risks associated
with the Bonds held by the Fund, which may be inspected by investors at
reasonable times during business hours.
With each distribution, the Trustee includes a statement of the interest
and any other receipts being distributed. Within five days after deposit of
Bonds in exchange or substitution for Bonds (or contracts) previously deposited,
the Trustee will send a notice to each investor, identifying both the Bonds
removed and the replacement bonds deposited. The Trustee sends each investor of
record an annual report summarizing transactions in the Fund's accounts and
amounts distributed during the year and Bonds held, the number of Units
outstanding and the Redemption Price at year end, the interest received by the
Fund on the Bonds, the gross proceeds received by the Fund from the disposition
of any Bond (resulting from redemption or payment at maturity or sale of any
Bond), and the fees and expenses paid by the Fund, among other matters. The
Trustee will also furnish annual information returns to each investor and to the
Internal Revenue Service. Investors are required to report to the Internal
Revenue Service the amount of tax-exempt interest received during the year.
Investors may obtain copies of Bond evaluations from the Trustee to enable them
to comply with federal and state tax reporting requirements. Fund accounts are
audited annually by independent accountants selected by the Sponsors. Audited
financial statements are available from the Trustee on request.
TRUST INDENTURE
The Fund is a 'unit investment trust' created under New York law by a Trust
Indenture among the Sponsors, the Trustee and the Evaluator. This Prospectus
summarizes various provisions of the Indenture, but each statement is qualified
in its entirety by reference to the Indenture.
The Indenture may be amended by the Sponsors and the Trustee without
consent by investors to cure ambiguities or to correct or supplement any
defective or inconsistent provision, to make any amendment required by the SEC
or other governmental agency or to make any other change not materially adverse
to the interest of investors (as determined in good faith by the Sponsors). The
Indenture may also generally be amended upon consent of investors holding 51% of
the Units. No amendment may reduce the interest of any investor in the Fund
without the investor's consent or reduce the percentage of Units required to
consent to any amendment without unanimous consent of investors. Investors will
be notified on the substance of any amendment.
The Trustee may resign upon notice to the Sponsors. It may be removed by
investors holding 51% of the Units at any time or by the Sponsors without the
consent of investors if it becomes incapable of acting or bankrupt, its affairs
are taken over by public authorities, or if under certain conditions the
Sponsors determine in good faith that its replacement is in the best interest of
the investors. The Evaluator may resign or be removed by the Sponsors and the
Trustee without the investors' consent. The resignation or removal of either
becomes effective upon acceptance of appointment by a successor; in this case,
the Sponsors will use their best efforts to appoint a successor promptly;
however, if upon resignation no successor has accepted appointment within 30
days after notification, the resigning Trustee or Evaluator may apply to a court
of competent jurisdiction to appoint a successor.
Any Sponsor may resign so long as one Sponsor with a net worth of
$2,000,000 remains and is agreeable to the resignation. A new Sponsor may be
appointed by the remaining Sponsors and the Trustee to assume the duties of the
resigning Sponsor. If there is only one Sponsor and it fails to perform its
duties or becomes incapable of acting or bankrupt or its affairs are taken over
by public authorities, the Trustee may appoint a successor Sponsor at reasonable
rates of compensation, terminate the Indenture and liquidate the Fund or
continue to act as Trustee without a Sponsor. Merrill Lynch, Pierce, Fenner &
Smith Incorporated has been appointed as Agent for the Sponsors by the other
Sponsors.
The Sponsors, the Trustee and the Evaluator are not liable to investors or
any other party for any act or omission in the conduct of their responsibilities
absent bad faith, willful misfeasance, negligence (gross negligence in the case
of a Sponsor or the Evaluator) or reckless disregard of duty. The Indenture
contains customary provisions limiting the liability of the Trustee.
MISCELLANEOUS
LEGAL OPINION
The legality of the Units has been passed upon by Davis Polk & Wardwell,
450 Lexington Avenue, New York, New York 10017, as special counsel for the
Sponsors.
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AUDITORS
The Statement of Condition on the back cover of the Prospectus was audited
by Deloitte & Touche LLP, independent accountants, as stated in their opinion.
It is included in reliance upon that opinion given on the authority of that firm
as experts in accounting and auditing.
TRUSTEE
The Trustee and its address are stated on the back cover of the Prospectus.
The Trustee is subject to supervision by the Federal Deposit Insurance
Corporation, the Board of Governors of the Federal Reserve System and either the
Comptroller of the Currency or state banking authorities.
SPONSORS
The Sponsors are listed on the back cover of the Prospectus. They may
include Merrill Lynch, Pierce, Fenner & Smith Incorporated, a wholly-owned
subsidiary of Merrill Lynch Co. Inc.; Smith Barney Inc., an indirect wholly-
owned subsidiary of The Travelers Inc.; Prudential Securities Incorporated, an
indirect wholly-owned subsidiary of the Prudential Insurance Company of America;
Dean Witter Reynolds, Inc., a principal operating subsidiary of Dean Witter
Discover & Co. and PaineWebber Incorporated, a wholly-owned subsidiary of
PaineWebber Group Inc. Each Sponsor, or one of its predecessor corporations, has
acted as Sponsor of a number of series of unit investment trusts. Each Sponsor
has acted as principal underwriter and managing underwriter of other investment
companies. The Sponsors, in addition to participating as members of various
selling groups or as agents of other investment companies, execute orders on
behalf of investment companies for the purchase and sale of securities of these
companies and sell securities to these companies in their capacities as brokers
or dealers in securities.
PUBLIC DISTRIBUTION
In the initial offering period Units will be distributed to the public
through the Underwriting Account and dealers who are members of the National
Association of Securities Dealers, Inc. The initial offering period is 30 days
or less if all Units are sold. If some Units initially offered have not been
sold, the Sponsors may extend the initial offering period for up to four
additional successive 30-day periods.
The Sponsors intend to qualify Units for sale in all states in which
qualification is deemed necessary through the Underwriting Account and by
dealers who are members of the National Association of Securities Dealers, Inc.;
however, Units of a State trust will be offered for sale only in the State for
which the trust is named, except that Units of a New Jersey trust will also be
offered in Connecticut, Units of a Florida trust will also be offered in New
York and Units of a New York trust will also be offered in Connecticut, Florida
and Puerto Rico. The Sponsors do not intend to qualify Units for sale in any
foreign countries and this Prospectus does not constitute an offer to sell Units
in any country where Units cannot lawfully be sold. Sales to dealers and to
introducing dealers, if any, will initially be made at prices which represent a
concession from the Public Offering Price, but the Agent for the Sponsors
reserves the right to change the rate of any concession from time to time. Any
dealer or introducing dealer may reallow a concession up to the concession to
dealers.
UNDERWRITERS' AND SPONSORS' PROFITS
Upon sale of the Units, the Underwriters will be entitled to receive sales
charges. The Sponsors also realize a profit or loss on deposit of the Bonds
equal to the difference between the cost of the Bonds to the Fund (based on the
offer side evaluation on the initial date of deposit) and the Sponsors' cost of
the Bonds. In addition, a Sponsor or Underwriter may realize profits or sustain
losses on Bonds it deposits in the Fund which were acquired from underwriting
syndicates of which it was a member. During the initial offering period, the
Underwriting Account also may realize profits or sustain losses as a result of
fluctuations after the initial date of deposit in the Public Offering Price of
the Units. In maintaining a secondary market for Units, the Sponsors will also
realize profits or sustain losses in the amount of any difference between the
prices at which they buy Units and the prices at which they resell these Units
(which include the sales charge) or the prices at which they redeem the Units.
Cash, if any, made available by buyers of Units to the Sponsors prior to a
settlement date for the purchase of Units may be used in the Sponsors'
businesses to the extent permitted by Rule 15c3-3 under the Securities Exchange
Act of 1934 and may be of benefit to the Sponsors.
FUND PERFORMANCE
Information on the performance of the Fund for various periods, on the
basis of changes in Unit price plus the amount of income and principal
distributions reinvested, may be included from time to time in advertisements,
sales literature, reports and other information furnished to current or
prospective investors. Total return figures are not averaged, and may not
reflect deduction of the sales charge, which would decrease the return. Average
annualized return figures reflect deduction of the maximum sales charge. No
provision is made for any income taxes payable.
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Past performance may not be indicative of future results. The Fund is not
actively managed. Unit price and return fluctuate with the value of the Bonds in
the Portfolio, so there may be a gain or loss when Units are sold.
Fund performance may be compared to performance on the same basis (with
distributions reinvested) of Moody's Municipal Bond Averages or performance data
from publications such as Lipper Analytical Services, Inc., Morningstar
Publications, Inc., Money Magazine, The New York Times, U.S. News and World
Report, Barron's Business Week, CDA Investment Technology, Inc., Forbes Magazine
or Fortune Magazine. As with other performance data, performance comparisons
should not be considered representative of the Fund's relative performance for
any future period.
DEFINED ASSET FUNDS
Municipal Investment Trust Funds have provided investors with tax-free
income for more than 30 years. For decades informed investors have purchased
unit investment trusts for dependability and professional selection of
investments. Defined Asset Funds' philosophy is to allow investors to 'buy with
knowledge' (because, unlike managed funds, the portfolio of municipal bonds and
the return are relatively fixed) and 'hold with confidence' (because the
portfolio is professionally selected and regularly reviewed). Defined Asset
Funds offers an array of simple and convenient investment choices, suited to fit
a wide variety of personal financial goals--a buy and hold strategy for capital
accumulation, such as for children's education or retirement, or attractive,
regular current income consistent with the preservation of principal. Tax-exempt
income can help investors keep more today for a more secure financial future. It
can also be important in planning because tax brackets may increase with higher
earnings or changes in tax laws. Unit investment trusts are particularly suited
for the many investors who prefer to seek long-term income by purchasing sound
investments and holding them, rather than through active trading. Few
individuals have the knowledge, resources or capital to buy and hold a
diversified portfolio on their own; it would generally take a considerable sum
of money to obtain the breadth and diversity that Defined Asset Funds offer.
One's investment objectives may call for a combination of Defined Asset Funds.
Defined Asset Funds reflect a buy and hold strategy that the Sponsors
believe can be more effective and cheaper than active management. This strategy
is premised on selection criteria and procedures, diversification and regular
monitoring by investment professionals. Various advertisements and sales
literature may summarize the results of economic studies concerning how stock
market movement has tended to be concentrated and how longer-term investments
can tend to reduce risk.
One of the most important investment decisions you face may be how to
allocate your investments among asset classes. Diversification among different
kinds of investments can balance the risks and rewards of each one. Most
investment experts recommend stocks for long-term capital growth. Long-term
corporate bonds offer relatively high rates of interest income. By purchasing
both defined equity and defined bond funds, investors can receive attractive
current income, as well as growth potential, offering some protection against
inflation. From time to time various advertisements, sales literature, reports
and other information furnished to current or prospective investors may present
the average annual compounded rate of return of selected asset classes over
various periods of time, compared to the rate of inflation over the same
periods.
EXCHANGE OPTION--MUNICIPAL INVESTMENT TRUST FUND ONLY.
You may exchange Fund Units for units of certain other Defined Asset Funds
subject only to a reduced sales charge. You may exchange your units of any
Municipal Investment Trust Fund Intermediate Term Series with a regular maximum
sales charge of at least 3.25%, of any other Defined Asset Fund with a regular
maximum sales charge of at least 3.50%, or of any unaffiliated unit trust with a
regular maximum sales charge of at least 3.0%, for Units of this Fund at their
relative net asset values, subject only to a reduced sales charge, or to any
remaining Deferred Sales Charge, as applicable.
To make an exchange, you should contact your financial professional to find
out what suitable Exchange Funds are available and to obtain a prospectus. You
may acquire units of only those Exchange Funds in which the Sponsors are
maintaining a secondary market and which are lawfully for sale in the state
where you reside. Except for the reduced sales charge, an exchange is a taxable
event normally requiring recognition of any gain or loss on the units exchanged.
However, the Internal Revenue Service may seek to disallow a loss if the
portfolio of the units acquired is not materially different from the portfolio
of the units exchanged; you should consult your own tax advisor. If the proceeds
of units exchanged are insufficient to acquire a whole number of Exchange Fund
units, you may pay the difference in cash (not exceeding the price of a single
unit acquired).
As the Sponsors are not obligated to maintain a secondary market in any
series, there can be no assurance that units of a desired series will be
available for exchange. The Exchange Option may be amended or terminated at any
time without notice.
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SUPPLEMENTAL INFORMATION
Upon written or telephonic request to the Trustee shown on the back cover
of this Prospectus, investors will receive at no cost to the investor
supplemental information about the Fund, which has been filed with the SEC. The
supplemental information includes more detailed risk factor disclosure about the
types of Bonds that may be part of the Fund's Portfolio, general risk disclosure
concerning any letters of credit or insurance securing certain Bonds, and
general information about the structure and operation of the Fund.
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APPENDIX A
DESCRIPTION OF RATINGS (AS DESCRIBED BY THE RATING COMPANIES THEMSELVES)
STANDARD & POOR'S RATINGS GROUP, A DIVISION OF MCGRAW-HILL, INC.
AAA--Debt rated AAA has the highest rating assigned by Standard & Poor's.
Capacity to pay interest and repay principal is extremely strong.
AA--Debt rated AA has a very strong capacity to pay interest and repay
principal and differs from the highest rated issues only in small degree.
A--Debt rated A has a strong capacity to pay interest and repay principal
although it is somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than debt in higher rated categories.
BBB--Debt rated BBB is regarded as having an adequate capacity to pay
interest and repay principal. Whereas it normally exhibits adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay interest and repay principal for
debt in this category than in higher rated categories.
BB, B, CCC, CC--Debt rated BB, B, CCC and CC is regarded, on balance, as
predominately speculative with respect to capacity to pay interest and repay
principal in accordance with the terms of the obligation. BB indicates the
lowest degree of speculation and CC the highest degree of speculation. While
such debt will likely have some quality and protective characteristics, these
are outweighed by large uncertainties or major risk exposures to adverse
conditions.
The ratings from AA to CCC may be modified by the addition of a plus or
minus sign to show relative standing within the major rating categories.
A provisional rating, indicated by 'p' following a rating, assumes the
successful completion of the project being financed by the issuance of the debt
being rated and indicates that payment of debt service requirements is largely
or entirely dependent upon the successful and timely completion of the project.
This rating, however, while addressing credit quality subsequent to completion
of the project, makes no comment on the likelihood of, or the risk of default
upon failure of, such completion.
* Continuance of the rating is contingent upon S&P's receipt of an executed
copy of the escrow agreement or closing documentation confirming investments and
cash flows.
NR--Indicates that no rating has been requested, that there is insufficient
information on which to base a rating or that Standard & Poor's does not rate a
particular type of obligation as a matter of policy.
MOODY'S INVESTORS SERVICE, INC.
Aaa--Bonds which are rated Aaa are judged to be the best quality. They
carry the smallest degree of investment risk and are generally referred to as
'gilt edge'. Interest payments are protected by a large or by an exceptionally
stable margin and principal is secure. While the various protective elements are
likely to change, such changes as can be visualized are most unlikely to impair
the fundamentally strong position of such issues.
Aa--Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known as
high grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in Aaa securities or fluctuation of protective
elements may be of greater amplitude or there may be other elements present
which make the long-term risks appear somewhat larger than in Aaa securities.
A--Bonds which are rated A possess many favorable investment attributes and
are to be considered as upper medium grade obligations. Factors giving security
to principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment sometime in the future.
Baa--Bonds which are rated Baa are considered as medium grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba--Bonds which are rated Ba are judged to have speculative elements; their
future 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
characterizes bonds in this class.
B--Bonds which are rated B generally lack characteristics of the 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.
a-1
<PAGE>
Rating symbols may include numerical modifiers 1, 2 or 3. The numerical
modifier 1 indicates that the security ranks at the high end, 2 in the
mid-range, and 3 nearer the low end, of the generic category. These modifiers of
rating symbols give investors a more precise indication of relative debt quality
in each of the historically defined categories.
Conditional ratings, indicated by 'Con.', are sometimes given when the
security for the bond depends upon the completion of some act or the fulfillment
of some condition. Such bonds are given a conditional rating that denotes their
probable credit stature upon completion of that act or fulfillment of that
condition.
NR--Should no rating be assigned, the reason may be one of the following:
(a) an application for rating was not received or accepted; (b) the issue or
issuer belongs to a group of securities that are not rated as a matter of
policy; (c) there is a lack of essential data pertaining to the issue or issuer
or (d) the issue was privately placed, in which case the rating is not published
in Moody's publications.
FITCH INVESTORS SERVICE, INC.
AAA--These bonds are considered to be investment grade and of the highest
quality. The obligor has an extraordinary ability to pay interest and repay
principal, which is unlikely to be affected by reasonably foreseeable events.
AA--These bonds are considered to be investment grade and of high quality.
The obligor's ability to pay interest and repay principal, while very strong, is
somewhat less than for AAA rated securities or more subject to possible change
over the term of the issue.
A--These bonds are considered to be investment grade and of good 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--These bonds are considered to be investment grade and of satisfactory
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 weaken this ability than bonds with higher ratings.
A '+' or a '-' sign after a rating symbol indicates relative standing in
its rating.
DUFF & PHELPS CREDIT RATING CO.
AAA--Highest credit quality. The risk factors are negligible, being only
slightly more than for risk-free U.S. Treasury debt.
AA--High credit quality. Protection factors are strong. Risk is modest but
may vary slightly from time to time because of economic condtions.
A--Protection factors are average but adequate. However, risk factors are
more variable and greater in periods of economic stress.
A '+' or a '-' sign after a rating symbol indicates relative standing in
its rating.
a-2
<PAGE>
APPENDIX B
SALES CHARGE SCHEDULES FOR DEFINED ASSET FUNDS, MUNICIPAL SERIES
DEFERRED AND UP-FRONT SALES CHARGES. Units purchased during the first year
of the Fund will be subject to periodic deferred and contingent deferred sales
charges. Units purchased in the second through fifth year will be subject to an
up-front sales charge as well as periodic deferred and contingent deferred sales
charges. Units purchased thereafter will be subject only to an up-front sales
charge. During the first five years of the Fund, a fixed periodic deferred sales
charge of $2.75 per Unit is payable on 20 quarterly payment dates occurring on
the 10th day of February, May, August and November, commencing no earlier than
45 days after the initial date of deposit. Investors purchasing Units on the
initial date of deposit and holding for at least five years, for example, would
incur total periodic deferred sales charges of $55.00 per Unit. Because of the
time value of money, however, as of the initial date of deposit this periodic
deferred sales charge obligation would, at current interest rates, equate to an
up-front sales charge of approximately 4.75%.
On the Fund's initial offering date, the Public Offering Price per Unit
will be $1,000. Subsequently, the Public Offering Price per Unit will fluctuate.
As the periodic deferred sales charge is a fixed dollar amount irrespective of
the Public Offering Price, it will represent a varying percentage of the Public
Offering Price. An up-front sales charge will be imposed on all unit purchases
after the first year of the Fund. The following table illustrates the combined
maximum up-front and periodic deferred sales charges that would be incurred by
an investor who purchases Units at the beginning of each of the first five years
of the Fund (based on a constant Unit price) and holds them through the fifth
year of the Fund:
<TABLE><CAPTION>
TOTAL
UP-FRONT AND
UP-FRONT SALES CHARGE MAXIMUM PERIODIC
AMOUNT DEFERRED SALES
DEFERRED PER CHARGES
$1,000 INVESTED PER $1,000 INVESTED
----------------------------------------------------------- --------------- --------------------
YEAR OF UNIT AS PERCENT OF PUBLIC AS PERCENT OF NET AMOUNT PER
PURCHASE OFFERING PRICE AMOUNT INVESTED $1,000 INVESTED
----------------- --------------------- ------------------- ---------------
<S> <C> <C> <C> <C> <C>
1 None None None $ 55.00 $ 55.00
2 1.10% 1.11% $ 11.00 44.00 55.00
3 2.20 2.25 22.00 33.00 55.00
4 3.30 3.41 33.00 22.00 55.00
5 4.40 4.60 44.00 11.00 55.00
</TABLE>
CONTINGENT DEFERRED SALES CHARGE. Units redeemed or repurchased within 4
years after the Fund's initial date of deposit will not only incur the periodic
deferred sales charge until the quarter of redemption or repurchase but will
also be subject to a contingent deferred sales charge:
YEAR SINCE FUND'S CONTINGENT DEFERRED
INITIAL DATE OF SALES CHARGE PER
DEPOSIT UNIT
-------------------- --------------------
1 $ 25.00
2 15.00
3 10.00
4 5.00
5 and thereafter None
The contingent deferred sales charge is waived on any redemption or
repurchase of Units after the death (including the death of a single joint
tenant with rights of survivorship) or disability (as defined in the Internal
Revenue Code) of an investor, provided the redemption or repurchase is requested
within one year of the death or initial determination of disability. The
Sponsors may require receipt of satisfactory proof of disability before
releasing the portion of the proceeds representing the amount of the contingent
deferred sales charge waived.
To assist investors in understanding the total costs of purchasing units
during the first four years of the Fund and disposing of those units by the
fifth year, the following tables set forth the maximum combined up-front,
periodic and contingent deferred sales charges that would be incurred (assuming
a constant Unit price) by an investor:
UNITS PURCHASED ON INITIAL OFFERING DATE
<TABLE><CAPTION>
YEAR OF UNIT DEFERRED SALES CONTINGENT DEFERRED
DISPOSITION UP-FRONT SALES CHARGE CHARGE SALES CHARGE TOTAL SALES CHARGES
------------------- --------------------- ---------------- ------------------- -------------------
<S> <C> <C> <C> <C>
1 None $ 11.00 $ 25.00 $ 36.00
2 None 22.00 15.00 37.00
3 None 33.00 10.00 43.00
4 None 44.00 5.00 49.00
5 None 55.00 0.00 55.00
<CAPTION>
UNITS PURCHASED ON FIRST ANNIVERSARY OF FUND
YEAR OF UNIT DEFERRED SALES CONTINGENT DEFERRED
DISPOSITION UP-FRONT SALES CHARGE CHARGE SALES CHARGE TOTAL SALES CHARGES
----------------- --------------------- ---------------- ------------------- -------------------
<S> <C> <C> <C> <C>
2 $ 11.00 $ 11.00 $ 15.00 $ 37.00
3 11.00 22.00 10.00 43.00
4 11.00 33.00 5.00 49.00
5 11.00 44.00 0.00 55.00
</TABLE>
b-1
<PAGE>
UNITS PURCHASED ON SECOND ANNIVERSARY OF FUND
<TABLE><CAPTION>
YEAR OF UNIT DEFERRED SALES CONTINGENT DEFERRED
DISPOSITION UP-FRONT SALES CHARGE CHARGE SALES CHARGE TOTAL SALES CHARGES
------------------- --------------------- ---------------- ------------------- -------------------
<S> <C> <C> <C> <C>
3 $ 22.00 $ 11.00 $ 10.00 $ 43.00
4 22.00 22.00 5.00 49.00
5 22.00 33.00 0.00 55.00
<CAPTION>
UNITS PURCHASED ON THIRD ANNIVERSARY OF FUND
YEAR OF UNIT DEFERRED SALES CONTINGENT DEFERRED
DISPOSITION UP-FRONT SALES CHARGE CHARGE SALES CHARGE TOTAL SALES CHARGES
----------------- --------------------- ---------------- ------------------- -------------------
<S> <C> <C> <C> <C>
4 $ 33.00 $ 11.00 $ 5.00 $ 49.00
5 33.00 22.00 0.00 55.00
<CAPTION>
UNITS PURCHASED ON FOURTH ANNIVERSARY OF FUND
YEAR OF UNIT DEFERRED SALES CONTINGENT DEFERRED
DISPOSITION UP-FRONT SALES CHARGE CHARGE SALES CHARGE TOTAL SALES CHARGES
----------------- --------------------- ---------------- ------------------- -------------------
<S> <C> <C> <C> <C>
5 $ 44.00 $ 11.00 $ 0.00 $ 55.00
</TABLE>
b-2
<PAGE>
APPENDIX C
SALES CHARGE SCHEDULES FOR MUNICIPAL INVESTMENT TRUST FUND
INITIAL OFFERING
<TABLE><CAPTION>
SALES CHARGE
(GROSS UNDERWRITING PROFIT)
---------------------------------- PRIMARY MARKET
AS PERCENT OF AS PERCENT OF DEALER CONCESSION AS CONCESSION TO
OFFER SIDE PUBLIC NET AMOUNT PERCENT OF PUBLIC INTRODUCING
NUMBER OF UNITS OFFERING PRICE INVESTED OFFERING PRICE DEALERS
----------------------------------- ------------------- ------------- --------------------- ------------------
MONTHLY PAYMENT SERIES, MULTISTATE SERIES, INSURED SERIES
<S> <C> <C> <C> <C>
Less than 250...................... 4.50% 4.712% 2.925% $ 32.40
250 - 499.......................... 3.50 3.627 2.275 25.20
500 - 749.......................... 3.00 3.093 1.950 21.60
750 - 999.......................... 2.50 2.564 1.625 18.00
1,000 or more...................... 2.00 2.041 1.300 14.40
<CAPTION>
INTERMEDIATE SERIES (TEN YEAR MATURITIES)
<S> <C> <C> <C> <C>
Less than 250...................... 4.00% 4.167% 2.600% $ 28.80
250 - 499.......................... 3.00 3.093 1.950 21.60
500 - 749.......................... 2.50 2.564 1.625 18.00
750 - 999.......................... 2.00 2.041 1.300 14.40
1,000 or more...................... 1.50 1.523 0.975 10.00
<CAPTION>
INTERMEDIATE SERIES (SHORT INTERMEDIATE MATURITIES)
<S> <C> <C> <C> <C>
Less than 250...................... 2.75% 2.828% 1.788% $ 19.80
250 - 499.......................... 2.25 2.302 1.463 16.20
500 - 749.......................... 1.75 1.781 1.138 12.60
750 - 999.......................... 1.25 1.266 0.813 9.00
1,000 or more...................... 1.00 1.010 0.650 7.20
</TABLE>
SECONDARY MARKET
ACTUAL SALES CHARGE AS DEALER CONCESSION AS
PERCENT OF EFFECTIVE PERCENT OF EFFECTIVE
NUMBER OF UNITS SALES CHARGE SALES CHARGE
---------------- ----------------------- -----------------------
1-249 100% 65%
250-499 80 52
500-749 60 39
750-999 45 29.25
1,000 or more 35 22.75
EFFECTIVE SALES CHARGE
AS PERCENT AS PERCENT
TIME TO OF BID SIDE OF PUBLIC
MATURITY EVALUATION OFFERING PRICE
--------------------------- ----------- -----------------
Less than six months 0% 0%
Six months to 1 year 0.756 0.75
Over 1 year to 2 years 1.523 1.50
Over 2 years to 4 years 2.564 2.50
Over 4 years to 8 years 3.627 3.50
Over 8 years to 15 years 4.712 4.50
Over 15 years 5.820 5.50
For this purpose, a Bond will be considered to mature on its stated
maturity date unless it has been called for redemption or funds or securities
have been placed in escrow to redeem it on an earlier date, or is subject to a
mandatory tender, in which case the earlier date will be considered the maturity
date.
c-1
<PAGE>
Defined
Asset FundsSM
SPONSORS: MUNICIPAL INVESTMENT
Merrill Lynch, TRUST FUND
Pierce, Fenner & Smith Incorporated Insured Series--226
Defined Asset Funds (A Unit Investment Trust)
P.O. Box 9051 Units of this Fund may no longer be
Princeton, N.J. 08543-9051 available and therefore information
(609) 282-8500 contained herein may be subject to
Smith Barney Inc. amendment. A registration statement
Unit Trust Department relating to securities of a future
388 Greenwich Street--23rd Floor series has been filed with the
New York, NY 10013 Securities and Exchange Commission.
1-800-223-2532 These securities may not be sold nor
PaineWebber Incorporated may offers to buy be accepted prior to
1200 Harbor Blvd. the time the registration statement
Weehawken, N.J. 07087 becomes effective. For more complete
(201) 902-3000 information about a future series,
Prudential Securities Incorporated including additional information on
One Seaport Plaza charges and expenses, please call or
199 Water Street write one of the Sponsors listed here
New York, N.Y. 10292 for a prospectus. Read the prospectus
(212) 776-1000 before you invest or send money.
Dean Witter Reynolds Inc. ------------------------------
Two World Trade Center--59th Floor This Prospectus does not contain all of
New York, N.Y. 10048 the information with respect to the
(212) 392-2222 investment company set forth in its
EVALUATOR: registration statement and exhibits
Kenny Information Systems, relating thereto which have been filed
a division of J. J. Kenny Co., Inc. with the Securities and Exchange
65 Broadway Commission, Washington, D.C. under the
New York, N.Y. 10006-2511 Securities Act of 1933 and the
TRUSTEE: Investment Company Act of 1940, and to
The Bank of New York which reference is hereby made.
(a New York Banking Corporation) ------------------------------
P.O. Box 974--Wall Street Division No person is authorized to give any
New York, N.Y. 10268-0974 information or to make any
1-800-221-7771 representations with respect to this
investment company not contained in its
registration statement and exhibits
related thereto; and any information or
representation not contained therein
must not be relied upon as having been
authorized. This Prospectus does not
constitute an offer to sell or a
solicitation of an offer to buy
securities in any state in which such
offer, solicitation or sale would be
unlawful prior to registration or
qualification under the securities laws
of any such state.
15148--9/95
<PAGE>
PART II
ADDITIONAL INFORMATION NOT INCLUDED IN THE PROSPECTUS
A. The following information relating to the Depositors is incorporated by
reference to the SEC filings indicated and made a part of this Registration
Statement.
<TABLE><CAPTION>
SEC FILE OR
IDENTIFICATION DATE
NUMBER FILED
----------------------------------------
<S> <C> <C>
I. Bonding Arrangements and Date of Organization of the
Depositors filed pursuant to Items A and B of
Part II of the Registration Statement on Form
S-6 under the Securities Act of 1933:
Merrill Lynch, Pierce, Fenner & Smith
Incorporated 2-52691 1/17/95
Smith Barney Inc. .............................. 33-29106 6/29/89
PaineWebber Incorporated........................ 2-87965 11/18/83
Prudential Securities Incorporated.............. 2-61418 4/26/78
Dean Witter Reynolds Inc. ...................... 2-60599 1/4/78
II. Information as to Officers and Directors of the
Depositors filed pursuant to Schedules A and D
of Form BD under Rules 15b1-1 and 15b3-1 of the
Securities Exchange Act of 1934:
Merrill Lynch, Pierce, Fenner & Smith
Incorporated 8-7221 5/26/94, 6/29/92
Smith Barney Inc. .............................. 8-8177 8/29/94, 8/2/93
PaineWebber Incorporated........................ 8-16267 4/20/94, 7/31/86
Prudential Securities Incorporated.............. 8-27154 6/30/94, 6/20/88
Dean Witter Reynolds Inc. ...................... 8-14172 2/23/94, 4/9/91
III. Charter documents of the Depositors filed as
Exhibits to the Registration Statement on Form
S-6 under the Securities Act of 1933 (Charter,
By-Laws):
Merrill Lynch, Pierce, Fenner & Smith
Incorporated 2-73866, 2-77549 9/22/81, 6/15/82
Smith Barney Inc. .............................. 33-20499 3/30/88
PaineWebber Incorporated........................ 2-87965 11/18/83
Prudential Securities Incorporated.............. 2-52947 3/4/75
Dean Witter Reynolds Inc. ...................... 2-60599 1/4/78
B. The Internal Revenue Service Employer Identification
Numbers of the Sponsors and Trustee are as follows:
Merrill Lynch, Pierce, Fenner & Smith
Incorporated 13-5674085
Smith Barney Inc. .............................. 13-1912900
PaineWebber Incorporated........................ 13-2638166
Prudential Securities Incorporated.............. 22-2347336
Dean Witter Reynolds Inc. ...................... 94-0899825
The Bank of New York, Trustee................... 13-4941102
</TABLE>
UNDERTAKING
The Sponsors undertake that they will not instruct the Trustee to accept from
(i) Asset Guaranty Reinsurance Company, Municipal Bond Investors Assurance
Corporation or any other insurance company affiliated with any of the Sponsors,
in settlement of any claim, less than an amount sufficient to pay any principal
or interest (and, in the case of a taxability redemption, premium) then due on
any Security in accordance with the municipal bond guaranty insurance policy
attached to such Security or (ii) any affiliate of the Sponsors who has any
obligation with respect to any Security, less than the full amount due pursuant
to the obligation, unless such instructions have been approved by the Securities
and Exchange Commission pursuant to Rule 17d-1 under the Investment Company Act
of 1940.
II-1
<PAGE>
SERIES OF MUNICIPAL INVESTMENT TRUST FUND, EQUITY INCOME FUND
AND DEFINED ASSET FUNDS MUNICIPAL INSURED SERIES
DESIGNATED PURSUANT TO RULE 487 UNDER THE SECURITIES ACT OF 1933
SEC
SERIES FILE NUMBER
--------------------------------------------------------------------------------
Municipal Investment Trust Fund:
Thirty-Eighth Insured Series.............................. 2-96953
Four Hundred Thirty-Eighth Monthly Payment Series......... 33-16561
Multistate Series 6E...................................... 33-29412
Multistate Series-48...................................... 33-50247
Multistate Series-83...................................... 33-57443
Equity Income Fund Select Ten Portfolio--1995 Spring
Series...................................................... 33-55807
Defined Asset Funds Municipal Insured Series................ 33-54565
CONTENTS OF REGISTRATION STATEMENT
The Registration Statement on Form S-6 comprises the following papers and
documents:
The facing sheet of Form S-6.
The Cross-Reference Sheet (incorporated by reference to the Cross-Reference
Sheet to the Registration Statement of Defined Asset Funds, Municipal Insured
Series, 1933 Act File No. 33-54565).
The Prospectus.
Additional Information not included in the Prospectus (Part II).
The following exhibits:
1.1 --Form of Trust Indenture (incorporated by reference to Exhibit 1.1 to
the Registration Statement of Municipal Investment Trust Fund,
Multistate Series-89, 1933 Act File No. 33-58531).
1.1.1 --Form of Standard Terms and Conditions of Trust Effective October 21,
1993 (incorporated by reference to Exhibit 1.1.1 to the Registration
Statement of Municipal Investment Trust Fund, Multistate Series-48,
1933 Act File No. 33-50247).
1.2 --Form of Master Agreement Among Underwriters (incorporated by reference
to Exhibit 1.2 to the Registration Statement of The Corporate Income
Fund, One Hundred Ninety-Fourth Monthly Payment Series, 1933 Act File
No. 2-90925).
1.3 --Form of Portfolio Insurance policy (incorporated by reference to
Exhibit 1.3 to the Registration Statement of Municipal Investment
Trust Fund, Thirty-Eighth Insured Series, 1933 Act File No. 2-96953).
1.4 --Form of commitment letter relating to issuance of Permanent Insurance,
with form of Permanent Insurance policy attached (incorporated by
reference to Exhibit 1.4 to the Registration Statement of Municipal
Investment Trust Fund, Thirty-Eighth Insured Series, 1933 Act File No.
2-96953).
2.1 --Form of Certificate of Beneficial Interest (included in Exhibit
1.1.1).
3.1 --Opinion of counsel as to the legality of the securities being issued
including their consent to the use of their names under the headings
'Taxes' and 'Miscellaneous--Legal Opinion' in the Prospectus.
4.1.1 --Consent of the Evaluator.
4.1.2 --Consent of the Rating Agency.
5.1 --Consent of independent accountants.
9.1 --Information Supplement.
R-1
<PAGE>
SIGNATURES
The registrant hereby identifies the series numbers of Municipal Investment
Trust Fund, Equity Income Fund and Defined Asset Funds Municipal Insured Series
listed on page R-1 for the purposes of the representations required by Rule 487
and represents the following:
1) That the portfolio securities deposited in the series as to which this
registration statement is being filed do not differ materially in type
or quality from those deposited in such previous series;
2) That, except to the extent necessary to identify the specific portfolio
securities deposited in, and to provide essential financial information
for, the series with respect to which this registration statement is
being filed, this registration statement does not contain disclosures
that differ in any material respect from those contained in the
registration statements for such previous series as to which the
effective date was determined by the Commission or the staff; and
3) That it has complied with Rule 460 under the Securities Act of 1933.
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THE REGISTRANT
HAS DULY CAUSED THIS REGISTRATION STATEMENT OR AMENDMENT TO THE REGISTRATION
STATEMENT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED THEREUNTO DULY
AUTHORIZED IN THE CITY OF NEW YORK AND STATE OF NEW YORK ON THE 13TH DAY OF
SEPTEMBER, 1995.
SIGNATURES APPEAR ON PAGES R-3, R-4, R-5, R-6 AND R-7.
A majority of the members of the Board of Directors of Merrill Lynch,
Pierce, Fenner & Smith Incorporated has signed this Registration Statement or
Amendment to the Registration Statement pursuant to Powers of Attorney
authorizing the person signing this Registration Statement or Amendment to the
Registration Statement to do so on behalf of such members.
A majority of the members of the Board of Directors of Smith Barney Inc.
has signed this Registration Statement or Amendment to the Registration
Statement pursuant to Powers of Attorney authorizing the person signing this
Registration Statement or Amendment to the Registration Statement to do so on
behalf of such members.
A majority of the members of the Executive Committee of the Board of
Directors of PaineWebber Incorporated has signed this Registration Statement or
Amendment to the Registration Statement pursuant to Powers of Attorney
authorizing the person signing this Registration Statement or Amendment to the
Registration Statement to do so on behalf of such members.
A majority of the members of the Board of Directors of Prudential
Securities Incorporated has signed this Registration Statement or Amendment to
the Registration Statement pursuant to Powers of Attorney authorizing the person
signing this Registration Statement or Amendment to the Registration Statement
to do so on behalf of such members.
A majority of the members of the Board of Directors of Dean Witter Reynolds
Inc. has signed this Registration Statement or Amendment to the Registration
Statement pursuant to the Powers of Attorney authorizing the person signing this
Registration Statement or Amendment to the Registration Statement to do so on
behalf of such members.
R-2
<PAGE>
MERRILL LYNCH, PIERCE, FENNER & SMITH INCORPORATED
DEPOSITOR
By the following persons, who constitute Powers of Attorney have been filed
a majority of under
the Board of Directors of Merrill Form SE and the following 1933 Act
Lynch, Pierce, File
Fenner & Smith Incorporated: Number: 33-43466
HERBERT M. ALLISON, JR.
BARRY S. FREIDBERG
EDWARD L. GOLDBERG
STEPHEN L. HAMMERMAN
JEROME P. KENNEY
DAVID H. KOMANSKY
DANIEL T. NAPOLI
THOMAS H. PATRICK
JOHN L. STEFFENS
DANIEL P. TULLY
ROGER M. VASEY
ARTHUR H. ZEIKEL
By
ERNEST V. FABIO
(As authorized signatory for Merrill Lynch, Pierce,
Fenner & Smith Incorporated and
Attorney-in-fact for the persons listed above)
R-3
<PAGE>
SMITH BARNEY INC.
DEPOSITOR
By the following persons, who constitute Powers of Attorney have been filed
a majority of under
the Board of Directors of Smith Barney the following 1933 Act File
Inc.: Numbers: 33-56722 and 33-51999
STEVEN D. BLACK
JAMES BOSHART III
ROBERT A. CASE
JAMES DIMON
ROBERT DRUSKIN
ROBERT F. GREENHILL
JEFFREY LANE
ROBERT H. LESSIN
JACK L. RIVKIN
By KEVIN E. KOPCZYNSKI
(As authorized signatory for
Smith Barney Inc. and
Attorney-in-fact for the persons listed above)
R-4
<PAGE>
PAINEWEBBER INCORPORATED
DEPOSITOR
By the following persons, who constitute Powers of Attorney have been filed
a majority of under
the Executive Committee of the Board the following 1933 Act File
of Directors Number: 33-55073
of PaineWebber Incorporated:
JOSEPH J. GRANO, JR.
DONALD B. MARRON
By
ROBERT E. HOLLEY
(As authorized signatory for PaineWebber Incorporated
and Attorney-in-fact for the persons listed above)
R-5
<PAGE>
PRUDENTIAL SECURITIES INCORPORATED
DEPOSITOR
By the following persons, who constitute Powers of Attorney have been filed
a majority of under Form SE and the following 1933
the Board of Directors of Prudential Act File Number: 33-41631
Securities Incorporated:
ALAN D. HOGAN
GEORGE A. MURRAY
LELAND B. PATON
HARDWICK SIMMONS
By
WILLIAM W. HUESTIS
(As authorized signatory for Prudential Securities
Incorporated. and Attorney-in-fact for the persons listed above)
R-6
<PAGE>
DEAN WITTER REYNOLDS INC.
DEPOSITOR
By the following persons, who constitute Powers of Attorney are being filed
a majority of under Form SE and the following
the Board of Directors of Dean Witter 1933 Act File Number: 33-17085
Reynolds Inc.:
NANCY DONOVAN
CHARLES A. FIUMEFREDDO
JAMES F. HIGGINS
STEPHEN R. MILLER
PHILIP J. PURCELL
THOMAS C. SCHNEIDER
WILLIAM B. SMITH
By
MICHAEL D. BROWNE
(As authorized signatory for Dean Witter Reynolds Inc.
and Attorney-in-fact for the persons listed above)
R-7
EXHIBIT 3.1
DAVIS POLK & WARDWELL
450 LEXINGTON AVENUE
NEW YORK, NEW YORK 10017
(212) 450-4000
SEPTEMBER 13, 1995
MUNICIPAL INVESTMENT TRUST FUND
INSURED SERIES--226
DEFINED ASSET FUNDS
MERRILL LYNCH, PIERCE, FENNER & SMITH INCORPORATED
SMITH BARNEY INC.
PAINEWEBBER INCORPORATED
PRUDENTIAL SECURITIES INCORPORATED
DEAN WITTER REYNOLDS INC.
C/O MERRILL LYNCH, PIERCE, FENNER & SMITH INCORPORATED
DEFINED ASSET FUNDS
P.O. BOX 9051
PRINCETON, NJ 08543-9051
Dear Sirs:
We have acted as special counsel for you, as sponsors (the 'Sponsors') of
the Insured Series--226 of Municipal Investment Trust Fund, Defined Asset Funds
(the 'Fund'), in connection with the issuance of units of fractional undivided
interest in the Fund (the 'Units') in accordance with the Trust Indenture
relating to the Fund (the 'Indenture').
We have examined and are familiar with originals or copies, certified or
otherwise identified to our satisfaction, of such documents and instruments as
we have deemed necessary or advisable for the purpose of this opinion.
Based upon the foregoing, we are of the opinion that (i) the execution and
delivery of the Indenture and the issuance of the Units have been duly
authorized by the Sponsors and (ii) the Units, when duly issued and delivered by
the Sponsors and the Trustee in accordance with the Indenture, will be legally
issued, fully paid and non-assessable.
We hereby consent to the use of this opinion as Exhibit 3.1 of the
Registration Statement relating to the Units filed under the Securities Act of
1933 and to the use of our name in such Registration Statement and in the
related prospectus under the headings 'Taxes' and 'Miscellaneous--Legal
Opinion.'
Very truly yours,
DAVIS POLK & WARDWELL
EXHIBIT 4.1.1
KENNY INFORMATION SYSTEMS
A DIVISION OF J. J. KENNY CO., INC.
65 BROADWAY
NEW YORK, NEW YORK 10006-2511
TELEPHONE (212) 770-4008
FAX 212/425-6862
SEPTEMBER 13, 1995
MERRILL LYNCH, PIERCE, FENNER & SMITH
INCORPORATED
DEFINED ASSET FUNDS
P.O. BOX 9051
PRINCETON, NEW JERSEY 08543-9051
THE BANK OF NEW YORK
UNIT INVESTMENT TRUST DEPARTMENT
P.O. BOX 974--WALL STREET STATION
NEW YORK, NY 10268-0974
Re: MUNICIPAL INVESTMENT TRUST FUND, INSURED SERIES--226, DEFINED ASSET FUNDS
Gentlemen:
We have examined the Registration Statement File No. 33-61281, for the
above-captioned trust. We hereby acknowledge that Kenny Information Systems, a
Division of J. J. Kenny Co., Inc. is currently acting as the evaluator for the
trust. We hereby consent to the use in the Registration Statement of the
references to Kenny Information Systems, a Division of J. J. Kenny Co., Inc., as
evaluator.
In addition, we hereby confirm that the ratings indicated in the
Registration Statement for the respective bonds comprising the fund portfolio
are the ratings currently indicated in our KENNYBASE database as of the date of
the Evaluation Report.
You are hereby authorized to file a copy of this letter with the Securities
and Exchange Commission.
Sincerely,
JOHN R. FITZGERALD
Vice President
EXHIBIT 4.1.2
STANDARD & POOR'S RATINGS GROUP
BOND INSURANCE ADMINISTRATION
25 BROADWAY
NEW YORK, NEW YORK 10004
TELEPHONE (212) 208-1061
SEPTEMBER 13, 1995
MERRILL LYNCH, PIERCE, FENNER & SMITH THE BANK OF NEW YORK
INCORPORATED UNIT INVESTMENT TRUST DEPARTMENT
DEFINED ASSET FUNDS P.O. BOX 974
P.O. BOX 9051 WALL STREET STATION
PRINCETON, NJ 08543-9051 NEW YORK, NEW YORK 10268-0974
RE: MUNICIPAL INVESTMENT TRUST FUND, INSURED SERIES--226, DEFINED ASSET FUNDS
Pursuant to your request for a Standard & Poor's rating on the units of the
above-captioned trust, SEC No. 33-61281, we have reviewed the information
presented to us and have assigned a 'AAA' rating to the units of the trust and a
'AAA' rating to the securities contained in the trust. The ratings are direct
reflections, of the portfolio of the trust, which will be composed solely of
securities covered by bond insurance policies that insure against default in the
payment of principal and interest on the securities so long as they remain
outstanding. Since such policies have been issued by one or more insurance
companies which have been assigned 'AAA' claims paying ability ratings by S&P,
S&P has assigned a 'AAA' rating to the units of the trust and to the securities
contained in the trust.
You have permission to use the name of Standard & Poor's Corporation and
the above-assigned ratings in connection with your dissemination of information
relating to these units, provided that it is understood that the ratings are not
'market' ratings nor recommendations to buy, hold or sell the units of the trust
or the securities contained in the trust. Further, it should be understood the
rating on the units does not take into account the extent to which fund expenses
or portfolio asset sales for less than the fund's purchase price will reduce
payment to the unit holders of the interest and principal required to be paid on
the portfolio assets. S&P reserves the right to advise its own clients,
subscribers, and the public of the ratings. S&P relies on the sponsor and their
counsel, accountants, and other experts for the accuracy and completeness of the
information submitted in connection with the ratings. S&P does not independently
verify the truth or accuracy of any such information.
This letter evidences our consent to the use of the name of Standard &
Poor's Corporation in connection with the rating assigned to the units in the
registration statement or prospectus relating to the units of the trust.
However, this letter should not be construed as a consent by us, within the
meaning of Section 7 of the Securities Act of 1933, to the use of the name of
Standard & Poor's Corporation in connection with the ratings assigned to the
securities contained in the trust. You are hereby authorized to file a copy of
this letter with the Securities and Exchange Commission.
Please be certain to send us three copies of your final prospectus as soon
as it becomes available. Should we not receive them within a reasonable time
after the closing or should they not conform to the representations made to us,
we reserve the right to withdraw the rating.
We are pleased to have had the opportunity to be of service to you. If we
can be of further help, please do not hesitate to call upon us.
Sincerely,
VINCENT S. ORGO
Standard & Poor's Corporation
EXHIBIT 5.1
CONSENT OF INDEPENDENT ACCOUNTANTS
The Sponsors and Trustee of Municipal Investment Trust Fund,
Insured Series--226, Defined Asset Funds:
We hereby consent to the use in this Registration Statement No. 33-61281 of our
opinion dated September 13, 1995, relating to the Statement of Condition of
Municipal Investment Trust Fund, Insured Series--226, Defined Asset Funds and to
the reference to us under the heading 'Auditors' in the Prospectus which is a
part of this Registration Statement.
DELOITTE & TOUCHE LLP
New York, N.Y.
September 13, 1995
DEFINED ASSET FUNDS
-------------------
MUNICIPAL INVESTMENT TRUST FUND
MUNICIPAL INSURED SERIES
INFORMATION SUPPLEMENT
This Information Supplement provides additional information concerning the
structure, operations and risks of municipal bond trusts (each, a "Fund") of
Defined Asset Funds not found in the prospectuses for the Funds. This
Information Supplement is not a prospectus and does not include all of the
information that a prospective investor should consider before investing in a
Fund. This Information Supplement should be read in conjunction with the
prospectus for the Fund in which an investor is considering investing
("Prospectus"). Copies of the Prospectus can be obtained by calling or writing
the Trustee at the telephone number and address indicated in Part A of the
Prospectus.
This Information Supplement is dated August 25, 1995. Capitalized terms have
been defined in the Prospectus.
TABLE OF CONTENTS
-----------------
Description of Fund Investments . . . . . . . . . . . . . . . . . 3
Fund Structure . . . . . . . . . . . . . . . . . . . . . . . 3
Portfolio Supervision . . . . . . . . . . . . . . . . . . . . . 3
Risk Factors . . . . . . . . . . . . . . . . . . . . . . . 5
Concentration . . . . . . . . . . . . . . . . . . . . . . . 5
General Obligation Bonds . . . . . . . . . . . . . . . . . . . . 5
Moral Obligation Bonds . . . . . . . . . . . . . . . . . . . . . 6
Refunded Bonds . . . . . . . . . . . . . . . . . . . . . . . 6
Industrial Development Revenue Bonds . . . . . . . . . . . . . . 6
Municipal Revenue Bonds . . . . . . . . . . . . . . . . . . . . 7
Municipal Utility Bonds . . . . . . . . . . . . . . . . . . . . 7
Lease Rental Bonds . . . . . . . . . . . . . . . . . . . . . . 9
Housing Bonds . . . . . . . . . . . . . . . . . . . . . . . 9
Hospital and Health Care Bonds . . . . . . . . . . . . . . . . 10
Facility Revenue Bonds . . . . . . . . . . . . . . . . . . . . 11
Solid Waste Disposal Bonds . . . . . . . . . . . . . . . . . . 12
Special Tax Bonds . . . . . . . . . . . . . . . . . . . . . . . 12
Student Loan Revenue Bonds . . . . . . . . . . . . . . . . . . 13
Transit Authority Bonds . . . . . . . . . . . . . . . . . . . . 13
Municipal Water and Sewer Revenue Bonds . . . . . . . . . . . . 13
University and College Bonds . . . . . . . . . . . . . . . . . 13
Puerto Rico . . . . . . . . . . . . . . . . . . . . . . . 14
Bonds Backed by Letters of Credit or Repurchase Commitments . . 14
Liquidity . . . . . . . . . . . . . . . . . . . . . . . 17
Bonds Backed by Insurance . . . . . . . . . . . . . . . . . . . 18
State Risk Factors . . . . . . . . . . . . . . . . . . . . . . . 22
Payment of Bonds and Life of a Fund . . . . . . . . . . . . . . 22
Redemption . . . . . . . . . . . . . . . . . . . . . . . 23
Tax Exemption . . . . . . . . . . . . . . . . . . . . . . . 23
<PAGE>
Income and Returns . . . . . . . . . . . . . . . . . . . . . . . 24
Income . . . . . . . . . . . . . . . . . . . . . . . 24
State Matters . . . . . . . . . . . . . . . . . . . . . . . 24
The Alabama Trust . . . . . . . . . . . . . . . . . . . . . . . 24
The Arizona Trust . . . . . . . . . . . . . . . . . . . . . . . 28
The California Trust . . . . . . . . . . . . . . . . . . . . . . 32
The Colorado Trust . . . . . . . . . . . . . . . . . . . . . . . 45
The Connecticut Trust . . . . . . . . . . . . . . . . . . . . . 48
The Florida Trust . . . . . . . . . . . . . . . . . . . . . . . 51
The Georgia Trust . . . . . . . . . . . . . . . . . . . . . . . 57
The Louisiana Trust . . . . . . . . . . . . . . . . . . . . . . 60
The Maine Trust . . . . . . . . . . . . . . . . . . . . . . . 62
The Maryland Trust . . . . . . . . . . . . . . . . . . . . . . . 67
The Massachusetts Trust . . . . . . . . . . . . . . . . . . . . 72
The Michigan Trust . . . . . . . . . . . . . . . . . . . . . . . 79
The Minnesota Trust . . . . . . . . . . . . . . . . . . . . . . 82
The Mississippi Trust . . . . . . . . . . . . . . . . . . . . . 84
The Missouri Trust . . . . . . . . . . . . . . . . . . . . . . . 86
The New Jersey Trust . . . . . . . . . . . . . . . . . . . . . . 89
The New Mexico Trust . . . . . . . . . . . . . . . . . . . . . . 94
The New York Trust . . . . . . . . . . . . . . . . . . . . . . . 97
The North Carolina Trust . . . . . . . . . . . . . . . . . . . . 103
The Ohio Trust . . . . . . . . . . . . . . . . . . . . . . . 107
The Oregon Trust . . . . . . . . . . . . . . . . . . . . . . . . 112
The Pennsylvania Trust . . . . . . . . . . . . . . . . . . . . . 119
The Tennessee Trust . . . . . . . . . . . . . . . . . . . . . . 121
The Texas Trust . . . . . . . . . . . . . . . . . . . . . . . 123
The Virginia Trust . . . . . . . . . . . . . . . . . . . . . . . 127
2
<PAGE>
DESCRIPTION OF FUND INVESTMENTS
Fund Structure
The Portfolio contains different issues of Bonds with fixed final maturity or
disposition dates. In addition up to 10% of the initial value of the Portfolio
may have consisted of units ("Other Fund Units") of previously-issued Series of
Municipal Investment Trust Fund ("Other Funds") sponsored and underwritten by
certain of the Sponsors and acquired by the Sponsors in the secondary market.
The Other Fund Units are not bonds as such but represent interests in the
securities, primarily state, municipal and public authority bonds, in the
portfolios of the Other Funds. See Investment Summary in Part A for a summary
of particular matters relating to the Portfolio.
The portfolios underlying any Other Fund Units (the units of no one Other
Fund represented more than 5%, and all Other Fund Units represented less than
10%, of the aggregate offering side evaluation of the Portfolio on the Date of
Deposit) are substantially similar to that of the Fund. The percentage of the
Portfolio, if any, represented by Other Fund Units on the Evaluation Date is set
forth under Investment Summary in Part A. On their respective dates of deposit,
the underlying bonds in any Other Funds were rated BBB or better by Standard &
Poor's or Baa or better by Moody's. While certain of those bonds may not
currently meet these criteria, they did not represent more than 0.5% of the face
amount of the Portfolio on the Date of Deposit. Bonds in each Other Fund which
do not mature according to their terms within 10 years after the Date of Deposit
had an aggregate bid side evaluation of at least 40% of the initial face amount
of the Other Fund. The investment objectives of the Other Funds are similar to
the investment objective of the Fund, and the Sponsors, Trustee and Evaluator of
the Other Funds have responsibilities and authority paralleling in most
important respects those described in this Prospectus and receive similar fees.
The names of any Other Funds represented in the Portfolio and the number of
units of each Other Fund in the Fund may be obtained without charge by writing
to the Trustee.
Portfolio Supervision
Each Fund is a unit investment trust which follows a buy and hold investment
strategy. Traditional methods of investment management for mutual funds
typically involve frequent changes in fund holdings based on economic, financial
and market analyses. Because a Fund is not actively managed, it may retain an
issuer's securities despite financial or economic developments adversely
affecting the market value of the securities held by a Fund. However, Defined
Asset Funds' financial analysts regularly review a Fund's Portfolio, and the
Sponsors may instruct a Trustee to sell securities in a Portfolio in the
following circumstances: (i) default in payment of amounts due on the security;
(ii) institution of certain legal proceedings; (iii) other legal questions or
impediments affecting the security or payments thereon; (iv) default under
certain documents adversely affecting debt service or in payments on other
securities of the same issuer or guarantor; (v) decline in projected income
pledged for debt service on a revenue bond; (vi) if a security becomes taxable
or otherwise inconsistent with a Fund's investment objectives; (vii) a right to
sell or redeem the security pursuant to a guarantee or other credit support; or
(viii) decline in security price or other market or credit factors (including
advance refunding) that, in the opinion of Defined Asset Funds research, makes
retention of the security detrimental to the interests of Holders. If there is
a payment default on any Bond and the Agent for the Sponsors fails to instruct
the Trustee within 30 days after notice of the default, the Trustee will sell
the Bond.
A Trustee must reject any offer by an issuer of a Bond to exchange another
security pursuant to a refunding or refinancing plan unless (a) the Bond is in
default or (b) in the written opinion of Defined Asset Funds research analysts,
a default is probable in the reasonably foreseeable future, and the Sponsors
instruct the Trustee to accept the offer or take any other action with respect
to the offer as the Sponsors consider appropriate.
3
<PAGE>
Units offered in the secondary market may reflect redemptions or prepayments,
in whole or in part, or defaults on, certain of the Bonds originally deposited
in the Fund or the disposition of certain Bonds originally deposited in the Fund
to satisfy redemptions of Units (see Redemption) or pursuant to the exercise by
the Sponsors of their supervisory role over the Fund (see Risk Factors --Payment
of the Bonds and Life of the Fund). Accordingly, the face amount of Units may
be less than their original face amount at the time of the creation of the Fund.
A reduced value per Unit does not therefore mean that a Unit is necessarily
valued at a market discount; market discounts, as well as market premiums, on
Units are determined solely by a comparison of a Unit's outstanding face amount
and its evaluated price.
The Portfolio may contain debt obligations rated BBB by Standard & Poor's and
Baa by Moody's, which are the lowest "investment grade" ratings assigned by the
two rating agencies or debt obligations rated below investment grade. The
Portfolio may also contain debt obligations that have received investment grade
ratings from one agency but "junk Bond" ratings from the other agency. In
addition, the Portfolio may contain debt obligations which are not rated by
either agency but have in the opinion of Merrill Lynch, Pierce, Fenner & Smith
Incorporated, as Agent for the Sponsors, comparable credit characteristics to
debt obligations rated near or below investment grade. Investors should
therefore be aware that these debt obligations may have speculative
characteristics and that changes in economic conditions or other circumstances
are more likely to lead to a weakened capacity to make principal and interest
payments on these debt obligations than is the case with higher rated bonds.
Moreover, conditions may develop with respect to any of the issuers of debt
obligations in the Portfolio which may cause the rating agencies to lower their
ratings below investment grade on a given security or cause the Agent for the
Sponsors to determine that the credit characteristics of a given security are
comparable to debt obligations rated below investment grade. As a result of
timing lags or a lack of current information, there can be no assurance that the
rating currently assigned to a given debt obligation by either agency or the
credit assessment of the Agent for the Sponsors actually reflects all current
information about the issuer of that debt obligation.
Subsequent to the Date of Deposit, a Debt Obligation or other obligations of
the issuer or guarantor or bank or other entity issuing a letter of credit
related thereto may cease to be rated, its rating may be reduced or the credit
assessment of the Agent for the Sponsors may change. Because of the fixed
nature of the Portfolio, none of these events require an elimination of that
Debt Obligation from the Portfolio, but the lowered rating or changed credit
assessment may be considered in the Sponsors' determination to direct the
disposal of the Debt Obligation (see Administration of the Fund -- Portfolio
Supervision).
Because ratings may be lowered or the credit assessment of the Agent for the
Sponsors may change, an investment in Units of the Trust should be made with an
understanding of the risks of investing in "junk bonds" (bonds rated below
investment grade or unrated bonds having similar credit characteristics),
including increased risk of loss of principal and interest on the underlying
debt obligations and the risk that the value of the Units may decline with
increases in interest rates. In recent years there have been wide fluctuations
in interest rates and thus in the value of fixed-rate debt obligations
generally. Debt obligations which are rated below investment grade or unrated
debt obligations having similar credit characteristics are often subject to
greater market fluctuations and risk of loss of income and principal than
securities rated investment grade, and their value may decline precipitously in
response to rising interest rates. This effect is so not only because increased
interest rates generally lead to decreased values for fixed-rate instruments,
but also because increased interest rates may indicate a slowdown in the economy
generally, which could result in defaults by less creditworthy issuers. Because
investors generally perceive that there are greater risks associated with lower-
rated securities, the yields and prices of these securities tend to fluctuate
more than higher-rated securities with changes in the perceived credit quality
of their issuers, whether these changes are short-term or structural, and during
periods of economic uncertainty. Moreover, issuers whose obligations have been
recently downgraded may be subject to claims by
4
<PAGE>
debtholders and suppliers which, if sustained, would make it more difficult for
these issuers to meet payment obligations.
Debt rated below investment grade or having similar credit characteristics
also tends to be more thinly traded than investment-grade debt and held
primarily by institutions, and this lack of liquidity can negatively affect the
value of the debt. Debt which is not rated investment grade or having similar
credit characteristics may be subordinated to other obligations of the issuer.
Senior debtholders would be entitled to receive payment in full before
subordinated debtholders receive any payment at all in the event of a bankruptcy
or reorganization. Lower rated debt obligations and debt obligations having
similar credit characteristics may also present payment-expectation risks. For
example, these bonds may contain call or redemption provisions that would make
it attractive for the issuers to redeem them in periods of declining interest
rates, and investors would therefore not be able to take advantage of the higher
yield offered.
The value of Units reflects the value of the underlying debt obligations,
including the value (if any) of any issues which are in default. In the event
of a default in payment of principal or interest, the Trust may incur additional
expenses in seeking payment under the defaulted debt obligations. Because
amounts recovered (if any) in respect of a defaulted debt obligation may not be
reflected in the value of Units until actually received by the Trust, it is
possible that a Holder who sells Units would bear a portion of the expenses
without receiving a portion of the payments received. It is possible that new
laws could be enacted which could hurt the market for bonds which are not rated
investment grade. For example, federally regulated financial institutions could
be required to divest their holdings of these bonds, or proposals could be
enacted which might limit the use, or tax or other advantages, of these bonds.
RISK FACTORS
Concentration
A Portfolio may contain or be concentrated in one or more of the types of
Bonds discussed below. An investment in a Fund should be made with an
understanding of the risks that these bonds may entail, certain of which are
described below. Political restrictions on the ability to tax and budgetary
constraints affecting the state or local government may result in reductions of,
or delays in the payment of, state aid to cities, counties, school districts and
other local units of government which, in turn, may strain the financial
operations and have an adverse impact on the creditworthiness of these entities.
State agencies, colleges and universities and health care organizations, with
municipal debt outstanding, may also be negatively impacted by reductions in
state appropriations.
General Obligation Bonds
General obligation bonds are backed by the issuer's pledge of its full faith
and credit and are secured by its taxing power for the payment of principal and
interest. However, the taxing power of any governmental entity may be limited
by provisions of state constitutions or laws and an entity's credit will depend
on many factors, including an erosion of the tax base due to population
declines, natural disasters, declines in the state's industrial base or
inability to attract new industries, economic limits on the ability to tax
without eroding the tax base and the extent to which the entity relies on
Federal or state aid, access to capital markets or other factors beyond the
entity's control.
Over time, many state and local governments may confront deficits due to
economic or other factors. In addition, a Portfolio may contain obligations of
issuers who rely in whole or in part on ad valorem real property taxes as a
source of revenue. Certain proposals, in the form of state legislative
proposals or voter initiatives, to limit ad valorem real property taxes have
been introduced in various states,
5
<PAGE>
and an amendment to the constitution of the State of California, providing for
strict limitations on ad valorem real property taxes, has had a significant
impact on the taxing powers of local governments and on the financial condition
of school districts and local governments in California. It is not possible at
this time to predict the final impact of such measures, or of similar future
legislative or constitutional measures, on school districts and local
governments or on their abilities to make future payments on their outstanding
bonds.
Moral Obligation Bonds
The repayment of a "moral obligation" bond is only a moral commitment, and
not a legal obligation, of the state or municipality in question. Even though
the state may be called on to restore any deficits in capital reserve funds of
the agencies or authorities which issued the bonds, any restoration generally
requires appropriation by the state legislature and accordingly does not
constitute a legally enforceable obligation or debt of the state. The agencies
or authorities generally have no taxing power.
Refunded Bonds
Refunded Bonds are typically secured by direct obligations of the U.S.
Government, or in some cases obligations guaranteed by the U.S. Government,
placed in an escrow account maintained by an independent trustee until maturity
or a predetermined redemption date. These bonds are generally noncallable prior
to maturity or the predetermined redemption date. In a few isolated instances,
however, bonds which were thought to be escrowed to maturity have been called
for redemption prior to maturity.
Industrial Development Revenue Bonds
Industrial Development Revenue Bonds, or "IDRs", including pollution control
revenue bonds, are tax-exempt bonds issued by states, municipalities, public
authorities or similar entities to finance the cost of acquiring, constructing
or improving various projects, including pollution control facilities and
certain manufacturing facilities. These projects are usually operated by
private corporations. IDRs are not general obligations of governmental entities
backed by their taxing power. Municipal issuers are only obligated to pay
amounts due on the IDRs to the extent that funds are available from the
unexpended proceeds of the IDRs or from receipts or revenues under arrangements
between the municipal issuer and the corporate operator of the project. These
arrangements may be in the form of a lease, installment sale agreement,
conditional sale agreement or loan agreement, but in each case the payments to
the issuer are designed to be sufficient to meet the payments of amounts due on
the IDRs.
IDRs are generally issued under bond resolutions, agreements or trust
indentures pursuant to which the revenues and receipts payable to the issuer by
the corporate operator of the project have been assigned and pledged to the
holders of the IDRs or a trustee for the benefit of the holders of the IDRs. In
certain cases, a mortgage on the underlying project has been assigned to the
holders of the IDRs or a trustee as additional security for the IDRs. In
addition, IDRs are frequently directly guaranteed by the corporate operator of
the project or by an affiliated company. Regardless of the structure, payment
of IDRs is solely dependent upon the creditworthiness of the corporate operator
of the project, corporate guarantor and credit enhancer. Corporate operators or
guarantors that are industrial companies may be affected by many factors which
may have an adverse impact on the credit quality of the particular company or
industry. These include cyclicality of revenues and earnings, regulatory and
environmental restrictions, litigation resulting from accidents or
environmentally-caused illnesses, extensive competition (including that of
low-cost foreign companies), unfunded pension fund liabilities or off-balance
sheet items, and financial deterioration resulting from leveraged buy-outs or
takeovers. However, certain of the IDRs in the Portfolio may be additionally
insured or secured by letters of credit issued by banks or otherwise guaranteed
or secured to cover amounts due on the IDRs in the event of a default in
payment.
6
<PAGE>
Municipal Revenue Bonds
Municipal Utility Bonds. The ability of utilities to meet their obligations
under revenue bonds issued on their behalf is dependent on various factors,
including the rates they may charge their customers, the demand for their
services and the cost of providing those services. Utilities, in particular
investor-owned utilities, are subject to extensive regulation relating to the
rates which they may charge customers. Utilities can experience regulatory,
political and consumer resistance to rate increases. Utilities engaged in
long-term capital projects are especially sensitive to regulatory lags in
granting rate increases. Any difficulty in obtaining timely and adequate rate
increases could adversely affect a utility's results of operations.
The demand for a utility's services is influenced by, among other factors,
competition, weather conditions and economic conditions. Electric utilities,
for example, have experienced increased competition as a result of the
availability of other energy sources, the effects of conservation on the use of
electricity, self-generation by industrial customers and the generation of
electricity by co-generators and other independent power producers. Also,
increased competition will result if federal regulators determine that utilities
must open their transmission lines to competitors. Utilities which distribute
natural gas also are subject to competition from alternative fuels, including
fuel oil, propane and coal.
The utility industry is an increasing cost business making the cost of
generating electricity more expensive and heightening its sensitivity to
regulation. A utility's costs are affected by its cost of capital, the
availability and cost of fuel and other factors. There can be no assurance that
a utility will be able to pass on these increased costs to customers through
increased rates. Utilities incur substantial capital expenditures for plant and
equipment. In the future they will also incur increasing capital and operating
expenses to comply with environmental legislation such as the Clean Air Act of
1990, and other energy, licensing and other laws and regulations relating to,
among other things, air emissions, the quality of drinking water, waste water
discharge, solid and hazardous substance handling and disposal, and citing and
licensing of facilities. Environmental legislation and regulations are changing
rapidly and are the subject of current public policy debate and legislative
proposals. It is increasingly likely that many utilities will be subject to
more stringent environmental standards in the future that could result in
significant capital expenditures. Future legislation and regulation could
include, among other things, regulation of so-called electromagnetic fields
associated with electric transmission and distribution lines as well as
emissions of carbon dioxide and other so-called greenhouse gases associated with
the burning of fossil fuels. Compliance with these requirements may limit a
utility's operations or require substantial investments in new equipment and, as
a result, may adversely affect a utility's results of operations.
The electric utility industry in general is subject to various external
factors including (a) the effects of inflation upon the costs of operation and
construction, (b) substantially increased capital outlays and longer
construction periods for larger and more complex new generating units, (c)
uncertainties in predicting future load requirements, (d) increased financing
requirements coupled with limited availability of capital, (e) exposure to
cancellation and penalty charges on new generating units under construction, (f)
problems of cost and availability of fuel, (g) compliance with rapidly changing
and complex environmental, safety and licensing requirements, (h) litigation and
proposed legislation designed to delay or prevent construction of generating and
other facilities, (i) the uncertain effects of conservation on the use of
electric energy, (j) uncertainties associated with the development of a national
energy policy, (k) regulatory, political and consumer resistance to rate
increases and (l) increased competition as a result of the availability of other
energy sources. These factors may delay the construction and increase the cost
of new facilities, limit the use of, or necessitate costly modifications to,
existing facilities, impair the access of electric utilities to credit markets,
or substantially increase the cost of credit for electric generating facilities.
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The National Energy Policy Act ("NEPA"), which became law in October, 1992,
makes it mandatory for a utility to permit non-utility generators of electricity
access to its transmission system for wholesale customers, thereby increasing
competition for electric utilities. NEPA also mandated demand-side management
policies to be considered by utilities. NEPA prohibits the Federal Energy
Regulatory Commission from mandating electric utilities to engage in retail
wheeling, which is competition among suppliers of electric generation to provide
electricity to retail customers (particularly industrial retail customers) of a
utility. However, under NEPA, a state can mandate retail wheeling under certain
conditions. California, Michigan, New Mexico and Ohio have instituted
investigations into the possible introduction of retail wheeling within their
respective states, which could foster competition among the utilities. Retail
wheeling might result in the issue of stranded investment (investment in assets
not being recovered in base rates), thus hampering a utility's ability to meet
its obligations.
There is concern by the public, the scientific community, and the U.S.
Congress regarding environmental damage resulting from the use of fossil fuels.
Congressional support for the increased regulation of air, water, and soil
contaminants is building and there are a number of pending or recently enacted
legislative proposals which may affect the electric utility industry. In
particular, on November 15, 1990, legislation was signed into law that
substantially revises the Clean Air Act (the "1990 Amendments"). The 1990
Amendments seek to improve the ambient air quality throughout the United States
by the year 2000. A main feature of the 1990 Amendments is the reduction of
sulphur dioxide and nitrogen oxide emissions caused by electric utility power
plants, particularly those fueled by coal. Under the 1990 Amendments the U.S.
Environmental Protection Agency ("EPA") must develop limits for nitrogen oxide
emissions by 1993. The sulphur dioxide reduction will be achieved in two
phases. Phase I addresses specific generating units named in the 1990
Amendments. In Phase II the total U.S. emissions will be capped at 8.9 million
tons by the year 2000. The 1990 Amendments contain provisions for allocating
allowances to power plants based on historical or calculated levels. An
allowance is defined as the authorization to emit one ton of sulphur dioxide.
The 1990 Amendments also provide for possible further regulation of toxic air
emissions from electric generating units pending the results of several federal
government studies to be presented to Congress by the end of 1995 with respect
to anticipated hazards to public health, available corrective technologies, and
mercury toxicity.
Electric utilities which own or operate nuclear power plants are exposed to
risks inherent in the nuclear industry. These risks include exposure to new
requirements resulting from extensive federal and state regulatory oversight,
public controversy, decommissioning costs, and spent fuel and radioactive waste
disposal issues. While nuclear power construction risks are no longer of
paramount concern, the emerging issue is radioactive waste disposal. In
addition, nuclear plants typically require substantial capital additions and
modifications throughout their operating lives to meet safety, environmental,
operational and regulatory requirements and to replace and upgrade various plant
systems. The high degree of regulatory monitoring and controls imposed on
nuclear plants could cause a plant to be out of service or on limited service
for long periods. When a nuclear facility owned by an investor-owned utility or
a state or local municipality is out of service or operating on a limited
service basis, the utility operator or its owners may be liable for the recovery
of replacement power costs. Risks of substantial liability also arise from the
operation of nuclear facilities and from the use, handling, and possible
radioactive emissions associated with nuclear fuel. Insurance may not cover all
types or amounts of loss which may be experienced in connection with the
ownership and operation of a nuclear plant and severe financial consequences
could result from a significant accident or occurrence. The Nuclear Regulatory
Commission has promulgated regulations mandating the establishment of funded
reserves to assure financial capability for the eventual decommissioning of
licensed nuclear facilities. These funds are to be accrued from revenues in
amounts currently estimated to be sufficient to pay for decommissioning costs.
Since there have been very few nuclear plants decommissioned to date, these
estimates may be unrealistic.
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The ability of state and local joint action power agencies to make payments
on bonds they have issued is dependent in large part on payments made to them
pursuant to power supply or similar agreements. Courts in Washington, Oregon
and Idaho have held that certain agreements between the Washington Public Power
Supply System ("WPPSS") and the WPPSS participants are unenforceable because the
participants did not have the authority to enter into the agreements. While
these decisions are not specifically applicable to agreements entered into by
public entities in other states, they may cause a reexamination of the legal
structure and economic viability of certain projects financed by joint action
power agencies, which might exacerbate some of the problems referred to above
and possibly lead to legal proceedings questioning the enforceability of
agreements upon which payment of these bonds may depend.
Lease Rental Bonds. Lease rental bonds are issued for the most part by
governmental authorities that have no taxing power or other means of directly
raising revenues. Rather, the authorities are financing vehicles created solely
for the construction of buildings (administrative offices, convention centers
and prisons, for example) or the purchase of equipment (police cars and computer
systems, for example) that will be used by a state or local government (the
"lessee"). Thus, the bonds are subject to the ability and willingness of the
lessee government to meet its lease rental payments which include debt service
on the bonds. Willingness to pay may be subject to changes in the views of
citizens and government officials as to the essential nature of the finance
project. Lease rental bonds are subject, in almost all cases, to the annual
appropriation risk, i.e., the lessee government is not legally obligated to
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budget and appropriate for the rental payments beyond the current fiscal year.
These bonds are also subject to the risk of abatement in many states--rental
obligations cease in the event that damage, destruction or condemnation of the
project prevents its use by the lessee. (In these cases, insurance provisions
and reserve funds designed to alleviate this risk become important credit
factors). In the event of default by the lessee government, there may be
significant legal and/or practical difficulties involved in the reletting or
sale of the project. Some of these issues, particularly those for equipment
purchase, contain the so-called "substitution safeguard", which bars the lessee
government, in the event it defaults on its rental payments, from the purchase
or use of similar equipment for a certain period of time. This safeguard is
designed to insure that the lessee government will appropriate the necessary
funds even though it is not legally obligated to do so, but its legality remains
untested in most, if not all, states.
Housing Bonds. Multi-family housing revenue bonds and single family mortgage
revenue bonds are state and local housing issues that have been issued to
provide financing for various housing projects. Multi-family housing revenue
bonds are payable primarily from the revenues derived from mortgage loans to
housing projects for low to moderate income families. Single-family mortgage
revenue bonds are issued for the purpose of acquiring from originating financial
institutions notes secured by mortgages on residences.
Housing bonds are not general obligations of the issuer although certain
obligations may be supported to some degree by Federal, state or local housing
subsidy programs. Budgetary constraints experienced by these programs as well
as the failure by a state or local housing issuer to satisfy the qualifications
required for coverage under these programs or any legal or administrative
determinations that the coverage of these programs is not available to a housing
issuer, probably will result in a decrease or elimination of subsidies available
for payment of amounts due on the issuer's bonds. The ability of housing
issuers to make debt service payments on their bonds will also be affected by
various economic and non-economic developments including, among other things,
the achievement and maintenance of sufficient occupancy levels and adequate
rental income in multi-family projects, the rate of default on mortgage loans
underlying single family issues and the ability of mortgage insurers to pay
claims, employment and income conditions prevailing in local markets, increases
in construction costs, taxes, utility costs and other operating expenses, the
managerial ability of project managers, changes in laws and governmental
regulations and economic trends generally in the localities in which the
projects are situated. Occupancy of multi-family housing projects may also be
adversely affected by high rent levels and income limitations imposed under
Federal, state or local programs.
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All single family mortgage revenue bonds and certain multi-family housing
revenue bonds are prepayable over the life of the underlying mortgage or
mortgage pool, and therefore the average life of housing obligations cannot be
determined. However, the average life of these obligations will ordinarily be
less than their stated maturities. Single-family issues are subject to
mandatory redemption in whole or in part from prepayments on underlying mortgage
loans; mortgage loans are frequently partially or completely prepaid prior to
their final stated maturities as a result of events such as declining interest
rates, sale of the mortgaged premises, default, condemnation or casualty loss.
Multi-family issues are characterized by mandatory redemption at par upon the
occurrence of monetary defaults or breaches of covenants by the project
operator. Additionally, housing obligations are generally subject to mandatory
partial redemption at par to the extent that proceeds from the sale of the
obligations are not allocated within a stated period (which may be within a year
of the date of issue).
The tax exemption for certain housing revenue bonds depends on qualification
under Section 143 of the Internal Revenue Code of 1986, as amended (the "Code"),
in the case of single family mortgage revenue bonds or Section 142(a)(7) of the
Code or other provisions of Federal law in the case of certain multi-family
housing revenue bonds (including Section 8 assisted bonds). These sections of
the Code or other provisions of Federal law contain certain ongoing
requirements, including requirements relating to the cost and location of the
residences financed with the proceeds of the single family mortgage revenue
bonds and the income levels of tenants of the rental projects financed with the
proceeds of the multi-family housing revenue bonds. While the issuers of the
bonds and other parties, including the originators and servicers of the
single-family mortgages and the owners of the rental projects financed with the
multi-family housing revenue bonds, generally covenant to meet these ongoing
requirements and generally agree to institute procedures designed to ensure that
these requirements are met, there can be no assurance that these ongoing
requirements will be consistently met. The failure to meet these requirements
could cause the interest on the bonds to become taxable, possibly retroactively
from the date of issuance, thereby reducing the value of the bonds, subjecting
Holders to unanticipated tax liabilities and possibly requiring a Trustee to
sell these bonds at reduced values. Furthermore, any failure to meet these
ongoing requirements might not constitute an event of default under the
applicable mortgage or permit the holder to accelerate payment of the bond or
require the issuer to redeem the bond. In any event, where the mortgage is
insured by the Federal Housing Administration, its consent may be required
before insurance proceeds would become payable to redeem the mortgage bonds.
Hospital and Health Care Bonds. The ability of hospitals and other health
care facilities to meet their obligations with respect to revenue bonds issued
on their behalf is dependent on various factors, including the level of payments
received from private third-party payors and government programs and the cost of
providing health care services.
A significant portion of the revenues of hospitals and other health care
facilities is derived from private third-party payors and government programs,
including the Medicare and Medicaid programs. Both private third-party payors
and government programs have undertaken cost containment measures designed to
limit payments made to health care facilities. Furthermore, government programs
are subject to statutory and regulatory changes, retroactive rate adjustments,
administrative rulings and government funding restrictions, all of which may
materially decrease the rate of program payments for health care facilities.
Certain special revenue obligations (i.e., Medicare or Medicaid revenues) may be
payable subject to appropriations by state legislatures. There can be no
assurance that payments under governmental programs will remain at levels
comparable to present levels or will, in the future, be sufficient to cover the
costs allocable to patients participating in these programs. In addition, there
can be no assurance that a particular hospital or other health care facility
will continue to meet the requirements for participation in these programs.
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The costs of providing health care services are subject to increase as a
result of, among other factors, changes in medical technology and increased
labor costs. In addition, health care facility construction and operation is
subject to federal, state and local regulation relating to the adequacy of
medical care, equipment, personnel, operating policies and procedures,
rate-setting, and compliance with building codes and environmental laws.
Facilities are subject to periodic inspection by governmental and other
authorities to assure continued compliance with the various standards necessary
for licensing and accreditation. These regulatory requirements are subject to
change and, to comply, it may be necessary for a hospital or other health care
facility to incur substantial capital expenditures or increased operating
expenses to effect changes in its facilities, equipment, personnel and services.
Hospitals and other health care facilities are subject to claims and legal
actions by patients and others in the ordinary course of business. Although
these claims are generally covered by insurance, there can be no assurance that
a claim will not exceed the insurance coverage of a health care facility or that
insurance coverage will be available to a facility. In addition, a substantial
increase in the cost of insurance could adversely affect the results of
operations of a hospital or other health care facility. The Clinton
Administration may impose regulations which could limit price increases for
hospitals or the level of reimbursements for third-party payors or other
measures to reduce health care costs and make health care available to more
individuals, which would reduce profits for hospitals. Some states, such as New
Jersey, have significantly changed their reimbursement systems. If a hospital
cannot adjust to the new system by reducing expenses or raising rates, financial
difficulties may arise. Also, Blue Cross has denied reimbursement for some
hospitals for services other than emergency room services. The lost volume
would reduce revenues unless replacement patients were found.
Certain hospital bonds provide for redemption at par at any time upon the
sale by the issuer of the hospital facilities to a non-affiliated entity, if the
hospital becomes subject to ad valorem taxation, or in various other
circumstances. For example, certain hospitals may have the right to call bonds
at par if the hospital may be legally required because of the bonds to perform
procedures against specified religious principles or to disclose information
that is considered confidential or privileged. Certain FHA-insured bonds may
provide that all or a portion of those bonds, otherwise callable at a premium,
can be called at par in certain circumstances. If a hospital defaults upon a
bond, the realization of Medicare and Medicaid receivables may be uncertain and,
if the bond is secured by the hospital facilities, legal restrictions on the
ability to foreclose upon the facilities and the limited alternative uses to
which a hospital can be put may severely reduce its collateral value.
The Internal Revenue Service is currently engaged in a program of intensive
audits of certain large tax-exempt hospital and health care facility
organizations. Although these audits have not yet been completed, it has been
reported that the tax-exempt status of some of these organizations may be
revoked.
Facility Revenue Bonds. Facility revenue bonds are generally payable from
and secured by the revenues from the ownership and operation of particular
facilities such as airports (including airport terminals and maintenance
facilities), bridges, marine terminals, turnpikes and port authorities. For
example, the major portion of gross airport operating income is generally
derived from fees received from signatory airlines pursuant to use agreements
which consist of annual payments for airport use, occupancy of certain terminal
space, facilities, service fees, concessions and leases. Airport operating
income may therefore be affected by the ability of the airlines to meet their
obligations under the use agreements. The air transport industry is
experiencing significant variations in earnings and traffic, due to increased
competition, excess capacity, increased aviation fuel, deregulation, traffic
constraints and other factors. As a result, several airlines are experiencing
severe financial difficulties. Several airlines including America West Airlines
have sought protection from their creditors under Chapter 11 of the Bankruptcy
Code. In addition, other airlines such as Midway Airlines, Inc., Eastern
Airlines, Inc. and Pan American Corporation have been liquidated. However,
Continental Airlines and Trans World Airlines have emerged
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from bankruptcy. The Sponsors cannot predict what effect these industry
conditions may have on airport revenues which are dependent for payment on the
financial condition of the airlines and their usage of the particular airport
facility. Furthermore, proposed legislation would provide the U.S. Secretary of
Transportation with the temporary authority to freeze airport fees upon the
occurrence of disputes between a particular airport facility and the airlines
utilizing that facility.
Similarly, payment on bonds related to other facilities is dependent on
revenues from the projects, such as use fees from ports, tolls on turnpikes and
bridges and rents from buildings. Therefore, payment may be adversely affected
by reduction in revenues due to these factors and increased cost of maintenance
or decreased use of a facility, lower cost of alternative modes of
transportation or scarcity of fuel and reduction or loss of rents.
Solid Waste Disposal Bonds. Bonds issued for solid waste disposal facilities
are generally payable from dumping fees and from revenues that may be earned by
the facility on the sale of electrical energy generated in the combustion of
waste products. The ability of solid waste disposal facilities to meet their
obligations depends upon the continued use of the facility, the successful and
efficient operation of the facility and, in the case of waste-to-energy
facilities, the continued ability of the facility to generate electricity on a
commercial basis. All of these factors may be affected by a failure of
municipalities to fully utilize the facilities, an insufficient supply of waste
for disposal due to economic or population decline, rising construction and
maintenance costs, any delays in construction of facilities, lower-cost
alternative modes of waste processing and changes in environmental regulations.
Because of the relatively short history of this type of financing, there may be
technological risks involved in the satisfactory construction or operation of
the projects exceeding those associated with most municipal enterprise projects.
Increasing environmental regulation on the federal, state and local level has a
significant impact on waste disposal facilities. While regulation requires more
waste producers to use waste disposal facilities, it also imposes significant
costs on the facilities. These costs include compliance with frequently
changing and complex regulatory requirements, the cost of obtaining construction
and operating permits, the cost of conforming to prescribed and changing
equipment standards and required methods of operation and, for incinerators or
waste-to-energy facilities, the cost of disposing of the waste residue that
remains after the disposal process in an environmentally safe manner. In
addition, waste disposal facilities frequently face substantial opposition by
environmental groups and officials to their location and operation, to the
possible adverse effects upon the public health and the environment that may be
caused by wastes disposed of at the facilities and to alleged improper operating
procedures. Waste disposal facilities benefit from laws which require waste to
be disposed of in a certain manner but any relaxation of these laws could cause
a decline in demand for the facilities' services. Finally, waste-to-energy
facilities are concerned with many of the same issues facing utilities insofar
as they derive revenues from the sale of energy to local power utilities.
Special Tax Bonds. Special tax bonds are payable from and secured by the
revenues derived by a municipality from a particular tax such as a tax on the
rental of a hotel room, on the purchase of food and beverages, on the rental of
automobiles or on the consumption of liquor. Special tax bonds are not secured
by the general tax revenues of the municipality, and they do not represent
general obligations of the municipality. Therefore, payment on special tax
bonds may be adversely affected by a reduction in revenues realized from the
underlying special tax due to a general decline in the local economy or
population or due to a decline in the consumption, use or cost of the goods and
services that are subject to taxation. Also, should spending on the particular
goods or services that are subject to the special tax decline, the municipality
may be under no obligation to increase the rate of the special tax to ensure
that sufficient revenues are raised from the shrinking taxable base.
Student Loan Revenue Bonds. Student loan revenue bonds are issued by various
authorities to finance the acquisition of student loan portfolios or to
originate new student loans. These bonds are
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typically secured by pledged student loans, loan repayments and funds and
accounts established under the indenture. Student loans are generally either
guaranteed by eligible guarantors under the Higher Education Act of 1965, as
amended, and reinsured by the Secretary of the U.S. Department of Education,
directly insured by the federal government or financed as part of supplemental
or alternative loan programs with a state (e.g., loan repayment is not
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guaranteed).
Certain student loan revenue bonds may permit the issuer to enter into an
"interest rate swap agreement" with a counterparty obligating the issuer to pay
either a fixed or a floating rate on a notional principal amount of bonds and
obligating the counterparty to pay either a fixed or a floating interest rate on
the issuer's bonds. The payment obligations of the issuer and the counterparty
to each other will be netted on each interest payment date, and only one payment
will be made by one party to the other. Although the choice of counterparty
typically requires a determination from a rating agency that any rating of the
bonds will not be adversely affected by the swap, payment on the bonds may be
subject to the additional risk of the counterparty's ability to fulfill its swap
obligation.
Transit Authority Bonds. Mass transit is generally not self-supporting from
fare revenues. Therefore, additional financial resources must be made available
to ensure operation of mass transit systems as well as the timely payment of
debt service. Often these financial resources include Federal and state
subsidies, lease rentals paid by funds of the state or local government or a
pledge of a special tax such as a sales tax or a property tax. If fare revenues
or the additional financial resources do not increase appropriately to pay for
rising operating expenses, the ability of the issuer to adequately service the
debt may be adversely affected.
Municipal Water and Sewer Revenue Bonds. Water and sewer bonds are generally
payable from user fees. The ability of state and local water and sewer
authorities to meet their obligations may be affected by failure of
municipalities to utilize fully the facilities constructed by these authorities,
economic or population decline and resulting decline in revenue from user
charges, rising construction and maintenance costs and delays in construction of
facilities, impact of environmental requirements, failure or inability to raise
user charges in response to increased costs, the difficulty of obtaining or
discovering new supplies of fresh water, the effect of conservation programs and
the impact of "no growth" zoning ordinances. In some cases this ability may be
affected by the continued availability of Federal and state financial assistance
and of municipal bond insurance for future bond issues.
University and College Bonds. The ability of universities and colleges to
meet their obligations is dependent upon various factors, including the size and
diversity of their sources of revenues, enrollment, reputation, management
expertise, the availability and restrictions on the use of endowments and other
funds, the quality and maintenance costs of campus facilities, and, in the case
of public institutions, the financial condition of the relevant state or other
governmental entity and its policies with respect to education. The
institution's ability to maintain enrollment levels will depend on such factors
as tuition costs, demographic trends, geographic location, geographic diversity
and quality of the student body, quality of the faculty and the diversity of
program offerings.
Legislative or regulatory action in the future at the Federal, state or local
level may directly or indirectly affect eligibility standards or reduce or
eliminate the availability of funds for certain types of student loans or grant
programs, including student aid, research grants and work-study programs, and
may affect indirect assistance for education.
Puerto Rico
Various Bonds may be affected by general economic conditions in Puerto Rico.
Puerto Rico's unemployment rate remains significantly higher than the U.S.
unemployment rate. Furthermore, the Puerto
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Rican economy is largely dependent for its development upon U.S. policies and
programs that are being reviewed and may be eliminated.
The Puerto Rican economy is affected by a number of Commonwealth and Federal
investment incentive programs. For example, Section 936 of the Code provides for
a credit against Federal income taxes for U.S. companies operating on the island
if certain requirements are met. The Omnibus Budget Reconciliation Act of 1993
imposes limits on this credit, effective for tax years beginning after 1993. In
addition, from time to time proposals are introduced in Congress which, if
enacted into law, would eliminate some or all of the benefits of Section 936.
Although no assessment can be made at this time of the precise effect of this
limitation, it is expected that the limitation of Section 936 credits would have
a negative impact on Puerto Rico's economy.
Aid for Puerto Rico's economy has traditionally depended heavily on Federal
programs, and current Federal budgetary policies suggest that an expansion of
aid to Puerto Rico is unlikely. An adverse effect on the Puerto Rican economy
could result from other U.S. policies, including a reduction of tax benefits for
distilled products, further reduction in transfer payment programs such as food
stamps, curtailment of military spending and policies which could lead to a
stronger dollar.
In a plebiscite held in November, 1993, the Puerto Rican electorate chose to
continue Puerto Rico's Commonwealth status. Previously proposed legislation,
which was not enacted, would have preserved the federal tax exempt status of the
outstanding debts of Puerto Rico and its public corporations regardless of the
outcome of the referendum, to the extent that similar obligations issued by
states are so treated and subject to the provisions of the Code currently in
effect. There can be no assurance that any pending or future legislation
finally enacted will include the same or similar protection against loss of tax
exemption. The November 1993 plebiscite can be expected to have both direct and
indirect consequences on such matters as the basic characteristics of future
Puerto Rico debt obligations, the markets for these obligations, and the types,
levels and quality of revenue sources pledged for the payment of existing and
future debt obligations. The possible consequences include legislative
proposals seeking restoration of the status of Section 936 benefits otherwise
subject to the limitations discussed above. However, no assessment can be made
at this time of the economic and other effects of a change in federal laws
affecting Puerto Rico as a result of the November 1993 plebiscite.
Bonds Backed by Letters of Credit or Repurchase Commitments
In the case of Bonds secured by letters of credit issued by commercial banks
or savings banks, savings and loan associations and similar institutions
("thrifts"), the letter of credit may be drawn upon, and the Bonds consequently
redeemed, if an issuer fails to pay amounts due on the Bonds or defaults under
its reimbursement agreement with the issuer of the letter of credit or, in
certain cases, if the interest on the Bonds is deemed to be taxable and full
payment of amounts due is not made by the issuer. The letters of credit are
irrevocable obligations of the issuing institutions, which are subject to
extensive governmental regulations which may limit both the amounts and types of
loans and other financial commitments which may be made and interest rates and
fees which may be charged.
Certain Intermediate Term and Put Series and certain other Series contain
Bonds purchased from one or more commercial banks or thrifts or other
institutions ("Sellers") which have committed under certain circumstances
specified below to repurchase the Bonds from the Fund ("Repurchase
Commitments"). The Bonds in these Funds may be secured by one or more
Repurchase Commitments (see Investment Summary in Part A) which, in turn may be
backed by a letter of credit or secured by a security interest in collateral. A
Seller may have committed to repurchase from the Fund any Bonds sold by it,
within a specified period after receiving notice from the Trustee, to the extent
necessary to satisfy redemptions of Units despite the market-making activity of
the Sponsors (a "Liquidity Repurchase"). The
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required notice period may be 14 days (a "14 Day Repurchase") or, if a
repurchase date is set forth under Investment Summary in Part A, the Trustee may
at any time not later than two hours after the Evaluation Time on the repurchase
date (or if a repurchase date is not a business day, on the first business day
thereafter), deliver this notice to the Seller. Additionally, if the Sponsors
elect to remarket Units which have been received at or before the Evaluation
Time on any repurchase date (the "Tendered Units"), a Seller may have committed
to repurchase from the Fund on the date 15 business days after that repurchase
date, any Bonds sold by the Seller to the Fund in order to satisfy any tenders
for redemption by the Sponsors made within 10 business days after the Evaluation
Time. A Seller may also have made any of the following commitments: (i) to
repurchase at any time on 14 calendar days' notice any Bonds if the issuer
thereof shall fail to make any payments of principal thereof and premium and
interest thereon (a "Default Repurchase"); (ii) to repurchase any Bond on a
fixed disposition date (a "Disposition Date") if the Trustee elects not to sell
the Bond in the open market (because a price in excess of its Put Price (as
defined under Investment Summary in Part A) cannot be obtained) on this date (a
"Disposition Repurchase")); (iii) to repurchase at any time on 14 calendar days'
notice any Bond in the event that the interest thereon should be deemed to be
taxable (a "Tax Repurchase"); and (iv) to repurchase immediately all Bonds if
the Seller becomes or is deemed to be bankrupt or insolvent (an "Insolvency
Repurchase"). (See Investment Summary in Part A.) Any repurchase of a Bond
will be at a price no lower than its original purchase price to the Fund, plus
accrued interest to the date of repurchase, plus any further adjustments as
described under Investment Summary in Part A.
Upon the sale of a Bond by the Fund to a third party prior to its Disposition
date, any related Liquidity and Disposition Repurchase commitments will be
transferable, together with an interest in any collateral or letter of credit
backing the repurchase commitments and the Liquidity Repurchase commitments will
be exercisable by the buyer free from the restriction that the annual repurchase
right may only be exercised to meet redemptions of Units. Any Default
Repurchase, Tax Repurchase and Insolvency Repurchase commitments also will not
terminate upon disposition of the Bond by the Fund but will be transferable,
together with an interest in the collateral or letter of credit backing the
Repurchase Commitments or both, as the case may be.
A Seller's Repurchase Commitments apply only to Bonds which it has sold to
the Fund; consequently, if a particular Seller fails to meet its commitments, no
recourse is available against any other Seller nor against the collateral or
letters of credit of any other Seller. Each Seller's Repurchase Commitments
relating to any Bond terminate (i) upon repurchase by the Seller of the Bond,
(ii) on the Disposition Date of the Bond if its holder does not elect to have
the Seller repurchase the Bond on that date and (iii) in the event notice of
redemption shall have been given on or prior to the Disposition Date for the
entire outstanding principal amount of the Bond and that redemption or maturity
of the Bond occurs on or prior to the Disposition Date. On the scheduled
Disposition Date of a Bond the Trustee will sell that Bond in the open market if
a price in excess of the Put Price as of the Disposition Date can be obtained.
An investment in Units of a Fund containing any of these types of credit-
supported Bonds should be made with an understanding of the characteristics of
the commercial banking and thrift industries and of the risks which an
investment in Units may entail. Banks and thrifts are subject to extensive
governmental regulations which may limit both the amounts and types of loans and
other financial commitments which may be made and interest rates and fees which
may be charged. The profitability of these industries is largely dependent upon
the availability and cost of funds for the purpose of financing lending
operations under prevailing money market conditions. Also, general economic
conditions play an important part in the operations of this industry and
exposure to credit losses arising from possible financial difficulties of
borrowers might affect an institution's ability to meet its obligations. These
factors also affect bank holding companies and other financial institutions,
which may not be as highly regulated as banks, and may be more able to expand
into other non-financial and non-traditional businesses.
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In December 1991 Congress passed and the President signed into law the
Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") and the
Resolution Trust Corporation Refinancing, Restructuring, and Improvement Act of
1991. Those laws imposed many new limitations on the way in which banks,
savings banks, and thrifts may conduct their business and mandated early and
aggressive regulatory intervention for unhealthy institutions.
The thrift industry has experienced severe strains as demonstrated by the
failure of numerous savings banks and savings and loan associations. One
consequence of this was the insolvency of the deposit insurance fund of the
Federal Savings and Loan Insurance Corporation ("FSLIC"). As a result, in 1989
Congress enacted the Financial Institutions Reform, Recovery and Enforcement Act
("FIRREA") which significantly altered the legal rules and regulations governing
banks and thrifts. Among other things, FIRREA abolished the FSLIC and created a
new agency, the Resolution Trust Corporation ("RTC"), investing it with certain
of the FSLIC's powers. The balance of the FSLIC's powers were transferred to
the Federal Deposit Insurance Corporation ("FDIC"). Under FIRREA, as
subsequently amended, the RTC is normally appointed as receiver or conservator
of thrifts that fail between January 1, 1989 and a date that may occur as late
as July 1, 1995 if their deposits, prior to FIRREA, were insured by the FSLIC.
The FDIC is normally appointed as receiver or conservator for all thrifts the
deposits of which, before FIRREA, were insured by the FDIC, and those thrifts
the deposits of which, prior to FIRREA, were insured by the FSLIC that fail on
or after the end of the RTC appointment period.
In certain cases, the Sponsors have agreed that the sole recourse in
connection with any default, including insolvency, by thrifts whose
collateralized letter of credit, guarantee or Repurchase Commitments may back
any of the Debt Obligations will be to exercise available remedies with respect
to the collateral pledged by the thrift; should the collateral be insufficient,
the Fund will, therefore, be unable to pursue any default judgment against that
thrift. Certain of these collateralized letters of credit, guarantees or
Repurchase Commitments may provide that they are to be called upon in the event
the thrift becomes or is deemed to be insolvent. Accordingly, investors should
recognize that they are subject to having the principal amount of their
investment represented by a Debt Obligation secured by a collateralized letter
of credit, guarantee or Repurchase Commitment returned prior to the termination
date of the Fund or the maturity or disposition dates of the Debt Obligations if
the thrift becomes or is deemed to be insolvent, as well as in any of the
situations outlined under Repurchase Commitments below.
Moreover, FIRREA generally permits the FDIC or the RTC, as the case may be,
to prevent the exercise of a Seller's Insolvency Repurchase commitment and
empowers that agency to repudiate a Seller's contracts, including a Seller's
other Repurchase Commitments. FIRREA also creates a risk that damages against
the FDIC or RTC would be limited and that investors could be left without the
full protections afforded by the Repurchase Commitments and the Collateral.
Policy statements adopted by the FDIC and the RTC concerning collateralized
repurchase commitments have partially ameliorated these risks for the Funds.
According to these policy statements, the FDIC or the RTC, as conservator or
receiver, will not assert the position that it can repudiate the repurchase
commitments without the payment of damages from the collateral, and will instead
either (i) accelerate the collateralized repurchase commitments, in which event
payment will be made under the repurchase commitments to the extent of available
collateral, or (ii) enforce the repurchase commitments, except that any
insolvency clause would not be enforceable against the FDIC and the RTC. Should
the FDIC choose to accelerate, however, there is some question whether the
payment made would include interest on the defaulted Debt Obligations for the
period after the appointment of the receiver or conservator through the payment
date.
The RTC has also given similar comfort with respect to collateralized letters
of credit, but the FDIC has not done so at this time. Consequently, there can
be no assurance that collateralized letters of credit issued by thrifts for
which the FDIC would be the receiver or conservator appointed, as described
three paragraphs earlier, will be available in the event of the failure of any
such thrift.
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The possibility of early payment has been increased significantly by the
enactment of FDICIA, which requires federal regulators of insured banks, savings
banks and thrifts to act more quickly to address the problems of
undercapitalized institutions than previously, and specifies in more detail the
actions they must take. One requirement virtually compels the appointment of a
receiver for any institution when its ratio of tangible equity to total assets
declines to two percent. Others force aggressive intervention in the business
of an institution at even earlier stages of deterioration. Upon appointment of
a receiver, if the FDIC or RTC pays as provided, in the policy statements and
notwithstanding the possibility that the institution might not have deteriorated
to zero book net worth (and therefore might not satisfy traditional definitions
of "insolvent"), the payment could therefore come substantially earlier than
might have been the case prior to FDICIA.
Certain letters of credit or guarantees backing Bonds may have been issued by
a foreign bank or corporation or similar entity (a "Foreign Guarantee").
Foreign Guarantees are subject to the risk that exchange control regulations
might be adopted in the future which might affect adversely payments to the
Fund. Similarly, foreign withholding taxes could be imposed in the future
although provision is made in the instruments governing any Foreign Guarantee
that, in substance, to the extent permitted by applicable law, additional
payments will be made by the guarantor so that the total amount paid, after
deduction of any applicable tax, will not be less than the amount then due and
payable on the Foreign Guarantee. The adoption of exchange control regulations
and other legal restrictions could have an adverse impact on the marketability
of any Bonds backed by a Foreign Guarantee.
Liquidity
Certain of the Bonds may have been purchased by the Sponsors from various
banks and thrifts in large denominations and may not have been issued under bond
resolutions or trust indentures providing for issuance of bonds in small
denominations. These Bonds were generally directly placed with the banks or
thrifts and held in their portfolios prior to sale to the Sponsors. There is no
established secondary market for those Bonds. The Sponsors believe that there
should be a readily available market among institutional investors for the Bonds
which were purchased from these portfolios in the event it is necessary to sell
Bonds to meet redemptions of Units (should redemptions be made despite the
market making activity of the Sponsors) in light of the following
considerations: (i) the credit characteristics of the companies obligated to
make payments on the Bonds; (ii) the fact that these Bonds may be backed by
irrevocable letters of credit or guarantees of banks or thrifts; and (iii) the
fact that banks or thrifts selling these Bonds to the Sponsors for deposit in
the Fund or the placement agent acting in connection with their sale generally
have stated their intentions, although they are not legally obligated to do so,
to remarket or to repurchase, at the then-current bid side evaluation, any of
these Bonds proposed to be sold by the Trustee. The interest on these Bonds
received by the Fund is net of the fee for the related letter of credit or
guarantee charged by the bank or thrift issuing the letter of credit or
guarantee.
Any Bonds which were purchased from these portfolios are exempt from the
registration provisions of the Federal securities laws, and, therefore, can be
sold free of the registration requirements of the securities laws. Because
there is no established secondary market for these Bonds, however, there is no
assurance that the price realized on sale of these Bonds will not be adversely
affected. Consequently it is more likely that the sale of these Bonds may cause
a decline in the value of Units than a sale of debt obligations for which an
established secondary market exists. In addition, in certain Intermediate Term
and Put Series and certain other Series, liquidity of the Fund is additionally
augmented by the Sellers' collateralized or letter of credit-backed Liquidity
Repurchase commitment in the event it is necessary to sell any Bond to meet
redemptions of Units. If, upon the scheduled Disposition Date for any Bond, the
Trustee elects not to sell the Bond scheduled for disposition on this date in
the open market (because, for example, a price in excess of its Put Price cannot
be obtained), the Seller of the Bond is obligated to repurchase the Bond
pursuant to its collateralized or letter of credit-backed Disposition Repurchase
commitment. There can be no assurance that the prices that can be obtained for
the Bonds at any time in the open market will exceed the Put Price of the Bonds.
In addition, if any Seller should become unable
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to honor its repurchase commitments and the Trustee is consequently forced to
sell the Bonds in the open market, there is no assurance that the price realized
on this sale of the Bonds would not be adversely affected by the absence of an
established secondary market for certain of the Bonds.
In some cases, the Sponsors have entered into an arrangement with the Trustee
whereby certain of the Bonds may be transferred to a trust (a "Participation
Trust") in exchange for certificates of participation in the Participation Trust
which could be sold in order to meet redemptions of Units. The certificates of
participation would be issued in readily marketable denominations of $5,000 each
or any greater multiple thereof and the holder thereof would be fully entitled
to the repayment protections afforded by collateral arrangements to any holder
of the underlying Bonds. These certificates would be exempt from registration
under the Securities Act of 1933 pursuant to Section 3(a)(2) thereof.
For Bonds that have been guaranteed or similarly secured by insurance
companies or other corporations or entities, the guarantee or similar commitment
may constitute a security (a "Restricted Security") that cannot, in the opinion
of counsel, be sold publicly by the Trustee without registration under the
Securities Act of 1933, as amended, or similar provisions of law subsequently
exacted. The Sponsors nevertheless believe that, should a sale of these Bonds
be necessary in order to meet redemptions, the Trustee should be able to
consummate a sale with institutional investors. Up to 40% of the Portfolio may
initially have consisted of Bonds purchased from various banks and thrifts and
other Bonds with guarantees which may constitute Restricted Securities.
The Fund may contain bonds purchased directly from issuers. These Bonds are
generally issued under bond resolutions or trust indentures providing for the
issuance of bonds in publicly saleable denominations (usually $5,000), may be
sold free of the registration requirements of the Securities Act of 1933 and are
otherwise structured in contemplation of ready marketability. In addition, the
Sponsors generally have obtained letters of intention to repurchase or to use
best efforts to remarket these Debt Obligations from the issuers, the placement
agents acting in connection with their sale or the entities providing the
additional credit support, if any. These letters do not express legal
obligations; however, in the opinion of the Sponsors, these Bonds should be
readily marketable.
Bonds Backed by Insurance
Municipal bond insurance may be provided by one or more of AMBAC Indemnity
Corporation ("AMBAC"), Asset Guaranty Reinsurance Co. ("Asset Guaranty"),
Capital Guaranty Insurance Company ("CGIC"), Capital Markets Assurance Corp.
("CAPMAC"), Connie Lee Insurance Company ("Connie Lee"), Continental Casualty
Company ("Continental"), Financial Guaranty Insurance Company ("Financial
Guaranty"), Financial Security Assurance Inc. ("FSA"), Firemen's Insurance
Company of Newark, New Jersey ("Firemen's"), Industrial Indemnity Insurance
Company ("IIC"), which operates the Health Industry Bond Insurance ("HIBI")
Program or Municipal Bond Investors Insurance Corporation ("MBIA")
(collectively, the "Insurance Companies"). The claims-paying ability of each of
these companies, unless otherwise indicated, is rated AAA by Standard & Poor's
or another acceptable national rating agency. The ratings are subject to change
at any time at the discretion of the rating agencies. In determining whether to
insure bonds, the Insurance Companies severally apply their own standards. The
cost of this insurance is borne either by the issuers or previous owners of the
bonds or by the Sponsors. The insurance policies are non-cancellable and will
continue in force so long as the insured Bonds are outstanding and the insurers
remain in business. The insurance policies guarantee the timely payment of
principal and interest on but do not guarantee the market value of the insured
Bonds or the value of the Units. The insurance policies generally do not
provide for accelerated payments of principal or cover redemptions resulting
from events of taxability. If the issuer of any insured Bond should fail to
make an interest or principal payment, the insurance policies generally provide
that a Trustee or its agent will give notice of nonpayment to the Insurance
Company or its agent and provide evidence of the Trustee's right to receive
payment. The Insurance Company is then required to disburse the amount of the
failed payment to the Trustee or its agent and is thereafter subrogated to the
Trustee's right to receive payment from the issuer.
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Financial information relating to the Insurance Companies has been obtained
from publicly available information. No representation is made as to the
accuracy or adequacy of the information or as to the absence of material adverse
changes since the information was made available to the public. Standard &
Poor's has rated the Units of any Insured Fund AAA because the Insurance
Companies have insured the Bonds. The assignment of a AAA rating is due to
Standard & Poor's assessment of the creditworthiness of the Insurance Companies
and of their ability to pay claims on their policies of insurance. In the event
that Standard & Poor's reassesses the creditworthiness of any Insurance Company
which would result in the rating of an Insured Fund being reduced, the Sponsors
are authorized to direct the Trustee to obtain other insurance.
Certain Bonds may be entitled to portfolio insurance ("Portfolio Insurance")
that guarantees the scheduled payment of the principal of and interest on those
Bonds ("Portfolio-Insured Bonds") while they are retained in the Fund. Since
the Portfolio Insurance applies to Bonds only while they are retained in the
Fund, the value of Portfolio-Insured Bonds (and hence the value of the Units)
may decline if the credit quality of any Portfolio-Insured Bonds is reduced.
Premiums for Portfolio Insurance are payable monthly in advance by the Trustee
on behalf of the Fund.
As Portfolio-Insured Bonds are redeemed by their respective issuers or are
sold by the Trustee, the amount of the premium payable for the Portfolio
Insurance will be correspondingly reduced. Nonpayment of premiums on any policy
obtained by the Fund will not result in the cancellation of insurance but will
permit the portfolio insurer to take action against the Trustee to recover
premium payments due it. Upon the sale of a Portfolio-Insured Bond from the
Fund, the Trustee has the right, pursuant to an irrevocable commitment obtained
from the portfolio insurer, to obtain insurance to maturity ("Permanent
Insurance") on the Bond upon the payment of a single predetermined insurance
premium from the proceeds of the sale. It is expected that the Trustee will
exercise the right to obtain Permanent Insurance only if the Fund would receive
net proceeds from the sale of the Bond (sale proceeds less the insurance premium
attributable to the Permanent Insurance) in excess of the sale proceeds that
would be received if the Bonds were sold on an uninsured basis. The premiums
for Permanent Insurance for each Portfolio-Insured Bond will decline over the
life of the Bond.
The Public Offering Price does not reflect any element of value for Portfolio
Insurance. The Evaluator will attribute a value to the Portfolio Insurance
(including the right to obtain Permanent Insurance) for the purpose of computing
the price or redemption value of Units only if the Portfolio-Insured Bonds are
in default in payment of principal or interest or, in the opinion of the Agent
for the Sponsors, in significant risk of default. In making this determination
the Agent for the Sponsors has established as a general standard that a
Portfolio-Insured Bond which is rated less than BB by Standard & Poor's or Ba by
Moody's will be deemed in significant risk of default although the Agent for the
Sponsors retains the discretion to conclude that a Portfolio-Insured Bond is in
significant risk of default even though at the time it has a higher rating, or
not to reach that conclusion even if it has a lower rating. The value of the
insurance will be equal to the difference between (i) the market value of the
Portfolio-Insured Bond assuming the exercise of the right to obtain Permanent
Insurance (less the insurance premium attributable to the purchase of Permanent
Insurance) and (ii) the market value of the Portfolio-Insured Bond not covered
by Permanent Insurance.
In addition, certain Funds may contain Bonds that are insured to maturity as
well as being Portfolio-Insured Bonds.
The following are brief descriptions of the Insurance Companies. The
financial information presented for each company has been determined on a
statutory basis and is unaudited.
AMBAC is a Wisconsin-domiciled stock insurance company, regulated by the
Insurance Department of the State of Wisconsin, and licensed to do business in
various states. AMBAC is a
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wholly-owned subsidiary of AMBAC Inc., a financial holding company which is
publicly owned following a complete divestiture by Citibank during the first
quarter of 1992.
Asset Guaranty is a New York State insurance company licensed to write
financial guarantee, credit, residual value and surety insurance. Asset
Guaranty commenced operations in mid-1988 by providing reinsurance to several
major monoline insurers. The parent holding company of Asset Guaranty, Asset
Guarantee Inc. (AGI), merged with Enhance Financial Services (EFS) in June, 1990
to form Enhance Financial Services Group Inc. (EFSG). The two main, 100%-owned
subsidiaries of EFSG, Asset Guaranty and Enhance Reinsurance Company (ERC),
share common management and physical resources. After an initial public
offering completed in February 1992 and the sale by Merrill Lynch & Co. of its
state, EFSG is 49.8%-owned by the public, 29.9% by US West Financial Services,
14.1% by Manufacturers Life Insurance Co. and 6.2% by senior management. Both
ERC and Asset Guaranty are rated "AAA" for claims paying ability by Duff &
Phelps, and ERC is rated triple-A for claims-paying-ability for both S&P and
Moody's. Asset Guaranty received a "AA" claims-paying-ability rating from S&P
during August 1993, but remains unrated by Moody's.
CGIC, a monoline bond insurer headquartered in San Francisco, California, was
established in November 1986 to assume the financial guaranty business of United
States Fidelity and Guaranty Company ("USF&G"). It is a wholly-owned subsidiary
of Capital Guaranty Corporation ("CGC") whose stock is owned by: Constellation
Investments, Inc., an affiliate of Baltimore Gas & Electric, Fleet/Norstar
Financial Group, Inc., Safeco Corporation, Sibag Finance Corporation, an
affiliate of Siemens AG, USF&G, the eighth largest property/casualty company in
the U.S. as measured by net premiums written, and CGC management.
CAPMAC commenced operations in December 1987, as the second mono-line
financial guaranty insurance company (after FSA) organized solely to insure
non-municipal obligations. CAPMAC, a New York corporation, is a wholly-owned
subsidiary of CAPMAC Holdings, Inc. (CHI), which was sold in 1992 by Citibank
(New York State) to a group of 12 investors led by the following: Dillon Read's
Saratoga Partners II, L.P., an acquisition fund; Caprock Management, Inc.,
representing Rockefeller family interests; Citigrowth Fund, a Citicorp venture
capital group; and CAPMAC senior management and staff. These groups control
approximately 70% of the stock of CHI. CAPMAC had traditionally specialized in
guaranteeing consumer loan and trade receivable asset-backed securities. Under
the new ownership group CAPMAC intends to become involved in the municipal bond
insurance business, as well as their traditional non-municipal business.
Connie Lee is a wholly owned subsidiary of College Construction Loan
Insurance Association ("CCLIA"), a government-sponsored enterprise established
by Congress to provide American academic institutions with greater access to
low-cost capital through credit enhancement. Connie Lee, the operating
insurance company, was incorporated in 1987 and began business as a reinsurer of
tax-exempt bonds of colleges, universities, and teaching hospitals with a
concentration on the hospital sector. During the fourth quarter of 1991 Connie
Lee began underwriting primary bond insurance which will focus largely on the
college and university sector. CCLIA's founding shareholders are the U.S.
Department of Education, which owns 14% of CCLIA, and the Student Loan Marketing
Association ("Sallie Mae"), which owns 36%. The other principal owners are:
Pennsylvania Public School Employees' Retirement System, Metropolitan Life
Insurance Company, Kemper Financial Services, Johnson family funds and trusts,
Northwestern University, Rockefeller & Co., Inc. administered trusts and funds,
and Stanford University. Connie Lee is domiciled in the state of Wisconsin and
has licenses to do business in 47 states and the District of Columbia.
Continental is a wholly-owned subsidiary of CNA Financial Corp. and was
incorporated under the laws of Illinois in 1948. Continental is the lead
property-casualty company of a fleet of carriers nationally known as "CNA
Insurance Companies". CNA is rated AA+ by Standard & Poor's.
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Financial Guaranty, a New York stock insurance company, is a wholly-owned
subsidiary of FGIC Corporation, which is wholly owned by General Electric
Capital Corporation. The investors in the FGIC Corporation are not obligated to
pay the debts of or the claims against Financial Guaranty. Financial Guaranty
commenced its business of providing insurance and financial guarantees for a
variety of investment instruments in January 1984 and is currently authorized to
provide insurance in 49 states and the District of Columbia. It files reports
with state regulatory agencies and is subject to audit and review by those
authorities.
FSA is a monoline property and casualty insurance company incorporated in New
York in 1984. It is a wholly-owned subsidiary of Financial Security Assurance
Holdings Ltd., which was acquired in December 1989 by US West, Inc., the
regional Bell Telephone Company serving the Rocky Mountain and Pacific
Northwestern states. U.S. West is currently seeking to sell FSA. FSA is
licensed to engage in the surety business in 42 states and the District of
Columbia. FSA is engaged exclusively in the business of writing financial
guaranty insurance, on both tax-exempt and non-municipal securities.
Firemen's, which was incorporated in New Jersey in 1855, is a wholly-owned
subsidiary of The Continental Corporation and a member of The Continental
Insurance Companies, a group of property and casualty insurance companies the
claims paying ability of which is rated AA- by Standard & Poor's. It provides
unconditional and non-cancellable insurance on industrial development revenue
bonds.
IIC, which was incorporated in California in 1920, is a wholly-owned
subsidiary of Crum and Forster, Inc., a New Jersey holding company and a wholly-
owned subsidiary of Xerox Corporation. IIC is a property and casualty insurer
which, together with certain other wholly-owned insurance subsidiaries of Crum
and Forster, Inc., operates under a Reinsurance Participation Agreement whereby
all insurance written by these companies is pooled among them. Standard &
Poor's has rated IIC's claims-paying ability A. Any IIC/HIBI-rated Debt
Obligations in an Insured Series are additionally insured for as long as they
remain in the Fund and as long as IIC/HIBI's rating is below AAA, in order to
maintain the AAA-rating of Fund Units. The cost of any additional insurance is
paid by the Fund and such insurance would expire on the sale or maturity of the
Debt Obligation.
MBIA is the principal operating subsidiary of MBIA Inc. The principal
shareholders of MBIA Inc. were originally Aetna Casualty and Surety Company, The
Fund American Companies, Inc., subsidiaries of CIGNA Corporation and Credit
Local de France, CAECL, S.A. These principal shareholders now own approximately
13% of the outstanding common stock of MBIA Inc. following a series of four
public equity offerings over a five-year period.
Insurance companies are subject to regulation and supervision in the
jurisdictions in which they do business under statutes which delegate
regulatory, supervisory and administrative powers to state insurance
commissioners. This regulation, supervision and administration relate, among
other things, to: the standards of solvency which must be met and maintained;
the licensing of insurers and their agents; the nature of and limitations on
investments; deposits of securities for the benefit of policyholders; approval
of policy forms and premium rates; periodic examinations of the affairs of
insurance companies; annual and other reports required to be filed on the
financial condition of insurers or for other purposes; and requirements
regarding reserves for unearned premiums, losses and other matters. Regulatory
agencies require that premium rates not be excessive, inadequate or unfairly
discriminatory. Insurance regulation in many states also includes "assigned
risk" plans, reinsurance facilities, and joint underwriting associations, under
which all insurers writing particular lines of insurance within the jurisdiction
must accept, for one or more of those lines, risks that are otherwise
uninsurable. A significant portion of the assets of insurance companies is
required by law to be held in reserve against potential claims on policies and
is not available to general creditors.
Although the Federal government does not regulate the business of insurance,
Federal initiatives can significantly impact the insurance business. Current
and proposed Federal measures which may
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<PAGE>
significantly affect the insurance business include pension regulation (ERISA),
controls on medical care costs, minimum standards for no-fault automobile
insurance, national health insurance, personal privacy protection, tax law
changes affecting life insurance companies or the relative desirability of
various personal investment vehicles and repeal of the current antitrust
exemption for the insurance business. (If this exemption is eliminated, it will
substantially affect the way premium rates are set by all property-liability
insurers.) In addition, the Federal government operates in some cases as a
co-insurer with the private sector insurance companies.
Insurance companies are also affected by a variety of state and Federal
regulatory measures and judicial decisions that define and extend the risks and
benefits for which insurance is sought and provided. These include judicial
redefinitions of risk exposure in areas such as products liability and state and
Federal extension and protection of employee benefits, including pension,
workers' compensation, and disability benefits. These developments may result
in short-term adverse effects on the profitability of various lines of
insurance. Longer-term adverse effects can often be minimized through prompt
repricing of coverages and revision of policy terms. In some instances these
developments may create new opportunities for business growth. All insurance
companies write policies and set premiums based on actuarial assumptions about
mortality, injury, the occurrence of accidents and other insured events. These
assumptions, while well supported by past experience, necessarily do not take
account of future events. The occurrence in the future of unforeseen
circumstances could affect the financial condition of one or more insurance
companies. The insurance business is highly competitive and with the
deregulation of financial service businesses, it should become more competitive.
In addition, insurance companies may expand into non-traditional lines of
business which may involve different types of risks.
State Risk Factors
Investment in a single State Trust, as opposed to a Fund which invests in the
obligations of several states, may involve some additional risk due to the
decreased diversification of economic, political, financial and market risks.
See "State Matters" for brief summaries of some of the factors which may affect
the financial condition of the States represented in various State Trusts of
Defined Asset Funds, together with summaries of tax considerations relating to
those States.
Payment of Bonds and Life of a Fund
Because Bonds from time to time may be redeemed or prepaid or will mature in
accordance with their terms or may be sold under certain circumstances described
herein, no assurance can be given that a Portfolio will retain for any length of
time its present size and composition. Bonds may be subject to redemption prior
to their stated maturity dates pursuant to optional refunding or sinking fund
redemption provisions or otherwise. In general, optional refunding redemption
provisions are more likely to be exercised when the offer side evaluation is at
a premium over par than when it is at a discount from par. Generally, the offer
side evaluation of Bonds will be at a premium over par when market interest
rates fall below the coupon rate on the Bonds. Bonds in a Portfolio may be
subject to sinking fund provisions early in the life of a Fund. These
provisions are designed to redeem a significant portion of an issue gradually
over the life of the issue; obligations to be redeemed are generally chosen by
lot. Additionally, the size and composition of a Portfolio will be affected by
the level of redemptions of Units that may occur from time to time and the
consequent sale of Bonds. Principally, this will depend upon the number of
Holders seeking to sell or redeem their Units and whether or not the Sponsors
continue to reoffer Units acquired by them in the secondary market. Factors
that the Sponsors will consider in the future in determining to cease offering
Units acquired in the secondary market include, among other things, the
diversity of a Portfolio remaining at that time, the size of a Portfolio
relative to its original size, the ratio of Fund expenses to income, a Fund's
current and long-term returns, the degree to which Units may be selling at a
premium over par relative to other funds sponsored by the Sponsors and the cost
of maintaining a current prospectus for a Fund. These factors may also lead the
Sponsors to seek to terminate a Fund earlier than would otherwise be the case.
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Redemption
The Trustee is empowered to sell Bonds in order to make funds available for
redemption if funds are not otherwise available in the Capital and Income
Accounts. The Bonds to be sold will be selected from a list supplied by the
Sponsors. Securities will be chosen for this list by the Sponsors on the basis
of those market and credit factors as they may determine are in the best
interests of the Fund. Provision is made under the Indenture for the Sponsors
to specify minimum face amounts in which blocks of Bonds are to be sold in order
to obtain the best price for the Fund. While these minimum amounts may vary
from time to time in accordance with market conditions, the Sponsors believe
that the minimum face amounts which would be specified would range from $25,000
for readily marketable Bonds to $250,000 for certain Restricted Securities which
can be distributed on short notice only by private sale, usually to
institutional investors. Provision is also made that sales of Bonds may not be
made so as to (i) result in the Fund owning less than $250,000 of any Restricted
Security or (ii) result in more than 50% of the Fund consisting of Restricted
Securities. In addition, the Sponsors will use their best efforts to see that
these sales of Bonds are carried out in such a way that no more than 40% in face
amount of the Fund is invested in Restricted Securities, provided that sales of
unrestricted Securities may be made if the Sponsors' best efforts with regard to
timely sales of Restricted Securities at prices they deem reasonable are
unsuccessful and if as a result of these sales more than 50% of the Fund does
not consist of Restricted Securities. Thus the redemption of Units may require
the sale of larger amounts of Restricted Securities than of unrestricted
Securities.
Tax Exemption
In the opinion of bond counsel rendered on the date of issuance of each Bond,
the interest on each Bond is excludable from gross income under existing law for
regular Federal income tax purposes (except in certain circumstances depending
on the Holder) but may be subject to state and local taxes and may be a
preference item for purposes of the Alternative Minimum Tax. Interest on Bonds
may become subject to regular Federal income tax, perhaps retroactively to their
date of issuance, as a result of changes in Federal law or as a result of the
failure of issuers (or other users of the proceeds of the Bonds) to comply with
certain ongoing requirements.
Moreover, the Internal Revenue Service has announced an expansion of its
examination program with respect to tax-exempt bonds. The expanded examination
program will consist of, among other measures, increased enforcement against
abusive transactions, broader audit coverage (including the expected issuance of
audit guidelines) and expanded compliance achieved by means of expected
revisions to the tax-exempt bond information return forms.
In certain cases, a Bond may provide that if the interest on the Bond should
ultimately be determined to be taxable, the Bond would become due and payable by
its issuer, and, in addition, may provide that any related letter of credit or
other security could be called upon if the issuer failed to satisfy all or part
of its obligation. In other cases, however, a Bond may not provide for the
acceleration or redemption of the Bond or a call upon the related letter of
credit or other security upon a determination of taxability. In those cases in
which a Bond does not provide for acceleration or redemption or in which both
the issuer and the bank or other entity issuing the letter of credit or other
security are unable to meet their obligations to pay the amounts due on the Bond
as a result of a determination of taxability, a Trustee would be obligated to
sell the Bond and, since it would be sold as a taxable security, it is expected
that it would have to be sold at a substantial discount from current market
price. In addition, as mentioned above, under certain circumstances Holders
could be required to pay income tax on interest received prior to the date on
which the interest is determined to be taxable.
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INCOME AND RETURNS
Income
Because accrued interest on Bonds is not received by a Fund at a constant
rate throughout the year, any monthly income distribution may be more or less
than the interest actually received by the Fund. To eliminate fluctuations in
the monthly income distribution, a portion of the Public Offering Price consists
of an advance to the Trustee of an amount necessary to provide approximately
equal distributions. Upon the sale or redemption of Units, investors will
receive their proportionate share of the Trustee advance. In addition, if a
Bond is sold, redeemed or otherwise disposed of, a Fund will periodically
distribute the portion of the Trustee advance that is attributable to that Bond
to investors.
The regular monthly income distribution stated in Part A of the Prospectus is
based on a Public Offering Price of $1,000 per Unit after deducting estimated
Fund expenses, and will change as the composition of the Portfolio changes over
time.
Income is received by a Fund upon semi-annual payments of interest on the
Bonds held in a Portfolio. Bonds may sometimes be purchased on a when, as and
if issued basis or may have a delayed delivery. Since interest on these Bonds
does not begin to accrue until the date of delivery to a Fund, in order to
provide tax-exempt income to Holders for this non-accrual period, the Trustee's
Annual Fee and Expenses is reduced by the interest that would have accrued on
these Bonds between the initial settlement date for Units and the delivery dates
of the Bonds. This eliminates reduction in Monthly Income Distributions.
Should when-issued Bonds be issued later than expected, the fee reduction will
be increased correspondingly. If the amount of the Trustee's Annual Fee and
Expenses is insufficient to cover the additional accrued interest, the Sponsors
will treat the contracts as Failed Bonds. As the Trustee is authorized to draw
on the letter of credit deposited by the Sponsors before the settlement date for
these Bonds and deposit the proceeds in an account for the Fund on which it pays
no interest, its use of these funds compensates the Trustee for the reduction
described above.
STATE MATTERS
THE ALABAMA TRUST
RISK FACTORS--During recent years the economy of Alabama has grown at a
slower rate than that of the U.S. The State of Alabama, other governmental units
and agencies, school systems and entities dependent on government appropriations
or economic conditions have, in varying degrees, suffered budgetary
difficulties. These conditions and other factors described below could
adversely affect the Debt Obligations that the Trust acquires and the value of
Units in the Trust. The following information constitutes only a brief summary,
does not purport to be a complete description of potential adverse economic
effects and is based primarily on material presented in various government
documents, official statements, offering circulars and prospectuses. While the
Sponsors have not independently verified such information, they have no reason
to believe that such information is not correct in all material respects.
Limitations on State Indebtedness. Section 213 of the Constitution of
Alabama, as amended, requires that annual financial operations of Alabama must
be on a balanced budget and prohibits the State from incurring general
obligation debt unless authorized by an amendment to the Constitution. Although
conventions proposed by the Legislature and approved by the electorate may be
called for the purpose of amending the Alabama Constitution, amendments to the
Constitution have generally been adopted through a procedure that requires each
amendment to be proposed by a favorable vote of three-fifths of all the members
of each house of the Legislature and thereafter approved by a majority of the
voters of the State voting in a statewide election. The State has statutory
budget provisions which create a proration procedure in the event estimated
budget resources in a fiscal year are insufficient to pay in full all
appropriations for
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such fiscal year. Proration has a materially adverse effect on public entities,
such as boards of education, that are substantially dependent on state funds.
Court decisions have indicated that certain State expenses necessary for
essential functions of government are not subject to proration under applicable
law. The Supreme Court of Alabama has held that the debt prohibition contained
in the constitutional amendment does not apply to obligations incurred for
current operating expenses payable during the current fiscal year, debts
incurred by separate public corporations, or state debt incurred to repel
invasion or suppress insurrection. The State may also make temporary loans not
exceeding $300,000 to cover deficits in the state treasury. Limited obligation
debt may be authorized by the legislature without amendment to the Constitution.
The State has followed the practice of financing certain capital improvement
programs--principally for highways, education and improvements to the State
Docks--through the issuance of limited obligation bonds payable solely out of
certain taxes and other revenues specifically pledged for their payment and not
from the general revenues of the State.
Medicaid. Because of Alabama's relatively high incidence of poverty, health
care providers in Alabama are more heavily dependent on Medicaid than are health
care providers in other states. Contributions to Medicaid by the State of
Alabama are financed through the General Fund of the State of Alabama. As
discussed above, because deficit spending is prohibited by the Constitution of
Alabama, allocations from the General Fund, including Medicaid payments, may be
subject to proration. In recent years the General Fund has been subject to
proration by virtue of insufficient tax revenues and excessive expenditures, and
there can be no assurance that proration of the General Fund budget will not
continue. If continued, such proration may have a materially adverse effect on
Alabama Medicaid payments.
The Alabama legislature has recently enacted legislation to increase the
State portion of Medicaid funding. Nevertheless, factors such as the increasing
pressure on sources of Medicaid funding, at both the State and the Federal
level, and the expanding number of people covered by this program, are likely to
cause future concern over the Alabama Medicaid budget. It is likely that
reductions in payments made under the Federal Medicaid program will occur in the
future. If such reductions occur, it is unlikely that the State of Alabama will
be able to fund completely any resulting short-falls.
On July 10, 1995, a federal district court held that Alabama's Medicaid
program violates Federal law because it fails to provide Medicaid recipients
with adequate non-emergency transportation for medical services. According to
the court, the State's program for providing non-emergency transportation
recipients involved the use of volunteer, unpaid drivers. The court found that
this Alabama plan failed to insure necessary transportation to Medicaid
recipients. Therefore, the State of Alabama is currently under a court order to
submit a plan that will provide every Medicaid recipient in Alabama with
necessary transportation to and from health care providers. Any increase in
expenses resulting from such a plan could have a materially adverse effect on
other Alabama Medicaid payments.
According to reports in the news media, a study by a private consumer group
indicates that the level of benefits available are materially lower and the
eligibility standards significantly more stringent under the Alabama Medicaid
program than in most other states. Although, as stated above, Alabama health
care facilities are dependent on Medicaid payments, it should be expected that
health care facilities in Alabama will receive substantially less in Medicaid
payments than would health care facilities in most other states.
Health Care Services. In recent years, the importance of service industries
to Alabama's economy has increased significantly. One of the major service
industries in the State is general health care. Because of cost concerns,
health care providers and payors are restructuring and consolidating.
Consolidation resulting in a reduction of services in the health care industry
may have a material adverse effect on the economy of Alabama in general and, in
particular, on the issuers of Debt Obligations in the Trust secured by revenues
of health care facilities. In addition, there are many possible financial
effects that could result from enactment of any federal or state legislation
proposing to regulate or reform the health care industry,
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and it is not possible at this time to predict with assurance the effect of any
health care reform proposals that might be enacted.
In January 1995, Fob James became the new Governor of Alabama. Governor
James has imposed a moratorium on the Alabama State Health Planning and
Development Agency ("SHPDA") that affects all filings with SHPDA. During the
time that the moratorium remains in effect, health care providers will be unable
to obtain Certificates of Need for any new or expanded health services. The
moratorium may have a material adverse effect on the revenues of such providers.
Dependence on Federal Education Funds. Alabama is disproportionately
dependent on federal funds for secondary and higher education, predominantly
because of insufficient state and local support. Recent federal cutbacks on
expenditures for education have had, and if continued will have, an adverse
impact on educational institutions in Alabama.
On December 30, 1991, the District Court for the Northern District of Alabama
issued an opinion holding Alabama's institutions of higher learning liable for
operating a racially discriminatory dual university system. The Court ordered
several remedies and has maintained jurisdiction for ten years to insure
compliance. The Circuit Court of Appeals upheld parts of this verdict and
maintained control over the institutions. On August 1, 1995, a new ruling was
issued in this case, requiring additional funding for certain universities and
colleges in Alabama. The new funding requirements may have an adverse impact on
the State budget and could require that the current and upcoming fiscal year
budgets be prorated. Such proration would have a materially adverse effect on
public entities throughout the state. In part because of the possibility of
proration, state officials are currently considering whether to appeal this
latest decision. In addition, this change in funding could adversely affect
certain educational institutions in Alabama. However, if the State and the
universities fail to comply with the Court's orders, the Court may rule that
Federal funds for higher eduction be withheld. A ruling depriving the State of
Federal funds for higher education would have a materially adverse effect on
certain Alabama colleges and universities.
Challenge to School Funding Mechanism. On April 1, 1993, Montgomery Circuit
Court Judge Gene Reese ruled that an unconstitutional disparity exists among
Alabama's school districts because of inequitable distribution of tax funds.
Judge Reese issued an order calling for a new design for the distribution of
funds for educational purposes as well as a new system for funding public
education.
The Alabama Legislature has recently adopted a new funding program that is
expected to be signed into law by Governor James. The new funding program would
reduce the funds available for two-year colleges and universities in order to
increase the funding available for elementary and secondary schools. In
addition, the new law would provide more funds to school districts with lower
property values by withholding some funds from wealthier school districts. Any
allocation of funds away from school districts could impair the ability of such
districts to service debt. It is impossible to predict whether this new law will
comply with Judge Reese's ruling or whether future challenges will occur.
Alabama Industrial Characteristics. Alabama industrial capacity has
traditionally been concentrated in those areas sensitive to cyclical economic
trends, such as textiles and iron and steel production. To the extent that
American iron and steel and textile production continues to suffer from foreign
competition and other factors, the general economy of the State and the ability
of particular issuers, especially pollution-control and certain IDB issuers,
would be materially adversely affected. The State has recently taken steps to
diversify and increase its industrial capacity. Although these efforts have
been somewhat successful, they include significant tax and other benefits which
could have a mutually adverse effect on the state's tax revenues.
General Obligation Warrants. Municipalities and counties in Alabama
traditionally have issued general obligation warrants to finance various public
improvements. Alabama statutes authorizing the issuance of such
interest-bearing warrants do not require an election prior to issuance. On the
other hand,
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the Constitution of Alabama (Section 222) provides that general obligation bonds
may not be issued without an election.
The Supreme Court of Alabama has held that general obligation warrants do not
require an election under Section 222 of the Constitution of Alabama. In so
holding, the Court found that warrants are not "bonds" within the meaning of
Section 222. According to the Court, warrants are not negotiable instruments
and transferees of warrants cannot be holders in due course. Therefore, a
transferee of warrants is subject to all defenses that the issuer of such
warrants may have against the transferor.
Allocation of Local Taxes for Public Education. Under Alabama law, a city
with a population in excess of 5,000 is entitled to establish a separate public
school system within its jurisdiction with its own board of education, members
of which are elected by the governing body of such city. If a city school
system is established within a county, the county-wide taxes for general
educational purposes will, absent specific law to the contrary, be apportioned
among the county board of education and each city board of education within the
county according to a statutory formula based on the state's uniform minimum
educational program for public school systems. This formula has many factors,
but is based largely on the relative number of students within the boundaries of
each school system.
Local boards of education, whether city board or county board, may borrow
money by issuing interest-bearing warrants payable solely out of such board's
allocated or apportioned share of a specified tax. The county board's
apportioned share of such tax may be diminished upon the establishment of a city
school system, which could jeopardize the payment of the county board's
warrants.
Limited Taxing Authority. Political subdivisions of the State have limited
taxing authority. Ad valorem taxes may be levied only as authorized by the
Alabama Constitution. In order to increase the rate at which any ad valorem tax
is levied above the limit otherwise provided in the Constitution, the increase
must be proposed by the governing body of the taxing authority after a public
hearing, approved by an act of the Alabama Legislature and approved at an
election within the taxing authority's jurisdiction. In addition, the Alabama
Constitution limits the total amount of state, county, municipal and other ad
valorem taxes that may be imposed on any class of property in any one tax year.
This limitation is expressed in terms of a specified percentage of the market
value of such property. In some jurisdictions in the State this limit has
already been exceeded for one or more classes of property.
Specific authorizing legislation is required for the levy of taxes by local
governments. In addition, the rate at which such taxes are levied may be
limited by the authorizing legislation or judicial precedent. For example, the
Alabama Supreme Court has held that sales and use taxes, which usually comprise
a significant portion of the revenues for local governments, may not be levied
at rates that are confiscatory or unreasonable. The total sales tax (state and
local) in some jurisdictions is 9%.
Dependence on Certain Taxes. State and local governments in Alabama are more
dependent on general and special sales taxes and user fees than are state and
local governments in many states, and less dependent on property taxes. Because
sales taxes and user fees are less stable sources of revenue than are property
taxes, state and local governments in Alabama may be subject to shortfalls in
revenue due to economic cycles. Such revenue shortfalls could have a materially
adverse effect on Alabama debt obligations in the Alabama Trust.
Priority for Essential Governmental Functions. Numerous decisions of the
Alabama Supreme Court hold that a governmental unit may first use its taxes and
other revenues to pay the expenses of providing necessary governmental services
before paying debt service on its bonds, warrants or other indebtedness.
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THE ARIZONA TRUST
RISK FACTORS--The State Economy. The Arizona economy during the last few
years has been described as one of subdued growth, but in 1994 portions of the
economy rebounded due in part to a strong single family home market, new
business incorporation, and tourism spending. Sales of new, single-family homes
in Maricopa County reached a several-year high in 1994, and permits for new home
construction increased by 23% from 1992 to 1993 and 17% from 1993 to 1994. More
than 26,600 single-family residential building permits were issued in Maricopa
County during 1994--the highest level of residential construction since 1978.
This improvement, however, was not felt in all sectors of the local economy.
The single-family sector remains strong, but activity in the first quarter of
1995 was well below 1994 levels. Housing permits for the first three months of
1995 are down 8.7% from last year.
In the aftermath of the savings and loan crisis, which hit Arizona hard
beginning in the late 1980's, the RTC sold approximately $23.6 billion in
Arizona assets as of December 31, 1994, with $1.16 billion in assets, mostly
real-estate secured loans and real property, still to be sold as of that date.
The RTC's Phoenix office closed on January 29, 1993, with management of the
remaining assets shifting to the RTC's Denver office.
The trend in the Arizona banking community for the past several years has
been one of consolidation. In the early 1980's, 56 banks operated in Arizona; as
of June 1995 there were only 27. In May of 1994, Bank One Arizona purchased the
Great American Federal Savings Association, a San Diego-based thrift. On August
2, 1993, federal regulators approved the sale of Citibank Arizona's 59 banking
locations to Norwest Corp.Banc One, the Ohio-based bank, acquired Valley
National Bank of Arizona in March of 1993. Bank of America, which purchased the
assets of MeraBank, Western Savings and Pima Savings, all former savings and
loans under the control of the RTC, merged with Security Pacific, which had
already purchased the assets of Security Savings, another defunct savings and
loan. In a separate transaction, Bank of America purchased Caliber Bank. Under
an agreement with the United States Justice Department which allowed the Bank of
America-Security Pacific merger, Bank of America had to sell 49 of its branches
to keep from tying up the Arizona market. As a result, Bank of America
transferred approximately thirty branches to Caliber Bank, which it held as a
subsidiary, and then sold Caliber Bank to Independent Bankcorp of Arizona, an
independent bank holding company, in early 1993. In October 1994, Norwest
acquired Bank of Scottsdale. In February 1995, Caliber Bank was acquired by
Norwest Corp. As financial institutions within the state consolidate, many
branch offices have been closed, displacing workers. Although more acquisitions
are expected, the pace is expected to slow because there are so few remaining
banks that have expressed a desire to consolidate.
America West Airlines, a Phoenix-based carrier, emerged from Chapter 11
reorganization on August 25, 1994. Prior to the reorganization, America West
was the sixth largest employer in Maricopa County, employing approximately
10,000 of its 15,000 employees within the county. Currently, America West has
approximately 10,900 employees, with over 6,000 of those employed in Maricopa
County. America West now serves 43 domestic and 4 international destinations
with 91 aircraft.
After a turbulent 1992, America West's financial picture improved in 1993 and
continued to improve in 1994. The airline lost approximately $131.8 million in
1992. However, the airline posted a profit of $37.2 million in 1993 and a $62.2
million profit in 1994. The 1994 result was the airline's best financial result
in its 11 years of existence. Results for the second quarter of 1995 again set
records -- both net and operating income for the quarter were the highest in the
company's history. The effect of America West's short-term recovery on the
state economy and, more particularly, the Phoenix economy, is uncertain.
More than 1,700 jobs were lost by the closing of Williams Air Force Base in
Chandler, Arizona, on September 30, 1993 when Williams Air Force Base was
selected as one of the military installations to be closed as a cost-cutting
measure by the Defense Base Closure and Realignment Commission, whose
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recommendations were subsequently approved by the President and the United
States House of Representatives. Williams Air Force Base injected an estimated
$300 million in the local economy annually and employed approximately 3,800
military and civilian personnel. The base has been renamed the Williams Gateway
Airport, and has been converted into a regional civilian airport, including an
aviation, educational and business complex which is now recruiting for
aerospace-industry tenants.
Of the state's 10 largest corporate employers, nine reduced their Arizona-
based staffs in 1994. Only one of the ten largest employers has announced plans
to further reduce employment in 1995. American Express Co. is continuing its
restructuring announced in 1994 in which 2,000 Arizona jobs would be cut over
two years. McDonnell Douglas Helicopter Systems has cut 2,000 Arizona jobs over
the past three years. Honeywell Inc. decreased its Arizona work force from
8,200 to less than 6,900 by the end of 1994.
Job growth in Arizona, defined as growth of total wage and salary employment,
was consistently in the range of 2.1% to 2.5% for the years 1988 through 1990,
declined to 0.6% in 1991, then increased to 1.7% in 1992, 3.6% in 1993, and 5.9%
in 1994. Increases in construction employment for 1993 and 1994 were 11.2% and
19.7%, respectively. Total wage and salary employment for the first half of
1995 grew by 5.3% over the first half of 1994. Job growth is currently forecast
at 5.8% for 1995.
The unemployment rate in Arizona was 5.3% in 1990, which was similar to the
national rate of 5.4%. Arizona's unemployment rate in 1991 was 5.6%, compared
to a national rate of 6.7%. Arizona's unemployment rate in 1992 increased to
7.4%, matching the national rate. The Arizona unemployment rate decreased in
1993, to 6.2%, compared with the national figure of 6.8%. In December 1994,
Arizona's unemployment rate was 5.9%, compared to 5.4% nationally. In April
1995, Arizona's unemployment rate was 5.4%, compared with 5.8% nationally.
Current personal income in Arizona has continued to rise, but at slower rates
than in the early to mid-1980's. Personal income grew at a rate of 5.8% in 1990
and dropped to 4.6% in 1991. Growth in personal income increased to 6.7% in
1992, 6.3% in 1993, 8.5% in 1994 and is expected to increase at a rate of 8.2%
in 1995.
Bankruptcy filings in the District of Arizona increased dramatically in the
mid-1980's, but percentage increases have decreased over the last several years,
with 1993 resulting in the first drop in bankruptcy filings since 1984.
Bankruptcy filings totalled 15,066 in 1994, 17,381 in 1993, 19,883 in 1992,
19,686 in 1991, and 18,258 in 1990.
The inflation rate, as measured by the consumer price index in the Phoenix,
Arizona area, including all of Maricopa County, has hovered around the national
average for the last several years, increasing from 4.1% in 1988 to 5.6% in
1990. The inflation rate decreased to 2.8% in 1991, compared to 4.2% on a
national level, and decreased slightly to 2.7% in 1992, compared to a national
rate of 3.0%. The inflation rate was 4.5% in 1993. In 1994, the Phoenix
metropolitan area inflation rate at 4.1% was higher than the national rate of
2.7%.
The population of Arizona has grown consistently at a rate between 2.2% and
2.4% annually during the years 1988 through 1993, increased slightly to 2.6% in
1994, and is expected to be 2.9% in 1995. Although significantly greater than
the national average population growth, it is lower than Arizona's population
growth in the mid-1980's. The 1990 census results indicate that the population
of Arizona rose 35% between 1980 and 1990, a rate exceeded only in Nevada and
Alaska. Nearly 950,000 residents were added during this period.
The State Budget, Revenues and Expenditures. The state operates on a fiscal
year beginning July 1 and ending June 30. Fiscal year 1996 refers to the year
ending June 30, 1996.
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Total General Fund revenues of $4.359 billion are expected during fiscal year
1996. Approximately 47% of this expected revenue comes from sales and use
taxes, 35% from income taxes (both individual and corporate) and 4% from
property taxes. In addition to taxes, revenue includes non-tax items such as
income from the state lottery, licenses, fees and permits, and interest.
For fiscal year 1996, General Fund expenditures of $4.466 billion are
expected. Approximately 39.8% of major General Fund appropriations are for the
Department of Education for K-12, 15.9% is for higher education, 10.7% is for
the administration of the AHCCCS program (the State's alternative to Medicaid),
8.8% is for the Department of Economic Security, and 8.7% is for the Department
of Corrections. The estimated expenditures for fiscal year 1995 totalled
approximately $4.472 billion.
Most or all of the Debt Obligations of the Arizona Trust are not obligations
of the State of Arizona, and are not supported by the State's taxing powers.
The particular source of payment and security for each of the Debt Obligations
is detailed in the instruments themselves and in related offering materials.
There can be no assurances, however, with respect to whether the market value or
marketability of any of the Debt Obligations issued by an entity other than the
State of Arizona will be affected by the financial or other condition of the
State or of any entity located within the State. In addition, it should be
noted that the State of Arizona, as well as counties, municipalities, political
subdivisions and other public authorities of the state, are subject to
limitations imposed by Arizona's constitution with respect to ad valorem
taxation, bonded indebtedness and other matters. For example, the state
legislature cannot appropriate revenues in excess of 7% of the total personal
income of the state in any fiscal year. These limitations may affect the
ability of the issuers to generate revenues to satisfy their debt obligations.
School Finance. In 1991, the State of Arizona was sued by four school
districts within the state, claiming that the state's funding system for school
buildings, equipment and other capital expenses is unconstitutional. The
lawsuit was filed by the Arizona Center for Law in the Public Interest and
Southern Arizona Legal Aid Inc., but fifty other school districts helped finance
the lawsuit. A state judge rejected the lawsuit in September of 1992, and the
school districts appealed. In July of 1994, the Supreme Court of Arizona
reversed the lower court ruling and found that the formulas for funding public
schools in Arizona cause "gross disparities" among school districts and
therefore violate the Arizona Constitution. The lawsuit did not seek damages.
It is unclear, at this time, what effect the judgment will have on state
finances or school district budgets.
Health Care Facilities. Arizona does not participate in the federally
administered Medicaid program. Instead, the state administers an alternative
program, the Arizona Health Care Cost Containment System ("AHCCCS"), which
provides health care to indigent persons meeting certain financial eligibility
requirements, through managed care programs. In fiscal year 1995, AHCCCS is
financed by a combination of federal, state and county funds.
Under state law, hospitals retain the authority to raise rates with
notification and review by, but not approval from, the Department of Health
Services. Hospitals in Arizona have experienced profitability problems along
with those in other states. During the first half of 1994, nearly half of
Arizona's 101 hospitals filed for rate increases. The average increase was
approximately 8.5%.
Health care firms have been in the process of consolidating. Eli Lilly and
Co. bought prescription- benefits manager PCS Health Systems, Inc. of Scottsdale
for $4 billion - the highest price ever paid for an Arizona company - in
November 1994. Two other large Arizona health-care organizations were purchased
in 1994. Intergroup Healthcare Corp. of Tucson was purchased by
California-based Foundation Health Corp. for about $720 million in stock, and
St. Luke's Health System was bought by OrNda HealthCorp. for $122 million.
Continuing consolidation and merger activity in the health care industry is
expected.
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Utilities. Arizona's utilities are subject to regulation by the Arizona
Corporation Commission. This regulation extends to, among other things, the
issuance of certain debt obligations by regulated utilities and periodic rate
increases needed by utilities to cover operating costs and debt service. The
inability of any regulated public utility to secure necessary rate increases
could adversely affect the utility's ability to pay debt service.
Arizona's largest regulated utility, Arizona Public Service Company ("APS"),
serves all or part of 11 of Arizona's 15 counties. APS is a significant part
owner of Arizona's nuclear generator, the Palo Verde Nuclear Generating Station.
APS is owned by Pinnacle West Capital Corporation ("Pinnacle West"). APS and
Pacificorp, an Oregon utility, entered into a standstill agreement under which
Pacificorp agreed not to attempt a takeover of APS or Pinnacle West through
early 1995. Earlier offers by Pacificorp to purchase Pinnacle West had been
rejected. The agreement also provides for a seasonal swap of power, allowing
Pacificorp to purchase electricity from APS during the winter in exchange for
selling electricity to APS in the summer. In May 1994 APS entered into a rate
agreement with the Arizona Corporation Commission which decreased its electric
rate by an average of 2.2%. Under the agreement, neither APS nor the Arizona
Corporation Commission can propose new rates until December 31, 1996. Pinnacle
West, APS's parent company, had 1994 earnings of $173.8 million, compared with
$170 million in 1993. The company announced that it expects 1995 to be a
difficult year in comparison to 1994 due to expected reductions in non-cash
income in 1995 and 1994's hot summer, which bolstered 1994 earnings. Pinnacle
West decreased its work force by 475 this past year, and currently employs
approximately 7,400.
The Salt River Project Agricultural Improvement and Power District ("SRP") is
an agricultural improvement district organized under state law. For this
reason, SRP is not subject to regulation by the Arizona Corporation Commission.
SRP, the nation's third largest public power utility, provides electric service
to approximately 596,000 customers (consumer, commercial and industrial) within
a 2,900 square mile area in parts of Maricopa, Gila and Pinal Counties in
Arizona.
Under Arizona law, SRP's board of directors has the exclusive authority to
establish rates for electricity. SRP must follow certain procedures, including
certain public notice requirements and a special board of directors meeting,
before implementing any changes in standard electric rates. SRP instituted an
average rate increase of 2.9% in January of 1992 (the actual increases ranged
from 2.4% to 3.4%, depending on the class of customer).
SRP reported a 30% increase in its net income for the fiscal year ended April
30, 1994, representing its highest net income in seven years. The previous two
fiscal years, which were also profitable, followed two consecutive years of
losses. In July 1993, SRP renegotiated two key coal contracts, announcing that
it expected the new contracts to cut its production costs by $40 million over
the next five years. SRP has indicated that due to increased earnings and
savings it has cancelled a planned 1994 rate increase, will seek to avoid
another increase until 1999, and is currently considering the possibility of a
rate cut. SRP has laid off about 3,600 employees over the last seven years.
SRP has announced that it does not expect any growth in its work force through
1996.
THE CALIFORNIA TRUST
The following information constitutes only a brief summary, does not purport
to be a complete description, and is based on information drawn from official
statements and prospectuses relating to securities offerings of the State of
California and various local agencies in California, available as of the date of
this Prospectus. While the Sponsors have not independently verified such
information, they have no reason to believe that such information is not correct
in all material respects.
RISK FACTORS--Economic Factors. The Governor's 1993-1994 Budget, introduced
on January 8, 1993, proposed general fund expenditures of $37.3 billion, with
projected revenues of $39.9 billion. To
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balance the budget in the face of declining revenues, the Governor proposed a
series of revenue shifts from local government, reliance on increased federal
aid, and reductions in state spending.
The Department of Finance of the State of California's May Revision of
General Fund Revenues and Expenditures (the "May Revision"), released on May 20,
1993, projected the State would have an accumulated deficit of about $2.75
billion by June 30, 1993, essentially unchanged from the prior year. The
Governor proposed to eliminate this deficit over an 18-month period. Unlike
previous years, the Governor's Budget and May Revision did not calculate a "gap"
to be closed, but rather set forth revenue and expenditure forecasts and
proposals designed to produce a balanced budget.
The 1993-1994 budget act (the "1993-94 Budget Act") was signed by the
Governor on June 30, 1993, along with implementing legislation. The Governor
vetoed about $71 million in spending.
The 1993-94 Budget Act was predicated on general fund revenues and transfers
estimated at $40.6 billion, $400 million below 1992-93 (and the second
consecutive year of actual decline). The principal reasons for declining revenue
were the continued weak economy and the expiration (or repeal) of three fiscal
steps taken in 1991--a half cent temporary sales tax, a deferral of operating
loss carryforwards, and repeal by initiative of a sales tax on candy and snack
foods.
The 1993-94 Budget Act also assumed special fund revenues of $11.9 billion,
an increase of 2.9 percent over 1992-93.
The 1993-94 Budget Act included general fund expenditures of $38.5 billion (a
6.3 percent reduction from projected 1992-93 expenditures of $41.1 billion), in
order to keep a balanced budget within the available revenues. The 1993-94
Budget Act also included special fund expenditures of $12.1 billion, a 4.2
percent increase. The 1993-94 Budget Act reflected the following major
adjustments:
1. Changes in local government financing to shift about $2.6 billion in
property taxes from cities, counties, special districts and redevelopment
agencies to school and community college districts, thereby reducing general
fund support by an equal amount. About $2.5 billion is permanent, reflecting
termination of the State's "bailout" of local governments following the property
tax cuts of Proposition 13 in 1978 (See "Constitutional, Legislative and Other
Factors" below).
The property tax revenue losses for cities and counties were offset in part
by additional sales tax revenues and mandate relief.
2. The 1993-94 Budget Act projected K-12 Proposition 98 funding on a cash
basis at the same per-pupil level as 1992-93 by providing schools a $609 million
loan payable from future years' Proposition 98 funds.
3. The 1993-94 Budget Act assumed receipt of about $692 million of aid to
the State from the federal government to offset health and welfare costs
associated with foreign immigrants living in the State, which would reduce a
like amount of General Fund expenditures. About $411 million of this amount was
one-time funding. Congress ultimately appropriated only $450 million.
4. Reductions of $600 million in health and welfare programs and $400
million in support for higher education (partly offset by fee increases at all
three units of higher education) and various miscellaneous cuts (totalling
approximately $150 million) in State government services in many agencies, up to
15 percent.
5. A 2-year suspension of the renters' tax credit ($390 million expenditure
reduction in 1993-94).
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6. Miscellaneous one-time items, including deferral of payment to the Public
Employees Retirement Fund ($339 million) and a change in accounting for debt
service from accrual to cash basis, saving $107 million.
The 1993-94 Budget Act contained no general fund tax/revenue increases other
than a two year suspension of the renters' tax credit. The 1993-94 Budget Act
suspended the 4 percent automatic budget reduction "trigger", as was done in
1992-93, so cuts could be focused.
Administration reports during the course of the 1993-94 Fiscal Year indicated
that while economic recovery appeared to have started in the second half of the
fiscal year, recessionary conditions continued longer than had been anticipated
when the 1993-94 Budget Act was adopted. Overall, revenues for the 1993-94
Fiscal Year were about $800 million lower than original projections, and
expenditures were about $780 million higher, primarily because of higher health
and welfare caseloads, lower property taxes which required greater State support
for K-14 education to make up the shortfall, and lower than anticipated federal
government payments for immigration-related costs. The reports in May and June,
1994, indicated that revenues in the second half of the 1993-94 Fiscal Year have
been very close to the projections made in the Governor's Budget of January 10,
1994, which is consistent with a slow turnaround in the economy.
The Department of Finance's July 1994 Bulletin, including the final June
receipts, reported that June revenues were $114 million (2.5 percent) above
projection, with final end-of-year results at $377 million (about 1 percent)
above the May Revision projections. Part of this result was due to end-of-year
adjustments and reconciliations. Personal income tax and sales tax continued to
track projections very well. The largest factor in the higher than anticipated
revenues was from bank and corporation taxes, which were $140 million (18.4
percent) above projection in June. While the higher June receipts are reflected
in the actual 1993-94 Fiscal Year cash flow results, and help the starting cash
balance for the 1994-95 Fiscal Year, the Department of Finance has not adjusted
any of its revenue projections for the 1994-95 or 1995-96 Fiscal Years.
During the 1993-94 Fiscal Year, the State implemented the deficit retirement
plan, which was part of the 1993-94 Budget Act, by issuing $1.2 billion of
revenue anticipation warrants in February 1994 maturing December 21, 1994. This
borrowing reduced the cash deficit at the end of the 1993-94 Fiscal Year.
Nevertheless, because of the $1.5 billion variance from the original 1993-94
Budget Act assumptions, the General Fund ended the fiscal year at June 30, 1994
carrying forward an accumulated deficit of approximately $2 billion.
Because of the revenue shortfall and the State's reduced internal borrowable
cash resources, in addition to the $1.2 billion of revenue anticipation warrants
issued as part of the deficit retirement plan, the State issued an additional
$2.0 billion of revenue anticipation warrants, maturing July 26, 1994, which
were needed to fund the State's obligations and expenses through the end of the
1993-94 Fiscal Year.
On January 17, 1994, a major earthquake measuring an estimated 6.8 on the
Richter Scale struck Los Angeles. Significant property damage to private and
public facilities occurred in a four-county area including northern Los Angeles
County, Ventura County, and parts of Orange and San Bernardino Counties, which
were declared as State and federal disaster areas by January 18. Current
estimates of total property damage (private and public) are in the range of $20
billion, but these estimates are still subject to change.
Despite such damage, on the whole, the vast majority of structures in the
areas, including large manufacturing and commercial buildings and all modern
high-rise offices, survived the earthquake with minimal or no damage, validating
the cumulative effect of strict building codes and thorough preparation for such
an emergency by the State and local agencies.
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Damage to state-owned facilities included transportation corridors and
facilities such as Interstate Highways 5 and 10 and State Highways 14, 118 and
210. Major highways have now been reopened. The campus of California State
University at Northridge (very near the epicenter) suffered an estimated $350
million damage, resulting in temporary closure of the campus. It has reopened
using borrowed facilities elsewhere in the area and many temporary structures.
There was also some damage to the University of California at Los Angeles and to
an office building in Van Nuys (now open after a temporary closure). Overall,
except for the temporary road and bridge closures, and CSU-Northridge, the
earthquake did not and is not expected to significantly affect State government
operations.
The State in conjunction with the federal government is committed to
providing assistance to local governments, individuals and businesses suffering
damage as a result of the earthquake, as well as to provide for the repair and
replacement of State-owned facilities. The federal government has provided
substantial earthquake assistance.
The President immediately allocated some available disaster funds, and
Congress has approved additional funds for a total of at least $9.5 billion of
federal funds for earthquake relief, including assistance to homeowners and
small businesses, and costs for repair of damaged public facilities. The
Governor originally proposed that the State will have to pay about $1.9 billion
for earthquake relief costs, including a 10 percent match to some of the federal
funds, and costs for some programs not covered by the federal aid. The Governor
proposed to cover $1.05 billion of these costs from a general obligation bond
issue which was on the June 1994 ballot, but it was not approved by the voters.
The Governor subsequently announced that the State's share for transportation
projects would come from existing Department of Transportation funds (thereby
delaying other, non-earthquake related projects), that the State's share for
certain other costs (including local school building repairs) would come from
reallocating existing bond funds, and that a proposed program for homeowner and
small business aid supplemental to federal aid would have to be abandoned. Some
other costs will be borrowed from the federal government in a manner similar to
that used by the State of Florida after Hurricane Andrew; pursuant to Senate
Bill 2383, repayment will have to be addressed in 1995-96 or beyond. The 1995-
96 Governor's Budget includes $60 million as the first repayment of an estimated
$121.4 million in loans prior to June 30, 1995.
The 1994-95 Fiscal Year represents the fourth consecutive year the Governor
and Legislature were faced with a very difficult budget environment to produce a
balanced budget. Many program cuts and budgetary adjustments have already been
made in the last three years. The Governor's Budget proposal, as updated in May
and June, 1994, recognized that the accumulated deficit could not be repaid in
one year, and proposed a two-year solution. The budget proposal sets forth
revenue and expenditure forecasts and revenue and expenditure proposals which
result in operating surpluses for the budget for both 1994-95 and 1995-96, and
lead to the elimination of the accumulated budget deficit, estimated at about
$1.8 billion at June 30, 1994, by June 30, 1996.
The 1994-95 Budget Act, signed by the Governor on July 8, 1994, projects
revenues and transfers of $41.9 billion, $2.1 billion higher than revenues in
1993-94. This reflects the Administration's forecast of an improving economy.
Also included in this figure is a projected receipt of about $360 million from
the Federal Government to reimburse the State's cost of incarcerating
undocumented immigrants. The State will not know how much the Federal
Government will actually provide until the Federal FY 1995 Budget is completed.
Completion of the Federal Budget is expected by October 1994. The Legislature
took no action on a proposal in the January 1994-95 Governor's Budget to
undertake an expansion of the transfer of certain programs to counties, which
would also have transferred to counties 0.5% of the State's current sales tax.
The 1994-95 Budget Act projects Special Fund revenues of $12.1 billion, a
decrease of 2.4% from 1993-94 estimated revenues.
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The 1994-95 Budget Act projects General Fund expenditures of $40.9 billion,
an increase of $1.6 billion over 1993-94. The 1994-95 Budget Act also projects
Special Fund expenditures of $12.3 billion, a 4.7% decrease from 1993-94
estimated expenditures. The principal features of the 1994-95 Budget Act were
the following:
1. Receipt of additional federal aid in 1994-95 of about $400 million for
costs of refugee assistance and medical care for undocumented immigrants,
thereby offsetting a similar General Fund cost. These funds ultimately were not
budgeted by the Federal Government.
2. Reductions of approximately $1.1 billion in health and welfare costs. A
2.3% reduction in Aid to Family with Dependent Children payments (equal to about
$56 million for the entire fiscal year) has been temporarily suspended by court
order.
3. A General Fund increase of approximately $38 million in support for the
University of California and $65 million for California State University. It is
anticipated that student fees for both the University of California and the
California State University will increase up to 10%.
4. Proposition 98 funding for K-14 schools is increased by $526 million from
1993-94 levels, representing an increase for enrollment growth and inflation.
Consistent with previous budget agreements, Proposition 98 funding provides
approximately $4,217 per student for K-12 schools, equal to the level in the
past three years.
5. Legislation enacted with the Budget clarifies laws passed in 1992 and
1993 which require counties and other local agencies to transfer funds to local
school districts, thereby reducing State aid. Some counties had implemented a
method of making such transfers which provided less money for schools if there
were redevelopment agency projects. The new legislation bans this method of
transfer. If all counties had implemented this method, General Fund aid to K-12
schools would have been $300 million higher in each of the 1994-95 and 1995-96
Fiscal Years.
6. The 1994-95 Budget Act provides funding for anticipated growth in the
State's prison inmate population, including provisions for implementing recent
legislation (the so-called "Three Strikes" law) which requires mandatory life
prison terms for certain third-time felony offenders.
7. Additional miscellaneous cuts ($500 million) and fund transfers ($255
million) totalling in the aggregate approximately $755 million.
The 1994-95 Budget Act contained no tax increases. Under legislation enacted
for the 1993-94 Budget, the renters' tax credit was suspended for two years
(1993 and 1994). A ballot proposition to permanently restore the renters' tax
credit after this year failed at the June, 1994 election. The Legislature
enacted a further one-year suspension of the renters' tax credit, for 1995,
saving about $390 million in the 1995-96 Fiscal Year.
The 1994-95 Budget assumed that the State would use a cash flow borrowing
program in 1994-95 which combined one-year notes and two-year warrants, which
have now been issued. Issuance of warrants allows the State to defer repayment
of approximately $1.0 billion of its accumulated budget deficit into the 1995-96
Fiscal Year.
The State's cash flow management plan for the 1994-95 fiscal year included
the issuance of $4.0 billion of revenue anticipation warrants on July 26, 1994,
to mature on April 25, 1996, as part of a two-year plan to retire the
accumulated State budget deficit.
Because preparation of cash flow estimates for the 1995-96 Fiscal Year
necessarily entails greater risks of variance from assumptions, and because the
Governor's two-year budget plan assumes receipt of
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a large amount of federal aid in the 1995-96 Fiscal Year for immigration-related
costs which is uncertain, the Legislature enacted a backup budget adjustment
mechanism to mitigate possible deviations from projected revenues, expenditures
or internal borrowable resources which might reduce available cash resources
during the two-year plan, so as to assure repayment of the warrants.
Pursuant to Section 12467 of the California Government Code, enacted by
Chapter 135, Statutes of 1994 (the "Budget Adjustment Law"), the State
Controller was required to make a report by November 15, 1994 on whether the
projected cash resources for the General Fund as of June 30, 1995 will decrease
more than $430 million from the amount projected by the State in its Official
Statement in July, 1994 for the sale of $4,000,000,000 of Revenue Anticipation
Warrants. On November 15, 1994, the State Controller issued the report on the
State's cash position required by the Budget Adjustment Law. The report
indicated that the cash position of the General Fund on June 30, 1995 would be
$581 million better than was estimated in the July, 1994 cash flow projections
and therefore, no budget adjustment procedures would be invoked for the 1994-95
Fiscal Year. As explained earlier, the Law would only be implemented if the
State Controller estimated that borrowable resources on June 30, 1995 would be
at least $430 million lower than projected.
The State Controller's report identified a number of factors which have led
to the improved cash position of the State. Estimated revenues and transfers
for the 1994-95 Fiscal Year other than federal reimbursement for immigration
costs were up about $650 million. The largest portion of this was in higher
bank and corporation tax receipts, but all major tax sources were above original
projections. However, most of the federal immigration aid revenues projected in
connection with the 1994-95 Budget Act and in the July, 1994 cash flows will not
be received, as indicated above, leaving a net increase in revenues of $322
million.
On the expenditure side, the State Controller reported that estimated reduced
caseload growth in health and welfare programs, reduced school enrollment
growth, and an accounting adjustment reducing a transfer from the General Fund
to the Special Fund for Economic Uncertainties resulted in overall General Fund
expenditure reductions (again before adjusting for federal aid) of $672 million.
However, the July, 1994 cash flows projected that General Fund health and
welfare and education expenditures would be offset by the anticipated receipt of
$407 million in federal aid for illegal immigrant costs. The State Controller
now estimates that none of these funds will be received, so the net reduction in
General Fund expenditures is $265 million.
Finally, the State Controller indicated that a review of balances in special
funds available for internal borrowing resulted in an estimated reduction of
such borrowable resources of $6 million. The combination of these factors
results in the estimated improvement of the General Fund's cash position of $581
million. The State Controller's revised cash flow projections for 1994-95 have
allocated this improvement to two line items: an increase from $0 to $427
million in the estimated ending cash balance of the General Fund on June 30,
1995, and an increase in unused borrowable resources of $154 million.
The State Controller's report indicated that there was no anticipated cash
impact in the 1994-95 Fiscal Year for recent initiatives on "three strikes"
criminal penalties and illegal immigration which were approved by voters on
November 8, 1994. At a hearing before a committee of the Legislature on
November 15, 1994, both the Legislative Analyst and the Department of Finance
concurred in the reasonableness of the State Controller's report. (The
Legislative Analyst had issued a preliminary analysis on November 1, 1994 which
reached a conclusion very close to that of the State Controller.) The State
Controller's report makes no projections about whether the Law may have to be
implemented in 1995-96. However, both the State Controller and the Legislative
Analyst in the November 15 hearing noted that the July, 1994 cash flows for the
1995-96 Fiscal Year place continued reliance on large amounts of federal
assistance for immigration costs, which did not materialize this year,
indicating significant budget pressures for next year. The Department of
Finance indicated that the budgetary issues identified in the hearing
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would be addressed in the Governor's Budget proposal for the 1995-96 Fiscal
Year, which will be released in early January, 1995.
The 1995-96 Governor's Budget, discussed below, contains a reforecast of
revenues and expenditures for the 1994-95 Fiscal Year. The Department of Finance
Bulletins for February and March 1995 report that combined General Fund revenues
for February, 1995 were about $356 million below forecast, but combined revenues
for January and February were only about $82 million (or 0.3 percent) below the
1995-96 Governor's Budget forecast. The largest component of the decrease is
attributable to personal income tax receipts, which were about $131 million (or
1.1 percent) below the two months' forecast. This decrease in personal income
tax receipts appears to be largely attributable to fourth quarter 1994 activity,
probably in the anticipation of tax reform, with some taxpayers shifting income
into 1995 to the extent possible. The withholding component comprised $77
million of this shortfall, but the Department of Finance does not yet view this
as significant. Additionally, sales and use tax receipts were very close to
forecast for the two-month period, while bank and corporation tax receipts were
about $42 million (or 1.5 percent) below the two months' forecast. Miscellaneous
revenues were about $117 million (or 6.2 percent) above forecast for the two
months, but the Department of Finance is not yet able to determine whether this
gain is real, or is instead attributable to cash flow factors.
Initial analysis of the federal Fiscal Year 1995 budget by the Department of
Finance indicates that about $98 million was appropriated for California to
offset costs of incarceration of undocumented and refugee immigrants, less than
the $356 million which was assumed in the State's 1994-95 Budget Act. Because of
timing consideration sin applying for these federal funds, the Department
estimates that about $33 million of these funds will be received during the
State's 1994-95 Fiscal Year, with the balance received in the following fiscal
year. It does not appear that the federal budget contains any of the additional
$400 million in funding for refugee assistance and health costs which were also
assumed in the 1994-95 Budget Act, but the Department expects the State to
continue its efforts to obtain some or all of these federal funds.
On January 10, 1995, the Governor presented his 1995-96 Fiscal Year Budget
Proposal (the "Proposed Budget"). The Proposed Budget estimates General Fund
revenues and transfers of $42.5 billion (an increase of 0.2 percent over 1994-
95). This nominal increase from the 1994-95 Fiscal Year reflects the Governor's
realignment proposal and the first year of his tax cut proposal (see principal
features of the Proposed Budget below for further discussions). Without these
two proposals, General Fund revenues would be projected at approximately $43.8
billion, or an increase of 3.3 percent over 1994-95. Expenditures are estimated
at $41.7 billion (essentially unchanged from 1994-95). Special Fund revenues are
estimated at $13.5 billion (10.7 percent higher than 1994-95) and Special Fund
expenditures are estimated at $13.8 billion (12.2 percent higher than 1994-95).
The Proposed Budget projects that the General Fund will end the fiscal year at
June 30, 1996 with a budget surplus in the Special Fund for Economic
Uncertainties of about $92 million, or less than 1 percent of General Fund
expenditures, and will have repaid all of the accumulated budget deficits.
The following are the principal features of the Proposed Budget:
1. A proposed 15 percent cut in personal income and corporate tax
rates, which would be phased in at 5 percent per year starting in 1996.
Existing personal income tax rates, which are scheduled to drop from an 11
percent top rate to 9.3 percent in 1996, would be continued during the time
the overall tax cut takes effect. This proposal would reduce General Fund
revenues by $225 million in 1995-96, but the revenue reduction would reach
$3.6 billion by 1998-99.
2. An expansion of the realignment program between the State and
counties, so that counties will take on greater responsibility for welfare
and social services, while the State will take on increased funding of trial
court costs. The proposal includes transfer of about $1 billion of State
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revenues, from sales taxes and trial court funding moneys, to counties. The
net effect of the shifts, however, is estimated to save the General Fund
about $240 million.
3. Further cuts in health and welfare costs totaling about $1.4
billion. Some of these cuts would require federal legislative approval.
4. Proposition 98 funding for schools and community colleges will
increase by about $1.2 billion, reflecting strong General Fund revenue
growth. Per-pupil expenditures are projected to increase by $61 to $4,292.
For the first time in several years, a cost-of-living increase (2.2 percent)
is added to the enrollment growth factor. The Governor proposes to set aside
about $514 million of the Proposition 98 funding increase to repay prior
years' loans from the General Fund to schools. As the legality of these loans
is currently being challenged in a lawsuit, the Governor proposes to set the
amount aside in escrow until the litigation is resolved.
5. Increases in funding for the University of California ($63 million
General Fund) and the California State University system ($3 million General
Fund). The Governor has proposed a four-year funding "company" for the higher
education units which includes both annual increases in State funding and
increases in student fees.
6. Assumed receipt of $830 million in new federal aid for costs of
undocumented and refugee immigrants, above commitments already made by the
federal government. This amount is much less than an estimated $2.8 billion
which had been included in the Governor's pro-forma two-year plan from last
summer.
The Proposed Budget contains a cash flow projection (based on all the
assumptions described above) which shows approximately $1 billion of unused
borrowable resources at June 30, 1996, providing this amount of "cushion" before
the budget "trigger" would have to be invoked.
However, a report issued by the Legislative Analyst in February 1995 notes
that the Proposed Budget is subject to a number of major risks, including
receipt of the expected federal immigration aid and other federal actions to
allow health and welfare costs, and the outcome of several lawsuits concerning
previous budget actions which the State has lost at the trial court level, and
which are under appeal. This Analyst's Report also estimates that, despite more
favorable revenues, the two-year budget estimates made in July, 1994 are about
$2 billion out of balance, principally because federal immigration aid appears
likely to be much lower than previously estimated. This shortfall is much
smaller than the State has faced in recent years, and has been addressed in the
Governor's Budget.
The Director of Finance is required to include updated cash-flow statements
for the 1994-95 and 1995-96 Fiscal Years in the May revision to the 1995-96
Fiscal Year budget proposal. By June 1, 1995, the State Controller must concur
with these updated statements or provide a revised estimate of the cash
condition of the General Fund for the 1994-95 and the 1995-96 Fiscal Years. For
the 1995-96 Fiscal Year, Chapter 135 prohibits any external borrowing as of June
30, 1996, thereby requiring the State to rely solely on internal borrowable
resources, expenditure reductions or revenue increases to eliminate any
projected cash flow shortfall.
Commencing on October 15, 1995, the State Controller will, in conjunction
with the Legislative Analyst's Office, review the estimated cash condition of
the General Fund for the 1995-96 Fiscal Year. The "1996 cash shortfall" shall
be the amount necessary to bring the balance of unused borrowable resources on
June 30, 1996 to zero. On or before December 1, 1995, legislation must be
enacted providing for sufficient General Fund expenditure reductions, revenue
increases, or both, to offset any such 1996 cash shortfall identified by the
State Controller. If such legislation is not enacted, within five days
thereafter the Director of Finance must reduce all General Fund appropriations
for the 1995-96 Fiscal Year, except the Required Appropriations, by the
percentage equal to the ratio of the 1996 cash shortfall to total
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remaining General Fund appropriations for the 1995-96 Fiscal Year, excluding the
Required Appropriations.
On December 6, 1994, Orange County, California and its Investment Pool (the
"Pool") filed for bankruptcy under Chapter 9 of the United States Bankruptcy
Code. Approximately 187 California public entities, substantially all of which
are public agencies within the County, invested funds in the Pool. Many of the
agencies have various bonds, notes or other forms of indebtedness outstanding,
in some instances the proceeds of which were invested in the Pool. Various
investment advisors were employed by the County to restructure the Pool. Such
restructuring led to the sale of substantially all of the Pool's portfolio,
resulting in losses estimated to be approximately $1.7 billion or approximately
22% of amounts deposited by the Pool investors, including the County. It is
anticipated that such losses may result in delays or failures of the County as
well as investors in the Pool to make scheduled debt service payments. Further,
the County expects substantial budget deficits to occur in Fiscal Year 1995 with
possibly similar effects upon operations of investors in the Pool.
Investor access to monies in the Pool subsequent to the filing was pursuant
to Court order only and severely limited. On May 2, 1995, the Bankruptcy Court
approved a comprehensive settlement agreement (the "CSA") between the County and
Pool investors which, among other things, (i) established a formula for
distribution of all available cash and securities from the Pool to the Pool
investors, including the County, (ii) established formulas for distribution
among certain settling Pool investors of several tranches of new County
obligations to be payable from, and in some instances secured by, certain
designated sources of potential recoveries on Pool related claims, and (iii)
designated certain outstanding short term note obligations of the County to be
senior to or on a parity with certain of the new County obligations. By order
dated May 22, 1995, following distribution of all available cash and securities
from the Pool to the Pool investors, including the County, the Bankruptcy Court
dismissed the bankruptcy filing of the Pool based upon the Court's finding that
the Pool was not eligible for relief under Chapter 9 of the Bankruptcy Code
because it is not a municipality and it has not been specifically authorized to
file under Chapter 9 as required by the Bankruptcy Code.
Following its bankruptcy filing, the County has, with Bankruptcy Court
approval, made payments of scheduled principal and interest on its outstanding
obligations where no alternative source of payment (such as reserve funds on
deposit with indenture trustees, letters of credit, municipal bond insurance
policies or other alternative payment sources) were available. The County has
not replenished such reserve funds or reimbursed the issuers of such letters of
credit or municipal bond insurance policies. In addition, the County ceased
making set aside deposits for repayment of certain of its short term
indebtedness. The Bankruptcy Court subsequently ruled that the rights of the
holders of such short term indebtedness to require the set aside deposits from
County revenues received following the filing were cut off by operation of the
Bankruptcy Code. In addition, the County has failed to satisfy its obligation
to accept tenders of its $110,200,000 aggregate principal amount of Taxable
Pension Obligation Bonds, Series B used to finance County pension obligations.
Interest at a rate set pursuant to the bond documents has been timely paid on
such Pension Bonds. The failure to satisfy the contractual obligations
discussed above may constitute defaults under the documents governing such
securities.
To June 30, 1995 there had been no default in payment of scheduled interest
and principal (excluding the tender payment described above and the Note Debt
hereinafter described) to holders of County securities, although certain
securities are scheduled to mature at various times thereafter and the Fund is
unable to predict whether or to what extent such securities will be timely paid
by the County. On June 27, 1995, the Bankruptcy Court approved a Stipulation and
an Extension Agreement that offered to holders of certain short term note
obligations of the County ("Note Debt") who elected to be treated thereunder:
(i) extension of maturity dates to June 30, 1996; (ii) payment of monthly
interest at a rate below existing contract rates; (iii) accrual of monthly
interest equal to the difference between the amount paid and the contract rate,
plus a settlement adjustment of 0.95%; (iv) waiver of post-bankruptcy interest
recapture or disallowance; (v) waiver of defenses to repayment of the Note Debt
claims based on California
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limitations on municipal indebtedness; and (vi) allowance of the Note Debt
claims, subject to certain reserved rights. The holders of in excess of 90% of
the outstanding aggregate principal amount of all Note Debt obligations elected
such treatment on July 7, 1995. Certain of the holders did not approve the
agreement and those notes, in the amount of $2.8 million were defaulted upon by
the County on July 18, 1995.
Both Standard & Poor's and Moody's Investors Service have suspended or
downgraded ratings on various debt securities of the County and certain of the
investors in the Pool and, following the defeat of the proposition submitted to
the voters on June 27, announced their intention to downgrade the County's debt
to default status, regardless of whether the Stipulation and Extension Agreement
received approval by holders of the Note Debt. On July 18, 1995, Standard &
Poor's declared the Note Debt in default in spite of the approval of the
Stipulation and Extension Agreement. Standard & Poor's further stated that it
had no reason to believe that the County would be able to fulfill the terms of
the Stipulation and Extension Agreement on June 30, 1996. Such suspensions or
downgradings could affect both price and liquidity of the County's securities.
The Fund is unable to predict (i) the occurrence of covenant and/or payment
defaults with respect to obligations of the County and/or investors in the Pool
or (ii) the financial impact of any such defaults or credit rating suspensions
or downgradings upon the value of such securities.
Constitutional, Legislative and Other Factors. Certain California
constitutional amendments, legislative measures, executive orders,
administrative regulations and voter initiatives could result in the adverse
effects described below.
Certain Debt Obligations in the Portfolio may be obligations of issuers which
rely in whole or in part on California State revenues for payment of these
obligations. Property tax revenues and a portion of the State's general fund
surplus are distributed to countries, cities and their various taxing entities
and the State assumes certain obligations theretofore paid out of local funds.
Whether and to what extent a portion of the State's general fund will be
distributed in the future to counties, cities and their various entities, is
unclear.
In 1988, California enacted legislation providing for a water's-edge combined
reporting method if an election fee was paid and other conditions met. On
October 6, 1993, the Governor signed Senate Bill 671 (Alquist) which modified
the unitary tax law by deleting the requirements that a taxpayer electing to
determine its income on a water's-edge basis pay a fee and file a domestic
disclosure spreadsheet and instead requiring an annual information return.
Significantly, the Franchise Tax Board can no longer disregard a taxpayer's
election. The Franchise Tax Board was reported to have estimated state revenue
losses from the Legislation as growing from $27 million in 1993-94 to $616
million in 1999-2000, but others, including Assembly Speaker Willie Brown,
disagreed with that estimate and assert that more revenue will be generated for
California, rather than less, because of an anticipated increase in economic
activity and additional revenue generated by the incentives in the Legislation.
Certain of the Debt Obligations may be obligations of issuers who rely in
whole or in part on ad valorem real property taxes as a source of revenue. On
June 6, 1978, California voters approved an amendment to the California
Constitution known as Proposition 13, which added Article XIIIA to the
California Constitution. The effect of Article XIIIA is to limit ad valorem
taxes on real property and to restrict the ability of taxing entities to
increase real property tax revenues. On November 7, 1978, California voters
approved Proposition 8, and on June 3, 1986, California voters approved
Proposition 46, both of which amended Article XIIIA.
Section 1 of Article XIIIA limits the maximum ad valorem tax on real property
to 1% of full cash value (as defined in Section 2), to be collected by the
counties and apportioned according to law; provided that the 1% limitation does
not apply to ad valorem taxes or special assessments to pay the interest and
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redemption charges on (i) any indebtedness approved by the voters prior to July
1, 1978, or (ii) any bonded indebtedness for the acquisition or improvement of
real property approved on or after July 1, 1978, by two-thirds of the votes cast
by the voters voting on the proposition. Section 2 of Article XIIIA defines
"full cash value" to mean "the County Assessor's valuation of real property as
shown on the 1975/76 tax bill under "full cash value" or, thereafter, the
appraised value of real property when purchased, newly constructed, or a change
in ownership has occurred after the 1975 assessment." The full cash value may
be adjusted annually to reflect inflation at a rate not to exceed 2% per year,
or reduction in the consumer price index or comparable local data, or reduced in
the event of declining property value caused by damage, destruction or other
factors. The California State Board of Equalization has adopted regulations,
binding on county assessors, interpreting the meaning of "change in ownership"
and "new construction" for purposes of determining full cash value of property
under Article XIIIA.
Legislation enacted by the California Legislature to implement Article XIIIA
(Statutes of 1978, Chapter 292, as amended) provides that notwithstanding any
other law, local agencies may not levy any ad valorem property tax except to pay
debt service on indebtedness approved by the voters prior to July 1, 1978, and
that each county will levy the maximum tax permitted by Article XIIIA of $4.00
per $100 assessed valuation (based on the former practice of using 25%, instead
of 100%, of full cash value as the assessed value for tax purposes). The
legislation further provided that, for the 1978/79 fiscal year only, the tax
levied by each county was to be apportioned among all taxing agencies within the
county in proportion to their average share of taxes levied in certain previous
years. The apportionment of property taxes for fiscal years after 1978/79 has
been revised pursuant to Statutes of 1979, Chapter 282 which provides relief
funds from State moneys beginning in fiscal year 1979/80 and is designed to
provide a permanent system for sharing State taxes and budget funds with local
agencies. Under Chapter 282, cities and counties receive more of the remaining
property tax revenues collected under Proposition 13 instead of direct State
aid. School districts receive a correspondingly reduced amount of property
taxes, but receive compensation directly from the State and are given additional
relief. Chapter 282 does not affect the derivation of the base levy ($4.00 per
$100 assessed valuation) and the bonded debt tax rate.
On November 6, 1979, an initiative known as "Proposition 9" or the "Gann
Initiative" was approved by the California voters, which added Article XIIIB to
the California Constitution. Under Article XIIIB, State and local governmental
entities have an annual "appropriations limit" and are not allowed to spend
certain moneys called "appropriations subject to limitation" in an amount higher
than the "appropriations limit." Article XIIIB does not affect the
appropriation of moneys which are excluded from the definition of
"appropriations subject to limitation," including debt service on indebtedness
existing or authorized as of January 1, 1979, or bonded indebtedness
subsequently approved by the voters. In general terms, the "appropriations
limit" is required to be based on certain 1978/79 expenditures, and is to be
adjusted annually to reflect changes in consumer prices, population, and certain
services provided by these entities. Article XIIIB also provides that if these
entities' revenues in any year exceed the amounts permitted to be spent, the
excess is to be returned by revising tax rates or fee schedules over the
subsequent two years.
At the November 8, 1988 general election, California voters approved an
initiative known as Proposition 98. This initiative amends Article XIIIB to
require that (i) the California Legislature establish a prudent state reserve
fund in an amount as it shall deem reasonable and necessary and (ii) revenues in
excess of amounts permitted to be spent and which would otherwise be returned
pursuant to Article XIIIB by revision of tax rates or fee schedules, be
transferred and allocated (up to a maximum of 4%) to the State School Fund and
be expended solely for purposes of instructional improvement and accountability.
No such transfer or allocation of funds will be required if certain designated
state officials determine that annual student expenditures and class size meet
certain criteria as set forth in Proposition 98. Any funds allocated to the
State School Fund shall cause the appropriation limits established in Article
XIIIB to be annually increased for any such allocation made in the prior year.
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Proposition 98 also amends Article XVI to require that the State of
California provide a minimum level of funding for public schools and community
colleges. Commencing with the 1988-89 fiscal year, state monies to support
school districts and community college districts were required to equal or
exceed the lesser of (i) an amount equalling the percentage of state general
revenue bonds for school and community college districts in fiscal year 1986-87,
or (ii) an amount equal to the prior year's state general fund proceeds of taxes
appropriated under Article XIIIB plus allocated proceeds of local taxes, after
adjustment under Article XIIIB. The initiative permits the enactment of
legislation, by a two-thirds vote, to suspend the minimum funding requirement
for one year.
On June 30, 1989, the California Legislature enacted Senate Constitutional
Amendment 1, a proposed modification of the California Constitution to alter the
spending limit and the education funding provisions of Proposition 98. Senate
Constitutional Amendment 1, on the June 5, 1990 ballot as Proposition 111, was
approved by the voters and took effect on July 1, 1990. Among a number of
important provisions, Proposition 111 recalculates spending limits for the State
and for local governments, allows greater annual increases in the limits, allows
the averaging of two years' tax revenues before requiring action regarding
excess tax revenues, reduces the amount of the funding guarantee in recession
years for school districts and community college districts (but with a floor of
40.9 percent of State general fund tax revenues), removes the provision of
Proposition 98 which included excess moneys transferred to school districts and
community college districts in the base calculation for the next year, limits
the amount of State tax revenue over the limit which would be transferred to
school districts and community college districts, and exempts increased gasoline
taxes and truck weight fees from the State appropriations limit. Additionally,
Proposition 111 exempts from the State appropriations limit funding for capital
outlays.
Article XIIIB, like Article XIIIA, may require further interpretation by both
the Legislature and the courts to determine its applicability to specific
situations involving the State and local taxing authorities. Depending upon the
interpretation, Article XIIIB may limit significantly a governmental entity's
ability to budget sufficient funds to meet debt service on bonds and other
obligations.
On November 4, 1986, California voters approved an initiative statute known
as Proposition 62. This initiative (i) requires that any tax for general
governmental purposes imposed by local governments be approved by resolution or
ordinance adopted by a two-thirds vote of the governmental entity's legislative
body and by a majority vote of the electorate of the governmental entity, (ii)
requires that any special tax (defined as taxes levied for other than general
governmental purposes) imposed by a local governmental entity be approved by a
two-thirds vote of the voters within that jurisdiction, (iii) restricts the use
of revenues from a special tax to the purposes or for the service for which the
special tax was imposed, (iv) prohibits the imposition of ad valorem taxes on
real property by local governmental entities except as permitted by Article
XIIIA, (v) prohibits the imposition of transaction taxes and sales taxes on the
sale of real property by local governments, (vi) requires that any tax imposed
by a local government on or after August 1, 1985 be ratified by a majority vote
of the electorate within two years of the adoption of the initiative or be
terminated by November 15, 1988, (vii) requires that, in the event a local
government fails to comply with the provisions of this measure, a reduction in
the amount of property tax revenue allocated to such local government occurs in
an amount equal to the revenues received by such entity attributable to the tax
levied in violation of the initiative, and (viii) permits these provisions to be
amended exclusively by the voters of the State of California.
In September 1988, the California Court of Appeal in City of Westminster v.
County of Orange, 204 Cal. App. 3d 623, 215 Cal. Rptr. 511 (Cal. Ct. App. 1988),
held that Proposition 62 is unconstitutional to the extent that it requires a
general tax by a general law city, enacted on or after August 1, 1985 and prior
to the effective date of Proposition 62, to be subject to approval by a majority
of voters. The Court held that the California Constitution prohibits the
imposition of a requirement that local tax measures be submitted to the
electorate by either referendum or initiative. It is not possible to predict
the impact of this decision on charter cities, on special taxes or on new taxes
imposed after the effective date of Proposition 62.
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On November 8, 1988, California voters approved Proposition 87. Proposition
87 amended Article XVI, Section 16, of the California Constitution by
authorizing the California Legislature to prohibit redevelopment agencies from
receiving any of the property tax revenue raised by increased property tax rates
levied to repay bonded indebtedness of local governments which is approved by
voters on or after January 1, 1989. It is not possible to predict whether the
California Legislature will enact such a prohibition nor is it possible to
predict the impact of Proposition 87 on redevelopment agencies and their ability
to make payments on outstanding debt obligations.
Certain Debt Obligations in the Portfolio may be obligations which are
payable solely from the revenues of health care institutions. Certain
provisions under California law may adversely affect these revenues and,
consequently, payment on those Debt Obligations.
The Federally sponsored Medicaid program for health care services to eligible
welfare beneficiaries in California is known as the Medi-Cal program.
Historically, the Medi-Cal program has provided for a cost-based system of
reimbursement for inpatient care furnished to Medi-Cal beneficiaries by any
hospital wanting to participate in the Medi-Cal program, provided such hospital
met applicable requirements for participation. California law now provides that
the State of California shall selectively contract with hospitals to provide
acute inpatient services to Medi-Cal patients. Medi-Cal contracts currently
apply only to acute inpatient services. Generally, such selective contracting
is made on a flat per diem payment basis for all services to Medi-Cal
beneficiaries, and generally such payment has not increased in relation to
inflation, costs or other factors. Other reductions or limitations may be
imposed on payment for services rendered to Medi-Cal beneficiaries in the
future.
Under this approach, in most geographical areas of California, only those
hospitals which enter into a Medi-Cal contract with the State of California will
be paid for non-emergency acute inpatient services rendered to Medi-Cal
beneficiaries. The State may also terminate these contracts without notice
under certain circumstances and is obligated to make contractual payments only
to the extent the California legislature appropriates adequate funding therefor.
California enacted legislation in 1982 that authorizes private health plans
and insurers to contract directly with hospitals for services to beneficiaries
on negotiated terms. Some insurers have introduced plans known as "preferred
provider organizations" ("PPOs"), which offer financial incentives for
subscribers who use only the hospitals which contract with the plan. Under an
exclusive provider plan, which includes most health maintenance organizations
("HMOs"), private payors limit coverage to those services provided by selected
hospitals. Discounts offered to HMOs and PPOs may result in payment to the
contracting hospital of less than actual cost and the volume of patients
directed to a hospital under an HMO or PPO contract may vary significantly from
projections. Often, HMO or PPO contracts are enforceable for a stated term,
regardless of provider losses or of bankruptcy of the respective HMO or PPO. It
is expected that failure to execute and maintain such PPO and HMO contracts
would reduce a hospital's patient base or gross revenues. Conversely,
participation may maintain or increase the patient base, but may result in
reduced payment and lower net income to the contracting hospitals.
These Debt Obligations may also be insured by the State of California
pursuant to an insurance program implemented by the Office of Statewide Health
Planning and Development for health facility construction loans. If a default
occurs on insured Debt Obligations, the State Treasurer will issue debentures
payable out of a reserve fund established under the insurance program or will
pay principal and interest on an unaccelerated basis from unappropriated State
funds. At the request of the Office of Statewide Health Planning and
Development, Arthur D. Little, Inc. prepared a study in December, 1983, to
evaluate the adequacy of the reserve fund established under the insurance
program and based on certain formulations and assumptions found the reserve fund
substantially underfunded. In September of 1986, Arthur D. Little, Inc. prepared
an update of the study and concluded that an additional 10% reserve be
established for "multi-level" facilities. For the balance of the reserve fund,
the update recommended maintaining the current reserve calculation method. In
March of 1990, Arthur D. Little, Inc. prepared a
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further review of the study and recommended that separate reserves continue to
be established for "multi-level" facilities at a reserve level consistent with
those that would be required by an insurance company.
Certain Debt Obligations in the Portfolio may be obligations which are
secured in whole or in part by a mortgage or deed of trust on real property.
California has five principal statutory provisions which limit the remedies of a
creditor secured by a mortgage or deed of trust. Two limit the creditor's right
to obtain a deficiency judgment, one limitation being based on the method of
foreclosure and the other on the type of debt secured. Under the former, a
deficiency judgment is barred when the foreclosure is accomplished by means of a
nonjudicial trustee's sale. Under the latter, a deficiency judgment is barred
when the foreclosed mortgage or deed of trust secures certain purchase money
obligations. Another California statute, commonly known as the "one form of
action" rule, requires creditors secured by real property to exhaust their real
property security by foreclosure before bringing a personal action against the
debtor. The fourth statutory provision limits any deficiency judgment obtained
by a creditor secured by real property following a judicial sale of such
property to the excess of the outstanding debt over the fair value of the
property at the time of the sale, thus preventing the creditor from obtaining a
large deficiency judgment against the debtor as the result of low bids at a
judicial sale. The fifth statutory provision gives the debtor the right to
redeem the real property from any judicial foreclosure sale as to which a
deficiency judgment may be ordered against the debtor.
Upon the default of a mortgage or deed of trust with respect to California
real property, the creditor's nonjudicial foreclosure rights under the power of
sale contained in the mortgage or deed of trust are subject to the constraints
imposed by California law upon transfers of title to real property by private
power of sale. During the three-month period beginning with the filing of a
formal notice of default, the debtor is entitled to reinstate the mortgage by
making any overdue payments. Under standard loan servicing procedures, the
filing of the formal notice of default does not occur unless at least three full
monthly payments have become due and remain unpaid. The power of sale is
exercised by posting and publishing a notice of sale for at least 20 days after
expiration of the three-month reinstatement period and the debtor may reinstate
the mortgage in the manner described above, up to five business days prior to
the scheduled sale date. Therefore, the effective minimum period for
foreclosing on a mortgage could be in excess of seven months after the initial
default. Such time delays in collections could disrupt the flow of revenues
available to an issuer for the payment of debt service on the outstanding
obligations if such defaults occur with respect to a substantial number of
mortgages or deeds of trust securing an issuer's obligations.
In addition, a court could find that there is sufficient involvement of the
issuer in the nonjudicial sale of property securing a mortgage for such private
sale to constitute "state action," and could hold that the private-right-of-sale
proceedings violate the due process requirements of the Federal or State
Constitutions, consequently preventing an issuer from using the nonjudicial
foreclosure remedy described above.
Certain Debt Obligations in the Portfolio may be obligations which finance
the acquisition of single family home mortgages for low and moderate income
mortgagors. These obligations may be payable solely from revenues derived from
the home mortgages, and are subject to California's statutory limitations
described above applicable to obligations secured by real property. Under
California antideficiency legislation, there is no personal recourse against a
mortgagor of a single family residence purchased with the loan secured by the
mortgage, regardless of whether the creditor chooses judicial or nonjudicial
foreclosure.
Under California law, mortgage loans secured by single-family owner-occupied
dwellings may be prepaid at any time. Prepayment charges on such mortgage loans
may be imposed only with respect to voluntary prepayments made during the first
five years during the term of the mortgage loan, and then only if the borrower
prepays an amount in excess of 20% of the original principal amount of the
mortgage loan in a 12-month period cannot in any event exceed six months'
advance interest on the amount prepaid during
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the 12-month period in excess of 20% of the original principal amount of the
loan. This limitation could affect the flow of revenues available to an issuer
for debt service on the outstanding debt obligations which financed such home
mortgages.
THE COLORADO TRUST
RISK FACTORS--Generally. The portfolio of the Colorado Trust consists
primarily of obligations issued by or on behalf of the State of Colorado and its
political subdivisions. The State's political subdivisions include
approximately 1,600 units of local government in Colorado, including counties,
statutory cities and towns, home-rule cities and counties, school districts and
a variety of water, irrigation, and other special districts and special
improvement districts, all with various constitutional and statutory authority
to levy taxes and incur indebtedness.
Following is a brief summary of some of the factors which may affect the
financial condition of the State of Colorado and its political subdivisions. It
is not a complete or comprehensive description of these factors or analysis of
financial conditions and may not be indicative of the financial condition of
issuers of obligations contained in the portfolio of the Colorado Trust or any
particular projects financed by those obligations. Many factors not included in
the summary, such as the national economy, social and environmental policies and
conditions, and the national and international markets for petroleum, minerals
and metals, could have an adverse impact on the financial condition of the State
and its political subdivisions, including the issuers of obligations contained
in the portfolio of the Colorado Trust. It is not possible to predict whether
and to what extent those factors may affect the financial condition of the State
and its political subdivisions, including the issuers of obligations contained
in the portfolio of the Colorado Trust. Prospective investors should study with
care the issues contained in the portfolio of the Colorado Trust, review
carefully the information set out in Part B of the prospectus under the caption
"Risk Factors" and consult with their investment advisors as to the merits of
particular issues in the portfolio.
The following summary is based on publicly available information which has
not been independently verified by the Sponsor or its legal counsel.
The State Economy. The State's economic growth is estimated to have
surpassed that of the nation's for the past seven consecutive years, including
1994. Above-average population growth and migration into the State are helping
the State to post better performance in income growth, homebuilding and job
creation. Per-capita income has increased 25.3% from 1988 through 1992. Retail
trade sales has increased 40.4% from 1989 through 1993.
Net migration into the State peaked in 1993 at 70,300 (an increase of
approximately 15.6% over 1992's net migration), with the overall State
population increasing 2.9% in 1993. Net migration into the State is estimated
to be 61,665 in 1994 (a decrease of approximately 12.3% over 1993's net
migration), but with the overall State population still increasing approximately
2.5% in 1994. The State's job growth rate was 4.7% in 1993, compared to 1.8% at
the national level, and is estimated to be 3.5% in 1994, compared to 2.6% at the
national level. An estimated 68,700 net nonfarm new jobs were generated in the
State economy. The State's unemployment rate remained below the national
unemployment rate for 1993.
State Revenues. The State operates on a fiscal year beginning July 1 and
ending June 30. Fiscal year 1994 refers to the year ended June 30, 1994, and
fiscal year 1995 refers to the year ended June 30, 1995.
The State derives substantially all of its General Fund revenues from taxes.
The two most important sources of these revenues are sales and use taxes and
individual income taxes, which accounted for approximately 31.1% and 57.5%,
respectively, of total General Fund revenues during fiscal year 1994. The
Office of State Planning and Budgeting estimates that, during fiscal year 1995,
sales and use taxes will
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account for approximately 32.0% of total General Fund revenues and individual
income taxes will account for approximately 58.3% of total General Fund
revenues. The ending General Fund balance for fiscal year 1993 was $326.7
million and for fiscal year 1994 was 320.4 million. The estimated ending
General Fund balance for fiscal year 1995 is $276.8 million.
The Colorado Constitution contains strict limitations on the ability of the
State to create debt except under certain very limited circumstances. However,
the constitutional provision has been interpreted not to limit the ability of
the State to issue certain obligations which do not constitute debt, including
short-term obligations which do not extend beyond the fiscal year in which they
are incurred and lease purchase obligations which are subject to annual
appropriation. Nevertheless, following passage by the voters of the State of a
tax and spending limitation amendment, described below, the General Assembly
adopted legislation prohibiting the State from entering into contracts for the
purchase or lease of real or personal property if such contract involves the
issuance of certificates of participation or other similar instruments, until a
court of competent jurisdiction renders a final decision as to the
constitutionality of such instruments. See the discussion below under "Tax and
Spending Limitation Amendment."
The State is authorized pursuant to State statute to issue short-term notes
to alleviate temporary cash flow shortfalls. The most recent issue of such
notes, issued on July 6, 1995 and maturing June 27, 1996, were given the highest
rating available for short-term obligations by Standard & Poor's Corporation and
Fitch Investors Service, Inc. Because of the short-term nature of such notes,
their ratings should not be considered necessarily indicative of the State's
general financial condition. It has not yet been determined whether the State
will issue similar short-term notes for the beginning of the State's 1997 fiscal
year.
Tax and Spending Limitation Amendment. On November 3, 1992, Colorado voters
approved a State constitutional amendment (the "Amendment") that restricts the
ability of the State and local governments to increase taxes, revenues, debt and
spending. The Amendment provides that its provisions supersede conflicting
State constitutional, State statutory, charter or other State or local
provisions.
The provisions of the Amendment apply to "districts," which are defined in
the Amendment as the State or any local government, with certain exclusions.
Under the terms of the Amendment, districts must have prior voter approval to
impose any new tax, tax rate increase, mill levy increase, valuation for
assessment ratio increase and extension of an expiring tax. Prior voter
approval is also required, except in certain limited circumstances, for the
creation of "any multiple-fiscal year direct or indirect district debt or other
financial obligations." The Amendment prescribes the timing and procedures for
any elections required by the Amendment.
On September 12, 1994, in Bickel v. City of Boulder (Case No. 94SA130), the
State Supreme Court, among other things, determined that (i) ballot questions
which authorized the issuance of bonds and the imposition of taxes to pay such
bonds in the same proposition did not violate the provisions of the Amendment,
and (ii) in approving the ballot questions, the voters could authorize property
tax rates to be adjusted as necessary to repay the specific debt incurred,
provided the tax rate increases are consistent with the "stated estimate of the
final fiscal year dollar amount of the tax increase" set forth in the ballot
questions.
On February 6, 1995, in City of Aurora v. Acosta (Case No. 945C250), the
State Supreme Court further determined that (i) a ballot question seeking a
voter-approved revenue change (i.e., an exception to the revenue and spending
limits of the Amendment) could describe the proposed revenue change to include
all revenue attributable to a stated tax rate to be imposed, instead of a stated
dollar amount, and (ii) in a mail ballot election, where all relevant
information was presented to the voters in the election ballot and related
election notice, the election materials substantially complied with the
Amendment, even though the ballot omitted certain information required under
Bickel. The State Supreme Court looked to three factors, first announced in
Bickel, to determine substantial compliance. These factors include (i) the
extent
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of a taxing district's noncompliance with the Amendment provisions with respect
to the challenged ballot issue, (ii) the purpose of the provision violated and
whether that purpose is substantially achieved despite the taxing district's
noncompliance, and (iii) whether it can be reasonably inferred that the taxing
district made a good faith effort to comply with the Amendment, or attempted to
mislead the electorate.
Other cases are expected to continue proceeding through the appeal process.
Because the Amendment's voter approval requirements apply to any
"multiple-fiscal year" debt or financial obligation, short-term obligations
which do not extend beyond the fiscal year in which they are incurred are
treated as exempt from the voter approval requirements of the Amendment. Case
law prior to the adoption of the Amendment held that lease purchase obligations
subject to annual appropriation do not constitute debt under the Colorado
constitution.
On January 6, 1994, in Board of County Commissioners of County of Boulder v.
Dougherty, Dawkins, Strand & Bigelow Incorporated, the District Court for
Boulder County, Colorado held, among other things, that a lease obligation that
is expressly subject to annual appropriation cannot be characterized as a
multiple-fiscal year obligation, and therefore is not subject to the voter
approval requirements of the Amendment. This holding was affirmed by the State
Court of Appeals on November 3, 1993. The decision of the Court of Appeals was
not appealed to the State Supreme Court.
The Amendment's voter approval requirements and other limitations (discussed
in the following paragraph) do not apply to "enterprises" which term is defined
to include government-owned businesses authorized to issue their own revenue
bonds and receiving under 10% of annual revenue in grants from all Colorado
state and local governments combined. Enterprise status under the Amendment has
been and is likely to continue to be subject to legislative and judicial
interpretation.
On May 15, 1995, the State Supreme Court held, in Nicholl v. E-470 Public
Highway Authority (Case No. 94SC307) that the remarketing of bonds outstanding
prior to the adoption of the Amendment according to procedures specified in the
original pre-Amendment bond documents did not constitute a new debt issuance
requiring electoral approval. In the same case it held that a toll road has the
character of a "business" for purposes of the enterprise provisions of the
Amendment even though it held that the particular entity operating it was not an
enterprise because it had access to, and had pledged taxes.
In Bolt v. Arapahoe County School District No. Six, (Case No. 94SC364),
decided June 19, 1995, the Colorado Supreme Court held, among other things, that
it was permissible to increase a school district's debt service mill levy
without new voter approval to pay pre-Amendment bonds originally authorized
under a very general bond question typical of pre-Amendment practices. This
resolved a question as to whether the Amendment required specific voter approval
of each individual increase in debt service mill levies for voted general
obligation bonds.
Among other provisions, the Amendment requires the establishment of emergency
reserves, limits increases in district revenues and limits increases in district
fiscal year spending. As a general matter, annual State fiscal year spending
may change no more than inflation plus the percentage change in State population
in the prior calendar year. Annual local district fiscal year spending may
change no more than inflation in the prior calendar year plus annual local
growth, as defined in and subject to the adjustments provided in the Amendment.
The Amendment provides that annual district property tax revenues may change no
more than inflation in the prior calendar year plus annual local growth, as
defined in and subject to the adjustments provided in the Amendment. District
revenues in excess of the limits prescribed by the Amendment are required,
absent voter approval, to be refunded by any reasonable method, including
temporary tax credits or rate reductions. In addition, the Amendment prohibits
new or increased real property transfer taxes, new State real property taxes and
new local district income taxes. The Amendment also provides that a local
district may reduce or end its subsidies to any program (other than public
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education through grade 12 or as required by federal law) delegated to it by the
State General Assembly for administration.
The foregoing is not intended as a complete description of all of the
provisions of the Amendment. Many provisions of the Amendment are ambiguous and
will require judicial interpretation. Several statutes enacted or proposed
during the 1993 and 1994 legislative sessions attempt to clarify the application
of the Amendment with respect to certain governmental entities and activities.
However, many provisions of the Amendment are likely to continue to be the
subject of further legislation or judicial proceedings. The application of the
Amendment may adversely affect the financial condition and operations of the
State and local governments in the State to an extent which cannot be predicted.
THE CONNECTICUT TRUST
RISK FACTORS--The State Economy. Manufacturing has historically been of
prime economic importance to Connecticut. The manufacturing industry is
diversified, with transportation equipment (primarily aircraft engines,
helicopters and submarines) the dominant industry, followed by non-electrical
machinery, fabricated metal products, and electrical machinery. From 1970 to
1993, however, there was a rise in employment in service-related industries.
During this period, manufacturing employment declined 33.5%, while the number of
persons employed in other non-agricultural establishments (including government)
increased 63.3%, particularly in the service, trade and finance categories. In
1993, manufacturing accounted for only 19.2% of total non-agricultural
employment in Connecticut. Defense-related business represents a relatively
high proportion of the manufacturing sector. On a per capita basis, defense
awards to Connecticut have traditionally been among the highest in the nation,
and reductions in defense spending have had a substantial adverse impact on
Connecticut's economy. Moreover, the State's largest defense contractors have
announced substantial planned labor force reductions scheduled to occur over the
next four years.
The annual average unemployment rate (seasonally adjusted) in Connecticut
decreased from 6.9% in 1982 to a low of 3.0% in 1988 but rose to 6.6% in 1993.
While these rates were lower than those recorded for the U.S. as a whole for the
same periods, as of May, 1993, the estimated rate of unemployment in Connecticut
on a seasonably adjusted basis reached 7.4%, compared to 6.0% for the nation as
a whole, and pockets of significant unemployment and poverty exist in some of
Connecticut's cities and towns. Moreover, Connecticut is now in a recession,
the depth and duration of which are uncertain.
State Revenues and Expenditures. The State derives over seventy percent of
its revenues from taxes imposed by the State. The two major taxes have been the
sales and use taxes and the corporation business tax, each of which is sensitive
to changes in the level of economic activity in the State, but the Connecticut
income tax on individuals, trusts, and estates enacted in 1991 has superseded
each of them in importance.
The State's General Fund budget for the 1986-87 fiscal year anticipated
appropriations and revenues of approximately $4,300,000,000. The General Fund
ended the 1986-87 fiscal year with an operating surplus of $365,200,000. The
General Fund budget for the 1987-88 fiscal year anticipated appropriations and
revenues of approximately $4,915,800,000. However, the General Fund ended the
1987-88 fiscal year with an operating deficit of $115,600,000. The General Fund
budget for the 1988-89 fiscal year anticipated that General Fund expenditures of
$5,551,000,000 and certain educational expenses of $206,700,000 not previously
paid through the General Fund would be financed in part from surpluses of prior
years and in part from higher tax revenues projected to result from tax laws in
effect for the 1987-88 fiscal year and stricter enforcement thereof; a
substantial deficit was projected during the third quarter of the 1988-89 fiscal
year, but, largely because of tax law changes that took effect before the end of
the fiscal year, the operating deficit was kept to $28,000,000. The General
Fund budget for the 1989-90
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fiscal year anticipated appropriations of approximately $6,224,500,000 and,
by virtue of tax increases enacted to take effect generally at the beginning
of the fiscal year, revenues slightly exceeding such amount. However, largely
because of tax revenue shortfalls, the General Fund ended the 1989-90 fiscal
year with an operating deficit for the year of $259,000,000, wiping out reserves
for such events built up in prior years. The General Fund budget for the
1990-91 fiscal year anticipated expenditures of $6,433,000,000, but no
significant new or increased taxes were enacted. Primarily because of
significant declines in tax revenues and unanticipated expenditures reflective
of economic adversity, the General Fund ended the 1990-91 fiscal year alone with
a further deficit of $809,000,000. A General Fund budget was not enacted for
the 1991-92 fiscal year until August 22, 1991. This budget anticipated General
Fund expenditures of $7,007,861,328 and revenues of $7,426,390,000. Anticipated
decreases in revenues resulting from a 25% reduction in the sales tax rate
effective October 1, 1991, the repeal of the taxes on the capital gains and
interest and dividend income of resident individuals for years starting after
1991, and the phase-out of the corporation business tax surcharge over two years
commencing with years starting after 1991 were expected to be more than offset
by a new general personal income tax imposed at effective rates not to exceed
4.5% on the Connecticut taxable income of resident and non-resident individuals,
trusts, and estates. The General Fund ended the 1991-92 fiscal year with an
operating surplus of $110,000,000. The General Fund budget for the 1992-93
fiscal year anticipated General Fund expenditures of $7,372,062,859 and revenues
of $7,372,210,000, and the General Fund ended the 1992-93 fiscal year with an
operating surplus of $113,500,000. Balanced General Fund budgets for the
biennium ending June 30, 1995, were adopted in 1993 appropriating expenditures
of $7,829,000,000 for the 1993-94 fiscal year and $8,266,000,000 for the 1994-95
fiscal year. The General Fund ended the 1993-94 fiscal year with an operating
surplus of $19,700,000. In 1994 the budgeted General Fund appropriations for
the 1994-95 fiscal year were increased to $8,567,200,000. General Fund budgets
for the biennium ending June 30, 1997, were adopted in 1995 anticipating
expenditures of $8,987,907,123 and revenues of $8,988,180,000 for the 1995-96
fiscal year and anticipating expenditures of $9,311,125,170 and revenues of
$9,311,700,000 for the 1996-97 fiscal year.
State Debt. The primary method for financing capital projects by the State
is through the sale of the general obligation bonds of the State. These bonds
are backed by the full faith and credit of the State. As of March 1, 1995,
there was a total legislatively authorized bond indebtedness of $10,194,811,925,
of which $8,673,257,677 had been approved for issuance by the State Bond
Commission and $7,334,468,663 had been issued.
To fund operating cash requirements, prior to the 1991-92 fiscal year the
State borrowed up to $750,000,000 pursuant to authorization to issue commercial
paper and on July 29, 1991, it issued $200,000,000 General Obligation Temporary
Notes, none of which temporary borrowings were outstanding as of December 1,
1994. To fund the cumulative General Fund deficit for the 1989-90 and 1990-91
fiscal years, the legislation enacted August 22, 1991, authorized the State
Treasurer to issue Economic Recovery Notes up to the aggregate amount of such
deficit, which must be payable no later than June 30, 1996; at least $50,000,000
of such Notes, but not more than a cap amount, is to be retired each fiscal year
commencing with the 1991-92 fiscal year, and any unappropriated surplus up to
$205,000,000 in the General Fund at the end of each of the three fiscal years
commencing with the 1991-92 fiscal year must be applied to retire such Notes as
may remain outstanding at those times. On September 25, 1991 and October 24,
1991, the State issued $640,710,000 and $325,000,000 respectively, of such
Economic Recovery Notes, of which $455,610,000 were outstanding as of March 1,
1995.
To meet the need for reconstructing, repairing, rehabilitating and improving
the State transportation system (except Bradley International Airport), the
State adopted legislation which provides for, among other things, the issuance
of special tax obligation ("STO") bonds the proceeds of which will be used to
pay for improvements to the State's transportation system. The STO bonds are
special tax obligations of the State payable solely from specified motor fuel
taxes, motor vehicle receipts, and license, permit and fee revenues pledged
therefor and deposited in the special transportation fund. The cost of the
infrastructure program for the twelve years beginning in 1984, to be met from
federal, state, and local
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funds, was recently estimated at $9.4 billion. To finance a portion of the
State's $4.1 billion share of such cost, the State expects to issue $3.7 billion
of STO bonds over the twelve-year period.
As of March 1, 1995, the General Assembly has authorized STO bonds for the
program in the aggregate amount of $3,794,938,104, of which $3,144,650,752 had
been issued. It is anticipated that additional STO bonds will be authorized by
the General Assembly annually in an amount necessary to finance and to complete
the infrastructure program. Such additional bonds may have equal rank with the
outstanding bonds provided certain pledged revenue coverage requirements of the
STO indenture controlling the issuance of such bonds are met. The State expects
to continue to offer bonds for this program.
The State's budget problems led to the ratings of its general obligation
bonds being reduced by Standard & Poors from AA+ to AA on March 29, 1990, and by
Moody's from Aa1 to Aa on April 9, 1990. Because of concerns over Connecticut's
lack of a plan to deal during the current fiscal year with the accumulated
projected deficits in its General Fund, on September 13, 1991, Standard & Poors
further reduced its ratings of the State's general obligation bonds and certain
other obligations that depend in part on the creditworthiness of the State to
AA-. On March 7, 1995, Fitch reduced its rating of the State's general
obligation bonds from AA+ to AA.
Litigation. The State, its officers and employees are defendants in numerous
lawsuits. According to the Attorney General's Office, an adverse decision in
any of the cases summarized herein could materially affect the State's financial
position: (i) litigation on behalf of black and Hispanic school children in the
City of Hartford seeking "integrated education" and a declaratory judgment that
the public schools within the greater Hartford metropolitan area are segregated
and inherently unequal; (ii) litigation involving claims by Indian tribes to
monetary recovery and ownership of portions of the State's land area; (iii)
litigation challenging the State's method of financing elementary and secondary
public schools on the ground that it denies equal access to education; (iv) an
action in which two retarded persons seek placement outside a State hospital,
new programs and damages on behalf of themselves and all mentally retarded
patients at the hospital; (v) litigation involving claims for refunds of taxes
by several cable television companies; (vi) an action on behalf of all persons
with retardation or traumatic brain injury, claiming that their constitutional
rights are violated by placement in State hospitals alleged not to provide
adequate treatment and training, and seeking placement in community residential
settings with appropriate support services; (vii) an action by the Connecticut
Hospital Association and 33 hospitals seeking to require the State to reimburse
hospitals for in-patient medical services on a basis more favorable to them;
(viii) a class action by the Connecticut Criminal Defense Lawyers Association
claiming a campaign of illegal surveillance activity over a period of years and
seeking damages and injunctive relief; (ix) two actions for monetary damages
brought by a former patient at a State mental hospital stemming from an
attempted suicide that left her brain-damaged; (x) an action challenging the
validity of the State's imposition of surcharges on hospital charges to finance
certain uncompensated care costs incurred by hospitals; (xi) an action to
enforce the spending cap provision of the State's constitution by seeking to
require that the General Assembly define certain terms used therein and to
enjoin certain increases in "general budget expenditures" until this is done;
(xii) an action challenging the validity of the State's imposition of gross
earnings taxes on hospital revenues to finance certain uncompensated care costs
incurred by hospitals; (xiii) an action by inmates of the Department of
Correction seeking damages and injunctive relief with respect to alleged
violations of statutory and constitutional rights as a result of the monitoring
and recording of their telephones from the State's correctional institutions;
and (xiv) negligence actions brought by two former students of a State school
who were severely burned in a fire there. In addition, a number of corporate
taxpayers have filed requests for refund of corporation business tax asserting
that interest on federal obligations may not be included in the measure of that
tax, alleging that to do so violates federal law because interest on certain
State of Connecticut obligations is not included in the measure of the tax.
Municipal Debt Obligations. General obligation bonds issued by
municipalities are usually payable from ad valorem taxes on property subject to
taxation by the municipality. Certain Connecticut municipalities have
experienced severe fiscal difficulties and have reported operating and
accumulated
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deficits in recent years. The most notable of these is the City of Bridgeport,
which filed a bankruptcy petition on June 7, 1991. The State opposed the
petition. The United States Bankruptcy Court for the District of Connecticut
has held that Bridgeport has authority to file such a petition but that its
petition should be dismissed on the grounds that Bridgeport was not insolvent
when the petition was filed.
In addition to general obligation bonds backed by the full faith and credit
of the municipality, certain municipal authorities may issue bonds that are not
considered to be debts of the municipality. Such bonds may only be repaid from
the revenues of projects financed by the municipal authority, which revenues may
be insufficient to service the authority's debt obligations.
Regional economic difficulties, reductions in revenues, and increased
expenses could lead to further fiscal problems for the State and its political
subdivisions, authorities, and agencies. This could result in declines in the
value of their outstanding obligations, increases in their future borrowing
costs, and impairment of their ability to pay debt service on their obligations.
THE FLORIDA TRUST
The Portfolio of the Florida Trust contains different issues of long-term
debt obligations issued by or on behalf of the State of Florida (the "state")
and counties, municipalities and other political subdivisions and public
authorities thereof or by the Government of Puerto Rico or the Government of
Guam or by their respective authorities, all rated in the category A or better
by at least one national rating organization (See Investment Summary in Part A
of the Prospectus). Investment in the Florida Trust should be made with an
understanding that the value of the underlying Portfolio may decline with
increases in interest rates.
RISK FACTORS--The State Economy. In 1980 Florida ranked seventh among the
fifty states with a population of 9.7 million people. The State has grown
dramatically since then and, as of April 1, 1994, ranked fourth with an
estimated population of 13.9 million. Since the beginning of the eighties,
Florida has surpassed Ohio, Illinois and Pennsylvania in total population.
Florida's attraction, as both a growth and retirement state, has kept net
migration fairly steady with an average of 235,600 new residents each year, from
1985 through 1994. Since 1985 the prime working age population (18-44) has
grown at an average annual rate of 2.2%. The share of Florida's total working
age population (18-59) to total State population is approximately 54%. Non-farm
employment has grown by approximately 37.9% since 1985. Total non-farm
employment in Florida is expected to increase 3.9% in 1994-95 and rise 3.3% in
1995-96. The service sector is Florida's largest employment sector, presently
accounting for 86.4% of total non-farm employment. Manufacturing jobs in
Florida are concentrated in the area of high-tech and value-added sectors, such
as electrical and electronic equipment, as well as printing and publishing.
Florida's manufacturing sector has kept pace with the U.S., at about 2.7% of
total U.S. manufacturing employment since the eighties. Foreign Trade has
contributed significantly to Florida's employment growth. Florida's dependence
on highly cyclical construction and construction related manufacturing has
declined. Total contract construction employment as a share of total non-farm
employment has fallen from 10% in 1973, to 7.5% in 1980, and down to nearly 5%
in 1994. Although the job creation rate for the State of Florida is almost
twice the rate for the nation as a whole, in recent years the unemployment rate
for the State has risen faster than the national average. The average rate of
unemployment in Florida since 1985 is 6.3%, while the national average is 6.4%.
Because Florida has a proportionately greater retirement age population,
property income (dividends, interest and rent) and transfer payments (Social
Security and pension benefits) are a relatively more important source of income.
In 1994, Florida employment income represented 61.5% of total personal income,
while nationally, employment income represented 72.6% of total personal income.
In the ten years ending in 1994, Florida's total nominal personal income grew by
nearly 107% and per capita income by approximately 64.6%. For the nation, total
and per capita personal income increased by roughly 80.7% and 63.7%,
respectively.
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The ability of the State and its local units of government to satisfy the
Debt Obligations may be affected by numerous factors which impact on the
economic vitality of the State in general and the particular region of the State
in which the issuer of the Debt Obligation is located. South Florida is
particularly susceptible to international trade and currency imbalances and to
economic dislocations in Central and South America, due to its geographical
location and its involvement with foreign trade, tourism and investment capital.
The central and northern portions of the State are impacted by problems in the
agricultural sector, particularly with regard to the citrus and sugar
industries. Short-term adverse economic conditions may be created in these
areas, and in the State as a whole, due to crop failures, severe weather
conditions or other agriculture-related problems. The State economy also has
historically been somewhat dependent on the tourism and construction industries
and is sensitive to trends in those sectors.
The State Budget. The State operates under a biennial budget which is
formulated in even numbered years and presented for approval to the Legislature
in odd numbered years. A supplemental budget request process is utilized in the
even numbered years for refining and modifying the primary budget. Under the
State Constitution and applicable statutes, the State budget as a whole, and
each separate fund within the State budget, must be kept in balance from
currently available revenues during each State fiscal year. (The State's fiscal
year runs from July 1 through June 30). The Governor and the Comptroller of the
State are charged with the responsibility of ensuring that sufficient revenues
are collected to meet appropriations and that no deficit occurs in any State
fund.
The financial operations of the State covering all receipts and expenditures
are maintained through the use of three types of funds: the General Revenue
Fund, Trust Funds and Working Capital Fund. The majority of the State's tax
revenues are deposited in the General Revenue Fund and moneys in the General
Revenue Fund are expended pursuant to appropriations acts. In fiscal year
1993-1994, expenditures for education, health and welfare and public safety
represented approximately 49%, 32% and 12%, respectively, of expenditures from
the General Revenue Fund. The Trust Funds consist of moneys received by the
State which under law or trust agreement are segregated for a purpose authorized
by law. Revenues in the General Revenue Fund which are in excess of the amount
needed to meet appropriations may be transferred to the Working Capital Fund.
State Revenues. For fiscal year 1994-1995 the estimated General Revenue plus
Working Capital Fund and Budget Stabilization funds available total $14,683.0
million, a 6.1% increase over 1993-94. This amount reflects a transfer of $159
million in non-recurring revenue due to Hurricane Andrew, to a hurricane relief
trust fund. The $13,702.1 million in Estimated Revenues (excluding the
Hurricane Andrew impacts) and recently legislated revenue impacts represent an
increase of 6.6% over revenues for 1993-94. With combined General Revenue,
Working Capital Fund and Budget Stabilization appropriations at $14,330.8
million, unencumbered reserves at the end of 1994-95 are estimated at $352.1
million. For fiscal year 1995-96, the estimated General Revenue plus Working
Capital and Budget Stabilization funds available total $15,168.7 million, a 3.3%
increase over 1994-95. The $14,453.2 million in Estimated Revenues plus Net
Measures Affecting Revenues from the 1995 legislative session represent a 5.5%
increase over the analogous figure in 1994-95.
In fiscal year 1993-1994, the State derived approximately 66% of its total
direct revenues for deposit in the General Revenue Fund, Trust Funds and Working
Capital Fund from State taxes. Federal funds and other special revenues
accounted for the remaining revenues. The greatest single source of tax
receipts in the State is the 6% sales and use tax. For the fiscal year ended
June 30, 1994, receipts from the sales and use tax totalled $10,012.5 million,
an increase of approximately 6.9% over fiscal year 1992-93. This amount
includes non-recurring increases attributable to the rebuilding and
reconstruction following the hurricane. The second largest source of State tax
receipts is the tax on motor fuels including the tax receipts distributed to
local governments. Receipts from the taxes on motor fuels are almost entirely
dedicated to trust funds for specific purposes or transferred to local
governments and are not included in the General Revenue Fund. Preliminary data
for the fiscal year ended June 30, 1994, show collections of this tax totalled
$1,733.4 million.
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The State currently does not impose a personal income tax. However, the
State does impose a corporate income tax on the net income of corporations,
organizations, associations and other artificial entities for the privilege of
conducting business, deriving income or existing within the State. For the
fiscal year ended June 30, 1994, receipts from the corporate income tax totalled
$1,047.4 million, an increase of 23.7% from fiscal year 1992-93. The
Documentary Stamp Tax collections totalled $775 million during fiscal year
1993-94, posting a 21.3% increase over fiscal year 1992-93. The Alcoholic
Beverage Tax, an excise tax on beer, wine and liquor totalled $439.8 million in
fiscal year 1993-94. The Florida lottery produced sales of $2.15 billion in
fiscal year 1993-94 of which $816.2 million was used for education purposes.
While the State does not levy ad valorem taxes on real property or tangible
personal property, counties, municipalities and school districts are authorized
by law, and special districts may be authorized by law, to levy ad valorem
taxes. Under the State Constitution, ad valorem taxes may not be levied by
counties, municipalities, school districts and water management districts in
excess of the following respective millages upon the assessed value of real
estate and tangible personal property: for all county purposes, ten mills; for
all municipal purposes, ten mills; for all school purposes, ten mills; and for
water management purposes, either 0.05 mill or 1.0 mill, depending upon
geographic location. These millage limitations do not apply to taxes levied for
payment of bonds and taxes levied for periods not longer than two years when
authorized by a vote of the electors. (Note: one mill equals one-tenth of one
cent.)
The State Constitution and statutes provide for the exemption of homesteads
from certain taxes. The homestead exemption is an exemption from all taxation,
except for assessments for special benefits, up to a specific amount of the
assessed valuation of the homestead. This exemption is available to every
person who has the legal or equitable title to real estate and maintains thereon
his or her permanent home. All permanent residents of the State are currently
entitled to a $25,000 homestead exemption from levies by all taxing authorities,
however, such exemption is subject to change upon voter approval.
On November 3, 1992, the voters of the State of Florida passed an amendment
to the Florida Constitution establishing a limitation on the annual increase in
assessed valuation of homestead property commencing January 1, 1994, of the
lesser of 3% or the increase in the Consumer Price Index during the relevant
year, except in the event of a sale thereof during such year, and except as to
improvements thereto during such year. The amendment did not alter any of the
millage rates described above.
Since municipalities, counties, school districts and other special purpose
units of local governments with power to issue general obligation bonds have
authority to increase the millage levy for voter approved general obligation
debt to the amount necessary to satisfy the related debt service requirements,
the amendment is not expected to adversely affect the ability of these entities
to pay the principal of or interest on such general obligation bonds. However,
in periods of high inflation, those local government units whose operating
millage levies are approaching the constitutional cap and whose tax base
consists largely of residential real estate, may, as a result of the
above-described amendment, need to place greater reliance on non-ad valorem
revenue sources to meet their operating budget needs.
At the November 1994 general election, voters approved an amendment to the
State Constitution that will limit the amount of taxes, fees, licenses and
charges imposed by the Legislature and collected during any fiscal year to the
amount of revenues allowed for the prior fiscal year, plus an adjustment for
growth. Growth is defined as the amount equal to the average annual rate of
growth in Florida personal income over the most recent twenty quarters times the
state revenues allowed for the prior fiscal year. The revenues allowed for any
fiscal year can be increased by a two-thirds vote of the Legislature. The limit
will be effective starting with fiscal year 1995-1996. Any excess revenues
generated will be deposited in the budget stabilization fund until it is fully
funded and then refunded to taxpayers. Included among the categories of
revenues which are exempt from the proposed revenue limitation, however, are
revenues pledged to state bonds.
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State General Obligation Bonds and State Revenue Bonds. The State
Constitution does not permit the State to issue debt obligations to fund
governmental operations. Generally, the State Constitution authorizes State
bonds pledging the full faith and credit of the State only to finance or
refinance the cost of State fixed capital outlay projects, upon approval by a
vote of the electors, and provided that the total outstanding principal amount
of such bonds does not exceed 50% of the total tax revenues of the State for the
two preceding fiscal years. Revenue bonds may be issued by the State or its
agencies without a vote of the electors only to finance or refinance the cost of
State fixed capital outlay projects which are payable solely from funds derived
directly from sources other than State tax revenues.
Exceptions to the general provisions regarding the full faith and credit
pledge of the State are contained in specific provisions of the State
Constitution which authorize the pledge of the full faith and credit of the
State, without electorate approval, but subject to specific coverage
requirements, for: certain road projects, county education projects, State
higher education projects, State system of Public Education and construction of
air and water pollution control and abatement facilities, solid waste disposal
facilities and certain other water facilities.
Local Bonds. The State Constitution provides that counties, school
districts, municipalities, special districts and local governmental bodies with
taxing powers may issue debt obligations payable from ad valorem taxation and
maturing more than 12 months after issuance, only (i) to finance or refinance
capital projects authorized by law, provided that electorate approval is
obtained; or (ii) to refund outstanding debt obligations and interest and
redemption premium thereon at a lower net average interest cost rate.
Counties, municipalities and special districts are authorized to issue
revenue bonds to finance a variety of self-liquidating projects pursuant to the
laws of the State, such revenue bonds to be secured by and payable from the
rates, fees, tolls, rentals and other charges for the services and facilities
furnished by the financed projects. Under State law, counties and
municipalities are permitted to issue bonds payable from special tax sources for
a variety of purposes, and municipalities and special districts may issue
special assessment bonds.
Bond Ratings. General obligation bonds of the State are currently rated Aa
by Moody's and AA by Standard & Poor's.
Litigation. Due to its size and its broad range of activities, the State
(and its officers and employees) are involved in numerous routine lawsuits. The
managers of the departments of the State involved in such routine lawsuits
believed that the results of such pending litigation would not materially affect
the State's financial position. In addition to the routine litigation pending
against the State, its officers and employees, the following lawsuits and claims
are also pending:
A. In a suit, plaintiff has sought title to Hugh Taylor Birch State
Recreation Area by virtue of a reverter clause in the deed from Hugh Taylor
Birch to the State. A final judgment at trial was entered in favor of the
State. The case has been appealed to the Fourth District Court of Appeal. The
Department of Natural Resources anticipates the area will remain in State lands;
however, in the event the court should rule in favor of the plaintiff, the State
is subject to a loss of real property valued at approximately $400 million.
B. A class action suit brought against the Department of Corrections,
alleging race discrimination in hiring and employment practices, originally went
to trial in 1982 with the Department prevailing on all claims except a partial
summary judgment to a plaintiff sub-class claiming a discriminatory impact on
hiring caused by an examination requirement. Jurisdictional aspects of the
testing issue were appealed to the Eleventh Circuit
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Court of Appeals which vacated the trial court's order and was upheld by the
United States Supreme Court. The district court consolidated three successor
lawsuits with this case and entered a final judgment in favor of the State. The
judgment, however, has been appealed to the Eleventh Circuit Court of Appeals.
Should the department fail in future appeals, the liability of the State for
back pay and other monetary relief could exceed $40 million.
C. Complaints were filed in the Second Judicial Circuit seeking a
declaration that Sections 624.509, 624.512 and 624.514, F.S. (1988) violate
various U.S. and Florida Constitutional provisions. Relief was sought in the
form of a tax refund. The Florida Supreme Court reversed the trial court in
favor of the State. Plaintiffs have petitioned for certiorari with the United
States Supreme Court. The State has settled all outstanding litigation in this
area. Similar issues had been raised in the following cases which were part of
the settlement: Ford Motor Company v. Bill Gunter, Case No. 86-3714, 2nd
Judicial Circuit, and General Motors Corporation v. Tom Gallagher, Case Nos.
90-2045 and 88-2925, 2nd Judicial Circuit, where the plaintiffs are challenging
Section 634.131, F.S., which imposes taxes on the premiums received for certain
motor vehicle service agreements. Current estimates indicate that the State's
potential refund exposure under the remaining refund application yet to be
denied is approximately $150 million. However, the State hopes that refund
exposure will be reduced as these refund requests begin to be denied based upon
the Florida Supreme Court decision in the instant case.
D. In two cases, plaintiffs have sought approximately $25 million in
intangible tax refunds based partly upon claims that Florida's intangible tax
statutes are unconstitutional.
E. A lawsuit was filed against the Department of Health and Rehabilitative
Services (DHRS) and the Comptroller of the State of Florida involving a number
of issues arising out of the implementation of a DHRS computer system and
seeking declaratory relief and money damages. The estimated potential liability
to the State is in excess of $40 million.
F. Plaintiffs in a case have sought a declaration that statutory assessments
on certain hospital net revenues are invalid, unconstitutional, and
unenforceable and request temporary and permanent injunctive relief be granted
prohibiting the enforcement or collection of the assessment and that all monies
paid to the State by the plaintiffs and the class members within the four years
preceding the filing of the action be reimbursed by the defendants with
interest. An unfavorable outcome to this case could result in the possibility
of refunds exceeding $50 million. This case was voluntarily dismissed but was
refiled in the Second Judicial Court. The Court granted final summary judgment
in the State's favor. Awaiting the signed order.
G. In an inverse condemnation suit claiming that the actions of the State
constitute a taking of certain leases for which compensation is due, the Circuit
judge granted the State's motion for summary judgment finding that the State had
not deprived plaintiff of any royalty rights they might have. Plaintiff has
appealed. Additionally, plaintiff's request for a drilling permit was rejected
after administrative proceedings before the Department of Environmental
Protection. Plaintiff is expected to challenge the decision.
H. In an inverse condemnation suit alleging the regulatory taking of
property without compensation in the Green Swamp Area of Critical State Concern,
discovery is concluding and a motion for a summary judgment will likely be made.
If the judgment should be for the plaintiff, condemnation procedures would be
instituted with costs of $30 million, plus interest from 1975.
I. In 1990, the Florida Legislature passed an act imposing a $295 impact fee
on cars purchased or titled in other states that are then registered in the
State by persons having or establishing permanent residency in the State. Two
separate groups filed suit challenging the fee. The circuit court consolidated
the various cases and entered final summary judgment finding the fee
unconstitutional under the Commerce Clause of the United States Constitution and
ordered an immediate refund to all persons having paid the fee since the statute
came into existence. The State noticed an appeal of the circuit court ruling
which entitled the State to a stay of the effectiveness of such ruling, thus,
the fee continued to be collected during the period of the pending appeal. On
September 29, 1994, the Supreme Court of Florida reaffirmed the
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circuit court's decision by concluding that the statute results in
discrimination against out of state economic interests in contravention of the
Commerce Clause and that the proper remedy for such violation is a full refund
to all persons who have paid the illegal fee. The State's refund exposure may
be in excess of $188 million.
J. Santa Rosa County has filed a complaint for declaratory relief against
the State requesting the Circuit Court to: (1) find that Section 206.60(2)(a),
F.S., does not allow the Department to deduct administrative expenses unrelated
to the collection, administration, and distribution of the county gas tax; and
(2) order the department to pay Santa Rosa County all moneys shown to have been
unlawfully deducted from the motor fuel tax revenues plus interest. Santa Rosa
County obtained a prospective injunction, but was denied the refund it sought.
There has been no appeal by either party. The Legislature changed the statute
in accordance with the Court's decision.
K. Lee Memorial Hospital has contested the calculation of its
disproportionate share payment for the 1992-93 State fiscal year. An
unfavorable outcome to this case could result in a possible settlement of $20 to
$30 million.
L. A lawsuit has challenged the freezing of nursing home reimbursement rates
for the period January 1, 1990 through July 1, 1990. The First District Court
of Appeal ruled against the Agency for Health Care Administration (AHCA). The
AHCA has petitioned the Florida Supreme Court for review of this decision. An
unfavorable outcome to this case could result in a potential liability of $40
million.
Summary. Many factors including national, economic, social and environmental
policies and conditions, most of which are not within the control of the State
or its local units of government, could affect or could have an adverse impact
on the financial condition of the State. Additionally, the limitations placed
by the State Constitution on the State and its local units of government with
respect to income taxation, ad valorem taxation, bond indebtedness and other
matters, discussed above, as well as other applicable statutory limitations, may
constrain the revenue-generating capacity of the State and its local units of
government and, therefore, the ability of the issuers of the Debt Obligations to
satisfy their obligations thereunder.
The Sponsors believe that the information summarized above describes some of
the more significant matters relating to the Florida Trust. For a discussion of
the particular risks with each of the Debt Obligations, and other factors to be
considered in connection therewith, reference should be made to the Official
Statement and other offering materials relating to each of the Debt Obligations
included in the portfolio of the Florida Trust. The foregoing information
regarding the State, its political subdivisions and its agencies and authorities
constitutes only a brief summary, does not purport to be a complete description
of the matters covered and is based solely upon information drawn from official
statements relating to offerings of certain bonds of the State. The Sponsors
and their counsel have not independently verified this information, and the
Sponsors have no reason to believe that such information is incorrect in any
material respect. None of the information presented in this summary is relevant
to Puerto Rico or Guam Debt Obligations which may be included in the Florida
Trust.
For a general description of the risks associated with the various types of
Debt Obligations comprising the Florida Trust, see the discussion under "Risk
Factors", above.
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THE GEORGIA TRUST
RISK FACTORS--The following discussion regarding the financial condition of
the State government may not be relevant to general obligation or revenue bonds
issued by political subdivisions of and other issuers in the State of Georgia
(the "State"). Such financial information is based upon information about
general financial conditions that may or may not affect individual issuers of
obligations within the State. Since 1973 the State's long-term debt obligations
have been issued in the form of general obligation debt or guaranteed revenue
debt. Prior to 1973 all of the State's long-term debt obligations were issued
by ten separate State authorities and secured by lease rental agreements between
such authorities and various State departments and agencies. Currently, Moody's
Investors Service, Inc. and Fitch Investors Service, Inc. rate Georgia general
obligation bonds AAA and Standard & Poor's Corporation rates such bonds AA+.
There can be no assurance that the economic and political conditions on which
these ratings are based will continue or that particular bond issues may not be
adversely affected by changes in economic, political or other conditions that do
not affect the above ratings.
In addition to general obligation debt, the Georgia Constitution permits the
issuance by the State of certain guaranteed revenue debt. The State may incur
guaranteed revenue debt by guaranteeing the payment of certain revenue
obligations issued by an instrumentality of the State. The Georgia Constitution
prohibits the incurring of any proposed general obligation debt or guaranteed
revenue debt if the highest aggregate annual debt service requirement for the
then current year or any subsequent fiscal year for outstanding authority debt,
guaranteed revenue debt, and general obligation debt, including the proposed
debt, exceed 10% of the total revenue receipts, less refunds, of the State
treasury in the fiscal year immediately preceding the year in which any proposed
debt is to be incurred. As of July 1995, the total indebtedness of the State of
Georgia consisting of general obligation debt, guaranteed revenue debt and
remaining authority debt totalled $4,692,620,000 and the highest aggregate
annual payment for such debt equalled 5.32% of fiscal year 1995 State estimated
treasury receipts.
The Georgia Constitution also permits the State to incur public debt to
supply a temporary deficit in the State treasury in any fiscal year created by a
delay in collecting the taxes of that year. Such debt must not exceed, in the
aggregate, 5% of the total revenue receipts, less refunds, of the State treasury
in the fiscal year immediately preceding the year in which such debt is
incurred. The debt incurred must be repaid on or before the last day of the
fiscal year in which it is to be incurred out of the taxes levied for that
fiscal year. No such debt may be incurred in any fiscal year if there is then
outstanding unpaid debt from any previous fiscal year which was incurred to
supply a temporary deficit in the State treasury. No such short-term debt has
been incurred under this provision since the inception of the constitutional
authority referred to in this paragraph.
The State operates on a fiscal year beginning July 1 and ending June 30. For
example, "fiscal 1995" refers to the year ended June 30, 1995. Revenue
collections of $9,409,526,943 for the fiscal 1994 showed an increase of 12.74%
over collections for the previous fiscal year. In July 1995, the State
estimated that fiscal 1995 revenue collections would be $9,997,715,177 with an
estimated increase of 6.25% over collections for the previous fiscal year.
Virtually all of the issues of long-term debt obligations issued by or on
behalf of the State of Georgia and counties, municipalities and other political
subdivisions and public authorities thereof are required by law to be validated
and confirmed in a judicial proceeding prior to issuance. The legal effect of
an approved validation in Georgia is to render incontestable the validity of the
pertinent bond issue and the security therefor.
Based on data of the Georgia Department of Revenue for fiscal 1994, income
tax receipts and sales tax receipts of the State for fiscal 1994 comprised
approximately 43.8% and 34.5%, respectively, of the total State tax revenues.
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The unemployment rate of the civilian labor force in the State as of May 1995
was 4.4% according to data provided by the Georgia Department of Labor. The
Metropolitan Atlanta area, which is the largest employment center in the area
comprised of Georgia and its five bordering states and which accounts for
approximately 42% of the State's population, has for some time enjoyed a lower
rate of unemployment than the State considered as a whole. In descending order,
wholesale and retail trade, services, manufacturing, government and
transportation comprise the largest sources of employment within the State.
The State from time to time is named as a party in certain lawsuits, which
may or may not have a material adverse impact on the financial position of the
State if decided in a manner adverse to the State's interests. Certain of such
lawsuits which could have a significant impact on the State's financial position
are summarized below.
Reich v. Collins. On December 6, 1994, the U.S. Supreme Court reversed the
Georgia Supreme Court's decision in Reich v. Collins, 263 Ga. 602 (1993), which
had determined that the plaintiff federal retiree was not entitled to a refund
of taxes on federal retirement pension benefits for tax years before 1989. The
plaintiff had sought refunds under the U.S. Supreme Court's decision in Davis v.
Michigan Department of Treasury, 489 U.S. 803 (1989). The U.S. Supreme Court in
Reich remanded the case to the Georgia Supreme Court for "the provision of
meaningful backward-looking relief consistent with due process and the McKesson
line of cases." On February 1, 1995, the Governor signed H.B. 90 into law,
which provides for the payment of refunds to federal retirees who timely filed
claims for any of the tax years 1985 through 1988, inclusive. The total amount
payable is estimated at approximately $110 million, to be paid in four roughly
equal annual installments beginning on or before October 15, 1995. Based on
this legislation, Reich has been dismissed.
James B. Beam Distilling Co. v. State; Heublein, Inc. v. State; Joseph E.
Seagram & Sons, Inc. v. State. Three suits have been filed against the State of
Georgia seeking refunds of liquor taxes under O.C.G.A. Sec. 48-2-35, in light of
Bacchus Imports, Ltd. v. Dias, 468 U.S. 263 (1984) under Georgia's pre-Bacchus
statute. In the Beam case, 501 U.S. 529 the Supreme Court indicated that
Bacchus was retroactive, but only within the bounds of State statutes of
limitations and procedural bars, and left State courts to determine any remedy
in light of reliance interests, equitable considerations, and other defenses.
Georgia's statute of limitations in O.C.G.A. Sec. 48-2-35 has run on all
pre-Bacchus claims for refund except five pending claims seeking 31.7 million
dollars in tax plus interest. On remand, the Fulton County Superior Court ruled
that procedural bars and other defenses bar any recovery by taxpayers on Beam's
claims for refund. The Georgia Supreme Court affirmed, and Beam's petition to
the United States Supreme Court for a writ of certiorari was denied. Thus, the
Beam case is now concluded. The State has filed a Motion for Summary Judgment,
based upon Beam, in the remaining two suits for refund, i.e., Joseph E. Seagram
& Sons, Inc. v. State and Heublein, Inc. v. State in DeKalb County Superior
Court.
Age International, Inc. v. State (two cases) and Age International, Inc. v.
Miller. Three suits (two for refund and one for declaratory and injunctive
relief) have been filed against the State of Georgia by out-of-state producers
of alcoholic beverages. The first suit for refund seeks 96 million dollars in
refunds of alcohol taxes imposed under Georgia's post-Bacchus (see previous
note) statute, O.C.G.A. Sec. 3-4-60. These claims constitute 99% of all such
taxes paid during the 3 years preceding these claims. In addition, the
claimants have filed a second suit for refund for an additional 23 million
dollars for later time periods. These two cases encompass all known or
anticipated claims for refund of such type within the apparently applicable
statutes of limitations. The two Age refund cases are still pending in the
trial court. The Age declaratory/injunctive relief case was dismissed by the
federal District Court. That dismissal was affirmed by the Eleventh Circuit
Court of Appeals, and plaintiffs have filed a petition for rehearing which is
pending.
Board of Public Education for Savannah/Chatham County v. State of Georgia.
This case is based on the local school board's claim that the State finance the
major portion of the costs of its desegregation program. The Savannah Board
originally requested restitution in the amount of $30,000,000 but the
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Federal District Court set forth a formula which would require a State payment
in the amount of approximately $8,900,000 computed through June 30, 1994.
Plaintiffs, dissatisfied with the apportionment of desegregation costs between
state and county, and an adverse ruling on the state funding formula for
transportation costs, have appealed to the Eleventh Circuit Court of Appeals.
The State has filed a responsive cross-appeal on the ground that there is no
basis for any liability. Subsequently, the parties agreed to a settlement,
which has been submitted to the Court for approval. The proposed settlement
calls for the State to pay the amount awarded to the plaintiff and to offer an
option regarding future funding methodology for pupil transportation. Because
interest was accruing in the settlement, in March 1995, the State paid to the
Plaintiffs $8,925,000 in partial satisfaction of the settlement agreement.
DeKalb County v. State of Georgia. A similar complaint has been filed by
DeKalb County. The Plaintiffs sought approximately $67,500,000 in restitution.
The Federal District Court ruled that the State's funding formula for pupil
transportation (which the District Court in the Savannah/Chatham County case
upheld) was contrary to state law. This ruling would require a State payment of
a state law funding entitlement in the amount of approximately $34,000,000
computed through June 30, 1994. Motions to reconsider and amend the Court's
judgment were filed by both parties. The State's motion was granted, in part,
which reduced the required state payment to approximately $28,000,000. Notices
of appeal to the Eleventh Circuit Court of Appeals have been filed. There are
approximately five other school districts which might file similar claims.
Edgar Mueller v. Collins. Plaintiff in this case has filed suit in Superior
Court of Fulton County, Georgia. Plaintiff challenges the constitutionality of
Georgia's transfer fee provided by O.C.G.A. Sec. 40-3-21.1 (often referred to as
"impact fee") by asserting that the fee violates the Commerce, Due Process,
Equal Protection, and Privilege and Immunities Clauses of the United States
Constitution. Plaintiff seeks to prohibit the State from further collections
and to require the State to return to her and those similarly situated all fees
previously collected. A similar lawsuit previously filed in the Superior Court
of Chatham County, Georgia, Johnsen v. Collins, has been voluntarily dismissed
and will likely be joined with the action currently pending in Fulton County.
From May of 1992 to June 7, 1995, the State collected $24,168,202.72 under the
transfer fee provision. All amounts collected after June 7, 1995, are being
paid into an escrow account. As of July 25, 1995, the escrow account contains
$46,070.00. The State continues to collect approximately $500,000 to $600,000
per month.
Buskirk and Estill v. State of Georgia, et. al. On September 1, 1994,
plaintiffs in this case filed a civil action in the Superior Court of Fulton
County, Georgia, (No. E-31547) on behalf of all "classified employees of the
State of Georgia or its agencies and departments during all or part of fiscal
years 1992 through 1995 who were eligible to receive within grade pay increases
and who would have received same were it not for a freeze of within grade pay
increases." Presently pending before the court is the plaintiffs' motion for
class certification, which is not opposed by the State. Discovery as to
liability issues has been completed, and, once the class has been certified and
various local defendants have been added, the parties will likely file cross
motions for summary judgment on liability issues. If the plaintiff prevail, the
parties will conduct separate discovery on the issue of damages. The State
believes that it has good and adequate defenses to the claims made, but, should
the plaintiffs prevail in every aspect of their claims, the liability of the
State in this matter could be as much as $295,000,000, based on best estimates
currently available.
The Sponsors believe that the information summarized above describes some of
the more significant matters relating to the Georgia Trust. The sources of the
information are the official statements of issuers located in Georgia, other
publicly available documents and oral statements from various federal and State
agencies. The Sponsors and their counsel have not independently verified any of
the information contained in the official statements, other publicly available
documents or oral statements from various State agencies and counsel have not
expressed any opinion regarding the completeness or materiality of any matters
contained in this Prospectus other than the tax opinions set forth below
relating to the status of certain tax matters in Georgia.
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THE LOUISIANA TRUST
RISK FACTORS. The following discussion regarding the financial condition of
the State government may not be relevant to general obligation or revenue bonds
issued by political subdivisions of and other issuers in the State of Louisiana
(the "State"). Such financial information is based upon information about
general financial conditions that may or may not affect issuers of the Louisiana
obligations. The Sponsor has not independently verified any of the information
contained in such publicly available documents, but is not aware of any facts
which would render such information inaccurate.
On December 19, 1990 the State received a rating upgrade on its general
obligation bonds to the current Standard & Poor's rating of A from BBB+.
Standard & Poor's cited improvements in the State's cash flow and fiscal reforms
approved by voters in the fall of 1990. The current Moody's rating on the
State's general obligation bonds was not upgraded and remains unchanged at Baa1.
There can be no assurance that the economic conditions on which these ratings
were based will continue or that particular bond issues may not be adversely
affected by changes in economic or political conditions.
The Revenue Estimating Conference (the "Conference") was established by Act
No. 814 of the 1987 Regular Session of the State Legislature. The Conference
was established by the Legislature to provide an official estimate of
anticipated State revenues upon which the executive budget shall be based, to
provide for a more stable and accurate method of financial planning and
budgeting and to facilitate the adoption of a balanced budget as is required by
Article VII, Section 10(E) of the State Constitution. Act No. 814 provides that
the Governor shall cause to be prepared an executive budget presenting a
complete financial and programmatic plan for the ensuing fiscal year based only
upon the official estimate of anticipated State revenues as determined by the
Revenue Estimating Conference. Act No. 814 further provides that at no time
shall appropriations or expenditures for any fiscal year exceed the official
estimate of anticipated State revenues for that fiscal year. An amendment to
the Louisiana Constitution was approved by the Louisiana Legislature in 1990 and
enacted by the electorate which granted constitutional status to the existence
of the Revenue Estimating Conference.
State General Fund: The State General Fund is the principal operating fund
of the State and was established administratively to provide for the
distribution of funds appropriated by the Louisiana Legislature for the ordinary
expenses of the State government. Revenue is provided from the direct deposit
of federal grants and the transfer of State revenues from the Bond Security and
Redemption Fund after general obligation debt requirements are met. The
beginning accumulated State General Fund balance for fiscal year 1994-1995 was
$212 million.
The Revenue Estimating Conference's official forecast of recurring State
General Fund revenues for the fiscal year ending June 30, 1993 (Revenue
Estimating Conference October 1994 is $4.626 billion. The Revenue Estimating
Conference adopted on October 27, 1994 its official forecast for Fiscal Year
1995-1996 to be $4.758 billion. Based upon that estimate, and assuring federal
government approval of a Medicaid waiver request submitted by the State, the
State Office of Planning and Budget has estimated a $192 million short fall in
the amount needed to maintain State operations at a level of those for Fiscal
Year 1994-95.
Transportation Trust Fund: The Transportation Trust Fund was established
pursuant to (i) Section 27 of Article VII of the State Constitution and (ii) Act
No. 16 of the First
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Extraordinary Session of the Louisiana Legislature for the year 1989
(collectively the "Act") for the purpose of funding construction and maintenance
of state and federal roads and bridges, the statewide flood-control program,
ports, airports, transit and state police traffic control projects and to fund
the Parish Transportation Fund. The Transportation Trust Fund is funded by a
levy of $0.20 per gallon on gasoline and motor fuels and on special fuels
(diesel, propane, butane and compressed natural gas) used, sold or consumed in
the state (the "Gasoline and Motor Fuels Taxes and Special Fuels Taxes"). This
levy was increased from $0.16 per gallon (the "Existing Taxes") to the current
$0.20 per gallon pursuant to Act No. 16 of the First Extraordinary Session of
the Louisiana Legislature for the year 1989, as amended. The additional tax of
$0.04 per gallon (the "Act 16 Taxes") became effective January 1, 1990 and will
expire on the earlier of January 1, 2005 or the date on which obligations
secured by the Act No. 16 taxes are no longer outstanding. The Transportation
Infrastructure Model for Economic Development Account (the "TIME Account") was
established in the Transportation Trust Fund. Moneys in the TIME account will
be expended for certain projects identified in the Act aggregating $1.4 billion
and to fund not exceeding $160 million of additional capital transportation
projects. The State issued $263,902,639.95 of Gasoline and Fuels Tax Revenue
Bonds, 1990 Series A, dated April 15, 1990 payable from the (i) Act No. 16
Taxes, (ii) any Act No. 16 Taxes and Existing Taxes deposited in the
Transportation Trust Fund, and (iii) any additional taxes on gasoline and motor
fuels and special fuels pledged for the payment of said Bonds. As of December
31, 1994 the outstanding principal amount of said Bonds was $235,703,000.
Louisiana Recovery District: The Louisiana Recovery District (the "Recovery
District") was created pursuant to Act No. 15 of the First Extraordinary Session
of the Legislature of Louisiana of 1988 to assist the State in the reduction and
elimination of a deficit existing at that time and the delivery of essential
services to its citizens and to assist parishes, cities and other units of local
government experiencing cash flow difficulties. The Recovery District is a
special taxing district the boundaries of which are coterminous with the State
and is a body politic and corporate and a political subdivision of the State.
The Recovery District issued $979,125,000 of Louisiana Recovery District Sales
Tax Bonds, Series 1988, dated July 1, 1988 ("Series 1988 Bonds"), secured by (i)
the revenues derived from the District's 1% statewide sales and use tax
remaining after the costs of collection and (ii) all funds and accounts held
under the Recovery District's General Bond Resolution and all investment
earnings on such funds and accounts. The Recovery District issued 80,920,000 of
Sales Tax Refunding Bonds, Series 1992 dated June 1, 1992 and 86,130,000 of
Sales Tax Junior Lien Refunding Bonds, Series 1992, dated June 1, 1992 to refund
a portion of the Recovery District's Series 1988 Bonds for the purpose of
increasing cash flow available to the Recovery District and creating debt
service savings. On December 31, 1994 the aggregate principal balance of the
1988 Series Bonds and the Series 1992 Bonds was $348,970,000 and $137,825,000,
respectively.
Ad Valorem Taxation: Only local governmental units presently levy ad valorem
taxes. Under the 1921 State Constitution a $5.75 mills ad valorem tax was being
levied by the State until January 1, 1973 at which time a constitutional
amendment to the 1921 Constitution abolished the ad valorem tax. Under the 1974
State Constitution a State ad valorem tax of up to $5.75 mills was provided for
but is not presently being levied. The property tax is underutilized at the
parish level due to a constitutional homestead exemption from the property tax
applicable to the first $75,000 of the full market value of single family
residences. Homestead exemptions do not apply to ad valorem property taxes
levied by municipalities, with the exception of the City of New Orleans.
Because local governments also are prohibited from levying an individual income
tax by the constitution, their reliance on State government is increased under
the existing tax structure.
Litigation: In 1988 the Louisiana legislature created a Self-Insurance Fund
within the Department of Treasury. That Fund consists of all premiums paid by
State agencies under the State's Risk Management program, the investment
earnings on those premiums and commissions retained. The Self-Insurance Fund
may only be used for payment of losses incurred by State agencies under the
Self-Insurance program, together with insurance premiums, legal expenses and
administration costs. For fiscal year 1991-1992, the sum of $79,744,126.00 was
paid from the Self-Insurance Fund as of December 31, 1991 to satisfy claims and
judgments. Because of deletion of agency premium allocations from the State
General Appropriations Bill for Fiscal Year 1991-1992 and 1992-1993 the
Self-Insurance Fund did not receive full funding in those years. In Fiscal Year
1993-94, a partial funding (153,000,000) was provided to the Self Insurance
Fund. However, due to the inadequacy of funding, virtually all claimants'
payments, other than workers compensation payments, were eliminated and claimant
payments were sent to the legislature for direct appropriation from the General
Fund. It is the opinion of the Attorney General for the State of Louisiana that
only a small portion of the dollar amount of potential liability of the State
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resulting from litigation which is pending against the State and is not being
handled through the Office of Risk Management ultimately will be recovered by
plaintiffs. It is the opinion of the Attorney General that the estimated future
liability for existing claims is in excess of $81 million. However, there are
other claims with future possible liabilities for which the Attorney General
cannot make a reasonable estimate.
The foregoing information constitutes only a brief summary of some of the
financial difficulties which may impact certain issuers of Bonds and does not
purport to be a complete or exhaustive description of all adverse conditions to
which the issuers of the Louisiana Trust are subject. Additionally, many
factors including national economic, social and environmental policies and
conditions, which are not within the control of the issuers of Bonds, could
affect or could have an adverse impact on the financial condition of the State
and various agencies and political subdivisions located in the State. The
Sponsors are unable to predict whether or to what extent such factors may affect
the issuers of Bonds, the market value or marketability of the Bonds or the
ability of the respective issuers of the Bonds acquired by the Louisiana Trust
to pay interest on or principal of the Bonds.
Prospective investors should study with care the Portfolio of Bonds in the
Louisiana Trust and should consult with their investment advisors as to the
merits of particular issues in that Trust's Portfolio.
THE MAINE TRUST
RISK FACTORS--Prospective investors should consider the financial condition
of the State of Maine and the public authorities and municipal subdivisions
issuing the obligations to be purchased with the proceeds of the sale of units.
Certain of the debt obligations to be purchased by and held in the Maine Trust
are not obligations of the State of Maine and are not supported by its full
faith and credit or taxing power. The type of debt obligation, source of
payment and security for such obligations are detailed in the official
statements produced by the issuers thereof in connection with the offering of
such obligations. Reference should be made to such official statements for
detailed information regarding each of the obligations and the specific risks
associated with such obligations. This summary of risk factors relates to
factors generally applicable to Maine obligations and does not address the
specific risks involved in each of the obligations acquired by the Maine Trust.
The Maine Economy. The State's economy continues to be based on natural
resources, manufacturing related to natural resources, and tourism. Gradually
the economy has begun to diversify with growth in relatively new industries such
has health and business services and electronics manufacturing.
Although some of the State's industries are independent from the regional
economy, Maine's economy is, in large part, dependent upon overall improvements
in both the regional and national economy. The northeast continues to be one of
the nation's weaker economic regions. Following three years of severe
economic contraction, however, the New England Region is slowly starting to pick
up the pieces. Through 1994, the Region recouped nearly one-third of the jobs
that had been lost through 1992. However, the quality of new jobs continues to
be below the quality of those lost to the recession. The northern tier states
of Maine, New Hampshire and Vermont have fared much better than Massachusetts
and Connecticut to the south, regaining over half of their job losses through
1994. The New England Economic Project Forecast suggest that slow growth will
be the norm in the region for the foreseeable future.
As is the case throughout the northeast, Maine's economy weakened
significantly from 1989 through 1991. By most measures, however, the State
economy reached bottom by the first quarter of 1992, at the latest, and has been
in a slow but sure recovery for nearly three years. The Maine economy continued
its slow-paced expansion through the first quarter of 1995, although there is
mounting evidence that it may have stalled during the second quarter. From the
latter 3 quarters of 1992 through February
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1995, nearly all measures of the Maine economy showed improvement. The Maine
Economic Growth Index (the "EGI") for 1994 was up 2.6% over 1993. The EGI, a
seasonally adjusted composite of resident employment, real taxable consumer
retail sales, production hours worked in manufacturing, and services employment,
shows an economy that through the first two months of 1995, experienced a 3.14%
rate of growth. While improved, however, the 3.14% rate of growth has been
below normal for the beginning of an economic expansion. Nevertheless, it
compares favorably with the 1.1% growth rate experienced during 1993. The EGI
reached 108.8 at the end of February 1995. The spring 1995 State Planning
Office forecast for Maine calls for payroll employment growth of 1.4%, 1.3%, and
1.3% in 1995, '96, and '97, with real (inflation adjusted) personal income
growth over the same period of 2.3%, 1.8%, and 2.1%.
The State experienced only a 0.7% decline in the jobless rate through 1994.
Maine's unemployment rate is forecast to continue its slow descent from 8% in
1993 to the 6% range by 1997. There has been some modest growth in jobs during
1994, primarily in the services, retail trade and construction areas. The
payroll employment figures for October 1994 indicated a 1.4% increase over 1993
average numbers. Unemployment in February 1995 equaled 5.5%. Unfortunately,
the Maine Economic Growth Index (EGI) cannot be used to give us a good measure
on the rate of overall growth because of data inaccuracies in one of its
components. Although a number of weaknesses in the Maine economy have cropped
up recently, they are not expected to derail the expansion over the longer term.
Despite the continued weakness in the labor market, Maine taxable retail
sales increased through September 1994 after hitting bottom in the first quarter
of 1991. Taxable consumer retail sales for the first quarter 1995 increased
6.0% over the same period in 1994. A substantial portion of the total retail
sales increase was attributable to the building supply sector (up 15% over the
same quarter in 1994). Over the first 3 quarters of 1994, automobile
transportation and building supplies were up 14.3% and 8%, respectively, over
the same period in 1993. Of some concern, however, is the apparent flattening
of consumer retail sales figures since September 1994.
Construction contract awards were up 9.5% for the first ten months of 1994,
with non-building awards accounting for a large share of the growth. The non-
building sector includes roads, bridges, treatment plants and the like. Housing
permits rebounded strongly during the year, with 36% more permits through
October 1994 as measured for the same periods in 1993. One weak spot noted in
the Maine economy over recent months, however, is a declining trend in housing
permits since October 1994. The real estate sector saw significant improvement,
but construction was quite weak. According to the Institute for Real Estate
Research and Education, the number of housing units sold through 1994 increased
approximately 3% over 1993. In addition, residential sales for portions of
Southern Maine through May, 1995 decreased 22% compared to the same period in
1994. The Maine Advancement Program reported $887,600,000 in total construction
contract awards for multi-unit projects during the first ten months of 1994, a
9.5% increase from the same period of 1993.
Among other weak spots noted in the Maine economy over recent months are
rising bankruptcy rates since December 1994, a downward trend in auto sector
retail sales since August 1994, a flattening trend of building supply sales
since last fall, and the fact that Maine payroll employment (seasonally
adjusted) through June had made no progress since April; there was a decline in
May and the loss was barely recovered in June.
If the State economy did in fact flatten during the second quarter, however,
it should come as no surprise since national economic growth was only 0.5% and
Maine's economy has been lagging the nation's since the past recession which
ended in March of 1991.
However, since the national economy is widely expected to gain steam during
the current quarter, we are confident that Maine's economy will likewise take a
turn for the better.
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An important unresolved question concerning the State's economy continues to
be how the restructuring of the United States military will affect defense
related industries in Maine. Loring Air Force Base ("LAFB") officially closed
its doors as a military base on September 30, 1994, although most of the planes
and personnel had been reassigned as much as a year earlier. The Loring
Development Authority has begun the task of attracting public and private
business to the facility. Base clean-up operations have begun and are expected
to take several years to complete. The base closing, coupled with the shutdown
of the Backscatter radar system in Bangor, will mean the loss of a substantial
amount of military and civilian jobs in the region. Recent news has been more
favorable. The selection of LAFB as a Defense Finance and Administration State
and a JOBS Corps site mitigate the employment loss. In addition, although it
will continue to downsize through 1995, Bath Iron Works, the State's largest
employer, landed a major ship building contract for the construction of three
Aegis Class Destroyers by 1998, bringing the yard's construction backlog to $2.4
billion. In addition, in August 1995, BIW was acquired by General Dynamics
Corp. for $300 million. Another major employer, the Portsmouth Naval Shipyard
in Kittery, Maine staffed almost completely be a civilian work force, has taken
drastic steps over the past year to become more competitive and efficient, and
is considering re-focussing its mission and role in submarine repair. The
shipyard laid off nearly one thousand workers in 1994, helping to shrink its
staffing level by half from the eight thousand workers employed in the 1980's.
It is now considering additional layoffs of approximately 450 additional
employees. These measures paid off recently when the U.S. Base Closure
Commission announced in mid-1955 that the Ship Yard would not be on its base
closing list.
There can be no assurances that the economic conditions discussed above will
not have an adverse effect upon the market value or marketability of any of the
debt obligations acquired by the Maine Trust or the financial or other condition
of any of the issuers of such obligations.
State Finances and Budget. On November 8, 1994, Maine Citizens elected an
Independent candidate to be Governor of the State. The voters also elected a
Republican controlled Senate and a Democrat controlled House of Representatives.
The most immediate issue confronting the new Government is a preliminary 1996-97
biannual budget that exceeds expected revenues by nearly four hundred million
dollars. The State operates under a biennial budget which is formulated by the
Governor and the State Budget Office in even-numbered years and presented for
approval to the Legislature in odd-numbered years. The economic strength
evidenced during the 1980's enabled the State to accumulate high levels of
general fund unappropriated surpluses. These surpluses, however, have been
exhausted during the recent downturn. Economic conditions continue to place
financial strain upon the State's budget.
The State Auditor had taken the position that significant adjusting entries
necessary to report the financial condition of the State and the results of
operations of the State in accordance with generally accepted accounting
principles have not been included in the State Controller's annual financial
reports. The Department of Audit has included those adjusting entries approved
by the Department of Administrative and Financial Services and the State
Controller in the audited financial statements that are part of the single audit
report prepared by the Department of Audit. Therefore, amounts set forth in the
State controller's annual financial reports may not agree with amounts reported
in the single audit reports of the Department of Audit.
In addition, the Department of Audit has qualified its most recent audit
opinion on the adjusted financial statements of the State because of certain
departures from generally accepted accounting principles. The most recent
single audit report prepared by the Department of Audit is for the fiscal year
ended June 30, 1993. Without limiting the generality of the foregoing, the
Department of Audit has determined that there was a deficit balance in the
General Fund at June 30, 1993 equal to $146,945,000, on the basis of generally
accepted accounting principles. The Department of Audit also determined, on the
basis of generally accepted accounting principles, that there were deficit
balances in the General Fund at June 30, 1991 equal to $69,582,000 and at June
30, 1992 equal to $103,559,000. There can be no assurance that there will not
be deficit balances in the General Fund in future fiscal years greater than the
deficit balance in the General Fund at June 30, 1993. The State Auditor's
report for the fiscal year ending
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June 30, 1994 has not been commenced. As of the date hereof, there are no plans
to audit the financial statements of the General Fund for the fiscal year ended
June 30, 1994.
The budget passed during the summer of 1993 for the 1994-95 biennium included
additional budget balancing measures, including making permanent the previously
temporary 6% sales tax, deferring $102,000,000 in payments to the Maine State
Retirement System, and assorted program cutting and cost shifting. With little
growth projected for the Maine economy in the next few years, additional
measures may become necessary to maintain a balanced budget.
The State of Maine is currently confronted with a projected budget gap of
approximately $375 million through June of 1997. The State Budget Officer has
projected revenues for the two years starting July 1, 1994 at $3.4 billion
versus recommended spending for current services at $3.6 billion, creating a
shortfall of more than $209,000,000. Other projected spending, most notably an
$110 million item related to Medicaid reimbursements, would raise the budget gap
to $375 million.
The projection does not include $465 million in new spending sought by the
State for expanded service, such as new programs for the mentally ill required
by a court order issued by the United States District Court for the district of
Maine. The projection also does not include any money to fund a State employee
pact when the current contract expires on June 30, 1995.
Finally, a recent decision of a State Superior Court holding that the State
could not tax chemicals used to control pollution, means that the State no
longer can count on collecting approximately $75 million in taxes that it had
expected to collect from Champion International. That decision is on appeal to
the State Supreme Court but the State Budget Office has advised against booking
the money as revenue.
These deficit numbers are based on current projections and assumptions. A
new administration has assumed governing responsibilities following the 1994
elections. The new administration's budget for fiscal years 1996 and 1997 was
delivered to the Legislature on February 10, 1995. The Governor's budget
proposes, for fiscal year 1996, General Fund expenditures of $1,713,265,869 and
Highway Fund expenditures of $228,130,350 and, for fiscal year 1997, General
Fund expenditures of $1,777,979,692 and Highway Fund expenditures of
$218,792,529. The Governor has proposed the establishment of a task force to
make recommendations for effectively reducing the number of State employees.
The Governor has also proposed the creation, within the General Fund, of a
budget stabilization fund to set aside revenues in excess of an index of real
economic growth to be used only during periods of economic downturn. The
proposed budget leaves responsibility for the $110 million Medicaid
reimbursement shortfall on the hospitals involved. The proposal also requires
that the court ordered payments for the mentally ill be made within existing
resources.
The financial condition of the State is, in large measure, a function of the
state's and the region's economy and no assurances can be given regarding the
future economy or financial condition of the State.
The State of Maine's outstanding general obligations continues to be rated
AA+ by Standard & Poor's and Aa by Moody's.
As of March 31, 1995, there was outstanding approximately $464,510,000
general obligation bonds of the State and $31,900,000 bond anticipation notes.
Such notes were selected to mature on June 1, 1995. As of May 1, 1995, there
were outstanding $175,000,000 of tax anticipation notes of the State, to mature
June 30, 1995. As of March 31, 1995, there were authorized by the voters of the
State for certain purposes, but unissued, bonds in the aggregate principal
amount of $98,150,600. As of March 31, 1995, the aggregate principal amount of
bonds of the State authorized by the Constitution and implementing legislation
for certain purposes, but unissued, was $99,000,000. Although increasing, the
major rating agencies still consider debt to be at manageable levels.
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Lease-Purchase Agreements. From time to time, the State enters into lease-
purchase agreements for the purpose of acquiring capital equipment and
buildings. A lease-purchase agreement is secured solely by the equipment or
building which is the subject of such agreement. It is not a pledge of the full
faith and credit of the State. Lease payment and obligations are subject to
appropriation by the Legislature. In certain instances, the State has issued
certificates of participation in the lease payments to be made pursuant to
certain lease-purchase agreements. As of March 31, 1995, the aggregate
principal amount of certificates of participation outstanding was $38,460,000.
Litigation. The State is a party to numerous lawsuits. Such lawsuits
include actions to recover monetary damages from the State, disputes over
individual or corporate income taxes, disputes over sales or use taxes, and
actions to alter the regulations or administrative practices of the State in
such manner as to cause additional costs to the State. The Department of the
Attorney General is not aware of any pending or threatened litigation of claim
against the State, the outcome of which will, in his opinion, have a material
adverse effect on the financial condition of the State.
In 1994, as part of its plan to comply with the federal Clean Air Act, the
State entered into an agreement with a company pursuant to which the company
agreed to acquire, construct and operate, for seven years, facilities at which
automobiles licensed by the State would be tested for compliance with federal
air emission standards and the State agreed that the company could collect from
the automobile owners fees for performing the tests. The facilities began
operation on a trial basis in late 1994. The Governor then postponed the
effective date for commencement of mandatory testing and asked interested
persons to propose modifications to the State's Clean Air Act compliance plan.
On April 13, 1995, the Governor announced that he would, after approval by
appropriate state authorities, file with the U.S. Environmental Protection
Agency (the "USEPA") a modified Clean Air Act compliance plan which would not
require automobile emission testing. The modified plan, after approval by
appropriate state authorities, is subject to immediate review by a court of
competent jurisdiction for failure to comply with the federal Clean Air Act.
The modified plan has not been approved by the USEPA and any action by the USEPA
on the plan is subject to modification by a court of competent jurisdiction.
The company has stated that, if it is not permitted to operate its testing
facilities for the seven-year term of its agreement with the State, it will sue
the State for breach of contract and seek recovery of its damages which the
company believes are approximately $40,000,000. In the opinion of the
Department of the Attorney General of the State, the State has substantial
defenses to the threatened claim of the company and the outcome of any such
claim would not have a material adverse effect of the financial condition of the
State.
Maine Municipal Bond Bank. The Portfolio may contain obligations of the
Maine Municipal Bond Bank. All Bond Bank debt is secured by loan repayments of
borrowing municipalities and the State's moral obligation pledge. The state of
the economy in Maine could impact the ability of municipalities to pay debt
service on their obligations. Maine Bond Bank debt is rated A+ by Standard &
Poor's and Aa by Moody's.
Solid Waste Disposal Facilities. The Portfolio may contain obligations
issued by Regional Waste Systems, Inc., a quasi-municipal corporation organized
pursuant to an interlocal agreement among approximately 20 Southern Maine
communities ("RWS") or other quasi-municipal solid waste disposal facilities.
RWS and other similar solid waste disposal projects operate regional solid waste
disposal facilities and process the solid waste of the participating
municipalities as well as the solid waste of other non-municipal users. The
continued viability of such facilities is dependent, in part, upon the approach
taken by the State of Maine with respect to solid waste disposal generally.
Pursuant to a Public Law 1989 Chapter 585, the Maine Waste Management Agency is
charged with preparation and adoption by rule of an analysis and a plan for the
management, reduction and recycling of solid waste for the State of Maine. The
plan developed by the Maine Waste Management Agency is based on the waste
management priorities and recycling goals established by State law. Pursuant to
State law, Maine has established minimum goals for recycling and composting
requiring that a minimum of 50% of the municipal solid waste stream be recycled
or composted by 1994. Although RWS may participate in the mandated recycling
activities, its
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principal existing facility consists of a mass burn 250 ton per day furnace
boiler with associated equipment for production of electric energy. Thus, the
source material for RWS' primary facility could be substantially reduced as a
result of implementation of the State's recycling goals. Other mass burn solid
waste disposal facilities in the State have experienced seasonal shortages in
waste fuel.
Health Care Facilities. Revenue bonds are issued by the Maine Health and
Higher Education Facilities Authority to finance hospitals and other health care
facilities. The revenues of such facilities consists, in varying but typically
material amounts, of payment from insurers and third-party reimbursement
programs, including Medicaid, Medicare and Blue Cross. The health care industry
in Maine is becoming increasingly competitive. The utilization of new programs
and modified benefits by third-party reimbursement programs and the advent of
alternative health care delivery systems such as health maintenance
organizations contribute to the increasingly competitive nature of the health
care industry. This increase in competition could adversely impact the ability
of health care facilities in Maine to satisfy their financial obligations.
Further, health care providers are subject to regulatory actions, changes in
law and policy changes by agencies that administer third-party reimbursement
programs and regulate the health care industry. Any such changes could
adversely impact the financial condition of such facilities.
THE MARYLAND TRUST
RISK FACTORS--State Debt. The Public indebtedness of the State of Maryland
and its instrumentalities is divided into three general types. The State issues
general obligation bonds for capital improvements and for various State projects
to the payment of which the State ad valorem property tax is exclusively
pledged. In addition, the Maryland Department of Transportation issues for
transportation purposes its limited, special obligation bonds payable primarily
from specific, fixed-rate excise taxes and other revenues related mainly to
highway use. Certain authorities issue obligations payable solely from specific
non-tax, enterprise fund revenues and for which the State has no liability and
has given no moral obligation assurance. The State and certain of its agencies
also have entered into a variety of lease purchase agreements to finance the
acquisition of capital assets. These lease agreements specify that payments
thereunder are subject to annual appropriation by the General Assembly.
General Obligation Bonds. General obligation bonds of the State are
authorized and issued primarily to provide funds for State-owned capital
improvements, including institutions of higher learning, and the construction of
locally owned public schools. Bonds have also been issued for local government
improvements, including grants and loans for water quality improvement projects
and correctional facilities, and to provide funds for repayable loans or
outright grants to private, non-profit cultural or educational institutions.
The Maryland Constitution prohibits the contracting of State debt unless it
is authorized by a law levying an annual tax or taxes sufficient to pay the debt
service within 15 years and prohibiting the repeal of the tax or taxes or their
use for another purpose until the debt is paid. As a uniform practice, each
separate enabling act which authorizes the issuance of general obligation bonds
for a given object or purpose has specifically levied and directed the
collection of an ad valorem property tax on all taxable property in the State.
The Board of Public Works is directed by law to fix by May 1 of each year the
precise rate of such tax necessary to produce revenue sufficient for debt
service requirements of the next fiscal year, which begins July 1. However, the
taxes levied need not be collected if or to the extent that funds sufficient for
debt service requirements in the next fiscal year have been appropriated in the
annual State budget. Accordingly, the Board, in annually fixing the rate of
property tax after the end of the regular legislative session in April, takes
account of appropriations of general funds for debt service.
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In the opinion of counsel, the courts of Maryland have jurisdiction to
entertain proceedings and power to grant mandatory injunctive relief to (i)
require the Governor to include in the annual budget a sufficient appropriation
to pay all general obligation bond debt service for the ensuing fiscal year;
(ii) prohibit the General Assembly from taking action to reduce any such
appropriation below the level required for that debt service; (iii) require the
Board of Public Works to fix and collect a tax on all property in the State
subject to assessment for State tax purposes at a rate and in an amount
sufficient to make such payments to the extent that adequate funds are not
provided in the annual budget; and (iv) provide such other relief as might be
necessary to enforce the collection of such taxes and payment of the proceeds of
the tax collection to the holders of general obligation bonds, pari passu,
subject to the inherent constitutional limitations referred to below.
It is also the opinion of counsel that, while the mandatory injunctive
remedies would be available and while the general obligation bonds of the State
are entitled to constitutional protection against the impairment of the
obligation of contracts, such constitutional protection and the enforcement of
such remedies would not be absolute. Enforcement of a claim for payment of the
principal of or interest on the bonds could be subject to the provisions of any
statutes that may be constitutionally enacted by the United States Congress or
the Maryland General Assembly extending the time for payment or imposing other
constraints upon enforcement.
There is no general debt limit imposed by the Maryland Constitution or public
general laws, but a special committee created by statute annually submits to the
Governor an estimate of the maximum amount of new general obligation debt that
prudently may be authorized. Although the committee's responsibilities are
advisory only, the Governor is required to give due consideration to the
committee's findings in preparing a preliminary allocation of new general debt
authorization for the next ensuing fiscal year.
Department of Transportation Bonds. Consolidated Transportation Bonds are
limited obligations issued by the Maryland Department of Transportation, the
principal of which must be paid within 15 years from the date of issue, for
highway, port, transit, rail or aviation facilities or any combination of such
facilities. Debt service on Consolidated Transportation Bonds is payable from
those portions of the excise tax on each gallon of motor vehicle fuel and the
motor vehicle titling tax, all mandatory motor vehicle registration fees, motor
carrier fees, and the corporate income tax as are credited to the Maryland
Department of Transportation, plus all departmental operating revenues and
receipts. Holders of such bonds are not entitled to look to other sources for
payment.
The Maryland Department of Transportation also issues its bonds to provide
financing of local road construction and various other county transportation
projects and facilities. Debt service on these bonds is payable from the
subdivisions' share of highway user revenues held to their credit in a special
State fund.
The Maryland Transportation Authority operates certain highway, bridge and
tunnel toll facilities in the State. The tolls and other revenues received from
these facilities are pledged as security for revenue bonds of the Authority
issued under and secured by a trust agreement between the authority and a
corporate trustee.
Maryland Stadium Authority Bonds. The Maryland Stadium Authority is
responsible for financing and directing the acquisition and construction of one
or more new professional sports facilities in Maryland. Currently, the Stadium
Authority operates the newly opened Oriole Park at Camden Yards which opened in
1992.
In connection with the construction of that facility, the Authority issued
$155 million in notes and bonds. These notes and bonds, as well as any future
financing for a football stadium, are lease-backed revenue obligations, the
payment of which is secured by, among other things, an assignment of revenues
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received under a lease of the sports facilities from the Stadium Authority to
the State. The Stadium Authority also has been assigned responsibility for
constructing an expansion of the Convention Center in Baltimore. The Convention
Center expansion is expected to cost $155 million and will be financed through a
combination of funding from Baltimore City, Stadium Authority revenue bonds, and
State general obligation bonds.
Miscellaneous Revenue and Enterprise Financings. Certain other
instrumentalities of the State government are authorized to borrow money under
legislation which expressly provides that the loan obligations shall not be
deemed to constitute a 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 Board of Trustees of St. Mary's College of Maryland,
the Maryland Environmental Service, the Board of Regents of the University of
Maryland System, the Board of Regents of Morgan State University, and the
Maryland Food Center Authority have issued and have outstanding bonds of this
type. The principal of and interest on bonds issued by these bodies are payable
solely from various sources, principally fees generated from use of the
facilities or enterprises financed by the bonds.
The Water Quality Revolving Loan Fund is administered by the Water Quality
Financing Administration in the Department of the Environment. The Fund may be
used to provide loans, subsidies and other forms of financial assistance to
local government units for wastewater treatment projects as contemplated by the
1987 amendments to the federal Water Pollution Control Act. The Administration
is authorized to issue bonds secured by revenues of the Fund, including loan
repayments, federal capitalization grants, and matching State grants.
The University of Maryland System, Morgan State University, and St. Mary's
College of Maryland are authorized to issue revenue bonds for the purpose of
financing academic and auxiliary facilities. Auxiliary facilities are any
facilities that furnish a service to students, faculty, or staff, and that
generate income. Auxiliary facilities include housing, eating, recreational,
campus, infirmary, parking, athletic, student union or activity, research
laboratory, testing, and any related facilities.
On August 7, 1989, the Governor issued an Executive Order assigning to the
Department of Budget and Fiscal Planning responsibility to review certain
proposed issuances of revenue and enterprise debt other than private activity
bonds. The Executive Order also provides that the Governor may establish a
ceiling of such debt to be issued during the fiscal year, which ceiling may be
amended by the Governor.
Although the State has authority to make short-term borrowings in
anticipation of taxes and other receipts up to a maximum of $100 million, in the
past it has not issued short-term tax anticipation and bond anticipation notes
or made any other similar short-term borrowings. However, the State has issued
certain obligations in the nature of bond anticipation notes for the purpose of
assisting several savings and loan associations in qualifying for Federal
insurance and in connection with the assumption by a bank of the deposit
liabilities of an insolvent savings and loan association.
Lease and Conditional Purchase Financings. The State has financed the
construction and acquisition of various facilities through conditional purchase,
sale-leaseback, and similar transactions. All of the lease payments under these
arrangements are subject to annual appropriation by the Maryland General
Assembly. In the event that appropriations are not made, the State may not be
held contractually liable for the payments.
Ratings. The general obligation bonds of the State of Maryland have been
rated by Moody's Investors Service, Inc. as Aaa, by Standard & Poor's
Corporation as AAA, and by Fitch Investors Service, Inc. as AAA.
Local Subdivision Debt. The counties and incorporated municipalities in
Maryland issue general obligation debt for general governmental purposes. The
general obligation debt of the counties and
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incorporated municipalities is generally supported by ad valorem taxes on real
estate, tangible personal property and intangible personal property subject to
taxation. The issuer typically pledges its full faith and credit and unlimited
taxing power to the prompt payment of the maturing principal and interest on the
general obligation debt and to the levy and collection of the ad valorem taxes
as and when such taxes become necessary in order to provide sufficient funds to
meet the debt service requirements. The amount of debt which may be authorized
may in some cases be limited by the requirement that it not exceed a stated
percentage of the assessable base upon which such taxes are levied.
In the opinion of counsel, the issuer may be sued in the event that it fails
to perform its obligations under the general obligation debt to the holders of
the debt, and any judgments resulting from such suits would be enforceable
against the issuer. Nevertheless, a holder of the debt who has obtained any
such judgment may be required to seek additional relief to compel the issuer to
levy and collect such taxes as may be necessary to provide the funds from which
a judgment may be paid. Although there is no Maryland law on this point, it is
the opinion of counsel that the appropriate courts of Maryland have jurisdiction
to entertain proceedings and power to grant additional relief, such as a
mandatory injunction, if necessary, to enforce the levy and collection of such
taxes and payment of the proceeds of the collection of the taxes to the holders
of general obligation debt, pari passu, subject to the same constitutional
limitations on enforcement, as described above, as apply to the enforcement of
judgments against the State.
Local subdivisions, including counties and municipal corporations, are also
authorized by law to issue special and limited obligation debt for certain
purposes other than general governmental purposes. The source of payment of
that debt is limited to certain revenues of the issuer derived from commercial
activities operated by the issuer, payments made with respect to certain
facilities or loans, and any funds pledged for the benefit of the holders of the
debt. That special and limited obligation debt does not constitute a debt of
the State, the issuer or any other political subdivision of either within the
meaning of any constitutional or statutory limitation. Neither the State nor
the issuer or any other political subdivision of either is obligated to pay the
debt or the interest on the debt except from the revenues of the issuer
specifically pledged to the payment of the debt. Neither the faith and credit
nor the taxing power of the State, the issuer or any other political subdivision
of either is pledged to the payment of the debt. The issuance of the debt is
not directly or indirectly or contingently an obligation, moral or other, of the
State, the issuer or any other political subdivision of either to levy any tax
for its payment.
Washington Suburban Sanitary District Debt. The Washington Suburban Sanitary
District operates as a public corporation of the State to provide, as
authorized, water, sewerage and drainage systems, including water supply, sewage
disposal, and storm water drainage facilities for Montgomery County, Maryland
and Prince George's County, Maryland. For the purpose of paying the principal
of and interest on bonds of the District, Maryland law provides for the levy,
annually, against all the assessable property within the District by the County
Council of Montgomery County and the County Council of Prince George's County of
ad valorem taxes sufficient to pay such principal and interest when due and
payable.
Storm water drainage bonds for specific projects are payable from an ad
valorem tax upon all of the property assessed for county tax purposes within the
portion of the District situated in the county in which the storm water project
was, or is to be, constructed. Storm water drainage bonds of the District are
also guaranteed by such county, which guaranty operates as a pledge of the full
faith and credit of the county to the payment of the bonds and obligates the
county council, to the extent that the tax revenues referred to above and any
other money available or to become available are inadequate to provide the funds
necessary to pay the principal of and the interest on the bonds, to levy upon
all property subject to taxation within the county ad valorem taxes in rate and
in amount sufficient to make up any such deficiency.
Substantially all of the debt service on the bonds, except storm water
drainage bonds, is being paid from revenues derived by the District from water
consumption charges, front foot benefit charges, and sewage usage charges.
Notwithstanding the payment of principal of and interest on those bonds from
those
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charges, the underlying security of all bonds of the District is the levy of ad
valorem taxes on the assessable property as stated above.
Special Authority Debt. The State and local governments have created several
special authorities with the power to issue debt on behalf of the State or local
government for specific purposes, such as providing facilities for non-profit
health care and higher educational institutions, facilities for the disposal of
solid waste, funds to finance single family and low-to-moderate income housing,
and similar purposes. The Maryland Health and Higher Educational Facilities
Authority, the Northeast Maryland Waste Disposal Authority, the Housing
Opportunities Commission of Montgomery County, and the Housing Authority of
Prince George's County are some of the special authorities which have issued and
have outstanding debt of this type.
The debts of the authorities issuing debt on behalf of the State and the
local governments are limited obligations of the authorities payable solely from
and secured by a pledge of the revenues derived from the facilities or loans
financed with the proceeds of the debt and from any other funds and receipts
pledged under an indenture with a corporate trustee. The debt does not
constitute a debt, liability or pledge of the faith and credit of the State or
of any political subdivision or of the authorities. Neither the State nor any
political subdivision thereof nor the authorities shall be obligated to pay the
debt or the interest on the debt except from such revenues, funds and receipts.
Neither the faith and credit nor the taxing power of the State or of any
political subdivision of the State or the authorities is pledged to the payment
of the principal of or the interest on such debt. The issuance of the debt is
not directly or indirectly an obligation, moral or other, of the State or of any
political subdivision of the State or of the authority to levy or to pledge any
form of taxation whatsoever, or to make any appropriation, for their payment.
The authorities have no taxing power.
Hospital Bonds. The rates charged by non-governmental Maryland hospitals are
subject to review and approval by the Maryland Health Services Cost Review
Commission. Maryland hospitals subject to regulation by the Commission are not
permitted to charge for services at rates other than those established by the
Commission. In addition, the Commission is required to permit any nonprofit
institution subject to its jurisdiction to charge reasonable rates which will
permit the institution to provide, on a solvent basis, effective and efficient
service in the public interest.
Under an agreement between Medicare and the Commission, Medicare agrees to
pay Maryland hospitals on the basis of Commission-approved rates, less a 6%
differential. Under this so-called "Medicare Waiver", Maryland hospitals are
exempt from the Medicare Prospective Payment System which pays hospitals fixed
amounts for specific services based upon patient diagnosis. No assurance can be
given that Maryland will continue to meet any current or future tests for the
continuation of the Medicare Waiver.
In setting hospital rates, the Commission takes into account each hospital's
budgeted volume of services and cash financial requirements for the succeeding
year. It then establishes the rates of the hospital for the succeeding year
based upon the projected volume and those financial requirements of the
institution which the Commission has deemed to be reasonable. Financial
requirements allowable for inclusion in rates generally include budgeted
operating costs, a "capital facilities allowance", other financial
considerations (such as charity care and bad debts) and discounts allowed
certain payors for prompt payment. Variations from projected volumes of
services are reflected in the rates for the succeeding year. The Commission, on
a selective basis by the application of established review criteria, grants
Maryland hospitals increases in rates to compensate for inflation experienced by
hospitals and for other factors beyond the hospitals' control.
Regulations of the Commission provide that overcharges will in certain
circumstances be deducted from prospective rates. Similarly, undercharges will
in certain circumstances not be recoverable through prospective rates.
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The Commission has entered into agreements with certain hospitals to adjust
rates in accordance with a prospectively approved, guaranteed inpatient revenue
per admission program. Those agreements are in addition to the rate adjustment
methodology discussed above. Under the program, a hospital's revenue per
admission is compared to the revenue per admission, as adjusted, for a base
year. Variations from the adjusted base year revenues per admission are added
or deducted, as the case may be, from the hospital's gross revenue and rates for
the following year.
There can be no assurance that the Commission will continue to utilize its
present rate-setting methodology or approve rates which will be sufficient to
ensure payment on an individual hospital's obligations. Future actions by the
Commission or the loss of the Medicare Waiver may adversely affect the
operations of individual hospitals.
Other Risk Factors. The manufacturing sector of Maryland's economy, which
historically has been a significant element of the State's economic health, has
experienced severe financial pressures and an overall contraction in recent
years. This is due in part to the reduction in defense-related contracts and
grants, which has had an adverse impact that is substantial and is believed to
be disproportionately large compared with the impact on most other states. The
State has endeavored to promote economic growth in other areas, such as
financial services, health care and high technology. Whether the State can
successfully make the transition from an economy reliant on heavy industries to
one based on service-and science-oriented businesses is uncertain. Moreover,
future economic difficulties in the service sector and high technology
industries could have an adverse impact on the finances of the State and its
subdivisions, and could adversely affect the market value of the Bonds in the
Maryland Trust or the ability of the respective obligors to make payments of
interest and principal due on such Bonds.
The State and its subdivisions, and their respective officers and employees,
are defendants in numerous legal proceedings, including alleged torts and
breaches of contract and other alleged violations of laws. Adverse decisions in
these matters could require extraordinary appropriations not budgeted for, which
could adversely affect the ability to pay obligations on indebtedness.
THE MASSACHUSETTS TRUST
RISK FACTORS--The Commonwealth of Massachusetts and certain of its cities and
towns have at certain times in the recent past undergone serious financial
difficulties which have adversely affected and, to some degree, continue to
adversely affect their credit standing. These financial difficulties could
adversely affect the market values and marketability of, or result in default in
payment on, outstanding bonds issued by the Commonwealth or its public
authorities or municipalities, including the Debt Obligations deposited in the
Trust. The following description highlights some of the more significant
financial problems of the Commonwealth and the steps taken to strengthen its
financial condition.
The effect of the factors discussed below upon the ability of Massachusetts
issuers to pay interest and principal on their obligations remains unclear and
in any event may depend on whether the obligation is a general or revenue
obligation bond (revenue obligation bonds being payable from specific sources
and therefore generally less affected by such factors) and on what type of
security is provided for the bond. In order to constrain future debt service
costs, the Executive Office for Administration and Finance established in
November, 1988 an annual fiscal year limit on capital spending of $925 million,
effective fiscal 1990. In January, 1990, legislation was enacted to impose a
limit on debt service in Commonwealth budgets beginning in fiscal 1991. The law
provides that no more than 10% of the total appropriations in any fiscal year
may be expended for payment of interest and principal on general obligation debt
of the Commonwealth (excluding the Fiscal Recovery Bonds discussed below). It
should also be noted that Chapter 62F of the Massachusetts General Laws
establishes a state tax revenue growth limit for each fiscal year equal to the
average positive rate of growth in total wages and salaries in the Commonwealth,
as reported by the federal government, during the three calendar years
immediately preceding the end of such
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fiscal year. The limit could affect the Commonwealth's ability to pay principal
and interest on its debt obligations. It is possible that other measures
affecting the taxing or spending authority of Massachusetts or its political
subdivisions may be approved or enacted in the future.
The Commonwealth has waived its sovereign immunity and consented to be sued
under contractual obligations including bonds and notes issued by it. However,
the property of the Commonwealth is not subject to attachment or levy to pay a
judgment, and the satisfaction of any judgment generally requires legislative
appropriation. Enforcement of a claim for payment of principal of or interest
on bonds and notes of the Commonwealth may also be subject to provisions of
federal or Commonwealth statutes, if any, hereafter enacted extending the time
for payment or imposing other constraints upon enforcement, insofar as the same
may be constitutionally applied. The United States Bankruptcy Code is not
applicable to states.
Cities and Towns. During recent years limitations were placed on the taxing
authority of certain Massachusetts governmental entities that may impair the
ability of the issuers of some of the Debt Obligations in the Massachusetts
Trust to maintain debt service on their obligations. Proposition 2 1/2, passed
by the voters in 1980, led to large reductions in property taxes, the major
source of income for cities and towns. Between fiscal 1981 and fiscal 1994, the
aggregate property tax levy grew from $3.347 billion to $5.464 billion,
representing an increase of approximately 63%. By contrast, according to
federal Bureau of Labor Statistics, the Consumer price index for all urban
consumers in Boston grew during the same period by approximately 85%.
During the 1980's, the Commonwealth increased payments to its cities, towns
and regional school districts to mitigate the import of Proposition 2 1/2 on
local programs and services. Direct local aid decreased from $2.937 billion in
fiscal 1990 to $2.360 billion in 1992, increased to $2.547 billion in 1993 and
increased to $2.727 billion in fiscal 1994. It is estimated that fiscal 1995
expenditures for direct local aid will be $2.984 billion, which is an increase
of approximately 9.4% above the 1994 level. The additional amount of indirect
local aid provided over and above the direct local aid was approximately $2.069
billion in fiscal 1994. It is estimated that in fiscal 1995 approximately
$2.318 billion of indirect local aid will also be paid. The Governor's proposed
fiscal 1996 budget includes approximately $3.222 billion and $2.585 billion of
direct local aid and indirect local aid, respectively.
Many communities have responded to the limitations imposed by Proposition 2
1/2 through statutorily permitted overrides and exclusions. Override activity
peaked in fiscal 1991, when 182 communities attempted votes on one of the three
types of referenda questions (override of levy limit, exclusion of debt service,
or exclusion of capital expenditures) and 100 passed at least one question,
adding $58.5 million to their levy limits. In fiscal 1992, 65 communities had
successful votes totalling $31.0 million. In fiscal 1993, 59 communities added
$16.3 million through override votes and in fiscal 1994, only 48 communities had
successful override referenda which added $8.4 million to their levy limits.
Capital exclusions were passed by 20 communities in 1994 and totalled $1.3
million. In fiscal 1994, the impact of successful debt exclusion votes going
back as far as fiscal 1983, was to raise the levy limits of 208 communities by
$119 million.
A statewide voter initiative petition which would effectively mandate that,
commencing with fiscal 1992, no less than 40% of receipts from personal income
taxes, sales and use taxes, corporate excise taxes and lottery fund proceeds be
distributed to certain cities and towns in local aid was approved in the general
election held November 6, 1990. Pursuant to this petition, the local aid
distribution to each city or town was to equal no less than 100% of the total
local aid received for fiscal 1989. Distributions in excess of fiscal 1989
levels were to be based on new formulas that would replace the current local
aide distribution formulas. If implemented in accordance with its terms
(including appropriation of the necessary funds), the petition as approved would
shift several hundred million dollars to direct local aid. However, local aid
payments expressly remain subject to annual appropriation, and fiscal 1992,
fiscal 1993 and fiscal 1994 appropriations for local aid did not meet, and
fiscal 1995 appropriations for local aid do not meet, the levels set forth in
the initiative law.
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Pension Liabilities. Comprehensive pension funding legislation approved in
January, 1988 requires the Commonwealth to fund future pension liabilities
currently and to amortize the Commonwealth's accumulated unfunded liabilities
over 40 years. The unfunded actuarial accrued liability, as of January 1, 1993,
relative to the state employees' and teachers' systems and the State-Boston
retirement system, to Boston teachers and to the cost-of-living allowances for
local systems, is reported in the schedule to be approximately $7.445 billion,
$372.6 million and $1.833 billion, respectively, for a total unfunded actuarial
liability of $9.651 billion. As of December 31, 1994 the Commonwealth's pension
reserves had grown to approximately $4.925 billion. Prior to the establishment
of the pension program, the Commonwealth appropriated approximately $680 million
to pension reserves during the mid 1980's, in addition to the pay-as-you-go
pension costs during those years.
Annual payments under the funding schedule through fiscal 1998 must be at
least equal to the total estimated pay-as-you-go benefit cost in such year. As
a result of this requirement, the funding requirements for fiscal 1995, 1996,
1997 and 1998 are estimated to be increased to approximately $959.9 million,
$1.007 billion, $1.061 billion and $1.128 billion, respectively. Total pension
expenditures increased from $671.9 million in fiscal 1990 to $908.9 million in
1994. The pension expenditures for fiscal 1995 and fiscal 1996 are expected to
be approximately $994.3 million and $1.044 billion, respectively.
State Budget and Revenues. The Commonwealth's Constitution requires, in
effect, that its budget be balanced each year. The Commonwealth's fiscal year
ends June 30. The General Fund is the Commonwealth's primary operating fund; it
also functions as a residuary fund to receive otherwise unallocated revenues and
to provide monies for transfers to other funds as required. The condition of
the General Fund is generally regarded as the principal indication of whether
the Commonwealth's operating revenues and expenses are in balance; the other
principal operating funds (the Local Aid Fund and the Highway Fund) are
customarily funded to at least a zero balance.
Limitations on Commonwealth tax revenues have been established by enacted
legislation and by public approval of an initiative petition which has become
law. The two measures are inconsistent in several respects, including the
methods of calculating the limits and the exclusions from the limits. The
initiative petition does not exclude debt service on the Commonwealth's notes
and bonds from the limits. State tax revenues in fiscal 1990 through fiscal
1994 were lower than the limits. The Executive Office for Administration and
Finance currently estimates that state tax revenues will not reach the limit
imposed by either the initiative petition or the legislative enactment in fiscal
1995 and fiscal 1996.
Fiscal year 1990 resulted in total expenditures of approximately $13.260
billion. Budgeted revenues and other services for fiscal 1990 were
approximately $12.008 billion. Tax revenues for fiscal 1990 were approximately
$8.517 billion, a decrease of approximately $314 million or 3.6% from fiscal
1989. The Commonwealth suffered an operating loss of approximately $1.25
billion and ended fiscal 1990 with a budgetary deficit of $1.104 billion. The
Commonwealth had a cash surplus of $99.2 million on June 30, 1990 as a result of
deferring until fiscal 1991 the payment of approximately $1.26 billion of local
aid due June 30, 1990.
On July 28, 1990, the legislature enacted Chapter 151 which provides, among
other matters, for the Commonwealth Fiscal Recovery Loan Act of 1990 and grants
authorization for the Commonwealth to issue bonds in an aggregate amount up to
$1.42 billion for purposes of funding the Commonwealth's fiscal 1990 deficit and
certain prior year Medicaid reimbursement payments. Chapter 151 also provides
for the establishment of the Commonwealth Fiscal Recovery Fund, deposits for
which are derived from a portion of the Commonwealth's personal income tax
receipts, are dedicated for this purpose and are to be deposited in trust and
pledged to pay the debt service on these bonds. Under Chapter 151, the
Commonwealth issued $1.363 billion of Dedicated Income Tax Bonds to cover the
fiscal 1990 deficit.
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Fiscal 1991 budgeted expenditures were $13.655 billion. Total budgeted
revenues and other sources for fiscal 1991 were $13.634 billion, resulting in an
estimated $21 million operating loss. Application of the adjusted fiscal 1990
fund balances of $258.3 million resulted in a final fiscal 1991 budgetary
surplus of $237.1 million. State finance law required that approximately $59.2
million of the fiscal year surplus be placed in the Stabilization Fund described
above. Amounts credited to the Stabilization Fund are not generally available
to defray current year expenses without subsequent specific legislative
authorization.
After payment in full of the local aid distribution of $1.018 billion due on
June 28, 1991, retirement of all of the Commonwealth's outstanding commercial
paper and repayment of certain other short-term borrowings, as of the end of
fiscal 1991, the Commonwealth had a cash balance of $182.3 million. The fiscal
1991 year-end cash position compared favorably to the Commonwealth's cash
position at the end of the prior fiscal year, June 30, 1990, when the
Commonwealth's cash short-fall would have exceeded $1.1 billion had payment of
local aid not been postponed.
In fiscal 1992, Medicaid accounted for more than half of the Commonwealth's
appropriations for health care. It was the largest item in the Commonwealth's
budget and has been one of the fastest growing budget items. During fiscal
years 1990, 1991, 1992 and 1993, Medicaid expenditures were $2.121 billion,
$2.765 billion, $2.818 billion and $3.151 billion, respectively. The increase
from fiscal 1992 to fiscal 1993 resulted mainly from the one-time start-up costs
of a new managed care program for Medicaid recipients. Prior to fiscal 1994,
substantial Medicaid expenditures were provided through supplemental
appropriations because program requirements exceeded initial appropriation
amounts. In fiscal 1990, payments of approximately $488 million were made to
hospitals and nursing homes for rate settlements dating back as far as 1980,
through the Medical Assistance Liability Fund established to fund certain
Medicaid liabilities incurred, but not certified for payment, in prior years.
This amount is not factored into the annual total for Medicaid expenditures
listed above for fiscal year 1991 when expenditures of $194.2 million were made
to fund prior year provider settlements. Including retroactive provider
settlements, Medicaid expenditures for fiscal 1994 were $3.313 billion, an
increase of 5.1% over fiscal 1993 expenditures. The Executive Office for
Administration and Finance estimates that fiscal 1995 Medicaid expenditures will
be approximately $3.411 billion, an increase of 3.0% over fiscal 1994
expenditures. No supplemental appropriations were required in fiscal 1994 to
fund expenditures related to fiscal 1994 services and none are currently
anticipated in fiscal 1995. The Governor's fiscal 1996 budget recommends $3.431
billion for Medicaid expenditures.
In fiscal 1992 total revenues and other sources of the budgeted operating
funds totalled $13.728 billion, an increase over fiscal 1991 revenues of .7%.
(Actual fiscal 1992 tax revenues exceeded original estimates and totalled $9.484
billion, an increase over fiscal 1991 collections of 5.4%). Fiscal 1992
expenditures and other uses of budgeted operating funds totalled approximately
$13.420 billion, a decrease from fiscal 1991 expenditures by 1.7%. Fiscal year
1992 revenues and expenditures resulted in an operating gain of $312.3 million.
Through the use of the prior year ending fund balances of $312.3 million, fiscal
1992 budgetary fund balances totalled $549.4 million. Total fiscal 1992
spending authority continued into fiscal 1993 is $231.0 million.
After payment in full of the quarterly local aid distribution of $514 million
due on June 30, 1992, retirement of the Commonwealth's outstanding commercial
paper (except for approximately $50 million of bond anticipation notes) and
certain other short-term borrowings, as of June 30, 1992, the Commonwealth
showed a year-end cash position of approximately $731 million for fiscal year
1992. The ending balance compares favorably with the cash balance of $182.3
million at the end of fiscal 1991. The Commonwealth showed a year-end cash
position of $622.2 million and approximately $757 million for fiscal year 1993
and fiscal year 1994, respectively. The actual fiscal 1995 year-end cash
position was approximately $372 million, based on unaudited figures. The May 26,
1995 cash flow projection prepared by the office of the State Treasurer
estimates that the fiscal 1996 year-end cash position will be $528.1 million.
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The budgeted operating funds of the Commonwealth ended fiscal 1993 with a
surplus of revenues and other sources over expenditures and other uses of $13.1
million and aggregate ending fund balances in the budgeted operating funds of
the Commonwealth of approximately $562.5 million. Budgeted revenues and other
sources for fiscal 1993 totalled approximately $14.710 billion, including tax
revenues of $9.940 billion. Total revenues and other sources increased by
approximately 6.9% from fiscal 1992 to fiscal 1993, while tax revenues increased
by 4.7% for the same period.
Commonwealth budgeted expenditures and other uses in fiscal 1993 totalled
approximately $14.696 billion, which is $1.280 billion or approximately 9.6%
higher than fiscal 1992 expenditures and other uses.
Fiscal year 1994 tax revenue collections were $10.607 billion, $87 million
below the Department of Revenue's fiscal year 1994 tax revenue estimate of
$10.694 billion. Budgeted revenues and other sources, including non-tax
revenues, collected in fiscal 1994 totalled approximately $15.55 billion.
Budgeted expenditures and other uses of funds in fiscal 1994 were $15.523
billion.
In June, 1993, the Legislature adopted and the Governor signed in to law
comprehensive education reform legislation. This legislation required an
increase in expenditures for education purposes above fiscal 1993 base spending
of $1.288 billion of approximately $175 million in fiscal 1994. The Executive
Office for Administration and Finance expects the annual increases in
expenditures above the fiscal 1993 base spending of $1.288 billion to be
approximately $396 million in fiscal 1995, $625 million in fiscal 1996 and $868
million in fiscal 1997. Additional annual increases are also expected in later
fiscal years. The fiscal 1995 budget includes $396 million in appropriations to
satisfy this legislation.
The fiscal 1995 budget which, together with authorizations contained in the
final fiscal 1994 appropriations bill and expected supplemental appropriations
relating to welfare and certain other programs, currently provides for
approximately $16.352 billion in fiscal 1995 budgeted expenditures and other
uses.
Budgeted revenues and other sources to be collected in fiscal 1995 are
estimated by the Executive Office for Administration and Finance to be
approximately $16.35 billion. This amount includes estimated fiscal 1995 tax
revenues of $11.165 billion, which has been subsequently reduced to $11.151
billion. The fiscal 1995 budget is based on numerous spending and revenue
estimates, the achievement of which cannot be assured. The Executive Office for
Administration and Finance currently estimates fiscal 1995 total revenues and
other sources to be approximately $16.719 billion and total expenditures and
other uses to be approximately $16.672 billion.
On January 24, 1995, the Governor submitted his fiscal 1996 budget
recommendations to the Legislature. The proposal called for budgeted
expenditures of approximately $16.737 billion. On June 21, 1995, after vetoing
approximately $25 million in appropriations enacted by the full House and
Senate, the Governor signed a budget appropriating approximately $16.82 billion.
Both the House and Senate subsequently overrode approximately $25 million of the
Governor's vetoes, increasing fiscal 1996 appropriations to approximately $16.85
billion. On April 3, 1995, the House Ways and Means Committee projected fiscal
1996 revenues to be $16.788 billion. On April 13, 1995, the Secretary of
Administration and Finance revised its revenue estimates for fiscal 1996. The
fiscal 1996 tax revenue estimate corresponds to the fiscal 1996 consensus tax
revenue estimate of $11.639 billion.
The liabilities of the Commonwealth with respect to outstanding bonds and
notes payable as of July 1, 1995 totalled $13.195 billion. These liabilities
consisted of $8.837 billion of general obligation debt, $619 million of
dedicated income tax debt (the Fiscal Recovery Bonds), $395 million of special
obligation debt, $3.090 billion of supported debt, and $254 million of
guaranteed debt.
Capital spending by the Commonwealth rose from approximately $600 million in
fiscal 1987 to $971 million in fiscal 1989. In November 1988, the Executive
Office for Administration and Finance established an administrative limit on
state financed capital spending in the Capital Projects Funds of $925.0
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million per fiscal year. Capital expenditures were $936 million, $847 million,
$694.1 million, $575.9 million and $760.9 million in fiscal 1990, 1991, 1992,
1993, and fiscal 1994, respectively. Capital expenditures are projected to
increase to $850 million and approximately $908 million in fiscal 1994 and
fiscal 1995, respectively. The growth in capital spending in the 1980's
accounts for a significant rise in debt service expenditures since fiscal 1989.
Payments for the debt service on Commonwealth general obligation bonds and notes
have risen at an average annual rate of 22.2% from $770.9 million in fiscal 1990
to $942.3 million in fiscal 1991. Debt Service payments in fiscal 1992 were
$898.3 million, representing a 4.7% decrease from fiscal 1991. This decrease
resulted from a $261 million one-time reduction achieved through the issuance of
refunding bonds in September and October of 1991. Debt service expenditures
were $1.140 billion for fiscal 1993 and $1.149 billion for fiscal 1994 and are
projected to be $1.242 billion for fiscal 1995 and $1.267 billion for fiscal
1996. These amounts represent debt service payments on direct Commonwealth debt
and do not include debt service on notes issued to finance the fiscal 1989
deficit and certain Medicaid-related liabilities, which were paid in full from
non-budgeted funds. Also excluded are debt service contract assistance to
certain state agencies and the municipal school building assistance program
projected to total of $405.6 million in the aggregate in fiscal 1995. In
addition to debt service on bonds issued for capital purposes, the Commonwealth
is obligated to pay the principal of and interest on the Fiscal Recovery Bonds
described above. The estimated debt service on such Bonds currently outstanding
(a portion of which were issued as variable rate bonds) ranges from
approximately $278 million (interest only) in fiscal 1995 through fiscal 1997
and approximately $130 million in fiscal 1998, at which time the entire amount
of the Fiscal Recovery Bonds will be paid.
In January, 1990 legislation was enacted to impose a limit on debt service in
Commonwealth budgets beginning in fiscal 1991. The law provides that no more
than 10% of the total appropriations in any fiscal year may be expended for
payment of interest and principal on general obligation debt (excluding the
Fiscal Recovery Bonds) of the Commonwealth. This law may be amended or appealed
by the legislature or may be superseded in the General Appropriation Act for any
year. From fiscal year 1990 through fiscal year 1995 estimated, this percentage
has been substantially below the limited established by this law.
Legislation enacted in December, 1989 imposes a limit on the amount of
outstanding direct bonds of the Commonwealth. The limit for fiscal 1995 is
$8.265 billion; as of January 1, 1995, there were $7.556 billion of outstanding
direct bonds. The law provides that the limit for each subsequent fiscal year
shall be 105% of the previous fiscal year's limit. The Fiscal Recovery Bonds
will not be included in computing the amount of bonds subject to this limit.
Since this law's inception, the limit has never been reached.
In August, 1991, the Governor announced a five-year capital spending plan.
The policy objective of the Five-Year Capital Spending Plan is to limit the debt
burden of the Commonwealth by controlling the relationship between current
capital spending and the issuance of bonds by the Commonwealth. For fiscal 1995
through 1999, the plan forecasts total capital spending for the Commonwealth of
$4.634 billion, which is significantly below legislatively authorized spending
levels.
Unemployment. The Massachusetts unemployment rate averaged 9.0%, 8.5%, 6.9%
and 6.0% in calendar year 1991, 1992, 1993 and 1994, respectively. The
Massachusetts unemployment rate in July, 1995 was 5.7% as compared to 5.6% in
June, 1995 and 5.9% in July, 1994, although the rate has been volatile
throughout this period. The Massachusetts unemployment rates from and after
1994 are not comparable to prior rates due to a new procedure for computation
which became effective in 1994.
In September 1991 the reserves in the Commonwealth's Unemployment
Compensation Trust fund were exhausted due to the continued high level of
unemployment. Between September 1991 and May 1994, benefit payments in excess
of contributions were financed through repayable advances from the federal
unemployment loan account. Legislation enacted in 1992 significantly increased
employer contributions in order to reduce advances from the federal loan account
and 1993 contributions exceeded
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benefit outlays by more than $200 million. All federal advances were paid in
May 1994 and since that time, the trust fund has been solvent. As of April 30,
1995, the Massachusetts Unemployment Trust Fund was running a surplus of $159
million.
The Department of Employment and Training's April 1995 quarterly report
indicates that the additional increases in contributions provided by the 1992
legislation should result in a private contributory account balance of $331
million in the Unemployment Compensation Trust Fund by December 1995 and rebuild
reserves in the system to $1.3 billion by the end of 1999.
Litigation. The Attorney General of the Commonwealth is not aware of any
cases involving the Commonwealth which in his opinion would affect materially
its financial condition. However, certain cases exist containing substantial
claims, among which are the following.
The United States has brought an action on behalf of the U.S. Environmental
Protection Agency alleging violations of the Clean Water Act and seeking to
enforce the clean-up of Boston Harbor. The Massachusetts Water Resources
Authority (the "MWRA") has assumed primary responsibility for developing and
implementing a court approved plan and time table for the construction of the
treatment facilities necessary to achieve compliance with the federal
requirements. The MWRA currently projects the total cost of construction of the
waste water facilities required under the court's order as approximately $3.5
billion in current dollars, with approximately $1.54 billion to be spent on or
after July 1, 1994. Under the Clean Water Act, the Commonwealth may be liable
for any costs of complying with any judgment in this case to the extent that the
MWRA or a municipality is prevented by state law from raising revenues necessary
to comply with such a judgment.
A suit was brought by associations of bottlers challenging the 1990
amendments to the bottle bill which escheat abandoned deposits to the
Commonwealth, a case involving approximately $100 million. In March of 1993,
the Supreme Judicial Court upheld the amendments except for the initial funding
requirement, which the Court held severable. The Superior Court recently ruled
that the Commonwealth is liable for a certain amount, including interest, as a
result of the Supreme Judicial Court's decision, such amount to be determined in
further proceedings.
In a suit filed against the Department of Public Welfare, plaintiffs allege
that the Department has unlawfully denied personal care attendant services to
severely disabled Medicaid recipients. The Court has denied plaintiffs' motion
for a preliminary injunction and has not yet acted on plaintiffs' motion for
reconsideration of that decision. If plaintiffs prevail on their claims, the
suit could cost the Commonwealth as much as $200 million per year.
In a suit filed against the Commissioner of Revenue, plaintiffs challenge the
inclusion of income from tax exempt obligations in the measure of the bank
excise tax. The Appellate Tax Board issued a finding of fact and report in
favor of the Commissioner of Revenue on September 30, 1993. An appeal was
filed. Approximately $1.4 billion was at issue. On June 7, 1995, the parties
settled the case by filing a Stipulation of Dismissal of the appeal which
includes a payment of $25 million by the Commonwealth over three years with
interest.
In a suit filed against the Commonwealth, plaintiffs challenged two fees
imposed on trucks, arguing that they violate the Commerce Clause of the
Constitution of the United States. In May, 1993, the Supreme Judicial Court
struck down several fees imposed on interstate motor carriers and remanded the
case to the Superior Court to determine the appropriate remedy. As of August 2,
1994, the Superior Court has approved the parties' agreement establishing a
refund mechanism. The Commonwealth's total liability equals approximately $30
million.
The Superior Court declared that a line item in the Commonwealth's general
appropriations act for fiscal 1994 that increased the state employees'
percentage share of their group health insurance
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premiums was invalid under the contracts clause of the United States
Constitution. The decision has been appealed. If the decision is upheld, the
Commonwealth's aggregate liability is estimated to be approximately $32 million.
There are also several other tax matters in litigation which may result in an
aggregate liability in excess of $150 million.
Ratings. Beginning on May 17, 1989, Standard & Poor's downgraded its ratings
on Massachusetts general obligation bonds and certain agency issues from AA+ to
AA. The ratings were downgraded three additional times to a low of BBB on
December 31, 1989. On July 14, 1989, Standard & Poor's also downgraded its
rating on temporary general obligation notes and various agency notes from SP-1+
to SP-1 and on general obligation short-term notes and on short-term agency debt
from SP-1 to SP-2. Bonds rated BBB may have speculative characteristics. The
rating remained at BBB until September 9, 1992 when Standard & Poor's raised its
rating to A. At this same time, such bonds were removed from CreditWatch. On
October 14, 1993, Standard & Poor's raised its rating from A to A+.
On June 21, 1989, Moody's Investors Service downgraded its rating on
Massachusetts general obligation bonds from Aa to A. The ratings were further
reduced on two occasions to a low on March 19, 1990 of Baa where it remained
until September 10, 1992 when Moody's increased its rating to A. On November
14, 1994, Moody's again increased its rating to A1.
Fitch Investors Service, Inc. lowered its rating on the Commonwealth's bonds
from AA to A on September 29, 1989. As of December 5, 1991, its qualification
of the bonds changed from Uncertain Trends to Stabilizing Credit Trend. On
October 13, 1993, Fitch Investors raised its rating from A to A+.
Ratings may be changed at any time and no assurance can be given that they
will not be revised or withdrawn by the rating agencies, if in their respective
judgments, circumstances should warrant such action. Any downward revision or
withdrawal of a rating could have an adverse effect on market prices of the
bonds.
THE MICHIGAN TRUST
RISK FACTORS--Due primarily to the fact that the leading sector of the
State's economy is the manufacturing of durable goods, economic activity in the
State has tended to be more cyclical than in the nation as a whole. While the
State's efforts to diversify its economy have proven successful, as reflected by
the fact that the share of employment in the State in the durable goods sector
has fallen from 33.1 percent in 1960 to 15.1 percent in 1993, durable goods
manufacturing still represents a sizable portion of the State's economy. As a
result, any substantial national economic downturn is likely to have an adverse
effect on the economy of the State and on the revenues of the State and some of
its local governmental units. Historically, the average monthly unemployment
rate in the State has been higher than the average figures for the United
States. More recently, the State's unemployment rate has remained near the
national average. During 1994, the average monthly unemployment rate in this
State was 5.9% as compared to a national average of 6.1% in the United States.
The State's economy could be affected by changes in the auto industry,
notably consolidation and plant closings resulting from competitive pressures
and over-capacity. The financial impact on the local units of government in the
areas in which plants are or have been closed could be more severe than on the
State as a whole. State appropriations and State economic conditions in varying
degrees affect the cash flow and budgets of local units and agencies of the
State, including school districts and municipalities, as well as the State of
Michigan itself.
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The Michigan Constitution limits the amount of total revenues of the State
raised from taxes and certain other sources to a level for each fiscal year
equal to a percentage of the State's personal income for the prior calendar
year. In the event the State's total revenues exceed the limit by 1% or more,
the Constitution requires that the excess be refunded to taxpayers. The State
Constitution does not prohibit the increasing of taxes so long as revenues are
expected to amount to less than the revenue limit and authorizes exceeding the
limit for emergencies when deemed necessary by the governor and a two-thirds
vote of the members of each house of the legislature. The State Constitution
further provides that the proportion of State spending paid to all local units
to total spending may not be reduced below the proportion in effect in the
1978-79 fiscal year. The Constitution requires that if the spending does not
meet the required level in a given year an additional appropriation for local
units is required for the following fiscal year. The State Constitution also
requires the State to finance any new or expanded activity of local units
mandated by State law. Any expenditures required by this provision would be
counted as State spending for local units for purposes of determining compliance
with the provisions cited above.
The State Constitution limits State general obligation debt to (i) short-term
debt for State operating purposes; (ii) short-and long-term debt for purposes of
making loans to school districts; and (iii) long-term debt for a voter-approved
purpose. Short-term debt for operating purposes is limited to an amount not in
excess of fifteen (15%) percent of undedicated revenues received by the State
during the preceding fiscal year and must mature in the same fiscal year in
which it is issued. Debt incurred by the State for purposes of making loans to
school districts is recommended by the Superintendent of Public Instruction who
certifies the amounts necessary for loans to school districts for the ensuing
two (2) calendar years. These bonds may be issued without vote of the electors
of the State and in whatever amount required. There is no limit on the amount
of long-term voter-approved State general obligation debt. In addition to the
foregoing, the State authorizes special purpose agencies and authorities to
issue revenue bonds payable from designated revenues and fees. Revenue bonds
are not obligations of the State and in the event of shortfalls in
self-supporting revenues, the State has no legal obligation to appropriate money
to meet debt service payments. The Michigan State Housing Development Authority
has a capital reserve fund pledged for the payment of debt service on its bonds
derived from State appropriation. The act creating this Authority provides that
the Governor's proposed budget include an amount sufficient to replenish any
deficiency in the capital reserve fund. The legislature, however, is not
obligated to appropriate such moneys and any such appropriation would require a
two-thirds vote of the members of the legislature. Obligations of all other
authorities and agencies of the State are payable solely from designated
revenues or fees and no right to certify to the legislature exists with respect
to those authorities or agencies.
The State finances its operations through the State's General Fund and
special revenue funds. The General Fund receives revenues of the State that are
not specifically required to be included in the Special Revenue Fund. General
Fund revenues are obtained approximately 59% from the payment of State taxes and
41% from federal and non-tax revenue sources. The majority of the revenues from
State taxes are from the State's personal income tax, single business tax, use
tax, sales tax and various other taxes. Approximately 60% of total General Fund
expenditures have been for State support of public education and for social
services programs. Other significant expenditures from the General Fund provide
funds for law enforcement, general State government, debt service and capital
outlay. The State Constitution requires that any prior year's surplus or
deficit in any fund must be included in the next succeeding year's budget for
that fund.
In recent years, the State of Michigan has reported its financial results in
accordance with generally accepted accounting principles. For the fiscal years
ended September 30, 1990 and 1991, the State reported negative year-end General
Fund balances of $310.3 million and $169.4 million, respectively, but ended the
1992, 1993 and 1994 fiscal years with its General Fund in balance after
transfers in 1993 and 1994 from the General Fund to the Budget Stabilization
Fund of $283 million and $464 million, respectively. Those transfers raised the
balances in the Budget Stabilization fund to $779 million as of September 30,
1994. A positive cash balance in the combined General Fund/School Aid Fund was
recorded at September 30, 1990. In each of the three prior fiscal years the
State had undertaken mid-year
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actions to address projected year-end budget deficits, including expenditure
cuts and deferrals and one-time expenditures or revenue recognition adjustments.
From 1991 through 1993 the State experienced deteriorating cash balances which
necessitated short-term borrowings and the deferral of certain scheduled cash
payments to local units of government. The State borrowed between $500 million
and $900 million for cash flow purposes in the 1991 to 1993 fiscal years and
$500 million in the 1995 fiscal year. The State did not require any short-term
cash flow borrowing for the 1994 fiscal year due to improved cash balances.
In April, 1986, Moody's upgraded Michigan's general obligation credit rating
from A to A-1 and Standard & Poor's raised its rating on the State's general
obligation bonds from A+ to AA-. In October, 1989, Standard & Poor's raised its
rating again to AA. Early in 1992, Standard & Poor's maintained this rating.
In July 1995, Moody's raised its rating again to AA.
Amendments to the Michigan Constitution which place limitations on increases
in State taxes and local ad valorem taxes (including taxes used to meet debt
service commitments on obligations of taxing units) were approved by the voters
of the State of Michigan in November 1978 and became effective on December 23,
1978. To the extent that obligations in the
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Portfolio are tax-supported and are for local units and have not been voted by
the taxing unit's electors and have been issued on or subsequent to December 23,
1978, the ability of the local units to levy debt service taxes might be
affected.
State law provides for distributions of certain State collected taxes or
portions thereof to local units based in part on population as shown by census
figures and authorizes levy of certain local taxes by local units having a
certain level of population as determined by census figures. Reductions in
population in local units resulting from periodic census could result in a
reduction in the amount of State collected taxes returned to those local units
and in reductions in levels of local tax collections for such local units unless
the impact of the census is changed by State law. No assurance can be given
that any such State law will be enacted. In the 1991 fiscal year, the State
deferred certain scheduled payments to municipalities, school districts,
universities and community colleges. While such deferrals were made up at later
dates, similar future deferrals could have an adverse impact on the cash
position of some local units. Additionally, the State reduced revenue sharing
payments to municipalities below that level provided under formulas by $10.9
million in the 1991 fiscal year, $34.4 million in the 1992 fiscal year, $45.5
million in the 1993 fiscal year, $54.5 million in the 1994 fiscal year and $67.0
million (budgeted) in the 1995 fiscal year.
On March 15, 1994, the electors of the State voted to amend the State's
Constitution to increase the State sales tax rate from 4% to 6% and to place an
annual cap on property assessment increases for all property taxes. Companion
legislation also cut the State's income tax rate from 4.6% to 4.4%, reduced some
property taxes for school operating purposes and shifted the balance of school
funding sources among property taxes and state revenues, some of which are being
provided from new or increased State taxes. The legislation also contains other
provisions that may reduce or alter the revenues of local units of government
and tax increment bonds could be particularly affected. While the ultimate
impact of the constitutional amendment and related legislation cannot yet be
accurately predicted, investors should be alert to the potential effect of such
measures upon the operations and revenues of Michigan local units of government.
The State is party to various legal proceedings seeking damages or injunctive
or other relief. In addition to routine litigation, certain of these
proceedings could, if unfavorably resolved from the point of view of the State,
substantially affect State or local programs or finances. These lawsuits
involve programs generally in the areas of corrections, highway maintenance,
social services, tax collection, commerce and budgetary reductions to school
districts and governments units and court funding.
The foregoing financial conditions and constitutional provisions could
adversely affect the State's or local unit's ability to continue existing
services or facilities or finance new services or facilities, and, as a result,
could adversely affect the market value or marketability of the Michigan
obligations in the Portfolio and indirectly affect the ability of local units to
pay debt service on their obligations, particularly in view of the dependency of
local units upon State aid and reimbursement programs.
The Portfolio may contain obligations of the Michigan State Building
Authority. These obligations are payable from rentals to be paid by the State
as part of the State's general operating budget. The foregoing financial
conditions and constitutional provisions could affect the ability of the State
to pay rentals to the Authority and thus adversely affect payment of the State
Building Authority Bonds.
The Portfolio may contain obligations issued by various school districts
pledging the full faith and credit of the school district. The ability of the
school district to pay debt service may be adversely affected by those factors
described above for general obligation bonds and, if the obligations were not
voted by that school's electors by the restructuring of school operating funding
as described above. The school district obligations also may be qualified for
participation in the Michigan School Bond Loan Fund. If the bonds are so
qualified, then in the event the school district is for any reason unable to pay
its debt service commitments when due, the school district is required to borrow
the deficiency from the School Bond Loan Fund and the State is required to make
the loan. The School Bond Loan Fund is funded by means of debt obligations
issued by the State. In the event of fiscal and cash flow difficulties of the
State the availability of sufficient cash or the ability of the State to sell
debt obligations to fund the School Bond Loan Fund may be adversely affected and
this could adversely affect the ability of the State to make loans it is
required to make to school districts issuing qualified school bonds in the event
the school district's tax levies are insufficient therefor.
THE MINNESOTA TRUST
RISK FACTORS--The State of Minnesota and other governmental units and
agencies, school systems and entities dependent on government appropriations or
economic activity in Minnesota have, in recent years, suffered cash deficiencies
and budgetary difficulties due to changing economic conditions. Similar
unfavorable economic trends, such as a renewed recession, and other factors
described below could adversely affect the Debt Obligations and the value of the
Portfolio.
Recessions in the national economy and other factors have had an adverse
impact on the economy of Minnesota and State budgetary balances. As a
consequence, during the budgetary bienniums ended in 1981, 1983, 1987, 1991 and
1993, the State found it necessary to revise revenue forecasts downward and the
State legislature was required to take remedial action to bring the State's
budget into balance on a number of occasions. The State is constitutionally
required to maintain a balanced budget.
In 1991 the legislature prepared a budget for the 1991-1993 biennium which
provided for a $15.1 billion general fund budget, including expenditures of
$14.6 billion, with maintenance of a budgetary reserve at $400 million and a
projected unrestricted balance of $100 million. Primarily as a consequence of
the recession, in February 1992 the Department of Finance projected a budgetary
shortfall of $569 million by the end of the 1991-1993 biennium. In response,
the legislature enacted $262 million in expenditure reductions, $149 million in
revenue increases and a $160 million drawdown of the budgetary reserve to bring
the budget into projected balance at the end of the biennium with a budgetary
reserve of $240 million remaining. Improving revenues in late 1992 and early
1993 led to the adoption of minor budgetary revisions by the legislature,
resulting in an increase in the budgetary reserve to $360 million and an
additional unrestricted balance of $195 million at the end of the biennium on
June 30, 1993.
Addressing the 1993-1995 biennium, the 1993 legislative session, including a
special session called to resolve budgetary differences between the Governor and
legislature following appropriation vetoes, enacted revenue and expenditure
proposals which provided for revenues of $16.2 billion, expenditures of $16.5
billion and maintenance of the budgetary reserve at $360 million. The major
revenue increase was in the health care provider tax. The principal expenditure
increases were for elementary and secondary education and health and human
services. During the biennium, increased income tax receipts and lower
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spending resulted in an improvement in estimates used for budgetary purposes.
In May 1995, the Department estimated that the State would complete the biennium
on June 30, 1995 with a budgetary reserve of $500 million and an unrestricted
balance of $421 million.
In May 1995, the legislature adopted the budget for the 1995-1997 biennium
which attempted to anticipate federal budget reductions and the likelihood of
decreased federal aid for programs maintained by the State. The general fund
budget provided for revenues of $17.9 billion, expenditures of $18.2 billion and
maintenance of cash flow and budgetary reserve accounts at $350 million and $204
million, respectively. Spending increases focused on education, health and
human services and criminal justice.
A final decision in a case which held the Minnesota excise tax on banks to be
unconstitutional has resulted in an estimated judgment, including interest, of
$327 million. The legislature has authorized the Commissioner of Finance to
issue up to $400 million in State revenue bonds to pay this obligation. The
bonds are expected to be sold in October 1995. The debt service on the bonds
would be secured by and payable from a portion of State lottery proceeds,
federal and third party reimbursements for medical expenses, and non-dedicated
departmental receipts, all of which had previously been credited to the State
general fund. Receipts from these sources will be held in a special reserve
fund with the expected excess over annual debt service requirements being
transferred to the general fund.
Authorizations for bonding to support capital expenditures have raised
concern about the cost of debt service and the capacity of the State to
authorize additional major bonding. The legislature has directed a portion of
receipts from the State's lottery to assist in servicing bonded debt. As of
August 1, 1995, the total of State general obligation bonds outstanding was
approximately $1.8 billion and the total authorized but unissued was $764
million.
Economic and budgetary difficulties could require the State, its agencies,
local units of government, schools and other instrumentalities which depend for
operating funds and debt service on State revenues or appropriations or on other
sources of revenue which may be affected by economic conditions to expand
revenue sources or curtail services or operations in order to meet payments on
their obligations. The Sponsors are unable to predict whether or to what extent
adverse economic conditions may affect the State, other units of government,
State agencies, school districts and other affected entities and the impact
thereof on the ability of issuers of Debt Obligations in the Portfolio to meet
payment obligations. To the extent any difficulties in making payment are
perceived, the market value and marketability of Debt Obligations in the
Portfolio, the asset value of the Minnesota Trust and interest income to the
Minnesota Trust could be adversely affected.
In action related to the budgetary and funding difficulties experienced by
the State during the 1980-1983 recession, Standard & Poor's reduced its rating
on the State's outstanding general obligation bonds from AAA to AA+ in August
1981 and to AA in March 1982. Moody's lowered its rating on the State's
outstanding general obligation bonds from Aaa to Aa in April 1982. In January
1985, Standard & Poor's announced an upgrading in its rating for the State's
outstanding general obligation bonds from AA to AA+. In July 1993, Fitch's
raised its rating for the State's bonds from AA+ to AAA. In March 1994, Moody's
announced an upgrading in its rating from Aa to Aa1. These improved ratings
were applied most recently to the State's issuance of $215 million in general
obligation bonds dated August 1, 1995.
Certain issuers of obligations in the State, such as counties, cities and
school districts, rely in part on distribution, aid and reimbursement programs
allocated from State revenues and other governmental sources for the funds with
which to provide services and pay those obligations. Accordingly, legislative
decisions and appropriations have a major impact on the ability of such
governmental units to make payments on any obligations issued by them. In
addition, certain State agencies, such as the Minnesota Housing Finance Agency,
University of Minnesota, Minnesota Higher Education Coordinating Board,
Minnesota State University Board, Minnesota Higher Education Facilities
Authority, Minnesota State Armory Building Commission, Minnesota State
Zoological Board, Minnesota Rural Finance Authority,
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Minnesota Public Facilities Authority, Minnesota Agricultural and Economic
Development Board and Iron Range Resources and Rehabilitation Board, also issue
bonds which generally are not debts of the State. The payment of these
obligations is generally subject to revenues generated by the agencies
themselves, the projects funded or discretionary appropriations of the
legislature. The particular source of payment and security is detailed in the
instruments themselves and related offering materials. In one instance, after
default by the Minnesota State Zoological Society in installment payments
supporting tax-exempt certificates of participation issued to construct a
monorail system, the legislature refused to appropriate funds to supply the
deficiency. A subsequent decision of the Minnesota Supreme Court sustained the
legislature's position that no State obligation had been created.
The State is also a party to other litigation in which a contrary decision
could adversely affect the State's tax revenues or fund balances, the most
significant of which are as follows. First, the State's corporate alternative
minimum tax in effect from 1987 to 1989 has been challenged on constitutional
grounds. An initial decision in favor of the State was issued by a State
District Court in June 1995. Taxes collected under the law amounted to
approximately $160 million. Second, thirteen union-based self-insured ERISA
health plans have sued certain State agencies for declaratory and injunctive
relief to the effect that the 2% gross revenues tax on health providers under
the MinnesotaCare law may not be passed on to such plans due to preemption of
the Minnesota law by ERISA and the Federal Labor-Management Relations Act. The
United States District Court granted summary judgment to the State agencies and
the plaintiffs have appealed to the Eighth Circuit Court of Appeals. The
potential fiscal impact of the suit is unclear but the portion of the tax that
is estimated to come from self-insured ERISA plans is in excess of $50 million
per year. Adverse decisions in the foregoing and other cases which individually
or collectively may exceed several million dollars in amount could require
extraordinary appropriations or expenditure reductions and could have a material
adverse effect on the financial condition of the State, its agencies or
subdivisions. The Sponsors are unable to make any prediction concerning the
ultimate outcome or impact of decisions in these cases.
THE MISSISSIPPI TRUST
RISK FACTORS--The financial condition of the State may be affected by
international, national and regional economic, political and environmental
conditions beyond the State's control, which in turn could affect the market
value and income of the obligations of the Mississippi Trust and could result in
a default with respect to such obligations. The following information
constitutes a brief summary of certain legal, governmental, budgetary and
economic matters which may or may not affect the financial condition of the
State, but does not purport to be a complete listing or description of all such
factors. None of the following information is relevant to Puerto Rico or Guam
Debt Obligations which may be included in the Mississippi Trust. Such
information was compiled from publicly available information as well as from
oral statements from various State agencies. Although the Sponsors and their
counsel have not verified the accuracy of the information, they have no reason
to believe that such information is not correct.
Budgetary and Economic Matters. The State operates on a fiscal year
beginning July 1 and ending June 30, with budget preparations beginning on
approximately August 1, when all agencies requesting funds submit budget
requests to the Governor's Budget Office and the Legislative Budget Office. The
budgets, in the form adopted by the legislature, are implemented by the
Department of Finance and Administration.
State operations are funded by General Fund revenues, Educational Enhancement
Fund revenues and Special Fund receipts. For the fiscal year ending June 30,
1995, approximately $4.78 billion in revenues were collected by the Special
Fund. The major source of such receipts was $2.17 billion from federal
grants-in-aid, including $1.18 billion for public health and welfare and $381.2
million for public education.
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The General Fund revenues are derived principally from sales, income,
corporate and excise taxes, profits from wholesale sales of alcoholic beverages,
interest earned on investments, proceeds from sales of various supplies and
services, and license fees. For the fiscal year ending June 30, 1995, of the
$2.62 billion in General Fund receipts, sales taxes accounted for 40.5%,
individual income taxes for 26.1%, and corporate income taxes for 10.0%. Sales
taxes, the largest source of General Fund revenues, can be adversely affected by
downturns in the economy.
Mississippi's recent legalization of dockside gaming is having a substantial
impact on the State's revenues. With 28 casinos operating in the State as of
June 30, 1995, fiscal year 1995 gaming license fees and gaming tax revenues
transferred to the General Fund for the State amounted to $128.6 million as
compared to $95.03 million in fiscal year 1994.
Each year the legislature appropriates all General Fund, Educational
Enhancement Fund and most Special Fund expenditures. Those Special Funds that
are not appropriated by the legislature are subject to the approval of the
Department of Finance and Administration. In the fiscal year ending June 30,
1995, approximately 57.9% of the General Fund was expended on public and higher
education. The areas of public health and public works were the two largest
areas of expenditures from the Special Fund. The Education Enhancement Fund
collections (funded from a 1992 1% increase in sales and use taxes) totalled
approximately $152.5 million in fiscal year 1995. These funds are appropriated
by the Legislature for the purpose of providing additional funding for grades
K-12, community colleges and institutions of higher learning.
The Department of Finance and Administration has the authority to reduce
allocations to agencies if revenues fall below the amounts projected during the
budgeting phase and may also, in its discretion, restrict a particular agency's
monthly allotment if it appears that an agency may deplete its appropriations
prior to the close of the fiscal year. Despite budgetary controls, the State
has experienced cash flow problems in the past. In the 1991 fiscal year,
because State revenue collections fell below projections and due to a General
Fund cash balance on July 1, 1991 below expectations, across-the-board budget
reductions totaling approximately $85.1 million were suffered by State agencies
to avoid a year-end deficit. In fiscal year 1992, total revenue collections
were nearly $48 million below projections. As a result of this shortfall, State
agencies were forced to implement an estimated 3.5% cut in their respective
budgets. However, fiscal year 1994 revenue collections were nearly $259.2
million or 12.15% above projections. For 1995, revenue collections are nearly
$191.5 million or 7.9% above the estimated revenues. In an effort to prevent
agencies from being forced to implement budget cuts, the Mississippi legislature
authorized the Working Cash-Stabilization Fund in order to provide a safeguard
during stressed economic times. The Working Cash-Stabilization Fund, which is
expected to reach its maximum balance of $203.5 million or 7.5% of the General
Fund appropriations by October 1995, can be used to meet revenue and cash flow
shortfalls as well as provide funds during times of national disasters in the
State.
Although the population of Mississippi grew by only 2.1% between 1980 and
1990 it increased nearly 3.5% in the period between 1990 and 1994. Despite this
growth, Mississippi continues to rank 31st among the 50 states, with a
population of 2.67 million people for 1995. As of June 1995, the average State
unemployment rate was 6.0%, slightly below the state's 1994 level of 6.5%. The
unemployment rate for the nation was 5.6%.
As of June 1995 the manufacturing sector of the economy, the largest employer
in the State, employed approximately 255,900 persons or 22.5% of the total
nonagricultural employment. Within the manufacturing sector, the three leading
employers by product category were the apparel industry, the food products
industry, and the furniture industry. As of June 1995, the average employment
for these industries was 31,200, 30,300, and 27,900, respectively. Agriculture
contributes significantly to the State's economy as agriculture-related cash
receipts amounted to $4.51 billion for 1994. The average number of persons
employed by the agricultural sector of the State's labor force was 53,500 for
1994. The State continues to be a large producer of cotton and timber and, as a
result of research and promotion, the
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agricultural sector has diversified into the production of poultry, catfish,
rice, blueberries and muscadines.
Mississippi has not been without its setbacks; for instance, the NASA solid
fuel rocket motor plant in Tishomingo County, which was originally scheduled to
open in 1995 and expected to result in approximately 3,500 jobs, was closed due
to recent federal budget cuts. Additionally, since the inception of legalized
dockside gambling, six casinos located in Mississippi have sought protection
under federal bankruptcy laws.
Total personal income in Mississippi increased 7.4% from 1993 to 1994 to a
level of approximately $43 billion. However, Mississippi's per capita income of
$15,838 in 1994 was well below the national average of $21,809. The number of
bankruptcies filed in Mississippi as of June 20, 1995, reflects a 9% increase on
an individualized basis over the 1994 twelve month level of 9,892.
Bonds. The State, counties, municipalities, school districts, and various
other districts are authorized to issue bonds for certain purposes. Mississippi
has historically issued four types of bonds: general obligation, revenue,
refunding and self-supporting general obligation. In the 1993 and 1994 fiscal
years, the State issued general obligation and revenue bonds in amounts totaling
$217.0 million and $299.6 million, respectively. In fiscal year 1995, the State
issued bonds totalling approximately $303.3 million. The total bond
indebtedness of the State has increased from a level of $432.5 million on July
1, 1987 to $1.03 billion as of July 1, 1995.
The issuance of bonds must be authorized by legislation governing the
particular project to be financed. Such legislation provides the State Bond
Commission, comprised of the Governor as Chairman, the State Attorney General as
Secretary and the State Treasurer as a member, with the authority to approve and
authorize the issuance of bonds.
The general obligation bonds of the State are currently rated Aa by Moody's
Investors Service, Inc. and AA-by Standard and Poor's Corporation. There can be
no assurance that the conditions such ratings are based upon will continue or
that such ratings will not be revised downward or withdrawn entirely by either
or both agencies.
Litigation. The Attorney General's Office has reviewed the status of cases
in which the State is a defendant wherein the obligations of the State's
financial resources may be materially adversely affected. The following cases,
though not an entire list, are a representative sampling of the most significant
cases which could materially affect the State's financial position: (1) a suit
against the State regarding conditions at its penal institutions; (2) an action
against the State Tax Commission challenging the apportionment formula for
taxation of multi-state corporations.
Summary. The financial condition of the State of Mississippi may be affected
by numerous factors, most of which are not within the control of the State or
its subdivisions. The Sponsors are unable to predict to what extent, if any,
such factors would affect the ability of the issuers of the Debt Obligations to
meet payment requirements.
THE MISSOURI TRUST
RISK FACTORS--Hancock Amendment. Article X, Sections 16-24 of the
Constitution of Missouri, often referred to as the Hancock Amendment (the
"Hancock Amendment"), imposes limitations on the amount of State taxes which may
be imposed by the General Assembly of Missouri (the "General Assembly") as well
as on the amount of local taxes, licenses and fees (including taxes, licenses
and fees used to meet debt service commitments on debt obligations) which may be
imposed by local governmental units (such as cities, counties, school districts,
fire protection districts and other similar bodies) in the State of Missouri in
any fiscal year.
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The State limit is tied to total State revenues for fiscal year 1980-81, as
defined in the Hancock Amendment, adjusted annually in accordance with the
formula set forth in the amendment, which adjusts the limit based on increases
in the average personal income of Missouri for certain designated periods. The
details of the amendment are complex and clarification from subsequent
legislation and further judicial decisions may be necessary. If the total State
revenues exceed the State revenue limit imposed by Section 18 of Article X by
more than one percent, the State is required to refund the excess. The Hancock
Amendment does not prohibit the increasing of taxes by the State so long as
State revenues are expected to amount to less than the revenue limit and
authorizes exceeding the limit if, upon the request of the Governor, the General
Assembly declares an emergency by a two thirds vote. Under the emergency
provisions, the revenue limit may be exceeded only in the fiscal year during
which the emergency was declared, and the emergency must be declared prior to
incurring expenses which constitute part of the emergency request. The State
revenue limitation imposed by the Hancock Amendment also does "not apply to
taxes imposed for the payment of principal and interest on bonds, approved by
the voters" and authorized by the Missouri Constitution. The revenue limit can
also be exceeded by a constitutional amendment authorizing new or increased
taxes or revenues adopted by the voters of the State of Missouri.
The Hancock Amendment further provides that the state financed proportion of
the costs of any existing activity or service required of counties and other
political subdivisions cannot be reduced. In addition, State government
expenses cannot exceed the sum of the State's revenues (limited as described
above) plus Federal funds and any surplus from a previous fiscal year.
Section 22(a) of Article X of the Missouri Constitution sets forth the
limitation on new taxes, licenses and fees and increases in taxes, licenses and
fees by local governmental units in Missouri. It prohibits counties and other
political subdivisions (essentially all local governmental units) from levying
new taxes, licenses and fees or increasing the current levy of an existing tax,
license or fee "without the approval of the required majority of the qualified
voters of that county or other political subdivision voting thereon."
If the required majority of qualified electors voting on the issuance of debt
obligations approves the issuance of the debt obligations and the levy of taxes
or impositions of licenses or fees necessary to meet the payments of principal
and interest on such debt obligations, taxes, licenses or fees may be imposed or
existing taxes, licenses or fees may be increased to cover the principal and
interest on such debt obligations without violating the Hancock Amendment.
Missouri Constitutional or statutory provisions other than the Hancock Amendment
may require greater than majority voter approval for valid issuance of certain
debt obligations.
Taxes may also be increased by counties and other political subdivisions (but
not by the State), without regard to the limitations of the Hancock Amendment,
for the purpose of paying principal and interest on bonds, other evidences of
indebtedness, and obligations issued in anticipation of the issuance of bonds if
such bonds and other obligations were authorized to be issued prior to the
adoption of the Hancock Amendment.
When a local governmental unit's tax base with respect to certain fees or
taxes is broadened, the Hancock Amendment requires the tax levy or fees to be
reduced "to yield the same estimated gross revenue as on the prior base." It
also effectively limits any percentage increase in property tax revenues to the
percentage increase in the general price level (plus the value of new
construction and improvements), even if the assessed valuation of property in
the local governmental unit, excluding the value of new construction and
improvements, increases at a rate exceeding the increase in the general price
level.
To the extent that the payment of general obligation bonds issued by the
State of Missouri or a unit of local government in the Portfolio is dependent on
revenues from the levy of taxes and such obligations have been issued subsequent
to the date of the Hancock Amendment's adoption, November 4,
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1980, the ability of the State of Missouri or the appropriate local unit to levy
sufficient taxes to pay the debt service on such bonds may be affected, unless
there has been specific voter approval of the issuance of such bonds and the
levy of such taxes as are necessary to pay the principal and interest on such
bonds and obligations.
Debt obligations issued by certain State issuers, including those of the
Board of Public Buildings of the State of Missouri and the Department of Natural
Resources of the State of Missouri, are payable either solely or primarily from
the rentals, incomes and revenues of specific projects financed with the
proceeds of the debt obligations and are not supported by the taxing powers of
the State or of the issuer of the bonds. The Hancock Amendment may most
strongly affect state revenue bonds, since they are dependent in whole or in
part on appropriations of the General Assembly to provide sufficient revenues to
pay principal and interest. Unless such bonds are approved by the voters of
Missouri, under the Hancock Amendment, taxes cannot be raised to cover the state
appropriations necessary to provide revenues to pay principal and interest on
the bonds. Consequently, there may be insufficient state revenues available to
permit the General Assembly to make appropriations adequate to enable the issuer
to make timely payment of principal and interest on such State revenue bonds.
For example, in the case of the Board of Public Buildings of the State of
Missouri, the payment of principal and interest on debt obligations is dependent
solely on the appropriation by the General Assembly of sufficient funds to pay
the rentals of State agencies occupying buildings constructed by the Board of
Public Buildings. State park revenue bonds of the Department of Natural
Resources of the State of Missouri are in part dependent on revenues generated
by operations of the particular project and in part on General Assembly
appropriations. Consequently, payment of principal and interest on such State
revenue bonds or other obligations, relating to specific projects and not
supported by the taxing power of the State of Missouri, may not be made or may
not be made in a timely fashion because of (i) the inability of the General
Assembly to appropriate sufficient funds for the payment of such debt
obligations (or to make up shortfalls therein) due to the limitations on State
taxes and expenditures imposed by the Hancock Amendment, (ii) the inability of
the issuer to generate sufficient income or revenue from the project to make
such payment or (iii) a combination of the above.
As described above, general obligation bonds and revenue bonds of local
governmental units, including counties, cities and similar municipalities, sewer
districts, school districts, junior college districts and other similar issuers,
may also be affected by the tax, license and fee limitations of the Hancock
Amendment. Unless the required voter approval of such debt obligations and the
imposition of taxes to pay them is obtained prior to their issuance, the Hancock
Amendment imposes limitations on the imposition of new taxes and the increase of
existing taxes which may be necessary to pay principal and interest on general
obligation bonds of local issuers. The limitations contained in the Hancock
Amendment may also affect the payment of principal and interest on bonds and
other obligations issued by local governmental units and supported by the
revenues generated from user fees, licenses or other fees and charges, unless
the requisite voter approval of the issuance of such bonds or other obligations,
and the approval of the assessment of such fees or other charges as may be
necessary to pay the principal and interest on such bonds or other obligations,
has been obtained prior to their issuance.
Debt obligations of certain other State and local agencies and authorities
are not, by the terms of their respective authorizing statutes, obligations of
the State or any political subdivision, public instrumentality or authority,
county, municipality or other state or local unit of government. Illustrative
of such issuers are the Missouri Housing Development Commission, the State
Environmental Improvement and Energy Resources Authority, the Health and
Educational Facilities Authority of the State of Missouri, the Missouri Higher
Education Loan Authority, the Industrial Development Board of the State of
Missouri, the Missouri Agricultural and Small Business Development Authority and
other similar bodies organized on a local level under similar state authorizing
statutes such as the various local industrial development authorities, planned
industrial expansion authorities and land clearance for redevelopment
authorities. The debt obligations of such issuers are payable only from the
revenues generated by the project or program
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financed from the proceeds of the debt obligations they issue, and the Hancock
Amendment has no application.
School Desegregation Lawsuits. Desegregation lawsuits in St. Louis and
Kansas City, and an earlier court decision continue to require significant
levels of state funding and are sources of uncertainty; litigation continues on
many issues, notwithstanding a 1995 U.S. Supreme Court decision favorable to the
State in the Kansas City desegregation litigation, court orders are
unpredictable, and school district spending patterns have proven difficult to
predict. The State paid $290.0 million for desegregation costs in fiscal 1993
and the budget for fiscal 1994 provided $374 million. This expense accounts for
close to 10% of total state General Revenue Fund spending.
Industry and Employment. While Missouri has a diverse economy with a
distribution of earnings and employment among manufacturing, trade and service
sectors closely approximating the average national distribution, the national
economic recession of the early 1980's had a disproportionately adverse impact
on the economy of Missouri. During the 1970's, Missouri characteristically had
a pattern of unemployment levels well below the national averages. However,
since the 1980 to 1983 recession periods Missouri unemployment levels generally
approximated or slightly exceeded the national average. A return to a pattern
of high unemployment could adversely affect the Missouri debt obligations
acquired by the Missouri Trust and, consequently, the value of the Units in the
Trust.
The Missouri portions of the St. Louis and Kansas City metropolitan areas
contain approximately 1,938,400 and 1,007,000 residents, respectively,
constituting over fifty percent of Missouri's 1995 population census of
approximately 5,237,825. St. Louis is an important site for banking and
manufacturing activity, as well as a distribution and transportation center,
with eight Fortune 500 industrial companies (as well as other major educational,
financial, insurance, retail, wholesale and transportation companies and
institutions) headquartered there. Kansas City is a major agribusiness center
and an important center for finance and industry. Economic reversals in either
of these two areas would have a major impact on the overall economic condition
of the State of Missouri. Additionally, the State of Missouri has a significant
agricultural sector which is experiencing farm-related problems comparable to
those which are occurring in other states. To the extent that these problems
were to intensify, there could possibly be an adverse impact on the overall
economic condition of the State of Missouri.
Defense related business plays an important role in Missouri's economy.
There are a large number of civilians employed at the various military
installations and training bases in the State and recent action by the Defense
Base Closure and Realignment Commission will result in the loss of a substantial
number of civilian jobs in the St. Louis Metropolitan Area. Further, aircraft
and related businesses in Missouri are the recipients of substantial annual
dollar volumes of defense contract awards. The contractor receiving the largest
dollar volume of defense contracts in the United States in 1994 was McDonnell
Douglas Corporation. McDonnell Douglas Corporation is the State's largest
employer, currently employing approximately 24,000 employees in Missouri.
Recent changes in the levels of military appropriations and the cancellation of
the A-12 program has affected McDonnell Douglas Corporation in Missouri and over
the last four years it has reduced its Missouri work force by approximately 30%.
There can be no assurances there will not be further changes in the levels of
military appropriations, and, to the extent that further changes in military
appropriations are enacted by the United States Congress, Missouri could be
disproportionately affected.
THE NEW JERSEY TRUST
RISK FACTORS--Prospective investors should consider the recent financial
difficulties and pressures which the State of New Jersey and certain of its
public authorities have undergone.
The State's 1996 Fiscal Year budget became law on June 30, 1995.
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Effective January 1, 1994, New Jersey personal income tax rates were cut 5%
for all taxpayers. Effective January 1, 1995, the personal income tax rates
were cut by an additional 10% for most taxpayers. By a bill signed into law on
July 4, 1995, New Jersey personal income tax rates have been further reduced so
that coupled with prior rate reductions, beginning with tax year 1996, personal
income tax rates will be, depending on a taxpayer's level of income and filing
status, 30%, 15% or 9% lower than 1993 rates. At this time, the effect of the
tax reductions cannot be evaluated.
The New Jersey State Constitution prohibits the legislature from making
appropriations in any fiscal year in excess of the total revenue on hand and
anticipated, as certified by the Governor. It additionally prohibits a debt or
liability that exceeds 1% of total appropriations for the year, unless it is in
connection with a refinancing to produce a debt service savings or it is
approved at a general election. Such debt must be authorized by law and applied
to a single specified object or work. Laws authorizing such debt provide the
ways and means, exclusive of loans, to pay as it becomes due and the principal
within 35 years from the time the debt is contracted. These laws may not be
repealed until the principal and interest are fully paid. These Constitutional
provisions do not apply to debt incurred because of war, insurrection or
emergencies caused by disaster.
Pursuant to Article VIII, Section II, par. 2 of the New Jersey Constitution,
no monies may be drawn from the State Treasury except for appropriations made by
law. In addition, the monies for the support of State government and all State
purposes, as far as can be ascertained, must be provided for in one general
appropriation law covering one and the same fiscal year. The State operates on
a fiscal year beginning July 1 and ending June 30. For example, "fiscal 1996"
refers to the year ending June 30, 1996.
In addition to the Constitutional provisions, the New Jersey statutes contain
provisions concerning the budget and appropriation system. Under these
provisions, each unit of the State requests an appropriation from the Director
of the Division of Budget and Accounting, who reviews the budget requests and
forwards them with his recommendations to the Governor. The Governor then
transmits his recommended expenditures and sources of anticipated revenue to the
legislature, which reviews the Governor's Budget Message and submits an
appropriations bill to the Governor for his signature by July 1 of each year.
At the time of signing the bill, the Governor may revise appropriations or
anticipated revenues. That action can be reversed by a two-thirds vote of each
House. No supplemental appropriation may be enacted after adoption of the act,
except where there are sufficient revenues on hand or anticipated, as certified
by the Governor, to meet the appropriation. Finally, the Governor may, during
the course of the year, prevent the expenditure of various appropriations when
revenues are below those anticipated or when he determines that such expenditure
is not in the best interest of the State.
Reflecting the downturn, the rate of unemployment in the State rose from a
low of 3.6 percent during the first quarter of 1989 to a recessionary peak of
8.4% during 1992. Since then, the unemployment rate fell to 6.9% during the
first quarter of 1995.
In the first nine months of 1994, relative to the same period a year ago, job
growth took place in services (3.5%) and construction (5.7%), more moderate
growth took place in trade (1.9%), transportation and utilities (1.2%) and
finance/insurance/real estate (1.4%), while manufacturing and government
declined (by 1.5% and 0.1%, respectively). The net result was a 1.6% increase
in average employment during the first nine months of 1994 compared to the first
nine months of 1993.
The insured unemployment rate, i.e., the number of individuals claiming
benefits as a percentage of the number of workers covered by Unemployment
Insurance, stopped rising in the winter of 1991 and had been stable at about 4.0
percent through June of 1992 before beginning a gradual decline to its December
1994 level of 3.0 percent. It has since stabilized at about that level. After
paying out approximately $125 million, the State's Emergency Unemployment
Benefits Program ended on November 17, 1991 with the enactment of the Federal
Emergency Unemployment Compensation (EUC) Program. Through the expiration of
the EUC program on April 30, 1994, over $2.1 billion has been disbursed to
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claimants who exhausted their entitlement under the regular state program.
Benefits under EUC are financed 100 percent by the federal government and thus
do not impact the State's trust fund.
One of the major reasons for cautious optimism is found in the construction
industry. Total construction contracts awarded in New Jersey have turned
around, rising by 11.8% for the first two months of 1995 compared with 1994. By
far, the largest boost came from residential construction awards which increased
by 32.8% in 1995 compared with 1994. In addition, non-residential building
construction awards have turned around, posting a 2.3% gain from 1994.
Nonbuilding construction awards increased approximately 12% in the first two
months of 1995 compared with the same period in 1994.
In addition to increases in construction contract awards, another reason for
cautious optimism is rising new light truck registrations. New passenger car
registrations issued during 1994 were virtually unchanged in New Jersey from a
year earlier. However, registrations of new light trucks and vans (up to 10,000
lbs.) advanced strongly in 1994 increasing 19% during 1994. Retail sales for
1994 were up 7.5% compared to 1993. Retailers, such as those selling appliances
and home furnishings, should benefit from increased residential construction.
Car, light truck and van dealers should also benefit from the high (eight years)
average age of autos on the road.
Looking further ahead, prospects for New Jersey are favorable, although a
return to the pace of the 1980s is highly unlikely. Although growth is likely
to be slower than in the nation, the locational advantages that have served New
Jersey well for many years will still be there. Structural changes that have
been going on for years can be expected to continue, with job creation
concentrated most heavily in the service sectors.
Of the $15,994.5 million appropriated in Fiscal Year 1996 from the General
Fund, the Property Tax Relief Fund, the Gubernatorial Elections Fund, the Casino
Control Fund and the Casino Revenue Fund, $6,423.5 million (40.2%) was
appropriated for State Aid to Local Governments, $3,708.0 million (23.2%) is
appropriated for Grants-in-Aid, $5,179.6 million (32.4%) for Direct State
Services, $466.3 million (2.9%) for Debt Service on State general obligation
bonds and $217.1 million (1.3%) for Capital Construction.
State Aid to Local Governments was the largest portion of Fiscal Year 1996
appropriations. In Fiscal Year 1996, $6,423.5 million of the State's
appropriations consisted of funds which are distributed to municipalities,
counties and school districts. The largest State Aid appropriation, in the
amount of $4,750.8 million, is provided for local elementary and secondary
education programs. Of this amount, $2,713.1 million was provided as foundation
aid to school districts by formula based upon the number of students and the
ability of a school district to raise taxes from its own base. In addition, the
State provided $601.0 million for special education programs for children with
disabilities. A $292.9 million program was also funded for pupils at risk of
educational failure, including basic skills improvement. The State appropriated
$612.9 million on behalf of school districts as the employer share of the
teachers' pension and benefits programs, $249.4 million to pay for the cost of
pupil transportation and $38.2 million for transition aid, which guaranteed
school districts a 6.5% increase over the aid received in Fiscal Year 1991 and
is being phased out over six years.
Appropriations to the State Department of Community Affairs ("DCA") total
$837.9 million in State Aid monies for Fiscal Year 1996. Many of the DCA State
Aid programs and many Treasury State Aid programs are consolidated into a single
appropriation, Consolidated Municipal Property Tax Relief Act in the amount of
$857.6 million. In addition, there is $16.7 million for housing programs, $33.0
million for a block grant program, $30 million for discretionary aid and $3.6
million in other aid. These appropriations are offset by $103.0 million in
pension funding savings, resulting in a net appropriation for DCA State Aid of
$837.9 million.
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Appropriations to the State Department of the Treasury total $85.1 million in
State Aid monies for Fiscal Year 1996. The principal programs funded by these
appropriations are the cost of senior citizens, disabled and veterans property
tax deductions and exemptions ($57.9 million); and aid to densely populated
municipalities ($17.0 million).
Other appropriations of State Aid in Fiscal Year 1996 include welfare
programs ($467.6 million); aid to county colleges ($128.0 million); and aid to
county mental hospitals ($78.3 million).
The second largest portion of appropriations in Fiscal Year 1996 is applied
to Direct State Services: the operation of State government's 19 departments,
the Executive Office, several commissions, the State Legislature and the
Judiciary. In Fiscal Year 1996, appropriations for Direct State Services
aggregated $5,179.6 million. Some of the major appropriations for Direct State
Services during Fiscal Year 1996 are detailed below.
$606.6 million was appropriated for programs administered by the State
Department of Human Services. Of that amount, $462.7 million was appropriated
for mental health and mental retardation programs, including the operation of
seven psychiatric institutions and nine schools for the retarded.
The State Department of Labor is appropriated $57.9 million for the
administration of programs for workers' compensation, unemployment and
disability insurance, manpower development, and health safety inspection.
The State Department of Health is appropriated $33.2 million for the
prevention and treatment of diseases, alcohol and drug abuse programs,
regulation of health care facilities and the uncompensated care program.
$761.1 million is appropriated to the State Department of Higher Education
for the support of nine State colleges, Rutgers University, the New Jersey
Institute of Technology, and the University of Medicine and Dentistry.
$869.9 million is appropriated to the State Department of Law and Public
Safety and the State Department of Corrections. Among the programs funded by
this appropriation are the administration of the State's correctional facilities
and parole activities, the registration and regulation of motor vehicles and
licensed drivers and the investigative and enforcement activities of the State
Police.
$184.3 million is appropriated to the State Department of Transportation for
the various programs it administers, such as the maintenance and improvement of
the State highway system.
$182.2 million is appropriated to the State Department of Environmental
Protection for the protection of air, land, water, forest, wildlife and
shellfish resources and for the provision of outdoor recreational facilities.
The primary method for State financing of capital projects is through the
sale of the general obligation bonds of the State. These bonds are backed by
the full faith and credit of the State. tax revenues and certain other fees are
pledged to meet the principal and interest payments and if provided, redemption
premium payments required to pay the debt fully. No general obligation debt can
be issued by the State without prior voter approval, except that no voter
approval is required for any law authorizing the creation of a debt for the
purpose of refinancing all or a portion of outstanding debt of the State, so
long as such law requires that the refinancing provide a debt service savings.
In addition to payment from bond proceeds, capital construction can also be
funded by appropriation of current revenues on a pay-as-you-go basis. This
amount represents 1.3 percent of the total budget for fiscal year 1996.
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The aggregate outstanding general obligation bonded indebtedness of the State
as of June 30, 1994 was $3,650.3 billion. The debt service obligation for
outstanding indebtedness is $466.3 million for fiscal year 1996.
All appropriations for capital projects and all proposals for State bond
authorizations are subject to the review and recommendation of the New Jersey
Commission on Capital Budgeting and Planning. This permanent commission was
established in November, 1975, and is charged with the preparation of the State
Capital Improvement Plan, which contains proposals for State spending for
capital projects.
At any given time, there are various numbers of claims and cases pending
against the State, State agencies and employees, seeking recovery of monetary
damages that are primarily paid out of the fund created pursuant to the Tort
Claims Act N.J.S.A. 59:1-1 et seq. In addition, at any given time there are
various contract claims against the State and State agencies seeking recovery of
monetary damages.
The State is unable to estimate its exposure for these claims and cases. An
independent study estimated an aggregate potential exposure of $66.5 million for
tort claims pending, as of December 31, 1994. It is estimated that were a
similar study made of claims currently pending the amount of estimated exposure
would be higher. Moreover, New Jersey is involved in a number of other lawsuits
in which adverse decisions could materially affect revenue or expenditures.
Such cases include challenges to its system of educational funding, the methods
by which the State Department of Human Services shares with county governments
the maintenance recoveries and costs for residents in state psychiatric
hospitals and residential facilities for the developmentally disabled.
Other lawsuits, that could materially affect revenue or expenditures include
a suit by a number of taxpayers seeking refunds of taxes paid to the Spill
Compensation Fund pursuant to NJSA 58:10-23.11, a suit alleging that
unreasonably low Medicaid payment rates have been implemented for long-term care
facilities in New Jersey, a suit alleging unfair taxation on interstate
commerce, a suit by Essex County seeking to invalidate the State's method of
funding the judicial system and a suit seeking return of moneys paid by various
counties for maintenance of Medicaid or Medicare eligible residents of
institutions and facilities for the developmentally disabled and a suit
challenging the imposition of premium tax surcharges on insurers doing business
in New Jersey, and assessments upon property and casualty liability insurers
pursuant to the Fair Automobile Insurance Reform Act.
Legislation enacted June 30, 1992, which called for revaluation of several
public employee pension funds, authorized an adjustment to the assumed rate of
return on the investment of pension fund assets, and refunds $66.5 million in
public employer contributions to the State from various pension funds, reflected
as a revenue source for Fiscal Year 1992. It is estimated that savings of $226
million will be effected in fiscal year 1993 and each fiscal year thereafter.
Several labor unions filed suit seeking a judgment directing the State Treasurer
to refund all monies transferred from the pension funds and paid into the
General Fund. On February 5, 1993, the Superior Court granted the State's
motion for summary judgment as to all claims. An appeal has been filed with the
Appellate Division of the Superior Court. On May 5, 1994, the Appellate
Division affirmed the decision of the trial court dismissing the complaint. An
adverse determination in this matter would have a significant impact on fiscal
year 1993 and subsequent fiscal year fund balances.
Bond Ratings--Citing a developing pattern of reliance on non-recurring
measures to achieve budgetary balance, four years of financial operations marked
by revenue shortfalls and operating deficits, and the likelihood that financial
pressures will persist, on August 24, 1992 Moody's lowered from Aaa to Aa1 the
rating assigned to New Jersey general obligation bonds. The downgrade reflects
Moody's concern that the state's chronic budgetary problems detract from
bondholder security. The Aa-1 rating from Moody's is equivalent to Standard &
Poor's AA rating. On July 6, 1992, Standard & Poor's affirmed its AA+ ratings
on New Jersey's general obligation and various lease and appropriation backed
debt, but its ratings outlook was revised to negative for the longer term
horizon (beyond four months) for resolution
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of two items cited in the Credit Watch listing: (i) the Federal Health Care
Facilities Administration ruling concerning retroactive medicaid hospital
reimbursements and (ii) the state's uncompensated health care funding system,
which is under review by the United States Supreme Court.
THE NEW MEXICO TRUST
RISK FACTORS--Driven by its private sector, the New Mexico state economy and
the economy of Albuquerque and its metropolitan area have enjoyed vigorous
growth. The short term outlook continues to be excellent. However, the strong
job growth of recent years is expected to slow somewhat in the longer term and
future spending cuts by the federal government are expected, which will also
have a dampening effect on the rate of economic growth.
The State Economy. The Debt Obligations included in the Portfolio of the New
-----------------
Mexico Trust may include special or general obligations of the State or of the
municipality or authority which is the issuer. Special obligations are not
supported by taxing powers. The risks, particular source of payment and
security for each of the Debt Obligations are detailed in the instruments
themselves and in related offering materials. There can be no assurance
concerning the extent to which the market value or marketability of any of the
Debt Obligations will be affected by the financial or other condition of the
State, or by changes in the financial condition or operating results of
underlying obligors. Further, there can be no assurance that the discussion of
risks disclosed in related offering materials will not become incomplete or
inaccurate as a result of subsequent events.
According to reports of the Bureau of Business and Economic Research of the
University of New Mexico ("BBER") through June 1995 and covering reports of
economic results for 1994 and estimated results for the first quarter of 1995,
New Mexico's economy performed exceptionally well during the period, with
diversified growth by sector and region throughout the state. During the twelve
months ending March 1995, employment increased 5.3 percent, the fifth highest
growth rate in the country. The recent high rate of increase in personal income
and disposable income continued.
New Mexico is benefitting from an influx of new manufacturing and business
services firms into the Rocky Mountain states, drawn by the region's low wages,
productive work force, relatively low tax burden and quality of life. Although
New Mexico is highly dependent on defense spending, the State has so far escaped
any major defense cuts. Indeed, U.S. Air Force facilities have seen a limited
expansion, and the two national laboratories have gained additional funds for
environmental, arms control and technology transfer research. Job losses in
defense related activities which have occurred to date have been fairly minor
from an overall state perspective. Employment in the federal government sector
has declined, however, and over the longer term, further job losses are expected
as a result of anticipated spending cutbacks by the Department of Energy which
will impact the national laboratories at Sandia in Albuquerque and at Los
Alamos.
New Mexico's construction sector returned to employment growth during early
1992. Construction boomed during 1993, across the board, in residential
construction, non-residential construction other than buildings and
non-residential construction, as well. Construction employment added more than
4,500 jobs. Growth in this sector continued to increase through the first
quarter of 1995, the fourteenth consecutive quarter of double digit growth in
construction employment. At the same time, housing construction slowed during
the first quarter of 1995, with the third consecutive quarterly decline in
authorizations for single-family units more than offsetting a triple digit
increase in authorizations for multi-family units. Part of the boom is
attributable to a rebound from the severe recession in construction which
occurred during the 1986-1991 period, part to the favorable impact of lower
interest rates which contributed to a favorable climate for construction of
residential housing and part is attributable to the $1.8 billion expansion of
Intel's electronics manufacturing plant at Rio Rancho. (As of January 1, 1994,
the
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Albuquerque Metropolitan Statistical Area ("MSA") was redefined to include
Sandoval County, the location of Rio Rancho, as well as Valencia County and
Bernalillo County).
In the ever-cyclical mining sector, employment has declined slightly, after a
growth by 1,500 jobs since 1992, following a loss in 1992 which reflected the
adverse impact of low oil prices and very low gas prices. Production of oil and
natural gas and employment are both down, but production is up in the metals and
coal sectors, particularly copper and coal, and even uranium is showing some
signs of life as production of uranium oxide resumed.
Manufacturing has seen robust growth. About 5,000 new jobs have been added
by the manufacturing sector since 1990, led by expansion of the Intel plant,
Motorola, General Mills, Philips Semiconductor and Sumitomo in the Albuquerque
MSA and numerous new food processing operations in the eastern part of the
State.
The Economy of Albuquerque and its Metropolitan Area. A significant
----------------------------------------------------
proportion of the New Mexico Trust's Portfolio may consist of Debt Obligations
of issuers located in, or whose activities may be affected by economic
conditions in, the Albuquerque MSA. Albuquerque is the largest city in the
State of New Mexico, accounting for roughly one-quarter of the State's
population. Located in the center of the State at the intersection of two major
interstate highways and served by both rail and air, Albuquerque is the major
trade, commercial and financial center of the State.
According to BBER reports through December 1994, the economy of the
Albuquerque MSA outperformed the state as a whole in 1993. BBER described the
expansion of the Albuquerque economy during 1994 as "feverish", with job growth
occurring across the board except for the federal government segment. However,
a hint of economic slowing appeared during the first quarter of 1995 with a
halving of the rate of increase in gross receipts taxes. The Albuquerque MSA
accounts for almost 47% of the jobs in New Mexico, and in 1993 accounted for 55%
of all new jobs statewide.
Non agricultural employment in the Albuquerque MSA has seen quarter-to-
quarter gains for fifteen consecutive quarters through the first quarter of
1995. Over half of nonagricultural civilian employment in the Albuquerque MSA
is in the trade and service sectors. Historically, the service sector has grown
at roughly twice the rate of growth of the trade sector. During 1993, the
services sector rate of growth slowed from historical levels, reflecting the
influence of a reduction in the rate of growth in the health services sector and
a decrease in hotel/lodging employment. Both sectors grew during 1994 at
roughly a 6.0 percent rate. The importance of trade and services reflects the
continued importance of tourism to the Albuquerque economy. Albuquerque has
benefitted from the recent fascination with the Southwest and from efforts to
promote the City and to attract major conventions to the expanded Convention
Center.
While it has declined in importance as a direct employer, the government
sector still accounts for 20 percent of the Albuquerque MSA's total
nonagricultural employment. Not included in this calculation are the 7,500 jobs
at Sandia National Laboratories and about 6,200 military jobs at Kirtland Air
Force Base. The University of New Mexico ("UNM"), the Albuquerque Public
Schools system, Sandia and Kirtland are the largest employers in the Albuquerque
area. Discussions of defense cutbacks have created considerable uncertainty
over future funding for operations at Kirtland and Sandia. At Sandia,
employment has remained steady. However, potential future cuts in spending cast
a cloud over the outlook. The fact that many Sandia employees are at or near
retirement age and are believed to be likely to remain in the Albuquerque area
would blunt the economic impact of cutbacks at Sandia.
The Albuquerque economy experienced a construction boom during the
mid-1980's, but construction employment decreased in every year from 1985 to
1991. A major increase in jobs occurred during 1992 and the construction sector
led the Albuquerque economy in 1993 and 1994, spurred by low interest rates,
pent up demand for housing and retail and public works construction projects.
In early 1993, this sector received an immense boost when Intel Corporation
began an expansion of its microprocessor
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production facility in Rio Rancho, within the Albuquerque MSA, creating as many
as 3,000 construction jobs as of Spring, 1993. During 1994, construction
continued to be the Albuquerque MSA's fastest growing employment sector with a
23.2 percent increase. While single family housing construction remained
strong, construction activity for multi-family units, which saw a rebirth during
the second quarter of 1994, was accelerating with almost a frenzy by the end of
the year and into the first quarter of 1995.
The manufacturing employment sector within the Albuquerque MSA has added more
than 5,000 jobs since the first quarter of 1992, a significant portion of which
related to electronics manufacturing at Intel, Motorola and Philips
Semiconductors. Rio Rancho, which is located approximately 20 miles northwest
of downtown Albuquerque in Sandoval County, has had considerable success in
attracting new manufacturing facilities. Employment at Intel Corporation's Rio
Rancho plant has seen steady, significant increases since 1988, and the current
expansion is expected to add 2,400 new manufacturing jobs. Moderately strong
employment growth continued in this sector 1994.
Income. According to U.S. Department of Commerce data, Albuquerque MSA
personal income grew at an annual rate of not less than 6.0% from 1986 through
1992, the most recent year for which the statistic is available. In 1993,
annual per capita personal income for the State of New Mexico and the United
States was $16,333 and $20,781, respectively. According to BBER, New Mexico's
average wage in 1993 was 83.9 percent of the average U.S. wage ($21,703 versus
$23,866) a fall from the 93.1 percent level which existed in 1981. This trend
shows that with the exception of the new jobs in the durable manufacturing
sector, the new jobs generated in recent periods have in many cases been low
paying ones and even in sectors such as retail trade and state and local
government, average wages have not kept pace with national averages.
Population. Population in the Albuquerque MSA is estimated at 645,525 for
1994. (The population of the State is estimated at 1,653,521.)
Outlook. The 1994 year was a strong one economically for New Mexico and
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Albuquerque. BBER projects an excellent near-term economic outlook, based on
the income, tax and employment multiplier effect of recent employment gains at
new and expanding manufacturers and business services, which is expected to
continue in 1995; a continued high level of construction activity following
completion of the Intel project during mid-1995, despite interest rate hikes,
with new building of apartments, hotels and motels, office buildings, streets
and highways, and a major, regional shopping center on the west side of
Albuquerque; and state capital projects funded by the 1994 legislature. Further
increases in employment and personal income are expected in 1995, although at a
lesser rate than during 1994 due to expected reductions in mining and
construction sectors and a weaker national economy. With strong growth in
personal income and disposable income, in a low inflation environment, retail
trade and consumer services businesses are expected to do well.
According to BBER's analysis, New Mexico has enjoyed a competitive advantage
over other states in attracting manufacturing, business services and retail
trade jobs since 1981, although the sharp declines in mining throughout the
1980's and construction's bust in the second half of the 1980's tended to
obscure this phenomenon. The State's recent economic performance in the face of
weakness in important sectors was impressive.
The Sponsors believe that the information summarized above describes some of
the more significant general considerations relating to Debt Obligations
included in the New Mexico Trust. For a discussion of the particular risks
associated with each of the Debt
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Obligations and other factors to be considered in connection therewith,
reference should be made to the Official Statements and other offering materials
relating to each of the Debt Obligations which are included in the portfolio of
the New Mexico Trust. The sources of the information set forth herein are
official statements, other publicly available documents, and statements of
public officials and representatives of the issuers of certain of the Debt
Obligations. While the Sponsors have not independently verified this
information, they have no reason to believe that such information is incorrect
in any material respect.
THE NEW YORK TRUST
RISK FACTORS--Prospective investors should consider the financial
difficulties and pressures which the State of New York and several of its public
authorities and municipal subdivisions have undergone. The following briefly
summarizes some of these difficulties and the current financial situation, based
principally on certain official statements currently available; copies may be
obtained without charge from the issuing entity, or through the Agent for the
Sponsors upon payment of a nominal fee. While the Sponsors have not
independently verified this information, they have no reason to believe that it
is not correct in all material respects.
New York State. In recent fiscal years, there have been extended delays in
adopting the State's budget, repeated revisions of budget projections,
significant revenue shortfalls (as well as increased expenses) and year-end
borrowing to finance deficits. These developments reflect faster long-term
growth in State spending than revenues and that the State was earlier and more
severely affected by the recent economic recession than most of the rest of the
country, as well as its substantial reliance on non-recurring revenue sources.
The State's general fund incurred cash basis deficits of $775 million, $1,081
million and $575 million, respectively, for the 1990-1992 fiscal years.
Measures to deal with deteriorating financial conditions included transfers from
reserve funds, recalculating the State's pension fund obligations (subsequently
ruled illegal), hiring freezes and layoffs, reduced aid to localities, sales of
State property to State authorities, and additional borrowings (including
issuance of additional short-term tax and revenue anticipation notes payable out
of impounded revenues in the next fiscal year). The general fund realized a
$671 million surplus for the fiscal year ended March 31, 1993, and a $1.54
billion surplus for the fiscal year ended March 31, 1994. Results for the fiscal
year ended March 31, 1995, are projected to be in balance.
Approximately $5.2 billion of State general obligation debt was outstanding
at March 31, 1995. State supported debt (restated to reflect LGAC's assumption
of certain obligations previously funded through issuance of short-term debt)
was $27.9 billion at March 31, 1995, up from $9.8 billion in 1986. A proposed
constitutional amendment would prohibit additional lease-purchase and
contractual obligation financing for State facilities, but would authorize the
State without voter referendum to issue revenue bonds within a formula-based
cap, secured solely by a pledge of certain State tax receipts. It would also
restrict State debt to capital projects included in a multi-year capital
financing plan. The proposal is subject to approval by voters. Standard &
Poor's reduced its rating of the State's general obligation bonds on January 13,
1992 to A-(its lowest rating for any state). Moody's reduced its ratings of
State general obligation bonds from A1 to A on June 6, 1990 and to Baa1, its
rating of $14.2 billion of appropriation-backed debt of the State and State
agencies (over two-thirds of the total debt) on January 6, 1992.
In May 1991 (nearly 2 months after the beginning of the 1992 fiscal year),
the State Legislature adopted a budget to close a projected $6.5 billion gap
(including repayment of $905 million of fiscal 1991 deficit notes). Measures
included $1.2 billion in new taxes and fees, $0.9 billion in non-recurring
measures and about $4.5 billion of reduced spending by State agencies (including
layoffs), reduced aid to localities and school districts, and Medicaid cost
containment measures. After the Governor vetoed $0.9 billion in spending, the
State adopted $0.7 billion in additional spending, together with various
measures including a $100 million increase in personal income taxes and $180
million of additional non-recurring measures. Due primarily to declining
revenues and escalating Medicaid and social service expenditures, $0.4 billion
of administrative actions, $531 million of year-end short-term borrowing and a
$44 million withdrawal from the Tax Stabilization Reserve Fund were required to
meet the State's cash flow needs.
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The State budget to close a projected $4.8 billion gap for the State's 1993
fiscal year (including repayment of the fiscal 1992 short-term borrowing)
contained a combination of $3.5 billion of spending reductions (including
measures to reduce Medicaid and social service spending, as well as further
employee layoffs, reduced aid to municipalities and schools and reduced support
for capital programs), deferral of scheduled tax reductions, and some new and
increased fees. Nonrecurring measures aggregated $1.18 billion.
To close a projected budget gap of nearly $3 billion for the fiscal year
ended March 31, 1994, the State budget contained various measures including
further deferral of scheduled income tax reductions, some tax increases, $1.6
billion in spending cuts, especially for Medicaid, and further reduction of the
State's work force. The budget increased aid to schools, and included a formula
to channel more aid to districts with lower-income students and high property
tax burdens. State legislation requires deposit of receipts from the petroleum
business tax and certain other transportation-related taxes into funds dedicated
to transportation purposes. Nevertheless, $516 million of these monies were
retained in the general fund during this fiscal year. The Division of the
Budget has estimated that non-recurring income items other than the $671 million
surplus from the 1993 fiscal year aggregated, $318 million.
The budget for the fiscal year ended March 31, 1995, increased spending by
3.8% (greater than inflation for the first time in six years). It provided a
tax credit for low income families and increased aid to education, especially in
the poorer districts. The State reduced coverage and placed additional
restrictions on certain health care services. Over $1 billion resulted from
postponement of scheduled reductions in personal income taxes for a fifth year
and in taxes on hospital income; another $1.5 billion came from non-recurring
measures. The Governor in January 1995 instituted $188 million in spending
reductions (including a hiring freeze) and $71 million of other measures to
avert a deficit.
More than two months after the fiscal year that began April 1, 1995, the
State adopted a budget to close a projected gap of approximately $5 billion,
including a reduction in income and business taxes. The financial plan projects
nearly $1.6 billion in savings from cost containment, disbursement reestimates
and reduced funding for social welfare programs and $2.2 billion from State
agency actions. Approximately $1 billion of the gap-closing measures are non-
recurring and some of the revenue and cost-cutting estimates are considered
optimistic. A suit was filed seeking to block introduction of the State's new
lottery game, expected to produce $80-200 million in annual revenues. The State
Comptroller sued to prevent reallocation of $110 million of reserves from a
special pension fund and has projected gaps of $2.7 billion for fiscal 1997 and
$3.9 billion for fiscal 1998 (substantially above the Governor's projections),
reflecting in part the last two years of the Governor's proposal to reduce
personal income taxes by 20% over three years. State and other estimates are
subject to uncertainties including the effects of Federal tax legislation and
economic developments.
The State normally adjusts its cash basis balance by deferring until the
first quarter of the succeeding fiscal year substantial amounts of tax refunds
and other disbursements. For many years, it also paid in that quarter more than
40% of its annual assistance to local governments. Payment of these annual
deferred obligations and the State's accumulated deficit was substantially
financed by issuance of short-term tax and revenue anticipation notes shortly
after the beginning of each fiscal year. The New York Local Government
Assistance Corporation ("LGAC") was established in 1990 to issue $4.7 billion of
long-term bonds over several years, payable from a portion of the State sales
tax, to fund certain payments to local governments traditionally funded through
the State's annual seasonal borrowing. The legislation will normally prevent
State seasonal borrowing until an equal amount of LGAC bonds are retired. The
State's last seasonal borrowing, in May 1993, was $850 million.
Generally accepted accounting principles ("GAAP") for municipal entities
apply modified accrual accounting and give no effect to payment deferrals. On
an audited GAAP basis, the State's government funds group recorded operating
deficits of $1.2 billion and $1.4 billion for the 1990 and 1991 fiscal years.
For the same periods the general fund recorded deficits (net of transfers from
other funds) of $0.7 billion
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and $1.0 billion. Reflecting $1.6 billion, $881 million and $875 million of
payments by LGAC to local governments out of proceeds from bond sales, the
general fund realized surpluses of $1.7 billion, $2.1 billion and $0.9 billion
for the 1992, 1993 and 1994 fiscal years, respectively. A $0.9 billion deficit
has been projected for the fiscal year ended March 31, 1995.
For decades, the State's economy has grown more slowly than that of the rest
of the nation as a whole. Part of the reason for this decline has been
attributed to the combined State and local tax burden, which is among the
highest in the nation. The State's dependence on Federal funds and sensitivity
to changes in economic cycles, as well as the high level of taxes, may continue
to make it difficult to balance State and local budgets in the future. The
total employment growth rate in the State has been below the national average
since 1984. The State lost 524,000 jobs in 1990-1992. It regained
approximately 185,000 jobs between November 1992 and June 1995.
New York City (the "City"). The City is the State's major political
subdivision. In 1975, the City encountered severe financial difficulties,
including inability to refinance $6 billion of short-term debt incurred to meet
prior annual operating deficits. The City lost access to the public credit
markets for several years and depended on a variety of fiscal rescue measures
including commitments by certain institutions to postpone demands for payment, a
moratorium on note payment (later declared unconstitutional), seasonal loans
from the Federal government under emergency congressional legislation, Federal
guarantees of certain City bonds, and sales and exchanges of bonds by The
Municipal Assistance Corporation for the City of New York ("MAC") to fund the
City's debt.
MAC has no taxing power and pays its obligations out of sales taxes imposed
within the City and per capita State aid to the City. The State has no legal
obligation to back the MAC bonds, although it has a "moral obligation" to do so.
MAC is now authorized to issue bonds only for refunding outstanding issues and
up to $1.5 billion should the City fail to fund specified transit and school
capital programs. The State also established the Financial Control Board
("FCB") to review the City's budget, four-year financial plans, borrowings and
major contracts. These were subject to FCB approval until 1986 when the City
satisfied statutory conditions for termination of such review. The FCB is
required to reimpose the review and approval process in the future if the City
were to experience certain adverse financial circumstances. The City's fiscal
condition is also monitored by a Deputy State Comptroller.
From 1989 through 1993, the gross city product declined by 10.1% and
employment, by almost 11%, while the public assistance caseload grew by over
25%. Unemployment averaged 10.8% in 1992, 10.1% in 1993 and 8.7% in 1994.
While the City's unemployment rate has declined since then, it is still above
the rest of the State and the nation as a whole. The number of persons on
welfare exceeds 1.1 million, the highest level since 1972, and one in seven
residents is currently receiving some form of public assistance.
While the City, as required by State law, has balanced its budgets in
accordance with GAAP since 1981, this has required exceptional measures in
recent years. City expenditures have grown faster than revenues each year from
1986 through 1994, masked in part by a large number of non-recurring gap closing
actions. To eliminate potential budget gaps of $1-$3 billion each year since
1988 the City has taken a wide variety of measures. In addition to increased
taxes and productivity increases, these have included hiring freezes and
layoffs, reductions in services, reduced pension contributions, and a number of
nonrecurring measures such as bond refundings, transfers of surplus funds from
MAC, sales of City property and tax receivables. The FCB concluded that the
City has neither the economy nor the revenues to do everything its citizens have
been accustomed to expect.
The City closed a budget gap for the 1993 fiscal year (estimated at $1.2
billion) through actions including service reductions, productivity initiatives,
transfer of $0.5 billion surplus from the 1992 fiscal year and $100 million from
MAC. A November 1992 revision offset an additional $561 million in projected
expenditures through measures including a refunding to reduce current debt
service costs,
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reduction in the reserve and an additional $81 million of gap closing measures.
Over half of the City's actions to eliminate the gap were non-recurring.
The Financial Plan for the City's 1994 fiscal year relied on increases in
State and Federal aid, as well as the 1993 $280 million surplus and a partial
hiring freeze, to close a gap resulting primarily from labor settlements and
decline in property tax revenues. The Plan contained over $1.3 billion of one-
time revenue measures including bond refundings, sale of various City assets and
borrowing against future property tax receipts. Interim expenditure reductions
of approximately $300 million were implemented. The FCB reported that although
a $98 million surplus was projected for the year (the surplus was actually $81
million), a $312 million shortfall in budgeted revenues and $904 million of
unanticipated expenses (including an unbudgeted increase of over 3,300 in the
number of employees and a record level of overtime), net of certain increased
revenues and other savings, resulted in depleting prior years' surpluses by $326
million.
The City's original Financial Plan for the fiscal year ended June 30, 1995,
proposed to eliminate a projected $2.3 billion budget gap through measures
including reduction of the City's workforce (achieved in substantial part
through voluntary severance packages funded by MAC),increased State and Federal
aid, a bond refinancing, reduced contributions to City pension funds and sale of
certain City assets. The Mayor's proposals include efforts toward privatization
of certain City services and agencies (a labor union underbid private bidders on
one recent contract), greater control of independent authorities and agencies
(the Schools Chancellor resigned following numerous conflicts with the Mayor),
and reducing social service expenditures (including stricter eligibility
requirements and fingerprinting of recipients). He also sought concessions from
labor unions representing City employees. As several of these measures failed to
implemented, the City experienced lower than anticipated tax collections and
higher than budgeted costs (particularly overtime and liability claims) during
the year, various alternative measures were implemented, for an aggregate of
more than $3 billion of gap closing measures. $1.9 billion of these were non-
recurring and, in the case of a second bond refinancing, will increase City
expenses for future years. Reduced maintenance of City infrastructure could
also lead to increased future expenses. In December 1994, the City Council
rejected the Mayor's recommendations, adopted its own budget revisions and sued
to enforce them; the suit was dismissed and the Mayor impounded funds to achieve
his proposed expense reductions.
The City projected a $3.1 billion budget gap for the fiscal year that began
July 1, 1995, attributed to large use of non-recurring measures in the 1995
fiscal year, a $630 million decline in tax revenues and a $630 million shortfall
in anticipated State aid, as well as higher Medicaid and agency spending,
failure to negotiate increased lease payments for City airports, additional
funding for pensions and State failure to adopt a tort reform measure. The
Financial Plan approved in June will reduce a wide range of City services. City
agency and labor savings are projected at $1.2 billion and $600 million
respectively. The City Comptroller identified $0.7 to $1.0 billion of risks for
the current fiscal year, including anticipated State and Federal aid increases,
savings in welfare expenditures through increased fraud detection, proposed gap
closing measures by the Board of Education and a substantial projected deficit
for the Health and Hospitals Corporation, labor concessions (including health
insurance costs) and increased rental payments for the City's airports.
However, buyers subsequently agreed to acquire the City-owned television station
for $207 million, more than twice the anticipated sale price. Estimates of non-
recurring measures range from $500-800 million. The Mayor separately proposed
selling the City's water system the New York Water Board, which would issue $2.3
billion of bonds for the purpose. This would provide the City with $800 million
over the next four years. The City Comptroller has threatened to block the sale
unless the City commits to use these funds only for capital projects. The plan
also would provide $200 million of capital spending for the Board of Education,
which is contingent on its approval. Issuance of bonds by the Water Board would
also permit the City to issue more bonds as it approaches its debt limit. Most
of the proposed gap-closing measures depend on cooperation of Federal or State
governments or municipal unions, of which there can be no assurance. The City
Comptroller predicted that certain reductions in Medicaid and welfare
expenditures may lead to job reductions and higher costs for other programs.
The City projects budget gaps of $0.9 billion, $1.5 billion and $1.5 billion for
the 1997, 1998 and 1999 fiscal
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years. The City Comptroller has identified risks of $2-2.5 billion, $2.8-3.3
billion and $2.9-3.4 billion for those years, respectively. The State
Comptroller cited principally growing Medicaid, employee health insurance and
debt service costs. Fiscal monitors have commented that the City needs to take
significant additional actions to work toward structural balance.
A major uncertainty is the City's labor costs, which represent about 50% of
its total expenditures. The City's workforce grew by 34% during the 1980s. A
January 1993 agreement covering approximately 44% of City workers followed
negotiations lasting nearly two years. Workers received wage and benefit raises
totalling 8.25% over 39 months ended March 1995. An agreement announced in
August 1993 provides wage increases for City teachers averaging 9% over the 48
1/2 months ending October 1995. The City is seeking to negotiate workforce
productivity initiatives, savings from which would be shared with the workers
involved. Under a contract reached in September 1994, while sanitation workers
would receive an overall increase of 8.25% in wages and benefits over 39 months,
routes would be lengthened by an average of 20%. However, no similar agreements
have been reached with other unions and the savings have been largely offset by
an increase in overtime. The Financial Plan assumes no further wage increases
after the 1995 fiscal year. Also, costs of some previous wage increases were
offset by reduced contributions to pension funds; because fund performance has
been less than the earnings projected, the City will need to increase
contributions by $300 million a year, beginning in the current fiscal year. A
tentative agreement with labor leaders in June 1995 proposes to realize $440
million of the $600 million in savings sought for the current fiscal year,
mostly from reduced health care costs and spreading out City contributions to
pension funds. Certain of these actions will increase City costs in future
years. The agreement did not include layoffs or changes in productivity or work
rules. Commitments for the remaining $140 million were unspecified.
Budget balance may also be adversely affected by the effect of the economy on
economically sensitive taxes. Reflecting the downturn in real estate prices and
increasing defaults, estimates of property tax revenues have been reduced. If
this trend continues, the City's ability to issue additional general obligation
bonds could be limited by the 1998 fiscal year. The City also faces uncertainty
in its dependence on State aid. Other uncertainties include additional
expenditures to combat deterioration in the City's infrastructure (such as
bridges, schools and water supply), costs of developing alternatives to ocean
dumping of sewage sludge (which the City expects to defray through increased
water and sewer charges), cost of the AIDS epidemic and problems of drug
addiction and homelessness. For example, the City may be ordered to spend up to
$8 billion to construct water filtration facilities if it is not successful in
implementing measures to prevent pollution of its watershed upstate. In
December 1994 the City submitted for State approval new pervasive regulations of
activities in the area which can cause pollution. The City has been sued by
local landowners; also State regulations proposed in March 1995 that would
require prior notification and approval of City land purchases would undermine a
major component of the City's plan. Elimination of any additional budget gaps
will require various actions, including by the State, a number of which are
beyond the City's control. Staten Island voters in 1993 approved a proposed
charter under which Staten Island would secede from the City. Secession will
require enabling legislation by the State Legislature; it would also be subject
to legal challenge by the City. The effects of secession on the City cannot be
determined at this time, but questions include responsibility for outstanding
debt, a diminished tax base, and continued use of the Fresh Kills landfill, the
City's only remaining garbage dump. A similar measure with respect to Queens
was approved by the New York State Senate.
The City sold $1.4 billion, $1.8 billion, $2.2 billion and $1.5 billion of
short-term notes, respectively, during the 1993, 1994, 1995 and current fiscal
years. The City projects that $2.4 billion of notes will be issued in the
current fiscal year. At June 30, 1995, there were outstanding $23.3 billion of
City bonds (not including City debt held by MAC), $4.1 billion of MAC bonds and
$1.1 billion of City-related public benefit corporation indebtedness, each net
of assets held for debt service. Standard & Poor's and Moody's during the
1975-80 period either withdrew or reduced their ratings of the City's bonds.
Standard & Poor's reduced its rating of the City's general obligation debt to
BBB+ on July 10, 1995, citing the City's economy, substantial retention of non-
recurring revenues and optimistic revenue
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projections in the latest budget. Moody's rates City bonds Baa1. City-related
debt almost doubled since 1987, although total debt declined as a percentage of
estimated full value of real property. The City's financing program projects
long-term financing during fiscal years 1996-1999 to aggregate $14.6 billion.
An addition $0.8 billion is to be derived from other sources, principally use of
restricted cash balances. Assuming sale of the City's water system, from fiscal
year 1999 through fiscal year 2005, debt service is estimated to average 18.2%
of tax revenues, up from 12.3% in fiscal year 1990 and 14% in fiscal year 1995.
If the sale is not consummated, the debt service ratio would increase. The
City's latest Ten Year Capital Strategy plans capital expenditures of $45.6
billion during 1994-2003 (93% to be City funded).
Other New York Localities. In 1993, other localities had an aggregate of
approximately $17.7 billion of indebtedness outstanding. In recent years,
several experienced financial difficulties. $105 million was for deficit
financing. A March 1993 report by Moody's Investors Service concluded that the
decline in ratings of most of the State's largest cities in recent years
resulted from the decline in the State's manufacturing economy. Any reductions
in State aid to localities may cause additional localities to experience
difficulty in achieving balanced budgets. County executives have warned that
reductions in State aid to localities to fund future State tax reductions are
likely to require increased local taxes. If special local assistance were
needed from the State in the future, this could adversely affect the State's as
well as the localities' financial condition. Most localities depend on
substantial annual State appropriations. Legal actions by utilities to reduce
the valuation of their municipal franchises, if successful, could result in
localities becoming liable for substantial tax refunds.
State Public Authorities. In 1975, after the Urban Development Corporation
("UDC"), with $1 billion of outstanding debt, defaulted on certain short-term
notes, it and several other State authorities became unable to market their
securities. Since 1975 the State has provided substantial direct and indirect
financial assistance to UDC, the Housing Finance Agency ("HFA"), the
Environmental Facilities Corporation and other authorities. Practical and legal
limitations on these agencies' ability to pass on rising costs through rents and
fees could require further State appropriations. 18 State authorities had an
aggregate of $70.3 billion of debt outstanding at September 30, 1994. At March
31, 1995, approximately $0.4 billion of State public authority obligations was
State-guaranteed, $7.0 billion was moral obligation debt (including $4.6 billion
of MAC debt) and $22.7 billion was financed under lease-purchase or contractual
obligation financing arrangements with the State. Various authorities continue
to depend on State appropriations or special legislation to meet their budgets.
The Metropolitan Transportation Authority ("MTA"), which oversees operation
of the City's subway and bus system by the City Transit Authority (the "TA") and
operates certain commuter rail lines, has required substantial State and City
subsidies, as well as assistance from several special State taxes. Measures to
balance the TA's 1993 budget included increased funding by the City, increased
bridge and tunnel tolls and allocation of part of the revenues from the
petroleum business tax. The New York City Transit Financial plan submitted in
May 1995 projects a TA deficit of $150 million for 1995 (reflecting a $113
million reduction in City funding), and cash basis budget gaps of $262 million,
$547 million, $673 million and $731 million for 1996 through 1999. An MTA budget
gap of $388 million is projected for 1996. In August 1995, the MTA Chairman
proposed an ambitious program of fare increases (20% for the TA) and a five-year
program of $2.85 billion in expense reductions which he urged was needed to
restore the MTA budget to a sound financial basis.
Substantial claims have been made against the TA and the City for damages
from a 1990 subway fire and a 1991 derailment. The MTA infrastructure,
especially in the City, needs substantial rehabilitation. In December 1993, a
$9.5 billion MTA Capital Plan was finally approved for 1992-1996; however, $500
million was contingent on increased contributions from the City, which it
declined to approve. Also, in December 1994 the MTA Capital Program Review Board
failed to approve a proposed bond resolution to permit financing in significant
part, as proposed, through receipts from the petroleum business tax. The
Governor has requested the MTA to postpone the $690 million of borrowing for
capital spending under the plan for 1995. It is anticipated that the MTA and
the TA will continue to require
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significant State and City support. Moody's reduced its rating of certain MTA
obligations to Baa on April 14, 1992.
Litigation. The State and the City are defendants in numerous legal
proceedings, including challenges to the constitutionality and effectiveness of
various welfare programs, alleged torts and breaches of contract, condemnation
proceedings and other alleged violations of laws. Adverse judgments in these
matters could require substantial financing not currently budgeted. For
example, in addition to real estate certiorari proceedings, claims in excess of
$286 billion were outstanding against the City at June 30, 1994, for which it
estimated its potential future liability at $2.6 billion. It was recently
reported that settlement of claims against the City for the effects of lead
poisoning may cost $500 million during the next several years. Another action
seeks a judgment that, as a result of an overestimate by the State Board of
Equalization and Assessment, the City's 1992 real estate tax levy exceeded
constitutional limits. In March 1993, the U.S. Supreme Court ruled that if the
last known address of a beneficial owner of accounts held by banks and brokerage
firms cannot be ascertained, unclaimed funds therein belong to the state of the
broker's incorporation rather than where its principal office is located. New
York has agreed to pay $351 million by the 2003 fiscal year.
Final adverse decisions in any of these cases could require extraordinary
appropriations at either the State or City level or both.
THE NORTH CAROLINA TRUST
RISK FACTORS--See Portfolio for a list of the Debt Obligations included in
the North Carolina Trust. The portions of the following discussion regarding
the financial condition of the State government may not be relevant to general
obligation or revenue bonds issued by political subdivisions of the State.
Those portions and the sections which follow regarding the economy of the State,
are included for the purpose of providing information about general economic
conditions that may or may not affect issuers of the North Carolina Obligations.
None of the information is relevant to any Puerto Rico or Guam Debt Obligations
which may be included in the portfolio of the North Carolina Trust.
General obligations of a city, town or county in North Carolina are payable
from the general revenues of the entity, including ad valorem tax revenues on
property within the jurisdiction. Revenue bonds issued by North Carolina
political subdivisions include (1) revenue bonds payable exclusively from
revenue-producing governmental enterprises and (2) industrial revenue bonds,
college and hospital revenue bonds and other "private activity bonds" which are
essentially non-governmental debt issues and which are payable exclusively by
private entities such as non-profit organizations and business concerns of all
sizes. State and local governments have no obligation to provide for payment of
such private activity bonds and in many cases would be legally prohibited from
doing so. The value of such private activity bonds may be affected by a wide
variety of factors relevant to particular localities or industries, including
economic developments outside of North Carolina.
Section 23-48 of the North Carolina General Statutes appears to permit any
city, town, school district, county or other taxing district to avail itself of
the provisions of Chapter 9 of the United States Bankruptcy Code, but only with
the consent of the Local Government Commission of the State and of the holders
of such percentage or percentages of the indebtedness of the issuer as may be
required by the Bankruptcy Code (if any such consent is required). Thus,
although limitations apply, in certain circumstances political subdivisions
might be able to seek the protection of the Bankruptcy Code.
State Budget and Revenues. The North Carolina State Constitution requires
that the total expenditures of the State for the fiscal period covered by each
budget not exceed the total of receipts during the fiscal period and the surplus
remaining in the State Treasury at the beginning of the period. The State's
fiscal year runs from July 1st through June 30th.
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In 1990 and 1991 the State had difficulty meeting its budget projections.
The General Assembly responded by enacting a number of new taxes and fees to
generate additional revenue and reduce allowable departmental operating
expenditures and continuation funding. The spending reductions were based on
recommendations from the Governor, the Government Performance Audit Committee
and selected reductions identified by the General Assembly.
The State, like the nation, has experienced economic recovery since 1991. In
the opinion of the State Controller, the growth in the economy and the
legislative actions taken in 1991 had a positive effect on the State's revenue
collections over the past several years. The State had a budget surplus of
approximately $865 million at the end of fiscal 1993-94. After review of the
1994-95 continuation budget adopted in 1993, the General Assembly approved
spending expansion funds, in part to restore certain employee salaries to
budgeted levels, which amounts had been deferred to balance the budgets in
1989-1993, and to authorize funding for new initiatives for economic
development, education, human services and environmental programs. (The cutback
in funding for infrastructure and social development projects had been cited by
agencies rating State obligations, following the 1991 reductions, as cause for
concern about the long-term consequences of those reductions on the economy of
the State and the State's fiscal prospects).
Because of projected growth in State tax and fee revenues, the General Fund
balance at the end of the 1994-95 fiscal year was reported at approximately $300
million.
The state budget is based upon estimated revenues and a multitude of existing
and assumed State and non-state factors, including State and national economic
conditions, international activity and federal government policies and
legislation. The Congress of the United States is considering a number of
matters affecting the federal government's relationship with state governments
that, if enacted into law, could affect fiscal and economic policies of the
states, including North Carolina.
In April 1995, the North Carolina General Assembly repealed, effective for
taxable years beginning on or after January 1, 1995, the tax levied on various
forms of intangible personal property. The intangibles tax revenues receivable
by counties and municipalities will no longer be received. Instead, the
legislature has provided for specific appropriations to counties and
municipalities.
It is unclear what effect these developments at the State level may have on
the value of the Debt Obligations in the North Carolina Trust.
Litigation. Litigation against the State includes the following. None of
the cases, in the reported opinion of the Department of the Treasurer, would
have a material adverse affect on the State's ability to meet its obligations.
Leandro et al v. State of North Carolina and State Board of Education - In
May 1994, students and boards of education in five counties in the State filed
suit in state court requesting a declaration that the public education system of
North Carolina,including its system of funding, violates the State constitution
by failing to provide adequate or substantially equal educational opportunities
and denying due process of law and violates various statutes relating to public
education. The suit is similar to a number of suits in other states, some of
which resulted in holdings that the respective systems of public education
funding were unconstitutional under the applicable state law. The defendants in
such suit have filed a motion to dismiss, which was denied. The North Carolina
Attorney General's Office believes that sound legal arguments supports the
state's position.
Francisco Case - In August 1994, a class action lawsuit was filed in state
court against the Superintendent of Public Instruction and the State Board of
Education on behalf of a class of parents and their children who are
characterized as limited English proficient. The complaint alleges that the
State has failed to provide funding for the education of these students and has
failed to supervise local school systems
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in administering programs for them. The complaint does not allege an amount in
controversy, but asks the Court to order the defendants to fund a comprehensive
program to ensure equal educational opportunities for children with limited
English proficiency. The North Carolina Attorney General's Office believes that
sound legal arguments supports the state's position.
Swanson Case -- State Tax Refunds -- Federal Retirees. In Davis v. Michigan
(1989), the United States Supreme Court ruled that a Michigan income tax statute
which taxed federal retirement benefits while exempting those paid by state and
local governments violated the constitutional doctrine of intergovernmental tax
immunity. At the time of the Davis decision, North Carolina law contained
similar exemptions in favor of state and local retirees. Those exemptions were
repealed prospectively, beginning with the 1989 tax year. All public pension
and retirement benefits are now entitled to a $4,000 annual exclusion.
Following Davis, federal retirees filed a class action suit in federal court
in 1989 seeking damages equal to the North Carolina income tax paid on federal
retirement income by the class members. A companion suit was filed in state
court in 1990. The complaints alleged that the amount in controversy exceeded
$140 million. The North Carolina Department of Revenue estimated refunds and
interest liability of $280.89 million as of June 30, 1994. In 1991, the North
Carolina Supreme Court ruled in favor of the State in the state court action,
concluding that Davis could only be applied prospectively and that the taxes
collected from the federal retirees were thus not improperly collected. In
1993, the United States Supreme Court vacated that decision and remanded the
case back to the North Carolina Supreme Court. The North Carolina Supreme Court
then ruled in favor of the State on the grounds that the federal retirees had
failed to comply with state procedures for challenging unconstitutional taxes.
Plaintiffs petitioned the United States Supreme Court for review of that
decision and the Supreme Court denied that petition. The United States District
Court has ruled in favor of the defendants in the companion federal case, and a
petition for reconsideration was denied. Plaintiffs appealed to the United
States Court of Appeals which also rejected the retirees' arguments. The
plaintiffs continue to seek relief through state legislation.
Bailey Case -- State Tax Refunds -- State Retirees. State and local
government retirees filed a class action suit in 1990 as a result of the repeal
of the income tax exemptions for state and local government retirement benefits.
The original suit was dismissed after the North Carolina Supreme Court ruled in
1991 that the plaintiffs had failed to comply with state law requirements for
challenging unconstitutional taxes and the United States Supreme Court denied
review. In 1992, many of the same plaintiffs files a new lawsuit alleging
essentially the same claims, including breach of contract, unconstitutional
impairment of contract rights by the State in taxing benefits that were
allegedly promised to be tax-exempt and violation of several state
constitutional provisions. The North Carolina Attorney General's Office
estimates that the amount in controversy is approximately $40-$45 million
annually for the tax years 1989 through 1992. The case has been tried in
Superior Court but a decision has not yet been made by the trial judge. The
North Carolina Attorney General's Office believes that sound legal arguments
support the state's position.
Faulkenbury v. Teachers' and State Employees' Retirement System, Peele v.
Teachers' and State Employees' Retirement System, and Woodard v. Local
Government Employees' Retirement System. Plaintiffs are disability retirees who
brought class actions in state court challenging changes in the formula for
payment of disability retirement benefits and claiming impairment of contract
rights, breach of fiduciary duty, violation of other federal constitutional
rights, and violation of state constitutional and statutory rights. The State
estimates that the cost in damages and higher prospective benefit payments to
plaintiffs and class members would probably amount to $50 million or more in
Faulkenbury, $50 million or more in Peele, and $15 million or more in Woodward,
all ultimately payable, at least initially, from the retirement systems funds.
Upon review in Faulkenbury, the North Carolina Court of Appeals and Supreme
Court have held that claims made in Faulkenbury substantially similar to those
in Peele and Woodward, for breach of fiduciary duty and violation of federal
constitutional rights brought under the federal Civil Rights Act either do not
state a cause of action or are otherwise barred by the statute of limitations.
In 1994 plaintiffs took
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voluntary dismissals of their claims for impairment of contract rights in
violation of the United States Constitution and filed new actions in federal
court asserting the same claims along with claims for violation of
constitutional rights in the taxation of retirement benefits. The remaining
state court claims in all cases are yet to be heard. The federal court actions
have been stayed pending the trial in state court. The North Carolina Attorney
General's Office believes that sound legal arguments support the state's
position.
Fulton Case--The State's intangible personal property tax levied on certain
shares of stock has been challenged by the plaintiff on grounds that it violates
the Commerce Clause of the United States Constitution by discriminating against
stock issued by corporations that do all or part of their business outside the
State. The plaintiff seeks to invalidate the tax in its entirety and to recover
tax paid on the value of its shares in other corporations. The North Carolina
Court of Appeals invalidated the taxable percentage deduction and excised it
from the statue beginning with the 1994 tax year. The effect of this ruling was
to increase collections by rendering all stock taxable on 100% of its value.
The North Carolina Supreme Court reversed the Court of Appeals and held that the
tax is valid and constitutional. The plaintiff's petition for review by the
U.S. Supreme Court was granted. Net collections from the tax for the fiscal
year ended June 30, 1993 amounted to $120.6 million. The North Carolina
Attorney General's Office believes that sound legal arguments support the
state's position.
General. The population of the State has increased 13% from 1980, from
5,880,095 to 6,657,106 as reported by the 1990 federal census and the State rose
from twelfth to tenth in population. The State's estimate of population as of
June 30, 1994 is 7,064,470. Notwithstanding its rank in population size, North
Carolina is primarily a rural state, having only five municipalities with
populations in excess of 100,000. The labor force has undergone significant
change during recent years as the State has moved from an agricultural to a
service and goods producing economy. Those persons displaced by farm
mechanization and farm consolidations have, in large measure, sought and found
employment in other pursuits. Due to the wide dispersion of non-agricultural
employment, the people have been able to maintain, to a large extent, their
rural habitation practices. During the period 1980 to 1994, the State labor
force grew about 26% (from 2,855,200 to 3,609,000). Per capita income during
the period 1980 to 1993 grew from $7,999 to $18,702, an increase of 133.8%.
The current economic profile of the State consists of a combination of
industry, agriculture and tourism. As of November 1994, the State was reported
to rank ninth among the states in non-agricultural employment and eighth in
manufacturing employment. Employment indicators have varied somewhat in the
annual periods since June of 1990, but have demonstrated an upward trend since
1991. The following table reflects the fluctuations in certain key employment
categories.
<TABLE><CAPTION>
Category (all seasonally adjusted) June 1991 June 1992 June 1993 June 1994 June 1994
========= =========
<S> <C> <C> <C> <C> <C>
Civilian Labor Force 3,228,000 3,495,000 3,504,000 3,560,000 3,578,000
========= =========
Nonagricultural Employment 3,059,000 3,135,000 3,203,400 3,358,700 3,419,100
========= =========
Goods Producing Occupations
(mining, construction and
manufacturing) 973,600 980,800 993,600 1,021,500 1,036,700
========= =========
Service Occupations 2,085,400 2,154,200 2,209,800 2,337,200 2,382,400
========= =========
Wholesale/Retail Occupations 704,100 715,100 723,200 749,000 776,900
========= =========
Government Employees 496,700 513,400 515,400 554,600 555,300
========= =========
Miscellaneous Services 596,300 638,300 676,900 731,900 742,200
========= =========
Agricultural Employment 88,700 102,800 88,400 53,000 53,000
========= =========
</TABLE>
The seasonally adjusted unemployment rate in June 1995 was estimated to be
4.4% of the labor force, as compared with 5.6% nationwide.
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As of 1994, the State was ninth in the nation in gross agricultural income,
of which nearly the entire amount (approximately $5.5 billion) was from
commodities. According to the State Commissioner of Agriculture, in 1994 the
State ranked first in the nation in the production of flue-cured tobacco, total
tobacco, turkeys and sweet potatoes; second in hog production, trout and the
production of cucumbers for pickles; third in the value of poultry and egg
products, peanuts and net farm income; fourth in commercial broilers,
blueberries and strawberries; fifth in burley tobacco; and sixth in peaches.
The diversity of agriculture in North Carolina and a continuing push in
marketing efforts have protected farm income from some of the wide variations
that have been experienced in other states where most of the agricultural
economy is dependent on a small number of agricultural commodities. North
Carolina is the third most diversified agricultural state in the nation.
Tobacco production, which has been the leading source of agricultural income
in the State, declined in 1994, based on preliminary figures. For 1994, poultry
production and pork production surpassed tobacco among sources of agricultural
income, providing 30% and 15.5%, respectively. Tobacco farming in North
Carolina has been and is expected to continue to be affected by major Federal
legislation and regulatory measures regarding tobacco production and marketing
and by international competition. Measures adverse to tobacco farming could
have negative effects on farm income and the North Carolina economy generally.
The number of farms has been decreasing; in 1994 there were approximately
58,000 farms in the State (down from approximately 72,000 in 1987, a decrease of
about 19% in seven years). However, a strong agribusiness sector supports
farmers with farm inputs (fertilizer, insecticide, pesticide and farm machinery)
and processing of commodities produced by farmers (vegetable canning and
cigarette manufacturing). North Carolina's agriculture industry, including
food, fiber and forest products, contributes over $42 billion annually to the
State's economy.
The State Department of Commerce, Travel and Tourism Division, statistics
office, reports that in 1993 approximately $8.3 billion was spent on tourism in
the State. The Department estimates that two-thirds of total expenditures came
from out-of-state travelers and that approximately 250,000 people were employed
in tourism-related jobs.
Bond Ratings. Currently, Moody's rates North Carolina general obligation
bonds as Aaa and Standard & Poor's rates such bonds as AAA. Standard & Poor's
also reaffirmed its stable outlook for the State in January 1994.
Standard & Poor's reports that North Carolina's rating reflects the State's
strong economic characteristics, sound financial performances, and low debt
levels.
The Sponsors believe the information summarized above describes some of the
more significant events relating to the North Carolina Trust. The sources of
this information are the official statements of issuers located in North
Carolina, State agencies, publicly available documents, publications of rating
agencies and statements by, or news reports of statements by State officials and
employees and by rating agencies. The Sponsors and their counsel have not
independently verified any of the information contained in the official
statements and other sources and counsel have not expressed any opinion
regarding the completeness or materiality of any matters contained in this
Prospectus other than the tax opinions set forth below under North Carolina
Taxes.
THE OHIO TRUST
RISK FACTORS--The following summary is based on publicly available
information which has not been independently verified by the Sponsors or their
legal counsel.
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Employment and Economy. Economic activity in Ohio, as in many other
industrially developed states, tends to be more cyclical than in some other
states and in the nation as a whole. Ohio ranked third in the nation in 1990
gross state product derived from manufacturing. Although manufacturing
(including auto-related manufacturing) remains an important part of Ohio's
economy, the greatest growth in employment in Ohio in recent years, consistent
with national trends, has been in the non-manufacturing area. Payroll
employment in Ohio showed a steady upward trend until 1979, then decreased until
1982. It peaked in the summer of 1993 after a slight decrease in 1992, and then
decreased slightly but, as of June 1, 1995, it has approached a new high.
Growth in recent years has been concentrated among non-manufacturing industries,
with manufacturing tapering off since its 1969 peak. Over three-fourths of the
payroll workers in Ohio are employed by non-manufacturing industries.
The average monthly unemployment rate in Ohio was 5.0% in July, 1995.
With 15.2 million acres in farm land, agriculture is a very important segment
of the economy in Ohio, providing an estimated 750,000 jobs or approximately
15.9% of total Ohio employment. By many measures, agriculture is Ohio's leading
industry contributing nearly $4.5 billion to the state's economy each year.
Ohio continues to be a major "headquarters" state. Of the top 500
corporations (industrial, commercial and service under the 1995 revised
classification) based on 1994 sales as reported in 1995 by Fortune magazine, 48
had headquarters in Ohio, placing Ohio fifth as a "headquarters" state for
corporations.
The State Budget, Revenues and Expenditures and Cash Flow. Ohio law
effectively precludes the State from ending a fiscal year or a biennium with a
deficit. The State Constitution provides that no appropriation may be made for
more than two years and consistent with that provision the State operates on a
fiscal biennium basis. The current fiscal biennium runs from July 1, 1995
through June 30, 1997. The Governor's executive budget for the current fiscal
biennium, and accompanying appropriations bill, as of June 1, 1995, was timely
submitted to the General Assembly and extensive hearing process. The Ohio
Office of Budget Management (the "OBM") expected that the usual appropriations
bill would be passed prior to the end of the last biennium.
Under Ohio law, if the Governor ascertains that the available revenue
receipts and balances for the general revenue fund or other funds for the then
current fiscal year will probably be less than the appropriations for the year,
he must issue orders to the State agencies to prevent their expenditures and
obligations from exceeding the anticipated receipts and balances. The Governor
implemented this directive in some prior years, including fiscal years 1992 and
1993.
Consistent with national economic conditions, the 1990-91 and 1992-93
bienniums presented a greater challenge to Ohio's finances. In the 1990-91
biennium, Ohio experienced an economic slowdown producing some significant
changes in certain general revenue fund revenue and expenditure levels for the
fiscal year 1991. Several executive and legislative measures were taken to
address the anticipated shortfall in revenues and increase in expenditures. As
a result, the OBM reported a positive general revenue fund balance of
approximately $135.4 million at the end of fiscal year 1991.
State and national fiscal uncertainties during the 1992-93 biennium required
several actions to achieve the ultimate positive general revenue fund ending
balances. As an initial action, to address a subsequently projected fiscal year
1992 imbalance, the Governor ordered most state agencies to reduce general
revenue fund appropriation spending in the final six months of that year by a
total of approximately $184 million. Debt service obligations were not affected
by this order. Then in June 1992, $100.4 million was transferred to the general
revenue fund from the budget stabilization fund and certain other funds. Other
revenue and spending actions, legislative and administrative, resolved the
remaining general revenue fund imbalance for fiscal year 1992.
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As a first step toward addressing a then estimated $520 million general
revenue fund shortfall for fiscal year 1993, the Governor ordered, effective
July 1, 1992, selected general revenue fund appropriations reductions totalling
$300 million (but such reductions did not include debt service). Subsequent
executive and legislative actions provided for positive biennium-ending general
revenue fund balances. The general revenue fund ended the 1992-93 biennium with
a fund balance of approximately $111 million and a cash balance of approximately
$394 million.
The GRF appropriations act for the 1994-95 biennium provided for total GRF
biennial expenditures of approximately $30.7 billion. Authorized expenditures
in fiscal year 1994 were 9.2% higher than in fiscal year 1993, and for fiscal
year 1995 were 6.6% higher than in fiscal year 1994. Fiscal year 1994 ended
with a GRF fund balance of over $560 million. The 1994-95 biennium ending GRF
fund balance was $928 million.
The GRF appropriations act for the current biennium was passed on June 28,
1995 and promptly signed (with selected vetoes) by the Governor. That act
provides for total GRF biennial expenditures of approximately $33.5 billion.
Because the schedule of general revenue fund cash receipts and disbursements
do not precisely coincide, temporary general revenue fund cash flow deficiencies
often occur in some months of a fiscal year, particularly in the middle months.
Statutory provisions provide for effective management of these temporary cash
flow deficiencies by permitting adjustment of payment schedules and the use of
total operating funds. In fiscal year 1992 there were general revenue fund cash
flow deficiencies in ten months, with the highest being approximately $743.1
million. In fiscal year 1993, general revenue fund cash flow deficiencies
occurred in August 1992 through May 1993, with the highest being approximately
$768.6 million in December. General revenue fund cash flow deficiencies
occurred in six months of fiscal year 1994, with the highest being approximately
$500.6 million. In fiscal year 1995, a general revenue fund cash flow
deficiency occurred in four months with the highest being approximately $338
million in November 1994.
State and State Agency Debt. The Ohio Constitution prohibits the incurrence
or assumption of debt by the State without a popular vote except for the
incurrence of debt to cover causal deficits or failures in revenue or to meet
expenses not otherwise provided for which are limited to $750,000 and to repel
invasions, suppress insurrection or defend the State in war. Under
interpretations by Ohio courts, revenue bonds of the State and State agencies
that are payable from net revenues of or related to revenue producing facilities
or categories of such facilities are not considered "debt" within the meaning of
these constitutional provisions.
At various times since 1921, Ohio voters, by thirteen specific constitutional
amendments (the last adopted in 1993), authorized the incurrence of up to $4.864
billion in State debt to which taxes or excises were pledged for payment. Of
that amount, $715 million was for veterans' bonuses. As of August 16, 1995, of
the total amount authorized by the voters, excluding highway obligations and
general obligation park bonds discussed below, approximately $3.405 billion has
been issued, of which approximately $2.624 billion has been retired and
approximately $781.3 million remains outstanding. The only such State debt
still authorized to be incurred are portions of the Highway Obligation Bonds,
the general obligation Coal Development Bonds, local infrastructure bonds and
natural resources capital facilities bonds.
No more than $500 million in state highway obligations may be outstanding at
any time. As of August 16, 1995, approximately $357.7 million of highway
obligations were outstanding. No more than $100 million in State obligations
for coal development may be outstanding at any one time. As of August 16, 1995,
approximately $30.3 million of such bonds were outstanding. Not more than $1.2
billion of State general obligation bonds to finance local capital
infrastructure improvements may be issued at any one time, and no more than $120
million can be issued in a calendar year. As of August 16, 1995, approximately
$728.3 million of those bonds were outstanding.
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The Ohio Constitution authorizes State bonds for certain housing purposes,
but tax moneys may not be obligated or pledged to those bonds. In addition, the
Ohio Constitution authorizes the issuance of obligations of the State for
certain purposes, the owners or holders of which are not given the right to have
excises or taxes levied by the State legislature to pay principal and interest.
Such debt obligations include the bonds and notes issued by the Ohio Public
Facilities Commission, the Ohio Building Authority and the Treasurer of State.
The Treasurer of State has been authorized to issue bonds to finance
approximately $138.6 million of capital improvements for local elementary and
secondary public school facilities, and the State building authority has been
authorized to issue $100 million of bonds to provide computer technology and
security systems for local school districts. Debt service on the obligations is
payable from State resources.
A statewide economic development program assists with loans and loan
guarantees, and the financing of facilities for industry, commerce, research and
distribution. The law authorizes the issuance of State bonds and loan
guarantees secured by a pledge of portions of the State profits from liquor
sales. The General Assembly has authorized the issuance of these bonds by the
State Treasurer, with a maximum amount of $300 million, subject to certain
adjustments, currently authorized to be outstanding at any one time. Of an
approximate $147.7 million issue in 1989, approximately $76.4 million is
outstanding. The highest future year annual debt service on those 1989 bonds,
which are payable through 2000, is approximately $18.3 million.
An amendment to the Ohio Constitution authorizes revenue bond financing for
certain single and multifamily housing. No State resources are to be used for
the financing. As of July 18, 1995, the Ohio Housing Financing Agency, pursuant
to that constitutional amendment and implementing legislation, had sold revenue
bonds in the aggregate principal amount of approximately $234.32 million for
multifamily housing and approximately $3.996 billion for single family housing.
A constitutional amendment adopted in 1990 authorizes greater State and
political subdivision participation in the provision of housing for individuals
and families in order to supplement existing State housing assistance programs.
The General Assembly could authorize State borrowing for the new programs and
the issuance of State obligations secured by a pledge of all or a portion of
State revenues or receipts, although the obligations may not be supported by the
State's full faith and credit. Also, a constitutional amendment approved in
November 1994 pledges the full faith and credit and taxing power of the State to
meet certain guarantees under the State's tuition credit program. Under the
amendment, to secure the tuition guarantees, the General Assembly is required to
appropriate moneys sufficient to offset any deficiency that may occur from time
to time in the trust fund that provides for the guarantee and at any time
necessary to make payment of the full amount of any tuition payment or refund
required by a tuition payment contract.
A 1986 act, amended in 1994 (the "Rail Act"), authorizes the Ohio Rail
Development Commission (the "Rail Commission") to issue obligations to finance
the costs of rail service projects within the State either directly or by loans
to other entities. The Rail Commission has considered financing plan options
and the possibility of issuing bonds or notes. The Rail Act prohibits, without
express approval by joint resolution of the General Assembly, the collapse of
any escrow of financing proceeds for any purpose other than payment of the
original financing, the substitution of any other security, and the application
of any proceeds to loans or grants. The Rail Act authorizes the Rail
Commission, but only with subsequent General Assembly action, to pledge the full
faith and credit of the State but not the State's power to levy and collect
taxes (except ad valorem property taxes if subsequently authorized by the
General Assembly) to secure debt service on any post-escrow obligations and,
provided it obtains the annual consent of the State Controlling Board, to pledge
to and use for the payment of debt service on any such obligations, all excises,
fees, fines and forfeitures and other revenues (except highway receipts) of the
State after provision for the payment of certain other obligations of the State.
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Schools and Municipalities. The 612 public school districts and 49 joint
vocational school districts in the State receive a major portion (approximately
46%) of their operating funds from State subsidy appropriations, the primary
portion known as the Foundation Program. They also must rely heavily upon
receipts from locally-voted taxes. Some school districts in recent years have
experienced varying degrees of difficulty in meeting mandatory and discretionary
increased costs. Current law prohibits school closings for financial reasons.
Original State appropriations for the 1992-93 biennium provided for an
increase in school funding over funding for the preceding biennium. The
reduction in appropriations spending for fiscal year 1992 included a 2.5%
overall reduction in the annual Foundation Program appropriations and a 6%
reduction in other primary and secondary education programs. The reductions
were in varying amounts, and had varying effects, with respect to individual
school districts. State appropriations for the 1994-95 biennium provided for an
increase in State school funding appropriations over those in the preceding
biennium. The $8.9 billion appropriated for primary and secondary education
provided for 2.4% and 4.6% increases in basic aid for the two fiscal years of
the biennium. State appropriations for primary and secondary education for the
1996-97 biennium provide for a 13.6% increase in school funding appropriations
over those in the preceding biennium.
In previous years school districts facing deficits at year end had to apply
to the State for a loan from the Emergency School Advancement Fund. This Fund
met all the needs of the school districts with potential deficits in fiscal
years 1979 through 1989. New legislation replaced the Fund with enhanced
provisions for individual district local borrowing, including direct application
of Foundation Program distributions to repayment if needed. In fiscal year
1993, there were 27 loans made for an approximate aggregate amount of $94.5
million. In fiscal year 1994, 28 school districts took down loans aggregating
approximately $41.1 million. In fiscal year 1995, 29 school districts have
received approvals for loans totaling approximately $71.1 million.
Litigation contesting the Ohio system of school funding is pending with
defendants being the State and several State agencies and officials. The
complaints essentially request a declaratory judgment that the State's statutory
system of funding public elementary and secondary education violates various
provisions of the Ohio Constitution and request the State to devise a
constitutionally acceptable system of school funding. On July 1, 1994, the
trial court concluded that certain provisions of current law violated provisions
of the Ohio constitution. The trial court directed the State to provide for and
fund a system of funding public elementary and secondary education in compliance
with the Ohio Constitution. Defendants have appealed this ruling, and have
applied for a stay until the case is resolved on appeal. On November 14, 1994,
the trial court granted a stay of its findings and conclusions, and certain of
its orders. It is not possible at this time to state whether the suit will be
successful or, if plaintiffs should prevail, the effect on the State's present
school funding system, including the amount of and criteria for State basic aid
allocations to school districts.
Various Ohio municipalities have experienced fiscal difficulties. Due to
these difficulties, the State established an act in 1979 to identify and assist
cities and villages experiencing defined "fiscal emergencies". A commission
appointed by the Governor monitors the fiscal affairs of municipalities facing
substantial financial problems. To date, this act has been applied to eleven
cities and twelve villages. The situations in nine of the cities and nine of
the villages have been resolved and their commissions terminated.
State Employees and Retirement Systems. The State has established five
public retirement systems, three of which cover both State and local government
employees, one covers State government employees only, and one covers local
government employees only. Those systems provide retirement, disability
retirement and survivor benefits. Federal law requires newly-hired State
employees to participate in the federal Medicare program, requiring matching
employer and employee contributions, each now 1.45% of the wage base.
Otherwise, State employees covered by a State retirement system are not
currently covered under the federal Social Security Act. The actuarial
evaluations reported by these five
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systems showed aggregate unfunded accrued liabilities of approximately $17,275.2
billion covering both State and local employees.
The State engages in employee collective bargaining and currently operates
under staggered two-year agreements with all of its 21 bargaining units. The
bargaining unit agreements with the State expire at various times in
Health Care Facilities Debt. Revenue bonds are issued by Ohio counties and
other agencies to finance hospitals and other health care facilities. The
revenues of such facilities consist, in varying but typically material amounts,
of payment from insurers and third-party reimbursement programs, such as
Medicaid, Medicare and Blue Cross. Consistent with the national trend,
third-party reimbursement programs in Ohio have begun new programs, and modified
benefits, with a goal of reducing usage of health care facilities. In addition,
the number of alternative health care delivery systems in Ohio has increased
over the past several years. For example, the number of health maintenance
organizations licensed by the Ohio Department of Insurance increased from 12 on
February 14, 1983 to 34 as of July 18, 1995. Due in part to changes in the
third-party reimbursement programs and an increase in alternative delivery
systems, the health care industry in Ohio has become more competitive. This
increased competition may adversely affect the ability of health care facilities
in Ohio to make timely payments of interest and principal on the indebtedness.
THE OREGON TRUST
RISK FACTORS--Introduction. Oregon's public finances were dramatically
altered in November 1990 by the adoption of Ballot Measure No. 5 by the voters
of the State of Oregon. The Measure, which amended the Oregon Constitution by
the addition of a new Article XI, Section 11b, limited property taxes for
non-school government operations to $10 per $1,000 of real market value
beginning in the 1991-92 fiscal year. Property taxes for school operations were
limited to $15 per $1,000 of real market value in the 1991-92 fiscal year, while
ultimately declining to $5 per $1,000 of real market value in the 1995-96 fiscal
year. The Measure also required the State of Oregon to use the State General
Fund revenues to pay school districts replacement dollars through the 1995-96
fiscal year for most of the revenues lost by the school districts because of the
Measure's limitations on their tax levies.
The State Legislative Revenue Office reports that, as a result of Ballot
Measure No. 5, non-school districts lost approximately $59.0 million of revenues
during the 1993-95 fiscal biennium, and school districts lost $1.604 billion of
tax revenues in the 1993-95 fiscal biennium.
The Measure contains many confusing and ill-defined terms, which may
ultimately be resolved by litigation in Oregon courts. In an attempt to define
some of these terms, and to provide guidance to Oregon municipalities, the 1991
Oregon Legislature approved a comprehensive revision of the statutes applicable
to the issuance of municipal debt in Oregon. A section of the 1991 legislation,
which excluded tax increment financing for urban renewal bonds indebtedness from
the limits of Ballot Measure No. 5, was declared invalid by the Oregon Supreme
Court in September, 1992. The Court, which affirmed an earlier ruling of the
Oregon Tax Court, determined that tax increment financing plans imposed a "tax"
on property subject to the limitations of Ballot Measure No. 5. A proposed
State constitutional amendment which would have revalidated tax increment
financing was referred to the Oregon voters in May 1993 and rejected. The City
of Portland has outstanding $89 million in principal amount of urban renewal
bonds. The Portland City Council has committed the City to honor the payment of
the urban renewal bonds from alternative sources.
The Measure defines the term "tax" as "any charge imposed by a governmental
unit upon property or upon a property owner as a direct consequence of ownership
of that property," excepting only from that definition "incurred charges and
assessments for local improvements." All Oregon issuers are required to
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analyze the charges they assess to determine if they constitute "taxes," which
are then limited by the constraints of the Measure. Moreover, debt service
payments for revenue and special assessment bonds are required to be reviewed in
the light of the Measure to determine if the charges made by the municipal
issuer for these debt service payments will constitute "taxes" limited by the
Measure. The comprehensive legislative revision of Oregon municipal debt
contains statutory guidelines to assist a municipality in determining if the
charges assessed are "taxes" limited under the Measure.
Debt service on bonded indebtedness may be adversely affected by Ballot
Measure No. 5 if the tax levied to provide funds for the servicing of the debt
will be included in the calculation of the maximum permitted tax levy under the
Measure. Taxes levied to pay for bonded debt will generally be included in the
limitations prescribed by the Measure, unless
* The bonded indebtedness was specifically authorized by the Oregon
Constitution (as, for example, the Oregon Veterans' Bonds), or
* (i) The bonded indebtedness was incurred or will be incurred "for capital
construction or improvements," (ii) the bonds issued for the capital
construction or improvements are general obligation bonds, and (iii) the bonds
were either issued before November 6, 1990, or, if issued after that date, were
approved by the electors of the issuer.
To provide for this limitation on the authority to tax, the Oregon
legislation creates two classifications of bonds secured by the taxing authority
of a municipal issuer: "general obligation bonds," which are bonds secured by an
authority to tax unlimited by the Measure, and "limited tax bonds," which are
bonds secured by an authority to levy taxes only within the overall limits
imposed on a municipal issuer by the Measure.
Fiscal Matters. The State's Department of Administrative Services expects
Oregon's economy to continue to slow over the next year. Factors stated by the
Department as contributing to the slowing of the economy include a decline in
the housing boom, reductions in timber output and employment, and a weaker
national demand for Oregon's manufactured products. The Department projects,
however, that despite the expectation of slower growth, continued expansion of
the high technology manufacturing sector, a strong international export sector,
further non-residential construction activity, and a steady stream of in-
migration are likely to generate growth and cause Oregon income and jobs to
remain above the national average.
The Department of Administrative Services reports that Oregon wage and salary
employment for the first quarter of 1995 increased at an annual rate of 3.9
percent, and employment at the end of the first quarter of 1995 was 63,100 above
the level existing at the end of the first quarter of 1994. The Department
projects that Oregon wage and salary income growth will increase 7.3 percent in
1995. The Department estimates that personal income increased 6.8 percent in
1994 and projects an increase of 7.3 percent in 1995 and 5.4 percent in 1996.
The Department of Administrative Services expects Oregon population to grow
by 31,600 in 1995, up from 29,600 in 1994. A steadying in the rate of migration
to the State is anticipated by the Department due to two factors. First, the
recovery of California's economy has reduced the incentive of California
residents to leave California and, second, an increase in Oregon's housing
prices is beginning to act as a disincentive for people and companies
considering a move to Oregon.
The Oregon Constitution requires that the State budget be balanced during
each fiscal biennium. Should the State experience budgetary difficulties
similar to the effects of the national recession on Oregon during the first half
of the 1980's, the State, its agencies, local units of government, schools and
private organizations which depend on State revenues and appropriations for both
operating funds and debt service could be required to expand revenue sources or
curtail certain services or operations in order to meet
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payments on their obligations. To the extent any difficulties in making
payments are perceived, the market value and marketability of outstanding debt
obligations in the Oregon Trust, the asset value of the Oregon Trust and
interest income to the Oregon Trust could be adversely affected.
The budget for the 1995-97 biennium includes a General Fund budget of $7.373
billion, representing an increase of 7.1% over 1993-95 expenditures. Total
appropriations for all funds in the 1995-97 budget are $22.260 billion,
representing an increase of 11.2% over the 1993-95 expenditures. This total
includes, in addition to the General Fund, $10.917 billion in Other Funds and
$3.970 billion in Federal Funds.
The obligation of the State under Ballot Measure No. 5 to replace most of the
lost revenues of school districts has had an adverse effect on the State's
General Fund. These replacement dollars are estimated by the State Legislative
Revenue Office to total $462.0 million during the 1991-93 fiscal biennium,
$1.523 billion during the 1993-95 biennium, and $1.351 billion during the
1995-96 fiscal year. Under Ballot Measure No. 5, the State's obligation to
replace school revenues terminates after fiscal year 1995-96.
Debt Obligations. The State of Oregon issued $475.1 million in bonds, notes
and certificates of participation ("COPs") during the fiscal year ended June 30,
1995, an increase of 20.1% from the $395.5 million in bonds, notes and COPs
issued in the fiscal year ended June 30, 1994. Of the fiscal year 1994-95
total, $182.4 million were general obligations, $240.5 million were revenue
obligations, and $27.6 million were COPs. During fiscal year 1994-95, local
Oregon governments issued approximately $1.317 billion in debt, a decrease of
approximately 5.6% from the fiscal year 1993-94 issuances of $1.395 billion.
The State of Oregon had outstanding $4.235 billion in general obligations at
June 30, 1995 representing a decrease of 8.1% from the total outstanding general
obligations of $4.607 billion at June 30, 1994. Oregon local governments had
$6.718 billion in total debt outstanding at June 30, 1995, representing an
increase of 17.3% from the total outstanding of $5.728 billion at June 30, 1994.
Veterans' Bond Program. At June 30, 1995, the State of Oregon had
outstanding approximately $3.333 billion of Oregon Veterans' Welfare Bonds and
Notes, representing a decrease of 10.5 percent from the total outstanding of
$3.726 billion at June 30, 1994. The Veterans' Bonds and Notes are utilized to
finance the veterans' mortgage loan program, administered by the Oregon
Department of Veterans' Affairs. The Veterans' Bonds and Notes are general
obligations of the State of Oregon.
In June 1988 the Oregon Attorney General issued an opinion relating to
periodic transfers dating back to 1951 of surplus monies from the Oregon War
Veterans' Fund to the State's General Fund. The Oregon War Veterans' Fund,
created in 1945 to provide home and farm loans to veterans, also provides
funding for specifically enumerated veterans and veterans' organizations. The
Attorney General opined that the State was obligated to return the amounts
transferred, with interest. The Oregon Legislature acted on the matter during
the 1989 legislative term, appropriating $77.2 million to the Oregon War
Veterans' Fund from the General Fund. Of the amount appropriated, $58.9 million
was transferred on July 1, 1989, and the balance was transferred in 1990. As a
result of these cash transfers, as well as lower than expected defaults and
other changes in the assumptions underlying the forecasting model of the
Department of Veterans' Affairs, the Department has eliminated its earlier
projected deficits for the Veterans' Bond program's sinking fund.
These earlier revenue shortfalls and projected deficits in the Veterans' Bond
program had an initial adverse effect on the ratings of all Oregon general
obligation bonds. Standard & Poor's increased its rating on Oregon general
obligations from A+ to AA-, however, after reviewing the 1989 transfer of monies
from the State's General Fund to the Oregon War Veterans' Fund. Similarly, the
Moody's rating of the State's outstanding general obligation bonds was increased
from A1 to Aa in January 1990.
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Taxes and Other Revenues. The State relies heavily on the personal income
tax. The personal income tax generated $5.354 billion of the total 1993-95
biennium General Fund revenues of $6.520 billion. The State's Department of
Revenue estimates that the personal income tax will generate $5.885 billion of
the total General Fund revenues of $6.856 billion projected for the 1995-97
biennium. The State corporate income and excise tax generated $567.2 million in
revenues during the 1993-95 biennium, and is projected by the Department of
Revenue to generate $576.9 million in revenues during the 1995-97 biennium.
Revenues generated by the State lottery are currently dedicated to economic
development. State lottery officials report that revenues generated from the
regular lottery sales for the 1994-95 fiscal year totaled $340.9 million, with
$78.2 million of that amount having been made available to fund economic
development in the State. State lottery officials also report that the State's
video poker program, which commenced operation in March 1992, generated revenues
of $333.1 million during the 1994-95 fiscal year, with $193.3 million of that
amount being made available to fund economic development in the State. State
lottery officials currently forecast $334.8 million from regular lottery sales
and $407.9 million from video poker sales for the 1995-96 fiscal year, with
$76.9 million and $239.4 million of those amounts, respectively, projected to be
available to fund economic development in the State. State lottery officials
project that revenues for the 1995-1997 biennium from regular lottery sales will
be $675.3 million and from video poker sales will be $892.6 million, with $153.0
million and $508.8 million of those amounts, respectively, projected to be
available to fund economic development in the State.
Under existing state tax programs, if the actual corporate income and excise
taxes received by the State in a fiscal biennium exceed by two percent or more
the amount estimated to be received from such taxes for the biennium, the excess
must be refunded as a credit to corporate income and excise taxpayers in a
method prescribed by statute. Similarly, if General Fund revenue sources (other
than corporate income and excise taxes) received in the biennium exceed by two
percent or more the amount estimated to be received from such sources during the
biennium, the excess must be refunded as a credit to personal income taxpayers.
Authority to levy property taxes is presently vested with the governing body
of each local government unit. In addition to the restrictions of Ballot
Measure No. 5, other constitutional and statutory provisions exist which limit
the amount that a governing body may levy:
1. Levy Within 6 Percent Limitation (Tax Base Levy). A tax base, approved
by a majority of voters at a statewide general or primary election, represents
permanent authority to annually levy a dollar amount which cannot exceed the
highest amount levied in the three most recent years in which a levy was made,
PLUS six percent thereof. A local unit is permitted to have but one tax base
levy and proceeds may be used for any purpose for which the unit may lawfully
expend funds.
2. Levy Outside 6 Percent Limitation (Special, Serial or Continuing Levy).
Special and serial levies are temporary taxing authorities permitting the levy
of a specific dollar amount for one year (Special) or for two or more years up
to ten years (Serial). Continuing levies are those approved by voters prior to
1953, are permanent in nature and are limited in amount by the product of the
voted tax rate and the assessed value of the unit. Since 1978 Serial levies may
also be established based on a specified tax rate but the term may not exceed
three years. Not more than four serial levy measures may be proposed in a given
year.
3. Levy Not Subject to 6 Percent Limitation (Debt Levy). Local units are
required to annually levy an amount sufficient to pay principal and interest
costs for a bonded debt. Bond measures to be paid from future tax levies must
first be approved by a majority of those voting unless otherwise provided by
law.
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Responding to a number of school closures occurring as a result of tax levy
failures during the last decade, Oregon voters approved a school "safety Net"
measure in 1987 designed to prevent future closures and maintain schools at the
standards required by the State. The law provides that in the event a school
district levy is defeated, upon making a finding that schools may close for lack
of funds, the school board is authorized to levy property taxes no greater than
the amount levied in the prior year and to adjust the district budget
accordingly for the period through the next date set to vote on the levy.
Litigation. The following summary of litigation relates only to matters as
to which the State of Oregon is a party and as to which the State of Oregon has
indicated that the individual claims against the State exceed $5 million. Other
litigation may exist with respect to individual municipal issuers as to which
the State of Oregon is not a party, but which, if decided adversely, could have
a materially adverse effect on the financial condition of the individual
municipal issuer.
1. SAIF Fund Transfers. During 1983, three special sessions of the
Legislature were convened to balance the previously approved budget for the
1981-83 fiscal biennium. Among the actions required to balance the budget were
the reduction of expenditures during the biennium by more than $215 million and
the transfer to the State's General Fund in June 1983 of $81 million from the
surplus of the State Accident Insurance Fund ("SAIF"). The State was sued in
litigation challenging the legality of the transfer of this surplus from SAIF to
the General Fund. Although the validity of the action was upheld at the trial
and intermediate appellate levels, the Oregon Supreme Court, affirming the trial
and appellate court decisions in part and reversing them in part, held that the
transfer of the $81 million was not proper. The Court did not, however, require
that the funds be repaid to SAIF, nor did the Court award the plaintiff any
damages.
As a result of the decision, a coalition of Oregon businesses filed a class
action lawsuit against the State seeking the return of the entire $81 million,
plus interest accrued. The lawsuit alleged that 30,000 Oregon businesses were
denied potential dividend payments when the Legislature improperly transferred
the SAIF reserves to the General Fund. The trial court ruled that the
plaintiffs could not maintain the suit as a class action, and dismissed all
claims against the State other than the plaintiffs' claims for breach of
contract. Subsequently, the trial court granted summary judgment, in part, in
the State's favor, dismissing the claims against all but five of the State
defendants.
The claims against the remaining defendants were consolidated and tried in
December 1990. The trial court granted a directed verdict for two of the
defendants, and the jury returned a defense verdict for the remaining three.
The plaintiffs appealed the verdicts to the Oregon Court of Appeals in March
1991. In December 1992, the Oregon Court of Appeals reversed the trial court's
judgment in favor of the State, holding that the trial court should have heard
the case as a class action, under which the classes of policyholders could have
had an opportunity to offer proof that they sustained damages in the form of
dividends or reduced premiums that the policyholders would have received if the
Legislature had not made the 1983 transfer of surplus reserves from SAIF.
However, in May 1993, the Oregon Supreme Court granted both the plaintiffs' and
the State's petitions for review of the Court of Appeals' decision and on
November 19, 1993, the Oregon Supreme Court issued an opinion ruling that the
State must return to SAIF the $81 million that the Legislature transferred to
the General Fund. The Oregon Supreme Court remanded the case to the trial court
to fashion a decree based upon evidence of what SAIF would have done with the
money if it had not been transferred to the General Fund. On December 28, 1993,
the State filed a motion for reconsideration of the Oregon Supreme Court's
opinion. The motion for reconsideration was denied. On remand, the trial court
ordered the State to return the $81 million to SAIF, with interest, but the
trial court did not determine the rate of interest. Oral arguments were heard
by the trial court in December 1994 on the legal issues relating to the
calculation of interest that the State must return. The theory chosen by the
court will set the rate and the amount of interest. Initial estimates by the
State indicate that the amount of principal and interest owing under the court's
ruling will be approximately $280 million. In its 1995 session, the Legislative
Assembly appropriated $60 million to the Industrial Accident Fund. To date,
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the State has repaid $65 million of the $81 million principal amount, but has
not yet paid any of the interest obligation.
2. Spotted Owl Timber Sale Cases. The State is currently facing potential
claims in connection with twenty-two State timber sales involving timber lands
that spotted owls may be using as habitats. Although only a few suits have been
brought against the State at this time, the State anticipates that other similar
cases will be filed. While the State has indicated that it is not now possible
to estimate the probable outcome of these claims, it estimates that the total
potential exposure to the State exceeds $11.6 million.
3. State Employee Claims for Overtime Pay. A class action suit has been
commenced in the United States District Court on behalf of all State employees
who have been deemed by the State to be exempt from the federal Fair Labor
Standards Act overtime provisions. Plaintiffs claim that they are not salaried
employees exempt from the overtime payment requirements of the Fair Labor
Standards Act because they are required to account for hours worked. According
to the State, the potential class totals an estimated 10,000 current and former
State employees. The plaintiffs seek back pay for overtime during the
three-year period preceding filing of the action, plus statutory liquidated
damages in an equal amount, and attorney fees. In June 1993, the federal
District Court granted the State's motion for summary judgment and dismissed the
claim. Plaintiffs appealed the decision to the United States Court of Appeals
for the Ninth Circuit. The Ninth Circuit ruled that certain employees were not
"salaried" employees because their rate of pay was subject to reduction as a
disciplinary measure for violation of agency rules that were unrelated to safety
concerns. The case was remanded back to the District Court for a determination
of back pay and liquidated damages. The State has filed a motion with the trial
court for leave to amend the State's answer.
Two additional cases have been brought on behalf of state employees who had
been deemed exempt from the Fair Labor Standards Act overtime provisions. In
the first case the trial court granted the plaintiff's motion for summary
judgment imposing liability against the State. The State estimates that the
actual amount of damages that employees may recover in the case is approximately
$800,000 to $1 million.
In the second case, filed on behalf of all state management service
employees, plaintiffs claim that employees who are subject to disciplinary pay
reduction are entitled to payment for overtime. The State has indicated that,
although it is difficult to estimate the State's potential liability at such an
early stage in the case, the class of possible claimants in this case is
approximately 7,000 employees and the State's liability could exceed $10
million.
4. Department of Corrections Harassment Litigation. Four former and current
female employees of the Oregon Department of Corrections filed a civil rights
action during September 1992 against that department in the United States
District Court for the District of Oregon. The plaintiffs claim almost $9
million in damages, plus attorney fees, alleging that they had been subjected to
sexual harassment while working for the department. At trial, two of the
plaintiffs were awarded no damages at all, one plaintiff was awarded $12,000 and
the fourth plaintiff was awarded $25,000. The time for plaintiffs to appeal has
not yet expired. However, the State has indicated that given the results of the
jury trial, the possibility that the State's exposure will exceed $1 million is
remote.
5. Taxation of Pension Benefits. Several cases have been filed in the
Oregon Tax Court and the State Circuit Courts alleging that a 1991 increase in
the Public Employee Retirement System ("PERS") benefits, to offset State
taxation of the PERS benefits, violates a holding by the United States Supreme
Court in Davis v. Michigan Dept. of Treasury. The Davis case holds that state
statutes may not provide disparate tax treatment of state and federal pension
benefits. The State has indicated that it is not possible to estimate the
potential impact of liability under these cases at this time. The trial court
has denied all of the plaintiff's claims in one of these cases. The plaintiff
in that case has appealed the trial court's ruling to the Oregon Supreme Court.
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Class action certification has been granted in an action filed against the
State and other public entities regarding the taxation of Oregon public
employment retirement benefits. The defendant class is composed of all
employers participating in PERS. The plaintiffs seek enforcement of the Oregon
Supreme Court's decision in Hughes v. State. In Hughes, the Court ruled that a
statutory amendment repealing a tax exemption for retirement benefits violated
the constitutional provision against impairment of contract for benefits
received from work performed prior to the date of amendment. The court deferred
to the Oregon Legislature to fashion a remedy; the Legislature failed to provide
a remedy, however, during the 1993 legislative session. Plaintiffs seek to
require public employers to pay breach of contract damages or to increase
benefits due to taxation of previously untaxed pensions.
The 1995 Oregon Legislature passed House Bill 3349 ("HB 3349") which provides
a remedy to the PERS beneficiaries. Under the bill, PERS members are entitled
to increased benefits as compensation for damages resulting from the taxation of
the PERS benefits. The bill also prohibits any class action suit for damages
based upon such taxation and, according to the State, therefore effectively
renders the claims of the PERS beneficiaries moot. The fiscal impact statement
submitted with this bill indicated that state agencies will be obligated to pay
increased employer contributions of approximately $27 million in the 1995-97
biennium and approximately $36 million in the 1997-99 biennium to fund the
benefits increase.
Local governments have asserted defenses based upon breach of contract
theories and are seeking indemnification from the State. The passage of HB 3349
does not moot the claims of the local government. If the local governments are
successful, liability would be imposed directly on the General Fund for the
amount of increased benefits that the local government must pay as a result of
HB 3394. According to the state, the amount of liability imposed on the state
as a result of the local governments' claims is uncertain. If the court
determines that the remedy must be the direct payment of monetary damages in the
amount of tax revenues generated from the PERS benefits, the State believes that
the potential impact on the General Fund would be much higher than under a
remedy of increased benefit payments.
6. Out-of-State Insurance Company Claims. In August 1993, several
out-of-state insurance companies filed a lawsuit against the State challenging
the State's gross premiums tax on out-of-state insurers. The lawsuit alleges
that the tax violates the Equal Protection Clause of the 14th Amendment to the
United States Constitution because the tax treats domestic and "foreign"
insurers differently. The insurance companies seek a declaration that the
Oregon gross premium tax is unconstitutional, refunds of all premiums paid from
1982 to date, and the recovery of their attorney's fees. According to the
State, if claims were brought by all affected foreign insurers, the State's
possible refund liability exposure would probably exceed $30 million. In
hearings before the 1993 Oregon Legislative Assembly concerning the gross
premium tax laws, the estimates of the State's potential refund liability in
such a case ranged from $27.4 million to $174.6 million. Although the State has
indicated that the possibilities of a result adverse to the State are
substantial, on May 19, 1994, the trial court granted motions by the State that
limit the time for which refunds must be paid to 1993 and subsequent years.
According to the State, under the trial court's ruling, the State's exposure
would be limited to approximately $10-20 million per year covering a two to
three year period. Plaintiffs have filed an amended complaint in response to
the trial court ruling. The State has indicated, however, it is impossible to
predict a probable outcome of this case at this time.
7. Increase in State Medicaid Reimbursement Amounts. An association of "for
profit" nursing homes has filed a lawsuit against the State alleging that the
amount of reimbursement paid by the State to nursing homes is too low and
violates federal law. Under federal law, states are required to reimburse
facilities for costs that must be incurred by efficient and economic providers.
Plaintiffs claim that State reimbursement costs do not comply with this federal
requirement. The State believes that the potential liability, if plaintiffs are
successful, would be the difference between the amount paid by the State under
its current rules and the greater amount (if any) the court determines the State
should pay. While the State has indicated that it is not possible to estimate
the amount of such increases at this time, it believes that the liability to the
State in terms of future compliance with any increase for reimbursement rates
would likely be well over $5 million. The matter is currently scheduled to go
to trial in October 1995.
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8. Discrimination Suit. A former female anesthesiology resident at the
Oregon Health Sciences University filed a suit against the State claiming
discrimination based upon her sex and pregnancy. The plaintiff is seeking
damages totaling $5 million based upon Oregon and federal law. According to the
State, most of plaintiff's damage claims fall under the limits of the Oregon
Tort Claims Act or federal limitations on damages. At this time, it is
impossible to predict the State's actual exposure in this case. However, the
State believes that given the limits on damages imposed under state and federal
law on most of plaintiff's claims, the possibility that the State's exposure
would equal or exceed $5 million is remote.
9. Liability for PERS Losses. Four separate plaintiffs have filed lawsuits
against the State seeking reimbursement on behalf of the Public Employees'
Retirement Fund for losses in excess of $5 million allegedly suffered by the
Fund as a result of investment actions taken by former Oregon State Treasury
employees. The plaintiffs seek recovery of the losses from the issuers of
certain fidelity bonds or, in the alternative, a transfer from the State's
general fund to the Fund of any losses that are not recoverable under the
fidelity bonds. The State has now recovered on the fidelity bond an amount that
offsets part of the losses to the Fund. According to the State, those of the
plaintiffs' claims that are based upon recovery under the bond are now moot.
The remaining claims were dismissed by the trial court. In February 1995 the
Oregon Court of Appeals upheld the trial court's decision. According to the
State, while many of the plaintiffs' claims are subject to the limits of the
Oregon Tort Claims Act, the plaintiffs' breach of contract claim would not be
subject to Oregon tort claims limits. At this time, therefore, the State
believes that it would be premature to estimate the actual exposure of the
State's General Fund if the plaintiffs were ultimately to prevail on any of
their claims.
10. Change in Foster Care System. An advocacy group for children in State
custody is negotiating with the State's Children's Services Division (the
"Division") over claims by the group that the Division's program for housing and
treating children in foster care is unconstitutional. The group alleges that
the children in foster care do not get enough or appropriate housing. The
Division is working with the group to implement changes to the system which
would resolve these issues. According to the State, if the negotiations are
unsuccessful, the group has indicated that it intends to file a lawsuit against
the State and the Division seeking changes to the current system. The State's
preliminary estimates regarding the costs to the Division of implementing such
changes is $5 million or more per year over a four-year period.
11. Challenge to Oregon Health Plan. A class action suit has been filed in
federal court seeking to add certain Medicare beneficiaries, consisting of
disabled and elderly persons, to the group of persons covered under the Oregon
Health Plan (the "Plan"). The plaintiff class is seeking additional services
offered under the Plan which they do not receive under the Federal Medicare
program. If plaintiffs are successful, the State estimates that costs under the
Plan would increase an additional $30 million per biennium.
THE PENNSYLVANIA TRUST
RISK FACTORS--Potential purchasers of Units of the Pennsylvania Trust should
consider the fact that the Trust's portfolio consists primarily of securities
issued by the Commonwealth of Pennsylvania (the "Commonwealth"), its
municipalities and authorities and should realize the substantial risks
associated with an investment in such securities. Although the General Fund of
the Commonwealth (the principal operating fund of the Commonwealth) experienced
deficits in fiscal 1990 and 1991, tax increases and spending decreases helped
return the General Fund balance to a surplus at June 30, 1992 of $87.5 million
and June 30, 1993 of $698.9 million. The deficit in the Commonwealth's
unreserved/undesignated funds of prior years also was reversed to a surplus of
$64.4 million as of June 30, 1993.
Pennsylvania's economy historically has been dependent upon heavy industry,
but has diversified recently into various services, particularly into medical
and health services, education and financial services. Agricultural industries
continue to be an important part of the economy, including not only the
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production of diversified food and livestock products, but substantial economic
activity in agribusiness and food-related industries. Service industries
currently employ the greatest share of nonagricultural workers, followed by the
categories of trade and manufacturing. Future economic difficulties in any of
these industries could have an adverse impact on the finances of the
Commonwealth or its municipalities, and could adversely affect the market value
of the Bonds in the Pennsylvania Trust or the ability of the respective obligors
to make payments of interest and principal due on such Bonds.
Certain litigation is pending against the Commonwealth that could adversely
affect the ability of the Commonwealth to pay debt service on its obligations
including suit relating to the following matters: (i) the ACLU has filed suit in
federal court demanding additional funding for child welfare services; the
Commonwealth settled a similar suit in the Commonwealth Court of Pennsylvania
and is seeking the dismissal of the federal suit, inter alia because of that
settlement. The district court has denied class certification to the ACLU, and
the parties have stipulated to a judgment against the plaintiffs to allow
plaintiffs to appeal the denial of a class certification to the Third Circuit
(no available estimate of potential liability); (ii) in 1987, the Supreme Court
of Pennsylvania held the statutory scheme for country funding of the judicial
system to be in conflict with the constitution of the Commonwealth, but stayed
judgment pending enactment by the legislature of funding consistent with the
opinion, and the legislature has yet to consider legislation implementing the
judgment. In 1992, a new action in mandamus was filed seeking to compel the
Commonwealth to comply with the original decision; (iii) several banks have
filed suit against the Commonwealth contesting the constitutionality of a law
enacted in 1989 imposing a bank shares tax; in July 1994, the Commonwealth Court
en banc upheld the constitutionality of the 1989 bank shares tax law, but struck
down a companion law to provide credits against the bank shares tax for new
banks; cross-appeals from that decision to the Pennsylvania Supreme Court have
been filed: (iv) litigation has been filed in both state and federal court by an
association of rural and small schools and several individual school districts
and parents challenging the constitutionality of the Commonwealth's system for
funding local school districts--the federal case has been stayed pending the
resolution of the state case, and the state case is in the pre-trial stage (no
available estimate of potential liability); (v) the ACLU has brought a class
action suit on behalf of inmates challenging the conditions of confinement in
thirteen of the Commonwealth's correctional institutions; a proposed settlement
agreement has been submitted to the court and members of the class for their
review (no available estimate of potential cost of complying with the injunction
sought, but capital and personnel costs might total millions of dollars); (vi) a
consortium of public interest law firms filed a class action suit alleging that
the Commonwealth has not complied with a federal mandate to provide screening,
diagnostic and treatment services for all Medicaid-eligible children under 21;
the district court denied class certification, and the parties have submitted a
tentative settlement agreement to the court for approval; and (vii) litigation
has been filed in federal court by the Pennsylvania Medical Society seeking
payment of the full co-pay and deductible in excess of the maximum fees set
under the Commonwealth's medical assistance program for outpatient services
provided to medical assistance patients who also are eligible for Medicare; the
Commonwealth received a favorable decision in the federal district court, but
the Pennsylvania Medical Society won a reversal in the federal circuit court
(potential liability estimated at $50 million per year).
Although there can be no assurance that such conditions will continue, the
Commonwealth's general obligation bonds are currently rated AA- by Standard &
Poor's and A1 by Moody's and Philadelphia's general obligation bonds are
currently rated BBB- by Standard & Poor's and Baa by Moody's.
The City of Philadelphia (the "City") has been experiencing severe financial
difficulties which have impaired its access to public credit markets and a long-
term solution to the City's financial crisis is still being sought. The City
experienced a series of General Fund deficits for Fiscal Years 1988 through
1992. The City has no legal authority to issue deficit reduction bonds on its
own behalf, but state legislation has been enacted to create an
Intergovernmental Cooperation Authority (the "Authority") to provide fiscal
oversight for Pennsylvania cities (primarily Philadelphia) suffering recurring
financial difficulties. The Authority is broadly empowered to assist cities in
avoiding defaults and eliminating
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deficits by encouraging the adoption of sound budgetary practices and issuing
bonds. In order for the Authority to issue bonds on behalf of the City, the
City and the Authority entered into an intergovernmental cooperative agreement
providing the Authority with certain oversight powers with respect to the fiscal
affairs of the City, and the Authority originally approved a five-year financial
plan prepared by the City on April 6, 1992. The Authority approved the latest
update of the five year financial plan on May 2, 1994. The City has reported a
surplus of approximately $15 million for the fiscal year ending June 30, 1994.
In June 1992, the Authority issued $474,555,000 in bonds to liquidate the City's
deficit balance in its general fund. The Authority issued $643,430,000 of bonds
in July 1993 and $178,675,000 of bonds in August 1993 to refund certain bonds of
the City and to fund additional capital projects.
THE TENNESSEE TRUST
RISK FACTORS--In 1978, the voters of the State of Tennessee approved an
amendment to the State Constitution requiring that (1) the total expenditures of
the State for any fiscal year shall not exceed the State's revenues and
reserves, including the proceeds of debt obligations issued to finance capital
expenditures and (2) in no year shall the rate of growth of appropriations from
State tax revenues exceed the estimated rate of growth of the State's economy.
No debt obligation may be authorized for the current operation of any State
service or program unless repaid within the fiscal year of issuance.
In response to public demand for better public education throughout the
State, the 1992 Tennessee General Assembly temporarily raised the State sales
tax by one-half of one percent to 6%, effective April 1, 1992. This increase
became permanent as a result of the 1993 legislative session. This increase
establishes the maximum total State and local sales tax rate at 8.75%. Although
the issue of instituting a State income tax remains a matter of discussion
amongst legislators, most political observers in Tennessee doubt such a proposal
will be passed within the next two-three years.
The Tennessee economy generally tends to rise and fall in a roughly parallel
manner with the U.S. economy. Like the U.S. economy, the Tennessee economy
entered recession in the last half of 1990 which continued throughout 1991 and
into 1992 as the Tennessee index of leading economic indicators trended downward
throughout the period. The Tennessee economy gained strength during the latter
part of 1992 and this renewed vitality steadily continued through 1993, 1994 and
into 1995. Current indicators are for the State to enjoy a year of moderate
economic gains in 1995.
Tennessee Department of Revenue collections for the first six months of 1995
increased to approximately $3.08 billion, an increase of approximately $230
million over the comparable period for 1994. State revenue collections for the
first six months of 1995 were approximately as follows: January--$548.6 million,
February--$375.0 million, March--$500.7 million, April--$722.4 million,
May--$452.4 million and June--$475.8 million. These figures represent the
following percentage change over figures for the same months in 1994: January
(7.8%), February (-3.0%), March (3.0%), April (.2%), May (-1.0%) and June
(-1.0%). By June 30, 1994, the State's rainy-day fund was approximately $101
million.
Tennessee taxable sales were approximately $44.16 billion in 1991,
approximately $46.96 billion in 1992, approximately $50.65 billion in 1993, and
approximately $55.34 billion in 1994, representing percentage increases of 1.4%,
6.4%, 7.9% and 9.3%, respectively, over the previous year's total. Tennessee
taxable sales for the first five months of 1995 were as follows: approximately
$4.78 billion in January, $4.78 billion in February, $5.12 billion in March,
$4.98 billion in April and $4.90 billion in May. These figures represent the
following percentage increases over figures for the same months in 1993: January
(15.4%), February (8.7%), March (7.8%), April (10.8%), and May (8.0%).
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The Tennessee index of leading economic indicators acts as a signal of the
health of the State's economy six to nine months ahead. In 1994, figures for
the leading index rose approximately 2.39% over 1993 figures.
Current data indicate that seasonally-adjusted personal income in Tennessee
has grown approximately $5.34 billion from calendar year 1992 averages to
calendar year 1993 averages, representing an approximate 6.0% increase, and
grown approximately $6.89 billion from calendar year 1993 averages to calendar
year 1994 averages, representing an approximate 7.3% increase. Thus in 1995,
monthly figures for the leading index rose in January (2.42%), February (1.51%),
March (.48%), April (.50%) and May (.03%), as compared to figures for the same
months in 1994.
The Tennessee index of coincident economic indicators, which gauges current
economic conditions throughout the State, has steadily risen each quarter since
the third calendar quarter of 1991. For calendar year 1994, the coincident
index rose approximately 6.1% over 1993 figures, while 1993 figures increased
approximately 4.2% over 1992 figures and 1992 figures showed a 2.3% increase
over the previous year's figures. In 1995, monthly figures for the coincident
index have risen in January (15.6%), February (5.6%), March (4.4%), April (3.4%)
and May (2.1%), as compared to figures for the same months in 1994.
Current data indicate that seasonally-adjusted personal income in Tennessee
has grown approximately $5.34 billion from calendar year 1992 averages to
calendar year 1993 averages, representing an approximate 6.0% increase, and
grown approximately $6.89 billion from calendar year 1993 averages to calendar
year 1994 averages, representing an approximate 7.3% increase. From 1983 to
1993 Tennessee's per capita income increased approximately 87.1% to $18,434,
compared to the national per capita income of $20,817 which translates into a
ten-year increase of approximately 70.3%. For the year ended June 30, 1993,
however, Tennessee still led the nation in household bankruptcy filings (1 in
every 49) with a rate twice the national average (1 in 102).
Historically, the Tennessee economy has been characterized by a slightly
greater concentration in manufacturing employment than the U.S. as a whole. The
Tennessee economy, however, has been undergoing a structural change in recent
years through increases in service sector and trade sector employment. Service
sector employment has climbed steadily since 1973, increasing its share of
overall state non-agricultural employment from 14.5% to 24.7% in 1993. Over the
same period, employment in manufacturing has declined from 33.9% to 22.7%, and
employment in the trade sector has increased from 1973 to 1993 from 20.4% to
23.0% of non-agricultural employment. Recently, overall Tennessee
non-agricultural employment has grown in the period from 1991 to 1994 from
approximately 2.18 million persons to approximately 2.42 million persons,
representing percentage increases of approximately 2.8%, 3.7% and 4.0% for
1992, 1993 and 1994, respectively, over the previous year's figure.
Non-agricultural employment in Tennessee is relatively uniformly diversified
with approximately 23% in the manufacturing and trade sectors, approximately 25%
in the service sector and approximately 16% in government.
Manufacturing employment is one component of non-agricultural employment.
Tennessee manufacturing employment averaged approximately 503,000 persons in
1991; 515,000 persons in 1992; 529,000 persons in 1993 and 538,000 persons in
1994, with the 1992, 1993 and 1994 figures representing percentage increases of
approximately 2.4%, 2.7% and 1.9%, respectively, over the previous year's
average.
Tennessee's unemployment rate stood at 4.0% for December 1994. The
unemployment rate has ranged from 4.0% to 4.6% since December 1994. By December
1993, only one Tennessee county had an unemployment rate over 10% for the first
time since 1974. Over the past four years, average annual unemployment in
Tennessee has steadily decreased, from 6.6% in 1991, to 6.4% in 1992, to 5.7% in
1993, and to 4.8% in 1994. The Tennessee Department of Employment Security has
projected minimum growth of approximately 23% in Tennessee's total employment by
the year 2005, with an increase of
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approximately 550,000-600,000 new jobs as compared to the projection for
national employment growth of 20.5% over the same period.
Tennessee's population increased 6.2% from 1980 to 1990, less than the
national increase of 10.2% for the same period. By December 1994 the State's
population reached approximately 5.2 million. A U.S. census study projects that
Tennessee will be the fifth most popular destination for new residents coming
from other states during the period from 1990-2020. Population growth in
Tennessee is expected to come mostly in the major metropolitan areas (Memphis,
Nashville, Knoxville and Chattanooga) over the next 10-15 years. The overall
state population is expected to grow 5.5% between 1990 and 2000, then 4.6% for
the period between 2000 and 2010. Greatest growth is expected to occur in the
Nashville MSA, and the largest population decline is expected in the rural
counties of northwest Tennessee. This declining rate of the rural population,
coupled with the structural changes in the Tennessee economy and the increased
competition from domestic and international trading partners, comprise three
trends that are likely to influence the state's long-term outlook.
Tennessee's general obligation bonds are rated Aaa by Moody's and AA+ by
Standard & Poor's. Tennessee's smallest counties have Moody's lower ratings
ranging from Baa to B in part due to these rural counties' limited economies
that make them vulnerable to economic downturns. Tennessee's four largest
counties have the second highest of Moody's nine investment grades, Aa. There
can be no assurance that the economic conditions on which these ratings are
based will continue or that particular obligations contained in the Portfolio of
the Tennessee Trust may not be adversely affected by changes in economic or
political conditions.
The Sponsors believe that the information summarized above describes some of
the more significant matters relating to the Tennessee Trust. For a discussion
of the particular risks with each of the Debt Obligations, and other factors to
be considered in connection therewith, reference should be made to the Official
Statements and other offering materials relating to each of the Debt Obligations
included in the portfolio of the Tennessee Trust. The foregoing information
regarding the State does not purport to be a complete description of the matters
covered and is based solely upon information provided by State agencies,
publicly available documents and news reports of statements by State officials
and employees. The Sponsors and their counsel have not independently verified
this information and the Sponsors have no reason to believe that such
information is incorrect in any material respect. None of the information
presented in this summary is relevant to Puerto Rico or Guam Debt Obligations
which may be included in the Tennessee Trust.
THE TEXAS TRUST
RISK FACTORS--The State Economy. Over the last decade, the Texas economy has
become more like the national economy, and, as it has done so, the nature of the
Texas work force has also changed. The Texas economy has become more
concentrated in the service and trade industries, with over half of the Texans
working in non-farm jobs being employed in those industries. Furthermore, Texas
has continued to add many new jobs in "high-tech" industries over the past
years, with employment in that segment growing by approximately 319,000 jobs
from 1983 to 1993. At the same time, the oil and gas industry, which has
traditionally been one of the most important contributors to state economy,
providing both jobs and substantial amounts of tax revenue, has become of
reduced importance to the Texas economy. Employment in the oil and gas industry
now accounts for only 2% of the jobs in Texas, and, with production levels of
oil and gas in Texas being less than historical high levels, oil and gas
severance taxes are no longer the significant source of revenue to the state
they have historically been. In addition, as the job force has grown in Texas
and jobs have been added in most major industry segments in the past few years,
the size of the agricultural work force has remained relatively unchanged.
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Various economic indicators showed significant improvement in Texas economy
during 1994. The gross state product is believed to have increased by
approximately 4% in 1994 over the 1993 levels, while industrial production in
Texas increased only slightly during the course of 1994. Retail sales were
approximately 10% ahead of 1993 levels during the first three quarters of 1994,
although retail sales in the fourth quarter of 1994 increased only 5.7% compared
with the comparable period in 1993. During 1994, Texas exports rose to
approximately $60 billion, an increase of almost $20 billion from 1993 value of
exported goods. Approximately two-thirds of the exports in 1994 were electronic
equipment and components, scientific instruments, industrial machinery,
computers, transportation equipment, and chemicals and related products. Much
of the increase in exports during 1994 was as a result of trade with Mexico and
Latin American countries.
During 1994, Texas experienced a net job gain of almost 300,000 jobs, an
increase in the job base of approximately 3.8 percent. From April 1994 to April
1995, nonfarm employment in Texas grew at a faster rate in almost every major
industry division employed by the United States Department of Labor, Bureau of
Labor Statistics than did employment in those divisions in the United States as
a whole. During that period, however, the mining segment in Texas, which
includes employment in the oil and gas industry, lost jobs in Texas at a greater
rate than did the segment in the United States as a whole. Total non-farm jobs
in the state were estimated to be approximately 7.98 million at the end of April
1995, while manufacturing jobs in Texas were believed to have exceeded 1 million
for the first time in May, 1994. During 1994, the construction industry in
Texas became the fastest growing segment of the state economy, with employment
in that segment growing by approximately 40,000 jobs in 1994, an 11.2% increase
compared with 1993 employment levels. In large measure the growth in
construction jobs was the result of the building of new state prisons, although
new construction of residential units and commercial building also increased in
1994 and in early 1995. Preliminary labor statistics from June, 1995 show that
unemployment in Texas has increased to 6.3% on a seasonally adjusted basis and
was higher than the unemployment rate for the United States as a whole. This
increase in the Texas unemployment rate and its deviation from the national rate
may be attributable in large measure to the failure of job growth in Texas to
keep pace with the increase in the growing labor force in Texas.
As a consequence of the changes in the Texas economy, it has become more
vulnerable to changes in the value of the dollar and the federal budget deficit.
In addition, as is shown by the effect of the recent economic crisis in Mexico,
international economic events and trade policies now have a heightened effect on
the economic activity in Texas. In March, 1995 state government officials
estimated that as much as one-half of a percentage point in the growth of the
Texas economy forecasted for 1995 by the state Comptroller of Public Accounts
could be lost as a result of the recent fiscal crisis in Mexico. That loss
would be the result of a decrease in exports to Mexico as well as a slowdown in
retail trade and economic activities in the important region along the Texas-
Mexico border. Trade with Mexico was estimated in March 1995 to support
directly and indirectly more than 464,000 jobs in Texas, about 6% of the total
Texas employment. Failure of the Mexican economy to recover fully from such
situation could result in additional unemployment, less growth in the Texas
gross state product during 1995 and reduced tax revenue for the state.
Recent Congressional proposals to replace assistance and Medicaid funding
programs for the states with block grants could adversely affect states such as
Texas. Any program adopted that makes little or no allowance for varying
population growths and poverty rates among the states could penalize Texas and
other states with high population growth and high poverty rates. In Texas'
fiscal year 1994, Texas received over $10.5 billion in federal funding, which
constituted 28.7% of all state revenues for that fiscal year. It is estimated
by state officials that one formula contained in legislation under consideration
by the United States Congress could reduce by more than $1 billion the federal
family assistance funds of approximately $15.4 billion currently assumed in the
state biennial revenue estimate for its fiscal years 1996 and 1997. Although
there is no assurance that legislation providing for any block grant program
will be enacted by the United States Congress or, if enacted, will be signed
into law by the President, adoption of such a program could result in budgetary
shortfalls for Texas if the social services programs mandated
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for the states and otherwise provided by Texas are not subject to corresponding
cuts. The Comptroller of Public Accounts in Texas is working with the Texas
Congressional delegation to ensure that any block grant program adopted would
not penalize Texas or result in any substantial decease in federal funding.
The recent decisions of the federal Base Closure and Realignment Commission
may affect certain regions in Texas significantly. Most notably, Kelly Air
Force Base in San Antonio, Texas, is slated for closure over the next several
years with the resulting direct job loss estimated to be 13,000 jobs. Local
officials in San Antonio have asserted that loss of those jobs would increase
unemployment of Hispanics in San Antonio area by 73%. In addition, three other
metropolitan areas in Texas may be affected by the actions of the commission.
State officials and members of the Texas Congressional delegation are working to
reduce the adverse effect of the commission's actions, both through attempts to
save jobs and by otherwise reducing community dependence on defense
establishments. There is no way to predict accurately at this time the effect
of these closures on the Texas economy generally and economy of the San Antonio
region in particular.
The state government of Texas still faces significant financial challenges as
demands for state and social services increase and spending of state funds for
certain purposes is mandated by the courts and federal law and is required by
growing social services caseloads. The population of Texas has grown
significantly in the recent past and is estimated now to be approximately 18.4
million persons. Illegal immigration into Texas continues to be problematic for
the state, creating additional demand for governmentally provided social
services. In addition, among the ten most populous states, Texas has the
highest percentage of its population living below the poverty line, a total of
almost 18% of its populace. Some state officials are concerned that Texas'
growth pattern and the number of persons living in poverty in Texas are not and
will not be recognized properly by programs distributing federal funds available
for social assistance programs to the states, resulting in Texas having fewer
funds than a fair allocation of federal funding would otherwise provide to
Texas. As a result, unless funding is appropriately allocated or additional
sources of funding can be found, the growing need for social services will
further strain the limited state and local resources for these programs.
Bond Ratings. The state's credit ratings have been unchanged over recent
periods, although such ratings have caused the state to pay higher interest
rates on state bonds than those historically enjoyed by the state. Some local
governments and other political subdivisions also have had their credit ratings
lowered from their historical levels. As of June 30, 1995, general obligation
bonds issued by the State of Texas were rated AA by Standard & Poor's, Aa by
Moody's and AA+ by Fitch's Investor Services.
State Finances. The finances of the State of Texas improved during the
state's fiscal year ended August 31, 1994 despite the growing demands for
governmental services. In fiscal 1994, the state's net revenue for general and
special funds exceeded net expenditures by approximately $1.1 billion.
Preliminary information for the nine-month period ended May 31, 1995, indicated
the state's net revenues for the period had exceeded its net expenditures by
$861 million. The surplus for the comparable period in fiscal year 1994 was
approximately $3.1 billion. While the revenues from period to period remained
relatively constant, an increase in public assistance payment accounts for
almost $1 billion in the difference in results between the two periods. It is
unknown at this time if a budgetary surplus will be maintained for all of fiscal
1995.
The state budget for the 1996-1997 biennium adopted by the 74th Legislature
provides for expenditures of $78.9 billion which represents a $4.7 billion or
6.2% increase over the 1994-1995 biennium budget. Much of the increase in the
next biennium's budget is related to increased spending for public education,
health and human services and public safety and criminal justice. While state
government officials have based this budget on forecasts of the revenues that
will be available from all sources during the two fiscal year period, there is
no assurance that revenues in the estimated amounts will be received by the
State of Texas during that period or that the State will not have a budget
deficit for that two-year period. The revenue estimates on which the budget is
based assume aggregate receipts of almost $23.5
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billion from the federal government during the biennium, which will be 29.4% of
the state's budget for the period. As noted above, changes in federal law could
result in the amounts of federal funding being less than those assumed by the
state government for budgeting purposes.
The two major sources of state revenue are state taxes and federal funds.
Other revenue sources include income from licenses, fees and permits, interest
and investment income, the state lottery, income from sales of goods and
services and land income (which includes income from oil, gas and other mineral
royalties as well as from leases on state lands). The major sources of state
government tax collection are the sales tax, the franchise tax and the motor
fuels tax.
Limitations on Bond Issuances and Ad Valorem Taxation. Although Texas has
few debt limits on the incurrence of public debt, certain tax limitations
imposed on counties and cities are in effect debt limitations. The requirement
that counties and cities in Texas provide for the collection of an annual tax
sufficient to retire any bonded indebtedness they create operates as a
limitation on the amount of indebtedness which may be incurred as counties and
cities may never incur indebtedness which cannot be satisfied by revenue
received from taxes imposed within the tax limits. The same requirement is
generally applicable to indebtedness of the State of Texas. However, voters
have authorized from time to time, by constitutional amendment, the issuance of
general obligation bonds of the state for various purposes.
The State of Texas cannot itself impose ad valorem taxes. Although the state
franchise tax system does function as an income tax on corporations, limited
liability companies and certain banks, the State of Texas does not impose an
income tax on personal income. Consequently, the state government must look to
sources of revenue other than state ad valorem taxes and personal income taxes
to fund the operations of the state government and to pay interest and principal
on outstanding obligations of the state and its various agencies.
To the extent the Texas Debt Obligations in the Portfolio are payable, either
in whole or in part, from ad valorem taxes levied on taxable property, the
limitations described below may be applicable. The Texas Constitution limits
the rate of growth of appropriations from tax revenues not dedicated to a
particular purpose by the Constitution during any biennium to the estimated rate
of growth for the Texas economy, unless both houses of the Texas Legislature, by
a majority vote in each, find that an emergency exists. In addition, the Texas
Constitution authorizes cities having more than 5,000 inhabitants to provide
further limitations in their city charters regarding the amount of ad valorem
taxes which can be assessed. Furthermore, certain provisions of the Texas
Constitution provide for exemptions from ad valorem taxes, of which some are
mandatory and others are available at the option of the particular county, city,
town, school district or other political subdivision of the state. The
following is only a summary of certain laws which may be applicable to an issuer
of the Texas Debt Obligations regarding ad valorem taxation.
Counties and political subdivisions are limited in their issuance of bonds
for certain purposes (including construction, maintenance and improvement of
roads, reservoirs, dams, waterways and irrigation works) to an amount up to
one-fourth of the assessed valuation of real property. No county, city or town
may levy a tax in any one year for general fund, permanent improvement fund,
road and bridge fund or jury fund purposes in excess of $.80 on each $100
assessed valuation. Cities and towns having a population of 5,000 or less may
not levy a tax for any one year for any purpose in excess of 1-1/2% of the
taxable property ($1.50 on each $100 assessed valuation), and a limit of 2 1/2%
($2.50 on each $100 assessed valuation) is imposed on cities having a population
of more than 5,000. Hospital districts may levy taxes up to $.75 on each $100
assessed valuation. School districts are subject to certain restrictions
affecting the issuance of bonds and the imposition of taxes.
Governing bodies of taxing units may not adopt tax rates that exceed certain
specified rates until certain procedural requirements are met (including, in
certain cases, holding a public hearing preceded by a published notice thereof).
Certain statutory requirements exist which set forth the procedures necessary
for the appropriate governmental body to issue and approve bonds and to levy
taxes. To the extent that
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such procedural requirements are not followed correctly, the actions taken by
such governmental bodies could be subject to attack and their validity and the
validity of the bonds issued questioned.
Property tax revenues are a major source of funding for public education in
Texas. The method for funding public education in Texas has undergone material
changes over the last five years and has been the subject of rancorous
litigation during that period. In response to challenges to prior laws relating
to the funding of public education in Texas, the Texas legislature adopted new
legislation in 1993 that attempts to reduce the disparity of revenues per
student between low-wealth school districts and high-wealth school districts by
causing the high-wealth school districts to share their ad valorem tax revenues
with the low-wealth school districts. In January 1995, the Texas Supreme Court
affirmed the constitutionality of that legislation. There is no assurance that
further challenges to this method of funding public education will not be
mounted in Texas.
THE VIRGINIA TRUST
RISK FACTORS--The Constitution of Virginia limits the ability of the
Commonwealth to create debt. An amendment to the Constitution requiring a
balanced budget was approved by the voters on November 6, 1984.
General obligations of cities, towns or counties in Virginia are payable from
the general revenues of the entity, including ad valorem tax revenues on
property within the jurisdiction. The obligation to levy taxes could be
enforced by mandamus, but such a remedy may be impracticable and difficult to
enforce. Under section 15.1--227.61 of the Code of Virginia, a holder of any
general obligation bond in default may file an affidavit setting forth such
default with the Governor. If, after investigating, the Governor determines
that such default exists, he is directed to order the State Comptroller to
withhold State funds appropriated and payable to the entity and apply the amount
so withheld to unpaid principal and interest. The Commonwealth, however, has no
obligation to provide any additional funds necessary to pay such principal and
interest.
Revenue bonds issued by Virginia political subdivisions include (1) revenue
bonds payable exclusively from revenue producing governmental enterprises and
(2) industrial revenue bonds, college and hospital revenue bonds and other
"private activity bonds" which are essentially non-governmental debt issues and
which are payable exclusively by private entities such as non-profit
organizations and business concerns of all sizes. State and local governments
have no obligation to provide for payment of such private activity bonds and in
many cases would be legally prohibited from doing so. The value of such private
activity bonds may be affected by a wide variety of factors relevant to
particular localities or industries, including economic developments outside of
Virginia.
Virginia municipal securities that are lease obligations are customarily
subject to "non-appropriation" clauses. See "Municipal Revenue Bonds - Lease
Rental Bonds." Legal principles may restrict the enforcement of provisions in
lease financing limiting the municipal issuer's ability to utilize property
similar to that leased in the event that debt service is not appropriated.
No Virginia law expressly authorizes Virginia political subdivisions to file
under Chapter 9 of the United States Bankruptcy Code, but recent case law
suggests that the granting of general powers to such subdivisions may be
sufficient to permit them to file voluntary petitions under Chapter 9.
Virginia municipal issuers are generally not required to provide ongoing
information about their finances and operations, although a number of cities,
counties and other issuers prepare annual reports.
Although revenue obligations of the Commonwealth or its political
subdivisions may be payable from a specific project or source, including lease
rentals, there can be no assurance that future economic
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difficulties and the resulting impact on Commonwealth and local government
finances will not adversely affect the market value of the Virginia Series
portfolio or the ability of the respective obligors to make timely payments of
principal and interest on such obligations.
The Commonwealth has maintained a high level of fiscal stability for many
years due in large part to conservative financial operations and diverse sources
of revenue. The budget for the 1994-96 biennium submitted by Governor Allen
does not contemplate any significant new taxes or increases in the scope or
amount of existing taxes.
The economy of the Commonwealth is based primarily on manufacturing, the
government sector (including defense), agriculture, mining and tourism. Defense
spending is a major component. Defense installations are concentrated in
Northern Virginia, the location of the Pentagon, and the Hampton Roads area,
including the Cities of Newport News, Hampton, Norfolk and Virginia Beach, the
locations of, among other installations, the Army Transportation Center (Ft.
Eustis), the Langley Air Force Base, Norfolk Naval Base and the Oceana Naval Air
Station, respectively. Any substantial reductions in defense spending generally
or in particular areas, including base closings, could adversely affect the
state and local economies. In addition both residential and non-residential
construction have not fully recovered from recessionary conditions which caused
a major contraction in real estate, construction and related activities in
Northern Virginia and resulted in substantial financial deterioration for many
participants in these activities.
In Davis v. Michigan (decided March 28, 1989), the United States Supreme
Court ruled unconstitutional Michigan's statute exempting from state income tax
the retirement benefits paid by the state or local governments and not exempting
retirement benefits paid by the federal government. At the time of this ruling,
under legislation subsequently amended in 1989 to provide uniform exemptions for
all pensioners, Virginia exempted state and local but not federal government
benefits. Several suits for refunds, some with multiple plaintiffs, were filed.
A state trial court ruling in favor of the Commonwealth was affirmed by the
Virginia Supreme Court on March 1, 1991, but on June 28, 1991, the decision of
the Virginia Supreme Court was vacated by the United States Supreme Court and
the case remanded to the Virginia Supreme Court for reconsideration in light of
an intervening United States Supreme Court decision on retroactive application
of decisional constitutional law. On November 8, 1991, the Virginia Supreme
Court affirmed its March 1, 1991, ruling denying refunds. On June 18, 1993, the
U.S. Supreme Court reversed the November 8, 1991, ruling of the Virginia Supreme
Court and remanded the case to the Virginia Supreme Court for further
proceedings consistent with the opinion of the U.S. Supreme Court. On July 30,
1993, the Virginia Supreme Court remanded the case to the trial court for
consideration of means of relief. On January 7, 1994, the trial court denied
refunds and an appeal is currently pending in the Virginia Supreme Court. The
estimated maximum potential financial impact on the Commonwealth of claims for
refunds by all federal pensioners is approximately $707.5 million, including
interest through December 31, 1993.
On July 13, 1994, the Governor signed into law emergency legislation,
reauthorized on February 28, 1995, providing for payments to federal pensioners
totalling $340 million over a five-year period ending March 31, 1999, in
settlement of this litigation. Pensioners who accept the settlement must
release the Commonwealth from all claims based on taxation of federal retirement
benefits during 1985-1988 and dismiss all related lawsuits to which they are
parties. Payments for years subsequent to 1994 are subject to future
appropriation. A significant number of federal pensioners opted out of the
settlement proposed by this legislation, necessitating its reauthorization in
1995, and there can be no assurance that it will result in release of the
pensioner's claims and dismissal of their lawsuits.
The Commonwealth has a Standard & Poor's rating of AAA and a Moody's rating
of Aaa on its general obligation bonds. There can be no assurance that the
economic conditions on which these ratings are based will continue or that
particular bond issues may not be adversely affected by changes in economic or
political conditions.
128
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