<PAGE>
KEYSTONE TAX FREE INCOME FUND
PROSPECTUS MARCH 31, 1996
Keystone Tax Free Income Fund (formerly named Keystone America Tax Free Income
Fund) (the "Fund") is a diversified, open-end management investment company
commonly known as a mutual fund.
The Fund's investment objective is to seek the highest possible current
income, exempt from federal income taxes, while preserving capital. The Fund
pursues this objective by investing primarily in municipal bonds.
The Fund offers three classes of shares. Information on share classes and
their fee and sales charge structures may be found in the "Fee Table",
"Alternative Sales Options," "Contingent Deferred Sales Charge and Waiver of
Sales Charges," "Distribution Plans" and "Fund Shares."
This prospectus concisely states information about the Fund that you should
know before investing. Please read it and retain it for future reference.
Additional information about the Fund, including more detailed information
about securities ratings, is contained in the Fund's statement of additional
information dated March 31, 1996, which has been filed with the Securities and
Exchange Commission and is incorporated by reference into this prospectus. For a
free copy, or for other information about the Fund, write to the address or call
the telephone number listed below.
KEYSTONE TAX FREE INCOME FUND
200 BERKELEY STREET
BOSTON, MASSACHUSETTS 02116-5034
CALL TOLL FREE 1-800-343-2898
TABLE OF CONTENTS
Page
Fee Table 2
Financial Highlights 3
The Fund 6
Investment Objective and Policies 6
Investment Restrictions 7
Risk Factors 8
Pricing Shares 9
Dividends and Taxes 9
Fund Management and Expenses 11
How to Buy Shares 14
Alternative Sales Options 14
Contingent Deferred Sales Charge and
Waiver of Sales Charges 18
Distribution Plans 19
How to Redeem Shares 20
Shareholder Services 22
Performance Data 25
Fund Shares 25
Additional Information 26
Additional Investment Information (i)
Exhibit A A-1
SHARES OF THE FUND ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR
ENDORSED BY, ANY BANK, AND SHARES ARE NOT FEDERALLY INSURED BY THE FEDERAL
DEPOSIT INSURANCE CORPORATION, THE FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATIONS TO THE CONTRARY IS
A CRIMINAL OFFENSE.
<PAGE>
FEE TABLE
KEYSTONE TAX FREE INCOME FUND
The purpose of this fee table is to assist investors in understanding the
costs and expenses that an investor in each class will bear directly or
indirectly. For more complete descriptions of the various costs and expenses,
see the following sections of this prospectus: "Fund Management and Expenses";
"How to Buy Shares"; "Alternative Sales Options"; "Contingent Deferred Sales
Charge and Waiver of Sales Charges"; "Distribution Plans"; and "Shareholder
Services."
<TABLE>
<CAPTION>
CLASS A SHARES CLASS B SHARES CLASS C SHARES
FRONT END BACK END LEVEL LOAD
SHAREHOLDER TRANSACTION EXPENSES LOAD OPTION LOAD OPTION<F1> OPTION<F2>
-------------- --------------- --------------
<S> <C> <C> <C>
Sales Charge ...................................... 4.75%<F3> None None
(as a percentage of offering price)
Contingent Deferred Sales Charge .................. 0.00%<F4> 5.00% in the first year 1.00% in the first
(as a percentage of the lesser of cost or market declining to 1.00% in year and 0.00%
value of shares redeemed) the sixth year and thereafter
0.00% thereafter
Exchange Fee (per exchange)<F5> ................... $10.00 $10.00 $10.00
ANNUAL FUND OPERATING EXPENSES<F6>
(as a percentage of average net assets)
Management Fees ................................... 0.61% 0.61% 0.61%
12b-1 Fees ........................................ 0.25% 1.00%<F7> 1.00%
Other Expenses .................................... 0.33% 0.35% 0.35%
---- ---- ----
Total Fund Operating Expenses ..................... 1.19% 1.96% 1.96%
==== ==== ====
<CAPTION>
EXAMPLES<F8> 1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C> <C>
You would pay the following expenses on a $1,000 investment, assuming (1) 5%
annual return and (2) redemption at the end of each period:
Class A ................................................................ $59 $83 $110 $185
Class B ................................................................ $70 $92 $126 $209
Class C ................................................................ $30 $62 $106 $229
You would pay the following expenses on a $1,000 investment, assuming no
redemption at the end of each period:
Class A ................................................................ $59 $83 $110 $185
Class B ................................................................ $20 $62 $106 $209
Class C ................................................................ $20 $62 $106 $229
AMOUNTS SHOWN IN THE EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST
OR FUTURE EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN.
<FN>
- ----------
<F1> Class B shares purchased on or after June 1, 1995 convert tax free to
Class A shares after eight years. See "Class B Shares" for more
information.
<F2> Class C shares are available only through dealers who have entered into
special distribution agreements with Keystone Investment Distributors
Company, the Fund's principal underwriter.
<F3> The sales charge applied to purchases of Class A shares declines as the
amount invested increases. See "Class A Shares."
<F4> Purchases of Class A shares in the amount of $1,000,000 or more and/or
purchases made by certain qualifying retirement or other plans are not
subject to a sales charge, but may be subject to a contingent deferred
sales charge. See the "Class A Shares" and "Contingent Deferred Sales
Charge and Waiver of Sales Charges" sections of this prospectus for an
explanation of the charge.
<F5> There is no exchange fee for exchange orders received by the Fund directly
from an individual shareholder over the Keystone Automated Response Line
("KARL"). (For a description of KARL, see "Shareholder Services.")
<F6> Expense ratios shown above are for the Fund's fiscal year ended November
30, 1995. Total Fund Operating Expenses for the fiscal year ended November
30, 1995 include indirectly paid expenses.
<F7> Long term shareholders may pay more than the economic equivalent of the
maximum front end sales charges permitted by rules adopted by the National
Association of Securities Dealers, Inc. ("NASD").
<F8> The Securities and Exchange Commission requires use of a 5% annual return
figure for purposes of this example. Actual return for the Fund may be
greater or less than 5%.
</TABLE>
<PAGE>
FINANCIAL HIGHLIGHTS
KEYSTONE TAX FREE INCOME FUND
CLASS A SHARES
(For a share outstanding throughout the period)
The following table contains important financial information relating to
the Fund and has been audited by KPMG Peat Marwick LLP, the Fund's independent
auditors. The table appears in the Fund's Annual Report and should be read in
conjunction with the Fund's financial statements and related notes, which also
appear, together with the independent auditors' report, in the Fund's Annual
Report. The Fund's financial statements, related notes, and independent
auditors' report are included in the statement of additional information.
Additional information about the Fund's performance is contained in its Annual
Report, which will be made available upon request and without charge.
<TABLE>
<CAPTION>
FEBRUARY 13, 1987
YEAR ENDED NOVEMBER 30, (COMMENCEMENT
--------------------------------------------------------------------------- OF OPERATIONS) TO
1995(d) 1994 1993 1992 1991 1990 1989 1988 NOVEMBER 30, 1987
------ ------ ------ ------ ------ ------ ------ ------ ----------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF YEAR $ 8.93 $10.25 $10.17 $10.13 $ 9.94 $10.24 $ 9.96 $ 9.64 $10.00
------ ------ ------ ------ ------ ------ ------ ------ ------
INCOME FROM INVESTMENT OPERATIONS:
Net investment income.............. 0.51 0.51 0.57 0.63 0.61 0.59 0.62 0.63 0.33
Net realized and unrealized gain
(loss) on investments and futures
contracts......................... 1.13 (1.28) 0.36 0.30 0.31 (0.06) 0.34 0.37 (0.32)
----- ----- ----- ----- ----- ----- ----- ----- -----
Total from investment operations .. 1.64 (0.77) 0.93 0.93 0.92 0.53 0.96 1.00 0.01
----- ----- ----- ----- ----- ----- ----- ----- -----
LESS DISTRIBUTIONS FROM:
Net investment income.............. (0.51) (0.52) (0.57) (0.62) (0.61) (0.60) (0.63) (0.68) (0.37)
In excess of net investment income. (0.01) 0.00 (0.04) 0.00 0.00 (0.03) 0.00 0.00 0.00
Net realized gain on investments... 0.00 0.00 (0.24) (0.27) (0.12) (0.20) (0.05) 0.00 0.00
Tax basis return of capital ....... 0.00 (0.03) 0.00 0.00 0.00 0.00 0.00 0.00 0.00
----- ----- ----- ----- ----- ----- ----- ----- -----
Total distributions................ (0.52) (0.55) (0.85) (0.89) (0.73) (0.83) (0.68) (0.68) (0.37)
----- ----- ----- ----- ----- ----- ----- ----- -----
NET ASSET VALUE, END OF YEAR....... $10.05 $ 8.93 $10.25 $10.17 $10.13 $ 9.94 $10.24 $ 9.96 $ 9.64
====== ====== ====== ====== ====== ====== ====== ====== ======
TOTAL RETURN(b) ................... 18.71% (7.81%) 9.37% 9.35% 9.59% 5.55% 9.97% 10.60% 0.17%
RATIOS/SUPPLEMENTAL DATA
RATIOS TO AVERAGE NET ASSETS:
Total expenses................... 1.19%(a) 1.13% 1.21% 1.25% 1.58% 1.66% 1.62% 1.57% 1.00%(c)
Net investment income............ 5.35% 5.27% 5.40% 6.02% 5.95% 6.03% 6.15% 6.13% 6.85%(c)
Portfolio turnover rate............ 30% 98% 47% 32% 37% 42% 49% 109% 67%
NET ASSETS, END OF YEAR (THOUSANDS) $94,183 $95,691 $124,102 $120,660 $133,524 $146,335 $162,013 $179,191 $16,090
- ----------
(a) "Ratio of total expenses to average net assets" for the year ended November
30, 1995 includes indirectly paid expenses. Excluding indirectly paid
expenses for the year ended November 30, 1995, the expense ratio would have
been 1.18%.
(b) Excluding applicable sales charges.
(c) Annualized for the period April 14, 1987 (Commencement of Investment
Operations) to November 30, 1987.
(d) Calculation based on average shares outstanding.
</TABLE>
<PAGE>
FINANCIAL HIGHLIGHTS
KEYSTONE TAX FREE INCOME FUND
CLASS B SHARES
(FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD)
The following table contains important financial information relating to
the Fund and has been audited by KPMG Peat Marwick LLP, the Fund's independent
auditors. The table appears in the Fund's Annual Report and should be read in
conjunction with the Fund's financial statements and related notes, which also
appear, together with the independent auditors' report, in the Fund's Annual
Report. The Fund's financial statements, related notes, and independent
auditors' report are included in the statement of additional information.
Additional information about the Fund's performance is contained in its Annual
Report, which will be made available upon request and without charge.
FEBRUARY 1, 1993
YEAR ENDED (DATE OF INITIAL
NOVEMBER 30, PUBLIC OFFERING)
--------------------- TO
1995(d) 1994 NOVEMBER 30, 1993
-------- -------- ------------------
NET ASSET VALUE, BEGINNING
OF YEAR ................... $ 8.88 $10.25 $10.27
------ ------ ------
INCOME FROM INVESTMENT
OPERATIONS:
Net investment income ..... 0.44 0.45 0.37
Net realized and unrealized
gain (loss) on investments
and futures contracts ... 1.11 (1.29) 0.30
------ ------ ------
Total from investment
operations .............. 1.55 (0.84) 0.67
------ ------ ------
LESS DISTRIBUTIONS FROM:
Net investment income ..... (0.45) (0.50) (0.37)
In excess of net investment
income .................. (0.01) 0.00 (0.08)
Net realized gain on
investments ............. 0.00 0.00 (0.24)
Tax basis return of capital 0.00 (0.03) 0.00
------ ------ ------
Total distributions........ (0.46) (0.53) (0.69)
------ ------ ------
Net asset value, end of
year .................... $ 9.97 $ 8.88 $10.25
====== ====== ======
TOTAL RETURN(b)............ 17.84% (8.43%) 6.59%
RATIOS/SUPPLEMENTAL DATA
RATIOS TO AVERAGE NET ASSETS:
Total expenses........... 1.96%(a) 1.88% 1.96%(c)
Net investment income.... 4.59% 4.60% 4.42%(c)
Portfolio turnover rate.... 30% 98% 47%
Net assets, end of year
(thousands).............. $33,449 $28,860 $14,091
- ----------
(a) "Ratio of total expenses to average net assets" for the year ended
November 30, 1995 includes indirectly paid expenses. Excluding indirectly
paid expenses for the year ended November 30, 1995, the expense ratio
would have been 1.94%.
(b) Excluding applicable sales charges.
(c) Annualized.
(d) Calculation based on average shares outstanding.
<PAGE>
FINANCIAL HIGHLIGHTS
KEYSTONE TAX FREE INCOME FUND
CLASS C SHARES
(FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD)
The following table contains important financial information relating to
the Fund and has been audited by KPMG Peat Marwick LLP, the Fund's independent
auditors. The table appears in the Fund's Annual Report and should be read in
conjunction with the Fund's financial statements and related notes, which also
appear, together with the independent auditors' report, in the Fund's Annual
Report. The Fund's financial statements, related notes, and independent
auditors' report are included in the statement of additional information.
Additional information about the Fund's performance is contained in its Annual
Report, which will be made available upon request and without charge.
FEBRUARY 1, 1993
YEAR ENDED (DATE OF INITIAL
NOVEMBER 30, PUBLIC OFFERING)
--------------------- TO
1995(d) 1994 NOVEMBER 30, 1993
-------- -------- ------------------
NET ASSET VALUE, BEGINNING
OF YEAR ................. $ 8.88 $10.26 $10.27
------ ------ ------
INCOME FROM INVESTMENT
OPERATIONS:
Net investment income ..... 0.44 0.43 0.37
Net realized and unrealized
gain (loss) on investments
and futures contracts ... 1.11 (1.27) 0.31
------ ------ ------
Total from investment
operations .............. 1.55 (0.84) 0.68
------ ------ ------
LESS DISTRIBUTIONS FROM:
Net investment income ..... (0.45) (0.51) (0.37)
In excess of net investment
income .................. (0.01) 0.00 (0.08)
Net realized gain on
investments ............. 0.00 0.00 (0.24)
Tax basis return of capital 0.00 (0.03) 0.00
------ ------ ------
Total distributions........ (0.46) (0.54) (0.69)
------ ------ ------
NET ASSET VALUE, END OF
YEAR .................... $ 9.97 $ 8.88 $10.26
====== ====== ======
TOTAL RETURN(b)............ 17.84% (8.52%) 6.70%
RATIOS/SUPPLEMENTAL DATA
RATIOS TO AVERAGE NET ASSETS:
Total expenses........... 1.96%(a) 1.89% 1.94%(c)
Net investment income.... 4.59% 4.52% 4.41%(c)
Portfolio turnover rate.... 30% 98% 47%
Net assets, end of year
(thousands).............. $20,386 $23,230 $27,261
- ----------
(a) "Ratio of total expenses to average net assets" for the year ended
November 30, 1995 includes indirectly paid expenses. Excluding indirectly
paid expenses for the year ended November 30, 1995, the expense ratio
would have been 1.94%.
(b) Excluding applicable sales charge.
(c) Annualized.
(d) Calculation based on average shares outstanding.
<PAGE>
THE FUND
The Fund is an open-end, diversified management investment company commonly
known as a mutual fund. The Fund was formed as a Massachusetts business trust
on October 24, 1986. The Fund is one of twenty funds managed by Keystone
Management, Inc. ("Keystone Management"), its investment manager, and one of
more than thirty funds advised by Keystone Investment Management Company
(formerly named Keystone Custodian Funds, Inc.) ("Keystone"), the Fund's
investment adviser. Keystone and Keystone Management are, from time to time,
collectively referred to as "Keystone."
INVESTMENT OBJECTIVE AND POLICIES
INVESTMENT OBJECTIVE
The Fund seeks the highest possible current income exempt from federal
income taxes, while preserving capital.
Since the Fund considers preservation of capital as well as the level of tax
exempt income as its primary objective, the Fund may realize less income than a
fund willing to expose shareholders' capital to greater risk.
The investment objective of the Fund and the requirement that the Fund
invest, under ordinary circumstances, at least 80% of its assets in federally
tax-exempt obligations are fundamental and neither may be changed without the
vote of a majority of the Fund's outstanding shares (as defined in the
Investment Company Act of 1940, as amended, ("1940 Act")).
There can be no assurance that the Fund will achieve its investment objective
since there is uncertainty in every investment.
PRINCIPAL INVESTMENTS
Under ordinary circumstances, the Fund invests substantially all and at least
80% of its assets in federally tax-exempt obligations, including municipal bonds
and notes and tax-exempt commercial paper obligations, that are obligations
issued by or on behalf of states, territories and possessions of the United
States ("U.S."), the District of Columbia and their political subdivisions,
agencies and instrumentalities, the interest from which is, in the opinion of
counsel, exempt from federal income taxes.
Municipal bonds include debt obligations issued by or on behalf of a
political subdivision of the U.S. or any agency or instrumentality thereof to
obtain funds for various public purposes. In addition, municipal bonds include
certain types of industrial development bonds that have been or may be issued
by or on behalf of public authorities to finance privately operated
facilities. General obligation bonds involve the credit of an issuer
possessing taxing power and are payable from the issuer's general unrestricted
revenues. Their payment may be dependent upon an appropriation by the
issuer's legislative body and may be subject to quantitative limitations on
the issuer's taxing power. Limited obligation or revenue bonds are payable
only from the revenues of a particular facility or class of facilities or, in
some cases, from the proceeds of a specific revenue source, such as the user
of the facility. Since the Fund considers preservation of capital as well as
the level of tax exempt income as its primary objective, the Fund may realize
less income than a fund willing to expose shareholders' capital to greater
risk.
The Tax Reform Act of 1986 made significant changes in the federal tax
status of certain obligations that were previously fully federally tax exempt.
As a result, three categories of such obligations issued after August 7, 1986
now exist: (1) "public purpose" bonds, the income from which remains fully
exempt from federal income tax; (2) qualified "private activity" industrial
development bonds, the income from which, while exempt from federal income tax
under Section 103 of the Internal Revenue Code of 1986, as amended (the
"Code"), is includable in the calculation of the federal alternative minimum
tax; and (3) "private activity" (private purpose) bonds, the income from which
is not exempt from federal income tax. The Fund will not invest in private
activity (private purpose) bonds and, except as described under "Other
Eligible Securities," will not invest in qualified "private activity"
industrial development bonds.
The Fund invests in municipal bonds only if, at the date of investment,
they are rated within the four highest grades by Standard & Poor's Corporation
("S&P") (AAA, AA, A and BBB), by Moody's Investors Service ("Moody's") (Aaa, Aa,
A and Baa) or by Fitch Investor Services, Inc. -- Municipal Division ("Fitch")
(AAA, AA, A and BBB) or, if not rated or rated under a different system, are of
comparable quality to obligations so rated as determined by Keystone. Securities
that are in the lowest investment grade (BBB or Baa) may have speculative
characteristics.
While the Fund may invest in securities of any maturity, it is currently
expected that the Fund will not invest in securities with maturities of more
than 30 years or less than 5 years (other than certain money market
securities).
OTHER ELIGIBLE SECURITIES
The Fund may invest up to 20% of its assets under ordinary circumstances and
up to 100% of its assets for temporary defensive purposes in the following
types of instruments: (1) commercial paper, including master demand notes,
that at the date of investment is rated A-1, the highest grade given by S&P,
PRIME-1, the highest grade given by Moody's or, if not rated by such services,
is issued by a company that at the date of investment has an outstanding issue
rated A or better by S&P or Moody's; (2) obligations, including certificates
of deposit and bankers' acceptances, of banks or savings and loan associations
having at least $1 billion in assets as of the date of their most recently
published financial statements that are members of the Federal Deposit
Insurance Corporation, including U.S. branches of foreign banks and foreign
branches of U.S. banks; (3) corporate obligations (maturing in 13 months or
less) that at the date of investment are rated A or better by S&P or Moody's;
(4) obligations issued or guaranteed by the U.S. government or by any agency
or instrumentality of the U.S.; and (5) qualified "private activity"
industrial development bonds, the income from which, while exempt from federal
income tax under Section 103 of the Code, is includable in the calculation of
the federal alternative minimum tax.
The Fund may enter into repurchase and reverse repurchase agreements,
purchase and sell securities and currencies on a when issued and delayed
delivery basis, write covered call and put options and purchase call and put
options, including purchasing call or put options to close out existing
positions, and may employ new investment techniques with respect to such
options. The Fund may also engage in currency and other financial futures
contracts and related options transactions for hedging purposes and not for
speculation and may employ new investment techniques with respect to such
futures contracts and related options. In addition, the Fund may invest in
municipal obligations denominated in foreign currencies that are exempt from
federal income tax and may use subsequently developed investment techniques
that are related to any of its investment policies.
In addition to the options and futures contracts mentioned above, only if
it is consistent with its investment objective, the Fund may also invest in
certain other types of "derivative instruments," including structured
securities.
For further information about the types of investments and investment
techniques available to the Fund, including the associated risks, see the "Risk
Factors" and "Additional Investment Information" sections of this prospectus and
the statement of additional information.
INVESTMENT RESTRICTIONS
The Fund has adopted the fundamental restrictions summarized below, which may
not be changed without the vote of a majority of the Fund's outstanding shares
(as defined in the 1940 Act). These restrictions and certain other fundamental
and nonfundamental restrictions are contained in the statement of additional
information. Unless otherwise stated, all references to the Fund's assets are
in terms of current market value.
Generally, the Fund may not do the following:
(1) purchase any security (other than U.S. government securities) of any
issuer if as a result more than 5% of its total assets would be invested in
securities of the issuer, except that up to 25% of its total assets may be
invested without regard to this limit;
(2) borrow money or enter into reverse repurchase agreements, except that
the Fund may enter into reverse repurchase agreements or borrow money from
banks for temporary or emergency purposes in aggregate amounts up to one-
third of the value of the Fund's net assets; provided that while borrowings
from banks (not including reverse repurchase agreements) exceed 5% of the
Fund's net assets, any such borrowings will be repaid before additional
investments are made;
(3) purchase any security (other than U.S. government securities) of any
issuer if as a result more than 25% of its total assets would be invested in
a single industry including industrial development bonds from the same
facility or similar types of facilities; governmental issuers of municipal
bonds are not regarded as members of an industry, and the Fund may invest
more than 25% of its assets in industrial development bonds; and
(4) invest more than 10% of its assets in securities with legal or
contractual restrictions on resale or in securities for which market
quotations are not readily available, or in repurchase agreements maturing
in more than seven days.
As a matter of practice, the Fund treats reverse repurchase agreements as
borrowings for purposes of compliance with the limitations of the 1940 Act.
Reverse repurchase agreements will be taken into account along with borrowings
from banks for purposes of the 5% limit set forth in the second investment
restriction above.
The foregoing is only a summary of the Fund's investment restrictions and
policies. See the statement of additional information for details and the full
text of the Fund's investment restrictions and related policies.
RISK FACTORS
GENERAL
Like any investment, your investment in the Fund involves an element of
risk. Before you invest in the Fund, you should carefully evaluate your
ability to assume the risks your investment in the Fund poses.
Certain risks related to the Fund are discussed below. To the extent not
discussed in this section, specific risks attendant to individual securities
or investment practices are discussed in "Additional Investment Information."
Should the Fund need to raise cash to meet a large number of redemptions, it
might have to sell portfolio securities at a time when it would be
disadvantageous to do so.
Investing in the Fund involves the risk common to investing in any security,
that is that the value of the securities held by the Fund will fluctuate in
response to changes in economic conditions or public expectations about those
securities. For example, the market value of fixed income securities in which
the Fund may invest are likely to vary inversely to changes in prevailing
interest rates. In addition, the net asset value of the Fund's shares will
change according to the market's perception of the underlying portfolio
securities of the Fund.
By itself, the Fund does not constitute a balanced investment program and is
not designed for investors seeking capital appreciation or maximum tax-exempt
income irrespective of fluctuations in principal or marketability. Shares of
the Fund would not be suitable for tax-exempt institutions and may not be
suitable for certain retirement plans that are unable to benefit from the
Fund's federally tax-exempt dividends. In addition, the Fund may not be an
appropriate investment for entities that are "substantial users" of facilities
financed by industrial development bonds or related persons thereof.
MUNICIPAL OBLIGATIONS
The Fund's ability to achieve its objective depends partially on the prompt
payment by issuers of the interest on and principal of the municipal bonds
held by the Fund. A moratorium, default or other nonpayment of interest or
principal when due on any municipal bond, in addition to affecting the market
value and liquidity of that particular security, could affect the market value
and liquidity of other municipal bonds held by the Fund. In addition, the
market for municipal obligations is often thin and can be temporarily affected
by large purchases and sales, including those by the Fund.
From time to time, proposals have been introduced before the U.S. Congress
for the purpose of restricting or eliminating the federal income tax exemption
for interest on municipal obligations, and similar proposals may well be
introduced in the future. If such a proposal were enacted, the availability
of municipal obligations for investment by the Fund and the value of the
Fund's portfolio could be materially affected. In such an event, the Fund
would reevaluate its investment objective and policies and consider changes in
the structure of the Fund or dissolution.
OTHER CONSIDERATIONS
The Fund has undertaken to a state securities authority to disclose that
zero coupon securities pay no interest to holders prior to maturity, and that
the interest on these securities is reported as income to the Fund and
distributed to its shareholders. These distributions must be made from the
Fund's cash assets or, if necessary, from the proceeds of sales of portfolio
securities. The Fund will not be able to purchase additional income producing
securities with cash used to make such distributions and its current income
ultimately may be reduced as a result. If and when the Fund invests in zero
coupon bonds, the Fund does not expect to have enough zero coupon bonds to
have a material effect on dividends.
Past performance should not be considered representative of future results.
PRICING SHARES
The net asset value of a Fund share is computed each day on which the New
York Stock Exchange (the "Exchange") is open as of the close of trading on the
Exchange (currently 4:00 p.m. eastern time for the purpose of pricing Fund
shares) except on days when changes in the value of the Fund's portfolio
securities do not affect the current net asset value of its shares. The
Exchange currently is closed on weekends, New Year's Day, Presidents' Day,
Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day and
Christmas Day. The net asset value per share of the Fund is arrived at by
determining the value of the Fund's assets, subtracting its liabilities and
dividing the result by the number of its shares outstanding.
The Fund values municipal obligations on the basis of valuations provided by
a pricing service, approved by the Fund's Board of Trustees, which uses
information with respect to transactions in bonds, quotations from bond
dealers, market transactions in comparable securities and various
relationships between securities in determining value. The Fund values short-
term investments with maturities of sixty days or less when purchased at
amortized cost (original purchase cost as adjusted for amortization of premium
or accretion of discount), which, when combined with accrued interest,
approximates market. Short-term investments having maturities of more than
sixty days for which market quotations are readily available are valued at
current market value. Short-term investments maturing in more than sixty days
when purchased that are held on the sixtieth day prior to maturity are valued
at amortized cost (market value on the sixtieth day adjusted for amortization
of premium or accretion of discount), which, when combined with accrued
interest, approximates market, and which in any case reflects fair value as
determined by the Fund's Board of Trustees. All other investments are valued
at market value or, where market quotations are not readily available, at fair
value as determined in good faith according to procedures established by the
Board of Trustees.
DIVIDENDS AND TAXES
The Fund intends to make distributions from net investment income monthly
and net realized long-term capital gains annually. Shareholders receive Fund
distributions in the form of additional shares of that class of shares upon
which the dividend or distribution is based, or, at the shareholder's option,
in cash. Shareholders who have not opted to receive cash prior to the payable
date from net investment income or the record date for any distribution will
have the number of such shares determined on the basis of the Fund's net asset
value per share computed at the end of that day after adjustment for the
distribution. Net asset value is used in computing the number of shares in
both capital gains and income distribution reinvestments. There is a
possibility that shareholders may lose the tax-exempt status on accrued income
on municipal bonds if shares of the Fund are redeemed before a dividend has
been declared.
As of April 1, 1995, in compliance with a recent ruling issued by the
Internal Revenue Service ("IRS"), the Fund treats its 12b-1 fees for tax
purposes as operating expenses rather than as capital charges.
The Fund has qualified and intends to qualify in the future as a regulated
investment company under the Code. The Fund qualifies if, among other things,
it distributes to its shareholders at least 90% of its net investment income
for its fiscal year. The Fund also intends to make timely distributions, if
necessary, sufficient in amount to avoid the nondeductible 4% excise tax
imposed on a regulated investment company when it fails to distribute, with
respect to each calendar year, at least 98% of its ordinary income for such
calendar year and 98% of its net capital gains for the one-year period ending
on October 31 of such calendar year. Any taxable distribution that would be
declared in October, November or December to shareholders of record in such a
month and paid by the following January 31 will be includable in the taxable
income of the shareholder as if paid on December 31 of the year in which the
dividend were declared. If the Fund qualifies and if it distributes
substantially all of its net investment income and net capital gains, if any,
to shareholders, it will be relieved of any federal income tax liability.
Because Class A shares bear most of the costs of distribution of such shares
through payment of a front end sales charge, while Class B and Class C shares
bear such expenses through a higher annual distribution fee, expenses
attributable to Class B and Class C shares will generally be higher, and income
distributions paid by the Fund with respect to Class A shares will generally be
greater than those paid with respect to Class B and Class C shares.
The Fund expects that substantially all of its dividends will be "exempt
interest dividends," which should be treated as excludable from federal gross
income. In order to pay exempt interest dividends at least 50% of the value of
the Fund's assets must consist of federally tax-exempt obligations at the
close of each quarter. An exempt interest dividend is any dividend or part
thereof (other than a capital gain dividend) paid by the Fund with respect to
its net federally excludable municipal obligation interest and designated as
an exempt interest dividend in a written notice mailed to each shareholder not
later than 60 days after the close of its taxable year. The percentage of the
total dividends paid by the Fund with respect to any taxable year that
qualifies as exempt interest dividends will be the same for all shareholders
receiving dividends with respect to such year. If a shareholder receives an
exempt interest dividend with respect to any share and such share is held for
six months or less, any loss on the sale or exchange of such share will be
disallowed to the extent of the exempt interest dividend amount.
Any shareholder who may be a "substantial user" of a facility financed with an
issue of tax-exempt obligations or a "related person" to such a user should
consult his tax adviser concerning his qualification to receive exempt interest
dividends should the Fund hold obligations financing such facility.
Interest on certain "private activity bonds" issued after August 7, 1986,
although otherwise tax exempt, is treated as a tax preference item for
alternative minimum tax purposes. Under regulations to be promulgated, the
Fund's exempt interest dividends will be treated the same way to the extent
attributable to interest paid on such private activity bonds. Corporate
shareholders should also be aware that the receipt of exempt interest
dividends could subject them to alternative minimum tax under the provisions
of Section 56(g) of the Code (relating to "adjusted current earnings").
Since none of the Fund's income will consist of corporate dividends, no
distributions will qualify for the corporate dividends received deduction.
The Fund intends to distribute its net capital gains as capital gain
dividends; such dividends are treated by shareholders as long-term capital
gains. Such distributions will be designated as capital gain dividends by a
written notice mailed to each shareholder no later than 60 days after the
close of the Fund's taxable year. If a shareholder receives a capital gain
dividend and holds his shares for six months or less, then any allowable loss
on disposition of such shares will be treated as a long-term capital loss to
the extent of such capital gain dividend.
Interest on indebtedness incurred or continued by shareholders to purchase
or carry shares of the Fund will not be deductible for federal income tax
purposes to the extent of the portion of the interest expense relating to
exempt interest dividends; that portion is determined by multiplying the total
amount of interest paid or accrued on the indebtedness by a fraction, the
numerator of which is the exempt interest dividends received by a shareholder
in his taxable year and the denominator of which is the sum of the exempt
interest dividends and the taxable distributions out of the Fund's investment
income and long-term capital gains received by the shareholder.
The Fund may acquire an option to "put" specified securities to municipal
bond dealers or issuers from whom the securities are purchased. It is
expected that the Fund will be treated for federal income tax purposes as the
owner of the municipal bonds acquired subject to the put. The interest on the
municipal bonds will be tax exempt to the Fund, and the purchase prices must
be allocated between such securities and the put based upon their respective
fair market values. The IRS has not issued a published ruling on this matter
and could reach a different conclusion.
Some or all of the Fund's exempt interest dividends may be subject to state
income taxes. The Fund will report to shareholders on a state by state basis
the sources of its exempt interest dividends.
At least 50% of the value of the Fund's assets must be invested in municipal
bonds in order for distributions to qualify as exempt interest dividends at
the end of each quarter. Under particularly unusual circumstances, such as
when the Fund is in a prolonged defensive investment position, it is possible
that no portion of the Fund's distributions of income to its shareholders for
a fiscal year would be exempt from federal income tax; however, the Fund does
not presently anticipate that such unusual circumstances will occur.
The foregoing is only a summary of some of the important tax considerations
generally affecting the Fund and its shareholders. No attempt is made to
present a detailed explanation of the federal income tax treatment of the Fund
or its shareholders, and this discussion is not intended as a substitute for
careful tax planning. Accordingly, potential investors in the Fund are urged
to consult their tax advisers with specific reference to their own tax
situation.
FUND MANAGEMENT AND EXPENSES
BOARD OF TRUSTEES
Under Massachusetts law, the Fund's Board of Trustees has absolute and
exclusive control over the management and disposition of all assets of the
Fund. Subject to the general supervision of the Board of Trustees, Keystone
Management, located at 200 Berkeley Street, Boston, Massachusetts 02116-5034,
serves as investment manager to the Fund and is responsible for the overall
management of the Fund's business and affairs.
INVESTMENT MANAGER
Keystone Management, the Fund's investment manager, organized in 1989, is a
wholly-owned subsidiary of Keystone. Its directors and principal executive
officers have been affiliated with Keystone, a seasoned investment adviser,
for a number of years. Keystone Management also serves as investment manager
to most of the other Keystone America Funds and to certain other funds in the
Keystone Investments Family of Funds.
Pursuant to its Investment Management Agreement with the Fund (the
"Management Agreement"), Keystone Management has delegated its investment
management functions, except for certain administrative and management
services to Keystone and has entered into an Investment Advisory Agreement
with Keystone (the "Advisory Agreement") under which Keystone provides
investment advisory and management services to the Fund. Services performed by
Keystone Management include (1) performing research and planning with respect
to (a) the Fund's qualification as a regulated investment company under
Subchapter M of the Code, (b) tax treatment of the Fund's portfolio
investments, (c) tax treatment of special corporate actions (such as
reorganizations), (d) state tax matters affecting the Fund, and (e) the Fund's
distributions of income and capital gains; (2) preparing the Fund's federal
and state tax returns; and (3) providing services to the Fund's shareholders in
connection with federal and state taxation and distributions of income and
capital gains.
The Fund pays Keystone Management a fee for its services at the annual rate
set forth below:
Aggregate Net Asset
Management Value of the Shares
Fee of the Fund
Income
- ------------------------------------------------------------------------------
2.0% of
Gross Dividend and
Interest Income Plus
0.50% of the first $100,000,000, plus
0.45% of the next $100,000,000, plus
0.40% of the next $100,000,000, plus
0.35% of the next $100,000,000, plus
0.30% of the next $100,000,000, plus
0.25% of amounts over $500,000,000
computed as of the close of business each business day and paid or accrued
daily.
During the fiscal year ended November 30, 1995, the Fund paid or accrued to
Keystone Management investment management and administrative services fees of
$919,802, which represented 0.61% of the Fund's average net assets. Of such
amount paid to Keystone Management, $781,832 was paid to Keystone for its
services to the Fund.
INVESTMENT ADVISER
Keystone, the Fund's investment adviser, located at 200 Berkeley Street,
Boston, Massachusetts 02116-5034, has provided investment advisory and
management services to investment companies and private accounts since it was
organized in 1932. Keystone is a wholly-owned subsidiary of Keystone
Investments, Inc. (formerly named Keystone Group, Inc.) ("Keystone
Investments"), 200 Berkeley Street, Boston, Massachusetts 02116-5034.
Keystone Investments is a corporation predominantly owned by current and
former members of management and certain employees of Keystone and its
affiliates. The shares of Keystone Investments common stock beneficially
owned by management are held in a number of voting trusts, the trustees of
which are George S. Bissell, Albert H. Elfner, III, Edward F. Godfrey and
Ralph J. Spuehler, Jr. Keystone Investments provides accounting, bookkeeping,
legal, personnel and general corporate services to Keystone Management,
Keystone, their affiliates and the Keystone Investments Family of Funds.
Pursuant to the Advisory Agreement, Keystone receives for its services an
annual fee representing 85% of the management fee received by Keystone
Management under the Management Agreement.
The Management Agreement and the Advisory Agreement continue in effect from
year to year only so long as such continuance is specifically approved at
least annually by the Board of Trustees or by vote of a majority of the
outstanding shares of the Fund. In either case, the terms of the Management
Agreement and the Advisory Agreement and continuance thereof must be approved
by the vote of a majority of the Fund's Independent Trustees cast in person at
a meeting called for the purpose of voting on such approval. The Advisory
Agreement may be terminated, without penalty, on 60 days' written notice by
the Fund, Keystone Management or Keystone, or by a vote of the shareholders of
the Fund. The Management Agreement and the Advisory Agreement will terminate
automatically upon assignment.
The Fund has adopted a Code of Ethics incorporating policies on personal
securities trading as recommended by the Investment Company Institute.
FUND EXPENSES
The Fund will pay all of its expenses. In addition to the investment
advisory and management fees discussed above, the principal expenses that the
Fund is expected to pay include, but are not limited to, expenses associated
with certain Trustees, its transfer, dividend disbursing and shareholder
servicing agent, its custodian, its independent auditors and legal counsel to
its Board of Trustees; fees payable to government agencies, including
registration and qualification fees of the Fund and its shares under federal
and state securities laws; and certain extraordinary expenses. In addition,
each class will pay all of the expenses attributable to it. Such expenses are
currently limited to Distribution Plan expenses. The Fund also pays its
brokerage commissions, interest charges and taxes.
For the fiscal year ended November 30, 1995, the Fund's Class A, Class B and
Class C shares paid 1.19%, 1.96% and 1.96%, respectively, of average net
assets in expenses.
During the fiscal year ended November 30, 1995, the Fund paid or accrued to
Keystone Investor Resource Center, Inc. ("KIRC"), the Fund's transfer and
dividend disbursing agent, and Keystone Investments $19,338 as reimbursement
for certain accounting services and paid or accrued to KIRC $211,525 for
shareholder services. KIRC is a wholly-owned subsidiary of Keystone.
PORTFOLIO MANAGER
Daniel A. Rabasco, a Keystone Vice President and Portfolio Manager has been
responsible for the day-to-day management of the Fund since January, 1996. Mr.
Rabasco has more than 9 years investment experience.
SECURITIES TRANSACTIONS
Under policies established by the Board of Trustees, Keystone selects
broker-dealers to execute transactions subject to the receipt of best
execution. When selecting broker-dealers to execute portfolio transactions for
the Fund, Keystone may consider as a factor the number of shares of the Fund
sold by the broker-dealer. In addition, broker-dealers executing portfolio
transactions may, from time to time, be affiliated with the Fund, Keystone,
the Fund's principal underwriter or their affiliates.
The Fund may pay higher commissions to broker-dealers that provide research
services. Keystone may use these services in advising the Fund as well as in
advising its other clients.
PORTFOLIO TURNOVER
The Fund's portfolio turnover rates for the fiscal years ended November 30,
1995 and 1994 were 30% and 98%, respectively. High portfolio turnover may
involve correspondingly greater brokerage commissions and other transaction
costs, which would be borne directly by the Fund, as well as additional gains
and/or losses to shareholders. For additional information about brokerage and
distributions, see the statement of additional information.
HOW TO BUY SHARES
You may purchase shares of the Fund from any broker-dealer that has a
selling agreement with Keystone Investment Distributors Company (formerly
named Keystone Distributors, Inc.) (the "Principal Underwriter"), the Fund's
principal underwriter. The Principal Underwriter, a wholly-owned subsidiary of
Keystone, is located at 200 Berkeley Street, Boston, Massachusetts 02116-5034.
In addition, you may open an account for the purchase of shares of the Fund
by mailing to the Fund, c/o Keystone Investor Resource Center, Inc., P.O. Box
2121, Boston, Massachusetts 02106-2121, a completed account application and a
check payable to the Fund. You may also open an account by telephoning 1-800-
343-2898 to obtain the number of an account to which you can wire or
electronically transfer funds and then send in a completed account
application. Subsequent investments in Fund shares in any amount may be made
by check, by wiring federal funds or by an electronic funds transfer ("EFT").
Orders for the purchase of Fund shares will be confirmed at an offering
price equal to the net asset value per share next determined after receipt of
the order in proper form by the Principal Underwriter (generally as of the
close of the Exchange on that day) plus, in the case of Class A shares, the
applicable sales charge. Orders received by dealers or other firms prior to
the close of the Exchange and received by the Principal Underwriter prior to
the close of its business day will be confirmed at the offering price
effective as of the close of the Exchange on that day.
Orders for shares received other than as stated above will receive the
offering price equal to the net asset value per share next determined
(generally the next business day's offering price) plus, in the case of Class
A shares, the applicable sales charge. The Fund reserves the right to
determine the net asset value more frequently than once a day if deemed
desirable. Dealers and other financial services firms are obligated to
transmit orders promptly.
Orders for shares received directly by the Fund from you will receive the
offering price equal to the net asset value per share next computed after the
Fund receives the purchase order plus, in the case of Class A shares, the
front end sales charge.
The initial purchase must be at least $1,000 for Class A, Class B and Class
C shares. There is no minimum amount for subsequent purchases.
The Fund reserves the right to withdraw all or any part of the offering made
by this prospectus and to reject purchase orders.
Shareholder inquiries should be directed to KIRC by calling toll free 1-800-
343-2898 or writing to KIRC or to the firm from which you received this
prospectus.
ALTERNATIVE SALES OPTIONS
The Fund offers three classes of shares:
CLASS A SHARES -- FRONT END LOAD OPTION
Class A shares are sold with a sales charge at the time of purchase. Class A
shares are not subject to a deferred sales charge when they are redeemed except
as follows: Class A shares purchased on or after April 10, 1995 (1) in an amount
equal to or exceeding $1,000,000 or (2) by a corporate qualified retirement plan
or a non-qualified deferred compensation plan sponsored by a corporation having
100 or more eligible employees (a "Qualifying Plan"), in either case without a
front end sales charge, will be subject to a contingent deferred sales charge
for the 24 month period following the date of purchase. Certain Class A shares
purchased prior to April 10, 1995 may be subject to a deferred sales charge upon
redemption during the one year period following the date of purchase.
CLASS B SHARES -- BACK END LOAD OPTION
Class B shares are sold without a sales charge at the time of purchase, but
are, with certain exceptions, subject to a contingent deferred sales charge if
they are redeemed. Class B shares purchased on or after June 1, 1995 are
subject to a contingent deferred sales charge if redeemed during the 72 month
period commencing with and including the month of purchase. Class B shares
purchased prior to June 1, 1995 are subject to a deferred sales charge upon
redemption during the four calendar years following purchase. Class B shares
purchased on or after June 1, 1995 that have been outstanding for eight years
from and including the month of purchase will automatically convert to Class A
shares without imposition of a front-end sales charge or exchange fee. Class B
shares purchased prior to June 1, 1995 will retain their existing conversion
rights.
CLASS C SHARES -- LEVEL LOAD OPTION
Class C shares are sold without a sales charge at the time of purchase, but
are subject to a deferred sales charge if they are redeemed within one year
after the date of purchase. Class C shares are available only through dealers
who have entered into special distribution agreements with the Principal
Underwriter.
Each class of shares, pursuant to its respective Distribution Plan, pays an
annual service fee of 0.25% of the Fund's average daily net assets
attributable to that class. In addition to the 0.25% service fee, the Class B
and C Distribution Plans provide for the payment of an annual distribution fee
of up to 0.75% of the average daily net assets attributable to their
respective classes. As a result, income distributions paid by the Fund with
respect to Class B and Class C shares will generally be less than those paid
with respect to Class A.
Investors who would rather pay the entire cost of distribution at the time
of investment, rather than spread the cost over time, might consider Class A
shares. Other investors might consider Class B or Class C shares, in which
case, 100% of the purchase price is invested immediately, depending on the
amount of the purchase and the intended length of investment.
The Fund will not normally accept any purchase of Class B shares in the
amount of $250,000 or more and will not normally accept any purchase of Class
C shares in the amount of $1,000,000 or more.
----------------------------------------------
CLASS A SHARES
Class A shares are offered at net asset value plus an initial sales charge
as follows:
AS A % OF CONCESSION TO
AS A % OF NET AMOUNT DEALERS AS A % OF
AMOUNT OF PURCHASE OFFERING PRICE INVESTED* OFFERING PRICE
- --------------------------------------------------------------------------------
Less than $100,000 ................ 4.75% 4.99% 4.25%
$100,000 but less than $250,000 ... 3.75% 3.90% 3.25%
$250,000 but less than $500,000 ... 2.50% 2.56% 2.25%
$500,000 but less than $1,000,000 . 1.50% 1.52% 1.50%
*Rounded to the nearest one-hundredth percent.
----------------------------------------------
Purchases of the Fund's Class A shares in the amount of $1 million or more
and/or purchases of Class A shares made by a Qualifying Plan or a tax-
sheltered annuity plan sponsored by a public educational entity having 5,000
or more eligible employees (a "TSA Plan") will be at net asset value without
the imposition of a front-end sales charge (each such purchase, an "NAV
Purchase").
With respect to NAV Purchases, the Principal Underwriter will pay broker/
dealers or others concessions based on (1) the investor's cumulative purchases
during the one-year period beginning with the date of the initial NAV Purchase
and (2) the investor's cumulative purchases during each subsequent one-year
period beginning with the first NAV Purchase following the end of the prior
period. For such purchases, concessions will be paid at the following rate:
1.00% of the investment amount up to $2,999,999; plus 0.50% of the investment
amount between $3,000,000 and $4,999,999; plus 0.25% of the investment amount
over $4,999,999.
With the exception of Class A shares acquired by a TSA Plan, Class A shares
acquired on or after April 10, 1995 in an NAV Purchase are subject to a
contingent deferred sales charge of 1.00% upon redemption during the 24 month
period commencing on the date the shares were originally purchased. Class A
shares acquired by a TSA Plan in an NAV Purchase are not subject to a
contingent deferred sales charge. Certain Class A shares purchased without a
front-end sales charge prior to April 10, 1995 are subject to a contingent
deferred sales charge of 0.25% upon redemption during the one year period
commencing on the date such shares were originally purchased.
The sales charge is paid to the Principal Underwriter, which, in turn,
normally reallows a portion to your broker-dealer. In addition, your broker-
dealer currently will be paid periodic service fees at an annual rate of up to
0.25% of the average daily net asset value of outstanding shares of Class A
maintained by such recipient on the books of the Fund for specified periods.
Upon written notice to dealers with whom it has dealer agreements, the
Principal Underwriter may reallow up to the full applicable sales charge.
Initial sales charges may be eliminated for persons purchasing Class A
shares which are included in a broker-dealer or investment adviser managed fee
based program (a wrap account) with broker dealers or investment advisers who
have entered into special agreements with the Principal Underwriter. Initial
sales charges may be reduced or eliminated for persons or organizations
purchasing Class A shares of the Fund alone or in combination with Class A
shares of other Keystone America Funds. See Exhibit A to this prospectus.
Upon prior notification to the Principal Underwriter, Class A shares may be
purchased at net asset value by clients of registered representatives within
six months after a change in the registered representative's employment when
the amount invested represents redemption proceeds from a registered open-end
management investment company not distributed or managed by Keystone or its
affiliates, and the shareholder either (1) paid a front end sales charge, or
(2) was at some time subject to, but did not actually pay, a contingent
deferred sales charge with respect to the redemption proceeds.
Upon prior notification to the Principal Underwriter, Class A shares may
currently be purchased at net asset value by clients of registered
representatives within six months after the redemption of shares of any
registered open-end investment company not distributed or managed by Keystone
or its affiliates when the amount invested represents redemption proceeds
from such unrelated registered open-end investment company, and the
shareholder either (1) paid a front end sales charge, or (2) was at some time
subject to, but did not actually pay, a contingent deferred sales charge with
respect to the redemption proceeds. The foregoing special offer is subject to
change and may be modified or terminated in the future.
CLASS A DISTRIBUTION PLAN
The Fund has adopted a Distribution Plan with respect to its Class A shares
(the "Class A Distribution Plan") that provides for expenditures by the Fund
currently limited to 0.25% annually of the average daily net asset value of
Class A shares in connection with the distribution of Class A shares. Payments
made under the Class A Distribution Plan are currently made to the Principal
Underwriter (which may reallow all or part to others, such as dealers) as
service fees at an annual rate of up to 0.25% of the average daily net asset
value of Class A shares maintained by such recipients on the books of the Fund
for specified periods.
CLASS B SHARES
Class B shares are offered at net asset value, without an initial sales
charge.
With respect to Class B shares purchased on or after June 1, 1995, the Fund,
with certain exceptions, imposes a deferred sales charge in accordance with
the following schedule:
DEFERRED
SALES
CHARGE
REDEMPTION TIMING IMPOSED
- ----------------- -------
First twelve month period .................... 5.00%
Second twelve month period ................... 4.00%
Third twelve month period .................... 3.00%
Fourth twelve month period ................... 3.00%
Fifth twelve month period .................... 2.00%
Sixth twelve month period .................... 1.00%
No deferred sales charge is imposed on amounts redeemed thereafter.
With respect to Class B shares purchased prior to June 1, 1995, the Fund,
with certain exceptions, imposes a deferred sales charge of 3.00% on shares
redeemed during the calendar year of purchase and the first calendar year
after the year of purchase; 2.00% on shares redeemed during the second
calendar year after the year of purchase; and 1.00% on shares redeemed during
the third calendar year after the year of purchase. No deferred sales charge
is imposed on amounts redeemed thereafter.
When imposed, the deferred sales charge is deducted from the redemption
proceeds otherwise payable to you. The deferred sales charge is retained by
the Principal Underwriter. Amounts received by the Principal Underwriter under
the Class B Distribution Plans are reduced by deferred sales charges retained
by the Principal Underwriter. See "Contingent Deferred Sales Charges and
Waiver of Sales Charges" below.
Class B shares purchased on or after June 1, 1995 that have been outstanding
for eight years from and including the month of purchase will automatically
convert to Class A shares (which are subject to a lower Distribution Plan
charge) without imposition of a front-end sales charge or exchange fee. Class
B shares purchased prior to June 1, 1995 will similarly convert to Class A
shares at the end of seven calendar years after the year of purchase.
(Conversion of Class B shares represented by stock certificates will require
the return of the stock certificates to KIRC.) Under current law, it is the
Fund's opinion that such a conversion will not constitute a taxable event
under federal income tax law. In the event that this ceases to be the case,
the Board of Trustees will consider what action, if any, is appropriate and in
the best interests of the Class B shareholders.
The Class B shares so converted or exchanged will no longer be subject to
the higher distribution expenses and other expenses, if any, borne by Class B
shares. Because the net asset value per share of Class A shares may be higher
or lower than that of the Class B shares at the time of conversion or
exchange, although the dollar value will be the same, a shareholder may
receive more or fewer Class A shares than the number of Class B shares
converted or exchanged.
CLASS B DISTRIBUTION PLANS
The Fund has adopted Distribution Plans with respect to its Class B shares
(the "Class B Distribution Plans") that provide for expenditures by the Fund
at an annual rate of up to 1.00% of the average daily net asset value of Class
B shares to pay expenses of the distribution of Class B shares. Payments under
the Class B Distribution Plans are currently made to the Principal Underwriter
(which may reallow all or part to others, such as dealers) (1) as commissions
for Class B shares sold and (2) as shareholder service fees. Amounts paid or
accrued to the Principal Underwriter under (1) and (2) in the aggregate may
not exceed the annual limitation referred to above.
The Principal Underwriter generally reallows to brokers or others a
commission equal to 4.00% of the price paid for each Class B share sold plus
the first year's service fee in advance in the amount of 0.25% of the price
paid for each Class B share sold. Beginning approximately 12 months after the
purchase of a Class B share, the broker or other party will receive service
fees at an annual rate of 0.25% of the average daily net asset value of such
Class B share maintained by the recipient outstanding on the books of the Fund
for specified periods. See "Distribution Plans" below.
CLASS C SHARES
Class C shares are available only through dealers who have special dealer
agreements with the Principal Underwriter. Class C shares are offered at net
asset value, without an initial sales charge. With certain exceptions, the
Fund imposes a deferred sales charge of 1.00% on shares redeemed within one
year after the date of purchase. No deferred sales charge is imposed on
amounts redeemed thereafter. If imposed, the deferred sales charge is deducted
from the redemption proceeds otherwise payable to you. The deferred sales
charge is retained by the Principal Underwriter. See "Contingent Deferred
Sales Charge and Waiver of Sales Charges" below.
CLASS C DISTRIBUTION PLAN
The Fund has adopted a Distribution Plan with respect to its Class C shares
("Class C Distribution Plan") that provides for expenditures at an annual rate
of up to 1.00% of the average daily net asset value of Class C shares to pay
expenses of the distribution of Class C shares. Payments under the Class C
Distribution Plan are currently made to the Principal Underwriter (which may
reallow all or part to others, such as dealers) (1) as commissions for Fund
shares sold and (2) as shareholder service fees. Amounts paid or accrued to
the Principal Underwriter under (1) and (2) in the aggregate may not exceed
the annual limitation referred to above.
The Principal Underwriter generally reallows to brokers or others a commission
in the amount of 0.75% of the price paid for each Class C share sold, plus the
first year's service fee in advance in the amount of 0.25% of the price paid for
each Class C share sold. Beginning approximately fifteen months after purchase,
the broker or other party will receive a commission at an annual rate of 0.75%
(subject to NASD rules -- see "Distribution Plans") plus service fees at an
annual rate of 0.25%, respectively, of the average daily net asset value of
Class C shares maintained by such recipients on the books of the Fund for
specified periods. See "Distribution Plans" below.
CONTINGENT DEFERRED SALES CHARGE
AND WAIVER OF SALES CHARGES
Any contingent deferred sales charge imposed upon the redemption of Class A,
Class B or Class C shares is a percentage of the lesser of (1) the net asset
value of the shares redeemed or (2) the net asset value at the time of
purchase of such shares.
No contingent deferred sales charge is imposed when you redeem amounts derived
from (1) increases in the value of your account above the net cost of such
shares due to increases in the net asset value per share of such shares; (2)
certain shares with respect to which the Fund did not pay a commission on
issuance, including shares acquired through reinvestment of dividend income and
capital gains distributions; (3) certain Class A shares held for more than one
or two years, as the case may be, from the date of purchase; (4) Class B shares
held more than four consecutive calendar years or more than 72 months as the
case may be; or (5) Class C shares held for more than one year. Upon request for
redemption, shares not subject to the contingent deferred sales charge will be
redeemed first. Thereafter, shares held the longest will be the first to be
redeemed.
With respect to Class A shares purchased by a Qualifying Plan at net asset
value or Class C shares purchased by a Qualifying Plan, no contingent deferred
sales charge will be imposed on any redemptions made specifically by an
individual participant in the Qualifying Plan. This waiver is not available in
the event a Qualifying Plan (as a whole) redeems substantially all of its
assets.
In addition, no contingent deferred sales charge is imposed on a redemption
of shares of the Fund in the event of (1) death or disability of the
shareholder; (2) a lump-sum distribution from a 401(k) plan or other benefit
plan qualified under the Employee Retirement Income Security Act of 1974
("ERISA"); (3) automatic withdrawals from ERISA plans if the shareholder is at
least 59 1/2 years old; (4) involuntary redemptions of accounts having an
aggregate net asset value of less than $1,000; (5) automatic withdrawals under
an automatic withdrawal plan of up to 1.5% per month of the shareholder's
initial account balance; (6) withdrawals consisting of loan proceeds to a
retirement plan participant; (7) financial hardship withdrawals made by a
retirement plan participant; or (8) withdrawals consisting of returns of
excess contributions or excess deferral amounts made to a retirement plan
participant.
The Fund may also sell Class A, Class B or Class C shares at net asset value
without any initial sales charge or a contingent deferred sales charge to
certain Directors, Trustees, officers and employees of the Fund and Keystone and
certain of their affiliates; registered representatives of firms with dealer
agreements with the Principal Underwriter; and a bank or trust company acting as
a trustee for a single account. See also the statement of additional
information.
ARRANGEMENTS WITH BROKER-DEALERS AND OTHERS
The Principal Underwriter may, from time to time, provide promotional
incentives, including reallowance of up to the entire sales charge, to certain
dealers whose representatives have sold or are expected to sell significant
amounts of the Fund shares. In addition, dealers may, from time to time, receive
additional cash payments. The Principal Underwriter may provide written
information to dealers with whom it has dealer agreements that relates to
sales incentive campaigns conducted by such dealers for their representatives
as well as financial assistance in connection with pre-approved seminars,
conferences and advertising. No such programs or additional compensation will
be offered to the extent they are prohibited by the laws of any state or any
self-regulatory agency, such as the NASD. Dealers to whom substantially the
entire sales charge on Class A shares is reallowed may be deemed to be
underwriters as that term is defined under the Securities Act of 1933.
The Principal Underwriter may, at its own expense, pay concessions in
addition to those described above to dealers that satisfy certain criteria
established from time to time by the Principal Underwriter. These conditions
relate to increasing sales of shares of the Keystone funds over specified
periods and certain other factors. Such payments may, depending on the
dealer's satisfaction of the required conditions, be periodic and may be up to
0.25% of the value of shares sold by such dealer.
The Principal Underwriter may also pay a transaction fee (up to the level of
payment allowed to dealers for the sale of shares, as described above) to
banks and other financial services firms that facilitate transactions in
shares of the Fund for their clients.
The Glass-Steagall Act currently limits the ability of a depository
institution (such as a commercial bank or a savings and loan association) to
become an underwriter or distributor of securities. In the event the Glass-
Steagall Act is deemed to prohibit depository institutions from accepting
payments under the arrangement described above, or should Congress relax
current restrictions on depository institutions, the Board of Trustees will
consider what action, if any, would be appropriate.
In addition, state securities laws on this issue may differ from the
interpretations of federal law expressed herein and banks and financial
institutions may be required to register as dealers pursuant to state law.
DISTRIBUTION PLANS
As discussed above, the Fund bears some of the costs of selling its shares
under Distribution Plans adopted with respect to its Class A, Class B and
Class C shares pursuant to Rule 12b-1 under the 1940 Act.
The NASD limits the amount that a fund may pay annually in distribution
costs for sale of its shares and shareholder service fees. The NASD limits
annual expenditures to 1% of the aggregate average daily net asset value of a
fund's shares, of which 0.75% may be used to pay such distribution costs and
0.25% may be used to pay shareholder service fees. The NASD also limits the
aggregate amount that the Fund may pay for such distribution costs to 6.25% of
gross share sales since the inception of the 12b-1 Distribution Plan, plus
interest at the prime rate plus 1% on such amounts (less any contingent
deferred sales charges paid by shareholders to the Principal Underwriter)
remaining unpaid from time to time.
The Principal Underwriter intends, but is not obligated, to continue to pay or
accrue distribution charges incurred in connection with the Class B Distribution
Plans that exceed current annual payments permitted to be received by the
Principal Underwriter from the Fund. The Principal Underwriter intends to seek
full payment of such charges from the Fund (together with annual interest
thereon at the prime rate plus 1%) at such time in the future as, and to the
extent that, payment thereof by the Fund would be within permitted limits.
If the Fund's Independent Trustees authorize such payments, the effect would
be to extend the period of time during which the Fund incurs the maximum amount
of costs allowed by a Distribution Plan. If a Distribution Plan is terminated,
the Principal Underwriter will ask the Independent Trustees to take whatever
action they deem appropriate under the circumstances with respect to payment of
such amounts.
In connection with financing its distribution costs, including commission
advances to dealers and others, the Principal Underwriter has sold to a
financial institution substantially all of its 12b-1 fee collection rights and
contingent deferred sales charge collection rights in respect of Class B
shares sold during the two-year period commencing approximately June 1, 1995.
The Fund has agreed not to reduce the rate of payment of 12b-1 fees in respect
of such Class B shares unless it terminates such shares' Distribution Plan
completely. If it terminates such Distribution Plan, the Fund may be subject
to adverse distribution consequences.
Each of the Distribution Plans may be terminated at any time by vote of the
Independent Trustees or by vote of a majority of the outstanding voting shares
of the respective class.
For Class B shares sold prior to June 1, 1995, unreimbursed distribution
expenses at November 30, 1995 were $1,945,004 (5.81% of such Class B net assets
at November 30, 1995). For Class B shares sold on or after June 1, 1995,
unreimbursed distribution expenses at November 30, 1995 were $162,557 (0.49% of
such Class B net assets at November 30, 1995). Unreimbursed Class C Distribution
Plan expenses at November 30, 1995 were $2,197,650 (10.78% of Class C net assets
at November 30, 1995).
For the fiscal year ended November 30, 1995, the Fund paid the Principal
Underwriter $229,818, $320,355 ($310,343 with respect to Class B shares sold
prior to June 1, 1995 and $10,012 with respect to Class B shares sold on or
after June 1, 1995) and $216,296 pursuant to its Class A, Class B and Class C
Distribution Plans, respectively.
Dealers or others may receive different levels of compensation depending on
which class of shares they sell. Payments pursuant to a Distribution Plan are
included in the operating expenses of the class.
HOW TO REDEEM SHARES
You may redeem Fund shares for cash at their net asset value upon written
order sent by you to the Fund, c/o KIRC, and presentation to the Fund of a
properly endorsed share certificate if certificates have been issued. Your
signature(s) on the written order and certificates must be guaranteed as
described below. In order to redeem by telephone you must have completed the
authorization in your account application. Proceeds for shares redeemed on
telephonic order will be deposited by wire or EFT only to the bank account
designated in your account application.
The redemption value equals the net asset value per share then determined and
may be more or less than your cost depending upon changes in the value of the
Fund's portfolio securities between purchase and redemption.
If imposed, the deferred sales charge is deducted from redemption proceeds
otherwise payable to you.
REDEMPTION OF SHARES IN GENERAL
At various times, the Fund may be requested to redeem shares for which it
has not yet received good payment. In such a case, the Fund will mail the
redemption proceeds upon clearance of the purchase check, which may take up to
15 days or more. Any delay may be avoided by purchasing shares with a
certified check or by bank wire of funds or EFT. Although the mailing of a
redemption check or wiring or EFT of redemption proceeds may be delayed, the
redemption value will be determined and the redemption processed in the
ordinary course of business upon receipt of proper documentation. In such a
case, after the redemption and prior to the release of the proceeds, no
appreciation or depreciation will occur in the value of the redeemed shares,
and no interest will be paid on the redemption proceeds. If the payment of a
redemption has been delayed, the check will be mailed or the proceeds wired or
sent EFT promptly after good payment has been collected.
The Fund computes the amount due you at the close of the Exchange at the end
of the day on which it has received all proper documentation from you.
Payment of the amount due on redemption, less any applicable contingent
deferred sales charge (as described above), will be made within seven days
thereafter except as discussed herein.
You may also redeem your shares through broker-dealers. The Principal
Underwriter, acting as agent for the Fund, stands ready to repurchase Fund
shares upon orders from dealers and will calculate the net asset value on the
same terms as those orders for the purchase of shares received from broker-
dealers and described under "How to Buy Shares." If the Principal Underwriter
has received proper documentation it will pay the redemption proceeds, less
any applicable deferred sales charge, to the broker-dealer placing the order
within seven days thereafter. The Principal Underwriter charges no fees for
this service. Your broker-dealer, however, may charge a service fee.
For your protection, SIGNATURES ON CERTIFICATES, STOCK POWERS AND ALL WRITTEN
ORDERS OR AUTHORIZATIONS MUST BE GUARANTEED BY A U.S. STOCK EXCHANGE MEMBER, A
BANK OR OTHER PERSONS ELIGIBLE TO GUARANTEE SIGNATURES UNDER THE SECURITIES
EXCHANGE ACT OF 1934 AND KIRC'S POLICIES. The Fund and KIRC may not only waive
this requirement, but may also require additional documents in certain cases.
Currently, the requirement for a signature guarantee has been waived on
redemptions of $50,000 or less where the account address of record has been the
same for a minimum period of 30 days. The Fund and KIRC reserve the right to
withdraw this waiver at any time.
If the Fund receives a redemption order, but you have not clearly indicated
the amount of money or number of shares involved, the Fund cannot execute the
order. In such cases, the Fund will request the missing information from you
and process the order on the day such information is received.
TELEPHONE REDEMPTIONS
Under ordinary circumstances, you may redeem up to $50,000 from your
account by telephone by calling toll free 1-800-343-2898. You must complete
the Telephone Redemption section of the application to enjoy telephone
redemption privileges.
In order to insure that instructions received by KIRC are genuine when you
initiate a telephone transaction, you will be asked to verify certain criteria
specific to your account. At the conclusion of the transaction, you will be
given a transaction number confirming your request. Written confirmation
of your transaction will be mailed the next business day. Your telephone
instructions will be recorded. Redemptions by telephone are allowed only if
the address and bank account of record have been the same for a minimum period
of 30 days.
If the redemption proceeds are less than $2,500, they will be mailed by
check. If they are $2,500 or more, they will be mailed, wired or sent by EFT
to your previously designated bank account as you direct. If you do not
specify how you wish your redemption proceeds be sent, they will be mailed by
check.
If you cannot reach the Fund by telephone, you should follow the procedures
for redeeming by mail or through a broker as set forth herein.
SMALL ACCOUNTS
Because of the high cost of maintaining small accounts, the Fund reserves
the right to redeem your account if its value has fallen below $1,000, the
current minimum investment level, as a result of your redemptions (but not as
a result of market action). You will be notified in writing and allowed 60
days to increase the value of your account to the minimum investment level. No
deferred sales charges are applied to such redemptions.
REDEMPTIONS IN KIND
If conditions arise that would make it undesirable for the Fund to pay for all
redemptions in cash, the Fund may authorize payment to be made in portfolio
securities or other property. The Fund has obligated itself, however, under the
1940 Act to redeem for cash all shares presented for redemption by any one
shareholder up to the lesser of $250,000 or 1% of the Fund's net assets in any
90-day period. Securities delivered in payment of redemptions would be valued at
the same value assigned to them in computing the net asset value per share and
would, to the extent permitted by law, be readily marketable. Shareholders
receiving such securities would incur brokerage costs upon the securities sale.
GENERAL
The Fund reserves the right at any time to terminate, suspend or change the
terms of any redemption method described in this prospectus, except redemption
by mail, and to impose fees.
Except as otherwise noted, neither the Fund, KIRC nor the Principal
Underwriter assumes responsibility for the authenticity of any instructions
received by any of them from a shareholder in writing, over the Keystone
Automated Response Line ("KARL") or by telephone. KIRC will employ reasonable
procedures to confirm that instructions received over KARL or by telephone are
genuine. Neither the Fund, KIRC nor the Principal Underwriter will be liable
when following instructions received over KARL or by telephone that KIRC
reasonably believes to be genuine.
The Fund may temporarily suspend the right to redeem its shares when (1) the
Exchange is closed, other than customary weekend and holiday closings; (2)
trading on the Exchange is restricted; (3) an emergency exists and the Fund
cannot dispose of its investments or fairly determine their value; or (4) the
Securities and Exchange Commission so orders.
SHAREHOLDER SERVICES
Details on all shareholder services may be obtained from KIRC by writing or
by calling toll free 1-800-343-2898.
KEYSTONE AUTOMATED RESPONSE LINE
KARL offers you specific fund account information and price, total return and
yield quotations as well as the ability to do account transactions, including
investments, exchanges and redemptions. You may access KARL by dialing toll-free
1-800-346-3858 on any touch tone telephone, 24 hours a day, seven days a week.
EXCHANGES
A shareholder who has obtained the appropriate prospectus may exchange shares
of the Fund for shares of certain other Keystone America Funds and Keystone
Liquid Trust ("KLT") as follows:
Class A shares may be exchanged for Class A shares of other Keystone
America Funds and Class A shares of KLT;
Class B shares, except as noted below, may be exchanged for the same type
of Class B shares of other Keystone America Funds and the same type of Class
B shares of KLT; and
Class C shares may be exchanged for Class C shares of other Keystone
America Funds and Class C shares of KLT.
Class B shares purchased on or after June 1, 1995 cannot be exchanged for
Class B shares of Keystone Capital Preservation and Income Fund during the 24
month period commencing with and including month of purchase.
The exchange of Class B shares and Class C shares will not be subject to a
contingent deferred sales charge. However, if the shares being tendered for
exchange are
(1) Class A shares acquired in an NAV purchase or otherwise without a front
end sales charge,
(2) Class B shares that have been held for less than 72 months or four
years, as the case may be, or
(3) Class C shares that have been held for less than one year,
and are still subject to a deferred sales charge, such charge will carry over
to the shares being acquired in the exchange transaction.
You may exchange shares for another Keystone fund for a $10 fee by writing or
calling Keystone. The exchange fee is waived for individual investors who make
an exchange using KARL. Shares purchased by check are eligible for exchange
after 15 days. If the shares being tendered for exchange are still subject to a
deferred sales charge, such charge will carry over to the shares being acquired
in the exchange transaction. The Fund reserves the right, after providing the
required notice to shareholders, to terminate this exchange offer or to change
its terms, including the right to change the fee for each exchange.
Orders to exchange a certain class of shares of the Fund for the
corresponding class of shares of KLT will be executed by redeeming the shares
of the Fund and purchasing the corresponding class of shares of KLT at the net
asset value of KLT shares next determined after the proceeds from such
redemption become available, which may be up to seven days after such
redemption. In all other cases, orders for exchanges received by the Fund
prior to 4:00 p.m. eastern time on any day the funds are open for business
will be executed at the respective net asset values determined as of the close
of business that day. Orders for exchanges received after 4:00 p.m. eastern
time on any business day will be executed at the respective net asset values
determined at the close of the next business day.
An excessive number of exchanges may be disadvantageous to the Fund.
Therefore, the Fund, in addition to its right to reject any exchange, reserves
the right to terminate the exchange privilege of any shareholder who makes
more than five exchanges of shares of the funds in a year or three in a
calendar quarter.
An exchange order must comply with the requirements for a redemption or
repurchase order and must specify the dollar value or number of shares to be
exchanged. Exchanges are subject to the minimum initial purchase requirements
of the fund being acquired. An exchange constitutes a sale for federal income
tax purposes.
The exchange privilege is available only in states where shares of the fund
being acquired may legally be sold.
KEYSTONE AMERICA MONEY LINE
Keystone America Money Line eliminates the delay of mailing a check or the
expense of wiring funds. You must request the service on your application.
Keystone America Money Line allows you to authorize electronic transfers of
money to purchase shares in any amount and to redeem up to $50,000 worth of
shares. You can use Keystone America Money Line like an "electronic check" to
move money between your bank account and your account in the Fund with one
telephone call. You must allow two business days after the call for the
transfer to take place. For money recently invested, you must allow normal
check clearing time before redemption proceeds are sent to your bank.
You may also arrange for systematic monthly or quarterly investments in your
Keystone America account. Once proper authorization is given, your bank
account will be debited to purchase shares in the Fund. You will receive
confirmation from the Principal Underwriter for every transaction.
To change the amount of or terminate a Keystone America Money Line service
(which could take up to 30 days), you must write to KIRC, and include your
account number.
RETIREMENT PLANS
If appropriate, the Fund has various pension plans and profit-sharing plans
available to investors, including Individual Retirement Accounts ("IRAs");
Rollover IRAs; Simplified Employee Pension Plans ("SEPs"); Tax Sheltered
Arrangements ("TSAs"); 401(k) Plans; Keogh Plans; Corporate Profit-Sharing
Plans; Pension and Target Benefit Plans; Money Purchase Pension Plans and
Salary-Reduction Plans. For details, including fees and application forms, call
toll free 1-800-247-4075 or write to KIRC.
SYSTEMATIC INCOME PLAN
Under a Systematic Income Plan, if your account has a value of at least
$10,000, you may arrange for regular monthly or quarterly fixed withdrawal
payments. Each payment must be at least $100 and may be as much as 1.5% per
month or 4.5% per quarter of the total net asset value of the Fund shares in
your account when the Systematic Income Plan is opened. Fixed withdrawal
payments are not subject to a deferred sales charge. Excessive withdrawals
may decrease or deplete the value of your account. Because of the effect of
the applicable sales charge, a Class A investor should not make continuous
purchases of the Fund's shares while participating in an Systematic Income
Plan.
DOLLAR COST AVERAGING
Through dollar cost averaging you can invest a fixed dollar amount each
month or each quarter in any Keystone America Fund. This results in more
shares being purchased when the selected fund's net asset value is relatively
low and fewer shares being purchased when the fund's net asset value is
relatively high and may result in a lower average cost per share than a less
systematic investment approach.
Prior to participating in dollar cost averaging, you must have established
an account in a Keystone America Fund or a money market fund managed or
advised by Keystone. You should designate on the application (1) the dollar
amount of each monthly or quarterly investment (minimum $100) you wish to make
and (2) the fund in which the investment is to be made. Thereafter, on the
first day of the designated month an amount equal to the specified monthly or
quarterly investment will automatically be redeemed from your initial account
and invested in shares of the designated fund. If you are a Class A investor
and paid a sales charge on your initial purchase, the shares purchased will be
eligible for Rights of Accumulation and the sales charge applicable to the
purchase, will be determined accordingly. In addition, the value of shares
purchased will be included in the total amount required to fulfill a Letter of
Intent. If a sales charge was not paid on the initial purchase, a sales charge
will be imposed at the time of subsequent purchases, and the value of shares
purchased will become eligible for Rights of Accumulation and Letters of
Intent. See Exhibit A -- "Reduced Sales Charges" at the back of the
prospectus.
TWO DIMENSIONAL INVESTING
You may elect to have income and capital gains distributions from any class
of Keystone America Fund shares you may own automatically invested to purchase
the same class of shares of any other Keystone America Fund. You may select
this service on the application and indicate the Keystone America Fund(s) into
which distributions are to be invested. The value of shares purchased will be
ineligible for Rights of Accumulation and Letters of Intent. See Exhibit A --
"Reduced Sales Charges" at the back of the prospectus.
OTHER SERVICES
Under certain circumstances, you may, within 30 days after a redemption,
reinstate your account in the same class of shares that you redeemed at
current net asset value.
PERFORMANCE DATA
From time to time, the Fund may advertise "total return," "current yield"
and a "tax equivalent yield." ALL FIGURES ARE BASED ON HISTORICAL EARNINGS AND
ARE NOT INTENDED TO INDICATE FUTURE PERFORMANCE. Total return and current
yield are computed separately for each class of shares of the Fund.
Total return refers to the Fund's average annual compounded rates of return
over specified periods determined by comparing the initial amount invested to
the ending redeemable value of that amount. The resulting equation assumes
reinvestment of all dividends and distributions and deduction of the sales
charge and all recurring charges, if any, applicable to all shareholder
accounts. The deduction of the contingent deferred sales charge is reflected in
the applicable years. The exchange fee is not included in the calculation.
Current yield quotations represent the yield on an investment for a stated
30-day period computed by dividing net investment income earned per share
during the base period by the maximum offering price per share on the last day
of the base period. Such yield will include income from sources other than
municipal obligations, if any.
Tax equivalent yield is, in general, the current yield divided by a factor
equal to one minus a stated income tax rate and reflects the yield a taxable
investment would have to achieve in order to equal on an after-tax basis a tax
exempt yield.
Any given yield or total return quotation should not be considered
representative of the Fund's yield or total return for any future period.
The Fund may also include comparative performance information and general
mutual fund industry information for each class of shares when advertising or
marketing the Fund's shares, such as data from Lipper Analytical Services,
Inc., Morningstar, Inc., CDS-Weisenberger and Value Line or other financial
and industry publications.
FUND SHARES
Generally, the Fund issues three classes of shares, which participate in
dividends and distributions and have equal voting, liquidation and other
rights except that (1) expenses related to the distribution of each class of
shares or other expenses that the Board of Trustees may designate as class
expenses, from time to time, are borne solely by each class; (2) each class
of shares has exclusive voting rights with respect to its Distribution Plan;
(3) each class has different exchange privileges; and (4) each class generally
has a different designation. When issued and paid for, the shares will be
fully paid and nonassessable by the Fund. Shares may be exchanged as explained
under "Shareholder Services," but will have no other preference, conversion,
exchange or preemptive rights. Shares are transferable, redeemable and freely
assignable as collateral. There are no sinking fund provisions. The Fund is
authorized to issue additional series or classes of shares.
Shareholders are entitled to one vote for each full share owned and
fractional votes for fractional shares. Shares of the Fund vote together
except when required by law to vote separately by class. The Fund does not
have annual meetings. The Fund will have special meetings, from time to time,
as required under its Declaration of Trust and under the 1940 Act. As
provided in the Fund's Declaration of Trust, shareholders have the right to
remove Trustees by an affirmative vote of two-thirds of the outstanding
shares. A special meeting of the shareholders will be held when holders of 10%
of the outstanding shares request a meeting. Shareholders may be eligible for
shareholder communication assistance in connection with the special meeting.
Under Massachusetts law, it is possible that a Fund shareholder may be held
personally liable for the Fund's obligations. The Fund's Declaration of Trust
provides, however, that shareholders shall not be subject to any personal
liability for the Fund's obligations and provides indemnification from Fund
assets for any shareholder held personally liable for the Fund's obligations.
Disclaimers of such liability are included in each Fund agreement.
ADDITIONAL INFORMATION
KIRC, located at 101 Main Street, Cambridge, Massachusetts 02142-1519, is a
wholly-owned subsidiary of Keystone and serves as the Fund's transfer agent
and dividend disbursing agent.
When the Fund determines from its records that more than one account in the
Fund is registered in the name of a shareholder or shareholders having the
same address, upon notice to those shareholders, the Fund intends, when an
annual report or a semi-annual report of the Fund is required to be furnished,
to mail one copy of such report to that address.
Except as otherwise stated in this prospectus or required by law, the Fund
reserves the right to change the terms of the offer stated in this prospectus
without shareholder approval, including the right to impose or change fees for
services provided.
<PAGE>
ADDITIONAL INVESTMENT INFORMATION
CORPORATE AND MUNICIPAL BOND RATINGS
S&P CORPORATE AND MUNICIPAL BOND RATINGS
A. MUNICIPAL NOTES
An S&P note rating reflects the liquidity concerns and market access risks
unique to notes. Notes due in three years or less will likely receive a note
rating. Notes maturing beyond three years will most likely receive a long-term
debt rating. The following criteria are used in making that assessment:
1. amortization schedule (the larger the final maturity relative to other
maturities the more likely it will be treated as a note); and
2. source of payment (the more dependent the issue is on the market for its
refinancing, the more likely it will be treated as a note).
Note ratings are as follows:
1. SP-1 -- Strong capacity to pay principal and interest. Those issues
determined to possess a very strong capacity to pay debt service is given a
plus (+) designation.
2. SP-2 -- Satisfactory capacity to pay principal and interest, with some
vulnerability to adverse financial and economic changes over the terms of
the notes.
3. SP-3 -- Speculative capacity to pay principal and interest.
B. TAX EXEMPT DEMAND BONDS
S&P assigns "dual" ratings to all long-term debt issues that have as part of
their provisions a demand or double feature.
The first rating addresses the likelihood of repayment of principal and
interest as due, and the second rating addresses only the demand feature. The
long-term debt rating symbols are used for bonds to denote the long-term
maturity and the commercial paper rating symbols are used to denote the put
option (for example, "AAA/A-1+"). For the newer "demand notes," S&P note rating
symbols, combined with the commercial paper symbols, are used (for example,
"SP-1+/A-1+").
C. CORPORATE AND MUNICIPAL BOND RATINGS
An S&P corporate or municipal bond rating is a current assessment of the
creditworthiness of an obligor, including obligors outside the U.S., with
respect to a specific obligation. This assessment may take into consideration
obligors such as guarantors, insurers or lessees. Ratings of foreign obligors
do not take into account currency exchange and related uncertainties. The
ratings are based on current information furnished by the issuer or obtained
by S&P from other sources it considers reliable.
The ratings are based, in varying degrees, on the following considerations:
1. likelihood of default capacity and willingness of the obligor as to the
timely payment of interest and repayment of principal in accordance with the
terms of the obligation;
2. nature of and provisions of the obligation; and
3. protection afforded by and relative position of the obligation in the
event of bankruptcy reorganization or other arrangement under the laws of
bankruptcy and other laws affecting creditors' rights.
PLUS (+) OR MINUS (-): To provide more detailed indications of credit quality,
ratings from "AA" to "BBB" may be modified by the addition of a plus or minus
sign to show relative standing within the major rating categories.
A provisional rating is sometimes used by S&P. It assumes the successful
completion of the project being financed by 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.
D. BOND RATINGS ARE AS FOLLOWS:
1. AAA -- Debt rated AAA has the highest rating assigned by S&P. Capacity to
pay interest and repay principal is extremely strong.
2. AA -- Debt rated AA has a very strong capacity to pay interest and repay
principal and differs from the higher rated issues only in small degree.
3. 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.
4. 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.
MOODY'S CORPORATE AND MUNICIPAL BOND RATINGS
A. MUNICIPAL NOTES
A Moody's rating for municipal short-term obligations will be designated
Moody's Investment Grade or (MIG). These ratings recognize the difference
between short-term credit risk and long-term risk. Factors affecting the
liquidity of the borrower and the short-term cyclical elements are critical in
short-term ratings.
A short-term rating may also be assigned on issues with a demand feature --
variable rate demand obligation (VRDO). Such ratings will be designated as
VMIG. Short-term ratings on issues with demand features are differentiated by
the use of the VMIG symbol to reflect such characteristics as payment upon
periodic demand rather than fixed maturity dates and payment relying on the
external liquidity.
The note ratings are as follows:
1. MIG1/VMIG1 This designation denotes the best quality. There is present
strong protection by established cash flows, superior liquidity support or
demonstrated broadbased access to the market for refinancing.
2. MIG2/VMIG2 This designation denotes high quality. Margins of protection
are ample although not so large as in the preceding group.
3. MIG3/VMIG3 This designation denotes favorable quality. All security
elements are accounted for but there is lacking the undeniable strength of the
preceding grades. Liquidity and cash flow protection may be narrow and market
access for refinancing is likely to be less well established.
4. MIG4/VMIG4 This designation denotes adequate quality. Protection
commonly regarded as required of an investment security is present and
although not distinctly or predominantly speculative, there is specific risk.
B. CORPORATE AND MUNICIPAL BOND RATINGS
1. Aaa -- Bonds rated Aaa are judged to be of the best quality. They carry
the smallest degree of investment risk and are generally referred to as "gilt-
edge." 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.
2. Aa -- Bonds 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 that make the long term risks appear somewhat larger than in Aaa
securities.
3. A -- Bonds 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
that suggest a susceptibility to impairment sometime in the future.
4. Baa -- Bonds rated Baa are considered to be 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.
Moody's applies numerical modifiers, 1, 2 and 3 in each generic rating
classification from Aa through Baa in its corporate bond rating system. The
modifier 1 indicates that the security ranks in the higher end of its generic
rating category; the modifier 2 indicates a mid-range ranking; and the
modifier 3 indicates that the issue ranks in the lower end of its generic
rating category.
CON. (--) -- Municipal bonds for which the security depends upon the
completion of some act or the fulfillment of some condition are rated
conditionally. These are bonds secured by (1) earnings of projects under
construction, (2) earnings of projects unseasoned in operation experience, (3)
rentals that begin when facilities are completed, or (4) payments to which
some other limiting condition attaches. Parenthetical rating denotes probable
credit stature upon completion of construction or elimination of basis of
condition.
Those municipal bonds in the Aa, A, and Baa groups that Moody's believes
possess the strongest investment attributes are designated by the symbols Aa
1, A 1, and Baa 1.
FITCH CORPORATE AND MUNICIPAL RATINGS
A. MUNICIPAL NOTES
Fitch's short-term ratings apply to debt obligations that are payable on
demand or have original maturities of generally three years or less. These
include commercial paper, certificates of deposit, medium-term notes, and
municipal and investment notes. The short-term rating places greater emphasis
on the existence of liquidity necessary to meet the issuer's obligations in a
timely manner.
The note ratings are as follows:
1. F-1+ Exceptionally Strong Credit Quality. Issues assigned this rating are
regarded as having the strongest degree of assurance for timely payment.
2. F-1 Very Strong Credit Quality. Issues assigned this rating reflect an
assurance of timely payment only slightly less in degree than issues rated F-1+.
3. F-2 Good Credit Quality. Issues assigned this rating have a satisfactory
degree of assurance for timely payment, but the margin of safety is not as
great as for issues assigned the two higher ratings.
4. F-3 Fair Credit Quality. Issues assigned this rating have
characteristics suggesting that the degree of assurance for timely payment is
adequate, however, near-term adverse changes could cause these securities to
be rated below investment grade.
B. CORPORATE AND MUNICIPAL BOND RATINGS
AAA -- Bonds considered to be investment grade and of the highest credit
quality. The obligor has an exceptionally strong ability to pay interest and
repay principal, which is unlikely to be affected by reasonably foreseeable
events.
AA -- Bonds considered to be investment grade and of very high credit quality.
The obligor's ability to pay interest and repay principal is very strong,
although not quite as strong as bonds rated AAA.
A -- Bonds considered to be investment grade and of high credit quality. The
obligor's ability to pay interest and repay principal is considered to be
strong, but may be more vulnerable to adverse changes in economic conditions
and circumstances than bonds with higher ratings.
BBB -- Bonds considered to be investment grade and of satisfactory credit
quality. The obligor's ability to pay interest and repay principal is
considered to be adequate. Adverse changes in economic conditions and
circumstances, however, are more likely to have adverse impact on these bonds,
and therefore impair timely payment. The likelihood that the ratings of these
bonds will fall below investment grade is higher than for bonds with higher
ratings.
PLUS (+) OR MINUS (-) signs are used with a rating symbol to indicate the
relative position of a credit within the rating category. Plus and minus signs,
however, are not used in the AAA category.
A CONDITIONAL rating is premised on the successful completion of a project or
the occurrence of a specific event.
Debt rated BB, B, CCC, CC and C by S&P is regarded, on balance, as
predominantly 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 C 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. Debt rated C1 by S&P is debt (income bonds) on which no interest
is being paid. Debt rated D by S&P is in default and payment of interest and/
or repayment of principal is in arrears. The Fund intends to invest in D-rated
debt only in cases where in Keystone's judgment there is a distinct prospect
of improvement in the issuer's financial position as a result of the
completion of reorganization or otherwise. Bonds that are rated Caa by Moody's
are of poor standing. Such issues may be in default or there may be present
elements of danger with respect to principal or interest. Bonds that are rated
Ca by Moody's represent obligations that are speculative in a high degree.
Such issues are often in default or have other market shortcomings. Bonds that
are rated C by Moody's are the lowest rated bonds, and issues so rated can be
regarded as having extremely poor prospects of ever attaining any real
investment standing. Debt rated BB, B, CCC, CC, and C by Fitch is regarded as
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 C represents the highest degree of speculation. Debt rated
DDD, DD, and D are in default on interest and/or principal payments.
DESCRIPTIONS OF CERTAIN TYPES OF INVESTMENTS AND INVESTMENT TECHNIQUES
AVAILABLE TO THE FUND
The Fund may engage in the following investment practices to the extent
described in the prospectus and the statement of additional information.
OBLIGATIONS OF FOREIGN BRANCHES OF UNITED STATES BANKS
The obligations of foreign branches of U.S. banks may be general obligations
of the parent bank in addition to the issuing branch, or may be limited by the
terms of a specific obligation and by government regulation. Payment of
interest and principal upon these obligations may also be affected by
governmental action in the country of domicile of the branch (generally
referred to as sovereign risk). In addition, evidences of ownership of such
securities may be held outside the U.S. and the Fund may be subject to the
risks associated with the holding of such property overseas. Examples of
governmental actions would be the imposition of currency controls, interest
limitations, withholding taxes, seizure of assets or the declaration of a
moratorium. Various provisions of federal law governing domestic branches do
not apply to foreign branches of domestic banks.
OBLIGATIONS OF UNITED STATES BRANCHES OF FOREIGN BANKS
Obligations of U.S. branches of foreign banks may be general obligations of
the parent bank in addition to the issuing branch, or may be limited by the
terms of a specific obligation and by federal and state regulation as well as
by governmental action in the country in which the foreign bank has its head
office. In addition, there may be less publicly available information about a
U.S. branch of a foreign bank than about a domestic bank.
MASTER DEMAND NOTES
Master demand notes are unsecured obligations that permit the investment of
fluctuating amounts by the Fund at varying rates of interest pursuant to
direct arrangements between the Fund, as lender, and the issuer as borrower.
Master demand notes may permit daily fluctuations in the interest rate and
daily changes in the amounts borrowed. The Fund has the right to increase the
amount under the note at any time up to the full amount provided by the note
agreement, or to decrease the amount. The borrower may repay up to the full
amount of the note without penalty. Notes acquired by the Fund permit the Fund
to demand payment of principal and accrued interest at any time (on not more
than seven days' notice). Notes acquired by the Fund may have maturities of
more than one year, provided that (1) the Fund is entitled to payment of
principal and accrued interest upon not more than seven days notice, and (2)
the rate of interest on such notes is adjusted automatically at periodic
intervals which normally will not exceed 31 days, but may extend up to one
year. The notes will be deemed to have a maturity equal to the longer of the
period remaining to the next interest rate adjustment or the demand notice
period. Because these types of notes are direct lending arrangements between
the lender and borrower, such instruments are not normally traded and there is
no secondary market for these notes, although they are redeemable and thus
repayable by the borrower at face value plus accrued interest at any time.
Accordingly, the Fund's right to redeem is dependent on the ability of the
borrower to pay principal and interest on demand. In connection with master
demand note arrangements, Keystone considers, under standards established by
the Board of Trustees, earning power, cash flow and other liquidity ratios of
the borrower and will monitor the ability of the borrower to pay principal and
interest on demand. These notes are not typically rated by credit rating
agencies. Unless rated, the Fund may invest in them only if at the time of an
investment the issuer meets the criteria established for commercial paper
discussed in the statement of additional information.
REPURCHASE AGREEMENTS
The Fund may enter into repurchase agreements with member banks of the
Federal Reserve System having at least $1 billion in assets, primary dealers
in U.S. government securities or other financial institutions believed by
Keystone to be creditworthy. Such persons must be registered as U.S.
government securities dealers with appropriate regulatory organizations. Under
such agreements, the bank, primary dealer or other financial institution
agrees upon entering into the contract to repurchase the security at a
mutually agreed upon date and price, thereby determining the yield during the
term of the agreement. This results in a fixed rate of return insulated from
market fluctuations during such period. Under a repurchase agreement, the
seller must maintain the value of the securities subject to the agreement at
not less than the repurchase price, such value being determined on a daily
basis by marking the underlying securities to their market value. Although the
securities subject to the repurchase agreement might bear maturities exceeding
a year, the Fund only intends to enter into repurchase agreements that provide
for settlement within a year and usually within seven days. Securities subject
to repurchase agreements will be held by the Fund's custodian or in the
Federal Reserve book entry system. The Fund does not bear the risk of a
decline in the value of the underlying security unless the seller defaults
under its repurchase obligation. In the event of a bankruptcy or other default
of a seller of a repurchase agreement, the Fund could experience both delays
in liquidating the underlying securities and losses, including (1) possible
declines in the value of the underlying securities during the period while the
Fund seeks to enforce its rights thereto; (2) possible subnormal levels of
income and lack of access to income during this period; and (3) expenses of
enforcing its rights. The Board of Trustees has established procedures to
evaluate the creditworthiness of each party with whom the Fund enters into
repurchase agreements by setting guidelines and standards of review for
Keystone and monitoring Keystone's actions with regard to repurchase
agreements.
REVERSE REPURCHASE AGREEMENTS
Under a reverse repurchase agreement, the Fund would sell securities and
agree to repurchase them at a mutually agreed upon date and price. The Fund
intends to enter into reverse repurchase agreements to avoid otherwise having
to sell securities during unfavorable market conditions in order to meet
redemptions. At the time the Fund enters into a reverse repurchase agreement,
it will establish a segregated account with the Fund's custodian containing
liquid assets such as U.S. government securities or other high grade debt
securities having a value not less than the repurchase price (including
accrued interest) and will subsequently monitor the account to ensure such
value is maintained. Reverse repurchase agreements involve the risk that the
market value of the securities that the Fund is obligated to repurchase may
decline below the repurchase price. Borrowing and reverse repurchase
agreements magnify the potential for gain or loss on the portfolio securities
of the Fund and, therefore, increase the possibility of fluctuation in the
Fund's net asset value. Such practices may constitute leveraging. In the event
the buyer of securities under a reverse repurchase agreement files for
bankruptcy or becomes insolvent, such buyer or its trustee or receiver may
receive an extension of time to determine whether to enforce the Fund's
obligation to repurchase the securities and the Fund's use of the proceeds of
the reverse repurchase agreement may effectively be restricted pending such
determination. The staff of the Securities and Exchange Commission ("SEC") has
taken the position that the 1940 Act treats reverse repurchase agreements as
being included in the percentage limit on borrowings imposed on a Fund.
"WHEN ISSUED" SECURITIES
The Fund may also purchase and sell securities and currencies on a when
issued and delayed delivery basis. When issued or delayed delivery
transactions arise when securities or currencies are purchased or sold by the
Fund with payment and delivery taking place in the future in order to secure
what is considered to be an advantageous price and yield to the Fund at the
time of entering into the transaction. When the Fund engages in when issued
and delayed delivery transactions, the Fund relies on the buyer or seller, as
the case may be, to consummate the sale. Failure to do so may result in the
Fund missing the opportunity to obtain a price or yield considered to be
advantageous. When issued and delayed delivery transactions may be expected to
occur a month or more before delivery is due. However, no payment or delivery
is made by the Fund until it receives payment or delivery from the other party
to the transaction. A separate account of liquid assets equal to the value of
such purchase commitments will be maintained until payment is made. When
issued and delayed delivery agreements are subject to risks from changes in
value based upon changes in the level of interest rates, currency rates and
other market factors, both before and after delivery. The Fund does not accrue
any income on such securities or currencies prior to their delivery. To the
extent the Fund engages in when issued and delayed delivery transactions, it
will do so consistent with its investment objective and policies and not for
the purpose of investment leverage.
LOANS OF SECURITIES TO BROKER-DEALERS
The Fund may lend securities to brokers and dealers pursuant to agreements
requiring that the loans be continuously secured by cash or securities of the
U.S. government, its agencies or instrumentalities, or any combination of cash
and such securities, as collateral equal at all times in value to at least the
market value of the securities loaned. Such securities loans will not be made
with respect to the Fund if as a result the aggregate of all outstanding
securities loans exceeds 15% of the value of the Fund's total assets taken at
their current value. The Fund continues to receive interest or dividends on
the securities loaned and simultaneously earns interest on the investment of
the cash loan collateral in U.S. Treasury notes, certificates of deposit,
other high-grade, short-term obligations or interest bearing cash equivalents.
Although voting rights attendant to securities loaned pass to the borrower,
such loans may be called at any time and will be called so that the securities
may be voted by the Fund if, in the opinion of the Fund, a material event
affecting the investment is to occur. There may be risks of delay in receiving
additional collateral or in recovering the securities loaned or even loss of
rights in the collateral should the borrower of the securities fail
financially. Loans may only be made to borrowers deemed to be of good
standing, under standards approved by the Board of Trustees, when the income
to be earned from the loan justifies the attendant risks.
DERIVATIVES
The Fund may use derivatives in furtherance of its investment objective.
Derivatives are financial contracts whose value depends on, or is derived
from, the value of an underlying asset, reference rate or index. These assets,
rates, and indices may include bonds, stocks, mortgages, commodities, interest
rates, currency exchange rates, bond indices and stock indices. Derivatives
can be used to earn income or protect against risk, or both. For example, one
party with unwanted risk may agree to pass that risk to another party who is
willing to accept the risk, the second party being motivated, for example, by
the desire either to earn income in the form of a fee or premium from the
first party, or to reduce its own unwanted risk by attempting to pass all or
part of that risk to the first party.
Derivatives can be used by investors such as the Fund to earn income and
enhance returns, to hedge or adjust the risk profile of the portfolio, and
either in place of more traditional direct investments or to obtain exposure
to otherwise inaccessible markets. The Fund is permitted to use derivatives
for one or more of these purposes. Each of these uses entails greater risk
than if derivatives were used solely for hedging purposes. The Fund uses
futures contracts and related options for hedging purposes. Derivatives are a
valuable tool which, when used properly, can provide significant benefit to
Fund shareholders. Keystone is not an aggressive user of derivatives with
respect to the Fund. However, the Fund may take positions in those derivatives
that are within its investment policies if, in Keystone's judgement, this
represents an effective response to current or anticipated market conditions.
Keystone's use of derivatives is subject to continuous risk assessment and
control from the standpoint of the Fund's investment objectives and policies.
Derivatives may be (1) standardized, exchange-traded contracts or (2)
customized, privately negotiated contracts. Exchange-traded derivatives tend
to be more liquid and subject to less credit risk than those that are
privately negotiated.
There are four principal types of derivative instruments -- options,
futures, forwards and swaps -- from which virtually any type of derivative
transaction can be created. Further information regarding options and futures,
is provided later in this section and is provided in the Fund's statement of
additional information.
Debt instruments that incorporate one or more of these building blocks for
the purpose of determining the principal amount of and/or rate of interest
payable on the debt instruments are often referred to as "structured
securities." An example of this type of structured security is indexed
commercial paper. The term is also used to describe certain securities issued
in connection with the restructuring of certain foreign obligations. See
"Structured Securities" below. The term "derivative" is also sometimes used to
describe securities involving rights to a portion of the cash flows from an
underlying pool of mortgages or other assets from which payments are passed
through to the owner of, or that collateralize, the securities.
While the judicious use of derivatives by experienced investment managers
such as Keystone can be beneficial, derivatives also involve risks different
from, and, in certain cases, greater than, the risks presented by more
traditional investments. Following is a general discussion of important risk
factors and issues concerning the use of derivatives that investors should
understand before investing in the Fund.
* Market Risk -- This is the general risk attendant to all investments that
the value of a particular investment will decline or otherwise change in a way
detrimental to the Fund's interest.
* Management Risk -- Derivative products are highly specialized instruments
that require investment techniques and risk analyses different from those
associated with stocks and bonds. The use of a derivative requires an
understanding not only of the underlying instrument, but also of the
derivative itself, without the benefit of observing the performance of the
derivative under all possible market conditions. In particular, the use and
complexity of derivatives require the maintenance of adequate controls to
monitor the transactions entered into, the ability to assess the risk that a
derivative adds to the Fund's portfolio and the ability to forecast price,
interest rate or currency exchange rate movements correctly.
* Credit Risk -- This is the risk that a loss may be sustained by the Fund as
a result of the failure of another party to a derivative (usually referred to
as a "counterparty") to comply with the terms of the derivative contract. The
credit risk for exchange traded derivatives is generally less than for
privately negotiated derivatives, since the clearing house, which is the
issuer or counterparty to each exchange-traded derivative, provides a
guarantee of performance. This guarantee is supported by a daily payment
system (i.e., margin requirements) operated by the clearing house in order to
reduce overall credit risk. For privately negotiated derivatives, there is no
similar clearing agency guarantee. Therefore, the Fund considers the
creditworthiness of each counterparty to a privately negotiated derivative in
evaluating potential credit risk.
* Liquidity Risk -- Liquidity risk exists when a particular instrument is
difficult to purchase or sell. If a derivative transaction is particularly
large or if the relevant market is illiquid (as is the case with many
privately negotiated derivatives), it may not be possible to initiate a
transaction or liquidate a position at an advantageous price.
* Leverage Risk -- Since many derivatives have a leverage component, adverse
changes in the value or level of the underlying asset, rate or index can
result in a loss substantially greater than the amount invested in the
derivative itself. In the case of swaps, the risk of loss generally is related
to a notional principal amount, even if the parties have not made any initial
investment. Certain derivatives have the potential for unlimited loss,
regardless of the size of the initial investment.
* Other Risks -- Other risks in using derivatives include the risk of
mispricing or improper valuation and the inability of derivatives to correlate
perfectly with underlying assets, rates and indices. Many derivatives, in
particular privately negotiated derivatives, are complex and often valued
subjectively. Improper valuations can result in increased cash payment
requirements to counterparties or a loss of value to a Fund. Derivatives do
not always perfectly or even highly correlate or track the value of the
assets, rates or indices they are designed to closely track. Consequently, the
Fund's use of derivatives may not always be an effective means of, and
sometimes could be counterproductive to, furthering the Fund's investment
objective.
OPTIONS TRANSACTIONS
WRITING COVERED OPTIONS. To the extent permitted by its investment policies
and restrictions, the Fund may write (i.e., sell) covered call and put
options. By writing a call option, the Fund becomes obligated during the term
of the option to deliver the securities underlying the option upon payment of
the exercise price. By writing a put option, the Fund becomes obligated during
the term of the option to purchase the securities underlying the option at the
exercise price if the option is exercised. The Fund also may write straddles
(combinations of covered puts and calls on the same underlying security).
The Fund may only write "covered" options. This means that so long as the
Fund is obligated as the writer of a call option, it will own the underlying
securities subject to the option or, in the case of call options on U.S.
Treasury bills, the Fund might own substantially similar U.S. Treasury bills.
If the Fund has written options against all of its securities which are
available for writing options, the Fund may be unable to write additional
options unless it sells a portion of its portfolio holdings to obtain new
securities against which it can write options. If this were to occur, higher
portfolio turnover and correspondingly greater brokerage commissions and other
transaction costs may result. However, the Fund does not expect that this will
occur.
The Fund will be considered "covered" with respect to a put option it writes
if, so long as it is obligated as the writer of the put option, it deposits
and maintains with its custodian in a segregated account liquid assets having
a value equal to or greater than the exercise price of the option.
The principal reason for writing call or put options is to obtain, through a
receipt of premiums, a greater current return than would be realized on the
underlying securities alone. The Fund receives a premium from writing a call
or put option, which it retains whether or not the option is exercised. By
writing a call option, the Fund might lose the potential for gain on the
underlying security while the option is open, and by writing a put option the
Fund might become obligated to purchase the underlying security for more than
its current market price upon exercise.
PURCHASING OPTIONS. To the extent permitted by its investment policies and
restrictions, the Fund may purchase put or call options, including purchasing
put or call options for the purpose of offsetting previously written put or
call options of the same series.
If the Fund is unable to effect a closing purchase transaction with respect
to covered options it has written, the Fund will not be able to sell the
underlying security or dispose of assets held in a segregated account until
the options expire or are exercised.
An option position may be closed out only in a secondary market for an
option of the same series. Although the Fund generally will write only those
options for which there appears to be an active secondary market, there is no
assurance that a liquid secondary market will exist for any particular option
at any particular time, and for some options no secondary market may exist. In
such event, it might not be possible to effect a closing transaction in a
particular option.
Options on some securities are relatively new, and it is impossible to
predict the amount of trading interest that will exist in such options. There
can be no assurance that viable markets will develop or continue. The failure
of such markets to develop or continue could significantly impair the Fund's
ability to use such options to achieve its investment objective.
OPTIONS TRADING MARKETS. Options in which the Fund will trade generally are
listed on national securities exchanges. Exchanges on which such options
currently are traded include the Chicago Board Options Exchange and the New
York, American, Pacific and Philadelphia Stock Exchanges. Options on some
securities may not be listed on any Exchange, but traded in the over-the-
counter market. Options traded in the over-the-counter market involve the
additional risk that securities dealers participating in such transactions
could fail to meet their obligations to the Fund. The use of options traded in
the over-the-counter market may be subject to limitations imposed by certain
state securities authorities. In addition to the limits on its use of options
discussed herein, the Fund is subject to the investment restrictions described
in this prospectus and in the statement of additional information.
The staff of the SEC is of the view that the premiums that the Fund pays for
the purchase of unlisted options, and the value of securities used to cover
unlisted options written by the Fund, are considered to be invested in
illiquid securities or assets for the purpose of calculating whether the Fund
is in compliance with its investment restriction relating to illiquid
investments.
FUTURES TRANSACTIONS
The Fund may enter into currency and other financial futures contracts and
write options on such contracts. The Fund intends to enter into such contracts
and related options for hedging purposes. The Fund will enter into futures on
securities or currencies or index-based futures contracts in order to hedge
against changes in interest or exchange rates or securities prices. A futures
contract on securities or currencies is an agreement to buy or sell securities
or currencies at a specified price during a designated month. A futures
contract on a securities index does not involve the actual delivery of
securities, but merely requires the payment of a cash settlement based on
changes in the securities index. The Fund does not make payment or deliver
securities upon entering into a futures contract. Instead, it puts down a
margin deposit, which is adjusted to reflect changes in the value of the
contract and which continues until the contract is terminated.
The Fund may sell or purchase futures contracts. When a futures contract is
sold by the Fund, the value of the contract will tend to rise when the value
of the underlying securities or currencies declines and to fall when the value
of such securities or currencies increases. Thus, the Fund sells futures
contracts in order to offset a possible decline in the value of its securities
or currencies. If a futures contract is purchased by the Fund, the value of
the contract will tend to rise when the value of the underlying securities or
currencies increases and to fall when the value of such securities or
currencies declines. The Fund intends to purchase futures contracts in order
to establish what is believed by Keystone to be a favorable price and rate of
return for securities or favorable exchange rate for currencies the Fund
intends to purchase.
The Fund also intends to purchase put and call options on futures contracts
for hedging purposes. A put option purchased by the Fund would give it the
right to assume a position as the seller of a futures contract. A call option
purchased by the Fund would give it the right to assume a position as the
purchaser of a futures contract. The purchase of an option on a futures
contract requires the Fund to pay a premium. In exchange for the premium, the
Fund becomes entitled to exercise the benefits, if any, provided by the
futures contract, but is not required to take any action under the contract.
If the option cannot be exercised profitably before it expires, the Fund's
loss will be limited to the amount of the premium and any transaction costs.
The Fund may enter into closing purchase and sale transactions in order to
terminate a futures contract and may sell put and call options for the purpose
of closing out its options positions. The Fund's ability to enter into closing
transactions depends on the development and maintenance of a liquid secondary
market. There is no assurance that a liquid secondary market will exist for
any particular contract or at any particular time. As a result, there can be
no assurance that the Fund will be able to enter into an offsetting
transaction with respect to a particular contract at a particular time. If the
Fund is not able to enter into an offsetting transaction, the Fund will
continue to be required to maintain the margin deposits on the contract and to
complete the contract according to its terms, in which case it would continue
to bear market risk on the transaction.
Although futures and options transactions are intended to enable the Fund to
manage market, interest rate or exchange rate risk, unanticipated changes in
interest rates, exchange rates or market prices could result in poorer
performance than if it had not entered into these transactions. Even if
Keystone correctly predicts interest or exchange rate movements, a hedge could
be unsuccessful if changes in the value of the Fund's futures position did not
correspond to changes in the value of its investments. This lack of
correlation between the Fund's futures and securities or currencies positions
may be caused by differences between the futures and securities or currencies
markets or by differences between the securities or currencies underlying the
Fund's futures position and the securities or currencies held by or to be
purchased for the Fund. Keystone will attempt to minimize these risks through
careful selection and monitoring of the Fund's futures and options positions.
The Fund does not intend to use futures transactions for speculation or
leverage. The Fund has the ability to write options on futures, but intends to
write such options only to close out options purchased by the Fund. The Fund
will not change these policies without supplementing the information in its
prospectus and statement of additional information.
FOREIGN CURRENCY TRANSACTIONS
As discussed above, the Fund may invest in securities of foreign issuers.
When the Fund invests in foreign securities they usually will be denominated
in foreign currencies, and the Fund temporarily may hold funds in foreign
currencies. Thus, the value of Fund shares will be affected by changes in
exchange rates.
As one way of managing exchange rate risk, in addition to entering into
currency futures contracts, the Fund may enter into forward currency exchange
contracts (agreements to purchase or sell currencies at a specified price and
date). The exchange rate for the transaction (the amount of currency the Fund
will deliver or receive when the contract is completed) is fixed when the Fund
enters into the contract. The Fund usually will enter into these contracts to
stabilize the U.S. dollar value of a security it has agreed to buy or sell.
The Fund intends to use these contracts to hedge the U.S. dollar value of a
security it already owns, particularly if the Fund expects a decrease in the
value of the currency in which the foreign security is denominated. Although
the Fund will attempt to benefit from using forward contracts, the success of
its hedging strategy will depend on Keystone's ability to predict accurately
the future exchange rates between foreign currencies and the U.S. dollar. The
value of the Fund's investments denominated in foreign currencies will depend
on the relative strength of those currencies and the U.S. dollar, and the Fund
may be affected favorably or unfavorably by changes in the exchange rates or
exchange control regulations between foreign currencies and the dollar.
Changes in foreign currency exchange rates also may affect the value of
dividends and interest earned, gains and losses realized on the sale of
securities and net investment income and gains, if any, to be distributed to
shareholders by the Fund. The Fund may also purchase and sell options related
to foreign currencies in connection with hedging strategies.
VARIABLE AND FLOATING RATE INSTRUMENTS. Fixed-income securities may have
fixed, variable or floating rates of interest. Variable and floating rate
securities pay interest at rates that are adjusted periodically, according to
a specified formula. A "variable" interest rate adjusts at predetermined
intervals (e.g., daily, weekly or monthly), while a "floating" interest rate
adjusts whenever a specified benchmark rate (such as the bank prime lending
rate) changes.
If permitted by its investment policies, the Fund may invest in fixed-income
securities that pay interest at a coupon rate equal to a base rate, plus
additional interest for a certain period of time if short-term interest rates
rise above a predetermined level or "cap." The amount of such an additional
interest payment typically is calculated under a formula based on a short-term
interest rate index multiplied by a designated factor.
INVERSE FLOATING RATE SECURITIES. If permitted by its investment policies, the
Fund may also invest in securities with rates that move inversely to market
rates ("inverse floaters"). An inverse floater bears an interest rate that
resets in the opposite direction of the change in a specified interest rate
index. As market interest rates rise, the interest rate on the inverse floater
goes down, and vice versa. Inverse floaters tend to exhibit greater price
volatility than fixed-rate bonds of similar maturity and credit quality. The
interest rates on inverse floaters may be significantly reduced, even to zero,
if interest rates rise. Moreover, the secondary market for inverse floaters
may be limited in rising interest rate environments.
An inverse floater may be considered to be leveraged to the extent that its
interest rate varies by a magnitude that exceeds the magnitude of the change
in the index rate of interest. The higher degree of leverage inherent in
inverse floaters is associated with greater volatility in market value.
STRUCTURED SECURITIES. Structured securities generally represent interests in
entities organized and operated solely for the purpose of restructuring the
investment characteristics of debt obligations. This type of restructuring
involves the deposit with or purchase by an entity, such as a corporation or
trust, of specified instruments (such as commercial bank loans) and the
issuance by that entity of one or more classes of structured securities backed
by, or representing interests in, the underlying instruments. The cash flow on
the underlying instruments may be apportioned among the newly issued
structured securities to create securities with different investment
characteristics such as varying maturities, payment priorities and interest
rate provisions, and the extent of the payments made with respect to
structured securities is dependent on the extent of the cash flow on the
underlying instruments. Because structured securities typically involve no
credit enhancement, their credit risk generally will be equivalent to that of
the underlying instruments. Structured securities of a given class may be
either subordinated or unsubordinated to the right of payment of another
class. Subordinated structured securities typically have higher yields and
present greater risks than unsubordinated structured securities.
<PAGE>
EXHIBIT A
REDUCED SALES CHARGES
Initial sales charges may be reduced or eliminated for persons or
organizations purchasing Class A shares of either Fund alone or in combination
with Class A shares of other Keystone America Funds. Only Class A shares
subject to an initial or deferred sales charge are eligible for inclusion in
the reduced sales charge program.
For purposes of qualifying for reduced sales charges on purchases made
pursuant to Rights of Accumulation or Letters of Intent, the term "Purchaser"
includes the following persons: an individual; an individual, his or her
spouse and children under the age of 21; a trustee or other fiduciary of a
single trust estate or single fiduciary account established for their benefit;
an organization exempt from federal income tax under Section 501(c)(3) or (13)
of the Internal Revenue Code; a pension, profit-sharing or other employee
benefit plan whether or not qualified under Section 401 of the Internal
Revenue Code; or other organized groups of persons, whether incorporated or
not, provided the organization has been in existence for at least six months
and has some purpose other than the purchase of redeemable securities of a
registered investment company at a discount. In order to qualify for a lower
sales charge, all orders from an organized group will have to be placed
through a single investment dealer or other firm and identified as originating
from a qualifying purchaser.
CONCURRENT PURCHASES
For purposes of qualifying for a reduced sales charge, a Purchaser may
combine concurrent direct purchases of Class A shares of two or more of the
"Eligible Funds," as defined below. For example, if a Purchaser concurrently
invested $75,000 in one of the other "Eligible Funds" and $75,000 in the Fund,
the sales charge would be that applicable to a $150,000 purchase, i.e., 3.75%
of the offering price, as indicated in the sales charge schedule in the
prospectus.
RIGHT OF ACCUMULATION
In calculating the sales charge applicable to current purchases of a Fund's
Class A shares, a Purchaser is entitled to accumulate current purchases with
the current value of previously purchased Class A shares of the Fund and Class
A shares of certain other eligible funds that are still held in (or exchanged
for shares of and are still held in) the same or another eligible fund
("Eligible Fund(s)"). The Eligible Funds are the Keystone America Funds and
Keystone Liquid Trust.
For example, if a Purchaser held shares valued at $99,999 and purchased an
additional $5,000, the sales charge for the $5,000 purchase would be at the
next lower sales charge of 3.75% of the offering price as indicated in the
sales charge schedule. KIRC must be notified at the time of purchase that the
Purchaser is entitled to a reduced sales charge, which reduction will be
granted subject to confirmation of the Purchaser's holdings. The Right of
Accumulation may be modified or discontinued at any time.
LETTER OF INTENT
A Purchaser may qualify for a reduced sales charge on a purchase of Class A
shares of either Fund alone or in combination with purchases of Class A shares
of any of the other Eligible Funds by completing the Letter of Intent section
of the application. By so doing, the Purchaser agrees to invest within a
thirteen-month period a specified amount, that, if invested at one time, would
qualify for a reduced sales charge. Each purchase will be made at a public
offering price applicable to a single transaction of the dollar amount
specified on the application, as described in this prospectus. The Letter of
Intent does not obligate the Purchaser to purchase, nor a Fund to sell, the
amount indicated.
After the Letter of Intent is received by KIRC, each investment made will be
entitled to the sales charge applicable to the level of investment indicated
on the application. The Letter of Intent may be back-dated up to ninety days
so that any investments made in any of the Eligible Funds during the preceding
ninety-day period, valued at the Purchaser's cost, can be applied toward
fulfillment of the Letter of Intent. However, there will be no refund of sales
charges already paid during the ninety-day period. No retroactive adjustment
will be made if purchases exceed the amount specified in the Letter of Intent.
Income and capital gains distributions taken in additional shares will not
apply toward completion of the Letter of Intent.
If total purchases made pursuant to the Letter of Intent are less than the
amount specified, the Purchaser will be required to remit an amount equal to
the difference between the sales charge paid and the sales charge applicable
to purchases actually made. Out of the initial purchase (or subsequent
purchases, if necessary) 5% of the dollar amount specified on the application
will be held in escrow by KIRC in the form of shares registered in the
Purchaser's name. The escrowed shares will not be available for redemption,
transfer or encumbrance by the Purchaser until the Letter of Intent is
completed or the higher sales charge paid. All income and capital gains
distributions on escrowed shares will be paid to the Purchaser or his order.
When the minimum investment specified in the Letter of Intent is completed
(either prior to or by the end of the thirteen-month period), the Purchaser
will be notified and the escrowed shares will be released. If the intended
investment is not completed, the Purchaser will be asked to remit to the
Principal Underwriter any difference between the sales charge on the amount
specified and on the amount actually attained. If the Purchaser does not
within 20 days after written request by the Principal Underwriter or his
dealer pay such difference in sales charge, KIRC will redeem an appropriate
number of the escrowed shares in order to realize such difference. Shares
remaining after any such redemption will be released by KIRC. Any redemptions
made by the Purchaser during the thirteen-month period will be subtracted from
the amount of the purchases for purposes of determining whether the Letter of
Intent has been completed. In the event of a total redemption of the account
prior to completion of the Letter of Intent, the additional sales charge due
will be deducted from the proceeds of the redemption and the balance will be
forwarded to the Purchaser.
By signing the application, the Purchaser irrevocably constitutes and
appoints KIRC his attorney to surrender for redemption any or all escrowed
shares with full power of substitution.
The Purchaser or his dealer must inform the Principal Underwriter or KIRC
that a Letter of Intent is in effect each time a purchase is made.
<PAGE>
- ------------------------------------
KEYSTONE AMERICA
FUND FAMILY
*
Capital Preservation and Income Fund
Government Securities Fund
Intermediate Term Bond Fund
Strategic Income Fund
World Bond Fund
Tax Free Income Fund
California Insured Tax Free Fund
Florida Tax Free Fund
Massachusetts Tax Free Fund
Missouri Tax Free Fund
New York Insured Tax Free Fund
Pennsylvania Tax Free Fund
Texas Tax Free Fund
Fund for Total Return
Global Opportunities Fund
Hartwell Emerging Growth Fund, Inc.
Hartwell Growth Fund
Omega Fund
Fund of the Americas
Strategic Development Fund
Small Company Growth Fund II
- ------------------------------------
[Logo] KEYSTONE
INVESTMENTS
Keystone Investment Distributors Company
200 Berkeley Street
Boston, Massachusetts 02116-5034
TFIF-P 3/96 [Recycle Logo]
--------------------------------------------
KEYSTONE
TAX FREE
INCOME FUND
--------------------------------------------
[Logo]
PROSPECTUS AND
APPLICATION
<PAGE>
KEYSTONE TAX FREE INCOME FUND
PART B
STATEMENT OF ADDITIONAL INFORMATION
<PAGE>
KEYSTONE TAX FREE INCOME FUND
STATEMENT OF ADDITIONAL INFORMATION
March 31, 1996
This statement of additional information is not a prospectus, but relates to,
and should be read in conjunction with, the prospectus of Keystone Tax Free
Income Fund (formerly named Keystone America Tax Free Income Fund) (the "Fund"),
dated March 31, 1996. A copy of the prospectus may be obtained from Keystone
Investment Distributors Company (formerly named Keystone Distributors, Inc.)
(the "Principal Underwriter"), the Fund's principal underwriter, 200 Berkeley
Street, Boston, Massachusetts 02116-5034 or your broker-dealer.
TABLE OF CONTENTS
Page
The Fund 2
Investment Policies 2
Investment Restrictions 5
Valuation of Securities 9
Sales Charges 10
Distribution Plans 13
Redemptions in Kind 17
Investment Manager 17
Investment Adviser 20
Trustees and Officers 21
Principal Underwriter 25
Brokerage 26
Declaration of Trust 28
Standardized Total Return and Yield Quotations 30
Additional Information 31
Appendix A-1
Financial Statements F-1
Independent Auditors' Report F-18
<PAGE>
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THE FUND
- --------------------------------------------------------------------------------
The Fund is an open-end, diversified management investment company
commonly known as a mutual fund. The Fund seeks the highest possible current
income, exempt from federal income taxes, while preserving capital. The Fund was
formed as a Massachusetts business trust on October 24, 1986. The Fund is
managed by Keystone Management, Inc. ("Keystone Management") and advised by
Keystone Investment Management Company (formerly named Keystone Custodian Funds,
Inc.) ("Keystone").
The essential information about the Fund is contained in its
prospectus. This statement of additional information provides additional
information about the Fund that may be of interest to some investors.
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INVESTMENT POLICIES
- --------------------------------------------------------------------------------
The Fund invests primarily in municipal bonds, but also may invest in
certain other securities as described below.
MUNICIPAL BONDS
Municipal bonds include debt obligations issued by or on behalf of a
state, a territory or a possession of the United States ("U.S."), the District
of Columbia or any political subdivision, agency or instrumentality thereof (for
example, counties, cities, towns, villages, districts, authorities) to obtain
funds for various public purposes, including the construction of a wide range of
public facilities, such as airports, bridges, highways, housing, hospitals, mass
transportation, schools, streets and water and sewer works. Other public
purposes for which municipal bonds may be issued include the refunding of
outstanding obligations, obtaining funds for general operating expenses and
obtaining funds to lend to public or private institutions for the construction
of facilities such as educational, hospital and housing facilities. In addition,
certain types of industrial development bonds have been or may be issued by or
on behalf of public authorities to finance certain privately-operated facilities
and certain local facilities for water supply, gas, electricity or sewage or
solid waste disposal. Such obligations are included within the term municipal
bonds if the interest paid thereon qualifies as fully exempt from federal income
tax. The income of certain types of industrial development bonds used to finance
certain privately-operated facilities (qualified "private activity" bonds)
issued after August 7, 1986, while exempt from federal income tax, is included
for the purposes of the calculation of the alternative minimum tax. Other types
of industrial development bonds, the proceeds of which are used for the
construction, equipment, repair or improvement of privately operated industrial
or commercial facilities, may constitute municipal bonds, although the current
federal tax laws place substantial limitations on the size of such issues.
The two principal classifications of municipal bonds are "general
obligation" and limited obligation or "revenue" bonds. General obligation bonds
are obligations involving the credit of an issuer possessing taxing power and
are payable from the issuer's general unrestricted revenues and not from any
particular fund or revenue source. Their payment may be dependent upon an
appropriation by the issuer's legislative body and may be subject to
quantitative limitations on the issuer's taxing power. The characteristics and
methods of enforcement of general obligation bonds vary according to the law
applicable to the particular issuer. Limited obligation or revenue bonds are
payable only from the revenues derived from a particular facility or class of
facilities or, in some cases, from the proceeds of a special excise or other
specific revenue source, such as the user of the facility. Industrial
development bonds that are municipal bonds are, in most cases, revenue bonds and
generally are not payable from the unrestricted revenues of the issuer. The
credit quality of industrial development revenue bonds is usually directly
related to the credit standing of the owner or user of the facilities. There
are, of course, variations in the security of municipal bonds, both within a
particular classification and between classifications, depending on numerous
factors.
The yields on municipal bonds are dependent on a variety of factors,
including general money market conditions, the financial condition of the
issuer, general conditions of the municipal bond market, size of a particular
offering, the maturity of the obligation and rating of the issue. The ratings of
Standard & Poor's Corporation ("S&P"), Moody's Investors Service, Inc.
("Moody's") and Fitch Investor Services, Inc. - Municipal Division ("Fitch"),
as described herein and in the prospectus, represent their opinions as to the
quality of the municipal bonds that they undertake to rate. It should be
emphasized, however, that ratings are general and are not absolute standards of
quality. Consequently, municipal bonds with the same maturity, interest rate and
rating may have different yields while municipal bonds of the same maturity and
interest rate with different ratings may have the same yield. It should also be
noted that the standards of disclosure applicable to and the amount of
information relating to the financial condition of issuers of municipal bonds
are not generally as extensive as those relating to corporations.
Subsequent to its purchase by the Fund, an issue of municipal bonds or
other investment may cease to be rated or its rating may be reduced below the
minimum rating required for purchase by the Fund. Neither event requires the
elimination of such obligation from the Fund's portfolio, but Keystone will
consider such an event in its determination of whether the Fund should continue
to hold such obligation in its portfolio.
The ability of the Fund to achieve its investment objective is
dependent upon the continuing ability of issuers of municipal bonds to meet
their obligations to pay interest and principal when due. Obligations of issuers
of municipal bonds, including municipal bonds issued by them, are subject to the
provisions of bankruptcy, insolvency and other laws affecting the rights and
remedies of creditors, such as the federal Bankruptcy Act, and laws, if any,
that may be enacted by Congress or state legislatures extending the time for
payment of principal or interest, or both, or imposing other constraints upon
enforcement of such obligations. There is also the possibility that as a result
of litigation or other conditions, the power or ability of any one or more
issuers to pay, when due, principal of and interest on its or their municipal
bonds may be materially affected. In addition, the market for municipal bonds is
often thin and can be temporarily affected by large purchases and sales
including those by the Fund.
From time to time, proposals have been introduced before Congress for
the purpose of restricting or eliminating the federal income tax exemption for
interest on municipal bonds, and similar proposals may well be introduced in the
future. The enactment of such a proposal could materially affect the
availability of municipal bonds for investment by the Fund and the value of the
Fund's portfolio. In which event, the Fund would reevaluate its investment
objective and policies and consider changes in the structure of the Fund or
dissolution.
The Tax Reform Act of 1986 made significant changes in the federal tax
status of certain obligations that were previously fully federally tax exempt.
As a result, three categories of such obligations issued after August 7, 1986
now exist: (1) "public purpose" bonds, the income from which remains fully
exempt from federal income tax; (2) qualified "private activity" industrial
development bonds, the income from which, while exempt from federal income tax
under Section 103 of the Internal Revenue Code, as amended (the "Code"), is
included in the calculation of the federal alternative minimum tax; and (3)
"private activity" (private purpose) bonds, the income from which is not exempt
from federal income tax. The Fund will not invest in private activity (private
purpose) bonds, and, except as described under "Other Eligible Securities," will
not invest in qualified "private activity" industrial development bonds whose
distributions are subject to the alternative minimum tax.
OTHER ELIGIBLE SECURITIES
The Fund may invest up to 20% of its assets under ordinary
circumstances and up to 100% of its assets for temporary defensive purposes in
the following types of instruments: (1) commercial paper, including master
demand notes, that at the date of investment is rated A-1 (the highest grade
given by S&P), Prime-1 (the highest grade given by Moody's) or, if not rated by
such services, is issued by a company that at the date of investment has an
outstanding issue rated A or better by S&P or Moody's; (2) obligations,
including certificates of deposit and bankers' acceptances, of banks or savings
and loan associations, having at least $1 billion in assets as of the date of
their most recently published financial statements that are members of the
Federal Deposit Insurance Corporation, including U.S. branches of foreign banks
and foreign branches of U.S. banks; (3) corporate obligations (maturing in 13
months or less) that at the date of investment are rated A or better by S&P or
Moody's; (4) obligations issued or guaranteed by the U.S. government or by any
agency or instrumentality of the U.S. government; and (5) qualified "private
activity" industrial development bonds, the income from which, while exempt from
federal income tax under Section 103 of the Code, is included in the calculation
of the federal alternative minimum tax.
FUNDAMENTAL NATURE OF INVESTMENT OBJECTIVE
The investment objective of the Fund is fundamental and may not be
changed without approval of the holders of a majority, of the Fund's outstanding
voting shares as defined in the Investment Company Act of 1940 ("1940 Act")
(which means the lesser of (1) 67% of the shares represented at a meeting at
which more than 50% of the outstanding shares are represented or (2) more than
50% of the outstanding shares)(a "1940 Act majority").
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INVESTMENT RESTRICTIONS
- --------------------------------------------------------------------------------
The investment restrictions set forth below are fundamental and may not
be changed without the vote of a 1940 Act Majority of the Fund's outstanding
voting shares. Unless otherwise stated, all references to the assets of the Fund
are in terms of current market value. The Fund may not do the following:
(1) purchase any security (other than U.S. government securities) of
any issuer if as a result more than 5% of its total assets would be invested in
securities of the issuer, except that up to 25% of its total assets may be
invested without regard to this limit;
(2) purchase securities on margin, except that it may obtain such short
term credit as may be necessary for the clearance of purchases and sales of
securities;
(3) make short sales of securities or maintain a short position, unless
at all times when a short position is open it owns an equal amount of such
securities or of securities which, without payment of any further consideration,
are convertible into or exchangeable for securities of the same issue as, and
equal in amount to, the securities sold short;
(4) borrow money or enter into reverse repurchase agreements, except
that the Fund may enter into reverse repurchase agreements or borrow money from
banks for temporary or emergency purposes in aggregate amounts up to one-third
of the value of the Fund's net assets; provided that while borrowings from banks
(not including reverse repurchase agreements) exceed 5% of the Fund's net
assets, any such borrowings will be repaid before additional investments are
made;
(5) pledge more than 15% of its net assets to secure indebtedness; the
purchase or sale of securities on a "when issued" basis, or collateral
arrangement with respect to the writing of options on securities, are not deemed
to be a pledge of assets;
(6) issue senior securities; the purchase or sale of securities on a
"when issued" basis or collateral arrangement with respect to the writing of
options on securities, are not deemed to be the issuance of a senior security;
(7) make loans, except that the Fund may purchase or hold debt
securities consistent with its investment objective, lend portfolio securities
valued at not more than 15% of its total assets to broker-dealers and enter into
repurchase agreements;
(8) purchase any security (other than U.S. government securities) of
any issuer if as a result more than 25% of its total assets would be invested in
a single industry, including industrial development bonds from the same facility
or similar types of facilities; governmental issuers of municipal bonds are not
regarded as members of an industry and the Fund may invest more than 25% of its
assets in industrial development bonds;
(9) invest more than 10% of its total assets in securities with legal
or contractual restrictions on resale or in securities for which market
quotations are not readily available, or in repurchase agreements maturing in
more than seven days;
(10) invest more than 5% of its total assets in securities of any
company having a record, together with its predecessors, of less than three
years of continuous operation;
(11) purchase securities of other investment companies, except as part
of a merger, consolidation, purchase of assets or similar transaction;
(12) purchase or sell commodities or commodity contracts or real
estate, except that it may purchase and sell securities secured by real estate
and securities of companies which invest in real estate, and may engage in
currency or other financial futures contracts and related options transactions;
and
(13) underwrite securities of other issuers, except that the Fund may
purchase securities from the issuer or others and dispose of such securities in
a manner consistent with its investment objective.
Additional restrictions adopted by the Fund, which may be changed by
the Board of Trustees, provide that the Fund may not purchase or retain
securities of an issuer if, to the knowledge of the Fund, officers, Trustees or
Directors of the Fund or Keystone each owning beneficially more than 1/2 of 1%
of the securities of such issuer own in the aggregate more than 5% of the
securities of such issuer, or such persons or management personnel of the Fund
or Keystone have a substantial beneficial interest in the securities of such
issuer. Portfolio securities of the Fund may not be purchased from or sold or
loaned to Keystone or any affiliate thereof or any of their Directors, officers
or employees.
Although not fundamental restrictions or policies requiring a
shareholders' vote to change, the Fund has undertaken to certain state
securities authorities that, so long as the state authority requires and shares
of the Fund are registered for sale in that state, the Fund
(1) will not invest in interests in oil, gas or other mineral
exploration or development programs, except publicly traded securities of
companies engaging in such activities;
(2) will limit its purchase of warrants to 5% of net assets, of which
2% may be warrants not listed on the New York or American Stock Exchange;
(3) will not invest in puts, calls, straddles, spreads, and any
combination thereof if by reason thereof the value of its aggregate investment
in such classes of securities will exceed 5% of the securities of that issuer;
(4) will not invest in real estate limited partnership interests; and
(5) will maintain 300% asset coverage with respect to any bank
borrowings.
The Fund does not presently intend to invest more than 25% of its total
assets in (1) municipal bonds of a single state and its subdivisions, agencies
and instrumentalities; of a single territory or possession of the U.S. and its
subdivisions, agencies or instrumentalities; or of the District of Columbia and
any subdivision, agency or instrumentality thereof; or (2) municipal bonds, the
payment of which depends on revenues derived from a single facility or similar
types of facilities. Since certain municipal bonds may be related in such a way
that an economic, business or political development or change affecting one such
security could likewise affect the other securities, a change in this policy
could result in increased investment risk, but no change is presently
contemplated. The Fund may invest more than 25% of its total assets in
industrial development bonds.
For the purpose of fundamental investment restrictions numbers 1, 10
and 13, the Fund will treat each state, territory and possession of the U.S.,
the District of Columbia and, if its assets and revenues are separate from those
of the entity or entities creating it, each political subdivision, agency and
instrumentality of any one (or more, as in the case of a multi-state authority
or agency) of the foregoing as an issuer of all securities that are backed
primarily by its assets or revenues; each company as an issuer of all securities
that are backed primarily by its assets or revenues; and each of the foregoing
entities as an issuer of all securities that it guarantees; provided, however,
that for the purpose of limitation 1 no entity shall be deemed to be an issuer
of a security that it guarantees so long as no more than 10% of the Fund's total
assets (taken at current value) are invested in securities guaranteed by the
entity and securities of which it is otherwise deemed to be an issuer.
In order to permit the sale of Fund shares in certain states, the Fund
may make commitments more restrictive than the investment restrictions described
above. Should the Fund determine that any such commitment is no longer in the
best interests of the Fund, it will revoke the commitment by terminating sales
of its shares in the state involved.
If a percentage limit is satisfied at the time of investment or
borrowing, a later increase or decrease resulting from a change in asset value
is not a violation of the limit.
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VALUATION OF SECURITIES
- --------------------------------------------------------------------------------
Current values for the Fund's portfolio securities are determined in
the following manner:
(1) securities for which market quotations are readily available are
valued at the mean of the bid and asked prices at the time of valuation;
(2) short-term investments that are purchased with maturities of sixty
days or less are valued at amortized cost (original purchase cost as adjusted
for amortization of premium or accretion of discount), which, when combined with
accrued interest, approximates market;
(3) short-term investments having maturities of more than sixty days,
for which market quotations are readily available, are valued at current market
value;
(4) short-term investments maturing in more than sixty days when
purchased that are held on the sixtieth day prior to maturity are valued at
amortized cost (market value on the sixtieth day adjusted for amortization of
premium or accretion of discount), which, when combined with accrued interest,
approximates market; and
(5) the following securities are valued at prices deemed in good faith
to be fair under procedures established by the Fund's Board of Trustees: (a)
securities, including restricted securities, for which market quotations are not
readily available; and (b) other assets.
The Fund believes that reliable market quotations are generally not
readily available for purposes of valuing municipal bonds. As a result,
depending on the particular municipal bonds owned by the Fund, it is likely that
most of the valuations for such bonds will be based upon their fair value
determined under procedures approved by the Fund's Board of Trustees. The Fund's
Board of Trustees has authorized the use of a pricing service to determine the
fair value of its municipal bonds and certain other securities.
Non-tax exempt securities for which market quotations are readily
available are valued on a consistent basis at that price quoted that, in the
opinion of the Board of Trustees or the person designated by the Board of
Trustees to make the determination, most nearly represents the market value of
the particular security. Any securities for which market quotations are not
readily available or other assets are valued on a consistent basis at fair value
as determined in good faith using methods prescribed by the Fund's Board of
Trustees.
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SALES CHARGES
- --------------------------------------------------------------------------------
GENERAL
The Fund currently offers three classes of shares. Class A shares are
offered with a maximum front end sales charge of 4.75% payable at the time of
purchase ("Front End Load Option"). Class B shares purchased on or after June 1,
1995 are subject to a contingent deferred sales charge payable upon redemption
during the 72 month period from and including the month of purchase. Class B
shares purchased prior to June 1, 1995 are subject to a contingent deferred
sales charge payable upon redemption within four calendar years after purchase
("Back End Load Option"). Class B shares purchased on or after June 1, 1995 that
have been outstanding eight years from and including the month of purchase will
automatically convert to Class A shares without imposition of a front-end sales
charge or exchange fee. Class B shares purchased prior to June 1, 1995 that have
been outstanding during seven calendar years will similarly convert to Class A
shares. (Conversion of Class B shares represented by stock certificates will
require the return of stock certificates to Keystone Investor Resource Center,
Inc., the Fund's transfer and dividend disbursing agent ("KIRC").) Class C
shares are sold subject to a contingent deferred sales charge payable upon
redemption within one year after purchase ("Level Load Option"). Class C shares
are available only through dealers who have entered into special distribution
agreements with the Principal Underwriter. The prospectus contains a general
description of how investors may buy shares of the Fund, as well as a table of
applicable sales charges for Class A shares, a discussion of reduced sales
charges that may apply to subsequent purchases and a description of applicable
contingent deferred sales charges.
CONTINGENT DEFERRED SALES CHARGES
In order to reimburse the Fund for certain expenses relating to the
sale of its shares (see "Distribution Plans"), a contingent deferred sales
charge is imposed at the time of redemption of certain Fund shares, as follows:
CLASS A SHARES
With certain exceptions, purchases of Class A shares made on or after
April 10, 1995 (1) in an amount equal to or exceeding $1,000,000 and/or (2) by a
corporate qualified retirement plan or a non-qualified deferred compensation
plan sponsored by a corporation having 100 or more eligible employees (a
"Qualifying Plan"), in either case without a front-end sales charge, will be
subject to a contingent deferred sales charge of 1.00% during the 24 month
period following the date of purchase. Certain Class A shares purchased without
a front-end sales charge prior to April 10, 1995 may be subject to a contingent
deferred sales charge of 0.25% upon redemption during the one-year period
commencing on the date such shares were originally purchased. The contingent
deferred sales charge will be retained by the Principal Underwriter. See
"Calculation of Contingent Deferred Sales Charge" below.
CLASS B SHARES
With respect to Class B shares purchased on or after June 1, 1995, the
Fund, with certain exceptions, will impose a deferred sales charge as a
percentage of the lesser of net asset value or net cost of such Class B shares
redeemed during succeeding twelve-month periods as follows: 5% during the first
twelve-month period; 4% during the second twelve month period; 3% during the
third twelve month period; 3% during the fourth twelve-month period; 2% during
the fifth twelve-month period; and 1% during the sixth twelve-month period. No
deferred sales charge is imposed on amounts redeemed thereafter. See
"Calculation of Contingent Deferred Sales Charge" below.
With respect to Class B shares purchased prior to June 1, 1995, the
Fund, with certain exceptions, imposes a deferred sales charge of 3.00% on
shares redeemed during the calendar year of purchase and during the first
calendar year after the year of purchase; 2.00% on shares redeemed during the
second calendar year after the year of purchase; and 1.00% on shares redeemed
during the third calendar year after the year of purchase. No deferred sales
charge is imposed on amounts redeemed thereafter.
If imposed, the deferred sales charge is deducted from the redemption
proceeds otherwise payable to you. The deferred sales charge is retained by the
Principal Underwriter. Amounts received by the Principal Underwriter under the
Class B Distribution Plans are reduced by deferred sales charges retained by the
Principal Underwriter. See "Calculation of Contingent Deferred Sales Charge"
below.
CLASS C SHARES
With certain exceptions, the Fund will impose a deferred sales charge
of 1% on Class C shares redeemed within one year after the date of purchase. No
deferred sales charge is imposed on amounts redeemed thereafter. If imposed,
the deferred sales charge is deducted from the redemption proceeds otherwise
payable to you. The deferred sales charge is retained by the Principal
Underwriter. See "Calculation of Contingent Deferred Sales Charge" below.
CALCULATION OF CONTINGENT DEFERRED SALES CHARGE
Any contingent deferred sales charge imposed upon the redemption of
Class A, Class B or Class C shares is a percentage of the lesser of (1) the net
asset value of the shares redeemed or (2) the net cost of such shares.
No contingent deferred sales charge is imposed when you redeem amounts
derived from (1) increases in the value of your account above the net cost of
such shares due to increases in the net asset value per share of the Fund; (2)
certain shares with respect to which the Fund did not pay a commission on
issuance, including shares acquired through reinvestment of dividend income and
capital gains distributions; (3) certain Class A shares held for more than one
or two years, as the case may be; (4) Class B shares held during more than four
consecutive calendar years or more than 72 months, as the case may be; or (5)
Class C shares held for more than one year.
Upon request for redemption the Fund will redeem shares not subject to
the contingent deferred sales charge first. Thereafter, the Fund will redeem
shares held the longest first. No contingent deferred sales charge is imposed
when the shares of a class are exchanged for the shares of the same class of
another Keystone America Fund. Moreover, when shares of one such class of a fund
have been exchanged for shares of another such class of a fund, for purposes of
any future contingent deferred sales charge, the calendar year of purchase of
the shares being exchanged is deemed to be the year shares being acquired by
exchange were originally purchased.
WAIVER OF SALES CHARGES
Shares of the Fund also may be sold, to the extent permitted by
applicable law, regulations, interpretations or exemptions, at net asset value
without the imposition of an initial sales charge to (1) certain Directors,
Trustees, officers, full-time employees and sales representatives of the Fund,
Keystone Management, Keystone, Keystone Investments, Inc. (formerly named
Keystone Group, Inc.) ("Keystone Investments"), their subsidiaries and
affiliates and the Principal Underwriter who have been such for not less than
ninety days; (2) the pension and profit-sharing plans established by such
companies, their subsidiaries and affiliates, for the benefit of their Trustees,
Directors, officers, full-time employees and sales representatives; or (3)
registered representatives of firms with dealer agreements with the Principal
Underwriter, provided that all such sales are made upon the written assurance of
the purchaser that the purchase is made for investment purposes and that the
securities will not be resold except through redemption by the Fund.
No initial sales charge is charged on purchases of shares of the Fund
by a bank or trust company in a single account in the name of such bank or trust
company as trustee, if the initial investment in shares of the Fund, or any fund
in the Keystone Investments Family of Funds is at least $500,000 and any
commission paid at the time of such purchase is not more than 1% of the amount
invested.
With respect to Class A shares purchased by a Qualifying Plan at net
asset value or Class C shares purchased by a Qualifying Plan, no contingent
deferred sales charge will be imposed on any redemptions made specifically by an
individual participant in the Qualifying Plan. This waiver is not available in
the event a Qualifying Plan, as a whole, redeems substantially all of its
assets.
In addition, no contingent deferred sales charge is imposed on a
redemption of shares of the Fund in the event of (1) death or disability of the
shareholder; (2) a lump-sum distribution from a benefit plan qualified under the
Employee Retirement Income Security Act of 1974 ("ERISA"); (3) automatic
withdrawals from ERISA plans if the shareholder is at least 59 1/2 years old;
(4) involuntary redemptions of an account having an aggregate net asset value of
less than $1,000; (5) automatic withdrawals under an automatic withdrawal plan
of up to 1 1/2% per month of the shareholder's initial account balance; (6)
withdrawals consisting of loan proceeds to a retirement plan participant; (7)
financial hardship withdrawals made by a retirement plan participant; or (8)
withdrawals consisting of returns of excess contributions or excess deferral
amounts made to a retirement plan participant.
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DISTRIBUTION PLANS
- --------------------------------------------------------------------------------
Rule 12b-1 under the 1940 Act permits investment companies, such as the
Fund, to use their assets to bear the expenses of distributing their shares, if
they comply with various conditions, including adoption of a distribution plan
containing certain provisions set forth in the Rule.
The Fund's Class A, B and C Distribution Plans have been approved by
the Fund's Board of Trustees, including a majority of the Trustees who are not
interested persons of the Fund as defined in the 1940 Act ("Independent
Trustees") and the Trustees who have no direct or indirect financial interest in
the Distribution Plan or any agreement related thereto (the "Rule 12b-1
Trustees" who are the same as the Independent Trustees).
The National Association of Securities Dealers, Inc. ("NASD") currently
limits the amount that a fund may pay annually in distribution costs for the
sale of its shares and shareholder service fees. The NASD limits annual
expenditures to 1% of the aggregate average daily net asset value of its shares,
of which 0.75% may be used to pay such distribution costs and 0.25% may be used
to pay shareholder service fees. The NASD also limits the aggregate amount that
the Fund may pay for such distribution costs to 6.25% of gross share sales since
the inception of the 12b-1 Plan, plus interest at the prime rate plus 1% on such
amounts (less any contingent deferred sales charges paid by shareholders to the
Principal Underwriter).
CLASS A DISTRIBUTION PLAN
The Class A Distribution Plan provides that the Fund may expend daily
amounts at an annual rate, currently limited to 0.25% of the Fund's average
daily net asset value attributable to Class A shares. The Fund may use this
money to finance any activity that is primarily intended to result in the sale
of Class A shares. Such activities include, without limitation, expenditures
consisting of payments to a principal underwriter of the Fund (currently the
Principal Underwriter) to enable the Principal Underwriter to pay or to have
paid to others who sell Class A shares a service or other fee, at such intervals
as the Principal Underwriter may determine, in respect of Class A shares
maintained by such recipients on the books of the Fund for specified periods.
Amounts paid by the Fund under the Class A Distribution Plan are
currently used to pay others, such as dealers, service fees at an annual rate of
up to 0.25% of the average net asset value of Class A shares maintained by such
recipients on the books of the Fund for specified periods.
CLASS B DISTRIBUTION PLANS
The Class Distribution Plans provide that the Fund may expend daily
amounts at an annual rate of up to 1.00% of the Fund's average daily net asset
value attributable to Class B shares. The Fund may use this money to finance any
activity that is primarily intended to result in the sale of Class B shares.
Such activities include, without limitation, expenditures consisting of payments
to the principal underwriter of the Fund (currently the Principal Underwriter)
(1) to enable the Principal Underwriter to pay to others (dealers) commissions
in respect of Class B shares sold since inception of the Distribution Plan; and
(2) to enable the Principal Underwriter to pay or to have paid to others a
service fee, at such intervals as the Principal Underwriter may determine, in
respect of Class B shares maintained by any such recipients on the books of the
Fund for specified periods.
The Principal Underwriter generally reallows to brokers or others a
commission equal to 4.00% of the price paid for each Class B share sold plus the
first year's service fee in advance in the amount of 0.25% of the price paid for
each Class B share sold. Beginning approximately 12 months after the purchase of
a Class B share, the broker or other party receives service fees at an annual
rate of 0.25% of the average daily net asset value of such Class B share
maintained by the recipient on the books of the Fund for specified periods.
The Principal Underwriter intends, but is not obligated, to continue to
pay or accrue distribution charges incurred in connection with each Class B
Distribution Plan that exceed the current annual payments that the Fund is
permitted to pay to the Principal Underwriter. The Principal Underwriter intends
to seek full payment of such charges from the Fund (together with annual
interest thereon at the prime rate plus one percent) at such time in the future
as, and to the extent that, payment thereof by the Fund would be within the
permitted limits.
If the Fund's Independent Trustees authorize such payments, the effect
would be to extend the period of time during which the Fund incurs the maximum
amount of costs allowed by a Class B Distribution Plan. If a Class B
Distribution Plan is terminated, the Principal Underwriter will ask the
Independent Trustees to take whatever action they deem appropriate under the
circumstances with respect to payment of such amounts.
In connection with financing its distribution costs, including
commission advances to dealers and others, the Principal Underwriter has sold to
a financial institution substantially all of its 12b-1 fee collection rights and
contingent deferred sales charge collection rights in respect of Class B shares
sold during the two-year period commencing approximately June 1, 1995. The Fund
has agreed not to reduce the rate of payment of 12b-1 fees in respect of such
Class B shares unless it terminates such shares' Distribution Plan completely.
If it terminates such Distribution Plan, the Fund may be subject to possible
adverse distribution consequences.
CLASS C DISTRIBUTION PLAN
The Class C Distribution Plan provides that the Fund may expend daily
amounts at an annual rate of up to 1.00% of the Fund's average daily net asset
value attributable to Class C shares. The Fund may use this money to finance any
activity that is primarily intended to result in the sale of Class C shares.
Such activities include, without limitation, expenditures consisting of payments
to the principal underwriter of the Fund (currently the Principal Underwriter)
(1) to enable the Principal Underwriter to pay to others (dealers) commissions
in respect of Class C shares sold since inception of the Distribution Plan; and
(2) to enable the Principal Underwriter to pay or to have paid to others a
service fee, at such intervals as the Principal Underwriter may determine, in
respect of Class C shares maintained by any such recipients on the books of the
Fund for specified periods.
The Principal Underwriter generally reallows to brokers or others a
commission in the amount of 0.75% of the price paid for each Class C share sold
plus the first year's service fee in advance in the amount of 0.25% of the price
paid for each Class C share sold. Beginning approximately fifteen months after
purchase, brokers or others receive a commission at an annual rate of 0.75%
(subject to NASD rules) plus service fees at the annual rate of 0.25% of the
average daily net asset value of each Class C share maintained by the recipients
on the books of the Fund for specified periods.
DISTRIBUTION PLANS IN GENERAL
Each of the Distribution Plans may be terminated at any time by vote of
the Rule 12b-1 Trustees, or by vote of a majority of the outstanding voting
shares of the respective class of the Fund.
Any change in a Distribution Plan that would materially increase the
distribution expenses of the Fund provided for in a Distribution Plan requires
shareholder approval. Otherwise, a Distribution Plan may be amended by the
Trustees, including the Rule 12b-1 Trustees.
While a Distribution Plan is in effect, the Fund will be required to
commit the selection and nomination of candidates for Independent Trustees to
the discretion of the Independent Trustees.
The total amounts paid by the Fund under the foregoing arrangements may
not exceed the maximum Distribution Plan limit specified above, and the amounts
and purposes of expenditures under a Distribution Plan must be reported to the
Rule 12b-1 Trustees quarterly. The Rule 12b-1 Trustees may require or approve
changes in the implementation or operation of a Distribution Plan, and may also
require that total expenditures by the Fund under a Distribution Plan be kept
within limits lower than the maximum amount permitted by the Distribution Plan
as stated above.
The Independent Trustees of the Fund have determined that the sales of
the Fund's shares resulting from payments under the Distribution Plans have
benefited the Fund.
For the year ended November 30, 1995, the Fund paid the Principal
Underwriter $229,818, $320,355 ($310,343 with respect to Class B shares sold
prior to June 1, 1995 and $10,012 with respect to Class B shares sold on or
after June 1, 1995) and $ 216,296 under the Fund's class A, B and C Distribution
plans, respectively. During the year ended November 30, 1994, the Fund paid the
Principal Underwriter $269,046, $241,979 and $279,001 under the Fund's Class A,
B and C Distribution Plans, respectively.
For Class B shares sold prior to June 1, 1995, unreimbursed
distribution expenses at November 30, 1995 were $1,945,004 (6.35% of such Class
B shares' net asset value). For Class B shares sold on or after June 1, 1995,
unreimbursed distribution expenses at November 30 ,1995 were $162,557 (0.58% of
such Class B shares' net asset value). Unreimbursed distribution expenses at
November 30, 1995 for Class C shares were $2,197,650 (10.78% of such Class C
shares' net asset value).
Whether any expenditure under a Distribution Plan is subject to a state
expense limit will depend upon the nature of the expenditure and the terms of
the state law, regulation or order imposing the limit. A portion of the Fund's
Distribution Plan expenses may be included in the Fund's total operating
expenses for purposes of determining compliance with state expense limits.
The Fund is currently subject to certain annual state expense
limitations, the most restrictive of which is:
2.5% of the first $30 million of Fund average net assets,
2.0% of the next $70 million of Fund average net assets, and
1.5% of Fund average net assets over $100 million.
Capital charges and certain expenses, including a portion of the Fund's
Distribution Plan fees, are currently not included in the calculation of the
state expense limitation. This limitation may be modified or eliminated in the
future.
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REDEMPTIONS IN KIND
- --------------------------------------------------------------------------------
If conditions arise that would make it undesirable for the Fund to pay
for all redemptions in cash, the Fund's Board of Trustees may authorize payment
to be made in portfolio securities or other Fund property. Securities delivered
in payment of redemptions would be valued at the same value assigned to them in
computing the net asset value per share and would be readily marketable.
Shareholders receiving such securities would incur brokerage costs when these
securities are sold.
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INVESTMENT MANAGER
- --------------------------------------------------------------------------------
Subject to the general supervision of the Fund's Board of Trustees,
Keystone Management, located at 200 Berkeley Street, Boston, Massachusetts
02116-5034, serves as investment manager to the Fund and is responsible for the
overall management of the Fund's business and affairs. Keystone Management,
organized in 1989, is a wholly-owned subsidiary of Keystone and its directors
and principal executive officers have been affiliated with Keystone, a seasoned
investment adviser, for a number of years. Keystone Management also serves as
investment manager to each of the other funds in the Keystone Fund Family and to
certain other funds in the Keystone Investments Family of Funds.
Except as otherwise noted below, pursuant to an Investment Management
Agreement (the "Management Agreement") Keystone Management has agreed to manage
and administer the operation of the Fund and manage the investment and
reinvestment of the Fund's assets in conformity with the Fund's investment
objectives and restrictions. The Management Agreement stipulates that Keystone
Management shall provide office space all necessary office facilities, equipment
and personnel in connection with its services. The Management Agreement also
stipulates that Keystone Management shall pay or reimburse the Fund for the
compensation of Fund officers and Trustees who are affiliated with the
investment manager and shall pay all expenses of Keystone Management incurred in
connection with its services. All charges and expenses other than those
specifically referred to as being borne by Keystone Management will be paid by
the Fund, including, but not limited to, custodian charges and expenses;
bookkeeping and auditors' charges and expenses; transfer agent charges and
expenses; fees of Independent Trustees; brokerage commissions, brokers' fees and
expenses; issue and transfer taxes; costs and expenses under the Distribution
Plans; taxes and trust fees payable to governmental agencies; the cost of share
certificates; fees and expenses of the registration and qualification of the
Fund and its shares with the Securities and Exchange Commission (sometimes
referred to herein as the "SEC" or the "Commission") or under state or other
securities laws; expenses of preparing, printing and mailing prospectuses,
statements of additional information, notices, reports and proxy materials to
shareholders of the Fund; expenses of shareholders' and Trustees' meetings;
charges and expenses of legal counsel for the Fund and for the Independent
Trustees on matters relating to the Fund; charges and expenses of filing annual
and other reports with the SEC and other authorities; and all extraordinary
charges and expenses of the Fund.
The Management Agreement permits Keystone Management to enter into an
agreement with Keystone or another investment adviser, under which Keystone or
another investment adviser, as investment adviser, will provide substantially
all the services to be provided by Keystone Management under the Management
Agreement. The Management Agreement also permits Keystone Management to delegate
to Keystone or another investment adviser substantially all of the investment
manager's rights, duties and obligations under the Management Agreement.
Services permitted by Keystone Management include (1) performing research and
planning with respect to (a) the Fund's qualification as a regulated investment
company under Subchapter M of the Code, (b) tax treatment of the Fund's
portfolio investments, (c) tax treatment of special corporate actions (such as
reorganizations), (d) state tax matters affecting the Fund, and (e) the Fund's
distributions of income and capital gains; (2) preparing the Fund's federal and
state tax returns; and (3) providing services to the Fund's shareholders in
connection with federal and state taxation and distributions of income and
capital gains.
The Fund pays Keystone Management a fee for its services at the annual
rate set forth below:
Aggregate Net Asset
Management Value of the Shares
Fee Income of the Fund
- --------------------------------------------------------------------------------
2.0% of Gross Dividend
and Interest Income
Plus
0.50% of the first $ 100,000,000, plus
0.45% of the next $ 100,000,000, plus
0.40% of the next $ 100,000,000, plus
0.35% of the next $ 100,000,000, plus
0.30% of the next $ 100,000,000, plus
0.25% of amounts over $ 500,000,000;
computed as of the close of business on each business day and payable daily.
As a continuing condition of registration of shares in a state,
Keystone Management has agreed to reimburse the Fund annually for certain
operating expenses incurred by the Fund in excess of certain percentages of the
Fund's average daily net assets. Keystone Management is not required to make
such reimbursements to the extent such reimbursement would result in the Fund's
inability to qualify as a regulated investment company under provisions of the
Code. This condition may be modified or eliminated in the future.
The Management Agreement continues in effect from year to year only if
approved at least annually (1) by the Fund's Board of Trustees or by a vote of a
majority of the outstanding shares and (2) by the vote of a majority of the
Independent Trustees cast in person at a meeting called for the purpose of
voting on such approval. The Management Agreement may be terminated, without
penalty, on 60 days' written notice by the Fund's Board of Trustees or by a vote
of a majority of outstanding shares. The Management Agreement will terminate
automatically upon its "assignment," as that term is defined in the 1940 Act.
For an additional discussion of fees paid to Keystone Management, see
"Investment Adviser" below.
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INVESTMENT ADVISER
- --------------------------------------------------------------------------------
Pursuant to the Management Agreement, Keystone Management has delegated
its investment management functions, except for certain administrative and
management services, to Keystone and has entered into an Investment Advisory
Agreement (the "Advisory Agreement") with Keystone under which Keystone provides
investment advisory and management services to the Fund.
Keystone, located at 200 Berkeley Street, Boston, Massachusetts
02116-5034, has provided investment advisory and management services to
investment companies and private accounts since it was organized in 1932.
Keystone is a wholly-owned subsidiary of Keystone Investments, 200 Berkeley
Street, Boston, Massachusetts 02116-5034.
Keystone Investments is a private corporation predominantly owned by
former and current members of management of Keystone and its affiliates. The
shares of Keystone Investments common stock beneficially owned by management are
held in a number of voting trusts, the trustees of which are George S. Bissell,
Albert H. Elfner, III, Edward F. Godfrey and Ralph J. Spuehler, Jr. Keystone
Investments provides accounting, bookkeeping, legal, personnel and general
corporate services to Keystone Management, Keystone, their affiliates and the
Keystone Investments Family of Funds.
Pursuant to the Advisory Agreement, Keystone receives for its services
an annual fee representing 85% of the management fee received by Keystone
Management under the Management Agreement.
Pursuant to the Advisory Agreement, and subject to the supervision of
the Fund's Board of Trustees, Keystone manages and administers the operation of
the Fund, and manages the investment and reinvestment of the Fund's assets in
conformity with the Fund's investment objective and restrictions. The Advisory
Agreement stipulates that Keystone shall provide office space and all necessary
office facilities, equipment and personnel in connection with its services. The
Advisory Agreement also stipulates that Keystone shall pay or reimburse the Fund
or Keystone Management, as the case may be, for the compensation of Fund
officers and Trustees who are affiliated with Keystone and pay all expenses of
Keystone incurred in connection with the provision of its services. All charges
and expenses other than those specifically referred to as being borne by
Keystone will be paid by the Fund, including, but not limited to, custodian
charges and expenses; bookkeeping and auditors' charges and expenses; transfer
agent charges and expenses; fees of Independent Trustees; brokerage commissions,
brokers' fees and expenses; issue and transfer taxes; costs and expenses under
the Distribution Plans; taxes and trust fees payable to governmental agencies;
the cost of share certificates; fees and expenses of the registration and
qualification of the Fund and its shares with the SEC or under state or other
securities laws; expenses of preparing, printing and mailing prospectuses,
statements of additional information, notices, reports and proxy materials to
shareholders of the Fund; expenses of shareholders' and Trustees' meetings;
charges and expenses of legal counsel for the Fund and for the Independent
Trustees of the Fund on matters relating to the Fund; charges and expenses of
filing annual and other reports with the SEC and other authorities; and all
extraordinary charges and expenses of the Fund.
During the fiscal year ended November 30, 1993, the Fund paid or
accrued to Keystone Management investment management and administrative service
fees of $876,654, which represented 0.62% of the Fund's average net assets. Of
such amount paid to Keystone Management, $745,160 was paid to Keystone for its
services to the Fund.
During the fiscal year ended November 30, 1994, the Fund paid or
accrued to Keystone Management investment management and administrative services
fees of $1,005,305, which represented 0.61% of the Fund's average net assets. Of
such amount paid to Keystone Management, $854,509 was paid to Keystone for its
services to the Fund.
During the fiscal year ended November 30, 1995, the Fund paid or
accrued to Keystone Management investment management and adminstrative service
fees of $919,802, which represented 0.61% of the Fund's average net assets. Of
such amount paid to Keystone Management, $781,832 was paid to Keystone for its
services to the Fund.
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TRUSTEES AND OFFICERS
- --------------------------------------------------------------------------------
Trustees and officers of the Fund, their principal occupations and some
of their affiliations over the last five years are as follows:
*ALBERT H. ELFNER, III: President, Chief Executive Officer and Trustee of the
Fund; Chairman of the Board, President and Chief Executive Officer of
Keystone Investments, Keystone, Keystone Management and Keystone Software,
Inc. ("Keystone Software"); President, Chief Executive Officer and Trustee
or Director of all other funds in the Keystone Investments Family of Funds;
Chairman of the Board and Director of Keystone Institutional Company, Inc.
("Keystone Institutional") (formerly named Keystone Investment Management
Corporation) and Keystone Fixed Income Advisors, Inc. ("KFIA"); Director and
President of Keystone Asset Corporation, Keystone Capital Corporation and
Keystone Trust Company; Director of the Principal Underwriter, KIRC and
Fiduciary Investment Company, Inc. ("FICO"); Director of Boston Children's
Services Association; Trustee of Anatolia College, Middlesex School, and
Middlebury College; Member, Board of Governors, New England Medical Center;
former Director and President of Hartwell Keystone Advisers, Inc. ("Hartwell
Keystone"); former Director and Vice President, Robert Van Partners, Inc.
and former Trustee of Neworld Bank.
FREDERICK AMLING: Trustee of the Fund; Trustee or Director of all other funds in
the Keystone Investments Family of Funds; Professor, Finance Department,
George Washington University; President, Amling & Company (investment
advice); Member, Board of Advisers, Credito Emilano (banking); and former
Economics and Financial Consultant, Riggs National Bank.
CHARLES A. AUSTIN III: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Family of Funds; Investment Counselor to
Appleton Partners, Inc.; former Managing Director, Seaward Management
Corporation (investment advice) and former Director, Executive Vice
President and Treasurer, State Street Research & Management Company
(investment advice).
*GEORGE S. BISSELL: Chairman of the Board and Trustee of the Fund; Director of
Keystone Investments; Chairman of the Board and Trustee or Director of all
other funds in the Keystone Investments Family of Funds; Chairman of the
Board and Trustee of Anatolia College; Trustee of University Hospital (and
Chairman of its Investment Committee); former Director and Chairman of the
Board of Hartwell Keystone; former Chairman of the Board and Chief Executive
Officer of Keystone Investments; and former Chief Executive Officer of the
Fund.
EDWIN D. CAMPBELL: Trustee of the Fund; Trustee or Director of all other funds
in the Keystone Investments Family of Funds; Director and former Executive
Vice President, National Alliance of Business; former Executive Director,
Coalition of Essential Schools, Brown University; former Vice President,
Educational Testing Services; and former Dean, School of Business, Adelphi
University.
CHARLES F. CHAPIN: Trustee of the Fund; Trustee or Director of all other funds
in the Keystone Investments Family of Funds; former Group Vice President,
Textron Corp.; and former Director, Peoples Bank (Charlotte, N.C).
LEROY KEITH, JR.: Trustee of the Fund; Trustee or Director of all other funds in
the Keystone Investments Family of Funds; Director of Phoenix Total Return
Fund and Equifax, Inc.; Trustee of Phoenix Series Fund, Phoenix
Multi-Portfolio Fund and The Phoenix Big Edge Series Fund; and former
President, Morehouse College.
K. DUN GIFFORD: Trustee of the Fund; Trustee or Director of all other funds in
the Keystone Investments Family of Funds; Chairman of the Board, Director
and Executive Vice President, The London Harness Company; Managing Partner,
Roscommon Capital Corp.; Trustee, Cambridge College; Chairman Emeritus and
Director, American Institute of Food and Wine; Chief Executive Officer,
Gifford Gifts of Fine Foods; Chairman, Gifford, Drescher & Associates
(environmental consulting); President, Oldways Preservation and Exchange
Trust (education); and former Director, Keystone Investments and Keystone.
F. RAY KEYSER, JR.: Trustee of the Fund; Trustee or Director of all other funds
in the Keystone Investments Family of Funds; Of Counsel, Keyser, Crowley &
Meub, P.C.; Member, Governor's (VT) Council of Economic Advisers; Chairman
of the Board and Director, Central Vermont Public Service Corporation and
Hitchcock Clinic; Director, Vermont Yankee Nuclear Power Corporation,
Vermont Electric Power Company, Inc., Grand Trunk Corporation, Central
Vermont Railway, Inc., S.K.I. Ltd., Sherburne Corporation, Union Mutual Fire
Insurance Company, New England Guaranty Insurance Company, Inc. and the
Investment Company Institute; former Governor of Vermont; former Director
and President, Associated Industries of Vermont; former Chairman and
President, Vermont Marble Company; former Director of Keystone; and former
Director and Chairman of the Board, Green Mountain Bank.
DAVID M. RICHARDSON: Trustee of the Fund; Trustee or Director of all other funds
in the Keystone Investments Family of Funds; Executive Vice President, DHR
International, Inc. (executive recruitment); former Senior Vice President,
Boyden International Inc. (executive recruitment); and Director, Commerce
and Industry Association of New Jersey, 411 International, Inc. and J & M
Cumming Paper Co.
RICHARD J. SHIMA: Trustee of the Fund; Trustee or Director of all other funds in
the Keystone Investments Family of Funds; Chairman, Environmental Warranty,
Inc., and Consultant, Drake Beam Morin, Inc. (executive outplacement);
Director of Connecticut Natural Gas Corporation, Trust Company of
Connecticut, Hartford Hospital, Old State House Association and Enhance
Financial Services, Inc.; Chairman, Board of Trustees, Hartford Graduate
Center; Trustee, Kingswood-Oxford School and Greater Hartford YMCA; former
Director, Executive Vice President and Vice Chairman of The Travelers
Corporation; former Managing Director of Russell Miller, Inc.; and former
Member, Georgetown College Board of Advisors.
ANDREW J. SIMONS: Trustee of the Fund; Trustee or Director of all other funds in
the Keystone Investments Family of Funds; Partner, Farrell, Fritz,
Caemmerer, Cleary, Barnosky & Armentano, P.C.; President, Nassau County Bar
Association; former Associate Dean and Professor of Law, St. John's
University School of Law.
EDWARD F. GODFREY: Senior Vice President of the Fund; Senior Vice President of
all other funds in the Keystone Investments Family of Funds; Director,
Senior Vice President, Chief Financial Officer and Treasurer of Keystone
Investments, the Principal Underwriter, Keystone Asset Corporation, Keystone
Capital Corporation, Keystone Trust Company; Treasurer of Keystone
Institutional and FICO; Treasurer and Director of Keystone Management,
Keystone Software; Vice President and Treasurer of KFIA; Director of KIRC;
former Treasurer and Director of Hartwell Keystone and former Treasurer of
Robert Van Partners, Inc.
JAMES R. McCALL: Senior Vice President of the Fund; Senior Vice President of all
other funds in the Keystone Investments Family of Funds and President of
Keystone.
J. KEVIN KENELY: Treasurer of the Fund; Treasurer of all other funds in the
Keystone Investments Family of Funds; Vice President and former Controller
of Keystone Investments, Keystone, Keystone Institutional Company, Inc.,
Keystone Management, Inc., the Principal Underwriter, FICO and Keystone
Software.
BETSY A. BLACHER: Vice President of the Fund; Vice President of certain other
Keystone Investments Funds and Senior Vice President of Keystone.
CHRISTOPHER P. CONKEY: Vice President of the Fund; Vice President of certain
other Keystone Investments Funds; and Senior Vice President of Keystone.
ROSEMARY D. VAN ANTWERP: Senior Vice President and Secretary of the Fund; Senior
Vice President and Secretary of all other funds in the Keystone Investments
Family of Funds; Senior Vice President, General Counsel and Secretary of
Keystone; Senior Vice President, General Counsel, Secretary and Director of
the Principal Underwriter, Keystone Management and Keystone Software; Senior
Vice President and General Counsel of Keystone Institutional; Senior Vice
President, General Counsel and Director of FICO and KIRC;Vice President and
Secretary of KFIA; Senior Vice President, General Counsel and Secretary of
Keystone Investments, Keystone Asset Corporation, Keystone Capital
Corporation and Keystone Trust Company; former Senior Vice President and
Secretary of Hartwell Keystone and Robert Van Partners, Inc.
* This Trustee may be considered an "interested person" within the meaning of
the 1940 Act.
Mr. Elfner and Mr. Bissell are "interested persons" by virtue of their
positions as officers and/or Directors of Keystone Investments and several of
its affiliates including Hartwell Keystone, the Principal Underwriter and KIRC.
Mr. Elfner and Mr. Bissell own shares of Keystone Investments. Mr. Elfner is
Chairman of the Board, Chief Executive Officer and Director of Keystone
Investments. Mr. Bissell is a Director of Keystone Investments.
During the fiscal year ended November 30, 1995, no Trustee affiliated
with Keystone or any officer of Keystone received any direct remuneration from
the Fund. During the same period the nonaffiliated Trustees received $12,634 in
retainers and fees. For the year ended December 31, 1995, aggregate compensation
received by Independent Trustees on a fund complex wide basis (which includes 32
mutual funds) was $450,716. On December 31, 1995, the Trustees and officers of
the Fund beneficially owned less than 1% of the Fund's then outstanding shares.
The address of the Fund's Trustees and officers is 200 Berkeley Street,
Boston, Massachusetts 02116-5034.
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PRINCIPAL UNDERWRITER
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Pursuant to a Principal Underwriting Agreement dated August 19, 1993,
between the Fund and the Principal Underwriter (the "Underwriting Agreement"),
the Principal Underwriter acts as the Fund's principal underwriter. The
Principal Underwriter, located at 200 Berkeley Street, Boston, Massachusetts
02116-5034, is a Delaware corporation wholly-owned by Keystone. The Principal
Underwriter, as agent, has agreed to use its best efforts to find purchasers for
the shares. The Principal Underwriter, as agent, currently has the right to
obtain subscriptions and to sell shares of the Fund to the public. In so doing,
the Principal Underwriter may retain and employ representatives to promote
distribution of the Fund's shares and may obtain orders from brokers, dealers
and others, acting as principals, for sales of shares. No such representative,
dealer or broker has any authority to act as agent for the Fund. The Principal
Underwriter has not undertaken to buy or to find purchasers for any specific
number of shares. The Principal Underwriter may receive payments from the Fund
pursuant to the Fund's Distribution Plans.
All subscriptions and sales of shares by the Principal Underwriter are
at the offering price of the shares, such price being in accordance with the
provisions of the Fund's Declaration of Trust, By-Laws, current prospectus and
statement of additional information. All orders are subject to acceptance by the
Fund, and the Fund reserves the right, in its sole discretion; to reject any
order received. Under the Underwriting Agreement, the Fund is not liable to
anyone for failure to accept any order.
The Fund has agreed under the Underwriting Agreement to pay all
expenses in connection with registration of its shares with the Commission and
auditing and filing fees in connection with registration of its shares under the
various state "blue-sky" laws.
From time to time, if in the Principal Underwriter's judgment it could
benefit the sales of Fund shares, the Principal Underwriter may provide to
selected dealers promotional materials and selling aids, including, but not
limited to, personal computers, related software and Fund data files.
The Principal Underwriter has agreed that it will in all respects duly
conform with all state and federal laws applicable to the sale of the Fund's
shares. The Principal Underwriter has also agreed that it will indemnify and
hold harmless the Fund, and each person who has been, is or may be a Trustee or
officer of the Fund, against expenses reasonably incurred by any of them in
connection with any claim, action, suit or proceeding to which any of them may
be a party, that arises out of or is alleged to arise out of any
misrepresentation or omission to state a material fact on the part of the
Principal Underwriter or any other person for whose acts the Principal
Underwriter is responsible or is alleged to be responsible, unless such
misrepresentation or omission was made in reliance upon written information
furnished by the Fund.
The Underwriting Agreement will remain in effect as long as its terms
and continuance are approved (1) by a majority of the Fund's Independent
Trustees at least annually at a meeting called for that purpose and (2) annually
by vote of a majority of Trustees or by vote of a majority of the outstanding
shares.
The Underwriting Agreement may be terminated, without penalty, on 60
days' written notice by the Board of Trustees or by a vote of a majority of the
Fund's outstanding shares. The Underwriting Agreement will terminate
automatically upon its "assignment," as that term is defined in the 1940 Act.
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BROKERAGE
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It is the policy of the Fund, in effecting transactions in portfolio
securities, to seek best execution of orders at the most favorable prices. The
determination of what may constitute best execution and price in the execution
of a securities transaction by a broker involves a number of considerations,
including, without limitation: the overall direct net economic result to the
Fund, involving both price paid or received and any commissions and other costs
paid; the efficiency with which the transaction is effected; the broker's
ability to effect the transaction at all where a large block is involved, the
availability of the broker to stand ready to execute potentially difficult
transactions in the future and the financial strength; and stability of the
broker. Management weighs such considerations in determining the overall
reasonableness of brokerage commissions paid.
Subject to the foregoing, a factor in the selection of brokers is the
receipt of research services, such as analyses and reports concerning issuers,
industries, securities, economic factors and trends and other statistical and
factual information. Any such research and other statistical and factual
information provided by brokers to the Fund, Keystone Management or Keystone is
considered to be in addition to, and not in lieu of, services required to be
performed by Keystone Management under the Management Agreement or Keystone
under the Advisory Agreement. The cost, value and specific application of such
information are indeterminable and cannot be practically allocated among the
Fund and other clients of Keystone Management or Keystone who may indirectly
benefit from the availability of such information. Similarly, the Fund may
indirectly benefit from information made available as a result of transactions
effected for such other clients. Under the Management Agreement and the Advisory
Agreement, Keystone Management and Keystone are permitted to pay higher
brokerage commissions for brokerage and research services in accordance with
Section 28(e) of the Securities Exchange Act of 1934. In the event Keystone
Management and Keystone do follow such a practice, they will do so on a basis
which is fair and equitable to the Fund.
The Fund expects that purchases and sales of municipal bonds and
temporary instruments usually will be principal transactions. Municipal bonds
and temporary instruments are normally purchased directly from the issuer or
from an underwriter or market maker for the securities. There usually will be no
brokerage commissions paid by the Fund for such purchases. Purchases from
underwriters will include the underwriting commission or concession, and
purchases from dealers serving as market makers will include a dealer's mark up
or reflect a dealer's mark down. Where transactions are made in the
over-the-counter market, the Fund will deal with primary market makers unless
more favorable prices are otherwise obtainable.
The Fund may participate, if and when practicable, in group bidding for
the purchase directly from an issuer of certain securities for the Fund's
portfolio in order to take advantage of the lower purchase price available to
members of such a group.
Neither Keystone Management, Keystone nor the Fund intend to place
securities transactions with any particular broker-dealer or group thereof.
However, the Fund's Board of Trustees has determined that the Fund may consider
sales of shares as a factor in the selection of broker-dealers to execute
portfolio transactions, subject to the requirements of best execution, including
best price, described above.
The policy of the Fund with respect to brokerage is and will be
reviewed by the Fund's Board of Trustees from time to time. Because of the
possibility of further regulatory developments affecting the securities
exchanges and brokerage practices generally, the foregoing practices may be
changed, modified or eliminated.
Investment decisions for the Fund are made independently by Keystone
Management or Keystone from those of the other funds and investment accounts
managed by Keystone Management or Keystone. It may frequently develop that the
same investment decision is made for more than one fund. Simultaneous
transactions are inevitable when the same security is suitable for the
investment objective of more than one account. When two or more funds or
accounts are engaged in the purchase or sale of the same security, the
transactions are allocated as to amount in accordance with a formula that is
equitable to each fund or account. It is recognized that in some cases this
system could have a detrimental effect on the price or volume of the security as
far as the Fund is concerned. In other cases, however, it is believed that the
ability of the Fund to participate in volume transactions will produce better
executions for the Fund.
In no instance are portfolio securities purchased from or sold to
Keystone Management, Keystone, the Principal Underwriter or any of their
affiliated persons, as defined in the 1940 Act and rules and regulations issued
thereunder.
During the fiscal years ended November 30, 1993, 1994 and 1995, the
Fund did not pay any brokerage commissions.
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DECLARATION OF TRUST
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MASSACHUSETTS BUSINESS TRUST
The Fund is a Massachusetts business trust established under a
Declaration of Trust dated October 24, 1986, (the "Declaration of Trust"). The
Fund is similar in most respects to a business corporation. The principal
distinction between the Fund and a corporation relates to the shareholder
liability described below. A copy of the Declaration of Trust was filed as an
exhibit to the Fund's Registration Statement. This summary is qualified in its
entirety by reference to the Declaration of Trust.
DESCRIPTION OF SHARES
The Declaration of Trust authorizes the issuance of an unlimited number
of shares of beneficial interest of classes of shares, each of which represents
an equal proportionate interest in the Fund with each other share of that class.
Shares are entitled upon liquidation of the Fund to a pro-rata share of the Fund
based on the relative net assets of each class.
SHAREHOLDER LIABILITY
Pursuant to certain decisions of the Supreme Judicial Court of
Massachusetts, shareholders of a Massachusetts business trust may, under certain
circumstances, be held personally liable as partners for the obligations of the
trust. If the Fund were held to be a partnership, the possibility of the
shareholders incurring financial loss for that reason appears remote because the
Fund's Declaration of Trust (1) contains an express disclaimer of shareholder
liability for obligations of the Fund; (2) requires that notice of such
disclaimer be given in each agreement, obligation or instrument entered into or
executed by the Fund or the Trustees; and (3) provides for indemnification out
of Fund property for any shareholder held personally liable for the obligations
of the Fund.
VOTING RIGHTS
No amendment may be made to the Declaration of Trust that adversely
affects any class of shares without the approval of a majority of the shares of
that class. Shares have non-cumulative voting rights, which means that the
holders of more than 50% of the shares voting for the election of Trustees can
elect 100% of the Trustees to be elected at a meeting and, in such event, the
holders of the remaining 50% or less of the shares voting will not be able to
elect any Trustees.
After the initial meeting to elect Trustees, no further meetings of
shareholders for the purpose of electing Trustees will be held, unless required
by law, unless and until such time as less than a majority of the Trustees
holding office have been elected by shareholders, at which time the Trustees
then in office will call a shareholders' meeting for election of Trustees.
Except as set forth above, the Trustees shall continue to hold office
indefinitely, unless otherwise required by law, and may appoint successor
Trustees. A Trustee may be removed from or cease to hold office (as the case may
be) (1) at any time by two-thirds vote of the remaining Trustees; (2) when any
such Trustee becomes mentally or physically incapacitated; or (3) at a special
meeting of shareholders by a two-thirds vote of the outstanding shares. Any
Trustee may voluntarily resign from office.
LIMITATION OF TRUSTEES' LIABILITY
The Declaration of Trust provides that a Trustee shall be liable only
for his own willful defaults and, if reasonable care has been exercised in the
selection of officers, agents, employees or investment advisers, shall not be
liable for any neglect or wrongdoing of any such person; provided, however, that
nothing in the Declaration of Trust shall protect a Trustee against any
liability for his willful misfeasance, bad faith, gross negligence or reckless
disregard of his duties.
The Trustees have absolute and exclusive control over the management
and disposition of all assets of the Fund and may perform such acts as in their
sole judgment and discretion are necessary and proper for conducting the
business and affairs of the Fund or promoting the interests of the Fund and the
shareholders.
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STANDARDIZED TOTAL RETURN AND YIELD QUOTATIONS
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Total return quotations for a class of shares of the Fund as they may
appear from time to time in advertisements are calculated by finding the average
annual compounded rates of return over one, five and ten year periods, or the
time periods for which such class of shares has been effective, whichever is
relevant, on a hypothetical $1,000 investment that would equate the initial
amount invested in the class to the ending redeemable value. To the initial
investment all dividends and distributions are added, and all recurring fees
charged to all shareholder accounts are deducted. The ending redeemable value
assumes a complete redemption at the end of the relevant periods.
The compounded average annual rate of return of Class A of the Fund for
the period April 14, 1987 (commencement of investment operations) to November
30, 1995 was 6.75%. The compounded average annual rate of return of Class A of
the Fund for the one and five year periods ended November 30, 1995 were 18.71%
and 6.44%.
The compounded average annual rates of return for Class B and Class C
for the period from February 1, 1993 (inception of Class B and C) through
November 30, 1995 were 4.12% and 5.06%, respectively. The compounded average
annual rates of return for Class B and Class C for the one year period ended
November 30, 1995 were 13.84% and 17.84%, respectively.
Current yield quotations as they may appear from time to time in
advertisements will consist of a quotation based on a 30-day period ended on the
date of the most recent balance sheet of the Fund, computed by dividing the net
investment income per share earned during the period by the maximum offering
price per share on the last day of the base period. The standardized yield of
Class A, B and C of the Fund for the 30-day period ended November 30, 1995 were
4.76%, 4.24% and 4.25%, respectively.
Tax equivalent yield is, in general, the current yield divided by a
factor equal to one minus a stated income tax rate and reflects the yield a
taxable investment would have to achieve in order to equal on an after-tax basis
a tax-exempt yield. The federal tax equivalent yields for Class A, Class B and
Class C shares of the Fund for an investor in the 31% federal tax bracket for
the 30-day period ended November 30, 1995 were 6.90%, 6.14% and 6.16%,
respectively.
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ADDITIONAL INFORMATION
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State Street Bank and Trust Company, 225 Franklin Street, Boston,
Massachusetts 02110, is the custodian of all securities and cash of the Fund
(the "Custodian"). The Custodian may hold securities of some foreign issuers
outside the U.S. The Custodian performs no investment management functions for
the Fund, but, in addition to its custodial services, is responsible for
accounting and related recordkeeping on behalf of the Fund.
KPMG Peat Marwick LLP, 99 High Street, Boston, Massachusetts 02110,
Certified Public Accountants, are the independent auditors.
KIRC, located at 101 Main Street, Cambridge, Massachusetts 02142-1519,
is a wholly-owned subsidiary of Keystone and acts as the transfer agent and
dividend disbursing agent for the Fund.
Except as otherwise stated in its prospectus or required by law, the
Fund reserves the right to change the terms of the offer stated in its
prospectus without shareholder approval, including the right to impose or change
fees for services provided.
No dealer, salesman or other person is authorized to give any
information or to make any representation not contained in the Fund's
prospectus, this statement of additional information or in supplemental sales
literature issued by the Fund or the Principal Underwriter, and no person is
entitled to rely on any information or representation not contained therein.
The Fund's prospectus and this statement of additional information omit
certain information contained in the registration statement filed with the SEC,
which may be obtained from the SEC's principal office in Washington, D.C. upon
payment of the fee prescribed by the rules and regulations promulgated by the
SEC.
On December 29, 1995, Merrill Lynch Pierce Fenner & Smith, Attn: Book
Entry, 4800 Deer Lake Drive, E 3rd Fl, Jacksonville, Florida 32246-6484 owned
22.48%, 24.61% and 51.62%, respectively, of the Fund's outstanding Class A, B
and C shares. In addition, on December 29, 1995, Alletta Laird Downs TTEE, U/A
03-28-89, Alletta Laird Downs Trust, P.O. Box 3666, Wilmington, DE 19807-0666
owned 6.18% of the Fund's outstanding Class B shares. Management does not
believe that any other person beneficially owns 5% or more of the Fund's Class
A, B and C shares.
The Fund is one of 16 different investment companies in the Keystone
America Fund Family, which offers a range of choices to serve shareholder needs.
In addition to the Fund, the Keystone America Family consists of the following
funds having the various investment objectives described below:
KEYSTONE CAPITAL PRESERVATION AND INCOME FUND - Seeks high current income,
consistent with low volatility of principal, by investing in adjustable rate
securities issued by the U.S. government, its agencies or instrumentalities.
KEYSTONE FUND FOR TOTAL RETURN - Seeks total return from a combination of
capital growth and income from dividend paying quality common stocks, preferred
stocks, convertible bonds, other fixed-income securities and foreign securities
(up to 25%).
KEYSTONE GLOBAL OPPORTUNITIES FUND - Seeks long-term capital growth from foreign
and domestic securities.
KEYSTONE GOVERNMENT SECURITIES FUND - Seeks income and capital preservation from
U.S. government securities.
KEYSTONE AMERICA HARTWELL EMERGING GROWTH FUND, INC. - Seeks capital
appreciation by investment primarily in small and medium-sized companies in a
relatively early stage of development that are principally traded in the
over-the-counter market.
KEYSTONE HARTWELL GROWTH FUND - Seeks capital appreciation by investment in
securities selected for their long-term growth prospects.
KEYSTONE INTERMEDIATE TERM BOND FUND - Seeks income, capital preservation and
price appreciation potential from investment grade corporate bonds.
KEYSTONE OMEGA FUND - Seeks maximum capital growth from common stocks and
securities convertible into common stocks.
KEYSTONE STATE TAX FREE FUND - A mutual fund consisting of five separate series
of shares investing in different portfolio securities which seeks the highest
possible current income, exempt from federal income taxes and applicable state
taxes.
KEYSTONE STATE TAX FREE FUND - SERIES II - A mutual fund currently offering two
separate series of shares investing in different portfolio securities which
seeks the highest possible current income, exempt from federal income taxes and
applicable state taxes.
KEYSTONE STRATEGIC INCOME FUND - Seeks high yield and capital appreciation
potential from corporate bonds, discount bonds, convertible bonds, preferred
stock and foreign bonds (up to 25%).
KEYSTONE WORLD BOND FUND - Seeks total return from interest income, capital
gains and losses and currency exchange gains and losses from investment in debt
securities denominated in U.S. and foreign currencies.
KEYSTONE FUND OF THE AMERICAS - Seeks long term growth of capital through
investments in equity and debt securities in North America (the United States
and Canada) and Latin America (Mexico and countries in South and Central
America).
KEYSTONE STRATEGIC DEVELOPMENT FUND - Seeks long term capital growth by
investing primarily in equity securities.
KEYSTONE SMALL COMPANY GROWTH FUND II - Seeks long term capital growth through
investments primarily in equity securities of companies with small market
capitalizations.
10160719
<PAGE>
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APPENDIX
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MONEY MARKET INSTRUMENTS
Money market securities are instruments with remaining maturities of
one year or less such as bank certificates of deposit, bankers' acceptances,
commercial paper (including variable rate master demand notes) and obligations
issued or guaranteed by the U.S. government, its agencies or instrumentalities,
some of which may be subject to repurchase agreements.
COMMERCIAL PAPER
Commercial paper will consist of issues rated at the time of purchase
A-1, by S&P, or PRIME-1 by Moody's or F-1 by Fitch Investors Services, Inc.
(Fitch's); or, if not rated, will be issued by companies that have an
outstanding debt issue rated at the time of purchase Aaa, Aa or A by Moody's, or
AAA, AA or A by S&P, or will be determined by Keystone to be of comparable
quality.
A. S&P RATINGS
An S&P commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of no more than
365 days. Ratings are graded into four categories, ranging from "A" for the
highest quality obligations to "D" for the lowest. The top category is as
follows:
1. A: Issues assigned this highest rating are regarded as having the
greatest capacity for timely payment. Issues in this category are
delineated with the numbers 1, 2 and 3 to indicate the relative degree
of safety.
2. A-1: This designation indicates that the degree of safety regarding
timely payment is either overwhelming or very strong. Those issues
determined to possess overwhelming safety characteristics are denoted
with a plus (+) sign designation.
B. MOODY'S RATINGS
The term "commercial paper" as used by Moody's means promissory
obligations not having an original maturity in excess of nine months. Moody's
commercial paper ratings are opinions of the ability of issuers to repay
punctually promissory obligations not having an original maturity in excess of
nine months. Moody's employs the following designation, judged to be investment
grade, to indicate the relative repayment capacity of rated issuers.
1. The rating PRIME-1 is the highest commercial paper rating assigned
by Moody's. Issuers rated PRIME-1 (or related supporting institutions) are
deemed to have a superior capacity for repayment of short term promissory
obligations. Repayment capacity of PRIME-1 issuers is normally evidenced by the
following characteristics:
1) leading market positions in well-established industries;
2) high rates of return on funds employed;
3) conservative capitalization structures with moderate reliance on
debt and ample asset protection;
4) broad margins in earnings coverage of fixed financial charges and
high internal cash generation; and
5) well established access to a range of financial markets and
assured sources of alternate liquidity.
In assigning ratings to issuers whose commercial paper obligations are
supported by the credit of another entity or entities, Moody's evaluates the
financial strength of the affiliated corporations, commercial banks, insurance
companies, foreign governments or other entities, but only as one factor in the
total rating assessment.
CERTIFICATES OF DEPOSIT
Certificates of deposit are receipts issued by a bank in exchange for
the deposit of funds. The issuer agrees to pay the amount deposited plus
interest to the bearer of the receipt on the date specified on the certificate.
The certificate usually can be traded in the secondary market prior to maturity.
Certificates of deposit will be limited to U.S. dollar-denominated
certificates of U.S. banks, including their branches abroad, and of U.S.
branches of foreign banks that are members of the Federal Reserve System or the
Federal Deposit Insurance Corporation, and have at least $1 billion in deposits
as of the date of their most recently published financial statements; or of
savings and loan associations that are members of the Federal Savings and Loan
Insurance Corporation, and have at least $1 billion in deposits as of the date
of their most recent financial statements.
The Fund will not acquire time deposits or obligations issued by the
International Bank for Reconstruction and Development, (the "World Bank"), the
Asian Development Bank or the Inter-American Development Bank. Additionally, the
Fund does not currently intend to purchase foreign securities (except to the
extent that certificates of deposit of foreign branches of U.S. banks may be
deemed foreign securities) or purchase certificates of deposit, bankers'
acceptances or other similar obligations issued by foreign banks.
BANKERS' ACCEPTANCES
Bankers' acceptances typically arise from short-term credit
arrangements designed to enable businesses to obtain funds to finance commercial
transactions. Generally, an acceptance is a time draft drawn on a bank by an
exporter or an importer to obtain a stated amount of funds to pay for specific
merchandise. The draft is then "accepted" by the bank that, in effect,
unconditionally guarantees to pay the face value of the instrument on its
maturity date. The acceptance may then be held by the accepting bank as an
earning asset or it may be sold in the secondary market at the going rate of
discount for a specific maturity. Although maturities for acceptances can be as
long as 270 days, most acceptances have maturities of six months or less.
Bankers' acceptances acquired by the Fund must have been accepted by U.S.
commercial banks, including foreign branches of U.S. commercial banks, having
total deposits at the time of purchase in excess of $1 billion and must be
payable in U.S. dollars.
U.S. GOVERNMENT SECURITIES
Securities issued or guaranteed by the U.S. government include a
variety of Treasury securities that differ only in their interest rates,
maturities and dates of issuance and securities issued by the Government
National Mortgage Association ("GNMA"). Treasury bills have maturities of one
year or less. Treasury notes have maturities of one to ten years and Treasury
bonds generally have maturities of greater than ten years at the date of
issuance. GNMA securities include GNMA mortgage pass-through certificates. Such
securities are supported by the full faith and credit of the U.S.
Securities issued or guaranteed by U.S. government agencies or
instrumentalities include securities issued or guaranteed by the Federal Housing
Administration, Farmers Home Administration, Export-Import Bank of the U.S.,
Small Business Administration, General Services Administration, Central Bank for
Cooperatives, Federal Home Loan Banks, Federal Loan Mortgage Corporation,
Federal Intermediate Credit Banks, Federal Land Banks, Maritime Administration,
The Tennessee Valley Authority, District of Columbia Armory Board and Federal
National Mortgage Association.
Some obligations of U.S. government agencies and instrumentalities,
such as securities of Federal Home Loan Banks, are supported by the right of the
issuer to borrow from the Treasury. Others, such as bonds issued by the Federal
National Mortgage Association, a private corporation, are supported only by the
credit of the instrumentality. Because the U.S. government is not obligated by
law to provide support to an instrumentality it sponsors, the Fund will invest
in the securities issued by such an instrumentality only when Keystone
determines under standards established by the Board of Trustees that the credit
risk with respect to the instrumentality does not make its securities unsuitable
investments. U.S. government securities do not include international agencies or
instrumentalities in which the U.S. government, its agencies or
instrumentalities participate, such as the World Bank, Asian Development Bank or
the Inter-American Development Bank, or issues insured by the Federal Deposit
Insurance Corporation or Federal Savings and Loan Insurance Corporation.
CORPORATE AND MUNICIPAL BOND RATINGS
S&P CORPORATE AND MUNICIPAL BOND RATINGS
A. MUNICIPAL NOTES
An S&P note rating reflects the liquidity concerns and market access
risks unique to notes. Notes due in three years or less will likely receive a
note rating. Notes maturing beyond three years will most likely receive a
long-term debt rating. The following criteria are used in making that
assessment:
a. Amortization schedule (the larger the final maturity relative to
other maturities the more likely it will be treated as a note), and
b. Source of payment (the more dependent the issue is on the market
for its refinancing, the more likely it will be treated as a note).
Note ratings are as follows:
1. SP-1: Very strong or strong capacity to pay principal and interest.
Those issues determined to possess overwhelming safety characteristics
will be given a plus (+) designation.
2. SP-2: Satisfactory capacity to pay principal and interest.
3. SP-3: Speculative capacity to pay principal and interest.
B. TAX EXEMPT DEMAND BONDS
S&P assigns "dual" ratings to all long-term debt issues that have as
part of their provisions a demand or double feature.
The first rating addresses the likelihood of repayment of principal and
interest as due, and the second rating addresses only the demand feature. The
long-term debt rating symbols are used for bonds to denote the long-term
maturity and the commercial paper rating symbols are used to denote the put
option (for example, "AAA/A-1+"). For the newer "demand notes," S&P note rating
symbols, combined with the commercial paper symbols, are used (for example,
"SP-1+/A-1+").
C. CORPORATE AND MUNICIPAL BOND RATINGS
An S&P corporate or municipal bond rating is a current assessment of
the credit worthiness of an obligor, including obligors outside the U.S., with
respect to a specific obligation. This assessment may take into consideration
obligors such as guarantors, insurers or lessees. Ratings of foreign obligors do
not take into account currency exchange and related uncertainties. The ratings
are based on current information furnished by the issuer or obtained by S&P from
other sources it considers reliable.
The ratings are based, in varying degrees, on the following
considerations:
a. Likelihood of default capacity and willingness of the obligor as to
the timely payment of interest and repayment of principal in
accordance with the terms of the obligation;
b. Nature of and provisions of the obligation; and
c. Protection afforded by and relative position of the obligation in
the event of bankruptcy reorganization or other arrangement under the
laws of bankruptcy and other laws affecting creditors' rights.
PLUS (+) OR MINUS (-): To provide more detailed indications of credit
quality, ratings from "AA" to "BBB" may be modified by the addition of a plus or
minus sign to show relative standing within the major rating categories.
A provisional rating is sometimes used by S&P. It assumes the
successful completion of the project being financed by 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.
Bond ratings are as follows:
1. AAA - Debt rated AAA has the highest rating assigned by S&P.
Capacity to pay interest and repay principal is extremely strong.
2. AA - Debt rated AA has a very strong capacity to pay interest and
repay principal and differs from the higher rated issues only in a
small degree.
3. 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.
4. 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.
MOODY'S CORPORATE AND MUNICIPAL BOND RATINGS
Moody's ratings are as follows:
1. Aaa - Bonds that are rated Aaa are judged to be of the best quality.
They carry the smallest degree of investment risk and are generally
referred to as "gilt-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.
2. Aa - Bonds that 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 that make the long term risks
appear somewhat larger than in Aaa securities.
3. A - Bonds that 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 that suggest a susceptibility to
impairment sometime in the future.
4. Baa - Bonds that 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.
Moody's applies numerical modifiers, 1, 2 and 3 in each generic rating
classification from Aa through Baa in its corporate bond rating system. The
modifier 1 indicates that the security ranks in the higher end of its generic
rating category; the modifier 2 indicates a mid-range ranking; and the modifier
3 indicates that the issue ranks in the lower end of its generic rating
category.
CON. (---) - Municipal bonds for which the security depends upon the
completion of some act or the fulfillment of some condition are rated
conditionally. These are bonds secured by (a) earnings of projects under
construction, (b) earnings of projects unseasoned in operation experience, (c)
rentals which begin when facilities are completed, or (d) payments to which some
other limiting condition attaches. Parenthetical rating denotes probable credit
stature upon completion of construction or elimination of basis of condition.
Those municipal bonds in the Aa, A, and Baa groups that Moody's
believes possess the strongest investment attributes are designated by the
symbols Aa 1, A 1, and Baa 1.
FUTURES CONTRACTS AND RELATED OPTIONS TRANSACTIONS
The Fund intends to enter into currency and other financial futures
contracts as a hedge against changes in prevailing levels of interest or
currency exchange rates to seek relative stability of principal and to establish
more definitely the effective return on securities held or intended to be
acquired to the Fund or as a hedge against changes in the prices of securities
or currencies held by the Fund or to be acquired by the Fund. The Fund's hedging
may include sales of futures as an offset against the effect of expected
increases in interest or currency exchange rates or securities prices and
purchases of futures as an offset against the effect of expected declines in
interest or currency exchange rates.
For example, when the Fund anticipates a significant market or market
sector advance, it will purchase a stock index futures contract as a hedge
against not participating in such advance at a time when the Fund is not fully
invested. The purchase of a futures contract serves as a temporary substitute
for the purchase of individual securities which may then be purchased in an
orderly fashion. As such purchases are made, an equivalent amount of index based
futures contracts would be terminated by offsetting sales. In contrast, the Fund
would sell stock index futures contracts in anticipation of or in a general
market or market sector decline that may adversely affect the market value of
the Fund's portfolio. To the extent that the Fund's portfolio changes in value
in correlation with a given index, the sale of futures contracts on that index
would substantially reduce the risk to the portfolio of a market decline or
change in interest rates, and, by doing so, provide an alternative to the
liquidation of the Fund's securities positions and the resulting transaction
costs.
The Fund intends to engage in options transactions that are related to
currency and other financial futures contracts for hedging purposes and in
connection with the hedging strategies described above.
Although techniques other than sales and purchases of futures contracts
and related options transactions could be used to reduce the Fund's exposure to
interest rate and/or market fluctuations, the Fund may be able to hedge its
exposure more effectively and perhaps at a lower cost through using futures
contracts and related options transactions. While the Fund does not intend to
take delivery of the instruments underlying futures contracts it holds, the Fund
does not intend to engage in such futures contracts for speculation.
FUTURES CONTRACTS
Futures contracts are transactions in the commodities markets rather
than in the securities markets. A futures contract creates an obligation by the
seller to deliver to the buyer the commodity specified in the contract at a
specified future time for a specified price. The futures contract creates an
obligation by the buyer to accept delivery from the seller of the commodity
specified at the specified future time for the specified price. In contrast, a
spot transaction creates an immediate obligation for the seller to deliver and
the buyer to accept delivery of and pay for an identified commodity. In general,
futures contracts involve transactions in fungible goods such as wheat, coffee
and soybeans. However, in the last decade an increasing number of futures
contracts have been developed that specify currencies, financial instruments or
financially based indexes as the underlying commodity.
U.S. futures contracts are traded only on national futures exchanges
and are standardized as to maturity date and underlying financial instrument.
The principal financial futures exchanges in the United States are The Board of
Trade of the City of Chicago, the Chicago Mercantile Exchange, the International
Monetary Market (a division of the Chicago Mercantile Exchange), the New York
Futures Exchange and the Kansas City Board of Trade. Each exchange guarantees
performance under contract provisions through a clearing corporation, a
nonprofit organization managed by the exchange membership, which is also
responsible for handling daily accounting of deposits or withdrawals of margin.
A futures commission merchant ("Broker") effects each transaction in connection
with futures contracts for a commission. Futures exchanges and trading are
regulated under the Commodity Exchange Act by the Commodity Futures Trading
Commission ("CFTC") and National Futures Association ("NFA").
INTEREST RATE FUTURES CONTRACTS
The sale of an interest rate futures contract creates an obligation by
the Fund, as seller, to deliver the type of financial instrument specified in
the contract at a specified future time for a specified price. The purchase of
an interest rate futures contract creates an obligation by the Fund, as
purchaser, to accept delivery of the type of financial instrument specified at a
specified future time for a specified price. The specific securities delivered
or accepted, respectively, at settlement date, are not determined until at or
near that date. The determination is in accordance with the rules of the
exchange on which the futures contract sale or purchase was made.
Currently interest rate futures contracts can be purchased or sold on
90-day U.S. Treasury bills, U.S. Treasury bonds, U.S. Treasury notes with
maturities between 6 1/2 and 10 years, GNMA certificates, 90-day domestic bank
certificates of deposit, 90-day Commercial paper, and 90-day Eurodollar
certificates of deposit. It is expected that futures contracts trading in
additional financial instruments will be authorized. The standard contract size
is $100,000 for futures contracts in U.S. Treasury bonds, U.S. Treasury notes
and GNMA certificates, and $1,000,000 for the other designated contracts. While
U.S. Treasury bonds, U.S. Treasury bills and U.S. Treasury notes are backed by
the full faith and credit of the U.S. government and GNMA certificates are
guaranteed by a U.S. government agency, the futures contracts in U.S. government
securities are not obligations of the U.S. Treasury.
INDEX BASED FUTURES CONTRACTS
STOCK INDEX FUTURES CONTRACTS
A stock index assigns relative values to the common stocks included in
the index. The index fluctuates with changes in the market values of the common
stocks so included. A stock index futures contract is a bilateral agreement by
which two parties agree to take or make delivery of an amount of cash equal to a
specified dollar amount times the difference between the closing value of the
stock index on the expiration date of the contract and the price at which the
futures contract is originally made. No physical delivery of the underlying
stocks in the index is made.
Currently stock index futures contracts can be purchased or sold on the
S&P Index of 500 Stocks, the S&P Index of 100 Stocks, the New York Stock
Exchange Composite Index, the Value Line Index and the Major Market Index. It is
expected that futures contracts trading in additional stock indices will be
authorized. The standard contract size is $500 times the value of the index.
The Fund does not believe that differences between existing stock
indices will create any differences in the price movements of the stock index
futures contracts in relation to the movements in such indices. However, such
differences in the indices may result in differences in correlation of the
futures with movements in the value of the securities being hedged.
OTHER INDEX BASED FUTURES CONTRACTS
It is expected that bond index and other financially based index
futures contracts will be developed in the future. It is anticipated that such
index based futures contracts will be structured in the same way as stock index
futures contracts but will be measured by changes in interest rates, related
indexes or other measures, such as the consumer price index. In the event that
such futures contracts are developed the Fund will sell interest rate index and
other index based futures contracts to hedge against changes which are expected
to affect the Fund's portfolio.
The purchase or sale of a futures contract differs from the purchase or
sale of a security, in that no price or premium is paid or received. Instead, to
initiate trading an amount of cash, cash equivalents, money market instruments,
or U.S. Treasury bills equal to approximately 1 1/2% (up to 5%) of the contract
amount must be deposited by the Fund with the Broker. This amount is known as
initial margin. The nature of initial margin in futures transactions is
different from that of margin in security transactions. Futures contract margin
does not involve the borrowing of funds by the customer to finance the
transactions. Rather, the initial margin is in the nature of a performance bond
or good faith deposit on the contract which is returned to the Fund upon
termination of the futures contract assuming all contractual obligations have
been satisfied. The margin required for a particular futures contract is set by
the exchange on which the contract is traded and may be significantly modified
from time to time by the exchange during the term of the contract.
Subsequent payments, called variation margin, to the Broker and from
the Broker, are made on a daily basis as the value of the underlying instrument
or index fluctuates making the long and short positions in the futures contract
more or less valuable, a process known as mark-to-market. For example, when the
Fund has purchased a futures contract and the price of the underlying financial
instrument or index has risen, that position will have increased in value, and
the Fund will receive from the Broker a variation margin payment equal to that
increase in value. Conversely, where the Fund has purchased a futures contract
and the price of the underlying financial instrument or index has declined, the
position would be less valuable and the Fund would be required to make a
variation margin payment to the Broker. At any time prior to expiration of the
futures contract, the Fund may elect to close the position. A final
determination of variation margin is then made, additional cash is required to
be paid to or released by the Broker, and the Fund realizes a loss or gain.
The Fund intends to enter into arrangements with its custodian and with
Brokers to enable its initial margin and any variation margin to be held in a
segregated account by its custodian on behalf of the Broker.
Although interest rate futures contracts by their terms call for actual
delivery or acceptance of financial instruments, and index based futures
contracts call for the delivery of cash equal to the difference between the
closing value of the index on the expiration date of the contract and the price
at which the futures contract is originally made, in most cases such futures
contracts are closed out before the settlement date without the making or taking
of delivery. Closing out a futures contract sale is effected by an offsetting
transaction in which the Fund enters into a futures contract purchase for the
same aggregate amount of the specific type of financial instrument or index and
same delivery date. If the price in the sale exceeds the price in the offsetting
purchase, the Fund is paid the difference and thus realizes a gain. If the
offsetting purchase price exceeds the sale price, the Fund pays the difference
and realizes a loss. Similarly, the closing out of a futures contract purchase
is effected by an offsetting transaction in which the Fund enters into a futures
contract sale. If the offsetting sale price exceeds the purchase price, the Fund
realizes a gain. If the purchase price exceeds the offsetting sale price the
Fund realizes a loss. The amount of the Fund's gain or loss on any transaction
is reduced or increased, respectively, by the amount of any transaction costs
incurred by the Fund.
As an example of an offsetting transaction, the contractual obligations
arising from the sale of one contract of September U.S. Treasury bills on an
exchange may be fulfilled at any time before delivery of the contract is
required (i.e. on a specified date in September, the "delivery month") by the
purchase of one contract of September U.S. Treasury bills on the same exchange.
In such instance the difference between the price at which the futures contract
was sold and the price paid for the offsetting purchase after allowance for
transaction costs, represents the profit or loss to the Fund.
There can be no assurance, however, that the Fund will be able to enter
into an offsetting transaction with respect to a particular contract at a
particular time. If the Fund is not able to enter into an offsetting
transaction, the Fund will continue to be required to maintain the margin
deposits on the contract and to complete the contract according to its terms.
OPTIONS ON CURRENCY AND OTHER FINANCIAL FUTURES
The Fund intends to purchase call and put options on currency and other
financial futures contracts and sell such options to terminate an existing
position. Options on futures are similar to options on stocks except that an
option on a futures contract gives the purchaser the right, in return for the
premium paid, to assume a position in a futures contract (a long position if the
option is a call and a short position if the option is a put) rather than to
purchase or sell stock, at a specified exercise price at any time during the
period of the option. Upon exercise of the option, the delivery of the futures
position by the writer of the option to the holder of the option will be
accompanied by delivery of the accumulated balance in the writer's futures
margin account. This amount represents the amount by which the market price of
the futures contract at exercise exceeds, in the case of a call, or is less
than, in the case of a put, the exercise price of the option on the futures
contract. If an option is exercised the last trading day prior to the expiration
date of the option, the settlement will be made entirely in cash equal to the
difference between the exercise price of the option and value of the futures
contract.
The Fund intends to use options on currency and other financial futures
contracts in connection with hedging strategies. In the future the Fund may use
such options for other purposes.
PURCHASE OF PUT OPTIONS ON FUTURES CONTRACTS
The purchase of protective put options on currency and other financial
futures contracts is analogous to the purchase of protective puts on individual
stocks, where an absolute level of protection is sought below which no
additional economic loss would be incurred by the Fund. Put options may be
purchased to hedge a portfolio of stocks or debt instruments or a position in
the futures contract upon which the put option is based.
PURCHASE OF CALL OPTIONS ON FUTURES CONTRACTS
The purchase of a call option on a currency and other financial futures
contract represents a means of obtaining temporary exposure to market
appreciation at limited risk. It is analogous to the purchase of a call option
on an individual stock, which can be used as a substitute for a position in the
stock itself. Depending on the pricing of the option compared to either the
futures contract upon which it is based, or upon the price of the underlying
financial instrument or index itself, purchase of a call option may be less
risky than the ownership of the interest rate or index based futures contract or
the underlying securities. Call options on commodity futures contracts may be
purchased to hedge against an interest rate increase or a market advance when
the Fund is not fully invested.
USE OF NEW INVESTMENT TECHNIQUES INVOLVING CURRENCY AND OTHER FINANCIAL FUTURES
CONTRACTS OR RELATED OPTIONS
The Fund may employ new investment techniques involving currency and
other financial futures contracts and related options. The Fund intends to take
advantage of new techniques in these areas which may be developed from time to
time and which are consistent with the Fund's investment objective. The Fund
believes that no additional techniques have been identified for employment by
the Fund in the foreseeable future other than those described above.
LIMITATIONS ON PURCHASE AND SALE OF FUTURES CONTRACTS AND RELATED OPTIONS ON
SUCH FUTURES CONTRACTS
The Fund will not enter into a futures contract if, as a result
thereof, more than 5% of the Fund's total assets (taken at market value at the
time of entering into the contract) would be committed to margin deposits on
such futures contracts.
The Fund intends that its futures contracts and related options
transactions will be entered into for traditional hedging purposes. That is,
futures contracts will be sold to protect against a decline in the price of
securities that the Fund owns, or futures contracts will be purchased to protect
the Fund against an increase in the price of securities it intends to purchase.
The Fund does not intend to enter into futures contracts for speculation.
In instances involving the purchase of futures contracts by the Fund,
an amount of cash and cash equivalents, equal to the market value of the futures
contracts will be deposited in a segregated account with the Fund's custodian
and/or in a margin account with a Broker to collateralize the position and
thereby insure that the use of such futures is unleveraged.
FEDERAL INCOME TAX TREATMENT
For federal income tax purposes, the Fund is required to recognize as
income for each taxable year its net unrealized gains and losses on futures
contracts as of the end of the year as well as those actually realized during
the year. Any gain or loss recognized with respect to a futures contract is
considered to be 60% long term and 40% short term, without regard to the holding
period of the contract. In the case of a futures transaction classified as a
"mixed straddle," the recognition of losses may be deferred to a later taxable
year. The federal income tax treatment of gains or losses from transactions in
options on futures is unclear.
In order for the Fund to continue to qualify for federal income tax
treatment as a regulated investment company, at least 90% of its gross income
for a taxable year must be derived from qualifying income. Any net gain realized
from the closing out of futures contracts, for purposes of the 90% requirement,
will be qualifying income. In addition, gains realized on the sale or other
disposition of securities held for less than three months must be limited to
less than 30% of the Fund's annual gross income. The 1986 Tax Act added a
provision which effectively treats both positions in certain hedging
transactions as a single transaction for the purpose of the 30% requirement. The
provision provides that, in the case of any "designated hedge," increases and
decreases in the value of positions of the hedge are to be netted for the
purposes of the 30% requirement. However, in certain situations, in order to
avoid realizing a gain within a three month period, the Fund may be required to
defer the closing out of a contract beyond the time when it would otherwise be
advantageous to do so.
RISKS OF FUTURES CONTRACTS
Currency and other financial futures contracts prices are volatile and
are influenced, among other things, by changes in stock prices, market
conditions, prevailing interest rates and anticipation of future stock prices,
market movements or interest rate changes, all of which in turn are affected by
economic conditions, such as government fiscal and monetary policies and
actions, and national and international political and economic events.
At best, the correlation between changes in prices of futures contracts
and of the securities being hedged can be only approximate. The degree of
imperfection of correlation depends upon circumstances, such as variations in
speculative market demand for futures contracts and for securities, including
technical influences in futures contracts trading; differences between the
securities being hedged and the financial instruments and indexes underlying the
standard futures contracts available for trading, in such respects as interest
rate levels, maturities and credit worthiness of issuers, or identities of
securities comprising the index and those in the Fund's portfolio. In addition
futures contract transactions involve the remote risk that a party be unable to
fulfill its obligations and that the amount of the obligation will be beyond the
ability of the clearing broker to satisfy. A decision of whether, when and how
to hedge involves the exercise of skill and judgment, and even a well-conceived
hedge may be unsuccessful to some degree because of market behavior or
unexpected interest rate trends.
Because of the low margin deposits required, futures trading involves
an extremely high degree of leverage. As a result, a relatively small price
movement in a futures contract may result in immediate and substantial loss, as
well as gain, to the investor. For example, if at the time of purchase, 10% of
the value of the futures contract is deposited as margin, a 10% decrease in the
value of the futures contract would result in a total loss of the margin
deposit, before any deduction for the transaction costs, if the account were
then closed out, and a 15% decrease would result in a loss equal to 150% of the
original margin deposit. Thus, a purchase or sale of a futures contract may
result in losses in excess of the amount invested in the futures contract.
However, the Fund would presumably have sustained comparable losses if, instead
of entering into the futures contract, it had invested in the underlying
financial instrument. Furthermore, in order to be certain that the Fund has
sufficient assets to satisfy its obligations under a futures contract, the Fund
will establish a segregated account in connection with its futures contracts
that will hold cash or cash equivalents equal in value to the current value of
the underlying instruments or indices less the margins on deposit.
Most U.S. futures exchanges limit the amount of fluctuation permitted
in futures contract prices during a single trading day. The daily limit
establishes the maximum amount that the price of a futures contract may vary
either up or down from the previous day's settlement price at the end of a
trading session. Once the daily limit has been reached in a particular type of
contract, no trades may be made on that day at a price beyond that limit. The
daily limit governs only price movement during a particular trading day and
therefore does not limit potential losses because the limit may prevent the
liquidation of unfavorable positions. Futures contract prices have occasionally
moved to the daily limit for several consecutive trading days with little or no
trading, thereby preventing prompt liquidation of futures positions and
subjecting some futures traders to substantial losses.
RISKS OF OPTIONS ON FUTURES CONTRACTS
In addition to the risks described above for currency and other
financial futures contracts, there are several special risks relating to options
on futures contracts. The ability to establish and close out positions on such
options will be subject to the development and maintenance of a liquid secondary
market. There is no assurance that a liquid secondary market will exist for any
particular contract or at any particular time. The Fund will not purchase
options on any futures contract unless and until it believes that the market for
such options has developed sufficiently that the risks in connection with such
options are not greater than the risks in connection with the futures contracts.
Compared to the use of futures contracts, the purchase of options on such
futures involves less potential risk to the Fund because the maximum amount at
risk is the premium paid for the options (plus transaction costs). However,
there may be circumstances when the use of an option on a futures contract would
result in a loss to the Fund, even though the use of a futures contract would
not, such as when there is no movement in the level of the futures contract.
FOREIGN CURRENCY TRANSACTIONS
The Fund may invest in securities of foreign issuers. When the Fund
invests in foreign securities they usually will be denominated in foreign
currencies and the Fund temporarily may hold funds in foreign currencies.
Thus, the value of a Fund share will be affected by changes in exchange rates.
FORWARD CURRENCY CONTRACTS
As one way of managing exchange rate risk, the Fund may enter into
forward currency exchange contracts (agreements to purchase or sell currencies
at a specified price and date). Under the contract, the exchange rate for the
transaction (the amount of currency the Fund will deliver or receive when the
contract is completed) is fixed when the Fund enters into the contract. The Fund
usually will enter into these contracts to stabilize the U.S. dollar value of a
security it has agreed to buy or sell. The Fund also may use these contracts to
hedge the U.S. dollar value of a security it already owns, particularly if the
Fund expects a decrease in the value of the currency in which the foreign
security is denominated. Although the Fund will attempt to benefit from using
forward contracts, the success of its hedging strategy will depend on Keystone's
ability to predict accurately the future exchange rate between foreign
currencies and the U.S. dollar. The value of the Fund's investments denominated
in foreign currencies will depend on the relative strength of those currencies
and the U.S. dollar, and the Fund may be affected favorably or unfavorably by
changes in the exchange rate or exchange control regulations between foreign
currencies and the dollar. Changes in foreign currency exchange rates also may
affect the value of dividends and interest earned, gains and losses realized on
the sale of securities and net investment income and gains, if any, to be
distributed to shareholders by the Fund.
CURRENCY FUTURES CONTRACTS
Currency futures contracts are bilateral agreements under which two
parties agree to take or make delivery of a specified amount of a currency at a
specified future time for a specified price. Trading of currency futures
contracts in the United States is regulated under the Commodity Exchange Act by
the CFTC and NFA. Currently the only national futures exchange on which currency
futures are traded is the International Monetary Market of the Chicago
Mercantile Exchange. Foreign currency futures trading is conducted in the same
manner and subject to the same regulations as trading in interest rate and index
based futures. The Fund intends to only engage in currency futures contracts for
hedging purposes, and not for speculation. The Fund may engage in currency
futures contracts for other purposes if authorized to do so by the Board. The
hedging strategies which will be used by the Fund in connection with foreign
currency futures contracts are similar to those described above for forward
foreign currency exchange contracts.
Currently, currency futures contracts for the British Pound Sterling,
Canadian Dollar, Dutch Guilder, Deutsche Mark, Japanese Yen, Mexican Peso, Swiss
Franc, and French Franc can be purchased or sold for U.S. dollars through the
International Monetary Market. It is expected that futures contracts trading in
additional currencies will be authorized. The standard contract sizes are
L125,000 for the Pound, 125,000 for the Guilder, Mark and Swiss Francs,
C$100,000 for the Canadian Dollar, Y12,500,000 for the Yen, and 1,000,000 for
the Peso. In contrast to Forward Currency Exchange Contracts which can be traded
at any time, only four value dates per year are available, the third Wednesday
of March, June, September and December.
FOREIGN CURRENCY OPTIONS TRANSACTIONS
Foreign currency options (as opposed to futures) are traded in a
variety of currencies in both the United States and Europe. On the Philadelphia
Stock Exchange, for example, contracts for half the size of the corresponding
futures contracts on the Chicago Board Options Exchange are traded with up to
nine months maturity in marks, sterling, yen, Swiss Francs, and Canadian
dollars. Options can be exercised at any time during the contract life, and
require a deposit subject to normal margin requirements. Since a futures
contract must be exercised, the Fund must continually make up the margin
balance. As a result, a wrong price move could result in the Fund losing more
than the original investment, as it cannot walk away from the futures contract
as it can an option contract.
The Fund will purchase call and put options and sell such options to
terminate an existing position. Options on foreign currency are similar to
options on stocks except that an option on an interest rate and/or index based
futures contract gives the purchaser the right, in return for the premium paid,
to purchase or sell foreign currency, rather than to purchase or sell stock, at
a specified exercise price at any time during the period of the option.
The Fund intends to use foreign currency option transactions in
connection with hedging strategies.
PURCHASE OF PUT OPTIONS ON FOREIGN CURRENCIES
The purchase of protective put options on a foreign currency is
analogous to the purchase of protective puts on individual stocks, where an
absolute level of protection is sought below which no additional economic loss
would be incurred by the Fund. Put options may be purchased to hedge a portfolio
of foreign stocks or foreign debt instruments or a position in the foreign
currency upon which the put option is based.
PURCHASE OF CALL OPTIONS ON FOREIGN CURRENCIES
The purchase of a call option on foreign currency represents a means of
obtaining temporary exposure to market appreciation at limited risk. It is
analogous to the purchase of a call option on an individual stock, which can be
used as a substitute for a position in the stock itself. Depending on the
pricing of the option compared to either the foreign currency upon which it is
based, or upon the price of the foreign stock or foreign debt instruments,
purchase of a call option may be less risky than the ownership of the foreign
currency or the foreign securities. The Fund would purchase a call option on a
foreign currency to hedge against an increase in the foreign currency or a
foreign market advance when the Fund is not fully invested.
The Fund may employ new investment techniques involving forward foreign
currency exchange contracts, foreign currency futures contracts and options on
foreign currencies in order to take advantage of new techniques in these areas
which may be developed from time to time and which are consistent with the
Fund's investment objective. The Fund believes that no additional techniques
have been identified for employment by the Fund in the foreseeable future other
than those described above.
CURRENCY TRADING RISKS
Currency exchange trading may involve significant risks. The four major
types of risk the Fund faces are exchange rate risk, interest rate risk, credit
risk and country risk.
EXCHANGE RATE RISK
Exchange rate risk results from the movement up and down of foreign
currency values in response to shifting market supply and demand. When the Fund
buys or sells a foreign currency, an exposure called an open position is
created. Until the time that position can be "covered" by selling or buying an
equivalent amount of the same currency, the Fund is exposed to the risk that the
exchange rate might move against it. Since exchange rate changes can readily
move in one direction, a position carried overnight or over a number of days
involves greater risk than one carried a few minutes or hours. Techniques such
as foreign currency forward and futures contracts and options on foreign
currency are intended to be used by the Fund to reduce exchange rate risk.
MATURITY GAPS AND INTEREST RATE RISK
Interest rate risk arises whenever there are mismatches or gaps in the
maturity structure of the Fund's foreign exchange currency holdings, which is
the total of its outstanding spot and forward or futures contracts.
Foreign currency transactions often involve borrowing short term and
lending longer term to benefit from the normal tendency of interest rates to be
higher for longer maturities. However in foreign exchange trading, while the
maturity pattern of interest rates for one currency is important, it is the
differential between interest rates for two currencies that is decisive.
CREDIT RISK
Whenever the Fund enters into a foreign exchange contract, it faces a
risk, however small, that the counter party will not perform under the contract.
As a result there is a credit risk, although no extension of "credit" is
intended. To limit credit risk, the Fund intends to evaluate the credit
worthiness of each other party. The Fund does not intend to trade more than 5%
of its net assets under foreign exchange contracts with one party.
Credit risk exists because the Fund's counter party may be unable or
unwilling to fulfill its contractual obligations as a result of bankruptcy or
insolvency or when foreign exchange controls prohibit payment. In any foreign
exchange transaction, each party agrees to deliver a certain amount of currency
to the other on a particular date. In establishing its hedges, a Fund relies on
each contract being completed. If the contract is not performed, then the Fund's
hedge is eliminated, and the Fund is exposed to any changes in exchange rates
since the contract was originated. To put itself in the same position it would
have been in had the contract been performed, the Fund must arrange a new
transaction. However, the new transaction may have to be arranged at an adverse
exchange rate. The trustee for a bankrupt company may elect to perform those
contracts that are advantageous to the company but disclaim those contracts that
are disadvantageous, resulting in losses to the Fund.
Another form of credit risk stems from the time zone differences
between the U.S. and foreign nations. If the Fund sells sterling it generally
must pay pounds to a counter party earlier in the day than it will be credited
with dollars in New York. In the intervening hours, the buyer can go into
bankruptcy or can be declared insolvent. Thus, the dollars may never be credited
to the Fund.
COUNTRY RISK
At one time or another, virtually every country has interfered with
international transactions in its currency. Interference has taken the form of
regulation of the local exchange market, restrictions on foreign investment by
residents, or limits on inflows of investment funds from abroad. Governments
take such measures, for example, to improve control over the domestic banking
system, or to influence the pattern of receipts and payments between residents
and foreigners. In those cases, restrictions on the exchange market or on
international transactions are intended to affect the level or movement of the
exchange rate. Occasionally a serious foreign exchange shortage may lead to
payments interruptions or debt servicing delays, as well as interference in the
exchange market. It has become increasingly difficult to distinguish foreign
exchange or credit risk from country risk.
Changes in regulations or restrictions usually do have an important
exchange market impact. Most disruptive are changes in rules which interfere
with the normal payments mechanism. If government regulations change and a
counterparty is either forbidden to perform or is required to do something
extra, then the Fund might be left with an unintended open position or an
unintended maturity mismatch. Dealing with such unintended long or short
positions could result in unanticipated costs to the Fund.
Other changes in official regulations influence international
investment transactions. If one of the factors affecting the buying or selling
of a currency changes, the exchange rate is likely to respond. Changes in such
controls often are unpredictable and can create a significant exchange rate
response.
Many major countries have moved toward liberalization of exchange and
payments restrictions in recent years or accepted the principle that
restrictions should be relaxed. A few industrial countries have moved in the
other direction. Important liberalizations were carried out by Switzerland, the
United Kingdom and Japan. They dismantled mechanisms for restricting either
foreign exchange inflows (Switzerland), outflows (Britain), or elements of both
(Japan). By contrast, France and Mexico have recently tightened foreign exchange
controls.
Overall, many exchange markets are still heavily restricted. Several
countries limit access to the forward market to companies financing documented
export or import transactions in an effort to insulate the market from purely
speculative activities. Some of these countries permit local traders to enter
into forward contracts with residents but prohibit certain forward transactions
with nonresidents. By comparison, other countries have strict controls on
exchange transactions by residents, but permit free exchange transactions
between local traders and non-residents. A few countries have established tiered
markets, funneling commercial transactions through one market and financial
transactions through another. Outside the major industrial countries, relatively
free foreign exchange markets are rare and controls on foreign currency
transactions are extensive.
Another aspect of country risk has to do with the possibility that the
Fund may be dealing with a foreign trader whose home country is facing a
payments problem. Even though the foreign trader intends to perform on its
foreign exchange contracts, the contracts are tied to other external liabilities
the country has incurred. As a result, performance may be delayed and can result
in unanticipated cost to the Fund. This aspect of country risk is a major
element in the Fund's credit judgment as to with whom it will deal and in what
amounts.
10160712
<PAGE>
SCHEDULE OF INVESTMENTS--November 30, 1995
Coupon Maturity Principal Market
Rate Date Amount Value
- ------------------------- ------ --------- --------- -------------
MUNICIPAL BONDS (97.1%)
ALABAMA
Alabama Housing Finance
Agency, Single Family
Mortgage 10.750% 06/01/2013 $ 395,000 $ 424,578
ALASKA
Alaska Housing Finance
Corp., Collateralized
Home Mortgage 8.750 12/01/2016 1,105,000 1,155,311
North Slope Borough,
Alaska, General
Obligation Refunding,
Series G (ETM) 8.350 06/30/1998 450,000 492,485
CALIFORNIA
California Educational
Facilities Authority,
Stanford University
Project, Series H 5.000 01/01/2015 1,250,000 1,182,038
California Housing
Finance Agency, Home
Mortgage Revenue,
Single Family, Series B 8.600 08/01/2019 185,000 195,158
Los Angeles, California,
Public Works Finance
Authority, Multi
Capital Facilities
Project (MBIA) 5.250 12/01/2016 1,000,000 970,260
San Diego County,
California, Water
Revenue Certificates 5.681 04/23/2008 750,000 790,065
San Joaquin Hills,
California,
Transportation Corridor
Agency, Toll
Road Revenue 6.750 01/01/2032 1,000,000 1,038,680
San Joaquin Hills,
California,
Transportation Corridor
Agency, Toll
Road Revenue
(effective yield
7.750%) (a) 0.000 01/01/2020 2,000,000 431,360
Southern California
Public Power Authority,
Palo Verde Project,
Series C (AMBAC) 5.750 07/01/2017 1,000,000 1,076,280
COLORADO
City and County of
Denver, Colorado,
Airport System, Series
A 7.000 11/15/1999 1,250,000 1,335,216
City and County of
Denver, Colorado,
Airport System, Series
A 8.000 11/15/2025 1,000,000 1,116,790
City and County of
Denver, Colorado,
Airport System, Series
A 8.750 11/15/2023 750,000 878,303
City and County of
Denver, Colorado,
Airport System, Series
A 7.250 11/15/2025 1,000,000 1,085,680
City and County of
Denver, Colorado,
Airport System, Series
B 7.250 11/15/2012 750,000 812,025
City and County of
Denver, Colorado,
Airport System, Series
D 7.750 11/15/2013 1,100,000 1,337,215
Colorado Housing Finance
Authority, Single
Family Residential
Revenue, Series C 8.750 09/01/2017 545,000 569,078
Jefferson County,
Colorado, Single Family
Refunding, Series A
(MBIA) 8.875 10/01/2013 170,000 184,032
CONNECTICUT
Connecticut Special Tax
Obligation, Revenue
Transportation
Infrastructure Series
(MBIA) 5.375 09/01/2008 1,000,000 1,025,780
DELAWARE
Delaware Health
Facilities Authority,
Medical Center of
Delaware (MBIA) 6.250 10/01/2006 1,000,000 1,121,200
DISTRICT OF COLUMBIA
District of Columbia,
General Obligation
(AMBAC) 5.400 06/01/2006 1,000,000 1,020,810
FLORIDA
Dade County, Florida,
School District (MBIA) 5.000 08/01/2013 1,000,000 951,170
Florida State Turnpike
Authority, Series A
(FGIC) 5.000 07/01/2014 2,000,000 1,899,580
Jacksonville, Florida,
Electric Authority
Revenue, St. John's
River Project 5.250 10/01/2020 1,950,000 1,876,817
See Notes to Schedule of Investments. (continued on next page)
9
<PAGE>
Keystone Tax Free Income Fund
SCHEDULE OF INVESTMENTS--November 30, 1995
Coupon Maturity Principal Market
Rate Date Amount Value
- ------------------------- ------ --------- --------- -------------
FLORIDA--continued
Orange County, Florida,
Health Facilities
Authority, Adventist
Health System 5.750% 11/15/2025 $1,500,000 $1,509,090
Orange County, Florida,
Housing Finance
Authority, Florida,
GNMA Collateralized
Mortgage Revenue
Refunding 8.400 12/01/2018 300,000 315,861
Orange County, Florida,
Housing Finance
Authority, Mortgage
Revenue Refunding 8.100 11/01/2021 735,000 777,637
Orlando, Florida,
Utilities Commission,
Water and Electric
Revenue 6.000 10/01/2010 150,000 162,881
Palm Beach County,
Florida, Health
Facilities Authority,
Good Samaritan Health
Systems 6.200 10/01/2011 1,500,000 1,554,195
Palm Beach County,
Florida, Solid Waste
Authority,
Adjustable/Fixed
Rate Revenue 8.750 07/01/2010 55,000 59,930
Palm Beach County,
Florida, Solid Waste
Industrial Development,
Okeelanta Power Project 6.850 02/15/2021 2,000,000 2,043,320
Palm Beach County,
Florida, Solid Waste
Industrial Development
(Osceola Power) 6.950 01/01/2022 2,750,000 2,835,168
Sarasota County, Florida,
Utility Systems Revenue
(FGIC) 6.500 10/01/2022 1,000,000 1,107,190
Tallahassee, Florida,
Health Facilities,
Tallahassee Memorial
Regional Medical
Project (MBIA) 6.625 12/01/2013 2,640,000 2,978,923
Tampa, Florida,
Subordinated Guaranteed
Entitlement Revenue,
Series 1988B 8.400 10/01/2008 1,065,000 1,186,378
ILLINOIS
Chicago, Illinois, Gas
Supply Revenue
(People's Gas, Light
and Coke Co.), Series A 8.100 05/01/2020 910,000 1,027,581
Illinois Educational
Facilities Authority,
Wesleyan University 5.625 09/01/2018 1,500,000 1,491,330
Illinois Health
Facilities Authority,
Community Hospital,
Ottawa Project 6.850 08/15/2024 1,500,000 1,540,725
Illinois Health
Facilities Authority,
United Medical Center 8.375 07/01/2012 1,000,000 1,233,260
Quincy, Illinois,
Blessing Hospital
Revenue 6.000 11/15/2018 750,000 733,448
Robbins, Illinois,
Robbins Resources
Recovery 9.250 10/15/2014 1,000,000 1,079,590
LOUISIANA
Louisiana Public
Facilities Authority,
Prerefunded Health and
Education 7.900 12/01/2015 235,000 263,686
Louisiana Public
Facilities Authority,
West Jefferson Medical
Center (MBIA) 7.900 12/01/2015 1,455,000 1,607,877
MARYLAND
Maryland State Community
Development
Administration 8.125 04/01/2017 395,000 412,451
MASSACHUSETTS
Boston, Massachusetts,
Metropolitan District,
General Obligation 5.900 12/01/2009 1,595,000 1,701,482
Massachusetts Bay
Transportation
Authority 7.000 03/01/2021 1,750,000 2,085,090
Massachusetts Bay
Transportation
Authority, Series A 6.250 03/01/2012 2,000,000 2,190,780
Massachusetts Bay
Transportation
Authority, Series A 7.000 03/01/2011 1,000,000 1,168,990
Massachusetts General
Obligation (FGIC)
(effective yield
7.000%) (a) 0.000 06/01/2007 400,000 228,088
Massachusetts Health and
Educational Facilities
Authority, Daughters of
Charity, Series D 6.100 07/01/2014 600,000 624,594
See Notes to Schedule of Investments.
10
<PAGE>
SCHEDULE OF INVESTMENTS--November 30, 1995
Coupon Maturity Principal Market
Rate Date Amount Value
- ------------------------- ------ --------- --------- -------------
MASSACHUSETTS--continued
Massachusetts Health and
Educational Facilities
Authority, Mount Auburn
Hospital (MBIA) 6.250% 08/15/2014 $ 500,000 $ 531,630
Massachusetts Housing
Finance Agency (MBIA) 5.950 12/01/2014 850,000 860,880
Massachusetts Housing
Finance Agency, Housing
Revenue 9.000 12/01/2018 305,000 320,345
Massachusetts Housing
Finance Agency,
Multi-family
Residential Housing 8.800 08/01/2021 250,000 260,530
Massachusetts Housing
Finance Agency,
Residential Housing 8.400 08/01/2021 1,490,000 1,545,592
Massachusetts Housing
Finance Agency,
Residential Housing 8.500 08/01/2020 15,000 15,503
Massachusetts Industrial
Finance Agency, Harvard
Community Health Plan,
Inc. 8.125 10/01/2017 300,000 326,838
Massachusetts Industrial
Finance Agency, Solid
Waste Disposal 9.000 08/01/2016 1,200,000 1,205,772
Massachusetts State
Health and Educational
Facilities,
Rehabilitation
Hospital, Cape Islands,
Series A 7.875 08/15/2024 500,000 514,175
Massachusetts State Water
Pollution, Series A 6.375 02/01/2015 1,000,000 1,072,860
Massachusetts State Water
Pollution, Series C 6.000 12/01/2011 1,000,000 1,068,980
North Adams,
Massachusetts, Limited
Tax, General Obligation
(AMBAC) 5.700 03/01/2013 600,000 617,106
Quincy, Massachusetts,
Quincy Hospital (FSA) 5.250 01/15/2016 375,000 359,629
MICHIGAN
Monroe County, Michigan,
Economic Development
Corp., Detroit Edison
Co. (FGIC) 6.950 09/01/2022 500,000 607,495
MINNESOTA
Minnesota Housing Finance
Agency, Single Family
Mortgage, Series A 8.200 08/01/2019 595,000 620,972
MISSOURI
Kansas City, Missouri,
Municipal Assistance
Corp. Revenue (AMBAC) 6.000 04/15/2020 500,000 515,250
Kansas City, Missouri,
School District
Building, Capital
Improvement Project
(FGIC) 5.000 02/01/2014 1,500,000 1,427,460
Missouri Housing
Development Corp.,
Multi-family, Series A 5.400 02/01/2013 60,000 58,663
Missouri State Health and
Educational Facilities
Authority, Barnes
Jewish Inc. 5.250 05/15/2012 500,000 485,845
St. Louis County,
Missouri, Convention
Sports Project, Series
B 5.600 08/15/2008 500,000 499,445
NEW HAMPSHIRE
New Hampshire Housing
Finance Authority,
Single Family
Residential Mortgage 8.625 07/01/2013 240,000 250,980
NEW MEXICO
Albuquerque, New Mexico,
Airport Revenue, Series
B 8.750 07/01/2019 500,000 536,065
New Mexico Mortgage
Finance Authority,
Single Family Mortgage
(FGIC) 8.500 07/01/2007 380,000 397,024
New Mexico Mortgage
Finance Authority,
Single Family Mortgage
(FGIC) 8.625 07/01/2017 1,950,000 2,037,302
NEW YORK
Metropolitan
Transportation
Authority, New York,
Series K,
Transportation
Facilities Revenue
(MBIA) 6.000 07/01/2016 135,000 138,804
New York City, New York,
General Obligation,
Fiscal 1992, Series A 7.750 08/15/2015 1,500,000 1,700,400
New York City Municipal
Water Financing
Authority, Series A 6.000 06/15/2025 2,000,000 2,062,220
See Notes to Schedule of Investments. (continued on next page)
11
<PAGE>
Keystone Tax Free Income Fund
SCHEDULE OF INVESTMENTS--November 30, 1995
Coupon Maturity Principal Market
Rate Date Amount Value
- ------------------------- ------ --------- --------- -------------
NEW YORK--continued
New York State Dormitory
Authority, State
University Educational
Facilities Revenue,
Series A 6.375% 05/15/2014 $1,900,000 $1,992,074
New York State Dormitory
Authority, State
University Educational
Facilities Revenue,
Series C 7.375 05/15/2010 1,300,000 1,540,331
New York State Local
Government Assistance
Corp., Series A 5.500 04/01/2017 1,100,000 1,098,526
New York State Thruway
Authority, Service
Contract Revenue, Local
Highways and Bridges 5.875 04/01/2014 2,000,000 2,001,120
New York State Urban
Development Corp.,
Refunding Correctional
Facilities, Series A 5.250 01/01/2021 2,000,000 1,845,500
New York State Urban
Development Corp.,
Refunding Correctional
Facilities, Series A 6.500 01/01/2010 1,000,000 1,088,360
New York Urban
Development Corp.,
Correctional
Facilities, Series A 7.500 04/01/2011 1,000,000 1,161,440
Triborough Bridge and
Tunnel Authority, New
York 6.250 01/01/2012 1,690,000 1,780,567
OKLAHOMA
Tulsa, Oklahoma,
Industrial Authority
Hospital Revenue, St.
John Medical Center
Project, Series A 6.250 02/15/2014 1,250,000 1,297,388
OREGON
Western Generation
Agency, Oregon, Wauna
Cogeneration Project,
Series B (b) 7.400 01/01/2016 1,000,000 1,083,270
PENNSYLVANIA
Allentown, Pennsylvania,
Area Hospital Authority
Reveneue, Sacred Heart
Hospital of Allentown 6.750 11/15/2014 750,000 754,020
Butler County,
Pennsylvania, Hospital
Authority, Butler
Memorial Hospital 8.000 07/01/2016 935,000 971,456
Cambria County,
Pennsylvania, Hospital
Development Authority,
Conemaugh Valley
Memorial Hospital 6.625 08/15/2012 100,000 109,996
Cambria County,
Pennsylvania, Hospital
Development Authority,
Conemaugh Valley
Memorial Hospital 8.875 07/01/2018 2,400,000 2,718,288
Chester County,
Pennsylvania, Health
And Education
Facilities Authority,
Mainline Health System 5.500 05/15/2015 1,000,000 974,130
Pennsylvania Convention
Center Authority (FGIC)
(effective yield
7.000%) (a) 0.000 09/01/2008 3,500,000 1,849,785
Pennsylvania Economic
Development Financing
Authority, Resources
Recovery, Colver
Project (b) 7.125 12/01/2015 1,000,000 1,062,200
Pennsylvania Economic
Development Financing
Authority, Resources
Recovery, Northampton
Project (b) 6.500 01/01/2013 2,000,000 1,990,780
Pennsylvania Higher
Education Facilities
Authority, Temple
University (MBIA) 5.750 04/01/2031 500,000 501,140
Philadelphia,
Pennsylvania, Hospital
and Higher Education
Facilities 6.000 06/01/2014 2,000,000 1,894,440
Philadelphia,
Pennsylvania, Hospital
and Higher Education
Facilities, Albert
Einstein Medical Center
Authority 7.625 04/01/2011 250,000 270,078
See Notes to Schedule of Investments.
12
<PAGE>
SCHEDULE OF INVESTMENTS--November 30, 1995
Coupon Maturity Principal Market
Rate Date Amount Value
- ------------------------- ------ --------- --------- -------------
PENNSYLVANIA--continued
Philadelphia,
Pennsylvania, Hospital
and Higher Education
Facilities, Community
College, Series B
(MBIA) 6.500% 05/01/2007 $1,000,000 $1,117,710
Pottsville, Pennsylvania,
Hospital Authority,
Daughters of Charity
Health Systems, Inc.,
Good Samaritan Hospital 8.250 08/01/2012 285,000 309,866
Ridley Park,
Pennsylvania, Hospital
Authority 6.125 12/01/2020 500,000 457,885
Scranton-Lackawanna,
Pennsylvania, Health
and Welfare Authority
Revenue, Walters
Institute Project 8.125 07/15/2028 2,200,000 2,391,818
PUERTO RICO
Puerto Rico Commonwealth,
General Obligation 7.000 07/01/2010 1,000,000 1,178,060
Puerto Rico Commonwealth,
Telephone Authority 5.400 01/01/2008 1,400,000 1,426,348
Puerto Rico Electric
Power Authority, Series
S 7.000 07/01/2007 1,365,000 1,593,023
Puerto Rico Public
Buildings Authority,
Guaranteed Public
Education and Health
Facilities, Series M 5.700 07/01/2009 100,000 103,314
SOUTH DAKOTA
South Dakota Student Loan
Finance, Series A 6.750 08/01/2010 1,510,000 1,564,451
TENNESSEE
Bristol, Tennessee,
Health and Education
Authority, Bristol
Memorial Hospital
(FGIC) 6.750 09/01/2010 2,000,000 2,309,200
Knox County, Tennessee,
Health and Educational
Facilities, Fort
Sanders Hospital
Alliance, Series B
(MBIA) 7.250 01/01/2010 1,000,000 1,193,700
Knox County, Tennessee,
Health and Educational
Facilities, Fort
Sanders Hospital
Alliance, Series C
(MBIA) 5.250 01/01/2015 1,500,000 1,464,480
TEXAS
Austin, Texas, Utilities
System Revenue
(effective yield
6.810%) (a) 0.000 11/15/2011 2,700,000 1,131,570
Brazos River Authority,
Texas, Revenue
Refunding, Houston
Light and Power Project
(MBIA) 8.100 05/01/2019 3,000,000 3,278,580
Brazos, Texas, Higher
Education Authority
Inc., Series A 6.500 06/01/2004 475,000 506,013
Harris County, Texas,
Toll Road, Series A 7.000 08/15/2010 625,000 742,963
Harris County, Texas,
Toll Road, Sr. Lien
Revenue Toll Road 8.625 08/15/2007 1,000,000 1,103,350
Harris County, Texas,
Toll Road, Unlimited
Tax and Subordinate
Lien Refunding 8.125 08/01/2015 2,250,000 2,514,060
Midland County, Texas,
Hospital District,
Midland Memorial
Hospital 7.500 06/01/2016 400,000 421,226
Midland County, Texas,
Hospital District,
Midland Memorial
Hospital (effective
yield 7.700%) (a) 0.000 06/01/2007 90,000 44,913
Port of Corpus Christi,
Texas, Industrial
Development Corp.,
Valero Refining and
Marketing Co. Project,
Series A 10.250 06/01/2017 990,000 1,093,693
Texas Municipal Power
Agency (AMBAC)
(effective yield
7.090%) (a) 0.000 09/01/2006 2,500,000 1,466,325
Texas Municipal Power
Agency (AMBAC)
(effective yield
7.150%) (a) 0.000 09/01/2008 1,200,000 617,844
Texas State Water
Development, Unlimited
Tax, General Obligation 5.125 08/01/2015 650,000 628,368
See Notes to Schedule of Investments. (continued on next page)
13
<PAGE>
Keystone Tax Free Income Fund
SCHEDULE OF INVESTMENTS--November 30, 1995
Coupon Maturity Principal Market
Rate Date Amount Value
- ------------------------- ------ --------- --------- -------------
UTAH
Intermountain Power
Agency, Utah, Power
Supply (ETM)
(effective yield
6.800%) (a) 0.000% 07/01/2020 $ 500,000 $ 75,975
Intermountain Power
Agency, Utah, Power
Supply Refunding,
Series A (effective
yield 6.950%) (a) 0.000 07/01/2007 750,000 424,005
Utah State Housing
Finance Authority,
Single Family Mortgage 9.000 01/01/2019 35,000 36,816
VIRGINIA
Hanover County, Virginia,
Industrial Development
Authority, Bon Secours
Health System Project 5.500 08/15/2025 2,000,000 1,979,960
Pittsylvania County,
Virginia, Industrial
Development, Series A 7.300 01/01/2004 1,000,000 1,069,740
Pittsylvania County,
Virginia, Industrial
Development, Series A
(b) 7.500 01/01/2014 3,500,000 3,749,935
WASHINGTON
Port of Seattle,
Washington, General
Obligation 5.750 05/01/2014 500,000 503,000
Washington Public Power
Supply System, Nuclear
Project # 1 14.500 07/01/2002 150,000 173,781
Washington Public Power
Supply System, Nuclear
Project # 1, Series D 15.000 07/01/2017 250,000 273,110
Washington Public Power
Supply System, Nuclear
Project # 2, Series C 7.625 07/01/2010 1,000,000 1,161,170
Washington State General
Obligation, Series A 6.750 02/01/2015 1,000,000 1,156,000
WYOMING
Wyoming Community
Development Authority,
Single Family Mortgage 7.875 06/01/2018 1,405,000 1,477,034
- --------------------------------------------------------------------------------
TOTAL MUNICIPAL BONDS
(Cost--$132,449,310) 143,651,396
================================================================================
TEMPORARY TAX-EXEMPT
INVESTMENTS (1.2%)
Dade County, Florida,
Water and Sewer Systems
Revenue
(Cost $1,825,000) (d) 3.700 10/05/2022 1,825,000 1,825,000
================================================================================
TOTAL INVESTMENTS
(Cost--$134,274,310) (c) 145,476,396
- --------------------------------------------------------------------------------
OTHER ASSETS AND
LIABILITIES--NET (1.7%) 2,540,652
- --------------------------------------------------------------------------------
NET ASSETS (100.0%) $148,017,048
================================================================================
See Notes to Schedule of Investments.
14
<PAGE>
Notes to Schedule of Investments:
(a) Effective yield (calculated at the date of purchase) is the yield at
which the bond accretes on an annual basis until its maturity date. All
zero coupon bonds are noncallable.
(b) Securities that may be resold to "qualified institutional buyers"
under Rule 144a or securities offered pursuant to Section 4(2) of the
Securities Act of 1933, as amended. These securities have been
determined to be liquid under guidelines established by the Board of
Trustees.
(c) The cost of investments for federal tax purposes amounted to
$134,271,034. Gross unrealized appreciation and depreciation of
investments, based on identified tax cost, at November 30, 1995 are as
follows:
Gross unrealized appreciation $11,310,602
Gross unrealized depreciation (105,240)
------------
Net unrealized appreciation $11,205,362
============
(d) Variable or floating rate instruments with periodic demand features.
The Fund is entitled to full payment of principle and accrued interest
upon surrendering the security to the issuing agent according to the
terms of the demand features.
LEGEND OF PORTFOLIO ABBREVIATIONS:
AMBAC--American Municipal Bond Assurance Corp.
ETM--Escrowed To Maturity
FGIC--Federal Guaranty Insurance Co.
FSA--Financial Security Assurance
MBIA--Municipal Bond Insurance Association
See Notes to Financial Statements.
15
<PAGE>
Keystone Tax Free Income Fund
FINANCIAL HIGHLIGHTS--CLASS A SHARES
(For a share outstanding throughout the year)
<TABLE>
<CAPTION>
February 13,
1987
(Commencement
of Operations)
Year Ended November 30, to
November 30,
1995(d) 1994 1993 1992 1991 1990 1989 1988 1987
================================================================================================================================
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net asset value,
beginning of year $ 8.93 $ 10.25 $ 10.17 $ 10.13 $ 9.94 $ 10.24 $ 9.96 $ 9.64 $ 10.00
- --------------------------------------------------------------------------------------------------------------------------------
Income from investment
operations:
Net investment income 0.51 0.51 0.57 0.63 0.61 0.59 0.62 0.63 0.33
Net realized and
unrealized gain
(loss) on investments
and futures contracts 1.13 (1.28) 0.36 0.30 0.31 (0.06) 0.34 0.37 (0.32)
- --------------------------------------------------------------------------------------------------------------------------------
Total from investment
operations 1.64 (0.77) 0.93 0.93 0.92 0.53 0.96 1.00 0.01
- --------------------------------------------------------------------------------------------------------------------------------
Less distributions from:
Net investment income (0.51) (0.52) (0.57) (0.62) (0.61) (0.60) (0.63) (0.68) (0.37)
In excess of net
investment income (0.01) 0.00 (0.04) 0.00 (0.00) (0.03) 0.00 0.00 0.00
Net realized gain
on investments 0.00 0.00 (0.24) (0.27) (0.12) (0.20) (0.05) 0.00 0.00
Tax basis return of
capital 0.00 (0.03) 0.00 0.00 0.00 0.00 0.00 0.00 0.00
- --------------------------------------------------------------------------------------------------------------------------------
Total distributions (0.52) (0.55) (0.85) (0.89) (0.73) (0.83) (0.68) (0.68) (0.37)
- --------------------------------------------------------------------------------------------------------------------------------
Net asset value,
end of year $ 10.05 $ 8.93 $ 10.25 $ 10.17 $ 10.13 $ 9.94 $ 10.24 $ 9.96 $ 9.64
================================================================================================================================
Total return (b) 18.71% (7.81%) 9.37% 9.35% 9.59% 5.55% 9.97% 10.60% 0.17%
Ratios/supplemental data
Ratios to average
net assets:
Total expenses 1.19%(a) 1.13% 1.21% 1.25% 1.58% 1.66% 1.62% 1.57% 1.00%(c)
Net investment income 5.35% 5.27% 5.40% 6.02% 5.95% 6.03% 6.15% 6.13% 6.85%(c)
Portfolio turnover rate 30% 98% 47% 32% 37% 42% 49% 109% 67%
- --------------------------------------------------------------------------------------------------------------------------------
Net assets,
end of year
(thousands) $94,183 $95,691 $124,102 $120,660 $133,524 $146,335 $162,013 $179,191 $16,090
================================================================================================================================
</TABLE>
(a) "Ratio of total expenses to average net assets" for the year ended
November 30, 1995 includes indirectly paid expenses. Excluding indirectly
paid expenses for the year ended November 30, 1995, the expense ratio
would have been 1.18%.
(b) Excluding applicable sales charges.
(c) Annualized for the period April 14, 1987 (Commencement of Investment
Operations) to November 30, 1987.
(d) Calculation based on average shares outstanding.
See Notes to Financial Statements.
16
<PAGE>
FINANCIAL HIGHLIGHTS--CLASS B SHARES
(For a share outstanding throughout the year)
February 1, 1993
Year Ended (Date of Initial
November 30, Public Offering) to
1995 (d) 1994 November 30, 1993
================================================================================
Net asset value, beginning
of year $8.88 $10.25 $10.27
- --------------------------------------------------------------------------------
Income from investment
operations:
Net investment income 0.44 0.45 0.37
Net realized and unrealized
gain (loss) on
investments and futures
contracts 1.11 (1.29) 0.30
- --------------------------------------------------------------------------------
Total from investment
operations 1.55 (0.84) 0.67
- --------------------------------------------------------------------------------
Less distributions from:
Net investment income (0.45) (0.50) (0.37)
In excess of net investment
income (0.01) 0.00 (0.08)
Net realized gain on
investments 0.00 0.00 (0.24)
Tax basis return of capital 0.00 (0.03) 0.00
- --------------------------------------------------------------------------------
Total distributions (0.46) (0.53) (0.69)
- --------------------------------------------------------------------------------
Net asset value, end of
year $ 9.97 $ 8.88 $10.25
================================================================================
Total return (b) 17.84% (8.43%) 6.59%
Ratios/supplemental data
Ratios to average net
assets:
Total expenses 1.96%(a) 1.88% 1.96%(c)
Net investment income 4.59% 4.60% 4.42%(c)
Portfolio turnover rate 30% 98% 47%
- --------------------------------------------------------------------------------
Net assets, end of year
(thousands) $33,449 $28,860 $14,091
================================================================================
(a) "Ratio of total expenses to average net assets" for the year ended
November 30, 1995 includes indirectly paid expenses. Excluding indirectly
paid expenses for the year ended November 30, 1995, the expense ratio
would have been 1.94%.
(b) Excluding applicable sales charges.
(c) Annualized.
(d) Calculation based on average shares outstanding.
See Notes to Financial Statements.
17
<PAGE>
Keystone Tax Free Income Fund
FINANCIAL HIGHLIGHTS--CLASS C SHARES
(For a share outstanding throughout the year)
February 1, 1993
Year Ended (Date of Initial
November 30, Public Offering) to
1995 (d) 1994 November 30, 1993
================================================================================
Net asset value, beginning
of year $8.88 $10.26 $10.27
- --------------------------------------------------------------------------------
Income from investment
operations:
Net investment income 0.44 0.43 0.37
Net realized and unrealized
gain (loss) on
investments and futures
contracts 1.11 (1.27) 0.31
- --------------------------------------------------------------------------------
Total from investment
operations 1.55 (0.84) 0.68
- --------------------------------------------------------------------------------
Less distributions from:
Net investment income (0.45) (0.51) (0.37)
In excess of net investment
income (0.01) 0.00 (0.08)
Net realized gain on
investments 0.00 0.00 (0.24)
Tax basis return of capital 0.00 (0.03) 0.00
- --------------------------------------------------------------------------------
Total distributions (0.46) (0.54) (0.69)
- --------------------------------------------------------------------------------
Net asset value, end of
year $ 9.97 $ 8.88 $10.26
================================================================================
Total return (b) 17.84% (8.52%) 6.70%
Ratios/supplemental data
Ratios to average net
assets:
Total expenses 1.96%(a) 1.89% 1.94%(c)
Net investment income 4.59% 4.52% 4.41%(c)
Portfolio turnover rate 30% 98% 47%
- --------------------------------------------------------------------------------
Net assets, end of year
(thousands) $20,386 $23,230 $27,261
================================================================================
(a) "Ratio of total expenses to average net assets" for the year ended
November 30, 1995 includes indirectly paid expenses. Excluding indirectly
paid expenses for the year ended November 30, 1995, the expense ratio
would have been 1.94%.
(b) Excluding applicable sales charges.
(c) Annualized.
(d) Calculation based on average shares oustanding.
See Notes to Financial Statements.
18
<PAGE>
STATEMENT OF ASSETS AND LIABILITIES--
November 30, 1995
===================================================================
Assets (Note 1):
Investments at market value
(identified cost--$134,274,310) $145,476,396
Cash 4,472
Receivable for:
Fund shares sold 24,803
Interest 2,895,155
Prepaid expenses 16,572
- -------------------------------------------------------------------
Total assets 148,417,398
- -------------------------------------------------------------------
Liabilities (Notes 2 and 4):
Payable for:
Fund shares redeemed 22,764
Distributions to shareholders 288,160
Other accrued expenses 89,426
- -------------------------------------------------------------------
Total liabilities 400,350
- -------------------------------------------------------------------
Net assets $148,017,048
===================================================================
Net assets represented by (Note 1):
Paid-in capital $143,800,682
Accumulated distributions in excess of net
investment income (288,160)
Net accumulated realized gain (loss) on
investments (6,697,560)
Net unrealized appreciation (depreciation) on
investments 11,202,086
- -------------------------------------------------------------------
Total net assets $148,017,048
===================================================================
Net Asset Value per share
Class A Shares
Net asset value of $94,182,774 / 9,370,675
shares outstanding $10.05
Offering price per share ($10.05 / 0.9525)
(based on a sales charge of 4.75% of the
offering price on November 30, 1995) $10.55
Class B Shares
Net asset value of $33,448,526 / 3,356,230
shares outstanding $ 9.97
Class C Shares
Net asset value of $20,385,748 / 2,045,152
shares outstanding $ 9.97
====================================================================
See Notes to Financial Statements.
STATEMENT OF OPERATIONS--
Year Ended November 30, 1995
====================================================================
Investment income (Note 1):
Interest $ 9,776,365
Expenses (Notes 2 and 4):
Management fee $ 919,802
Transfer agent fees 211,525
Accounting, auditing and legal 64,552
Custodian fees 98,704
Printing 46,538
Trustees' fees and expenses 12,634
Distribution Plan expenses 766,469
Registration fees 60,285
Miscellaneous expenses 15,378
- --------------------------------------------------------------------
Total expenses 2,195,887
Less: Expenses paid indirectly (Note 4) (20,278)
- --------------------------------------------------------------------
Net expenses 2,175,609
- --------------------------------------------------------------------
Net investment income 7,600,756
- --------------------------------------------------------------------
Net realized and unrealized gain (loss)
on investments and closed futures
contracts (Notes 1 and 3):
Net realized gain (loss) on:
Investments (110,715)
Closed futures contracts (650,028)
- --------------------------------------------------------------------
Net realized gain (loss) on investments
and closed futures contracts (760,743)
Net change in unrealized appreciation
(depreciation) on investments 18,451,939
- --------------------------------------------------------------------
Net realized and unrealized gain (loss)
on investments and closed futures
contracts 17,691,196
- --------------------------------------------------------------------
Net increase (decrease) in net assets
resulting from operations $25,291,952
====================================================================
19
<PAGE>
Keystone Tax Free Income Fund
<TABLE>
<CAPTION>
STATEMENTS OF CHANGES IN NET ASSETS Year Ended November 30,
1995 1994
============================================================================= ==============================
<S> <C> <C>
Operations:
Net investment income $ 7,600,756 $ 8,330,638
Net realized loss on investments and closed futures contracts (760,743) (5,869,377)
Net change in unrealized appreciation (depreciation) on investments 18,451,939 (16,025,461)
- ------------------------------------------------------------------------------------------------------------
Net increase (decrease) in net assets resulting from operations 25,291,952 (13,564,200)
- ------------------------------------------------------------------------------------------------------------
Distributions to shareholders from (Note 1):
Net investment income:
Class A Shares (5,042,433) (5,980,145)
Class B Shares (1,531,824) (1,297,179)
Class C Shares (1,026,499) (1,452,252)
In excess of net investment income:
Class A Shares (70,626) 0
Class B Shares (21,455) 0
Class C Shares (14,377) 0
Tax basis return of capital:
Class A Shares 0 (338,046)
Class B Shares 0 (101,954)
Class C Shares 0 (82,063)
- ------------------------------------------------------------------------------------------------------------
Total distributions to shareholders (7,707,214) (9,251,639)
- ------------------------------------------------------------------------------------------------------------
Capital share transactions (Note 2):
Proceeds from shares sold:
Class A Shares 2,127,732 6,833,913
Class B Shares 6,139,897 21,886,789
Class C Shares 3,205,146 9,086,896
Payment for shares redeemed:
Class A Shares (17,659,525) (23,370,474)
Class B Shares (5,968,412) (4,163,609)
Class C Shares (9,212,881) (10,093,259)
Net asset value of shares issued in reinvestment of dividends and
distributions:
Class A Shares 2,608,685 3,231,223
Class B Shares 790,394 718,132
Class C Shares 619,790 1,013,566
- ------------------------------------------------------------------------------------------------------------
Net increase (decrease) in net assets resulting from capital share
transactions (17,349,174) 5,143,177
- ------------------------------------------------------------------------------------------------------------
Total increase (decrease) in net assets 235,564 (17,672,662)
Net assets:
Beginning of year 147,781,484 165,454,146
- ------------------------------------------------------------------------------------------------------------
End of year [including accumulated distributions in excess of net investment
income as follows: November 1995--($288,160) and November 1994--($333,473)] $148,017,048 $147,781,484
============================================================================================================
</TABLE>
See Notes to Financial Statements.
20
<PAGE>
Keystone Tax Free Income Fund
NOTES TO FINANCIAL STATEMENTS
(1.) Significant Accounting Policies
Keystone Tax Free Income Fund (formerly Keystone America Tax Free Income
Fund) ("Fund") is a Massachusetts business trust for which Keystone
Management Inc. ("KMI") is the Investment Manager and Keystone Investment
Management Company (formerly Keystone Custodian Funds, Inc.) ("Keystone") is
the Investment Adviser. The Fund was organized on October 24, 1986 and had no
operations prior to February 13, 1987. It is registered under the Investment
Company Act of 1940, as amended (the "1940 Act"), as a diversified open-end
investment company.
The Fund currently issues three classes of shares. Class A shares are sold
subject to a maximum sales charge of 4.75% payable at the time of purchase.
Class B shares are sold subject to a contingent deferred sales charge which
varies depending on when shares were purchased and how long they have been
held. Class C shares are sold subject to a contingent deferred sales charge
payable upon redemption within one year of purchase, and available only
through dealers who have entered into special distribution agreements with
Keystone Investment Distributors Company (formerly Keystone Distributors,
Inc.) ("KIDC"), the Fund's principal underwriter.
Keystone is a wholly-owned subsidiary of Keystone Investments, Inc.
(formerly Keystone Group, Inc.) ("KII"), a Delaware corporation. KII is
privately owned by an investor group consisting of members of current and
former members of management of Keystone and its affiliates.
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. The
policies are in conformity with generally accepted accounting principles.
A. Tax-exempt bonds are stated on the basis of valuations provided by a
pricing service, approved by the Board of Trustees, that uses information
with respect to transactions in bonds, quotations from bond dealers, market
transactions in comparable securities and various relationships between
securities in determining value. Non-tax-exempt securities for which market
quotations are readily available are valued at the price quoted which, in the
opinion of the Board of Trustees or their representative, most nearly
represents their market value. Short-term investments which are purchased
with maturities of sixty days or less are valued at amortized cost (original
cost as adjusted for amortization of premium or accretion of discount) which,
when combined with accrued interest approximates market. Short term
investments maturing in more than sixty days for which market quotations are
readily available are valued at current market value. Short-term investments
maturing in more than sixty days when purchased which are held on the
sixtieth day prior to maturity are valued at amortized cost (market value on
the sixtieth day adjusted for amortization of premium or accretion of
discount) which, when combined with accrued interest, approximates market.
All other securities and other assets are valued at fair value as determined
in good faith using methods prescribed by the Board of Trustees.
B. When the Fund enters into a repurchase agreement (a purchase of securities
whereby the seller agrees to repurchase the securities at a mutually agreed
upon date and price), the repurchase price of the securities will generally
equal the amount paid by the Fund plus a negotiated interest amount. The
seller under the repurchase agreement will be required to provide securities
("collateral") to the Fund whose value will be maintained at an amount not
less than the repurchase price, and which generally will be maintained at
21
<PAGE>
Keystone Tax Free Income Fund
NOTES TO FINANCIAL STATEMENTS
101% of the repurchase price. The Fund monitors the value of the collateral
on a daily basis, and if the value of the collateral falls below required
levels, the Fund intends to seek additional collateral from the seller or
terminate the repurchase agreement. If the seller defaults, the Fund would
suffer a loss to the extent that the proceeds from the sale of the underlying
securities were less than the repurchase price. Any such loss would be
increased by any cost incurred on disposing of such securities. If bankruptcy
proceedings are commenced against the seller under the repurchase agreement,
the realization of the collateral may be delayed or limited. Repurchase
agreements entered into by the Fund will be limited to transactions with
dealers or domestic banks believed to present minimal credit risks, and the
Fund will take constructive receipt of all securities underlying repurchase
agreements until such agreements expire.
Pursuant to an exemptive order issued by the Securities and Exchange
Commission, the Fund, along with certain other Keystone funds, may transfer
uninvested cash balances into a joint trading account. These balances are
invested in one or more repurchase agreements that are fully collateralized
by U.S. Treasury and/or Federal Agency obligations.
C. The Fund may enter into currency or financial futures contracts as a hedge
against changes in interest or currency exchange rates. A futures contract is
an agreement between two parties to buy and sell a specific amount of a
commodity, security, financial instrument, or, in the case of a stock index,
cash at a set price on a future date. Upon entering into a futures contract
the Fund is required to deposit with a broker an amount ("initial margin")
equal to a certain percentage of the purchase price indicated in the futures
contract. Subsequent payments ("variation margin") are made or received by
the Fund each day, as the value of the underlying instrument or index
fluctuates, and are recorded for book purposes as unrealized gains or losses
by the Fund. For federal tax purposes, any futures contracts which remain
open at fiscal year end are marked-to-market and the resultant net gain or
loss is included in the Fund's taxable income. In addition to market risk,
the Fund is subject to the credit risk that the other party will not complete
the obligations of the contract.
D. When-issued or delayed delivery transactions arise when securities or
currencies are purchased or sold by a Fund with payment and delivery taking
place in the future in order to secure what is considered to be an
advantageous price and yield to the Fund at the time of entering into the
transaction. A separate account of liquid assets equal to the value of such
purchase commitments will be maintained until payment is made. When-issued
and delayed delivery agreements are subject to risks from changes in value
based upon changes in the level of interest rates and other market factors,
both before and after delivery.
E. Securities transactions are accounted for no later than one business day
after the trade date. Realized gains and losses are recorded on the
identified cost basis. Interest income is recorded on the accrual basis. All
premiums and original issue discounts are amortized/accreted for both
financial reporting and federal income tax purposes.
F. The Fund has qualified and intends to qualify in the future, as a
regulated investment company under the Internal Revenue Code of 1986, as
amended (the "Internal Revenue Code"). Thus, the Fund is relieved of any
federal income tax liability by distributing all of its net taxable
investment income and net taxable capital gains, if any, to its shareholders.
The Fund intends to avoid any excise tax liability by making the required
distributions under the Internal Revenue Code.
22
<PAGE>
NOTES TO FINANCIAL STATEMENTS
G. The Fund declares dividends from net investment income monthly and
distributes to its shareholders such dividends monthly. The Fund declares and
distributes all net realized long-term capital gains, if any, at least
annually. Distributions are determined in accordance with income tax
regulations. Distributions from tax basis net investment income and net
capital gains can exceed book basis net investment income and net capital
gains. Differences between book basis investment income distributions and tax
basis investment income distributions are primarily attributable to
differences in the treatment of 12b-1 Distribution Plan charges and tax basis
returns of capital.
(2.) Capital Share Transactions
The Declaration of Trust authorizes the issuance of an unlimited number of
shares of beneficial interest without par value. Transactions in shares of
the Fund were as follows:
Year Ended November 30,
1995 1994
- ------------------------------------------------------
Class A Shares
Shares sold 224,063 697,684
Shares redeemed (1,843,241) (2,421,649)
Shares issued in
reinvestment of
dividends and
distributions 270,624 333,532
- ------------------------------------------------------
Net decrease (1,348,554) (1,390,433)
======================================================
Class B Shares
Shares sold 647,077 2,235,194
Shares redeemed (625,195) (432,965)
Shares issued in
reinvestment of
dividends and
distributions 82,512 75,307
- ------------------------------------------------------
Net increase 104,394 1,877,536
======================================================
Class C Shares
Shares sold 338,010 922,206
Shares redeemed (974,642) (1,068,581)
Shares issued in
reinvestment of
dividends and
distributions 64,840 105,124
- ------------------------------------------------------
Net decrease (571,792) (41,251)
======================================================
The Fund bears some of the costs of selling its shares under a
Distribution Plan adopted with respect to its Class A, Class B, and Class C
shares pursuant to Rule 12b-1 under the 1940 Act.
The Class A Distribution Plan provides for payments at an annual rate of
0.25% of the average daily net asset value of Class A shares to pay expenses
for the distribution of Class A shares. Amounts paid by the Fund to KIDC
under the Class A Distribution Plan are currently used to pay others (such as
dealers), service fees at an annual rate of 0.25% of the average net asset
value of Class A shares maintained by such others and remaining outstanding
on the books of the Fund for specified periods.
The Class B Distribution Plan provides for payments at an annual rate of
up to 1.00% of the average daily net asset value of Class B shares to pay
expenses for the distribution of Class B shares. Amounts paid by the Fund
under the Class B Distribution Plan are currently used to pay others
(dealers) a commission at the time of purchase normally equal to 4.00% of the
price paid for each Class B share sold plus the first year's service fee in
advance in the amount of 0.25% of the price paid for each Class B share sold.
Beginning approximately 12 months after the purchase of a Class B share, the
dealer or other party will receive
23
<PAGE>
Keystone Tax Free Income Fund
NOTES TO FINANCIAL STATEMENTS
service fees at an annual rate of 0.25% of the average daily net asset value
of each Class B shares maintained by such others and remaining outstanding on
the Fund's books for specified periods. A contingent deferred sales charge
will be imposed, if applicable, on Class B shares purchased after June 1,
1995 at rates ranging from a maximum of 5% of amounts redeemed during the
first twelve months following the date of purchase to 1% of amounts redeemed
during the sixth twelve month period following the date of purchase. Class B
shares purchased on or after June 1, 1995 that have been outstanding for
eight years following the month of purchase will automatically convert to
Class A shares without a front-end sales charge or exchange fee. Class B
shares purchased prior to June 1, 1995 will retain their existing conversion
rights.
The Class C Distribution Plan provides for payments at an annual rate of
up to 1.00% of the average daily net asset value of Class C shares to pay
expenses for the distribution of Class C shares. Amounts paid by each Fund
under the Class C Distribution Plan are currently used to pay others
(dealers) a commission at the time of purchase normally equal to 0.75% of the
price paid for each share sold plus the first year's service fee in advance
in the amount of 0.25% of the price paid for each Class C share. Beginning
approximately 15 months after purchase date, the dealer or other party will
receive a commission at an annual rate of 0.75% (subject to applicable
limitations imposed by a rule of the National Association of Securities
Dealers, Inc. ("NASD Rule")) plus service fees at an annual rate of 0.25%,
respectively, of the average net asset value of each Class C share sold by
such others and remaining outstanding on the books of the Fund for specified
periods.
Each of the Distribution Plans may be terminated at any time by vote of
the Independent Trustees or by a vote of a majority of the outstanding voting
shares of the respective class. However, after the termination of any of the
Distribution Plans, at the discretion of the Board of Trustees, payments to
KIDC may continue as compensation for its services which had been earned
while the Distribution Plan was in effect.
For the year ended November 30, 1995, the Fund paid KIDC $229,818,
$320,355 and $216,296, pursuant to the Fund's Class A, Class B and Class C
Distribution Plans, respectively.
Under the NASD Rule, the maximum uncollected amounts for which KIDC may
seek payment from the Fund under its Class B Distribution Plans at November
30, 1995 are $1,945,004 for shares purchased prior to June 1, 1995 and
$162,557 for shares purchased on or after June 1, 1995. The maximum
uncollected amounts for which KIDC may seek payment from the Fund under its
Class C Distribution Plans is $2,197,650 as of November 30, 1995.
Presently, the Fund's class-specific expenses are limited to Distribution
Plan expenses incurred by a class of shares.
(3.) Securities Transactions
As of November 30, 1995, the Fund had capital loss carryovers for federal
income tax purposes of approximately $6,698,000 which expire as follows:
2002-$5,831,000, 2003-$867,000.
Cost of purchases and proceeds from sales of investment securities,
excluding short-term securities, during the year ended November 30, 1995 were
$44,461,072 and $63,089,275, respectively.
24
<PAGE>
NOTES TO FINANCIAL STATEMENTS
(4.) Investment Management Agreement and Other Transactions
Under the terms of the Investment Management Agreement between KMI and the
Fund, KMI provides investment management and administrative services to the
Fund. In return, KMI is paid a management fee computed and paid daily at a
rate of 2.0% of the Fund's gross investment income plus an amount determined
by applying annual percentage rates, which start at 0.50% and decline to
0.25% as net assets increase, to the net asset value of the Fund.
KMI has entered into an Investment Advisory Agreement with Keystone, under
which Keystone provides investment advisory and management services to the
Fund and receives for its services an annual fee representing 85% of the
management fee received by KMI. During the year ended November 30, 1995, the
Fund paid or accrued to Keystone investment management and administrative
service fees of $919,802 which represented 0.61% of the average net assets of
the Fund. Of such amount paid to KMI, $781,832 was paid to Keystone for its
services to the Fund.
Keystone Investor Resource Center, Inc. ("KIRC"), a wholly-owned
subsidiary of Keystone, serves as the Fund's transfer agent. During the year
ended November 30, 1995, the Fund paid or accrued to KIRC $211,525 for
transfer agent fees.
During the year ended November 30, 1995, the Fund paid or accrued to KII
$19,338 for certain accounting services.
The Fund is subject to certain state annual expense limits, the most
restrictive of which is as follows: 2.5% of the first $30 million of Fund
assets, 2.0% of the next $70 million of Fund assets, and 1.5% of Fund assets
over $100 million.
The Fund has entered into an expense offset arrangement with its
custodian. For the year ended November 30, 1995, the Fund paid custody fees
in the amount of $78,426 and received a credit of $20,278 pursuant to the
expense offset arrangement, resulting in a total expense of $98,704. The
assets deposited with the custodian under this expense offset arrangement
could have been invested in an income-producing asset.
Certain officers and/or Directors of Keystone are also officers and/or
Trustees of the Fund. Officers of Keystone and affiliated Trustees receive no
compensation directly from the Fund.
(5.) Distributions to Shareholders
Distributions of $0.043, $0.037 and $0.037 per share were declared payable
January 5, 1996 to shareholders of record on December 22, 1995 for Class A,
Class B and Class C shares, respectively. These distributions are not
reflected in the accompanying financial statements.
25
<PAGE>
Keystone Tax Free Income Fund
INDEPENDENT AUDITORS' REPORT
The Trustees and Shareholders
Keystone Tax Free Income Fund
We have audited the accompanying statement of assets and liabilities of
Keystone Tax Free Income Fund (formerly Keystone America Tax Free Income
Fund), including the schedule of investments, as of November 30, 1995, and
the related statement of operations for the year then ended, the statements
of changes in net assets for each of the years in the two-year period then
ended, and the financial highlights for each of the years in the eight-year
period then ended and for the period from February 13, 1987 (commencement of
operations) to November 30, 1987 for Class A shares and for each of the years
in the two year period ended November 30, 1995 and the period from February
1, 1993 (date of initial public offering) to November 30, 1993 for Class B
and Class C shares. These financial statements and financial highlights are
the responsibility of the Fund's management. Our responsibility is to express
an opinion on these financial statements and financial highlights based on
our audits.
We conducted our audits 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 statements and
financial highlights are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures
in the financial statements. Our procedures included confirmation of
securities owned as of November 30, 1995 by correspondence with the
custodian. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide
a reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Keystone Tax Free Income Fund as of November 30, 1995, the results of its
operations for the year then ended, the changes in its net assets for each of
the years in the two-year period then ended and the financial highlights for
each of the years or periods specified in the first paragraph above in
conformity with generally accepted accounting principles.
KPMG Peat Marwick LLP
Boston, Massachusetts
January 5, 1996
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