<PAGE>
<TABLE>
<S> <C>
PAINEWEBBER PAINEWEBBER
CALIFORNIA TAX-FREE INCOME NATIONAL TAX-FREE INCOME
FUND FUND
PAINEWEBBER PAINEWEBBER
MUNICIPAL HIGH INCOME NEW YORK TAX-FREE INCOME
FUND FUND
</TABLE>
1285 AVENUE OF THE AMERICAS
NEW YORK, NEW YORK 10019
/ / FEDERAL TAX-FREE INCOME
/ / PROFESSIONAL MANAGEMENT
/ / PORTFOLIO DIVERSIFICATION
/ / DIVIDEND AND CAPITAL GAIN
REINVESTMENT
/ / FLEXIBLE PRICING(Service Mark)
/ / LOW MINIMUM INVESTMENT
/ / AUTOMATIC INVESTMENT PLAN
/ / SYSTEMATIC WITHDRAWAL PLAN
/ / EXCHANGE PRIVILEGES
PaineWebber California Tax-Free Income Fund and PaineWebber National Tax-Free
Income Fund are series of PaineWebber Mutual Fund Trust and PaineWebber
Municipal High Income Fund and PaineWebber New York Tax-Free Income Fund are
series of PaineWebber Municipal Series (each a 'Trust'). This Prospectus
concisely sets forth information about the Funds a prospective investor should
know before investing. Please retain this Prospectus for future reference.
A Statement of Additional Information dated July 1, 1995 (which is incorporated
by reference herein) has been filed with the Securities and Exchange
Commission. The Statement of Additional Information can be obtained without
charge, and further inquiries can be made, by contacting the Funds, your
PaineWebber investment executive or PaineWebber's correspondent firms or by
calling toll-free 1-800-647-1568.
------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION NOR HAS ANY SUCH COMMISSION PASSED UPON THE ACCURACY
OR ADEQUACY OF THIS PROSPECTUS. ANY REPRE-
SENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
PAINEWEBBER MUNICIPAL HIGH INCOME FUND INVESTS PREDOMINANTLY IN LOWER RATED
MUNICIPAL OBLIGATIONS, COMMONLY REFERRED TO AS MUNICIPAL 'JUNK BONDS.'
MUNICIPAL OBLIGATIONS OF THIS TYPE ARE CONSIDERED TO BE
SPECULATIVE WITH RESPECT TO THE PAYMENT OF INTEREST
AND RETURN OF PRINCIPAL. PURCHASERS SHOULD
CAREFULLY ASSESS THE RISKS ASSOCIATED
WITH AN INVESTMENT IN THIS FUND.
------------------------
THE DATE OF THIS PROSPECTUS IS JULY 1, 1995.
PAINEWEBBER MUTUAL FUNDS
<PAGE>
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR MAKE ANY
REPRESENTATIONS NOT CONTAINED IN THIS PROSPECTUS IN CONNECTION WITH THE
OFFERING MADE BY THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR
REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE FUNDS
OR THEIR DISTRIBUTOR. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFERING BY THE
FUNDS OR THEIR DISTRIBUTOR IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY NOT
LAWFULLY BE MADE.
------------------------
PROSPECTUS SUMMARY
See the body of the Prospectus for more information on the topics discussed
in this summary.
<TABLE>
<S> <C>
The Funds: This Prospectus describes four series (each a
'Fund') of open-end management investment
companies. Each Fund has its own investment
objective and policies.
Investment Objectives and
Policies:
PaineWebber California A diversified Fund seeking high current
Tax-Free Income Fund income exempt from federal income tax and
('California Tax-Free Income California personal income tax, consistent
Fund') with the preservation of capital and
liquidity within the Fund's quality
standards; invests primarily in investment
grade debt obligations of varying maturities
issued by the State of California, its
municipalities and public authorities.
PaineWebber National Tax-Free A diversified Fund seeking high current
Income Fund ('National Tax- income exempt from federal income tax,
Free Income Fund') consistent with the preservation of capital
and liquidity within the Fund's quality
standards; invests primarily in investment
grade debt obligations of varying maturities
issued by states, municipalities and public
authorities.
PaineWebber Municipal High A non-diversified Fund seeking high current
Income Fund ('Municipal High income exempt from federal income tax;
Income Fund') invests primarily in high yield, high risk
medium and lower grade debt obligations of
varying maturities issued by states,
municipalities and public authorities.
PaineWebber New York Tax-Free A non-diversified Fund seeking high current
Income Fund ('New York Tax- income exempt from federal income tax and New
Free Income Fund') York State and New York City personal income
taxes; invests primarily in investment grade
debt obligations of varying maturities issued
by the State of New York, its municipalities
and public authorities.
</TABLE>
<TABLE>
<S> <C> <C>
Total Net Assets at California Tax-Free National Tax-Free
May 31, 1995: Income Fund........$237.3 million Income Fund........$496.0 million
Municipal High New York Tax-Free
Income Fund........$112.8 million Income Fund.........$66.8 million
</TABLE>
2
<PAGE>
<TABLE>
<S> <C>
Investment Adviser: Mitchell Hutchins Asset Management Inc.
('Mitchell Hutchins'), an asset management
subsidiary of PaineWebber Incorporated
('PaineWebber' or 'PW'), manages over $42.7
billion in assets. See 'Management.'
Purchases: Shares of beneficial interest are available
exclusively through PaineWebber and its
correspondent firms for investors who are
clients of PaineWebber or those firms
('PaineWebber clients') and, for other
investors, through PFPC Inc., the Funds'
transfer agent ('Transfer Agent').
Flexible Pricing System: Investors may select Class A, Class B or
Class D shares, each with a public offering
price that reflects different sales charges
and expense levels. See 'Flexible Pricing
System,' 'Purchases,' 'Redemptions' and
'Conversion of Class B Shares.'
Class A Shares Offered at net asset value plus any
applicable sales charge (maximum is 4% of
public offering price).
Class B Shares Offered at net asset value (a maximum
contingent deferred sales charge of 5% of
redemption proceeds is imposed on certain
redemptions made within six years of date of
purchase). Class B shares automatically
convert into Class A shares (which pay lower
ongoing expenses) approximately six years
after purchase.
Class D Shares Offered at net asset value without an initial
or contingent deferred sales charge. Class D
shares pay higher ongoing expenses than Class
A shares and do not convert into another
Class.
Exchanges: Shares may be exchanged for shares of the
corresponding Class of most PaineWebber and
Mitchell Hutchins/Kidder, Peabody ('MH/KP')
mutual funds.
Redemptions: PaineWebber clients may redeem through
PaineWebber; other shareholders must redeem
through the Transfer Agent.
Dividends: Declared daily and paid monthly; net capital
gain is distributed annually. See 'Dividends
and Taxes.'
Reinvestment: All dividends and capital gain distributions
are paid in Fund shares of the same Class at
net asset value unless the shareholder has
requested cash.
Minimum Purchase: $1,000 for the first purchase; $100 for
subsequent purchases.
Other Features:
Class A Shares Automatic investment plan
Systematic withdrawal plan
Rights of accumulation
Quantity discounts on initial sales charge
365-day reinstatement privilege
Class B Shares Automatic investment plan
Systematic withdrawal plan
Class D Shares Automatic investment plan
Systematic withdrawal plan
</TABLE>
3
<PAGE>
WHO SHOULD INVEST. Each Fund has its own suitability considerations and
risk factors, as summarized below and described in detail under 'Investment
Objectives and Policies.' While no single Fund is intended to provide a
complete or balanced investment program, each can serve as one component of an
investor's long-term program to accumulate assets for retirement, college
tuition or other major goals. The Funds are not suitable for tax-exempt
institutions or qualified retirement plans, because those investors cannot
take advantage of the tax-exempt character of the Funds' dividends.
CALIFORNIA TAX-FREE INCOME FUND. The Fund invests primarily in
investment grade debt obligations of varying maturities issued by the
State of California, its municipalities and public authorities or by
other issuers if such obligations pay interest that is exempt from
federal income tax and California personal income tax ('California
Obligations'). Accordingly, the Fund is designed for investors seeking
income that is exempt from those taxes.
NATIONAL TAX-FREE INCOME FUND. The Fund invests primarily in
investment grade debt obligations of varying maturities issued by states,
municipalities and public authorities and other issuers that pay interest
that is exempt from federal income tax ('municipal securities' or
'municipal obligations'). Accordingly, the Fund is designed for investors
seeking income that is exempt from federal income tax.
MUNICIPAL HIGH INCOME FUND. The Fund invests primarily in high
yield, high risk medium and lower grade municipal obligations that pay
interest that is exempt from federal income tax. Accordingly, the Fund is
designed for investors seeking high current income that is exempt from
federal income tax and who can assume the risks associated with the types
of securities in which the Fund invests.
NEW YORK TAX-FREE INCOME FUND. The Fund invests primarily in
investment grade debt obligations of varying maturities issued by the
State of New York, its municipalities and public authorities or by other
issuers if such obligations pay interest that is exempt from federal
income tax as well as New York State and New York City personal income
taxes ('New York Obligations'). Accordingly, the Fund is designed for
investors seeking income that is exempt from those taxes.
RISK FACTORS. There can be no assurance that any Fund will achieve its
investment objective, and each Fund's net asset value will fluctuate inversely
with movements in interest rates. During periods of market uncertainty, the
market values of municipal obligations can become volatile. Certain investment
grade municipal securities in which the Funds may invest have speculative
characteristics, and the lower rated municipal securities in which Municipal
High Income Fund may invest are subject to greater risks of default and
greater volatility than higher rated securities. The market for lower rated
municipal securities may be thinner and less active than for higher rated
securities. Municipal High Income Fund may invest without limit in municipal
securities that pay interest that is an item of tax preference for purposes of
the federal alternative minimum tax. Each Fund's ability to invest more than
25% of its total assets in municipal securities, the interest on which is paid
from similar types of projects, may increase the risk of a Fund investment.
The concentration of the investments of New York Tax-Free Income Fund and
California Tax-Free Income Fund in New York Obligations and California
Obligations, respectively, may subject those Funds to greater risks than an
investment company that has a broader range of investments. The States of New
York and California and many of their agencies and local governments are
experiencing significant financial difficulties, and the credit standings of
those States and of certain local governments (including New York City) have
been, and could be further, reduced.
4
<PAGE>
EXPENSES OF INVESTING IN THE FUNDS. The following tables are intended to
assist investors in understanding the expenses associated with investing in
each Fund.
SHAREHOLDER TRANSACTION EXPENSES(1)
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS D
------- ------- -------
<S> <C> <C> <C>
Maximum sales charge on purchases of shares
(as a percentage of public offering price)...... 4% None None
Sales charge on reinvested dividends.............. None None None
Exchange fee...................................... $ 5.00 $ 5.00 $ 5.00
Maximum contingent deferred sales charge
(as a percentage of redemption proceeds)........ None 5% None
</TABLE>
ANNUAL FUND OPERATING EXPENSES(2)
(AS A PERCENTAGE OF AVERAGE NET ASSETS)
<TABLE>
<CAPTION>
CALIFORNIA
TAX-FREE NATIONAL TAX-FREE MUNICIPAL HIGH
INCOME FUND INCOME FUND INCOME FUND
--------------------------- --------------------------- ---------------------------
CLASS A CLASS B CLASS D CLASS A CLASS B CLASS D CLASS A CLASS B CLASS D
------- ------- ------- ------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Management fees............... 0.50% 0.50% 0.50% 0.50% 0.50% 0.50% 0.60% 0.60% 0.60%
12b-1 fees(3)................. 0.25 1.00 0.75 0.25 1.00 0.75 0.25 1.00 0.75
Other expenses................ 0.13 0.14 0.15 0.13 0.14 0.15 0.28 0.27 0.28
------- ------- ------- ------- ------- ------- ------- ------- -------
Total operating
expenses.................... 0.88% 1.64% 1.40% 0.88% 1.64% 1.40% 1.13% 1.87% 1.63%
------- ------- ------- ------- ------- ------- ------- ------- -------
------- ------- ------- ------- ------- ------- ------- ------- -------
<CAPTION>
NEW YORK TAX-FREE
INCOME FUND
----------------------------
CLASS A CLASS B CLASS D
------- ------- -------
<S> <C> <C> <C>
Management fees............... 0.60% 0.60% 0.60%
12b-1 fees(3)................. 0.25 1.00 0.75
Other expenses................ 0.41 0.41 0.40
------- ------- -------
Total operating
expenses.................... 1.26% 2.01% 1.75%
------- ------- -------
------- ------- -------
</TABLE>
- ------------
(1) Sales charge waivers are available for Class A and Class B shares, reduced
sales charge purchase plans are available for Class A shares and exchange
fee waivers are available for all three Classes. The maximum 5% contingent
deferred sales charge on Class B shares applies to redemptions during the
first year after purchase; the charge generally declines by 1% annually
thereafter, reaching zero after six years. See 'Purchases.'
(2) See 'Management' for additional information. In the case of New York
Tax-Free Income Fund, all expenses are those that would have been
experienced by that Fund for the fiscal year ended February 28, 1995 had
Mitchell Hutchins and PaineWebber not waived a portion of their fees.
5
<PAGE>
(3) 12b-1 fees have two components, as follows:
<TABLE>
<CAPTION>
CALIFORNIA
TAX-FREE NATIONAL TAX-FREE MUNICIPAL HIGH
INCOME FUND INCOME FUND INCOME FUND
----------------------------- ----------------------------- -----------------------------
CLASS A CLASS B CLASS D CLASS A CLASS B CLASS D CLASS A CLASS B CLASS D
------- ------- ------- ------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
12b-1 service fees........ 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25%
12b-1 distribution fees... 0.00 0.75 0.50 0.00 0.75 0.50 0.00 0.75 0.50
<CAPTION>
NEW YORK TAX-FREE
INCOME FUND
-----------------------------
CLASS A CLASS B CLASS D
------- ------- -------
<S> <C> <C> <C>
12b-1 service fees........ 0.25% 0.25% 0.25%
12b-1 distribution fees... 0.00 0.75 0.50
</TABLE>
12b-1 distribution fees are asset-based sales charges. Long-term Class B and
Class D shareholders may pay more in direct and indirect sales charges
(including distribution fees) than the economic equivalent of the maximum
front-end sales charge permitted by the National Association of Securities
Dealers, Inc.
6
<PAGE>
EXAMPLE OF EFFECT OF FUND EXPENSES
An investor would directly or indirectly pay the following expenses on a
$1,000 investment in each Fund, assuming a 5% annual return:
<TABLE>
<CAPTION>
ONE YEAR THREE YEARS FIVE YEARS TEN YEARS
-------- ----------- ---------- ---------
<S> <C> <C> <C> <C>
CALIFORNIA TAX-FREE INCOME FUND
Class A Shares (1)............... $ 49 $ 67 $ 87 $ 144
Class B Shares:
Assuming a complete
redemption at end of
period (2)(3)............. $ 68 $ 85 $ 113 $ 155
Assuming no redemption (3).. $ 17 $ 52 $ 89 $ 155
Class D Shares................... $ 14 $ 44 $ 77 $ 168
NATIONAL TAX-FREE INCOME FUND
Class A Shares (1)............... $ 49 $ 67 $ 87 $ 144
Class B Shares:
Assuming a complete
redemption at end of
period(2)(3).............. $ 68 $ 85 $ 113 $ 155
Assuming no redemption (3).. $ 17 $ 52 $ 89 $ 155
Class D Shares................... $ 14 $ 44 $ 77 $ 168
MUNICIPAL HIGH INCOME FUND
Class A shares (1)............... $ 51 $ 74 $ 100 $ 172
Class B Shares:
Assuming a complete
redemption at end of
period (2)(3)............. $ 71 $ 92 $ 124 $ 182
Assuming no redemption (3).. $ 19 $ 59 $ 101 $ 182
Class D Shares................... $ 16 $ 51 $ 89 $ 193
NEW YORK TAX-FREE INCOME FUND
Class A Shares (1)............... $ 52 $ 78 $ 106 $ 186
Class B Shares:
Assuming a complete
redemption at end of
period (2)(3)............. $ 72 $ 96 $ 131 $ 197
Assuming no redemption (3).. $ 20 $ 63 $ 108 $ 197
Class D Shares................... $ 18 $ 55 $ 95 $ 206
</TABLE>
- ------------
(1) Assumes deduction at the time of purchase of the maximum 4% initial sales
charge.
(2) Assumes deduction at the time of redemption of the maximum applicable
contingent deferred sales charge.
(3) Ten-year figures assume conversion of Class B shares to Class A shares at
end of sixth year.
This Example assumes that all dividends and other distributions are
reinvested and that the percentage amounts listed under Annual Fund Operating
Expenses remain the same in the years shown. The above tables and the assumption
in the Example of a 5% annual return are required by regulations of the
Securities and Exchange Commission ('SEC') applicable to all mutual funds; the
assumed 5% annual return is not a prediction of, and does not represent, the
projected or actual performance of any Class of the Funds' shares.
THIS EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE
EXPENSES, AND A FUND'S ACTUAL EXPENSES MAY BE MORE OR LESS THAN THOSE SHOWN. The
actual expenses attributable to each Class of a Fund's shares will depend upon,
among other things, the level of average net assets, the extent to which a Fund
incurs variable expenses, such as transfer agency costs and whether Mitchell
Hutchins and PaineWebber reimburse all or a portion of the Fund's expenses
and/or waive all or a portion of their advisory and other fees.
7
<PAGE>
FINANCIAL HIGHLIGHTS
The tables below provide selected per share data and ratios for one Class A
share, one Class B share and one Class D share of each Fund for each of the
periods shown. This information is supplemented by the financial statements and
accompanying notes appearing in the Funds' Annual Report to Shareholders for the
fiscal year ended February 28, 1995, which is incorporated by reference into the
Statement of Additional Information. The financial statements and notes, as well
as the information in the tables appearing below insofar as it relates to the
fiscal years ended February 28, 1995 and February 28, 1994, the fiscal period
ended February 28, 1993 and each of the three fiscal years in the period ended
November 30, 1992 (in the case of California Tax-Free Income Fund and National
Tax-Free Income Fund) and each of the five fiscal years in the period ended
February 28, 1995 (in the case of Municipal High Income and New York Tax-Free
Income Fund) have been audited by Ernst & Young LLP, independent auditors, whose
report thereon is included in the Annual Report to Shareholders. Further
information about the performance of each Fund is also included in the Annual
Report to Shareholders, which may be obtained without charge. The information
appearing below for periods prior to the years ended November 30, 1990 and
February 28, 1991 also have been audited by Ernst & Young LLP, whose reports
thereon were unqualified.
<TABLE>
<CAPTION>
CALIFORNIA TAX-FREE INCOME FUND
------------------------------------------------------------
CLASS A
------------------------------------------------------------
FOR THE FOR THE
YEARS THREE
ENDED MONTHS FOR THE YEARS ENDED
FEBRUARY 28, ENDED NOVEMBER 30,
------------------- FEBRUARY ----------------------------
1995 1994 28, 1993 1992 1991 1990
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 11.41 $ 11.80 $ 11.39 $ 11.13 $ 10.94 $ 10.95
-------- -------- -------- -------- -------- --------
Net increase (decrease) from
investment operations:
Net investment income......... 0.58 0.60 0.16 0.66 0.71 0.78
Net realized and unrealized
gains (losses) from
investment transactions...... (0.63) (0.08) 0.58 0.29 0.22 (0.01)
-------- -------- -------- -------- -------- --------
Net increase (decrease) from
investment operations........ (0.05) 0.52 0.74 0.95 0.93 0.77
-------- -------- -------- -------- -------- --------
Less dividends and
distributions:
Dividends from net investment
income....................... (0.58) (0.60) (0.16) (0.66) (0.71) (0.78)
Distributions from net
realized gains from
investment transactions...... (0.10) (0.31) (0.17) (0.03) (0.03) --
-------- -------- -------- -------- -------- --------
Total dividends and
distributions to
shareholders................. (0.68) (0.91) (0.33) (0.69) (0.74) (0.78)
-------- -------- -------- -------- -------- --------
Net asset value, end of
period....................... $ 10.68 $ 11.41 $ 11.80 $ 11.39 $ 11.13 $ 10.94
-------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- --------
Total investment return(1).... (0.18)% 4.46% 6.52% 8.73% 8.84% 6.89%
-------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- --------
Ratios and supplemental data:
Net assets, end of period
(000's)...................... $178,234 $227,179 $247,025 $239,851 $231,987 $211,701
Ratios of expenses to average
net assets**............... 0.88% 0.90% 0.99%* 0.93% 0.83% 0.68%
Ratios of net investment
income to average net
assets**................... 5.55% 5.10% 5.61%* 5.80% 6.46% 6.78%
Portfolio turnover rate....... 10.61% 36.73% 3.42% 24.78% 2.44% 22.82%
<CAPTION>
CALIFORNIA TAX-FREE INCOME FUND
------------------------------------------------------
CLASS A
------------------------------------------------------
FOR THE
PERIOD
SEPTEMBER 16,
1985
(COMMENCEMENT
OF
OPERATIONS)
FOR THE YEARS ENDED NOVEMBER 30, TO NOVEMBER
--------------------------------------- 30,
1989 1988 1987 1986 1985
-------- -------- -------- -------- -------------
<S> <C> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 10.67 $ 10.40 $ 11.23 $ 9.94 $ 9.57
-------- -------- -------- -------- ------
Net increase (decrease) from
investment operations:
Net investment income......... 0.74 0.75 0.75 0.79 0.17
Net realized and unrealized
gains (losses) from
investment transactions...... 0.28 0.27 (0.83) 1.29 0.37
-------- -------- -------- -------- ------
Net increase (decrease) from
investment operations........ 1.02 1.02 (0.08) 2.08 0.54
-------- -------- -------- -------- ------
Less dividends and
distributions:
Dividends from net investment
income....................... (0.74) (0.75) (0.75) (0.79) (0.17)
Distributions from net
realized gains from
investment transactions...... -- -- -- -- --
-------- -------- -------- -------- ------
Total dividends and
distributions to
shareholders................. (0.74) (0.75) (0.75) (0.79) (0.17)
-------- -------- -------- -------- ------
Net asset value, end of
period....................... $ 10.95 $ 10.67 $ 10.40 $ 11.23 $ 9.94
-------- -------- -------- -------- ------
-------- -------- -------- -------- ------
Total investment return(1).... 9.85% 10.02% (0.74)% 21.69% 5.07%
-------- -------- -------- -------- ------
-------- -------- -------- -------- ------
Ratios and supplemental data:
Net assets, end of period
(000's)...................... $200,398 $163,651 $158,272 $152,015 $ 63,932
Ratios of expenses to average
net assets**............... 0.76% 0.73% 0.71% 0.67% 0.04%*
Ratios of net investment
income to average net
assets**................... 6.82% 6.98% 6.96% 7.22% 7.78%*
Portfolio turnover rate....... 4.02% 7.50% 9.57% 7.13% 0.00%
</TABLE>
- ------------------
+ Commencement of issuance of shares.
* Annualized.
** During certain periods presented above, PaineWebber reimbursed the Fund for
portions of its operating expenses. If such reimbursements had not been
made, the annualized ratio of expenses to average net assets and the
annualized ratio of net investment income to average net assets would have
been 0.74% and 7.15%, respectively, for the year ended November 30, 1986 and
1.26% and 6.56%, respectively, for the period from September 16, 1985 to
November 30, 1985.
(1) Total investment return is calculated assuming a $1,000 investment on the
first day of each period reported, reinvestment of all dividends and other
distributions at net asset value on the payable dates and a sale at net
asset value on the last day of each period reported. The figures do not
include sales charges; results for Class A and Class B shares would be lower
if sales charges were included. Total investment returns for periods of less
than one year have not been annualized.
8
<PAGE>
<TABLE>
<CAPTION>
CALIFORNIA TAX-FREE INCOME FUND
------------------------------------------------------------
CLASS B
------------------------------------------------------------
FOR THE
FOR THE FOR THE PERIOD
YEARS THREE FOR THE JULY 1,
ENDED MONTHS YEAR 1991+
FEBRUARY 28, ENDED ENDED TO
----------------- FEBRUARY 28, NOVEMBER 30, NOVEMBER 30,
1995 1994 1993 1992 1991
------- ------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 11.41 $ 11.81 $ 11.39 $ 11.14 $ 10.95
------- ------- ---------- ----------- ----------
Net increase (decrease) from
investment operations:
Net investment income......... 0.50 0.51 0.14 0.57 0.25
Net realized and unrealized
gains (losses) from
investment transactions...... (0.62) (0.09) 0.59 0.28 0.19
------- ------- ---------- ----------- ----------
Net increase (decrease) from
investment operations........ (0.12) 0.42 0.73 0.85 0.44
------- ------- ---------- ----------- ----------
Less dividends and
distributions:
Dividends from net investment
income....................... (0.50) (0.51) (0.14) (0.57) (0.25)
Distributions from net
realized gains from
investment transactions...... (0.10) (0.31) (0.17) (0.03) --
------- ------- ---------- ----------- ----------
Total dividends and
distributions to
shareholders................. (0.60) (0.82) (0.31) (0.60) (0.25)
------- ------- ---------- ----------- ----------
Net asset value, end of
period....................... $ 10.69 $ 11.41 $ 11.81 $ 11.39 $ 11.14
------- ------- ---------- ----------- ----------
------- ------- ---------- ----------- ----------
Total investment return(1).... (0.85)% 3.56% 6.50% 7.80% 3.69%
------- ------- ---------- ----------- ----------
------- ------- ---------- ----------- ----------
Ratios and supplemental data:
Net assets, end of period
(000's)...................... $33,007 $41,979 $ 36,693 $ 30,205 $ 10,743
Ratios of expenses to average
net assets**............... 1.64% 1.65% 1.74%* 1.68% 1.62%*
Ratios of net investment
income to average net
assets**................... 4.78% 4.32% 4.81%* 4.91% 5.02%*
Portfolio turnover rate....... 10.61% 36.73% 3.42% 24.78% 2.44%
<CAPTION>
CALIFORNIA TAX-FREE INCOME FUND
----------------------------------------------
CLASS D
----------------------------------------------
FOR THE
FOR THE FOR THE PERIOD
YEARS THREE JULY 2,
ENDED MONTHS 1992+
FEBRUARY 28, ENDED TO
----------------- FEBRUARY 28, NOVEMBER 30,
1995 1994 1993 1992
------- ------- ------------ ------------
<S> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 11.40 $ 11.79 $ 11.38 $ 11.41
------- ------- ----------- ----------
Net increase (decrease) from
investment operations:
Net investment income......... 0.53 0.54 0.14 0.21
Net realized and unrealized
gains (losses) from
investment transactions...... (0.63) (0.08) 0.58 (0.03)
------- ------- ----------- ----------
Net increase (decrease) from
investment operations........ (0.10) 0.46 0.72 0.18
------- ------- ----------- ----------
Less dividends and
distributions:
Dividends from net investment
income....................... (0.53) (0.54) (0.14) (0.21)
Distributions from net
realized gains from
investment transactions...... (0.10) (0.31) (0.17) --
------- ------- ----------- ----------
Total dividends and
distributions to
shareholders................. (0.63) (0.85) (0.31) (0.21)
------- ------- ----------- ----------
Net asset value, end of
period....................... $ 10.67 $ 11.40 $ 11.79 $ 11.38
------- ------- ----------- ----------
------- ------- ----------- ----------
Total investment return(1).... (0.70)% 3.91% 6.49% 1.28%
------- ------- ----------- ----------
------- ------- ----------- ----------
Ratios and supplemental data:
Net assets, end of period
(000's)...................... $28,217 $53,874 $ 39,029 $ 30,141
Ratios of expenses to average
net assets**............... 1.40% 1.39% 1.48%* 1.39%*
Ratios of net investment
income to average net
assets**................... 5.05% 4.55% 5.06%* 4.79%*
Portfolio turnover rate....... 10.61% 36.73% 3.42% 24.78%
</TABLE>
9
<PAGE>
<TABLE>
<CAPTION>
NATIONAL TAX-FREE INCOME FUND
------------------------------------------------------------
CLASS A
------------------------------------------------------------
FOR THE
THREE
FOR THE YEARS ENDED MONTHS FOR THE YEARS ENDED NOVEMBER
FEBRUARY 28, ENDED 30,
------------------- FEBRUARY ----------------------------
1995 1994 28, 1993 1992 1991 1990
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 12.00 $ 12.09 $ 11.67 $ 11.40 $ 11.20 $ 11.21
-------- -------- -------- -------- -------- --------
Net increase (decrease) from
investment operations:
Net investment income......... 0.63 0.64 0.17 0.71 0.76 0.78
Net realized and unrealized
gains (losses) from
investment transactions...... (0.73) 0.03 0.55 0.31 0.20 (0.01)
-------- -------- -------- -------- -------- --------
Net increase (decrease) from
investment operations........ (0.10) 0.67 0.72 1.02 0.96 0.77
-------- -------- -------- -------- -------- --------
Less dividends and
distributions:
Dividends from net
investment income............ (0.63) (0.64) (0.17) (0.71) (0.76) (0.78)
Distributions from net
realized gains
from investment
transactions................. (0.01) (0.12) (0.13) (0.04) -- --
-------- -------- -------- -------- -------- --------
Total dividends and
distributions
to shareholders.............. (0.64) (0.76) (0.30) (0.75) (0.76) (0.78)
-------- -------- -------- -------- -------- --------
Net asset value, end of
period....................... $ 11.26 $ 12.00 $ 12.09 $ 11.67 $ 11.40 $ 11.20
-------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- --------
Total investment return(1).... (0.63)% 5.65% 6.31% 9.21% 8.85% 7.17%
-------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- --------
Ratios and supplemental data:
Net assets, end of period
(000's).................... $346,579 $432,825 $419,596 $396,587 $366,300 $343,539
Ratios of expenses to average
net assets................. 0.88% 0.89% 0.88%* 0.91% 0.83% 0.69%
Ratios of net investment
income to average net
assets..................... 5.62% 5.28% 5.86%* 6.13% 6.66% 7.08%
Portfolio turnover rate....... 59.85% 15.87% 5.36% 21.40% 26.69% 24.45%
<CAPTION>
NATIONAL TAX-FREE INCOME FUND
------------------------------------------------------
CLASS A
------------------------------------------------------
FOR THE
PERIOD
DECEMBER 3,
1984+
FOR THE YEARS ENDED NOVEMBER 30, TO NOVEMBER
--------------------------------------- 30,
1989 1988 1987 1986 1985
-------- -------- -------- -------- -------------
<S> <C> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 10.98 $ 10.64 $ 11.48 $ 10.28 $ 9.57
-------- -------- -------- -------- -------------
Net increase (decrease) from
investment operations:
Net investment income......... 0.81 0.79 0.78 0.63 0.85
Net realized and unrealized
gains (losses) from
investment transactions...... 0.23 0.34 (0.84) 1.20 0.71
-------- -------- -------- -------- -------------
Net increase (decrease) from
investment operations........ 1.04 1.13 (0.06) 2.03 1.56
-------- -------- -------- -------- -------------
Less dividends and
distributions:
Dividends from net
investment income............ (0.81) (0.79) (0.78) (0.63) (0.85)
Distributions from net
realized gains
from investment
transactions................. -- -- -- -- --
-------- -------- -------- -------- -------------
Total dividends and
distributions
to shareholders.............. (0.81) (0.79) (0.78) (0.83) (0.85)
-------- -------- -------- -------- -------------
Net asset value, end of
period....................... $ 11.21 $ 10.98 $ 10.64 $ 11.48 $ 10.28
-------- -------- -------- -------- -------------
-------- -------- -------- -------- -------------
Total investment return(1).... 9.77% 10.85% (0.50)% 20.49% 16.61%
-------- -------- -------- -------- -------------
-------- -------- -------- -------- -------------
Ratios and supplemental data:
Net assets, end of period
(000's).................... $333,314 $307,954 $322,325 $359,439 $ 154,252
Ratios of expenses to average
net assets................. 0.62% 0.75% 0.78% 0.72% 0.70%*
Ratios of net investment
income to average net
assets..................... 7.32% 7.14% 7.07% 7.39% 8.24%*
Portfolio turnover rate....... 10.57% 1.35% 15.96% 5.38% 6.83%
</TABLE>
- ------------------
+ Commencement of issuance of shares.
* Annualized.
(1) Total investment return is calculated assuming a $1,000 investment on the
first day of each period reported, reinvestment of all dividends and other
distributions at net asset value on the payable dates and a sale at net
asset value on the last day of each period reported. The figures do not
include sales charges; results for Class A and Class B shares would be lower
if sales charges were included. Total investment returns for periods of less
than one year have not been annualized.
10
<PAGE>
<TABLE>
<CAPTION>
NATIONAL TAX-FREE INCOME FUND
--------------------------------------------------------
CLASS B
--------------------------------------------------------
FOR THE
PERIOD
FOR THE JULY 1,
THREE FOR THE 1991+
FOR THE YEARS ENDED MONTHS YEAR TO
FEBRUARY 28, ENDED ENDED NOVEMBER
-------------------- FEBRUARY NOVEMBER 30,
1995 1994 28, 1993 30, 1992 1991
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 11.99 $ 12.08 $ 11.67 $ 11.40 $11.19
-------- -------- -------- -------- --------
Net increase (decrease) from
investment operations:
Net investment income......... 0.54 0.55 0.15 0.62 0.27
Net realized and unrealized
gains (losses) from
investment transactions...... (0.72) 0.03 0.54 0.31 0.21
-------- -------- -------- -------- --------
Net increase (decrease) from
investment operations........ (0.18) 0.58 0.69 0.93 0.48
-------- -------- -------- -------- --------
Less dividends and
distributions:
Dividends from net
investment income............ (0.54) (0.55) (0.15) (0.62) (0.27)
Distributions from net
realized gains
from investment
transactions................. (0.01) (0.12) (0.13) (0.04) --
-------- -------- -------- -------- --------
Total dividends and
distributions
to shareholders.............. (0.55) (0.67) (0.28) (0.66) (0.27)
-------- -------- -------- -------- --------
Net asset value, end of
period....................... $ 11.26 $ 11.99 $ 12.08 $ 11.67 $11.40
-------- -------- -------- -------- --------
-------- -------- -------- -------- --------
Total investment return(1).... (1.29)% 4.87% 6.02% 8.36% 4.06%
-------- -------- -------- -------- --------
-------- -------- -------- -------- --------
Ratios and supplemental data:
Net assets, end of period
(000's).................... $ 58,958 $ 70,988 $50,064 $39,564 $8,620
Ratios of expenses to average
net assets................. 1.64% 1.63% 1.63%* 1.65% 1.65%*
Ratios of net investment
income to average net
assets..................... 4.86% 4.50% 5.08%* 5.16% 5.26%*
Portfolio turnover rate....... 59.85% 15.87% 5.36% 21.40% 26.69%
<CAPTION>
CLASS D
--------------------------------------------------
FOR THE
THREE
MONTHS FOR THE PERIOD
FOR THE YEARS ENDED ENDED JULY 2, 1992+
FEBRUARY 28, FEBRUARY TO
-------------------- 28, NOVEMBER 30,
1995 1994 1993 1992
-------- -------- -------- ---------------
<S> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 12.00 $ 12.09 $ 11.67 $ 11.71
-------- -------- -------- --------
Net increase (decrease) from
investment operations:
Net investment income......... 0.57 0.58 0.15 0.23
Net realized and unrealized
gains (losses) from
investment transactions...... (0.73) 0.03 0.55 (0.04)
-------- -------- -------- --------
Net increase (decrease) from
investment operations........ (0.16) 0.61 0.70 0.19
-------- -------- -------- --------
Less dividends and
distributions:
Dividends from net
investment income............ (0.57) (0.58) (0.15) (0.23)
Distributions from net
realized gains
from investment
transactions................. (0.01) (0.12) (0.13) --
-------- -------- -------- --------
Total dividends and
distributions
to shareholders.............. (0.58) (0.70) (0.28) (0.23)
-------- -------- -------- --------
Net asset value, end of
period....................... $ 11.26 $ 12.00 $ 12.09 $ 11.67
-------- -------- -------- --------
-------- -------- -------- --------
Total investment return(1).... (1.13)% 5.13% 6.18% 1.41%
-------- -------- -------- --------
-------- -------- -------- --------
Ratios and supplemental data:
Net assets, end of period
(000's).................... $101,642 $187,778 $138,989 $105,854
Ratios of expenses to average
net assets................. 1.40% 1.37% 1.37%* 1.42%*
Ratios of net investment
income to average net
assets..................... 5.13% 4.75% 5.30%* 5.17%*
Portfolio turnover rate....... 59.85% 15.87% 5.36% 21.40%
</TABLE>
11
<PAGE>
<TABLE>
<CAPTION>
MUNICIPAL HIGH INCOME FUND
------------------------------------------------------------------------------------------
CLASS A
------------------------------------------------------------------------------------------
FOR THE YEARS ENDED FOR THE
------------------------------------------------------------------------------ PERIOD
JUNE 23,
FEBRUARY 28, FEBRUARY 29, FEBRUARY 28, 1987+ TO
----------------------------- ------------ ----------------------------- FEBRUARY
1995 1994 1993 1992 1991 1990 1989 29, 1988
------- ------- ------- ------------ ------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 10.77 $ 10.96 $ 10.29 $ 9.92 $ 10.00 $ 9.91 $ 9.80 $ 9.58
------- ------- ------- ------------ ------- ------- ------- --------
Net increase (decrease) from
investment operations:
Net investment income.......... 0.59 0.61 0.67 0.71 0.72 0.74 0.75 0.50
Net realized and unrealized
gains (losses) from
investment transactions...... (0.82) 0.01 0.81 0.44 (0.08) 0.09 0.11 0.22
------- ------- ------- ------------ ------- ------- ------- --------
Net increase (decrease) from
investment operations........ (0.23) 0.62 1.48 1.15 0.64 0.83 0.86 0.72
------- ------- ------- ------------ ------- ------- ------- --------
Less dividends and
distributions:
Dividends from net investment
income....................... (0.59) (0.61) (0.67) (0.71) (0.72) (0.74) (0.75) (0.50)
Distributions from net realized
gains from investment
transactions................. (0.03) (0.20) (0.14) (0.07) -- -- -- --
------- ------- ------- ------------ ------- ------- ------- --------
Total dividends and
distributions to
shareholders................. (0.62) (0.81) (0.81) (0.78) (0.72) (0.74) (0.75) (0.50)
------- ------- ------- ------------ ------- ------- ------- --------
Net asset value, end of
period....................... $ 9.92 $ 10.77 $ 10.96 $ 10.29 $ 9.92 $ 10.00 $ 9.91 $ 9.80
------- ------- ------- ------------ ------- ------- ------- --------
------- ------- ------- ------------ ------- ------- ------- --------
Total investment return(1)..... (2.03)% 5.77% 15.05% 11.94% 6.69% 8.74% 9.11% 7.23%
------- ------- ------- ------------ ------- ------- ------- --------
------- ------- ------- ------------ ------- ------- ------- --------
Ratios and supplemental data:
Net assets, end of period
(000's).................... $63,287 $82,248 $82,251 $ 68,830 $62,559 $61,067 $54,512 $48,515
Ratios of expenses to average
net assets**............... 1.13% 1.03% 0.87% 0.75% 0.69% 0.65% 0.60% 0.12%*
Ratios of net investment
income to average net
assets**................... 5.96% 5.52% 6.31% 6.99% 7.32% 7.35% 7.64% 7.63%*
Portfolio turnover rate........ 28.44% 23.19% 10.05% 45.93% 19.82% 17.13% 13.95% 0.00%
</TABLE>
- ------------------
+ Commencement of issuance of shares.
* Annualized.
** During some of the periods presented above, PaineWebber/Mitchell Hutchins
reimbursed the Fund for a portion of its operating expenses and/or waived
all or a portion of its advisory and administration, distribution and
transfer agency fees. If such reimbursements and waivers had not been made,
for the Class A shares, the ratios of expenses to average net assets and the
ratios of net investment income to average net assets would have been 1.16%
and 5.39%, respectively, for the year ended February 28, 1994 and 1.29% and
5.89%, 1.25% and 6.49%, 1.54% and 6.47%, 1.49% and 6.51%, 1.46% and 6.78%,
and 1.40%* and 6.35%*, respectively, for the year ended February 28, 1993,
for the year ended February 29, 1992 and for the years ended February 28,
1991, 1990, 1989, and for the period from June 23, 1987 to February 29,
1988. If such reimbursements and waivers had not been made for the Class B
shares, the ratios of expenses to average net assets and the ratios
of net investment income to average net assets would have been 1.90%
and 4.61% for the year ended February 28, 1994 and 2.01% and 5.10%, and
1.98%* and 5.32%*, respectively, for the year ended February 28, 1993 and
for the period from July 1, 1991 to February 29, 1992. If such
reimbursements and waivers had not been made for the Class D shares, the
ratios of expenses to average net assets and net investment income to
average net assets would have been 1.64% and 4.85%, respectively, for the
year ended February 28, 1994 and 1.69%* and 4.97%*, respectively, for the
period July 2, 1992 to February 28, 1993.
(1) Total investment return is calculated assuming a $1,000 investment on the
first day of each period reported, reinvestment of all dividends and other
distributions at net asset value on the payable dates and a sale at net
asset value on the last day of each period reported. The figures do not
include sales charges; results for Class A and Class B shares would be lower
if sales charges were included. Total investment returns for periods of less
than one year have not been annualized.
12
<PAGE>
<TABLE>
<CAPTION>
MUNICIPAL HIGH INCOME FUND
------------------------------------------------------------------------------------
CLASS B CLASS D
----------------------------------------------- --------------------------------
FOR THE YEARS ENDED FOR THE FOR THE YEARS ENDED FOR THE
------------------------------- PERIOD ------------------- PERIOD
JULY 1, JULY 2,
FEBRUARY 28, 1991+ TO FEBRUARY 28, 1992+ TO
------------------------------- FEBRUARY ------------------- FEBRUARY
1995 1994 1993 29, 1992 1995 1994 28, 1993
------- ------- ------- ----------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Net asset value, beginning of
period....................... $ 10.76 $ 10.96 $ 10.29 $ 10.05 $ 10.77 $ 10.96 $ 10.50
------- ------- ------- ----------- ------- ------- --------
Net increase (decrease) from
investment operations:
Net investment income.......... 0.52 0.52 0.59 0.42 0.55 0.55 0.36
Net realized and unrealized
gains (losses) from
investment transactions...... (0.81) -- 0.81 0.31 (0.82) 0.01 0.47
------- ------- ------- ----------- ------- ------- --------
Net increase (decrease) from
investment operations........ (0.29) 0.52 1.40 0.73 (0.27) 0.56 0.83
------- ------- ------- ----------- ------- ------- --------
Less dividends and
distributions:
Dividends from net investment
income....................... (0.52) (0.52) (0.59) (0.42) (0.55) (0.55) (0.36)
Distributions from net realized
gains from investment
transactions................. (0.03) (0.20) (0.14) (0.07) (0.03) (0.20) (0.01)
------- ------- ------- ----------- ------- ------- --------
Total dividends and
distributions to
shareholders................. (0.55) (0.72) (0.73) (0.49) (0.58) (0.75) (0.37)
------- ------- ------- ----------- ------- ------- --------
Net asset value, end of
period....................... $ 9.92 $ 10.76 $ 10.96 $ 10.29 $ 9.92 $ 10.77 $ 10.96
------- ------- ------- ----------- ------- ------- --------
------- ------- ------- ----------- ------- ------- --------
Total investment return(1)..... (2.67)% 4.88% 14.81% 6.89% (2.51)% 5.24% 7.72%
------- ------- ------- ----------- ------- ------- --------
------- ------- ------- ----------- ------- ------- --------
Ratios and supplemental data:
Net assets, end of period
(000's).................... $25,823 $32,287 $22,922 $ 8,176 $23,158 $35,872 $21,638
Ratios of expenses to average
net assets**............... 1.87% 1.79% 1.63% 1.50%* 1.63% 1.54% 1.40%*
Ratios of net investment
income to average net
assets**................... 5.21% 4.72% 5.48% 5.80%* 5.48% 4.95% 5.26%*
Portfolio turnover rate........ 28.44% 23.19% 10.05% 45.93% 28.44% 23.19% 10.05%
</TABLE>
13
<PAGE>
<TABLE>
<CAPTION>
NEW YORK TAX-FREE INCOME FUND
------------------------------------------------------------------------------------
CLASS A
------------------------------------------------------------------------------------
FOR THE YEARS ENDED
--------------------------------------------------------------
FOR THE PERIOD
FEBRUARY 28, FEBRUARY 29, FEBRUARY 28, SEPTEMBER 30, 1988+
---------------------------- ------------ ----------------- TO FEBRUARY 28,
1995 1994 1993 1992 1991 1990 1989
------- ------- ------- ------------ ------- ------- -------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Net asset value, beginning of
period............................. $ 11.03 $ 10.99 $ 10.12 $ 9.76 $ 9.72 $ 9.59 $ 9.60
------- ------- ------- ------------ ------- ------- --------
Net increase (decrease) from
investment operations:
Net investment income................ 0.54 0.57 0.63 0.66 0.67 0.70 0.28
Net realized and unrealized gains
(losses) from investment
transactions....................... (0.66) 0.07 0.87 0.36 0.04 0.13 (0.01)
------- ------- ------- ------------ ------- ------- --------
Net increase (decrease) from
investment operations.............. (0.12) 0.64 1.50 1.02 0.71 0.83 0.27
------- ------- ------- ------------ ------- ------- --------
Less dividends and distributions:
Dividends from net investment
income............................. (0.54) (0.57) (0.63) (0.66) (0.67) (0.70) (0.28)
Distributions from net realized gains
from investment transactions....... (0.10) (0.03) -- -- -- -- --
------- ------- ------- ------------ ------- ------- --------
Total dividends and distributions to
shareholders....................... (0.64) (0.60) (0.63) (0.66) (0.67) (0.70) (0.28)
------- ------- ------- ------------ ------- ------- --------
Net asset value, end of period....... $ 10.27 $ 11.03 $ 10.99 $ 10.12 $ 9.76 $ 9.72 $ 9.59
------- ------- ------- ------------ ------- ------- --------
------- ------- ------- ------------ ------- ------- --------
Total investment return(1)........... (0.83)% 5.89% 15.44% 10.80% 7.59% 8.94% 2.25%
------- ------- ------- ------------ ------- ------- --------
------- ------- ------- ------------ ------- ------- --------
Ratios and supplemental data:
Net assets, end of period
(000's)........................ $32,475 $45,033 $43,443 $ 35,961 $30,173 $21,999 $11,222
Ratios of expenses to average net
assets**....................... 1.01% 0.75% 0.34% 0.25% 0.21% 0.00% 0.00%*
Ratios of net investment income
to average net assets**........ 5.38% 5.13% 6.07% 6.65% 6.93% 7.07% 6.96%*
Portfolio turnover rate.............. 6.30% 8.14% 5.76% 5.55% 2.65% 0.00% 0.00%
</TABLE>
- ------------------
+ Commencement of issuance of shares.
* Annualized.
** During some of the periods presented above, PaineWebber/Mitchell Hutchins
reimbursed the Fund for a portion of its operating expenses and/or waived
all or a portion of its advisory and administration, distribution and
transfer agency service fees. If such reimbursements and waivers had not
been made, for the Class A shares the ratios of expenses to average net
assets and the ratios of net investment income to average net assets would
have been 1.26% and 5.13%, 1.25% and 4.63%, 1.47% and 4.94%, 1.53% and
5.37%, 1.84% and 5.30%, 2.20% and 4.87%, and 3.04%* and 3.92%*,
respectively, for the years ended February 28, 1995, 1994, 1993, for the
year ended February 29, 1992, and for the years ended February 28, 1991 and
1990, and for the period September 30, 1988 to February 28, 1989. If such
reimbursements and waivers had not been made for the Class B shares, the
ratios of expenses to average net assets and the ratios of net investment
income to average net assets would have been 2.01% and 4.83%, 1.99% and
3.86%, 2.19% and 4.13% and 2.20%* and 4.39%*, respectively, for the years
ended February 28, 1995, 1994, 1993 and for the period from July 1, 1991 to
February 29, 1992. If such reimbursements and waivers had not been made for
the Class D shares, the ratios of expenses to average net assets and the
ratios of net investment income to average net assets would have been 1.75%
and 4.65%, 1.72% and 4.10%, and 1.83%* and 4.11%*, respectively, for the
year ended February 28, 1995, 1994, for the period from July 2, 1992 to
February 28, 1993.
(1) Total investment return is calculated assuming a $1,000 investment on the
first day of each period reported, reinvestment of all dividends and other
distributions at net asset value on the payable dates and a sale at net
asset value on the last day of each period reported. The figures do not
include sales charges; results for Class A and Class B shares would be
lower if sales charges were included. Total investment returns for periods
of less than one year have not been annualized.
14
<PAGE>
<TABLE>
<CAPTION>
NEW YORK TAX-FREE INCOME FUND
-----------------------------------------------------
CLASS B
-----------------------------------------------------
FOR THE
YEARS ENDED FOR THE PERIOD
FEBRUARY 28, JULY 1, 1991+
---------------------------------- TO FEBRUARY 29,
1995 1994 1993 1992
-------- ------- ------------ ---------------
<S> <C> <C> <C> <C>
Net asset value, beginning of
period............................. $ 11.03 $ 10.98 $ 10.12 $ 9.81
-------- ------- ------------ -------
Net increase (decrease) from
investment operations:
Net investment income................ 0.47 0.49 0.56 0.39
Net realized and unrealized gains
(losses) from investment
transactions....................... (0.66) 0.08 0.86 0.31
-------- ------- ------------ -------
Net increase (decrease) from
investment operations.............. (0.19) 0.57 1.42 0.70
-------- ------- ------------ -------
Less dividends and distributions:
Dividends from net investment
income............................. (0.47) (0.49) (0.56) (0.39)
Distributions from net realized gains
from investment transactions....... (0.10) (0.03) -- --
-------- ------- ------------ -------
Total dividends and distributions to
shareholders....................... (0.57) (0.52) (0.56) (0.39)
-------- ------- ------------ -------
Net asset value, end of period....... $ 10.27 $ 11.03 $ 10.98 $ 10.12
-------- ------- ------------ -------
-------- ------- ------------ -------
Total investment return(1)........... (1.57)% 5.19% 14.35% 6.80%
-------- ------- ------------ -------
-------- ------- ------------ -------
Ratios and supplemental data:
Net assets, end of period (000's).... $ 14,660 $19,193 $ 13,776 $ 6,026
Ratios of expenses to average net
assets**....................... 1.76% 1.51% 1.10% 1.00%*
Ratios of net investment income
to average net assets**........ 4.63% 4.34% 5.22% 5.59%*
Portfolio turnover rate.............. 6.30% 8.14% 5.76% 5.55%
<CAPTION>
NEW YORK TAX-FREE INCOME FUND
------------------------------------------
CLASS D
------------------------------------------
FOR THE
YEARS ENDED FOR THE PERIOD
FEBRUARY 28, JULY 2, 1992+
----------------------- TO FEBRUARY 28,
1995 1994 1993
------- ------------ ---------------
<S> <C> <C> <C>
Net asset value, beginning of
period............................. $ 11.03 $ 10.99 $ 10.45
------- ------------ ---------------
Net increase (decrease) from
investment operations:
Net investment income................ 0.49 0.51 0.36
Net realized and unrealized gains
(losses) from investment
transactions....................... (0.65) 0.07 0.54
------- ------------ ---------------
Net increase (decrease) from
investment operations.............. (0.16) 0.58 0.90
------- ------------ ---------------
Less dividends and distributions:
Dividends from net investment
income............................. (0.49) (0.51) (0.36)
Distributions from net realized gains
from investment transactions....... (0.10) (0.03) --
------- ------------ ---------------
Total dividends and distributions to
shareholders....................... (0.59) (0.54) (0.36)
------- ------------ ---------------
Net asset value, end of period....... $ 10.28 $ 11.03 $ 10.99
------- ------------ ---------------
------- ------------ ---------------
Total investment return(1)........... (1.20)% 5.35% 8.38%
------- ------------ ---------------
------- ------------ ---------------
Ratios and supplemental data:
Net assets, end of period (000's).... $21,095 $38,165 $19,553
Ratios of expenses to average net
assets**....................... 1.52% 1.27% 0.90%*
Ratios of net investment income
to average net assets**........ 4.89% 4.55% 5.04%*
Portfolio turnover rate.............. 6.30% 8.14% 5.76%
</TABLE>
15
<PAGE>
FLEXIBLE PRICING SYSTEM
DIFFERENCES AMONG THE CLASSES
The primary distinctions among the Classes of each Fund's shares lie in
their initial and contingent deferred sales charge structures and in their
ongoing expenses, including asset-based sales charges in the form of
distribution fees. These differences are summarized in the table below. Each
Class has distinct advantages and disadvantages for different investors, and
investors may choose the Class that best suits their circumstances and
objectives.
<TABLE>
<CAPTION>
ANNUAL 12b-1 FEES
(AS A % OF AVERAGE
DAILY
SALES CHARGE NET ASSETS) OTHER INFORMATION
-------------------- -------------------- --------------------
<S> <C> <C> <C>
CLASS A Maximum initial Service fee of 0.25% Initial sales charge
sales charge of 4% waived or reduced for
of the public certain purchases
offering price
CLASS B Maximum contingent Service fee of 0.25% Shares convert to
deferred sales Distribution fee of Class A shares
charge of 5% of 0.75% approximately six
redemption years after issuance
proceeds; declines
to zero after six
years
CLASS D None Service fee of 0.25% --
Distribution fee of
0.50%
</TABLE>
FACTORS TO CONSIDER IN CHOOSING A CLASS OF SHARES
In deciding which Class of shares to purchase, investors should consider
the cost of sales charges together with the cost of the ongoing annual expenses
described below, as well as any other relevant facts and circumstances.
SALES CHARGES. Class A shares are sold at net asset value plus an initial
sales charge of up to 4.0% of the public offering price. Because of this initial
sales charge, not all of a Class A shareholder's purchase price is invested in
the Fund. Class B shares are sold with no initial sales charge, but a contingent
deferred sales charge of up to 5% of the redemption proceeds applies to
redemptions made within six years of purchase. Class D shareholders pay no
initial or contingent deferred sales charges. Thus, the entire amount of a Class
B or Class D shareholder's purchase price is immediately invested in the Fund.
WAIVERS AND REDUCTIONS OF CLASS A SALES CHARGES. Class A share purchases
over $100,000 and Class A share purchases made under a Fund's reduced sales
charge plan may be made at a reduced sales charge. In considering the combined
cost of sales charges and ongoing annual expenses, investors should take into
account any reduced sales charges on Class A shares for which they may be
eligible.
The entire initial sales charge on Class A shares is waived for certain
eligible purchasers. Because Class A shares bear lower ongoing annual expenses
than Class B shares or Class D shares, investors eligible for complete waivers
should purchase Class A shares.
ONGOING ANNUAL EXPENSES. All three Classes of Fund shares pay an annual
12b-1 service fee of 0.25% of average daily net assets. Class B shares pay an
annual 12b-1 distribution fee of 0.75%, and Class D shares pay an annual 12b-1
distribution fee of 0.50%, of average daily net assets. Annual 12b-1
distribution fees are a form of asset-based sales charge. An investor should
consider both ongoing annual expenses and initial or contingent deferred sales
charges in estimating the costs of investing in the respective Classes of Fund
shares over various time periods.
16
<PAGE>
For example, assuming a constant net asset value, the cumulative
distribution fees on a Fund's Class B and Class D shares would approximate the
expense of the 4% maximum initial sales charge on the Class A shares if the
shares were held for approximately 5 1/2 years in the case of the Class B shares
and approximately 8 years in the case of the Class D shares. The cumulative
distribution fees on the Class D shares would approximate the cumulative
distribution fees on the Class B shares if the shares were held for 9 years.
Thus, an investor who would be subject to the maximum initial sales charge on
Class A shares and who expects to hold a Fund's shares for less than 8 years
generally should expect to pay the lowest cumulative expenses by purchasing
Class D shares.
The foregoing examples do not reflect, among other variables, the cost or
benefit of bearing sales charges or distribution fees at the time of purchase,
upon redemption or over time, nor can they reflect fluctuations in the net asset
value of Fund shares, which will affect the actual amount of expenses paid.
Expenses borne by Classes may differ slightly because of the allocation of other
Class-specific expenses. The 'Example of Effect of Fund Expenses' under
'Prospectus Summary' shows for each Fund the cumulative expenses an investor
would pay over time on a hypothetical investment in each Class of Fund shares,
assuming an annual return of 5%.
OTHER INFORMATION
PaineWebber investment executives may receive different levels of
compensation for selling one particular Class of shares rather than another.
Investors should understand that distribution fees and initial and contingent
deferred sales charges all are intended to compensate Mitchell Hutchins for
distribution services.
See 'Purchases,' 'Redemptions' and 'Management' for a more complete
description of the initial and contingent deferred sales charges, service fees
and distribution fees for the three Classes of shares of each Fund. See also
'Conversion of Class B Shares,' 'Dividends and Taxes,' 'Valuation of Shares' and
'General Information' for other differences among the three Classes.
INVESTMENT OBJECTIVES AND POLICIES
INVESTMENT OBJECTIVES AND PRIMARY INVESTMENTS
The investment objective of CALIFORNIA TAX-FREE INCOME FUND is to provide
high current income exempt from federal income tax and California personal
income tax, consistent with the preservation of capital and liquidity within the
Fund's quality standards. The Fund seeks to invest 100% of its net assets in
California Obligations and, except under unusual market conditions, invests at
least 80% of its net assets in California Obligations that pay interest that is
not an item of tax preference for purposes of the federal alternative minimum
tax ('AMT') ('AMT exempt interest'). See 'Other Investment Policies.'
The investment objective of NATIONAL TAX-FREE INCOME FUND is to provide
high current income exempt from federal income tax, consistent with the
preservation of capital and liquidity within the Fund's quality standards. The
Fund seeks to invest 100% of its net assets in municipal obligations with
varying maturities. Except under unusual market conditions, the Fund invests at
least 80% of its net assets in municipal obligations that pay AMT exempt
interest. See 'Other Investment Policies.'
The investment objective of MUNICIPAL HIGH INCOME FUND is to provide high
current income exempt from federal income tax. Except under unusual market
conditions, the Fund invests at least 80% of its net assets in municipal
obligations. The Fund may invest without limit in municipal obligations that pay
interest that is not AMT exempt interest. To date, the Fund has not purchased
such obligations.
The investment objective of NEW YORK TAX-FREE INCOME FUND is to provide
high current income exempt from federal income tax and from
17
<PAGE>
New York State and New York City personal income taxes. The Fund seeks to invest
100% of its net assets in New York Obligations and, except under unusual market
conditions, invests at least 80% of its net assets in New York Obligations that
pay AMT exempt interest. See 'Other Investment Policies.'
National Tax-Free Income Fund and Municipal High Income Fund each may
invest in municipal obligations of issuers in any state that meet the particular
Fund's investment standards and pay interest that is exempt from federal income
tax. California Tax-Free Income Fund and New York Tax-Free Income Fund normally
invest only in municipal obligations that are California Obligations and New
York Obligations, respectively. Municipal obligations include, but are not
limited to, municipal bonds, floating rate and variable rate municipal
obligations, inverse floaters, participation interests in municipal bonds,
tax-exempt commercial paper, tender option bonds and short-term municipal notes.
Municipal bonds include industrial development bonds ('IDBs'), municipal lease
obligations and certificates of participation therein, put bonds and private
activity bonds ('PABs'). Each Fund also may invest in stand-by commitments, as
described in the Statement of Additional Information. No Fund may invest more
than 10% of its total assets in inverse floaters. Because most PABs do not pay
AMT exempt interest, none of California Tax-Free Income Fund, National Tax-Free
Income Fund and New York Tax-Free Income Fund will invest more than 20% of its
net assets in such PABs, except under unusual market conditions. The principal
municipal obligations in which the Funds invest are described in Appendix A to
this Prospectus.
There can be no assurance that any Fund will achieve its investment
objective. Each Fund's net asset value fluctuates based upon changes in the
value of its portfolio securities. Each Fund's investment objective and certain
investment limitations described in the Statement of Additional Information are
fundamental policies that may not be changed without shareholder approval. In
addition, California Tax-Free Income Fund's policy of investing at least 80% of
its net assets in California Obligations that pay AMT exempt interest, National
Tax-Free Income Fund's policy of investing at least 80% of its net assets in
municipal obligations that pay AMT exempt interest, Municipal High Income Fund's
policy of investing at least 80% of its net assets in municipal obligations and
New York Tax-Free Income Fund's policy of investing at least 80% of its net
assets in New York Obligations that pay AMT exempt interest, may not be changed
without shareholder approval. All other investment policies may be changed
without shareholder approval by the appropriate Trust's board of trustees.
OTHER INVESTMENT POLICIES AND RISK FACTORS
CREDIT QUALITY. Each Fund invests only in municipal securities that
present acceptable credit risks in the judgment of Mitchell Hutchins and, with
the exception of Municipal High Income Fund, that at the time of purchase are
rated at least Baa or MIG-2 by Moody's Investors Service, Inc. ('Moody's'), BBB
or SP-2 by Standard & Poor's Ratings Group ('S&P'), have been assigned an
equivalent rating by another nationally recognized statistical rating
organization ('NRSRO') or, if unrated, are determined by Mitchell Hutchins to be
of comparable quality. Except as described below, Municipal High Income Fund
invests at least 65% and seeks to invest 100% of its net assets in medium and
lower grade municipal obligations. Medium grade municipal obligations are of
investment grade quality and are rated A, Baa or MIG-2 by Moody's, A, BBB or
SP-2 by S&P, have been assigned an equivalent rating from another NRSRO or, if
unrated, are determined by Mitchell Hutchins to be of comparable quality. Lower
grade municipal obligations are those rated Ba, B, MIG-3 or MIG-4 by Moody's,
BB, B or SP-3 by S&P, have an equivalent rating from another NRSRO or, if
unrated, are determined by Mitchell Hutchins to be of comparable quality.
Mitchell Hutchins does not intend during the coming year to invest Municipal
High Income Fund's assets in securities rated lower than B by Moody's or S&P at
the time of purchase. Medium
18
<PAGE>
and lower grade municipal securities generally offer a higher current yield than
higher rated securities, but also carry greater investment risk. See 'Yield and
Risk Factors' and 'Risks of Lower Rated Securities.'
Municipal High Income Fund also may invest up to 35%, and temporarily may
invest more than 35%, of its net assets in higher grade municipal securities if
Mitchell Hutchins considers such a strategy to be appropriate. For example,
Municipal High Income Fund might make such investments when the difference in
returns between different grades of municipal securities is very narrow,
Mitchell Hutchins expects interest rates to rise or the availability of medium
and lower grade securities is limited. Investments in higher grade securities
may result in lower yield than if the Fund were fully invested in medium and
lower grade issues.
During the 1995 fiscal year, Municipal High Income Fund had 100% of its
average annual net assets in municipal securities that received a rating from
Moody's or S&P. Municipal High Income Fund had the following percentages of its
average annual net assets invested in rated securities: AAA/Aaa (including cash
items and repurchase agreements)--9.9%, AA/Aa--9.2%, A/A--24.7%, BBB/Baa--43.8%,
BB/Ba--9.7%, B/B--2.7%, CCC/Caa--0%, CC/Ca--0%, C/C--0%, and D--0%. Municipal
securities that received different ratings from Moody's and S&P were assigned to
the lower rating category. It should be noted that this information reflects the
average composition of the Fund's assets during the fiscal year ended February
28, 1995, and is not necessarily representative of the Fund's assets at the end
of that fiscal year, the current fiscal year or any other time in the future.
Moody's and S&P may assign equivalent ratings to those described above for
specific categories of securities. See the Statement of Additional Information
and Appendix B to this Prospectus for further information about Moody's and S&P
ratings.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES. Each Fund may purchase
securities on a 'when-issued' basis, or may purchase or sell securities for
delayed delivery. In when-issued or delayed delivery transactions, delivery of
the securities occurs beyond normal settlement periods, but a Fund would not pay
for such securities or start earning interest on them until they are delivered.
However, when a Fund purchases securities on a when-issued or delayed delivery
basis, it immediately assumes the risks of ownership, including the risk of
price fluctuation. Failure by a counter party to deliver a security purchased on
a when-issued or delayed delivery basis may result in the Fund's incurring a
loss or missing an opportunity to make an alternative investment. Depending on
market conditions, a Fund's when-issued and delayed delivery purchase
commitments could cause its net asset value per share to be more volatile,
because such securities may increase the amount by which the Fund's total
assets, including the value of when-issued and delayed delivery securities held
by the Fund, exceed its net assets.
YIELD AND RISK FACTORS. The yield of a municipal security depends on a
variety of factors, including general municipal and fixed-income security market
conditions, the financial condition of the issuer, the size of the particular
offering, the maturity, credit quality and rating of the issue and expectations
regarding changes in tax rates. Generally, the longer the maturity of a
municipal security, the higher the rate of interest paid and the greater the
volatility. Further, if general market interest rates are increasing, the prices
of municipal obligations ordinarily will decrease and, if rates decrease, the
opposite generally will be true. During periods of market uncertainty, the
market values of fixed income securities can become volatile. Each Fund may
invest in municipal securities with a broad range of maturities, based on
Mitchell Hutchins' judgment of current and future market conditions as well as
other factors, such as the Fund's liquidity needs. Accordingly, the average
weighted maturity of each Fund's portfolio may vary.
Ratings of municipal securities represent the NRSROs' opinions regarding
their quality, are not a guarantee of quality and may be reduced after a
19
<PAGE>
Fund has acquired the security. Mitchell Hutchins will consider such an event in
deciding whether a Fund should continue to hold the security but is not required
to dispose of it. However, in the event that, due to a downgrade of one or more
debt securities, an amount in excess of 5% of the net assets of California
Tax-Free Income Fund, National Tax-Free Income Fund or New York Tax-Free Income
Fund is held in securities rated below investment grade and comparable unrated
securities, Mitchell Hutchins will engage in an orderly disposition of these
securities to the extent necessary to ensure that the Fund's holdings of these
securities do not exceed 5% of its net assets. Credit ratings attempt to
evaluate the safety of principal and interest payments and do not reflect an
assessment of the volatility of the security's market value or the liquidity of
an investment in the security. Also, NRSROs may fail to make timely changes in
credit ratings in response to subsequent events, so that an issuer's current
financial condition may be better or worse than the rating indicates. Securities
rated BBB by S&P or Baa by Moody's are investment grade, but Moody's considers
securities rated Baa to have speculative characteristics. Changes in economic
conditions or other circumstances are more likely to lead to a weakened capacity
for such securities to make principal and interest payments than is the case for
higher grade municipal securities. In addition, future federal, state and local
laws may adversely affect the tax-exempt status of interest on a Fund's
portfolio securities or of the exempt-interest dividends paid by a Fund, extend
the time for payment of principal or interest or otherwise constrain enforcement
of such obligations. Opinions relating to the validity of municipal securities
and the tax-exempt status of interest thereon are rendered by the issuer's bond
counsel at the time of issuance; Mitchell Hutchins will rely on such opinions
without independent investigation.
Municipal High Income Fund and New York Tax-Free Income Fund are each
'non-diversified,' as that term is defined in the Investment Company Act of 1940
('1940 Act'). Each intends to continue to qualify as a 'regulated investment
company' for federal income tax purposes. See 'Dividends and Taxes.' This means,
in general, that more than 5% of each Fund's total assets may be invested in
securities of one issuer, but only if, at the close of each quarter of the
Fund's taxable year, the aggregate amount of such holdings does not exceed 50%
of the value of its total assets and no more than 25% of the value of its total
assets is invested in the securities of a single issuer. Although Mitchell
Hutchins anticipates that normally each Fund's portfolio will include the
securities of a number of different issuers, each of these Funds may be subject
to greater risk with respect to its portfolio securities than a 'diversified'
investment company, because changes in the financial condition or market
assessment of a single issuer may cause greater fluctuation in the Fund's yield
and the net asset value of Fund shares.
Each Fund may invest more than 25% of its total assets in municipal
securities that are related in such a way that an economic, business or
political development or change affecting one such security also might affect
the other securities, such as securities the interest on which is paid from
revenues of similar types of projects. The Funds may be subject to greater risk
than other funds that do not follow this practice.
RISKS OF LOWER RATED SECURITIES. Municipal High Income Fund's policy of
investing a portion of its assets in lower rated securities entails greater
risks than those associated with investment in higher rated securities.
Municipal securities rated below investment grade are deemed by Moody's and S&P
to be predominantly speculative with respect to the issuer's capacity to pay
interest and repay principal and may involve major risk exposure to adverse
conditions. Such securities are commonly referred to as municipal 'junk bonds.'
Lower rated municipal securities generally offer a higher current yield
than higher grade issues, but they involve higher risks, in that they are
especially subject to adverse changes in general economic conditions, in
economic conditions in the issuer's geographic area and in the industries or
activities in
20
<PAGE>
which the issuer is engaged, to changes in the financial condition of the
issuers and to price fluctuations in response to changes in interest rates.
During periods of economic downturn or rising interest rates, municipal issuers
may experience financial stress which could adversely affect their ability to
make payments of principal and interest and increase the possibility of default.
In addition, medium and lower grade municipal securities are frequently
traded only in markets where the number of potential purchasers and sellers, if
any, is limited. This factor may limit Municipal High Income Fund's ability to
acquire such securities and also may limit the Fund's ability to sell such
securities at their fair value in response to changes in the economy or the
financial markets. This may be especially true of unrated securities. Although
unrated securities are not necessarily of lower quality than rated securities,
the market for rated securities generally is broader than that for unrated
issues. Adverse publicity and investor perceptions, whether or not based on
fundamental analysis, may also decrease the values and liquidity of lower rated
securities, especially in a thinly traded market.
Although Mitchell Hutchins will attempt to minimize the speculative risks
associated with investments in lower rated securities through credit analysis
and monitoring and attention to current trends in interest rates and other
factors, investors should carefully review the investment objective and policies
of Municipal High Income Fund and consider their ability to assume the
investment risks involved before making an investment.
RISKS OF CALIFORNIA OBLIGATIONS. California Tax-Free Income Fund's
investment concentration in California Obligations involves greater risks than
if it selected its investments from a broader range of issuers. The Fund's yield
and net asset value per share can be affected by political and economic
developments within the State of California ('California'), and by the financial
condition of California, its public authorities and political subdivisions. From
1990 to 1993, California suffered a severe economic recession, which caused
substantial, broad-based revenue shortfalls for the state and local governments.
As a result, the State has experienced substantial financial difficulties, which
still remain, although the economy has entered a sustained recovery since the
end of 1993. California's long-term credit rating has been, and could be
further, reduced and its ability to provide assistance to its public authorities
and political subdivisions has been, and could be further, impaired. Cutbacks in
state aid could adversely affect the financial condition of cities, counties and
education districts previously subject to severe fiscal constraints and facing a
fall in their own tax collections.
In the past, California voters have passed amendments to the California
Constitution and other measures that limit the taxing and spending authority of
California governmental entities and future voter initiatives could result in
adverse consequences affecting California Obligations. These factors, among
others (including the outcome of related pending litigation), could reduce the
credit standing of certain issuers of California Obligations. A more detailed
discussion of the risks of investing in California Obligations is included in
the Statement of Additional Information.
RISKS OF NEW YORK OBLIGATIONS. New York Tax-Free Income Fund's investment
concentration in New York Obligations involves greater risks than if it invested
in the securities of a broader range of issuers. The Fund's yield and the value
of its portfolio can be affected by political and economic developments within
the State of New York ('State'), and by the financial condition of the State,
its public authorities and political subdivisions, particularly the City of New
York ('City'). Although the State reduced its accumulated General Fund deficit
and experienced operating surpluses in fiscal year ('FY') 1991-92, FY1992-93
and FY1993-94, it continues to experience substantial financial difficulties
related to the recent recession resulting in, among other things, reductions in
General Fund receipts. An estimated budget gap of approximately $4.7 billion is
projected for FY1995-96 unless numerous and substantial corrective measures are
successfully
21
<PAGE>
implemented. The City (which is constrained in its fiscal flexibility by an
already heavy local tax burden, urgent social needs and its extensive and
deteriorating infrastructure) and most suburban county governments are also
experiencing serious fiscal problems related to the recessionary performance of
the regional economy, which has caused substantial, broad-based and recurring
revenue shortfalls. The credit standings of the State and the City have been,
and could be further, reduced, and the State's ability to provide assistance to
its public authorities and political subdivisions has been, and could be
further, impaired. A more detailed discussion of the risks of investing in New
York Obligations is included in the Statement of Additional Information.
OTHER INVESTMENT POLICIES. During unusual market conditions, including
when in the opinion of Mitchell Hutchins there are insufficient suitable
municipal obligations available, each of California Tax-Free Income Fund,
National Tax-Free Income Fund and New York Tax-Free Income Fund, for defensive
purposes, temporarily may invest more than 20% of its net assets in other
municipal obligations. For this purpose, 'suitable municipal obligations' means,
in the case of California Tax-Free Income Fund, California Obligations that pay
AMT exempt interest, in the case of National Tax-Free, municipal obligations
that pay AMT exempt interest and, in the case of New York Tax-Free Income Fund,
New York Obligations that pay AMT exempt interest. 'Other municipal obligations'
means municipal obligations that pay interest that is exempt from federal income
tax but is subject to California personal income tax (in the case of California
Tax-Free Income Fund), New York personal income tax (in the case of New York
Tax-Free Income Fund) or is not AMT exempt interest.
Each Fund expects that under normal circumstances it will maintain needed
liquidity through the purchase of short-term municipal securities, including
tender option bonds. However, when Mitchell Hutchins believes unusual
circumstances warrant a defensive position, including when in the opinion of
Mitchell Hutchins no suitable municipal obligations are available, each Fund
temporarily and without percentage limit may hold cash and invest in taxable
money market instruments, including repurchase agreements. Interest earned from
such taxable investments will be taxable to investors as ordinary income when
distributed. If a Fund holds cash, the cash would not earn income and would
reduce the Fund's yield.
Each Fund is authorized to engage in certain option income strategies and
to use options and futures in hedging strategies, all of which may generate
taxable income. None of the Funds have engaged in these strategies in the past
or have any intention of so doing during the coming year. A discussion of these
strategies is included in the Statement of Additional Information. Each Fund may
borrow money for emergency or temporary purposes, but not in excess of 10% of
its total assets. No Fund will invest more than 10% of its net assets in
illiquid securities. The term 'illiquid securities' for this purpose means
securities that cannot be disposed of within seven days in the ordinary course
of business at approximately the amount at which the Fund has valued the
securities and includes, among other things, repurchase agreements maturing in
more than seven days and municipal lease obligations (including certificates of
participation) other than those Mitchell Hutchins has determined are liquid
pursuant to guidelines established by the appropriate Trust's board of trustees.
PURCHASES
GENERAL. Class A shares of the Funds are sold to investors subject to an
initial sales charge; Class B shares of the Funds are sold without an initial
sales charge but are subject to higher ongoing expenses than Class A shares and
a contingent deferred sales charge payable upon certain redemptions. Class B
shares automatically convert to Class A shares approximately six years after
issuance. Class D shares are sold without an initial or a contingent deferred
sales charge but are subject to higher ongoing expenses than Class A shares and
do not convert into another Class. See 'Flexible Pricing System' and
'Conversion of Class B Shares.'
22
<PAGE>
Shares of the Funds are available through PaineWebber and its correspondent
firms or, for shareholders who are not PaineWebber clients, through the Transfer
Agent. Investors may contact a local PaineWebber office to open an account. The
minimum initial investment for each Fund is $1,000 and the minimum for
additional purchases is $100. These minimums may be waived or reduced for
investments by employees of PaineWebber or its affiliates and participants in a
Fund's automatic investment plan. Purchase orders will be priced at the net
asset value per share next determined (see 'Valuation of Shares') after the
order is received by PaineWebber's New York City offices or by the Transfer
Agent, plus any applicable sales charge for Class A shares. Each Fund and
Mitchell Hutchins reserve the right to reject any purchase order and to suspend
the offering of Fund shares for a period of time.
When placing purchase orders, investors should specify whether the order is
for Class A, Class B or Class D shares. All share purchase orders that fail to
specify a Class will automatically be invested in Class A shares.
PURCHASES THROUGH PAINEWEBBER OR CORRESPONDENT FIRMS. Purchases through
PaineWebber investment executives or correspondent firms may be made in person
or by mail, telephone or wire; the minimum wire purchase is $1 million.
Investment executives and correspondent firms are responsible for transmitting
purchase orders to PaineWebber's New York City offices promptly. Investors may
pay for purchases with checks drawn on U.S. banks or with funds held in
brokerage accounts at PaineWebber or its correspondent firms. Payment is due on
the third Business Day after the order is received at Paine-
Webber's New York City offices. A 'Business Day' is any day, Monday through
Friday, on which the New York Stock Exchange, Inc. ('NYSE') is open for
business.
PURCHASES THROUGH THE TRANSFER AGENT. Investors who are not PaineWebber
clients may purchase shares of the Funds through the Transfer Agent. Shares of a
Fund may be purchased, and an account with the Fund established, by completing
and signing the purchase application at the end of this Prospectus and mailing
it, together with a check to cover the purchase, to the Transfer Agent: PFPC
Inc., Attn: PaineWebber Mutual Funds, P.O. Box 8950, Wilmington, Delaware 19899.
Subsequent investments need not be accompanied by an application.
INITIAL SALES CHARGE--CLASS A SHARES. The public offering price of Class A
shares is the next determined net asset value, plus any applicable sales charge,
which will vary with the size of the purchase as shown in the following table:
INITIAL SALES CHARGE SCHEDULE--CLASS A SHARES
<TABLE>
<CAPTION>
DISCOUNT TO
SELECTED
DEALERS AS A
SALES CHARGE AS A PERCENTAGE OF PERCENTAGE
------------------------------- OF
OFFERING NET AMOUNT INVESTED OFFERING
AMOUNT OF PURCHASE PRICE (NET ASSET VALUE) PRICE
- --------------------------- -------- ------------------- ------------
<S> <C> <C> <C>
Less than $100,000......... 4.00% 4.17% 3.75%
$100,000 to $249,999....... 3.00 3.09 2.75
$250,000 to $499,999....... 2.25 2.30 2.00
$500,000 to $999,999....... 1.75 1.78 1.50
$1,000,000 and over (1).... None None 1.00
</TABLE>
- ------------------
(1) Mitchell Hutchins pays compensation to PaineWebber out of its own resources.
23
<PAGE>
Mitchell Hutchins may at times agree to reallow a higher discount to
PaineWebber, as primary dealer for each Fund's shares, than those shown above.
To the extent PaineWebber or any dealer receives 90% or more of the sales
charge, it may be deemed an 'underwriter' under the Securities Act of 1933.
SALES CHARGE WAIVERS--CLASS A SHARES. Class A shares of the Funds are
available without a sales charge through exchanges for Class A shares of most
other PaineWebber and MH/KP mutual funds. See 'Exchanges.' In addition, Class A
shares may be purchased without a sales charge, and exchanges made without the
$5.00 exchange fee, by employees, directors and officers of PaineWebber or its
affiliates, directors or trustees and officers of any PaineWebber or MH/KP
mutual funds, their spouses, parents and children and advisory clients of
Mitchell Hutchins.
Class A shares also may be purchased without a sales charge if the purchase
is made through a PaineWebber investment executive who formerly was employed as
a broker with another firm registered as a broker-dealer with the SEC, provided
(1) the purchaser was the investment executive's client at the competing
brokerage firm, (2) within 90 days of the purchase of Class A shares the
purchaser redeemed shares of one or more mutual funds for which that competing
firm or its affiliates was principal underwriter, provided the purchaser either
paid a sales charge to invest in those funds, paid a contingent deferred sales
charge upon redemption or held shares of those funds for the period required not
to pay the otherwise applicable contingent deferred sales charge and (3) the
total amount of shares of all PaineWebber and MH/KP funds purchased under this
sales charge waiver does not exceed the amount of the purchaser's redemption
proceeds from the competing firm's funds. To take advantage of this waiver, an
investor must provide satisfactory evidence that all the above-noted conditions
are met. Qualifying investors should contact their PaineWebber investment
executives for more information.
Certificate holders of certain municipal bond trusts ('MBTs') sponsored by
PaineWebber may acquire Class A shares of the Funds without regard to the
minimum investment requirements and without sales charges by electing to have
distributions from their MBT investment automatically invested in Class A
shares. In addition, certificate holders who have had past MBT distributions
reinvested through the MBT reinvestment program may, upon redemption of those
reinvestment units, invest the full amount of all redemption proceeds in shares
of a Fund, also without sales charges and without regard to minimum investment
requirements.
REDUCED SALES CHARGE PLANS--CLASS A SHARES. If an investor or eligible
group of related Fund investors purchases Class A shares of a Fund concurrently
with Class A shares of other PaineWebber or MH/KP mutual funds, the purchases
may be combined to take advantage of the reduced sales charge applicable to
larger purchases. In addition, the right of accumulation permits a Fund investor
or eligible group of related Fund investors to pay the lower sales charge
applicable to larger purchases by basing the sales charge on the dollar amount
of Class A shares currently being purchased, plus the net asset value of the
investor's or group's total existing Class A shareholdings in other PaineWebber
or MH/KP mutual funds.
An 'eligible group of related Fund investors' includes an individual, the
individual's spouse, parents and children, the individual's individual
retirement account ('IRA'), certain companies controlled by the individual and
employee benefit plans of those companies, and trusts or Uniform Gifts to Minors
Act/Uniform Transfers to Minors Act accounts created by the individual or
eligible group of individuals for the benefit of the individual and/or the
individual's spouse, parents or children. The term also includes a group of
related employers and one or more qualified retirement plans of such employers.
For more information, an investor should consult the Statement of Additional
Information or contact a PaineWebber investment executive or correspondent firm
or the Transfer Agent.
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CONTINGENT DEFERRED SALES CHARGE--CLASS B SHARES. The public offering
price of the Class B shares of each Fund is the next determined net asset value,
and no initial sales charge is imposed. A contingent deferred sales charge,
however, is imposed upon certain redemptions of Class B shares.
Class B shares that are redeemed will not be subject to a contingent
deferred sales charge to the extent that the value of such shares represents (1)
capital appreciation of Fund assets, (2) reinvestment of dividends or capital
gain distributions or (3) shares redeemed more than six years after their
purchase. Otherwise, redemptions of Class B shares of a Fund will be subject to
a contingent deferred sales charge. The amount of any applicable contingent
deferred sales charge will be calculated by multiplying the net asset value of
such shares at the time of redemption by the applicable percentage shown in the
table below:
<TABLE>
<CAPTION>
CONTINGENT
DEFERRED
SALES CHARGE AS A
PERCENTAGE OF
REDEMPTION NET ASSET VALUE
DURING AT REDEMPTION
- --------------------------------------------- -----------------
<S> <C>
1st Year Since Purchase...................... 5%
2nd Year Since Purchase...................... 4
3rd Year Since Purchase...................... 3
4th Year Since Purchase...................... 2
5th Year Since Purchase...................... 2
6th Year Since Purchase...................... 1
7th Year Since Purchase...................... None
</TABLE>
In determining the applicability and rate of any contingent deferred sales
charge, it will be assumed that a redemption is made first of Class B shares
representing capital appreciation, next of shares representing the reinvestment
of dividends and capital gain distributions and finally of other shares held by
the shareholder for the longest period of time. The holding period of Class B
shares acquired through an exchange with another PaineWebber mutual fund will be
calculated from the date that the Class B shares were initially acquired in one
of the other PaineWebber funds, and Class B shares being redeemed will be
considered to represent, as applicable, capital appreciation or dividend and
capital gain distribution reinvestments in such other funds. This will result in
any contingent deferred sales charge being imposed at the lowest possible rate.
For federal income tax purposes, the amount of the contingent deferred sales
charge will reduce the gain or increase the loss, as the case may be, realized
on the redemption. The amount of any contingent deferred sales charge will be
paid to Mitchell Hutchins.
SALES CHARGE WAIVERS--CLASS B SHARES. The contingent deferred sales charge
will be waived for exchanges, as described below, and for redemptions in
connection with each Fund's systematic withdrawal plan. In addition, the
contingent deferred sales charge will be waived where a total or partial
redemption is made within one year of the death of the shareholder. The
contingent deferred sales charge waiver is available where the decedent is
either the sole shareholder or owns the shares with his or her spouse as a joint
tenant with right of survivorship. This waiver applies only to redemption of
shares held at the time of death.
Contingent deferred sales charge waivers will be granted subject to
confirmation (by PaineWebber in the case of shareholders who are Paine-
Webber clients or by the Transfer Agent in the case of all other shareholders)
of the shareholder's status or holdings, as the case may be.
PURCHASES OF CLASS D SHARES. The public offering price of the Class D
shares of each Fund is the next determined net asset value. No initial or
contingent deferred sales charge is imposed.
EXCHANGES
Shares of each Fund may be exchanged for shares of the corresponding Class
of the other Funds or the PaineWebber or MH/KP mutual funds listed below, or may
be acquired through an exchange of shares of the corresponding Class of those
funds. No initial sales charge is imposed on the shares being acquired, and no
contingent deferred sales
25
<PAGE>
charge is imposed on the shares being disposed of, through an exchange. However,
contingent deferred sales charges may apply to redemptions of Class B shares of
PaineWebber mutual funds acquired through an exchange. A $5.00 exchange fee is
charged for each exchange, and exchanges may be subject to minimum investment
requirements of the fund into which exchanges are made.
The other PaineWebber and MH/KP mutual funds with which Fund shares may be
exchanged, include:
INCOME FUNDS
o MH/KP Adjustable Rate Government Fund
o MH/KP Global Fixed Income Fund
o MH/KP Government Income Fund
o MH/KP Intermediate Fixed Income Fund
o PW Global Income Fund
o PW High Income Fund
o PW Investment Grade Income Fund
o PW Short-Term U.S. Government Income
Fund
o PW Short-Term U.S. Government Income
Fund for Credit Unions
o PW Strategic Income Fund
o PW U.S. Government Income Fund
TAX-FREE INCOME FUNDS
o MH/KP Municipal Bond Fund
GROWTH FUNDS
o MH/KP Emerging Markets Equity Fund
o MH/KP Global Equity Fund
o MH/KP Small Cap Growth Fund
o PW Atlas Global Growth Fund
o PW Blue Chip Growth Fund
o PW Capital Appreciation Fund
o PW Communications & Technology Growth
Fund
o PW Europe Growth Fund
o PW Growth Fund
o PW Regional Financial Growth Fund
o PW Small Cap Value Fund
GROWTH AND INCOME FUNDS
o MH/KP Asset Allocation Fund
o MH/KP Equity Income Fund
o PW Asset Allocation Fund
o PW Global Energy Fund
o PW Global Growth and Income Fund
o PW Growth and Income Fund
o PW Utility Income Fund
MONEY MARKET FUNDS
o PW Money Market Fund
PaineWebber clients must place exchange orders through their PaineWebber
investment executives or correspondent firms unless the shares to be exchanged
are held in certificate form. Shareholders who are not PaineWebber clients or
who hold their shares in certificate form must place exchange orders in writing
with the Transfer Agent: PFPC Inc., Attn: PaineWebber Mutual Funds, P.O. Box
8950, Wilmington, Delaware 19899. All exchanges will be effected based on the
relative net asset values per share next determined after the exchange order is
received at PaineWebber's New York City offices or by the Transfer Agent. See
'Valuation of Shares.' Shares of the Funds purchased through Paine-
Webber or its correspondent firms may be exchanged only after the settlement
date has passed and payment for such shares has been made.
OTHER EXCHANGE INFORMATION. This exchange privilege may be modified or
terminated at any time, upon at least 60 days' notice when such notice is
required by SEC rules. This exchange privilege is available only in those
jurisdictions where the sale of the PaineWebber and MH/KP mutual fund shares to
be acquired through such exchange may be legally made. Before making any
exchange, shareholders should contact their PaineWebber investment executives or
correspondent firms or the Transfer Agent to obtain more information and
prospectuses of the PaineWebber and MH/KP mutual funds to be acquired through
the exchange.
26
<PAGE>
REDEMPTIONS
Fund shares may be redeemed at their net asset value (subject to any
applicable contingent deferred sales charge) and redemption proceeds will be
paid after receipt of a redemption request as described below. PaineWebber
clients may redeem non-certificated shares through PaineWebber or its
correspondent firms; all other shareholders must redeem through the Transfer
Agent. If a redeeming shareholder owns shares of more than one Class, the shares
will be redeemed in the following order unless the shareholder specifically
requests otherwise: Class D shares, then Class A shares, and finally Class B
shares.
REDEMPTION THROUGH PAINEWEBBER OR CORRESPONDENT FIRMS. PaineWebber clients
may submit redemption requests to their investment executives or correspondent
firms in person or by telephone, mail or wire. As each Fund's agent, PaineWebber
may honor a redemption request by repurchasing Fund shares from a redeeming
shareholder at the shares' net asset value next determined after receipt of the
request by PaineWebber's New York City offices. Within three Business Days of
receipt of the request, repurchase proceeds (less any applicable contingent
deferred sales charge) will be paid by check or credited to the shareholder's
brokerage account at the election of the shareholder. PaineWebber investment
executives and correspondent firms are responsible for promptly forwarding
redemption re quests to PaineWebber's New York City offices.
PaineWebber reserves the right not to honor any redemption request, in
which case PaineWebber promptly will forward the request to the Transfer
Agent for treatment as described below.
REDEMPTION THROUGH THE TRANSFER AGENT. Fund shareholders who are not
PaineWebber clients or who wish to redeem certificated shares must redeem their
shares through the Transfer Agent by mail; other shareholders also may redeem
Fund shares through the Transfer Agent. Shareholders should mail redemption
requests directly to the Transfer Agent: PFPC Inc., Attn: PaineWebber Mutual
Funds, P.O. Box 8950, Wilmington, Delaware 19899. A redemption request will be
executed at the net asset value next computed after it is received in 'good
order' and redemption proceeds will be paid within three days of receipt of the
request. 'Good order' means that the request must be accompanied by the
following: (1) a letter of instruction or a stock assignment specifying the
number of shares or amount of investment to be redeemed (or that all shares
credited to a Fund account be redeemed), signed by all registered owners of the
shares in the exact names in which they are registered, (2) a guarantee of the
signature of each registered owner by an eligible institution acceptable to the
Transfer Agent and in accordance with SEC rules, such as a commercial bank,
trust company or member of a recognized stock exchange, (3) other supporting
legal documents for estates, trusts, guardianships, custodianships, partnerships
and corporations and (4) duly endorsed share certificates, if any. Shareholders
are responsible for ensuring that a request for redemption is received in 'good
order.'
ADDITIONAL INFORMATION ON REDEMPTIONS. A shareholder who holds
non-certificated Fund shares may have redemption proceeds of $1 million or
more wired to the shareholder's PaineWebber brokerage account or a commercial
bank account designated by the shareholder. Questions about this option, or
redemption requirements generally, should be referred to the shareholder's
PaineWebber investment executive or correspondent firm, or to the Transfer
Agent if the shares are not held in a PaineWebber brokerage account. If a
shareholder requests redemption of shares which were purchased recently, a
Fund may delay payment until it is assured that good payment has been
received. In the case of purchases by check, this can take up to 15 days.
Because the Funds incur certain fixed costs in maintaining shareholder
accounts, each Fund reserves the right to redeem all Fund shares in any
shareholder account of less than $500 net asset value. If a Fund elects to do
so, it will notify the
27
<PAGE>
shareholder and provide the shareholder the opportunity to increase the amount
invested to $500 or more within 60 days of the notice. A Fund will not redeem
accounts that fall below $500 solely as a result of a reduction in net asset
value per share.
Shareholders who have redeemed Class A shares may reinstate their Fund
account without a sales charge up to the dollar amount redeemed by purchasing
Class A shares of the same Fund within 365 days of the redemption. To take
advantage of this reinstatement privilege, shareholders must notify their
PaineWebber investment executive or correspondent firm at the time the privilege
is exercised.
CONVERSION OF CLASS B SHARES
A shareholder's Class B shares will automatically convert to Class A shares
in the same Fund approximately six years after the date of issuance, together
with a pro rata portion of all Class B shares representing dividends and other
distributions paid in additional Class B shares. The Class B shares so converted
will no longer be subject to the higher expenses borne by Class B shares. The
conversion will be effected at the relative net asset values per share of the
two Classes on the first Business Day of the month in which the sixth
anniversary of the issuance of the Class B shares occurs. See 'Valuation of
Shares.' If a shareholder effects one or more exchanges among Class B shares of
the PaineWebber mutual funds during the six-year period, the holding periods for
the shares so exchanged will be counted toward the six-year period.
OTHER SERVICES AND INFORMATION
Investors interested in the services described below should consult their
PaineWebber investment executives or correspondent firms or call the Transfer
Agent toll-free at 1-800-647-1568.
AUTOMATIC INVESTMENT PLAN. Shareholders may purchase shares of the Funds
through an automatic investment plan, under which an amount specified by the
shareholder of $50 or more each month will be sent to the Transfer Agent from
the shareholder's bank for investment in a Fund. In addition to providing a
convenient and disciplined manner of investing, participation in the automatic
investment plan enables the investor to use the technique of 'dollar cost
averaging.' When under the plan a shareholder invests the same dollar amount
each month, the shareholder will purchase more shares when a Fund's net asset
value per share is low and fewer shares when the net asset value per share is
high. Using this technique, a shareholder's average purchase price per share
over any given period will be lower than if the shareholder purchased a fixed
number of shares on a monthly basis during the period. Of course, investing
through the automatic investment plan does not assure a profit or protect
against loss in declining markets. Additionally, since the automatic investment
plan involves continuous investing regardless of price levels, an investor
should consider his or her financial ability to continue purchases through
periods of low price levels.
SYSTEMATIC WITHDRAWAL PLAN. Shareholders who own non-certificated Class A
or Class D shares of a Fund with a value of $5,000 or more or Class B shares of
a Fund with a value of $20,000 or more may have PaineWebber redeem a portion of
their shares monthly, quarterly or semi-annually under the systematic withdrawal
plan. No contingent deferred sales charge will be imposed on such withdrawals
for Class B shares. The minimum amount for all withdrawals of Class A or Class D
shares is $100, and minimum monthly, quarterly and semi-annual withdrawal
amounts for Class B shares are $200, $400 and $600, respectively. Quarterly
withdrawals are made in March, June, September and December, and semi-annual
withdrawals are made in June and December. A Class B shareholder of a Fund may
not withdraw an amount exceeding 12% annually of his or her 'Initial Account
Balance,' a term that means the value of the Fund account at the time the
shareholder elects to participate in the systematic withdrawal plan. A Class B
shareholder's participation in the systematic withdrawal plan will
28
<PAGE>
terminate automatically if the Initial Account Balance (plus the net asset value
on the date of purchase of Fund shares acquired after the election to
participate in the systematic withdrawal plan), less aggregate redemptions made
other than pursuant to the systematic withdrawal plan, is less than $20,000.
Shareholders who receive dividends or other distributions in cash may not
participate in the systematic withdrawal plan. Purchases of additional shares of
a Fund concurrent with withdrawals are ordinarily disadvantageous to
shareholders because of tax liabilities and, for Class A shares, sales charges.
TRANSFER OF ACCOUNTS. If a shareholder holding shares of a Fund in a
PaineWebber brokerage account transfers his brokerage account to another firm,
the Fund shares normally will be transferred to an account with the Transfer
Agent. However, if the other firm has entered into a selected dealer agreement
with Mitchell Hutchins relating to a Fund, the shareholder may be able to hold
Fund Shares in an account with the other firm.
DIVIDENDS AND TAXES
DIVIDENDS. Dividends from each Fund's net investment income are declared
daily and paid monthly. California Tax-Free Income Fund pays dividends about the
fifth day of each month and National Tax-Free Income Fund pays dividends about
the fifteenth day of each month. Municipal High Income Fund and New York
Tax-Free Income Fund pay dividends on or about the first Wednesday of each
month. Net investment income includes accrued interest and discount, less
amortization of premium and accrued expenses, with respect to municipal
securities. Each Fund distributes substantially all of its net capital gain (the
excess of net long-term capital gain over net short-term capital loss), if any,
together with any other taxable income (including any net short-term capital
gain) at least annually. A Fund may make more frequent distributions of any net
capital gain and other taxable income if necessary to avoid a 4% excise tax on
undistributed income and capital gain.
Dividends and other distributions paid on each Class of shares of a Fund
are calculated at the same time and in the same manner. Dividends on Class B and
Class D shares of a Fund are expected to be lower than those for its Class A
shares because of the higher expenses resulting from distribution fees borne by
the Class B and Class D shares. For the same reason, dividends on Class B shares
are expected to be lower than those for Class D shares. Dividends on each Class
also might be affected differently by the allocation of other Class-specific
expenses. See 'Valuation of Shares.'
Shares purchased through PaineWebber investment executives and
correspondent firms begin earning dividends on the Business Day following the
date payment for such shares is due; shares purchased through the Transfer Agent
begin earning dividends on the Business Day following the Transfer Agent's
receipt of payment for such shares. Shares acquired through an exchange begin
earning dividends on the Business Day following the day on which the exchange is
effected.
Each Fund's dividends and other distributions are paid in additional Fund
shares of the same Class at net asset value unless the shareholder has requested
cash payments. Shareholders who wish to receive dividends and/or capital gain
distributions in cash, either mailed to the shareholder by check or credited to
the shareholder's PaineWebber account, should contact their PaineWebber
investment executives or correspondent firms or complete the appropriate section
of the application form.
FEDERAL INCOME TAX. Each Fund intends to continue to qualify for treatment
as a regulated investment company ('RIC') under the Internal Revenue Code so
that it will be relieved of federal income tax on the part of its investment
company taxable income (consisting generally of taxable net investment income
and net short-term capital gain) and net capital gain that is distributed to its
shareholders.
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<PAGE>
Distributions by a Fund that it designates as 'exempt-interest dividends'
generally may be excluded from gross income by a shareholder. In order to pay
exempt-interest dividends to its shareholders, a Fund must (and intends to
continue to) satisfy the requirement that, at the close of each quarter of its
taxable year, at least 50% of the value of its total assets consists of
municipal securities.
Interest on indebtedness incurred or continued by a shareholder to purchase
or carry Fund shares is not deductible. If a Fund invests in certain PABs,
shareholders must include a portion of their exempt-interest dividends from that
Fund in calculating their liability for the AMT. Corporate shareholders must
include all of their exempt-interest dividends in calculating their liability
for that tax.
If a Fund realizes capital gains as a result of market transactions, any
distribution of those gains is taxable to its shareholders.
Each Fund notifies its shareholders following the end of each calendar year
of the amounts of exempt-interest dividends (and any portion thereof that is not
AMT exempt interest), taxable dividends and capital gain distributions paid (or
deemed paid) that year.
A redemption of shares of a Fund may result in taxable gain or loss to the
redeeming shareholder, depending upon whether the redemption proceeds are more
or less than the shareholder's adjusted basis for the redeemed shares (which
normally includes any initial sales charge paid on Class A shares). An exchange
of Fund shares for shares of another PaineWebber or MH/KP mutual fund generally
will have similar tax consequences.
No gain or loss will be recognized to a shareholder as a result of a
conversion of Class B shares into Class A shares.
CALIFORNIA TAXES. If California Tax-Free Income Fund continues to qualify
as a RIC under the Internal Revenue Code and at least 50% of the value of its
total assets consists of California Obligations, exempt-interest dividends de
rived from interest on qualifying California Obligations will be exempt from
California personal income tax ('California exempt-interest dividends'), but not
California franchise tax. Dividends and other distributions derived from
interest on other municipal securities, taxable income and capital gains are
taxable under California law at ordinary income rates. Interest on indebtedness
incurred by a shareholder to purchase or carry shares of the Fund is not
deductible for California personal income tax purposes. California
exempt-interest dividends may affect the calculation of certain adjustments to
alternative minimum taxable income for shareholders that are corporations. The
Fund itself will not be subject to California franchise or corporate income tax
on interest income or net capital gain distributed to its shareholders.
NEW YORK STATE AND NEW YORK CITY TAXES. Exempt-interest dividends paid by
New York Tax-Free Income Fund that are derived from interest on qualifying New
York Obligations will be exempt from New York State and New York City personal
income taxes, but not corporate franchise taxes. Dividends and other
distributions derived from taxable income and capital gains are not exempt from
New York State and New York City taxes. Interest on indebtedness incurred or
continued by a shareholder to purchase or carry shares of the Fund is not
deductible for New York State or New York City personal income tax purposes.
Shareholders receive notification annually stating the portion of the Fund's
tax-exempt income attributable to issuers in New York State, New York City and
other states.
ADDITIONAL INFORMATION. The foregoing is only a summary of some of the
important federal income tax and California, New York State and New York City
personal income tax considerations generally affecting each Fund and its
shareholders; see the Statement of Additional Information for a further
discussion. There may be other federal, state or local tax considerations
applicable to a particular investor. Therefore prospective investors are urged
to consult their tax advisers.
30
<PAGE>
VALUATION OF SHARES
The net asset value of each Fund's shares fluctuates and is determined
separately for each Class as of the close of regular trading on the NYSE
(currently 4:00 p.m., eastern time) each Business Day. Each Fund's net asset
value per share is determined by dividing the value of the securities held by
the Fund plus any cash or other assets minus all liabilities by the total number
of Fund shares outstanding.
Each Fund values its assets based on their current market value when market
quotations are readily available or, when such market quotations are not
available, based upon appraisals received from a pricing system using a
computerized matrix system or based upon appraisals derived from information
from recognized dealers. If such value cannot be established, assets are valued
at fair value as determined in good faith by or under the direction of that
Fund's board of trustees. The amortized cost method of valuation generally is
used to value debt obligations with 60 days or less remaining to maturity,
unless the board of trustees determines that this does not represent fair value.
MANAGEMENT
The board of trustees for each Trust, as part of its overall management
responsibility, oversees various organizations responsible for the day-to-day
management of each Fund in that Trust. Mitchell Hutchins, investment adviser and
administrator of each Fund, makes and implements all investment decisions and
supervises all aspects of each Fund's operations. Mitchell Hutchins receives a
monthly fee from each of California Tax-Free Income Fund and National Tax-Free
Income Fund for these services at the annual rate of 0.50% of that Fund's
average daily net assets and from each of Municipal High Income Fund and New
York Tax-Free Income Fund at the annual rate of 0.60% of that Fund's average
daily net assets. Brokerage transactions for each Fund may be conducted through
PaineWebber in accordance with procedures adopted by the Trust's board of
trustees.
Each Fund also pays PaineWebber an annual fee of $4.00 per active
shareholder account held at PaineWebber for certain services not provided by the
Transfer Agent. Each Fund incurs other expenses and, for the fiscal year ended
February 28, 1995, the Funds' total expenses for their Class A shares, Class B
shares and Class D shares, respectively, stated as a percentage of net assets
were as follows: 0.88%, 1.64% and 1.40% for California Tax-Free Income Fund,
0.88%, 1.64% and 1.40% for National Tax-Free Income Fund, 1.13%, 1.87% and 1.63%
for Municipal High Income Fund and 1.01%, 1.76% and 1.52% for New York Tax-Free
Income Fund. Mitchell Hutchins and PaineWebber waived a portion of their
advisory and administration, distribution and other fees and reimbursed New York
Tax-Free Income Fund for a portion of its expenses. If such waivers and
reimbursements had not been made, that Fund's ratio of expenses for its Class A,
Class B and Class D shares stated as a percentage of average net assets would
have been 1.26%, 2.01% and 1.75%, respectively.
Mitchell Hutchins is located at 1285 Avenue of the Americas, New York, New
York 10019. It is a wholly owned subsidiary of PaineWebber, which is in turn
wholly owned by Paine Webber Group Inc., a publicly owned financial services
holding company. As of May 31, 1995, Mitchell Hutchins was adviser or subadviser
of 42 investment companies with 77 separate portfolios and aggregate assets of
over $27.6 billion.
Gregory W. Serbe, a vice president of each Trust and a managing director of
Mitchell Hutchins, is the portfolio manager and has day-to-day responsibility
for New York Tax-Free Income Fund and Municipal High Income Fund. Mr. Serbe is
also a portfolio manager for the other two Funds. In the case of California
Tax-Free Income Fund, Cynthia N. Bow, a vice president of Mitchell Hutchins, is
a portfolio manager and has day-to-day responsibility for the Fund. In the case
of National Tax-Free Income Fund, Richard S. Murphy, a senior vice president of
Mitchell Hutchins, is a portfolio manager and has day-to-day responsibility for
the Fund. Mr. Serbe has held his Fund responsibilities since
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<PAGE>
the Funds' inception. Ms. Bow and Mr. Murphy have held their Fund
responsibilities since April 1993 and July 1, 1994, respectively.
Mr. Serbe manages or oversees tax-exempt fixed income funds having
aggregate assets of more than $3.6 billion. Mr. Serbe has been with Mitchell
Hutchins since 1983. Ms. Bow has been with Mitchell Hutchins since 1982. Mr.
Murphy has been with Mitchell Hutchins since April 1994. From 1990 to March
1994, he was a vice president at American International Group, where he managed
the municipal bond portfolio.
Other members of Mitchell Hutchins' tax-exempt investments group provide
input on market outlook, interest rate forecasts, and other considerations
pertaining to tax-exempt investments.
Mitchell Hutchins investment personnel may engage in securities
transactions for their own accounts pursuant to a code of ethics that
establishes procedures for personal investing and restricts certain
transactions.
DISTRIBUTION ARRANGEMENTS. Mitchell Hutchins is the distributor of each
Fund's shares and has appointed PaineWebber as the exclusive dealer for the sale
of those shares. Under separate plans of distribution pertaining to each Fund's
Class A shares, Class B shares and Class D shares ('Class A Plan', 'Class B
Plan' and 'Class D Plan,' collectively, 'Plans'), each Fund pays Mitchell
Hutchins monthly service fees at the annual rate of 0.25% of the average daily
net assets of each Class of shares. Each Fund also pays Mitchell Hutchins
monthly distribution fees at the annual rate of 0.75% of the average daily net
assets of the Class B shares and 0.50% of the average daily net assets of the
Class D shares.
Under all three Plans, Mitchell Hutchins uses the service fees primarily to
pay PaineWebber for shareholder servicing, currently at the annual rate of 0.25%
of the aggregate investment amounts maintained in each Fund by PaineWebber
clients. PaineWebber passes on a portion of these fees to its investment
executives to compensate them for shareholder servicing that they perform, and
it retains the remainder to offset its own expenses in servicing and maintaining
shareholder accounts. These expenses may include costs of the PaineWebber branch
office in which the investment executive is based, such as rent, communications
equipment, employee salaries and other overhead costs.
Mitchell Hutchins uses the distribution fees under the Class B and Class D
Plans to offset the commissions it pays to PaineWebber for selling the Fund's
Class B and Class D shares. PaineWebber passes on to its investment executives a
portion of these commissions and retains the remainder to offset its expenses in
selling Class B and Class D shares. These expenses may include the branch office
costs noted above. In addition, Mitchell Hutchins uses the distribution fees
under the Class B and Class D Plans to offset each Fund's marketing costs
attributable to such Classes, such as preparation of sales literature,
advertising and printing and distributing prospectuses and other shareholder
materials to prospective investors. Mitchell Hutchins also may use the
distribution fees to pay additional compensation to PaineWebber and other costs
allocated to Mitchell Hutchins' and PaineWebber's distribution activities,
including employee salaries, bonuses and other overhead expenses.
Mitchell Hutchins expects that, from time to time, PaineWebber will pay
shareholder servicing fees and sales commissions to its investment executives at
the time of sale of Class D shares of the Funds, and that PaineWebber may make
such payments from time to time in the future with respect to Class D shares of
one or more of the Funds. If PaineWebber makes such payments, it will retain the
service and distribution fees on Class D shares until it has been reimbursed and
thereafter will pass a portion of the service and distribution fees on Class D
shares on to its investment executives.
Mitchell Hutchins receives the proceeds of the initial sales charge paid
upon the purchase of Class A shares and the contingent deferred sales charge
paid upon certain redemptions of Class B shares, and may use these proceeds for
any of the
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<PAGE>
distribution expenses described above. See 'Purchases.'
During the period they are in effect, the Plans and related distribution
contracts pertaining to each Class of shares ('Distribution Contracts') obligate
the Funds to pay service and distribution fees to Mitchell Hutchins as
compensation for its service and distribution activities, not as reimbursement
for specific expenses incurred. Thus, even if Mitchell Hutchins' expenses exceed
its service or distribution fees for a Fund, the Fund will not be obligated to
pay more than those fees and, if Mitchell Hutchins' expenses are less than such
fees, it will retain its full fees and realize a profit. Each Fund will pay the
service and distribution fees to Mitchell Hutchins until either the applicable
Plan or Distribution Contract for that Fund is terminated or not renewed. In
that event, Mitchell Hutchins' expenses in excess of service and distribution
fees received or accrued through the termination date will be Mitchell Hutchins'
sole responsibility and not obligations of the Fund. In their annual
consideration of the continuation of each Fund's Plans, the trustees will review
the Plan and Mitchell Hutchins' corresponding expenses for each Class separately
from the Plan and corresponding expenses for the other two Classes.
PERFORMANCE INFORMATION
Each Fund performs a standarized computation of annualized total return and
may show this return in advertisements or promotional materials. Standardized
return shows the change in value of an investment in the Fund as a steady
compound annual rate of return. Actual year-by-year returns fluctuate and may be
higher or lower than standardized return. Standardized return for the Class A
shares of each Fund reflects deduction of the Fund's maximum initial sales
charge at the time of purchase, and standardized return for the Class B shares
of each Fund reflects deduction of the applicable contingent deferred sales
charge imposed on a redemption of shares held for the period. One-, five- and
ten-year periods will be shown, unless the Class has been in existence for a
shorter period. Total return calculations assume reinvestment of dividends and
other distributions.
Each Fund may use other total return presentations in conjunction with
standardized return. These may cover the same or different periods as those used
for standardized return and may include cumulative returns, average annual
rates, actual year-by-year rates or any combination thereof. Non-standardized
return does not reflect initial or contingent deferred sales charges and would
be lower if such charges were included.
Each Fund also may advertise its yield or tax-equivalent yield. Yield
reflects investment income net of expenses over a 30-day (or one-month) period
on a Fund share, expressed as an annualized percentage of the maximum offering
price per share for Class A shares and net asset value per share for Class B
shares and Class D shares at the end of the period. Tax-equivalent yield shows
the yield that would produce the same income after a stated rate of taxes as the
Fund's tax-exempt yield (yield excluding taxable income). Yield computations
differ from other accounting methods and therefore may differ from dividends
actually paid or reported net income.
Each Fund will include performance data for all three Classes of Fund
shares in any advertisements or promotional materials including Fund performance
data. Total return and yield information reflects past performance and does not
necessarily indicate future results. Investment return and principal values will
fluctuate, and proceeds upon redemption may be more or less than a shareholder's
cost.
GENERAL INFORMATION
ORGANIZATION. Both PaineWebber Municipal Series and PaineWebber Mutual
Fund Trust are Massachusetts business trusts which are registered with the SEC
as open-end management investment companies. PaineWebber Municipal Series was
organized under a Declaration of Trust dated January 28, 1987 and PaineWebber
Mutual Fund Trust
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was organized under a Declaration of Trust dated November 21, 1986. The trustees
of each Trust have authority to issue an unlimited number of shares of
beneficial interest of separate series, par value $.001 per share. Although each
Trust is offering only the shares of its Funds, it is possible that a Trust
could become liable for misstatement in this Prospectus about a Fund of the
other Trust. The trustees of each Trust have considered this factor in approving
the use of a combined Prospectus.
The shares of beneficial interest of each Fund are divided into three
Classes, designated Class A shares, Class B shares and Class D shares. Each
Class represents interests in the same assets of each Fund. The Classes differ
as follows: (1) each Class of shares has exclusive voting rights on matters
pertaining to its plan of distribution, (2) Class A shares are subject to an
initial sales charge, (3) Class B shares bear ongoing distribution fees, are
subject to a contingent deferred sales charge upon certain redemptions and will
automatically convert to Class A shares approximately six years after issuance,
(4) Class D shares are subject to neither an initial nor a contingent deferred
sales charge, bear ongoing distribution fees and do not convert into another
Class and (5) each Class may bear differing amounts of certain Class-specific
expenses. Neither Trust's board of trustees anticipates that there will be any
conflicts among the interests of the holders of each Class of Fund shares. On an
ongoing basis, each board of trustees will consider whether any such conflict
exists and, if so, take appropriate action.
The Trusts do not hold annual shareholder meetings. There normally will be
no meetings of shareholders to elect trustees unless fewer than a majority of
the trustees holding office have been elected by shareholders. Shareholders of
record holding at least two-thirds of the outstanding shares of a Trust may
remove a trustee by votes cast in person or by proxy at a meeting called for
that purpose. The trustees of a Trust are required to call a meeting of
shareholders for the purpose of voting upon the question of removal of any
trustee when so re-quested in writing by the shareholders of record holding at
least 10% of the Trust's outstanding shares. Each share of each Fund has equal
voting rights, except as noted above. Each share of each Fund is entitled to
participate equally in dividends and other distributions and the proceeds of any
liquidation, except that, due to the differing expenses borne by the three
Classes of shares, such dividends are likely to be lower for the Class B and
Class D shares than for the Class A shares and are likely to be lower for the
Class B shares than for the Class D shares. The shares of each series of a Trust
will be voted separately except when an aggregate vote of all series is required
by the 1940 Act.
To avoid additional operating costs and for investor convenience, the Funds
do not issue share certificates. Ownership of shares of each Fund is recorded on
a stock register by the Transfer Agent and shareholders have the same rights of
ownership with respect to such shares as if certificates had been issued.
CUSTODIAN AND TRANSFER AGENT. State Street Bank and Trust Company, One
Heritage Drive, North Quincy, Massachusetts 02171 is custodian of each Fund's
assets. PFPC Inc., a subsidiary of PNC Bank, National Association, whose
principal business address is 400 Bellevue Parkway, Wilmington, Delaware 19809,
is the Funds' transfer and dividend disbursing agent.
CONFIRMATIONS AND STATEMENTS. Shareholders receive confirmations of
purchases and redemptions of shares of the Funds. PaineWebber clients receive
statements at least quarterly that report their Fund activity and consolidated
year-end statements that show all Fund transactions for that year. Shareholders
who are not PaineWebber clients receive quarterly statements from the Transfer
Agent. Shareholders also receive audited annual and unaudited semi-annual
financial statements of the Funds.
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APPENDIX A
Each Fund may invest in a variety of municipal securities, as described
below:
MUNICIPAL BONDS. Municipal bonds are debt obligations issued to obtain
funds for various public purposes that pay interest that is exempt from federal
income tax in the opinion of issuer's counsel. The two principal classifications
of municipal bonds are 'general obligation' and 'revenue' bonds. General
obligation bonds are secured by the issuer's pledge of its full faith, credit
and taxing power for the payment of principal and interest. Revenue 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 tax or other
specific revenue source such as from the user of the facility being financed.
The term 'municipal bonds' also includes 'moral obligation' issues, which are
normally issued by special purpose authorities. In the case of such issues, an
express or implied 'moral obligation' of a related government unit is pledged to
the payment of the debt service, but is usually subject to annual budget
appropriations. The term 'municipal bonds' also includes municipal lease
obligations, such as leases, installment purchase contracts and conditional
sales contracts, and certificates of participation therein. Municipal lease
obligations are issued by state and local governments and authorities to
purchase land or various types of equipment or facilities and may be subject to
annual budget appropriations. The Funds generally invest in municipal lease
obligations through certificates of participation. The Funds do not presently
intend to purchase municipal lease obligations that are not rated by Moody's or
S&P.
INDUSTRIAL DEVELOPMENT BONDS AND PRIVATE ACTIVITY BONDS. IDBs and PABs are
issued by or on behalf of public authorities to finance various privately
operated facilities, such as airport or pollution control facilities. These
obligations are included within the term 'municipal bonds' if the interest paid
thereon is exempt from federal income tax in the opinion of the bond issuer's
counsel. IDBs and PABs are in most cases revenue bonds and thus are not payable
from the unrestricted revenues of the issuer. The credit quality of IDBs and
PABs is usually directly related to the credit standing of the user of the
facilities being financed. IDBs issued after August 15, 1986 generally are
considered PABs, and to the extent a Fund invests in such PABs, shareholders
generally will be required to include a portion of their exempt-interest
dividends from that Fund in calculating their liability for the AMT. See
'Dividends and Taxes.' Each Fund is authorized to invest more than 25% of its
net assets in IDBs and PABs.
FLOATING RATE AND VARIABLE RATE OBLIGATIONS. Floating rate and variable
rate obligations bear interest at rates that are not fixed, but that vary with
changes in specified market rates or indices. Accordingly, as interest rates
decrease or increase, the potential for capital appreciation or capital
depreciation is less than for fixed rate obligations. Floating rate or variable
rate obligations typically permit the holder to demand payment of principal from
the issuer or remarketing agent at par value prior to maturity and may permit
the issuer to prepay principal, plus accrued interest, at its discretion after a
specified notice period. Frequently, floating rate or variable rate obligations
and/or the demand features thereon are secured by letters of credit or other
credit support arrangements provided by banks, the credit standing of which
affects the credit quality of the obligations.
PARTICIPATION INTERESTS. Participation interests are interests in
municipal bonds, including IDBs and PABs, and floating and variable rate
obligations that are owned by banks. These interests carry a demand feature
permitting the holder to tender them back to the bank, which demand feature
generally is backed by an irrevocable letter of credit or guarantee of the bank.
The credit standing of such bank affects the credit quality of the participation
interests.
TENDER OPTION BONDS. Tender option bonds are long-term municipal
securities sold by a
35
<PAGE>
bank subject to a 'tender option' that gives the purchaser the right to tender
them to the bank at par plus accrued interest at designated times (the 'tender
option'). The tender option may be exercisable at intervals ranging from
bi-weekly to semi-annually, and the interest rate on the bonds is typically
reset at the end of the applicable interval in an attempt to cause the bonds to
have a market value that approximates their par value. The tender option
generally would not be exercisable in the event of a default on, or significant
downgrading of, the underlying municipal securities. Therefore, a Fund's ability
to exercise the tender option will be affected by the credit standing of both
the bank involved and the issuer of the underlying securities.
PUT BONDS. A put bond is a municipal bond which gives the holder the
unconditional right to sell the bond back to the issuer or a remarketing agent
at a specified price and exercise date, which is typically well in advance of
the bond's maturity date. The obligation to purchase the bond on the exercise
date may be supported by a letter of credit or other credit support arrangement
from a bank, insurance company or other financial institution, the credit
standing of which affects the credit quality of the obligation.
TAX-EXEMPT COMMERCIAL PAPER AND SHORT-TERM MUNICIPAL NOTES. Tax-exempt
commercial paper and short-term municipal notes include tax anticipation notes,
bond anticipation notes, revenue anticipation notes and other forms of
short-term loans. Such notes are issued with a short-term maturity in
anticipation of the receipt of tax funds, the proceeds of bond placements and
other revenues.
INVERSE FLOATERS. Each Fund may invest in municipal obligations on which
the rate of interest varies inversely with interest rates on other municipal
obligations or an index. Such obligations include components of securities on
which interest is paid in two separate parts-an auction component, which pays
interest at a market rate that is set periodically through an auction process or
other method, and a residual component, or 'inverse floater,' which pays
interest at a rate equal to the difference between the rate that the issuer
would have paid on a fixed-rate obligation at the time of issuance and the rate
paid on the auction component. The market value of an inverse floater will be
more volatile than that of a fixed-rate obligation and, like most debt
obligations, will vary inversely with changes in interest rates.
Because the interest rate paid to holders of inverse floaters is generally
determined by subtracting the interest rate paid to the holders of auction
components from a fixed amount, the interest rate paid to holders of inverse
floaters will decrease as market rates increase and increase as market rates
decrease. Moreover, the extent of the increases and decreases in the market
value of inverse floaters may be larger than comparable changes in the market
value of an equal principal amount of a fixed rate municipal obligation having
similar credit quality redemption provisions and maturity. In a declining
interest rate environment, inverse floaters can provide a Fund with a means of
increasing or maintaining the level of tax-exempt interest paid to shareholders.
However, because of the market volatility associated with inverse floaters, no
Fund will invest more than 10% of its total assets in inverse floaters.
36
<PAGE>
APPENDIX B
Municipal bonds are rated by Moody's and S&P. Moody's and S&P also publish
separate ratings for municipal notes and tax-exempt commercial paper.
Descriptions of these ratings are set forth below.
DESCRIPTION OF MOODY'S MUNICIPAL BOND RATINGS:
AAA. Bonds which are rated Aaa are judged to be of the best quality and
carry the smallest degree of investment risk. Interest payments are protected by
a large or by an exceptionally stable margin and principal is secure. While the
various protective elements are likely to change, such changes as can be
visualized are most unlikely to impair the fundamentally strong position of such
issues.
AA. Bonds which are rated Aa are judged to be of high quality by all
standards. They are rated lower than the Aaa bonds because margins of protection
may not be as large as in Aaa securities, fluctuation of protective elements may
be of greater amplitude, or there may be other elements present which made the
long-term risks appear somewhat larger than in Aaa securities.
A. Bonds which are rated A are judged to be upper medium grade
obligations. Security for principal and interest are considered adequate, but
elements may be present which suggest susceptibility to impairment sometime in
the future.
BAA. Bonds which are rated Baa are considered as medium grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
BA. Bonds which are rated Ba are judged to have speculative elements;
their future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B. Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
CAA. Bonds which are rated Caa are of poor standing. Such issues may be in
default or there may be present elements of danger with respect to principal or
interest.
CA. Bonds which are rated Ca represent obligations which are speculative
in a high degree. Such issues are often in default or have other marked
shortcomings.
C. Bonds which are rated C are the lowest rated class of bonds and issues
so rated can be regarded as having extremely poor prospects of ever attaining
any real investment standing.
DESCRIPTION OF S&P'S MUNICIPAL BOND RATINGS:
AAA. Debt rated AAA has the highest rating assigned by S&P. Capacity to
pay interest and repay principal is extremely strong.
AA. Debt rated AA has a very strong capacity to pay interest and repay
principal and differs from the highest rated issues only in small degree.
A. Debt rated A has a strong capacity to pay interest and repay principal
although it is somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than debt in higher rated categories.
BBB. Debt rated BBB is regarded as having adequate capacity to pay
principal and interest. Whereas it normally exhibits protection parameters,
37
<PAGE>
adverse economic conditions or changing circumstances are more likely to lead to
a weakened capacity to pay interest and repay principal for debt in this
category than in higher rated categories.
BB, B, CCC, CC AND C. Debt rated BB, B, CCC, CC and C is regarded as
having predominantly speculative characteristics with respect to capacity to pay
interest and repay principal. BB indicates the least degree of speculation and C
the highest. While such debt will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or major risk
exposures to adverse conditions.
CI. This rating is reserved for income bonds on which no interest is being
paid.
D. Debt rated D is in payment default. The D rating category is used when
interest payments or principal payments are not made on the date due even if the
applicable grace period has not expired, unless S&P believes that such payments
will be made during such grace period. The D rating also will be used upon the
filing of a bankruptcy petition if debt service payments are continued.
Plus (1) or minus (-): The ratings from AA to CCC may be modified by the
addition of a plus or minus sign to show relative standing within the major
ratings categories.
DESCRIPTION OF MOODY'S RATINGS OF STATE AND MUNICIPAL NOTES AND OTHER SHORT-TERM
LOANS:
Moody's ratings for state and municipal notes and other short-term loans
are designated 'Moody's Investment Grade' ('MIG' or, for variable or floating
rate obligations, 'VMIG'). Such ratings recognize the differences between
short-term credit risk and long-term risk. Factors affecting the liquidity of
the borrower and short-term cyclical elements are critical in short-term
ratings. Symbols used will be as follows:
MIG-1/VMIG-1. This designation denotes best quality. There is present
strong protection by established cash flows, superior liquidity support or
demonstrated broad-based access to the market for refinancing.
MIG-2/VMIG-2. This designation denotes high quality. Margins of
protection are ample although not so large as in the preceding group.
MIG-3/VMIG-3. 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.
MIG-4/VMIG-4. 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.
DESCRIPTION OF S&P'S RATINGS OF STATE AND MUNICIPAL NOTES AND OTHER SHORT-TERM
LOANS:
S&P's tax-exempt note ratings are generally given to such notes that mature
in three years or less. The three rating categories are as follows:
SP-1. Strong capacity to pay principal and interest. Issues
determined to possess very strong characteristics are given a plus (1)
designation.
SP-2. Satisfactory capacity to pay principal and interest with some
vulnerability to adverse financial and economic changes over the term of
the notes.
SP-3. Speculative capacity to pay principal and interest.
38
<PAGE>
DESCRIPTION OF COMMERCIAL PAPER RATINGS
Commercial paper rated Prime-1 by Moody's are judged by Moody's to be of
the best quality. Their short-term debt obligations carry the smallest degree of
investment risk. Margins of support for current indebtedness are large or stable
with cash flow and asset protection well assured. Current liquidity provides
ample coverage of near-term liabilities and unused alternative financing
arrangements are generally available. While protective elements may change over
the intermediate or longer term, such changes are most unlikely to impair the
fundamentally strong position of short-term obligations.
Commercial paper rated A by S&P have the following characteristics.
Liquidity ratios are better than industry average. Long-term debt rating is A or
better. The issuer has access to at least two additional channels of borrowing.
Basic earnings and cash flow are in an upward trend. Typically, the issuer is a
strong company in a well-established industry and has superior management.
Issuers rated A are further refined by use of numbers 1, 2, and 3 to denote
relative strength within this highest classification. Those issues rated A-1
that are determined by S&P to possess extremely strong safety characteristics
are denoted with a plus (1) sign designation.
39
<PAGE>
Application Form
THE PAINEWEBBER / / / - / / / / / / - / / /
MUTUAL FUNDS PaineWebber Account No.
- --------------------------------------------------------------------------------
INSTRUCTIONS DO NOT USE THIS FORM IF YOU WOULD LIKE YOUR ACCOUNT SERVICED
THROUGH PAINEWEBBER. INSTEAD, CALL YOUR PAINEWEBBER INVESTMENT
EXECUTIVE (OR YOUR LOCAL PAINEWEBBER OFFICE TO OPEN AN
ACCOUNT). FOR ASSISTANCE IN COMPLETING THIS FORM CONTACT PFPC
INC. AT 1-800-647-1568.
Return this completed form to:
PFPC Inc.
P.O. Box 8950
Wilmington, Delaware 19899
ATTN: PaineWebber Mutual Funds
PLEASE PRINT
- --------------------------------------------------------------------------------
/1/ INITIAL INVESTMENT ($1,000 MINIMUM)
ENCLOSED IS A CHECK FOR:
$_______ (payable to PaineWebber California Tax-Free Income Fund) to
purchase Class A / / Class B / / or Class D / / shares
$_______ (payable to PaineWebber National Tax-Free Income Fund) to purchase
Class A / / Class B / / or Class D / / shares
$_______ (payable to PaineWebber Municipal High Income Fund) to purchase
Class A / / Class B / / or Class D / / shares
$_______ (payable to PaineWebber New York Tax-Free Income Fund) to purchase
Class A / / Class B / / or Class D / / shares
(Check one Class; if no Class is specified Class A shares will be
purchased)
A separate check is required for your investment in each Fund.
/2/ ACCOUNT REGISTRATION
Not valid without signature and Soc. Sec. or Tax ID #
--As joint tenants, use Lines 1 and 2
--As custodian for a minor, use Lines 1 and 3
--In the name of a corporation, trust or other organization or any
fiduciary capacity, use Line 4
1. Individual_____________ _______________________ ________________________
First Name Last Name MI Soc. Sec. No.
2. Joint Tenancy__________ _______________________ ________________________
First Name Last Name MI Soc. Sec. No.
('Joint Tenants with Rights of Survivorship'
unless otherwise specified)
3. Gifts to Minors________________________________ ________________________
Minor's Name Soc. Sec. No.
Under the________________________________ Uniform Gifts / Uniform Transfers
State of Residence of Minor to Minors Act to Minors Act
4. Other Registrations____________________________ ________________________
Name Tax Ident. No.
5. If Trust, Date of Trust Instrument: ____________________________________
/3/ ADDRESS
_____________________________________________ U.S. Citizen / / Yes / / No*
Street
_____________________________________________ ____________________________
City State Zip Code *Country of Citizenship
/4/ DISTRIBUTION OPTIONS See Prospectus
Please select one of the following:
/ / Reinvest both dividends and capital gain distributions in additional
shares
/ / Pay dividends to my address above; reinvest capital gain distributions
/ / Pay both dividends and capital gain distributions in cash to my address
above
/ / Reinvest dividends and pay capital gain distributions in cash to my
address above
NOTE: If a selection is not made, both dividends and capital gain
distributions will be paid in additional shares of the same Class.
<PAGE>
/5/ SPECIAL OPTIONS (For More Information-Check Appropriate Box)
/ / Automatic Investment Plan / / Systematic Withdrawal Plan
/6/ RIGHTS OF ACCUMULATION-CLASS A SHARES See Prospectus
Indicate here any other account(s) in the group of funds that would qualify
for the cumulative quantity discount as outlined in the Prospectus.
_____________________________ _________________ ___________________________
Fund Name Account No. Registered Owner
_____________________________ _________________ ___________________________
Fund Name Account No. Registered Owner
_____________________________ _________________ ___________________________
Fund Name Account No. Registered Owner
/7/ PLEASE INDICATE BELOW IF YOU ARE AFFILIATED WITH PAINEWEBBER
'Affiliated' persons are defined as officers, directors/trustees and
employees of the PaineWebber funds, PaineWebber or its affiliates, and
their parents, spouses and children.
___________________________________________________________________________
Nature of Relationship
/8/ SIGNATURE(S) AND TAX CERTIFICATION(S)
I warrant that I have full authority and am of legal age to purchase shares
of the Fund(s) specified and have received and read a current Prospectus of
the Fund(s) and agree to its terms. The Fund(s) and their Transfer Agent
will not be liable for acting upon instructions or inquiries believed
genuine. Under penalties of perjury, I certify that (1) my taxpayer
identification number provided in this application is correct and (2) I am
not subject to backup withholding because (i) I have not been notified that
I am subject to backup withholding as a result of failure to report
interest or dividends or (ii) the IRS has notified me that I am no longer
subject to backup withholding (strike out clause (2) if incorrect).
______________________________ __________________________________ _________
Individual (or Custodian) Joint Registrant (if any) Date
______________________________ __________________________________ _________
Corporate Officer, Partner, Title Date
Trustee, etc.
/9/ INVESTMENT EXECUTIVE IDENTIFICATION (To Be Completed By Investment
Executive Only)
_____________________________________________ _____________________________
Broker No./Name Branch Wire Code
_____________________________________________ ( ) _______________________
Branch Address Telephone
/10/ CORRESPONDENT FIRM IDENTIFICATION (To Be Completed By Correspondent Firm
Only)
______________________________________ _____________________________________
Name Address
______________________________________
MAIL COMPLETED FORM TO YOUR PAINEWEBBER INVESTMENT EXECUTIVE OR
CORRESPONDENT FIRM OR TO: PFPC INC., P.O. BOX 8950, WILMINGTON, DELAWARE
19899.
<PAGE>
[This Page Intentionally Left Blank]
<PAGE>
Shares of the Funds can be exchanged for shares of the following PaineWebber
('PW') and Mitchell Hutchins/Kidder Peabody ('MH/KP') Mutual Funds:
INCOME FUNDS
o MH/KP Adjustable Rate Government Fund
o MH/KP Global Fixed Income Fund
o MH/KP Government Income Fund
o MH/KP Intermediate Fixed Income Fund
o PW Global Income Fund
o PW High Income Fund
o PW Investment Grade Income Fund
o PW Short-Term U.S. Government Income Fund
o PW Short-Term U.S. Government Income Fund for Credit Unions
o PW Strategic Income Fund
o PW U.S. Government Income Fund
TAX-FREE INCOME FUNDS
o MH/KP Municipal Bond Fund
GROWTH FUNDS
o MH/KP Emerging Markets Equity Fund
o MH/KP Global Equity Fund
o MH/KP Small Cap Growth Fund
o PW Atlas Global Growth Fund
o PW Blue Chip Growth Fund
o PW Capital Appreciation Fund
o PW Communications & Technology Growth Fund
o PW Europe Growth Fund
o PW Growth Fund
o PW Regional Financial Growth Fund
o PW Small Cap Value Fund
GROWTH AND INCOME FUNDS
o MH/KP Asset Allocation Fund
o MH/KP Equity Income Fund
o PW Asset Allocation Fund
o PW Global Energy Fund
o PW Global Growth and Income Fund
o PW Growth and Income Fund
o PW Utility Income Fund
PAINEWEBBER MONEY MARKET FUND
------------------------
A prospectus containing more complete information for any of the above funds,
including charges and expenses, can be obtained from a PaineWebber investment
executive or correspondent firm. Read it carefully before investing.
(Copyright) 1995 PaineWebber Incorporated
[LOGO] Recycled
Paper
PAINEWEBBER
California Tax-Free Income Fund
National Tax-Free Income Fund
Municipal High Income Fund
New York Tax-Free Income Fund
------------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
---------
<S> <C>
Prospectus Summary............................. 2
Financial Highlights........................... 8
Flexible Pricing System........................ 16
Investment Objectives and Policies............. 17
Purchases...................................... 22
Exchanges...................................... 25
Redemptions.................................... 27
Conversion of Class B Shares................... 28
Other Services and Information................. 28
Dividends and Taxes............................ 29
Valuation of Shares............................ 31
Management..................................... 31
Performance Information........................ 33
General Information............................ 33
Appendix A..................................... 35
Appendix B..................................... 37
</TABLE>
PROSPECTUS
July 1, 1995
<PAGE>
PAINEWEBBER CALIFORNIA TAX-FREE INCOME FUND
PAINEWEBBER NATIONAL TAX-FREE INCOME FUND
PAINEWEBBER MUNICIPAL HIGH INCOME FUND
PAINEWEBBER NEW YORK TAX-FREE INCOME FUND
1285 AVENUE OF THE AMERICAS
NEW YORK, NEW YORK 10019
STATEMENT OF ADDITIONAL INFORMATION
The four funds named above (each a 'Fund') are series of either PaineWebber
Mutual Fund Trust or PaineWebber Municipal Series (each a 'Trust'),
professionally managed mutual funds. PaineWebber California Tax-Free Income Fund
('California Tax-Free Income Fund') seeks high current income exempt from
federal income tax and California personal income tax, consistent with the
preservation of capital and liquidity within the Fund's quality standards.
PaineWebber National Tax-Free Income Fund ('National Tax-Free Income Fund')
seeks high current income exempt from federal income tax, consistent with the
preservation of capital and liquidity within the Fund's quality standards.
PaineWebber Municipal High Income Fund ('Municipal High Income Fund') seeks high
current income exempt from federal income tax. PaineWebber New York Tax-Free
Income Fund ('New York Tax-Free Income Fund') seeks high current income exempt
from federal income tax and from New York State and New York City personal
income taxes. The Funds' investment adviser, administrator and distributor is
Mitchell Hutchins Asset Management Inc. ('Mitchell Hutchins'), a wholly owned
subsidiary of PaineWebber Incorporated ('PaineWebber'). As distributor for the
Funds, Mitchell Hutchins has appointed PaineWebber to serve as the exclusive
dealer for the sale of Fund shares. This Statement of Additional Information is
not a prospectus and should be read only in conjunction with the Funds' current
Prospectus, dated July 1, 1995. A copy of the Prospectus may be obtained by
calling any PaineWebber investment executive or correspondent firm or by calling
toll-free 1-800-647-1568. This Statement of Additional Information is dated July
1, 1995.
INVESTMENT POLICIES AND RESTRICTIONS
The following supplements the information contained in the Prospectus
concerning the Funds' investment policies and limitations.
RATINGS AS INVESTMENT CRITERIA. Moody's Investors Service, Inc.
('Moody's') and Standard & Poor's Ratings Group ('S&P') are private services
that provide ratings of the credit quality of debt obligations, including issues
of municipal securities. A description of the range of ratings assigned to
municipal securities by Moody's and S&P is included in Appendix B to the
Prospectus. The Funds may use these ratings in determining whether to purchase,
sell or hold a security. It should be emphasized, however, that ratings are
general and are not absolute standards of quality. Consequently, municipal
securities with the same maturity, interest rate and rating may have different
market prices. Credit ratings attempt to evaluate the safety of principal and
interest payments and do not evaluate the risks of fluctuations in market value.
Also, rating agencies may fail to make timely changes in credit ratings in
response to subsequent events, so that an issuer's current financial condition
may be better or worse than the rating indicates. Subsequent to its purchase by
a Fund, an issue of municipal securities may cease to be rated or its rating may
be reduced below the minimum rating required for purchase by the Fund.
<PAGE>
Opinions relating to the validity of municipal securities and to the
exemption of interest thereon from federal income tax (and also, when available,
from the federal alternative minimum tax) and (where applicable) California
personal income tax and New York State and New York City personal income taxes
are rendered by bond counsel to the respective issuing authorities at the time
of issuance. Neither the Funds nor Mitchell Hutchins will review the proceedings
relating to the issuance of municipal securities or the basis for such opinions.
An issuer's obligations under its municipal securities are subject to the
provisions of bankruptcy, insolvency and other laws affecting the rights and
remedies of creditors (such as the federal bankruptcy laws) and federal, state
and local laws that may be enacted that adversely affect the tax-exempt status
of interest on the municipal securities held by a Fund or of the exempt-interest
dividends received by a Fund's shareholders, extend the time for payment of
principal or interest, or both, or impose 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 issuers to meet their obligations
for the payment of principal of and interest on their municipal securities may
be materially and adversely affected.
TYPES OF MUNICIPAL SECURITIES. The types of municipal securities
identified in the Prospectus may include obligations of issuers whose revenues
are primarily derived from mortgage loans on housing projects for moderate to
low income families. The Funds also may purchase mortgage subsidy bonds that are
normally issued by special purpose public authorities. In some cases the
repayment of such bonds depends upon annual legislative appropriations; in other
cases repayment is a legal obligation of the issuer and, if the issuer is unable
to meet its obligations, repayment becomes a moral commitment of a related
government unit (subject, however, to such appropriations).
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES. As stated in the Prospectus,
the Fund may purchase securities on a 'when-issued' or delayed delivery basis. A
security purchased on a when-issued or delayed delivery basis is recorded as an
asset on the commitment date and is subject to changes in market value,
generally based upon changes in the level of interest rates. Thus, fluctuation
in the value of the security from the time of the commitment date will affect
the Fund's net asset value. When a Fund commits to purchase securities on a
when-issued or delayed delivery basis, its custodian segregates assets to cover
the amount of the commitment. See 'Investment Policies and
Restrictions--Segregated Accounts.' The Funds purchase when-issued securities
only with the intention of taking delivery, but may sell the right to acquire
the security prior to delivery if Mitchell Hutchins deems it advantageous to do
so, which may result in capital gain or loss to a Fund.
STAND-BY COMMITMENTS. Each Fund may acquire stand-by commitments pursuant
to which a bank or other municipal bond dealer agrees to purchase securities
that are held in the Fund's portfolio or that are being purchased by the Fund,
at a price equal to (1) the acquisition cost (excluding any accrued interest
paid on acquisition), less any amortized market premium or plus any accrued
market or original issue discount, plus (2) all interest accrued on the
securities since the last interest payment date or the date the securities were
purchased by the Fund, whichever is later. Although the Funds do not currently
intend to acquire stand-by commitments with respect to municipal securities held
in their portfolios, each Fund may acquire such commitments under unusual market
conditions to facilitate portfolio liquidity.
A Fund would enter into stand-by commitments only with those banks or other
dealers that, in the opinion of Mitchell Hutchins, present minimal credit risk.
A Fund's right to exercise stand-by commitments would be unconditional and
unqualified. A stand-by commitment would not be transferable by a Fund, although
the Fund could sell the underlying securities to a third party at any time. A
Fund may pay for stand-by commitments either separately in cash or by paying a
higher price for the securities that are acquired subject to such a commitment
(thus reducing the yield to maturity otherwise available for the same
securities).
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The acquisition of a stand-by commitment would not ordinarily affect the
valuation or maturity of the underlying municipal securities. Stand-by
commitments acquired by a Fund would be valued at zero in determining net asset
value. Whether the Fund paid directly or indirectly for a stand-by commitment,
its cost would be treated as unrealized depreciation and would be amortized over
the period the commitment is held by the Fund.
PUT BONDS. Each Fund may invest in put bonds that have a fixed rate of
interest and a final maturity beyond the date on which the put may be exercised.
If the put is a 'one time only' put, the Fund ordinarily will either sell the
bond or put the bond, depending upon the more favorable price. If the bond has a
series of puts after the first put, the bond will be held as long as, in the
judgment of Mitchell Hutchins, it is in the best interest of the Fund to do so.
There is no assurance that the issuer of a put bond acquired by a Fund will be
able to repurchase the bond upon the exercise date, if the Fund chooses to
exercise its right to put the bond back to the issuer.
MUNICIPAL LEASE OBLIGATIONS. Although municipal lease obligations do not
constitute general obligations of the municipality for which the municipality's
taxing power is pledged, they ordinarily are backed by the municipality's
covenant to budget for, appropriate and make the payments due under the lease
obligation. The leases underlying certain municipal lease obligations, however,
provide that lease payments are subject to partial or full abatement if, because
of material damage or destruction of the leased property, there is substantial
interference with the lessee's use or occupancy of such property. This
'abatement risk' may be reduced by the existence of insurance covering the
leased property, the maintenance by the lessee of reserve funds or the provision
of credit enhancements such as letters of credit.
Certain municipal lease obligations contain 'non-appropriation' clauses
which provide that the municipality has no obligation to make lease or
installment purchase payments in future years unless money is appropriated for
such purpose on a yearly basis. Some municipal lease obligations of this type
are insured as to timely payment of principal and interest, even in the event of
a failure by the municipality to appropriate sufficient funds to make payments
under the lease. However, in the case of an uninsured municipal lease
obligation, a Fund's ability to recover under the lease in the event of a
non-appropriation or default will be limited solely to the repossession of
leased property without recourse to the general credit of the lessee, and
disposition of the property in the event of foreclosure might prove difficult.
No Fund intends to invest more than 5% of its total assets in such uninsured
'non-appropriation' municipal lease obligations. There is no limitation on the
Funds' ability to invest in other municipal lease obligations.
PARTICIPATION INTERESTS. Each Fund also may invest in participation
interests in municipal bonds, including industrial development bonds ('IDBs'),
private activity bonds ('PABs') and floating and variable rate securities. A
participation interest gives a Fund an undivided interest in a municipal bond
owned by a bank. The Fund has the right to sell the instrument back to the bank.
Such right generally is backed by the bank's irrevocable letter of credit or
guarantee and permits the Fund to draw on the letter of credit on demand, after
specified notice, for all or any part of the principal amount of the Fund's
participation interest plus accrued interest. Generally, each Fund intends to
exercise the demand under the letters of credit or other guarantees only (1)
upon a default under the terms of the underlying bond, (2) to maintain the
Fund's portfolio in accordance with its investment objective and policies or (3)
as needed to provide liquidity to the Fund in order to meet redemption requests.
The ability of a bank to fulfill its obligations under a letter of credit or
guarantee might be affected by possible financial difficulties of its borrowers,
adverse interest rate or economic conditions, regulatory limitations or other
factors. Mitchell Hutchins will monitor the pricing, quality and liquidity of
the participation interests held by a Fund, and the credit standing of banks
issuing
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letters of credit or guarantees supporting such participation interests on the
basis of published financial information reports of rating services and bank
analytical services.
REPURCHASE AGREEMENTS. The Funds do not intend to enter into repurchase
agreements except as a temporary measure and under unusual circumstances,
because repurchase agreements are transactions that generate taxable income.
Each Fund is, however, authorized to enter into repurchase agreements with U.S.
banks and dealers with respect to any obligation issued or guaranteed by the
U.S. government, its agencies or instrumentalities and also with respect to
commercial paper, bank certificates of deposit and bankers' acceptances.
Repurchase agreements are transactions in which a Fund purchases securities from
a bank or recognized securities dealer and simultaneously commits to resell the
securities to the bank or dealer at an agreed-upon date and price reflecting a
market rate of interest unrelated to the coupon rate or maturity of the
purchased securities. The Fund maintains custody of the underlying securities
prior to their repurchase; thus, the obligation of the bank or dealer to pay the
repurchase price on the date agreed to is, in effect, secured by such
securities. If the value of these securities is less than the repurchase price,
plus any agreed upon additional amount, the other party to the agreement must
provide additional collateral so that at all times the collateral is at least
equal to the repurchase price, plus any agreed-upon additional amount. The
difference between the total amount to be received upon repurchase of the
securities and the price which was paid by the Fund upon acquisition is accrued
as interest and included in the Fund's net investment income.
Repurchase agreements carry certain risks not associated with direct
investments in securities, including possible declines in the market value of
the underlying securities and delays and costs to the Fund if the other party to
a repurchase agreement becomes insolvent. Each Fund intends to enter into
repurchase agreements only with banks and dealers in transactions believed by
Mitchell Hutchins to present minimal credit risks in accordance with guidelines
established by the appropriate Trust's board of trustees. Mitchell Hutchins will
review and monitor the creditworthiness of those institutions under the board's
general supervision.
FLOATING RATE AND VARIABLE RATE MUNICIPAL SECURITIES. As noted in the
Prospectus, each Fund may invest in floating rate and variable rate municipal
securities with or without demand features. A demand feature gives the Fund the
right to sell the securities to a specified party, usually a remarketing agent,
on a specified date. A demand feature is often backed by a letter of credit or
guarantee from a bank. As discussed under 'Participation Interests,' to the
extent that payment of an obligation is backed by a bank's letter of credit or
guarantee, such payment may be subject to the bank's ability to satisfy that
commitment. The interest rate on floating rate or variable rate securities
ordinarily is readjusted on the basis of the prime rate of the bank that
originated the financing or some other index or published rate, such as the
90-day U.S. Treasury Bill rate. Generally, these interest rate adjustments cause
the market value of floating rate and variable rate municipal securities to
fluctuate less than the market value of fixed rate obligations. Accordingly, as
interest rates decrease or increase, the potential for capital appreciation or
capital depreciation is less than for fixed rate obligations.
ILLIQUID SECURITIES. Each Fund may invest up to 10% of its net assets in
illiquid securities. The term 'illiquid securities' for this purpose means
securities that cannot be disposed of within seven days in the ordinary course
of business at approximately the amount at which the Fund has valued the
securities and includes, among other things, repurchase agreements maturing in
more than seven days and municipal lease obligations (including certificates of
participation) other than those Mitchell Hutchins has determined are liquid
pursuant to guidelines established by the appropriate Trust's board of trustees.
Each Trust's board of trustees has delegated the function of making
day-to-day determinations of liquidity to Mitchell Hutchins, pursuant to
guidelines approved by the board. Mitchell Hutchins takes into account a number
of factors in reaching liquidity decisions, including (1) the frequency of
trades for the
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security, (2) the number of dealers that make quotes for the security, (3) the
number of dealers that have undertaken to make a market in the security, (4) the
number of other potential purchasers and (5) the nature of the security and how
trading is effected (e.g., the time needed to sell the security, how offers are
solicited and the mechanics of transfer). Mitchell Hutchins monitors the
liquidity of securities in each Fund's portfolio and reports periodically on
liquidity decisions to each Trust's board of trustees.
In making determinations as to the liquidity of municipal lease
obligations, Mitchell Hutchins will distinguish between direct investments in
municipal lease obligations (or participations therein) and investments in
securities that may be supported by municipal lease obligations or certificates
of participation therein. Since these municipal lease obligation-backed
securities are based on a well-established means of securitization, Mitchell
Hutchins does not believe that investing in such securities presents the same
liquidity issues as direct investments in municipal lease obligations. The
assets used as cover for any over-the-counter ('OTC') options written by a Fund
would be considered illiquid unless the OTC options are sold to qualified
dealers who agree that the Fund may repurchase any OTC option it writes at a
maximum price to be calculated by a formula set forth in the option agreement.
The cover for an OTC option written subject to this procedure will be considered
illiquid only to the extent that the maximum repurchase price under the formula
exceeds the intrinsic value of the option.
SEGREGATED ACCOUNTS. When a Fund enters into certain transactions that
involve obligations to make future payments to third parties, including the
purchase of securities on a when-issued or delayed delivery basis, the Fund will
maintain with an approved custodian in a segregated account cash, U.S.
government securities or other liquid high-grade debt securities, marked to
market daily, in an amount at least equal to the Fund's obligation or commitment
under such transactions. As described below under 'Hedging and Related Income
Strategies,' segregated accounts may also be required in connection with certain
transactions involving options or futures contracts.
SPECIAL CONSIDERATIONS RELATING TO CALIFORNIA MUNICIPAL SECURITIES
The financial condition of the State of California, its public authorities
and local governments could affect the market values and marketability of, and
therefore the net asset value per share and the interest income of, the Fund, or
result in the default of existing obligations, including obligations which may
be held by the Fund. The following section provides only a brief summary of the
complex factors affecting the financial condition of California, and is based on
information obtained from the State of California, as publicly available on the
date of this Statement of Additional Information. The information contained in
such publicly available documents has not been independently verified. It should
be noted that the creditworthiness of obligations issued by local issuers may be
unrelated to the creditworthiness of California, and that there is no obligation
on the part of California to make payment on such local obligations in the event
of default in the absence of a specific guarantee or pledge provided by the
State of California.
The State of California has experienced significant financial difficulties
because of the 1990-93 recession, which have reduced its credit standing. The
ratings of certain related debt of other issuers for which California has an
outstanding lease purchase, guarantee or other contractual obligation (such as
for State-insured hospital bonds) are generally linked directly to California's
rating. Should the financial condition of California deteriorate, its credit
ratings could be further reduced, and the market value and marketability of all
outstanding notes and bonds issued by California, its public authorities or
local governments could be adversely affected.
ECONOMIC FACTORS. California's economy is the largest among the 50 states
and one of the largest in the world. The State's population of almost 32 million
represents over 12% of the total United States
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population. While the State's substantial population growth during the 1980s
stimulated local economic growth and diversification, it also increased demands
on State services. Total personal income in the State, at an estimated $683
billion in 1993, accounts for almost 13% of all personal income in the nation.
Total employment is approximately 14 million, and in many respects mirrors
the national distribution among industries. Aerospace manufacturing, high
technology, foreign trade (especially with Pacific Rim nations), banking,
agriculture, construction and tourism are especially important factors in
California. The California economy traditionally benefitted from U.S. Department
of Defense spending on both contract awards (which have been of particular
benefit to the State's aerospace and high technology industries) and base
siting, and has been disproportionately affected by spending reductions in
recent years.
From mid-1990 to late 1993, the State suffered a recession with the worst
economic, fiscal and budget conditions since the 1930s. Construction,
manufacturing (especially aerospace), and financial services, among others, were
all severely affected, particularly in Southern California. Job losses were the
worst of any post-war recession. Employment levels stabilized by late 1993 and
steady growth occurred in 1994 and is expected in 1995, but pre-recession job
levels are not expected to be reached for several more years. Unemployment,
while remaining higher than the national average, has come down about 3% in
1994. Economic indicators show a steady recovery underway in California since
the start of 1994. However, any delay or reversal of the recovery will
exacerbate shortfalls in State revenue.
STATE DEBT. Under the California Constitution, debt service on outstanding
general obligation bonds is the second charge to the General Fund after support
of the public school system and public institutions of higher education. Total
outstanding general obligation bonds and lease purchase debt of the State
increased from $23.3 billion at June 30, 1988 to $23.5 billion at June 30, 1994.
State agencies and authorities had approximately $22.7 billion of revenue bonds
and notes outstanding at June 30, 1994; the State has no liability with respect
to such indebtedness.
STATE FINANCES. Throughout the 1980's, State spending increased rapidly as
the State population and economy also grew rapidly, including increased spending
for many assistance programs to local governments, which were constrained by
Article XIIIA of the California Constitution (commonly known as 'Proposition
13') and other laws. The largest State program is assistance to local public
school districts. In 1988, an initiative (Proposition 98) was enacted which
(subject to suspension by a two-thirds vote of the Legislature and the Governor)
guarantees local school districts and community college districts a minimum
share of State General Fund revenues (currently about 35%).
Since the start of the fiscal year ('FY') 1990-91, the State has faced
adverse economic, fiscal, and budget conditions. The economic recession
seriously affected State tax revenues. It also caused increased expenditures for
health and welfare programs. The State is also facing a structural imbalance in
its budget with the largest programs supported by the General Fund (education,
health, welfare and corrections) growing at rates significantly higher than the
growth rates for the principal revenue sources of the General Fund. As a result,
the State entered a period of budget imbalance, with expenditures exceeding
revenues for four of the five completed fiscal years through 1991-1992.
As the State fell into a deep recession in the summer of 1990, the State
budget fell sharply out of balance in FY1990-91 and FY1991-92, despite
significant expenditure cuts and tax increases. The State had accumulated a $2.8
billion budget deficit by June 30, 1992. This deficit also severely reduced the
State's cash resources, so that it had to rely on external borrowing in the
short-term markets to meet its cash needs.
With the failure to enact a budget by July 1, 1992, the State had no legal
authority to pay many of its vendors until the budget was passed; nevertheless,
certain obligations (such as debt service, school
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apportionments, welfare payments, and employee salaries) were payable because of
continuing or special appropriations, or court orders. However, the State
Controller did not have enough cash to pay as they came due all of these ongoing
obligations, as well as valid obligations incurred in the prior fiscal year.
Starting on July 1, 1992, the Controller was required to issue 'registered
warrants' in lieu of normal warrants backed by cash to pay many State
obligations. Available cash was used to pay constitutionally mandated and
priority obligations. Between July 1 and September 3, 1992, the Controller
issued an aggregate amount of approximately $3.8 billion of registered warrants,
all of which were called for redemption by September 4, 1992 following enactment
of the 1992-93 Budget Act and issuance by the State of $3.3 billion of Interim
Notes.
The 1992-93 Budget Act, when finally adopted, was projected to eliminate
the State's accumulated deficit, with additional expenditure cuts and a $1.3
billion transfer of State education funding costs to local governments by
shifting local property taxes to school districts. However, as the recession
continued longer and deeper than expected, revenues once again were far below
projections, and only reached a level just equal to the amount of expenditures.
Thus, the State continued to carry its $2.8 billion budget deficit at June 30,
1993.
The 1993-94 Budget Act was similar to the prior year, in reliance on
expenditure cuts and an additional $2.6 billion transfer of costs to local
government, particularly counties. A major feature of the budget was a two-year
plan to eliminate the accumulated deficit by borrowing into FY1994-95. With the
recession still continuing longer than expected, the Department of Finance
projected that in FY1993-94, the General Fund had $800 million less revenue and
$800 million higher expenditures than budgeted. As a result, revenues only
exceeded expenditures by about $500 million. This was the first operating
surplus in four years. The accumulated budget deficit was reduced to about $1.8
billion as of June 30, 1994.
The 1994-95 Budget Act was passed on July 8, 1994, and provided for an
estimated $41.9 billion of General Fund revenues, and $40.9 billion of
expenditures. The budget assumed receipt of about $750 million of new federal
assistance for the costs of incarceration, and health and welfare costs for
undocumented immigrants. Other major components of the budget include further
reductions in health and welfare costs, some additional transfers of funds from
local government, and a plan to defer retirement of $1 billion of the
accumulated budget deficit to FY1995-96. The federal government has apparently
budgeted only $33 million of the expected immigration aid in the Federal FY1996
Budget. However, this shortfall is expected to be almost fully offset by higher
than projected revenues, and lower than projected caseload growth, as the
economy improves.
Because of the accumulated budget deficit over the past several years, the
payment of certain unbudgeted expenditures to schools to maintain constant
per-pupil aid levels, and a reduction of the level of available internal
borrowing, the State's cash resources have been significantly depleted. This has
required the State to rely on a series of external borrowings for the past
several years to pay its normal expenses, including borrowings which have gone
past the end of the fiscal year. In February, 1994, the State borrowed $3.2
billion, maturing by December, 1994. In July, 1994, the State borrowed a total
of $7.0 billion to meet its cash flow requirements for FY1994-95, and to fund a
part of its deficit into FY1995-96. A total of $4.0 billion of this borrowing
matures in April, 1996. In order to assure repayment of this borrowing, the
State enacted legislation (the 'Trigger Law') which can lead to automatic,
across-the-board cuts in General Fund expenditures in either FY1994-95 or
FY1995-96 if cash flow projections made at certain times during those years show
deterioration from the projections made in July 1994 when the borrowings were
made. On November 15, 1994, the State Controller as part of the Trigger Law
reported that the cash position of the General Fund on June 30, 1995 would be
about $580 million better than earlier projected, so no automatic budget
adjustments
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were required in FY1994-95. The Controller's report showed that loss of federal
funds was offset by higher revenues, lower expenditures, and certain other
increases in cash resources.
The proposed Governor's Budget for FY1995-96, as updated on May 22, 1995
(the 'May Revision'), projects General Fund revenues of $42.7 billion and
expenditures of $41.8 billion. The Governor's Budget projects that all the
accumulated budget deficits will be repaid by June 30, 1996, with a small
balance ($58 million) in the Special Fund for Economic Uncertainties ('SFEU'),
the budget reserve. The proposed budget assumes receipt of about $518 million of
new federal aid for undocumented aliens' costs, and also assumes success in
certain ongoing litigation concerning previous budget actions. The Governor has
proposed a 15% cut in personal income and corporate taxes, to be phased in over
three years starting in 1996. Based on revised cash flow estimates in the May
Revision, the Department of Finance estimates that there would be cash resources
of about $1.8 billion available at June 30, 1996 above the level which would
trigger automatic spending cuts. The State Controller reported that while these
estimates were reasonable, they depended on a number of assumptions, and if
several assumptions were not met, automatic spending cuts could be called for
when the Controller makes her next 'Trigger Law' report on October 15, 1995. As
of June 27, 1995, the Legislature has not adopted the fiscal year 1995-96 Budget
Act. Although the State anticipates it would have sufficient cash resources to
pay its obligations after July 1 if the budget is not adopted on time, a
prolonged delay could adversely impact certain State operations.
There can be no assurance that the State will not face budget gaps in
future years, resulting from a disparity between tax revenues projected from a
lower revenue base and the spending required to maintain State programs at
current levels. To achieve a balanced budget, the enactment of legislation will
be required to enlarge the State's revenue base or to curtail current program
expenditures. Certain major budgetary considerations affecting the State are
outlined below.
REVENUE BASE. The recession has seriously affected the State's tax
revenue, which basically mirrors general economic conditions. The principal
sources of General Fund revenues are economically sensitive, and include the
California personal income tax (44% of total FY1993-94 revenues), the sales tax
(35%), bank and corporation taxes (12%), and the gross premium tax on insurance
(3%). Personal income tax receipts are generated disproportionately by
relatively few taxpayers (the top 4% of taxpayers paid 49% of the total tax in
1990), and capital gains are a significant component of such collections. Auto
sales and building materials are significant components of retail sales tax
collections. Tax rates, increased in 1991, are relatively high, and may impose
political and economic constraints on the ability of the State to further
increase its taxes. By statute, certain recent increases in the State's income
taxes will expire, unless extended, by June 1995. In November 1993, the voters
approved a constitutional amendment to permanently extend 0.5 percent of the
sales tax for local law enforcement and thus not available as General Fund
revenues. The 1995-96 Governor's Budget proposes that an additional 0.22 percent
be transferred from the State to counties to assist counties in paying for their
increased share of health and welfare programs.
Orange County. On December 6, 1994, Orange County, California (the
'County'), together with its pooled investment funds (the 'Pools'), filed for
protection under Chapter 9 of the federal Bankruptcy Code, after reports that
the Pools had suffered significant market losses in their investments causing a
liquidity crisis for the Pools and the County. More than 200 other public
entities, most but not all located in the County, were also depositors in the
Pools. The County has estimated the Pools' loss at about $1.7 billion, or 23% of
its initial deposits of around $7.5 billion. Some of the entities which kept
monies in the Pools, including the County, are facing financial difficulties
because of the bankruptcy filing and may be required to reduce programs or
capital projects. The County and some of these entities have, and others may in
the future, default in payment of their obligations. Moody's and S&P have
suspended, reduced to below investment grade levels, or placed on 'Credit Watch'
various securities of the County and the entities participating in the Pools.
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On May 2, 1995, the Bankruptcy Court approved a settlement agreement by which
the non-County participants in the Pools received immediate cash payments equal
to 77% of their investment. Certain County obligations, which have since been
converted to cash, were issued to most participants in the amount of 3% of their
investment (except that school districts received additional distributions equal
to 13% of their investment) in return for waiving any further claims against the
County. The remaining amounts will be payable by the County from future sources
of revenue or legal claims. A few agencies (representing less than 10% of the
participations) declined to receive the additional payments above the 77% cash
payout, and have retained their rights to pursue claims against the County.
County voters on June 27, 1995 rejected a proposition to impose an additional
0.5% sales tax to help pay the County's obligations. Subsequently, holders of
about $800 million of the County's short-term notes coming due during the summer
of 1995 agreed to a one-year extension of the maturity of these notes, avoiding
an immediate default. Moody's and S&P have, however, indicated they will
consider these notes in default since they were not paid when originally due.
The County must still develop a longer-term financial plan which will allow the
County to pay all its future obligations; further defaults may occur.
The State of California has no present obligation with respect to any
obligations or securities of the County or any of the other participating
entities. However, the State may be obligated to intervene to ensure that school
districts have sufficient funds to operate, or to maintain certain
county-administered State programs. As of late July 1, 1995, no school districts
became insolvent as a result of the bankruptcy of the County, and no other State
obligation has been asserted.
BUDGETARY FLEXIBILITY. Article XIIIB of the California Constitution,
adopted by voter initiative, established an 'Appropriations Limit' for the
State; excess revenues are to be divided equally between transfers to K-14
districts and refunds to taxpayers. A taxpayer refund has not been required
since FY1986-87.
Proposition 98 established a minimum expenditure base for State aid to K-14
districts, currently requiring allocation of over 35% of General Fund revenues
to such districts.
For many years starting in the early 1980s, the State maintained the SFEU
as a budget reserve in case of unexpected changes in revenues or expenditures
during a fiscal year. Since the start of the recession in 1990, the SFEU has
been in a negative balance, as the State accumulated sizable budget deficits.
The Governor's Budget for FY1995-96 (as revised in May, 1995) projects there
will be a small positive balance (about $58 million) in the SFEU on June 30,
1996.
LABOR COSTS. The State government workforce is mostly unionized, subject
to the law which authorizes collective bargaining and prohibits strikes and work
slowdowns. Most of the State's collective bargaining agreements expire June 30,
1995, and funds were budgeted in FY1993-94 for a 5% wage increase effective
January 1, 1994. State employees are participating in or have participated in
salary reduction programs and are paying a greater share of their health, dental
and vision benefit premium costs. The State has a substantial unfunded liability
for future pension benefits, and has utilized changes in its pension fund
policies to reduce current contribution requirements. If the investment
assumptions used in determining required State contributions are not sustained
by actual results, additional State contributions would be required in future
years.
PUBLIC ASSISTANCE. California has the largest number of persons receiving
public assistance (Aid to Families with Dependent Children ('AFDC') and General
Relief) of any state. AFDC costs are shared among the federal government, the
State and its counties by statutory formula. Caseloads tend to rise
significantly during economic downturns, but are also significantly affected by
changing demographic and social trends which may impede the reduction of
caseloads during an economic recovery.
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MEDI-CAL. California participates in the federal Medicaid program under a
state plan approved by the Health Care Financing Administration. The federal
government provides certain of the eligible program costs, with the remainder
shared by the State and its counties. Basic program eligibility and benefits are
determined by federal guidelines, but the State currently provides a number of
optional benefits and expanded eligibility. Program costs have increased
substantially in recent years, and account for a large share of the State
budget. Federal law requires the State to adopt reimbursement rates for
hospitals and nursing homes that are reasonable and adequate to meet the costs
that must be incurred by efficiently and economically operated facilities in
providing patient care.
LITIGATION. The State is involved in certain legal proceedings (described
in the State's recent financial statements) that, if decided against the State,
may require the State to make significant future expenditures or may
substantially impair revenues.
STATE ASSISTANCE TO LOCALITIES. Property tax revenues received by local
governments declined more than 50% following voter approval of Proposition 13 in
1978. Subsequently, the California Legislature enacted measures to provide for
the redistribution of the State's General Fund surplus to local agencies, the
reallocation of certain State revenues to local agencies and the assumption of
certain governmental functions by the State to assist municipal issuers to raise
revenues. In response to the State's current fiscal difficulties, the State has
reduced its financial assistance to counties and cities, and adopted measures to
transfer certain governmental functions to its counties, accompanied by new
funding sources. The FY1993-94 Budget Act eliminated the remaining Proposition
13 assistance. Such actions could compound the serious fiscal constraints
already experienced by many local governments, several of which have been
compelled to seek special assistance from the State.
SPECIAL CONSIDERATIONS RELATING TO NEW YORK MUNICIPAL SECURITIES
The financial condition of the State of New York ('New York State' or the
'State'), its public authorities and public benefit corporations (the
'Authorities') and its local governments, particularly The City of New York (the
'City'), could affect the market values and marketability of, and therefore the
net asset value per share and the interest income of the Fund, or result in the
default of existing obligations, including obligations which may be held by the
Fund. The following section provides only a brief summary of the complex factors
affecting the financial situation in New York and is based on information
obtained from New York State, certain of its Authorities, the City and certain
other localities, as publicly available on the date of this Statement of
Additional Information. The information contained in such publicly available
documents has not been independently verified. It should be noted that the
creditworthiness of obligations issued by local issuers may be unrelated to the
creditworthiness of New York State, and that there is no obligation on the part
of New York State to make payment on such local obligations in the event of
default in the absence of a specific guarantee or pledge provided by New York
State.
New York State and the City are each facing serious financial difficulties
and have each experienced recent declines in their credit standings. S&P and
Moody's have each assigned ratings for New York State's general obligation bonds
that are among the three lowest of those states with rated general obligation
bonds. The ratings of certain related debt of other issuers for which New York
State has an outstanding moral obligation, lease purchase, guarantee or other
contractual obligation are generally linked directly to the State's rating.
Should the financial condition of New York State, its Authorities or its local
governments deteriorate, their respective credit ratings could be further
reduced, and the market value and marketability of their outstanding notes and
bonds could be adversely affected, and their respective access to the public
credit markets jeopardized.
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ECONOMIC FACTORS. New York is the third most populous state, and has a
relatively high level of personal wealth; however, the State economy has grown
more slowly than that of the nation as a whole, resulting in the gradual erosion
of its relative economic affluence (due to such factors such as relative costs
for taxes, labor and energy). The State's economy is diverse, with a
comparatively large share of the nation's finance, insurance, transportation,
communications and services employment, and a very small share of the nation's
farming and mining activity. New York has a declining proportion of its
workforce engaged in manufacturing and increasing proportion engaged in service
industries. The State, therefore, is likely to be less affected than the nation
as a whole during an economic recession concentrated in construction and
manufacturing sectors of the economy, but likely to be more affected during a
recession concentrated in the service-producing sector. The State's
manufacturing and maritime base have been seriously eroded, as illustrated by
the decline of the steel industry in the Buffalo area and of the apparel and
textile industries in the City. In addition, the City experienced substantial
socio-economic changes, as a large segment of its population and a significant
share of corporate headquarters and other businesses relocated (many
out-of-state).
Both the State and the City experienced substantial revenue increases in
the mid-1980s attributable directly (corporate income and financial corporations
taxes) and indirectly (personal income and a variety of other taxes) to growth
in new jobs, rising profits and capital appreciation derived from the finance
sector of the City's economy. From 1977 to its 1988 peak, the finance, insurance
and real estate sectors rose 55%, to account in 1988 for 23% of total earnings
in the City and 14% statewide (compared to 7% nationwide). The finance sector's
growth was a catalyst for the New York metropolitan region's related business
and professional services, retail trade and residential and commercial real
estate markets. The then rising real estate market contributed to City revenues,
as higher property values and new construction added to collections from
property taxes, mortgage recording and transfer taxes and sales taxes on
building materials. The boom on Wall Street more than compensated for the
continued erosion of the State's (and the City's) manufacturing and maritime
base, since average wages in the finance, insurance and real estate sector and
related business and professional services were substantially higher (thereby
providing a net increase of higher incomes, taxed at even higher marginal
rates).
Although the national economy began to expand in 1991, the State economy
remained in recession until 1993, when employment growth resumed. Employment
growth has been hindered during recent years by significant cutbacks in the
computer and instrument manufacturing, utility and defense industries. Personal
income increased substantially in 1992 and 1993. The State's economy is not
expected to continue to expand during 1995, however, according to assumptions
contained in the revised State financial plan. The moderate employment growth
experience in 1993 continued until mid-1994, then virtually ceased. Employment
growth is currently projected to slow to less than 0.5% in 1995, in large part
due to cutbacks in governmental spending and employment at all levels, as well
as continued corporate downsizing.
There can be no assurance that the State economy will not experience
worse-than-predicted results in FY1995-96 with corresponding material and
adverse effects on the State's projections of receipts and disbursements. The
State financial plan is based upon forecasts of national and State economic
activity. Many uncertainties exist in such forecasts, including federal
financial and monetary policies, the availability of credit and the condition of
the world economy. In addition, the economic and financial condition of the
State may be affected by various financial, social, economic and political
factors. These factors can be complex, may vary from year to year and are
frequently the results of actions taken not only by the State and its agencies
and instrumentalities, but also by other entities, such as the federal
government, that are not under the control of the State.
The fiscal health of the State may also be impacted by the fiscal health of
the City. Although the City has had a balanced budget since 1981, estimates of
the City's future revenues and expenditures are subject to
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various uncertainties. For example, the effects of the October 1987 stock market
crash and the 1990-92 national recession have had a disproportionately adverse
impact on the New York City metropolitan region, as private sector job losses
since 1989 have offset all the prior employment gains of the 1980s. Investors
should note that the budget for the City FY1995-96 addresses a projected $2.7
billion budget gap. Most of the budget-gap closing initiatives may be
implemented only with the cooperation of the City's municipal unions, or the
State or Federal Governments. No assurance can be given that such initiatives
will be successfully undertaken.
Declines in both employment and earnings in the finance sector contributed
to declines in retail sales and real estate values. In addition, a number of
widely publicized bankruptcies among highly leveraged retailing and brokerage
companies occurred. The effects of the recession have extended to banking,
insurance, business services (such as law, accounting and advertising),
publishing and communications. Factors which may inhibit the City's economic
recovery include (i) credit restraints imposed by the weak financial condition
of several major money center banks located in the City; (ii) increases in
combined State and local tax burdens, if uncompetitive tax rates are imposed;
(iii) perceived declines in the quality of life attributable to service
reductions and the deterioration of the City's infrastructure; (iv) additional
employment losses in the City's banking sector or corporate headquarters complex
due to further corporate relocations or restructurings; or (v) increased
expenditures for public assistance and health care. The City's future economic
condition will also likely be affected by its competitive position as a world
financial center (compared to London, Tokyo, Frankfurt and competing regional
U.S. centers).
While the State's economy is broader-based than that of the City,
particular industries are concentrated in and have a disproportionate impact on
certain areas, such as heavy industry in Buffalo, photographic and optical
equipment in Rochester, machinery and transportation equipment in Syracuse and
Utica-Rome, computers in Binghamton and in the Mid-Hudson Valley and electrical
equipment in the Albany-Troy-Schenectady area. Constraints on economic growth,
taxpayer resistance to proposed substantial increases in local tax rates, and
reductions in State aid in regions apart from the City have contributed to
financial difficulties for several county and other local governments.
THE STATE. The financial condition of the State is affected by several
factors, including the strength of the State and its regional economies, actions
of the federal government, and State actions affecting the level of receipts and
disbursements. Owing to these and other factors, the State may, in future years,
face substantial potential budget gaps resulting from a significant disparity
between tax revenues projected from a lower recurring receipts base and the
future costs of maintaining State programs at current levels. The State has been
and is experiencing substantial financial difficulties in the recent past with
General Fund (the principal operating account) deficits incurred. The State's
accumulated General Fund deficit (on a GAAP-basis) grew 91% from FY1986-87 to
FY1990-91, and reached a then-record $6.265 billion (audited) by March 31, 1991.
An accumulated General Fund deficit at March 31, 1992 was restated to be $4.616
billion and at March 31, 1993 was $2.551 billion. The State ended its 1993-94
fiscal year with positive General Fund balances, primarily due to an improving
national and State economy resulting in higher-than-expected receipts from
personal income tax and various business taxes. The General Fund showed an
operating surplus of $914 million (on a GAAP basis). The State's budget for FY
1994-95 was adopted on June 8, 1994, more than two months after the beginning of
the State's fiscal year and has made the three required quarterly revisions as
of February 1, 1995 (the 'February Update'). The February Update reduces the
estimates of General Fund receipts by $585 million, primarily due to reductions
in personal income tax and bank tax revenues. The net result of the revisions of
such projected reductions is a negative margin of $273 million against the
mid-year projection of a $14 million surplus, producing a potential deficit of
$259 million for FY1994-95. The Governor
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has proposed to close this potential deficit through a variety of measures,
including a Statewide hiring freeze, which, if successfully implemented, would
result in a $157 million surplus in the General Fund.
On February 1, 1995, the Governor presented his FY1995-96 Executive Budget
(the 'Executive Budget') to the Legislature; such Executive Budget is balanced
on a cash basis in the General Fund. It proposes actual reductions in the
year-over-year dollar levels of the state spending from the General Fund for the
first time in over 50 years with a proposed cut of 3.4%. The Executive Budget
also proposes to close a projected $4.7 billion budget gap through
cost-containment savings in social welfare programs, particularly Medicaid and
savings derived from State-agency and other organizational restructurings
resulting in a reduction of spending on the State workforce. In early June of
1995, the Legislature adopted a budget for FY1995-96 based in large part on the
proposals contained in the Executive Budget. There are risks and uncertainties
concerning whether or not certain tax and spending cuts included in the budget
as adopted will be upheld in the face of legal challenges. For example, there
can be no assurance that cuts in social welfare entitlement programs will not be
challenged in court. Further, the Comptroller has indicated his intention to
challenge in court the proposed use of certain pension reserves. Even if all
such tax and spending cuts are successfully implemented, resulting in a balanced
budget for FY1995-96, there can be no assurance that the State will not face
budget gaps in future years, resulting from a disparity between tax revenues
projected from a lower recurring-receipts base and the spending required to
maintain State programs at current levels. Furthermore, the State is a party to
numerous lawsuits in which an adverse decision could require extraordinary
expenditures. Certain major budgetary considerations affecting the State are
outlined below.
REVENUE BASE. The State's principal revenue sources are economically
sensitive, and include the personal income tax (57% and 53% of estimated
FY1993-94 and FY1994-95 General Fund tax receipts, respectively), user taxes and
fees (15% and 16%, respectively) and business taxes (19% and 18%, respectively).
Uncertainties in taxpayer behavior as a result of actual and proposed changes in
Federal tax law also may have an adverse impact on State tax receipts.
One-fourth of the 4% State sales tax has been dedicated to pay debt service of
the New York Local Government Assistance Corporation ('LGAC'), and has
correspondingly reduced General Fund receipts. To the extent those moneys are
not necessary for payment to LGAC, they are transferred from the LGAC Tax Fund
to the General Fund and reported as a transfer from other funds rather than as a
sales and use tax receipts. During FY1991-1992, 1992-93 and 1993-94, moneys were
so transferred. $1.303 billion is recommended to be transferred in FY1994-95.
Capital gains are a significant component of income tax collections. Auto sales
and building materials are significant components of retail sales tax
collections. Tax rates are relatively high and may impose political and economic
constraints on the ability of the State to further increase its taxes. State
legislation enacted in 1987 phased-in a reduction in the top rate of the State's
personal income tax; these tax cuts have substantially reduced the recurring
revenues of the State. The final phase-in (originally scheduled for October
1990) was deferred for the fifth consecutive year to avoid a reduction in
receipts of approximately $800 million in FY1994-95. In the absence of
countervailing economic growth or expenditure cuts the tax cuts could make the
achievement of a balanced State budget more difficult in future years.
STATE DEBT. New York has the heaviest debt burden of any state (with
approximately $5.4 billion of general obligation and $16.6 billion of
lease-purchase or other contractual debt outstanding as of March 31, 1994), and
debt service costs absorb a large share of the State's budget. As of March 31,
1994, the State is also obligated with respect to approximately $7.3 billion for
statutory moral obligations for nine of its Authorities and for guarantees of
$412 million of other Authority debt. Historically, the State has had one of the
largest seasonal financing requirements of any municipal issuer, and is required
each spring to borrow substantial sums in the credit markets to finance its
accumulated general fund deficit and its scheduled payments of aid to local
governments and school districts. In an effort to reduce such seasonal
borrowings, the State created
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LGAC to finance the State's local assistance payments by issuing long-term debt,
payable over 30 years from a portion of the State sales tax (as discussed
above). LGAC has previously issued bonds that, together with certain cash
reserves, resulted in the FY1994-95 State financial plan which included no
seasonal borrowing. It is proposed in the FY1995-96 State financial plan to
utilize the remainder of the amount of authorized but unissued LGAC bonds, which
will result in no seasonal borrowing for the second consecutive year. The
enabling legislation for LGAC contains a covenant restricting the amount of the
State's spring borrowing, which may reduce the State's fiscal flexibility in
future years.
BUDGETARY FLEXIBILITY. A significant portion of the State's General Fund
budget is accounted for by contractually required expenses (such as pension and
debt service costs) and by federally mandated programs (such as AFDC and
Medicaid). In addition, State aid for school districts comprises a major share
of the budget, and total appropriations and distribution of such aid is
especially contentious politically. Furthermore, the State's ability to respond
to unanticipated developments in the future may have been impaired since the
State has utilized a substantial range of actions of a non-recurring nature in
recent years to finance its General Fund operations, including tapping excess
monies in special funds, refinancing outstanding debt to reduce reserve fund
requirements and current (but not long-term) debt service costs, recalculating
pension fund contributions, selling State assets, reimbursing past General Fund
expenditures by the issuance of authority debt and deferring payment for
expenditures to future fiscal years.
LABOR COSTS. The State government workforce is mostly unionized, subject
to the Taylor Law which authorizes collective bargaining and prohibits (but has
not, historically, prevented) strikes and work slowdowns. Costs for employee
health benefits have increased substantially, and can be expected to further
increase. The State has a substantial unfunded liability for future pension
benefits, and has utilized changes in its pension fund investment return
assumptions to reduce current contribution requirements. If such investment
earnings assumptions are not sustained by actual results, additional State
contributions will be required in future years to meet the State's contractual
obligations. The State's change in actuarial method from the aggregate cost
method to a modified projected unit credit in FY1990-91 created a substantial
surplus that was amortized and applied to offset the State's contribution
through FY1993-94. This change in actuarial method was ruled unconstitutional by
the State's highest court and the State has returned to the aggregate cost
method in FY1994-95 using a four-year phase-in. Employer contributions,
including the State's, are expected to increase over the next five to ten years.
PUBLIC ASSISTANCE. New York has the second largest number of persons
receiving public assistance (AFDC and Home Relief) of any state. AFDC costs are
shared among the federal government, the State and its counties (including the
City) by statutory formula. Caseloads tend to rise significantly during economic
downturns, but have fallen only in the later stages of past economic recoveries.
Benefits are not subject to any statutory cost of living adjustment, and are a
highly contentious political issue.
MEDICAID. New York participates in the federal Medicaid program under a
state plan approved by the Health Care Financing Administration. The federal
government provides a substantial portion of eligible program costs, with the
remainder shared by the State and its counties (including the City). Basic
program eligibility and benefits are determined by federal guidelines, but the
State provides a number of optional benefits and expanded eligibility. Program
costs have increased substantially in recent years, and account for a rising
share of the State budget. Federal law requires that the State adopt
reimbursement rates for hospitals and nursing homes that are reasonable and
adequate to meet the costs that must be incurred by efficiently and economically
operated facilities in providing patient care, a standard that has led to past
litigation by hospitals and nursing homes seeking higher reimbursement from the
State. The budget adopted for FY1995-96 includes reductions in spending for
Medicaid. Cutbacks in State spending for Medicaid may adversely affect
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the financial condition of hospitals and health care institutions that are the
obligors of bonds that may be held by the Fund.
THE STATE AUTHORITIES. The State's Authorities are not subject to the
constitutional restrictions on the incurrence of debt which apply to the State
itself, and may issue bonds and notes within the amounts of, and as otherwise
restricted by, their legislative authorization. The New York State Public
Authorities Control Board approves the issuance of debt and major contracts by
10 of the Authorities. As of September 30, 1993 (the date of the latest data
available), there were 18 Authorities that had outstanding debt of $100 million
or more, the aggregate debt of which (including refunding bonds and moral
obligation or State-guaranteed debt) then totaled approximately $63.5 billion.
In recent years, the State has provided financial assistance through
appropriations, in some cases of a recurring nature, to certain Authorities for
operating and other expenses and (from 1976 to 1987) in fulfillment of its
commitments on moral obligation indebtedness or otherwise, for debt service. The
State has budgeted operating assistance of approximately $1.3 billion for the
Metropolitan Transportation Authority ('MTA') and $18.7 million for four other
Authorities (including the State Housing Finance Agency and the State Urban
Development Corporation) during FY1994-95. This assistance is expected to
continue to be required (and may increase) in future years. Failure by the State
to appropriate necessary amounts or to take other action to permit the
Authorities to meet their obligations could adversely affect the ability of the
State and the Authorities to obtain financing in the public credit markets and
the market price of the State's outstanding bonds and notes.
The MTA, whose credit rating was recently reduced, oversees the operation
of the City's subway and bus lines by its affiliates, the New York City Transit
Authority and the Manhattan and Bronx Surface Transit Operating Authority
(collectively, the 'TA'). MTA subsidiaries operate certain commuter rail and bus
lines in the New York metropolitan area. An affiliated agency, the Triborough
Bridge and Tunnel Authority ('TBTA'), operates certain intrastate toll bridges
and tunnels. To maintain its facilities and equipment, which deteriorated
significantly in the late 1970s due to deferred maintenance, the MTA prepares a
five year capital program subject to approval by the MTA Capital Program Review
Board. In April 1993, the State Legislature authorized the funding of a portion
of a five year $9.56 billion capital plan for the MTA for 1992 through 1996.
MTA's five year capital program for 1992-96 was approved by the State Capital
Program Review Board in December 1993. There can be no assurance that all
governmental actions for the 1992-96 Capital Program will be taken, that funding
sources currently identified will not be decreased or eliminated, or that the
Capital Program will not be delayed or reduced. If the Capital Program is
delayed or reduced, ridership and fare revenues may decline, which could impair
the MTA's ability to meet its operating expenses without additional State
assistance. In addition, because fares are not sufficient to finance its mass
transit operations, the MTA has depended and will continue to depend for
operating support upon a system of State, local government and TBTA support,
and, to the extent available, Federal assistance (including loans, grants and
operating subsidies). There can be no assurance that any such assistance will
continue at any particular level or in any fixed relationship to the operating
costs and capital needs of the MTA.
THE CITY. In the early 1970s, the City incurred substantial operating
deficits, and its financial controls, accounting practices and disclosure
policies were widely criticized. In 1975, the City encountered severe financial
difficulties and lost access to the public credit markets. The State Legislature
responded in 1975 by creating the Municipal Assistance Corporation For The City
of New York ('MAC') to provide financing assistance for the City and the
Financial Control Board to exercise certain oversight and review functions with
respect to the City's finances. The Financial Control Board's powers over the
City were suspended in June 1986, but would be reinstated (under current law) if
the City experiences certain adverse financial circumstances. At the time of the
fiscal crisis the State provided substantial financial assistance to the City,
the Federal government provided the City with direct seasonal loans and
guarantees on the City's long-term debt
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and the City's labor unions accepted deferrals of wage increases and approved
purchases of City bonds by the pension funds. No assurance can be given that
similar assistance would again be made available if needed, particularly given
the current budgetary constraints faced by both the Federal and State
governments.
The City provides services usually undertaken by counties, school districts
or special districts in other large urban areas, including the provision of
social services such as day care, foster care, health care, family planning,
services for the elderly and special employment services for needy individuals
and families who qualify for such assistance. State law requires the City to
allocate a large portion of its total budget to Board of Education operations,
and mandates that the City assume the local share of public assistance and
Medicaid costs. While the City has had GAAP operating surpluses in recent fiscal
years, the City has experienced ongoing financial difficulties, primarily
related to the impact of the recession on the local economy (reducing revenues
from most major taxes and increasing public assistance and Medicaid caseloads),
rising health care costs for City employees and for Medicaid and rising
inflation and interest rates. In response, the City implemented gap-closing
programs, which initially relied primarily on actions of a non-recurring nature,
but included substantial property tax rate increases and a personal income tax
surcharge imposed in FY1991 and selected service cutbacks. Reductions in State
aid, larger than budgeted labor settlements and increased police expenditures
added to the adverse budgetary impact of the local recession, confronting the
City with a potential $3.5 billion imbalance during FY1992 budget negotiations.
This initial budget gap was closed by adoption of a budget providing for various
tax increases and significant service reductions. Aid to nonprofit cultural
institutions in the City was significantly reduced (as was State aid to such
institutions), including certain institutions that are obligors of bonds that
may be held by the Fund.
The City's budget for FY1993-94 identified measures to close a $300 million
budget gap, which was the result of shortfalls in federal and State aid from
previously projected levels. The City achieved balanced operating results as
reported in accordance with GAAP for FY1993-94. The mayor is responsible for
preparing the City's four-year financial plan. The City's 1995-1998 financial
plan contains numerous assumptions concerning factors which may impact the
City's budget such as: the timing and pace of a regional and local economic
recovery, increases in interest rates, the impact on real estate tax revenues of
the current downturn in the real estate market, wage increases for city
employees consistent with those assumed in the financial plan, employment
growth, the ability to implement proposed reductions in City personnel and other
cost reduction initiatives which may require in certain cases the cooperation of
the City's municipal unions and MAC, provision of State and federal aid and
mandate relief, and the impact on the New York City region of the tax increases
contained in President Clinton's economic plan. No assurance can be given that
the assumptions used by the City will be realized. Furthermore, actions taken in
recent fiscal years to avert deficits may have reduced the City's flexibility in
responding to future budgetary imbalances, and have deferred certain
expenditures to later fiscal years.
The City's original budget for FY1994-95 reflected proposed actions to
eliminate a $2.3 billion budget gap. On October 25, 1994, the City published its
financial plan for FY1995-1998 (the 'October Plan') modifying the financial plan
it previously submitted on July 8, 1994 (the 'Previous Plan'). The October Plan
reflected actual receipts and expenditures and changes in forecast revenues and
expenditures since the Previous Plan, and projected revenues and expenditures
for FY1994-95 year balanced in accordance with GAAP. On February 14, 1995, the
mayor released the Preliminary Budget (the 'Preliminary Budget') for the City's
FY1995-96 which addressed a projected $2.7 billion budget gap. In order to close
such deficit, the Preliminary Budget includes among other things, plans to
reduce the City's workforce substantially, decrease expenditures for municipal
services such as libraries, schools, and hospitals, decrease expenses in all
City agencies and refinance a portion of the City's debt. Following the adoption
of the New York State budget in early June 1995 and the notification of an
increased shortfall in anticipated state assistance of approximately
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$700 million, the Preliminary Budget was substantially revised. The City budget
for FY1995-96 was adopted on June 15, 1995 (the 'Budget') and, among other
things, included a reduction of nearly $500 million for the public school
system. The Budget is subject to the ability of the City to implement the
reductions in expenditures, personal services and personnel, which are
substantial and may be difficult to implement. In addition, certain proposals
may be offset by various State and federal legislation which could mandate
levels of City funding inconsistent with the Preliminary Budget. Certain
proposed State and federal actions are subject to legislative, the governor's
and the president's approvals, as applicable. Both federal and State actions are
uncertain and no assurance can be given that either such actions will in fact be
taken or that the projected savings will result even if such actions are taken.
The City is the largest municipal debt issuer in the nation, and has more
than doubled its debt load since the end of FY1988, in large measure to
rehabilitate its extensive, aging physical plant. The City's current capital
financing program reflects major reductions in the City's four-year capital
plan, which will reduce future debt service requirements, but may adversely
affect the condition of its deteriorating physical plant.
In November 1993, the voters approved a proposed charter whereby Staten
Island would secede from the City. Staten Island is one of five
counties/boroughs, comprising 4% of the City's population and 19% of its land
area. State law provides a complex mechanism for such secession.
OTHER LOCALITIES. Certain localities in addition to the City could have
financial problems which, if significant, could lead to requests for additional
State assistance during the State's FY1995-96 and thereafter. Fiscal
difficulties experienced by the City of Yonkers, for example, could result in
State actions to allocate State resources in amounts that cannot yet be
determined. In the recent past, the State provided substantial financial
assistance to its political subdivisions, totaling approximately 68% of General
Fund disbursements in the State's FY1992-93 and approximately 69% of General
Fund disbursements in FY1993-94, primarily for aid to elementary, secondary and
higher education (approximately 34% in FY1992-93 and approximately 34% in
FY1993-94 of local assistance) and medicaid and income maintenance
(approximately 33% in FY1992-93 and approximately 34% in FY1993-94). The
Legislature enacted substantial reductions from previously budgeted levels of
State aid since December 1990. To the extent the State is constrained by its
financial condition, State assistance to localities may be further reduced,
compounding the serious fiscal constraints already experienced by many local
governments. Localities also face anticipated and potential problems resulting
from pending litigation (including challenges to local property tax
assessments), judicial decisions and socioeconomic trends.
The total indebtedness of all localities in the State, other than New York
City, was approximately $15.7 billion as of the localities' fiscal years ending
during 1992 (the date of the latest data available). A small portion
(approximately $71.6 million) of this indebtedness represented borrowing to
finance budgetary deficits issued pursuant to enabling State legislation
(requiring budgetary review by the State Comptroller). Fifteen localities had
outstanding indebtedness for deficit financing at the close of their fiscal year
ending 1992 (compared to 11 in 1988). Subsequently, certain counties and other
local governments have encountered significant financial difficulties, including
Nassau County and Suffolk County (which each received approval by the
Legislature to issue deficit notes). The State has imposed financial control on
the City of New York from 1977 to 1986 and on the City of Yonkers in 1984, 1988
and 1989, under an appointed control board in response to fiscal crises
encountered by such municipalities.
INVESTMENT LIMITATIONS OF THE FUNDS
CALIFORNIA TAX-FREE INCOME FUND AND NATIONAL TAX-FREE INCOME FUND. Neither
Fund may (1) issue senior securities or borrow money, except from banks for
emergency or temporary purposes, and then in an aggregate amount not in excess
of 10% of the value of the Fund's total assets at the time of such borrowing;
provided that the Fund will not purchase securities while borrowings in excess
of 5% of the value
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contracts on municipal securities and on indexes of municipal securities and
options thereon; (6) invest in oil, gas or mineral exploration or development
programs; (7) purchase voting securities of any issuer or acquire securities of
other investment companies, except in connection with a merger, consolidation or
acquisition; (8) make loans, except through repurchase agreements, provided that
for purposes of this restriction the acquisition of municipal bonds or other
municipal debt obligations shall not be deemed to be the making of a loan; (9)
purchase any security if, as a result, 25% or more of the value of the Fund's
total assets would be invested in the securities of issuers having their
principal business activities in the same industry, except that this limitation
does not apply to municipal bonds; or (10) purchase the securities of any issuer
if as a result more than 5% of its total assets would be invested in the
securities of that issuer, provided that any securities issued or guaranteed by
the U.S. government, its agencies and instrumentalities are not subject to this
limitation and further provided that up to 25% of the value of the Fund's assets
may be invested without regard to this 5% limitation.
For purposes of limitations (9) and (10) above, the District of Columbia,
Puerto Rico, each state or territory, each political subdivision, agency,
instrumentality and authority thereof, and each multi-state agency of which a
state is a member is a separate 'issuer'. When the assets and revenues of an
agency, authority, instrumentality or other political subdivision are separate
from the government creating the subdivision and the security is backed only by
the assets and revenues of the subdivision, such subdivision would be deemed to
be the sole issuer. Similarly, in the case of an IDB or PAB, if that bond is
backed only by the assets and revenues of the nongovernmental user, then such
nongovernmental user would be deemed to be the sole issuer. However, if in
either case the creating government or some other agency guarantees a security,
then to the extent that the value of all securities issued or guaranteed by such
government or entity exceeds 10% of a Fund's total assets, such a guarantee
would be considered a separate security and would be treated as an issue of such
government or other agency.
It is possible that either California Tax-Free Income Fund or National
Tax-Free Income Fund from time to time will invest more than 25% of its assets
in a particular segment of the municipal securities market, such as hospital
revenue bonds, housing agency bonds, IDBs, PABs or airport bonds or in
securities the interest upon which is paid from revenues of a similar type of
project. In such circumstances, economic, business, political or other changes
affecting one bond might also affect other bonds in the same segment, thereby
potentially increasing market risk.
The foregoing investment limitations cannot be changed for California
Tax-Free Income Fund or National Tax-Free Income Fund without the affirmative
vote of the lesser of (1) more than 50% of the outstanding shares of the
applicable Fund or (2) 67% or more of the shares present at a shareholders'
meeting if more than 50% of the outstanding shares are represented at the
meeting in person or by proxy. If a percentage restriction is adhered to at the
time of an investment or transaction, later changes in percentage resulting from
a change in values of portfolio securities or the amount of total assets will
not be considered a violation of any of the foregoing limitations.
The following investment restrictions may be changed by PaineWebber Mutual
Fund Trust's board of trustees without shareholder approval: Each of California
Tax-Free Income Fund and National Tax-Free Income Fund will not (1) purchase any
security if as a result of such purchase more than 5% of its assets would be
invested in securities with respect to which payment of interest and principal
are the responsibility of a company, including its predecessors, with less than
three years operating history; (2) invest more than 10% of its net assets in
illiquid securities, a term which means securities that cannot be disposed of
within seven days in the ordinary course of business at approximately the amount
at which the Fund has valued the securities and includes, among other things,
repurchase agreements maturing in more than seven days; (3) make
18
<PAGE>
investments in warrants if such investments, valued at the lower of cost or
market, exceed 5% of the value of its net assets, which amount may include
warrants that are not listed on the New York Stock Exchange, Inc. ('NYSE') or
the American Stock Exchange, Inc. ('AMEX'), provided that such unlisted
warrants, valued at the lower of cost or market, do not exceed 2% of the Fund's
net assets and further provided that restriction does not apply to warrants
attached to, or sold as a unit with, other securities; (4) purchase or retain
the securities of any issuer if, to the knowledge of the Fund's management, the
officers and trustees of the Fund and the officers and directors of Mitchell
Hutchins (each owning beneficially more than 0.5% of the outstanding securities
of an issuer) own in the aggregate more than 5% of the securities of an issuer;
or (5) invest more than 35% of its total assets in debt securities rated Ba or
lower by Moody's or BB or lower by S&P (or determined by Mitchell Hutchins to be
of comparable quality). This non-fundamental policy (5) can be changed only upon
30 days' advance notice to shareholders. Each Fund will continue to interpret
fundamental investment limitation (3) to prohibit investment in real estate
limited partnerships.
MUNICIPAL HIGH INCOME FUND AND NEW YORK TAX-FREE INCOME FUND. Neither Fund
may (1) issue senior securities or borrow money, except from banks for temporary
purposes, provided that the aggregate amount borrowed does not exceed 10% of the
total asset value of the Fund at the time of such borrowing and further provided
that the Fund will not purchase securities while borrowings in excess of 5% of
its total assets are outstanding; (2) underwrite securities of other issuers,
except to the extent that, in connection with the purchase of municipal
securities directly from an issuer thereof in accordance with the Fund's
investment objective, policies and limitations or the disposition of portfolio
securities, the Fund may be deemed to be an underwriter; (3) purchase or sell
real estate, except that the Fund may invest in municipal securities secured by
real estate or interests therein; (4) purchase securities on margin, make short
sales of securities or maintain a short position, except that the Fund may (a)
make margin deposits, make short sales and maintain short positions in
connection with its use of options, futures contracts and options on futures
contracts and (b) sell short 'against the box'; (5) purchase or sell commodities
or commodity contracts, except that the Fund may purchase or sell futures
contracts on municipal securities and on indexes of municipal securities and
options thereon; (6) invest in oil, gas or mineral exploration or development
programs; (7) purchase voting securities of any issuer or acquire securities of
other investment companies, except in connection with a merger, consolidation or
acquisition and except to the extent permitted by Section 12 of the Investment
Company Act of 1940 ('1940 Act') (currently, up to 10% of the total assets of
the Fund and no more than 5% of total assets in any single investment company
and no more than 3% of the total outstanding voting stock of any one investment
company); (8) make loans, except through repurchase agreements; provided that
for purposes of this restriction the acquisition of publicly distributed
municipal securities and other publicly distributed debt obligations shall not
be deemed to be the making of a loan; and (9) purchase any security if, as a
result, 25% or more of the value of the Fund's total assets would be invested in
the securities of issuers having their principal business activities in the same
industry, except that this limitation does not apply to municipal securities or
securities issued or guaranteed by the U.S. government, its agencies and
instrumentalities.
For purposes of limitation (9), the District of Columbia, Puerto Rico, each
state or territory, each public subdivision, agency, instrumentality and
authority thereof, and each multi-state agency of which a state is a member is a
separate 'issuer.' When the assets and revenues of an agency, authority,
instrumentality or other political subdivision are separate from the government
creating the subdivision and the security is backed only by the assets and
revenues of the subdivision, such subdivision would be deemed to be the sole
issuer. Similarly, in the case of an IDB or PAB, if that bond is backed only by
the assets and revenues of the nongovernmental user, then such nongovernmental
user would be deemed to be the sole issuer. However, if in either case the
creating government or some other agency guarantees a security, such a guarantee
would be
19
<PAGE>
considered a separate security and would be treated as an issuer of such
government or other agency. While limitation (4) permits each Fund to sell short
'against the box' and limitation (7) permits each Fund to invest up to 10% of
its total assets in the securities of other investment companies, neither Fund
has any present intention of engaging in these practices.
It is possible that either Municipal High Income Fund or New York Tax-Free
Income Fund from time to time will invest more than 25% of its total assets in a
particular segment of the municipal securities market, such as hospital revenue
bonds, housing agency bonds, IDBs, PABs or airport bonds or in securities the
interest upon which is paid from revenues of a similar type of project. In such
circumstances, economic, business, political or other changes affecting one bond
might also affect other bonds in the same segment, thereby potentially
increasing market risk.
The foregoing fundamental investment limitations cannot be changed for
Municipal High Income Fund or New York Tax-Free Income Fund without the
affirmative vote of the lesser of (a) more than 50% of the outstanding shares of
the applicable Fund or (b) 67% or more of such shares present at a shareholders'
meeting if more than 50% of the outstanding shares are represented at the
meeting in person or by proxy. If a percentage restriction is adhered to at the
time of an investment or transaction, a later increase or decrease in percentage
resulting from changing values of portfolio securities or amount of total assets
will not be considered a violation of any of the foregoing limitations.
The following investment restrictions may be changed by PaineWebber
Municipal Series' board of trustees with respect to a Fund without shareholder
approval: Each of Municipal High Income Fund and New York Tax-Free Income Fund
may not (1) purchase any security if as a result of such purchase more than 5%
of its assets would be invested in securities with respect to which payment of
interest and principal are the responsibility of a company, including its
predecessors, with less than three years operating history; (2) invest more than
10% of its net assets in illiquid securities, a term which means securities that
cannot be disposed of within seven days in the ordinary course of business at
approximately the amount at which the Fund has valued the securities and
includes, among other things, repurchase agreements maturing in more than seven
days; (3) purchase or retain the securities of any issuer if, to the knowledge
of the Fund's management, the officers and trustees of the Trust and the
officers and directors of Mitchell Hutchins (each owning beneficially more than
0.5% of the outstanding securities of an issuer) own in the aggregate more than
5% of the securities of the issuer; and (4) make investments in warrants if such
investments, valued at the lower of cost or market, exceed 5% of the value of
its net assets, which amount may include warrants that are not listed on the
NYSE or the AMEX, provided that such unlisted warrants, valued at the lower of
cost or market, do not exceed 2% of the Fund's net assets and further provided
that this restriction does not apply to warrants attached to, or sold as a unit
with, other securities. In addition, New York Tax-Free Income Fund may not
invest more than 35% of its total assets in debt securities rated Ba or lower by
Moody's or BB or lower by S&P (or determined by Mitchell Hutchins to be of
comparable quality). This non-fundamental policy can be changed only upon 30
days' advance notice to shareholders.
Each Fund will continue to interpret fundamental investment limitation (3)
to prohibit investment in real estate limited partnerships.
20
<PAGE>
HEDGING AND RELATED INCOME STRATEGIES
As discussed in the Prospectus, Mitchell Hutchins may use a variety of
financial instruments ('Hedging Instruments'), including certain options,
futures contracts (sometimes referred to as 'futures') and options on futures
contracts, to attempt to hedge the Funds' portfolios and may use options to
attempt to enhance the Fund's income. The particular Hedging Instruments are
described in the Appendix to this Statement of Additional Information. Because
each Fund intends to use options and futures for hedging purposes, each Fund may
enter into options and futures transactions that approximate (but do not exceed)
the full value of its portfolio. However, no Fund currently intends to engage in
hedging or related income strategies. Any income realized from the use of
options and futures would be taxable to shareholders; therefore, a Fund would
engage in hedging or related income strategies only under unusual market
conditions. The use of options and futures solely to enhance income may be
considered a form of speculation.
Hedging strategies can be broadly categorized as 'short hedges' and 'long
hedges.' A short hedge is a purchase or sale of a Hedging Instrument intended to
partially or fully offset potential declines in the value of one or more
investments held in a Fund's portfolio. Thus, in a short hedge a Fund takes a
position in a Hedging Instrument whose price is expected to move in the opposite
direction of the price of the investment being hedged. For example, a Fund might
purchase a put option on a security to hedge against a potential decline in the
value of that security. If the price of the security declined below the exercise
price of the put, the Fund could exercise the put and thus limit its loss below
the exercise price to the premium paid plus transaction costs. In the
alternative, because the value of the put option can be expected to increase as
the value of the underlying security declines, the Fund might be able to close
out the put option and realize a gain to offset the decline in the value of the
security.
Conversely, a long hedge is a purchase or sale of a Hedging Instrument
intended partially or fully to offset potential increases in the acquisition
cost of one or more investments that a Fund intends to acquire. Thus, in a long
hedge a Fund takes a position in a Hedging Instrument whose price is expected to
move in the same direction as the price of the prospective investment being
hedged. For example, a Fund might purchase a call option on a security it
intends to purchase in order to hedge against an increase in the cost of the
security. If the price of the security increased above the exercise price of the
call, the Fund could exercise the call and thus limit its acquisition cost to
the exercise price plus the premium paid and transaction costs. Alternatively,
the Fund might be able to offset the price increase by closing out an
appreciated call option and realizing a gain.
Hedging Instruments on securities generally are used to hedge against price
movements in one or more particular securities positions that a Fund owns or
intends to acquire. Hedging Instruments on debt securities may be used to hedge
either individual securities or broad fixed income market sectors.
The use of Hedging Instruments is subject to applicable regulations of the
Securities and Exchange Commission ('SEC'), the several options and futures
exchanges upon which they are traded, the Commodity Futures Trading Commission
('CFTC') and various state regulatory authorities. In addition, a Fund's ability
to use Hedging Instruments will be limited by tax considerations. See 'Taxes.'
In addition to the products, strategies and risks described below, Mitchell
Hutchins expects to discover additional opportunities in connection with
options, futures contracts and other hedging techniques. These new opportunities
may become available as Mitchell Hutchins develops new techniques, as regulatory
authorities broaden the range of permitted transactions and as new options,
futures contracts or other techniques are developed. Mitchell Hutchins may
utilize these opportunities to the extent that they are
21
<PAGE>
consistent with the Funds' investment objectives and permitted by the Funds'
investment limitations and applicable regulatory authorities. The Funds'
Prospectus or Statement of Additional Information will be supplemented to the
extent that new products or techniques involve materially different risks than
those described below or in the Prospectus.
SPECIAL RISKS OF HEDGING STRATEGIES. The use of Hedging Instruments
involves special considerations and risks, as described below. Risks pertaining
to particular Hedging Instruments are described in the sections that follow.
(1) Successful use of most Hedging Instruments depends upon Mitchell
Hutchins' ability to predict movements of the overall securities and interest
rate markets, which requires different skills than predicting changes in the
prices of individual securities. While Mitchell Hutchins is experienced in the
use of Hedging Instruments, there can be no assurance that any particular
hedging strategy adopted will succeed.
(2) There might be imperfect correlation, or even no correlation, between
price movements of a Hedging Instrument and price movements of the investments
being hedged. For example, if the value of a Hedging Instrument used in a short
hedge increased by less than the decline in value of the hedged investment, the
hedge would not be fully successful. Such a lack of correlation might occur due
to factors unrelated to the value of the investments being hedged, such as
speculative or other pressures on the markets in which Hedging Instruments are
traded. The effectiveness of hedges using Hedging Instruments on indices will
depend on the degree of correlation between price movements in the index and
price movements in the securities being hedged.
(3) Hedging strategies, if successful, can reduce risk of loss by wholly or
partially offsetting the negative effect of unfavorable price movements in the
investments being hedged. However, hedging strategies can also reduce
opportunity for gain by offsetting the positive effect of favorable price
movements in the hedged investments. For example, if a Fund entered into a short
hedge because Mitchell Hutchins projected a decline in the price of a security
in the Fund's portfolio, and the price of that security increased instead, the
gain from that increase might be wholly or partially offset by a decline in the
price of the Hedging Instrument. Moreover, if the price of the Hedging
Instrument declined by more than the increase in the price of the security, the
Fund could suffer a loss. In either such case, the Fund would have been in a
better position had it not hedged at all.
(4) As described below, a Fund might be required to maintain assets as
'cover,' maintain segregated accounts or make margin payments when it takes
positions in Hedging Instruments involving obligations to third parties (i.e.,
Hedging Instruments other than purchased options). If a Fund were unable to
close out its positions in such Hedging Instruments, it might be required to
continue to maintain such assets or accounts or make such payments until the
position expired or matured. These requirements might impair a Fund's ability to
sell a portfolio security or make an investment at a time when it would
otherwise be favorable to do so, or require that a Fund sell a portfolio
security at a disadvantageous time. A Fund's ability to close out a position in
a Hedging Instrument prior to expiration or maturity depends on the existence of
a liquid secondary market or, in the absence of such a market, the ability and
willingness of a contra party to enter into a transaction closing out the
position. Therefore, there is no assurance that any hedging position can be
closed out at a time and price that is favorable to the Fund.
COVER FOR HEDGING STRATEGIES. Transactions using Hedging Instruments,
other than purchased options, expose a Fund to an obligation to another party. A
Fund will not enter into any such transactions unless it owns either (1) an
offsetting ('covered') position in securities or other options or futures
contracts or
22
<PAGE>
(2) cash and short-term liquid debt securities, with a value sufficient at all
times to cover its potential obligations to the extent not covered as provided
in (1) above. Each Fund will comply with SEC guidelines regarding cover for
hedging transactions and will, if the guidelines so require, set aside cash,
U.S. government securities or other liquid, high-grade debt securities in a
segregated account with its custodian in the prescribed amount.
Assets used as cover or held in a segregated account cannot be sold while
the position in the corresponding Hedging Instrument is open, unless they are
replaced with similar assets. As a result, the commitment of a large portion of
a Fund's assets to cover or segregated accounts could impede portfolio
management or the Fund's ability to meet redemption requests or other current
obligations.
OPTIONS. The Funds may purchase put and call options, and write (sell)
covered put and call options, on debt securities. The purchase of call options
serves as a long hedge, and the purchase of put options serves as a short hedge.
Writing covered put or call options can enable a Fund to enhance income by
reason of the premiums paid by the purchasers of such options. However, if the
market price of the security underlying a covered put option declines to less
than the exercise price of the option, minus the premium received, the Fund
would expect to suffer a loss. Writing covered call options serves as a limited
short hedge, because declines in the value of the hedged investment would be
offset to the extent of the premium received for writing the option. However, if
the security appreciates to a price higher than the exercise price of the call
option, it can be expected that the option will be exercised and the Fund will
be obligated to sell the security at less than its market value. If the covered
call option is an OTC option, the securities or other assets used as cover would
be considered illiquid to the extent described under 'Investment Policies and
Restrictions--Illiquid Securities.'
The value of an option position will reflect, among other things, the
current market value of the underlying investment, the time remaining until
expiration, the relationship of the exercise price to the market price of the
underlying investment, the historical price volatility of the underlying
investment and general market conditions. Options normally have expiration dates
of up to nine months. Generally, OTC options on debt securities are European
style options. This means that the option is only exercisable immediately prior
to its expiration. This is in contrast to American-style options, which are
exercisable at any time prior to the expiration date of the option. Options that
expire unexercised have no value.
A Fund may effectively terminate its right or obligation under an option by
entering into a closing transaction. For example, a Fund may terminate its
obligation under a call or put option that it had written by purchasing an
identical call or put option; this is known as a closing purchase transaction.
Conversely, a Fund may terminate a position in a put or call option it had
purchased by writing an identical put or call option; this is known as a closing
sale transaction. Closing transactions permit a Fund to realize profits or limit
losses on an option position prior to its exercise or expiration.
The Funds may purchase or write both exchange-traded and OTC options.
However, exchange-traded or liquid OTC options on municipal debt securities are
not currently available. Exchange markets for options on debt securities exist
but are relatively new, and these instruments are primarily traded on the OTC
market. Exchange-traded options in the United States are issued by a clearing
organization affiliated with the exchange on which the option is listed which,
in effect, guarantees completion of every exchange-traded option transaction. In
contrast, OTC options are contracts between the Fund and its contra party
(usually a securities dealer or a bank) with no clearing organization guarantee.
Thus, when the Fund purchases or writes an OTC option, it relies on the contra
party to make or take delivery of the underlying investment upon exercise of the
option. Failure by the contra party to do so would result in the loss of any
premium paid by the Fund as well as
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<PAGE>
the loss of any expected benefit of the transaction. The Funds will enter into
OTC option transactions only with contra parties that have a net worth of at
least $20 million.
A Fund's ability to establish and close out positions in exchange-listed
options depends on the existence of a liquid market. Each Fund intends to
purchase or write only those exchange-traded options for which there appears to
be a liquid secondary market. However, there can be no assurance that such a
market will exist at any particular time. Closing transactions can be made for
OTC options only by negotiating directly with the contra party, or by a
transaction in the secondary market if any such market exists. Although a Fund
will enter into OTC options only with contra parties that are expected to be
capable of entering into closing transactions with the Fund, there is no
assurance that the Fund will in fact be able to close out an OTC option position
at a favorable price prior to expiration. In the event of insolvency of the
contra party, the Fund might be unable to close out an OTC option position at
any time prior to its expiration.
If a Fund were unable to effect a closing transaction for an option it had
purchased, it would have to exercise the option to realize any profit. The
inability to enter into a closing purchase transaction for a covered call option
written by a Fund could cause material losses because the Fund would be unable
to sell the investment used as cover for the written option until the option
expires or is exercised.
In the event that options on indices of municipal and non-municipal debt
securities become available, a Fund may purchase and write put and call options
on such indices in much the same manner as the more traditional options
discussed above, except that index options may serve as a hedge against overall
fluctuations in the debt securities markets (or market sectors) rather than
anticipated increases or decreases in the value of a particular security.
GUIDELINES FOR OPTIONS. A Fund's use of options is governed by the
following guidelines, which can be changed by each Trust's board of trustees
without shareholder vote:
1. A Fund may purchase a put or call option, including any straddles
or spreads, only if the value of its premium, when aggregated with the
premiums on all other options held by the Fund, does not exceed 5% of the
Fund's total assets.
2. The aggregate value of securities underlying put options written by
any Fund determined as of the date the put options are written, will not
exceed 50% of the Fund's net assets.
3. The aggregate premiums paid on all options (including options on
securities and indices of debt securities and options on futures contracts)
purchased by the Fund that are held at any time will not exceed 20% of the
Fund's net assets.
FUTURES. The Funds may purchase and sell municipal bond index futures
contracts, municipal debt futures contracts and purchase put and call options,
and write covered put and call options, on such futures contracts. The purchase
of futures or call options thereon can serve as a long hedge, and the sale of
futures or the purchase of put options thereon can serve as a short hedge.
Writing covered call options on futures contracts can serve as a limited short
hedge, and writing covered put options on futures contracts can serve as a
limited long hedge, using a strategy similar to that used for writing covered
call options on securities or indices.
Futures strategies also can be used to manage the average duration of a
Fund's portfolio. If Mitchell Hutchins wishes to shorten the average duration of
a Fund, the Fund may sell a futures contract or a call option thereon, or
purchase a put option on that futures contract. If Mitchell Hutchins wishes to
lengthen the
24
<PAGE>
average duration of a Fund, the Fund may buy a futures contract or a call option
thereon, or sell a put option thereon.
No price is paid upon entering into a futures contract. Instead, at the
inception of a futures contract a Fund is required to deposit in a segregated
account with its custodian, in the name of the futures broker through whom the
transaction was effected, 'initial margin' consisting of cash, U.S. government
securities or other liquid, high-grade debt securities, in an amount generally
equal to 10% or less of the contract value. Margin must also be deposited when
writing a call option on a futures contract, in accordance with applicable
exchange rules. Unlike margin in securities transactions, initial margin on
futures contracts does not represent a borrowing, but rather is in the nature of
a performance bond or good-faith deposit that is returned to the Fund at the
termination of the transaction if all contractual obligations have been
satisfied. Under certain circumstances, such as periods of high volatility, the
Fund may be required by an exchange to increase the level of its initial margin
payment, and initial margin requirements might be increased generally in the
future by regulatory action.
Subsequent 'variation margin' payments are made to and from the futures
broker daily as the value of the futures position varies, a process known as
'marking to market.' Variation margin does not involve borrowing, but rather
represents a daily settlement of the Fund's obligations to or from a futures
broker. When a Fund purchases an option on a future, the premium paid plus
transaction costs is all that is at risk. In contrast, when a Fund purchases or
sells a futures contract or writes a call or put option thereon, it is subject
to daily variation margin calls that could be substantial in the event of
adverse price movements. If the Fund has insufficient cash to meet daily
variation margin requirements, it might need to sell securities at a time when
such sales are disadvantageous.
Holders and writers of futures positions and options on futures can enter
into offsetting closing transactions, similar to closing transactions on
options, by selling or purchasing, respectively, an instrument identical to the
instrument held or written. Positions in futures and options on futures may be
closed only on an exchange or board of trade that provides a secondary market.
Each Fund intends to enter into futures transactions only on exchanges or boards
of trade where there appears to be a liquid secondary market. However, there can
be no assurance that such a market will exist for a particular contract at a
particular time.
Under certain circumstances, futures exchanges may establish daily limits
on the amount that the price of a future or related option can vary from the
previous day's settlement price; once that limit is reached, no trades may be
made that day at a price beyond the limit. Daily price limits do not limit
potential losses because prices could move to the daily limit for several
consecutive days with little or no trading, thereby preventing liquidation of
unfavorable positions.
If a Fund were unable to liquidate a futures or related options position
due to the absence of a liquid secondary market or the imposition of price
limits, it could incur substantial losses. The Fund would continue to be subject
to market risk with respect to the position. In addition, except in the case of
purchased options, the Fund would continue to be required to make daily
variation margin payments and might be required to maintain the position being
hedged by the future or option or to maintain cash or securities in a segregated
account.
Certain characteristics of the futures market might increase the risk that
movements in the prices of futures contracts or related options might not
correlate perfectly with movements in the prices of the investments being
hedged. For example, all participants in the futures and related options markets
are subject to daily variation margin calls and might be compelled to liquidate
futures or related options positions whose prices are moving unfavorably to
avoid being subject to further calls. These liquidations could increase price
25
<PAGE>
volatility of the instruments and distort the normal price relationship between
the futures or options and the investments being hedged. Also, because initial
margin deposit requirements in the futures market are less onerous than margin
requirements in the securities markets, there might be increased participation
by speculators in the futures markets. This participation also might cause
temporary price distortions. In addition, activities of large traders in both
the futures and securities markets involving arbitrage, 'program trading' and
other investment strategies might result in temporary price distortions.
GUIDELINES FOR FUTURES AND RELATED OPTIONS. A Fund's use of futures and
related options is governed by the following guidelines, which can be changed by
each Trust's board of trustees without shareholder vote:
1. To the extent a Fund enters into futures contracts and options on
futures positions that are not for bona fide hedging purposes (as defined
by the CFTC), the aggregate initial margin and premiums on those positions
(excluding the amount by which options are 'in-the-money') may not exceed
5% of the Fund's net assets.
2. The aggregate premiums paid on all options (including options on
securities and indices of debt securities and options on futures contracts)
purchased by any Fund that are held at any time will not exceed 20% of the
Fund's net assets.
3. The aggregate margin deposits on all futures contracts and options
thereon held at any time by the Fund will not exceed 5% of the Fund's total
assets.
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TRUSTEES AND OFFICERS
The trustees and executive officers of each Trust, their business addresses
and principal occupations during the past five years are:
<TABLE>
<CAPTION>
POSITION BUSINESS EXPERIENCE;
NAME AND ADDRESS* WITH EACH TRUST OTHER DIRECTORSHIPS
- ------------------------------ --------------- ------------------------------
<S> <C> <C>
E. Garrett Bewkes, Jr.**; 68 Trustee and Mr. Bewkes is a director of
Chairman of the Paine Webber Group Inc. ('PW
Board of Group') (holding company of
Trustees PaineWebber and Mitchell
Hutchins) and a consultant
to PW Group. Prior to 1988,
he was chairman of the
board, president and chief
executive office of American
Bakeries Company. Mr. Bewkes
is also a director of
Interstate Bakeries
Corporation and NaPro
Biotherapeutics, Inc. and a
director or trustee of 27
other investment companies
for which Mitchell Hutchins
or PaineWebber serves as
investment adviser.
Meyer Feldberg; 52 Trustee Mr. Feldberg is Dean and
Columbia University Professor of Management of
101 Uris Hall the Graduate School of
New York, New York 10027 Business, Columbia
University. Prior to 1989,
he was president of the
Illinois Institute of
Technology. Dean Feldberg is
also a director of AMSCO
International Inc.,
Federated Department Stores
Inc., Inco Homes Corporation
and New World Communications
Group Incorporated and a
director or trustee of 18
other investment companies
for which Mitchell Hutchins
or PaineWebber serves as
investment adviser.
George W. Gowen; 65 Trustee Mr. Gowen is a partner in the
666 Third Avenue law firm of Dunnington,
New York, New York 10017 Bartholow & Miller. Prior to
May 1994, he was a partner
in the law firm of Fryer,
Ross & Gowen. Mr. Gowen is
also a director of Columbia
Real Estate Investments,
Inc. and a director or
trustee of 16 other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
Frederic V. Malek; 58 Trustee Mr. Malek is chairman of
901 15th Street, N.W. Thayer Capital Partners
Suite 300 (investment bank) and a
Washington, D.C. 20005 co-chairman and director of
CB Commercial Group Inc.
(real estate). From January
1992 to November 1992, he
was campaign manager of
Bush-Quayle '92. From 1990
to 1992, he was vice
chairman and, from 1989 to
1990, he was president of
</TABLE>
27
<PAGE>
<TABLE>
<CAPTION>
POSITION BUSINESS EXPERIENCE;
NAME AND ADDRESS* WITH EACH TRUST OTHER DIRECTORSHIPS
- ------------------------------ --------------- ------------------------------
<S> <C> <C>
Northwest Airlines Inc., NWA
Inc. (holding company of
Northwest Airlines Inc.) and
Wings Holdings Inc. (holding
company of NWA Inc.). Prior
to 1989, he was employed by
the Marriott Corporation
(hotels, restaurants,
airline catering and
contract feeding), where he
most recently was an
executive vice president and
president of Marriott Hotels
and Resorts. Mr. Malek is
also a director of American
Management Systems, Inc.,
Automatic Data Processing,
Inc., Avis, Inc., FPL Group,
Inc., ICF International,
Manor Care, Inc. National
Education Corporation and
Northwest Airlines Inc. and
a director or trustee of 16
other investment companies
for which Mitchell Hutchins
or PaineWebber serves as
investment adviser.
Frank P.L. Minard**; 49 Trustee Mr. Minard is chairman and a
director of Mitchell
Hutchins, chairman of the
board and a director of
Mitchell Hutchins
Institutional Investors Inc.
and a director of
PaineWebber. Prior to 1993,
Mr. Minard was managing
director of Oppenheimer
Capital in New York and
director of Oppenheimer
Capital Ltd. in London. Mr.
Minard is also a director or
trustee of 30 other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
Judith Davidson Moyers; 59 Trustee Mrs. Moyers is president of
Public Affairs Television Public Affairs Television,
356 W. 58th Street Inc., an educational
New York, New York 10019 consultant and a home
economist. Mrs. Moyers is
also a director of Columbia
Real Estate Investments,
Inc. and Ogden Corporation
and a director or trustee of
16 other investment
companies for which Mitchell
Hutchins or PaineWebber
serves as investment
adviser.
Thomas F. Murray; 84 Trustee Mr. Murray is a real estate
400 Park Avenue and financial consultant.
New York, New York 10022 Mr. Murray is also a
director and chairman of
American Continental
Properties, Inc., a trustee
of Prudential Realty Trust,
and a director or trustee of
16 other investment
companies for which Mitchell
Hutchins or PaineWebber
serves as investment
adviser.
</TABLE>
28
<PAGE>
<TABLE>
<CAPTION>
POSITION BUSINESS EXPERIENCE;
NAME AND ADDRESS* WITH EACH TRUST OTHER DIRECTORSHIPS
- ------------------------------ --------------- ------------------------------
<S> <C> <C>
Margo N. Alexander; 48 President Ms. Alexander is president,
chief executive officer and
a director of Mitchell
Hutchins. Prior to January
1995, Ms. Alexander was an
executive vice president of
PaineWebber. Ms. Alexander
is also a trustee of one
other investment company and
president of 27 other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
Teresa M. Boyle; 36 Vice President Ms. Boyle is a first vice
president and manager--
advisory administration of
Mitchell Hutchins. Prior to
November 1993, she was
Compliance Manager of
Hyperion Capital Management,
Inc., an investment advisory
firm. Prior to April 1993,
Ms. Boyle was a vice
president and manager--legal
administration of Mitchell
Hutchins. Ms. Boyle is also
a vice president of 40 other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
Joan L. Cohen; 30 Vice President Ms. Cohen is a vice president
and and attorney of Mitchell
Assistant Hutchins. Prior to December
Secretary 1993, she was an associate
at the law firm of Seward &
Kissel. Ms. Cohen is also a
vice president and assistant
secretary of 27 other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
Ellen R. Harris; 48 Vice President Ms. Harris is chief domestic
equity strategist, a
managing director and chief
investment officer--domestic
of Mitchell Hutchins. Ms.
Harris is also a vice
president of 19 other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
C. William Maher; 34 Vice President Mr. Maher is a first vice
and president and the senior
Assistant manager of the Fund
Treasurer Administration Division of
Mitchell Hutchins. Mr. Maher
is also a vice president and
assistant treasurer of 27
other investment companies
for which Mitchell Hutchins
or PaineWebber serves as
investment adviser.
</TABLE>
29
<PAGE>
<TABLE>
<CAPTION>
POSITION BUSINESS EXPERIENCE;
NAME AND ADDRESS* WITH EACH TRUST OTHER DIRECTORSHIPS
- ------------------------------ --------------- ------------------------------
<S> <C> <C>
Ann E. Moran; 37 Vice President Ms. Moran is a vice president
and of Mitchell Hutchins. Ms.
Assistant Moran is also a vice
Treasurer president of 40 other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
Dianne E. O'Donnell; 43 Vice President Ms. O'Donnell is a senior vice
and president and deputy general
Secretary counsel of Mitchell
Hutchins. Ms. O'Donnell is
also a vice president and
secretary of 40 other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
Victoria E. Schonfeld; 44 Vice President Ms. Schonfeld is a managing
director and general counsel
of Mitchell Hutchins. From
April 1990 to May 1994, she
was a partner in the law
firm of Arnold & Porter.
Prior to April 1990, she was
a partner in the law firm of
Shereff, Friedman, Hoffman &
Goodman. Ms. Schonfeld is
also a vice president of 40
other investment companies
for which Mitchell Hutchins
or PaineWebber serves as
investment adviser.
Paul H. Schubert; 32 Vice President Mr. Schubert is a vice
and president of Mitchell
Assistant Hutchins. From August 1992
Treasurer to August 1994, he was a
vice president at BlackRock
Financial Management, Inc.
Prior to August 1992, he was
an audit manager with Ernst
& Young LLP. Mr. Schubert is
also a vice president and
assistant treasurer of 40
other investment companies
for which Mitchell Hutchins
or PaineWebber serves as
investment adviser.
Gregory W. Serbe; 50 Vice President Mr. Serbe is a managing
director of Mitchell
Hutchins responsible for
tax-exempt investments. Mr.
Serbe is also a vice
president of five other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
Martha J. Slezak; 32 Vice President Ms. Slezak is a vice president
and of Mitchell Hutchins. From
Assistant September 1991 to April 1992
Treasurer she was a fundraising
director for a U.S. Senate
campaign. Prior to September
1991, she was a tax manager
with Arthur Andersen & Co.
Ms. Slezak is also a vice
president of 40 other
</TABLE>
30
<PAGE>
<TABLE>
<CAPTION>
POSITION BUSINESS EXPERIENCE;
NAME AND ADDRESS* WITH EACH TRUST OTHER DIRECTORSHIPS
- ------------------------------ --------------- ------------------------------
<S> <C> <C>
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
Julian F. Sluyters; 34 Vice President Mr. Sluyters is a senior vice
and president and the director
Treasurer of the mutual fund finance
division of Mitchell
Hutchins. Prior to 1991, he
was an audit senior manager
with Ernst & Young LLP. Mr.
Sluyters is also a vice
president and treasurer of
40 other investment
companies for which Mitchell
Hutchins or PaineWebber
serves as investment
adviser.
Gregory K. Todd; 38 Vice President Mr. Todd is a first vice
and president and associate
Assistant general counsel of Mitchell
Secretary Hutchins. Prior to 1993, he
was a partner in the firm of
Shereff, Friedman, Hoffman &
Goodman. Mr. Todd is also a
vice president and assistant
secretary of 40 other
investment companies for
which Mitchell Hutchins or
PaineWebber serves as
investment adviser.
</TABLE>
- ------------------
* Unless otherwise indicated, the business address of each listed person is
1285 Avenue of the Americas, New York, New York 10019.
** Messrs. Bewkes and Minard are 'interested persons' of the Trusts as defined
in the 1940 Act by virtue of their positions with PW Group, PaineWebber
and/or Mitchell Hutchins.
31
<PAGE>
PaineWebber Mutual Fund Trust pays trustees who are not 'interested
persons' of the Trust ('disinterested trustees') $2,000 annually and PaineWebber
Municipal Series pays its disinterested trustees $3,000 annually. Each Trust
also pays its disinterested trustees $250 per meeting of the board or any
committee thereof. Trustees are reimbursed for any expenses incurred in
attending meetings. Trustees of each Trust who are 'interested persons' of the
Trust receive no compensation from the Trust. Trustees and officers of the
Trusts own in the aggregate less than 1% of the shares of each Fund. Because
Mitchell Hutchins and PaineWebber perform substantially all of the services
necessary for the operation of the Trusts and the Funds, neither Trust requires
any employees. No officer, director or employee of Mitchell Hutchins or
PaineWebber presently receives any compensation from the Trusts for acting as a
trustee or officer. The table below includes certain information relating to the
compensation of the Trust's trustees.
COMPENSATION TABLE
<TABLE>
<CAPTION>
PENSION OR TOTAL
AGGREGATE AGGREGATE RETIREMENT COMPENSATION
COMPENSATION COMPENSATION BENEFITS FROM THE
FROM FROM ACCRUED AS ESTIMATED TRUST AND
PAINEWEBBER PAINEWEBBER PART OF A ANNUAL THE
MUNICIPAL MUTUAL FUND FUND'S BENEFITS UPON FUND
NAME OF PERSON, POSITION SERIES* TRUST* EXPENSES RETIREMENT COMPLEX**
- ------------------------------ ------------ ------------ ----------- ------------- ------------
<S> <C> <C> <C> <C> <C>
E. Garrett Bewkes, Jr.,
Trustee and Chairman of the
Board of Trustees........... -- -- -- -- --
Meyer Feldberg,
Trustee..................... $3,750 $2,750 -- -- $ 86,050
George W. Gowen,
Trustee..................... 3,500 2,500 -- -- 71,425
Frederic V. Malek,
Trustee..................... 3,750 2,750 -- -- 77,875
Frank P.L. Minard,
Trustee..................... -- -- -- -- --
Judith Davidson Moyers,
Trustee..................... 3,250 2,500 -- -- 71,125
Thomas F. Murray,
Trustee..................... 3,500 2,500 -- -- 71,925
</TABLE>
- ------------------
* Represents fees paid to each trustee during the fiscal year ended February
28, 1995.
** Represents total compensation paid to each trustee during the calendar year
ended December 31, 1994.
32
<PAGE>
INVESTMENT ADVISORY AND DISTRIBUTION ARRANGEMENTS
INVESTMENT ADVISORY ARRANGEMENTS. Mitchell Hutchins acts as the investment
adviser and administrator of California Tax-Free Income Fund and National
Tax-Free Income Fund pursuant to a contract dated April 21, 1988 with
PaineWebber Mutual Fund Trust, as supplemented by a Fee Agreement dated June 30,
1992 with respect to National Tax-Free Income Fund, and of Municipal High Income
Fund and New York Tax-Free Income Fund pursuant to a contract with PaineWebber
Municipal Series dated July 1, 1989 (each an 'Advisory Contract' and,
collectively, the 'Advisory Contracts'). Under the Advisory Contracts, each Fund
pays Mitchell Hutchins a fee, computed daily and paid monthly, at the annual
rate of 0.50% of the Fund's average daily net assets (0.60% of average daily net
assets in the case of Municipal High Income Fund and New York Tax-Free Income
Fund).
Pursuant to their Advisory Contract and a substantially identical prior
contract, for the fiscal years ended February 28, 1995, February 28, 1994, the
fiscal period ended February 28, 1993 and the fiscal year ended November 30,
1992, California Tax-Free Income Fund paid (or accrued) to Mitchell Hutchins the
amounts of $1,340,491, $1,662,653, $376,199 and $1,330,101, respectively, and
National Tax-Free Income Fund paid (or accrued) to Mitchell Hutchins the amounts
of $2,891,059, $3,374,932, $695,966 and $2,136,708, respectively. Pursuant to
their Advisory Contract, for the fiscal years ended February 28, 1995, February
28, 1994 and February 28, 1993, Municipal High Income Fund paid (or accrued) to
Mitchell Hutchins the amounts of $768,555, $861,664 and $578,684 (of which
$138,010 was waived), respectively, and New York Tax-Free Income Fund paid (or
accrued) to Mitchell Hutchins the amounts of $481,509 (of which $10,398 was
waived), $557,864 (of which $202,282 was waived) and $338,232 (of which $334,763
was waived), respectively.
Under a Service Agreement with each Trust that is reviewed by each Trust's
board of trustees annually, PaineWebber provides certain services to the Funds
not otherwise provided by the Fund's transfer agent. Pursuant to the Service
Agreement with PaineWebber Mutual Fund Trust, during the fiscal years ended
February 28, 1995, February 28, 1994, the fiscal period ended February 28, 1993
and the fiscal year ended November 30, 1992, California Tax-Free Income Fund
paid (or accrued) the amounts of $24,838, $26,755, $6,292 and $22,313,
respectively, and National Tax-Free Income Fund paid (or accrued) the amounts of
$64,620, $67,293, $14,710 and $47,399, respectively. Pursuant to the Service
Agreement with PaineWebber Municipal Series, during the fiscal years ended
February 25, 1995, February 28, 1994 and February 28, 1993, Municipal High
Income Fund paid (or accrued) the amounts of $19,534, $19,512 and $14,818 (of
which $12,855 was waived), respectively, and New York Tax-Free Income Fund paid
(or accrued) the amounts of $10,747 (of which $3,734 was waived),$9,492 (all of
which was waived) and $8,914 (all of which was waived), respectively.
Under the terms of the applicable Advisory Contract, each Fund bears all
expenses incurred in its operation that are not specifically assumed by Mitchell
Hutchins. General expenses of the Trust not readily identifiable as belonging to
a particular Fund are allocated between the appropriate Funds by or under the
direction of the board of trustees in such manner as the board deems fair and
equitable. Expenses borne by each Fund include the following: (1) the cost
(including brokerage commissions, if any) of securities purchased or sold by the
Fund and any losses incurred in connection therewith; (2) fees payable to and
expenses incurred on behalf of the Fund by Mitchell Hutchins; (3) organizational
expenses; (4) filing fees and expenses relating to the registration and
qualification of the Fund's shares under federal and state securities laws and
maintenance of such registrations and qualifications; (5) fees and salaries
payable to trustees who are not interested persons of the Fund or Mitchell
Hutchins; (6) all expenses incurred in connection with the trustees' services,
including travel expenses; (7) taxes (including any income or franchise taxes)
and governmental fees; (8) costs of any liability, uncollectible items of
deposit and other insurance or fidelity bonds; (9) any costs,
33
<PAGE>
expenses or losses arising out of a liability of or claim for damages or other
relief asserted against the Fund for violation of any law; (10) legal,
accounting and auditing expenses, including legal fees of special counsel for
the independent trustees; (11) charges of custodians, transfer agents and other
agents; (12) costs of preparing share certificates; (13) expenses of setting in
type and printing prospectuses and supplements thereto, statements of additional
information and supplements thereto, reports and proxy materials for existing
shareholders and costs of mailing such materials to existing shareholders; (14)
any extraordinary expenses (including fees and disbursements of counsel)
incurred by the Fund; (15) fees, voluntary assessments and other expenses
incurred in connection with membership in investment company organizations; (16)
costs of mailing and tabulating proxies and costs of meetings of shareholders,
the board and any committees thereof; (17) the cost of investment company
literature and other publications provided to trustees and officers; and (18)
costs of mailing, stationery and communications equipment.
As required by state regulation, Mitchell Hutchins will reimburse a Fund if
and to the extent that the aggregate operating expenses of the Fund in any
fiscal year exceed applicable limits. Currently the most restrictive such limit
applicable to a Fund is 2.5% of the first $30 million of the Fund's average
daily net assets, 2.0% of the next $70 million of its average daily net assets
and 1.5% of its average daily net assets in excess of $100 million. Certain
expenses, such as brokerage commissions, taxes, interest, distribution fees and
extraordinary items, are excluded from this limitation. For the fiscal years
ended February 28, 1995, February 28, 1994, for the fiscal period ended February
28, 1993 and for the fiscal year ended November 30, 1992, PaineWebber and
Mitchell Hutchins were not required to reimburse either California Tax-Free
Income Fund or National Tax-Free Income Fund pursuant to state limitations. With
respect to Municipal High Income Fund and New York Tax-Free Income Fund,
substantially all the fee waivers referred to above were voluntary and not
required by state expense limitations. Mitchell Hutchins and/or PaineWebber
voluntarily reimbursed New York Tax-Free Income Fund the following amounts
during the fiscal years ended February 28, 1995, February 28, 1994 and February
28, 1993: none, none, and $104,834, respectively.
Under each Advisory Contract, Mitchell Hutchins will not be liable for any
error of judgment or mistake of law or for any loss suffered by a Fund in
connection with the performance of the Advisory Contract, except a loss
resulting from willful misfeasance, bad faith or gross negligence on the part of
Mitchell Hutchins in the performance of its duties or from reckless disregard of
its duties and obligations thereunder. Each Advisory Contract terminates
automatically upon its assignment and is terminable at any time without penalty
by the board of trustees or by vote of the holders of a majority of a Fund's
outstanding voting securities, on 60 days' written notice to Mitchell Hutchins
or by Mitchell Hutchins on 60 days' written notice to a Fund.
The following table shows the approximate net assets as of May 31, 1995,
sorted by category of investment objective, of the investment companies as to
which Mitchell Hutchins serves as adviser or sub-adviser. An investment company
may fall into more than one of the categories below.
<TABLE>
<CAPTION>
NET ASSETS
INVESTMENT CATEGORY ($ MIL)
- ------------------------------------------------------------ ----------
<S> <C>
Domestic (excluding Money Market)........................... $ 5,756.9
Global...................................................... 3,355.2
Equity/Balanced............................................. 2,726.5
Fixed Income (excluding Money Market)....................... 6,385.6
Taxable Fixed Income................................... 4,577.6
Tax-Free Fixed Income.................................. 1,808.0
Money Market Funds.......................................... 18,519.0
</TABLE>
34
<PAGE>
Mitchell Hutchins personnel may invest in securities for their own accounts
pursuant to a code of ethics that describes the fiduciary duty owed to
shareholders of the PaineWebber and Mitchell Hutchins/Kidder, Peabody ('MH/KP')
mutual funds and other Mitchell Hutchins' advisory accounts by all Mitchell
Hutchins' directors, officers and employees, establishes procedures for personal
investing and restricts certain transactions. For example, employee accounts
generally must be maintained at PaineWebber, personal trades in most securities
require pre-clearance and short-term trading and participation in initial public
offerings generally are prohibited. In addition, the code of ethics puts
restrictions on the timing of personal investing in relation to trades by
PaineWebber and MH/KP mutual funds and other Mitchell Hutchins advisory clients.
DISTRIBUTION ARRANGEMENTS. Mitchell Hutchins acts as the distributor of the
Class A, Class B and Class D shares of the Funds under separate distribution
contracts with each Trust dated July 7, 1993 (collectively, 'Distribution
Contracts'). Each Distribution Contract requires Mitchell Hutchins to use its
best efforts, consistent with its other businesses, to sell shares of the
applicable Funds. Shares of the Funds are offered continuously. Under separate
exclusive dealer agreements between Mitchell Hutchins and PaineWebber dated July
7, 1993 relating to the Class A, Class B and Class D shares of each Fund
(collectively, 'Exclusive Dealer Agreements'), PaineWebber and its correspondent
firms sell each Fund's shares.
Under separate plans of distribution pertaining to the Class A, Class B and
Class D shares of the Funds adopted by the Trusts in the manner prescribed under
Rule 12b-1 under the 1940 Act ('Class A Plan,' 'Class B Plan' and 'Class D
Plan,' collectively, 'Plans'), each Fund pays Mitchell Hutchins a service fee,
accrued daily and payable monthly, at the annual rate of 0.25% of the average
daily net assets of each Class of shares. Under the Class B Plan, each Fund also
pays Mitchell Hutchins a distribution fee, accrued daily and payable monthly, at
the annual rate of 0.75% of the average daily net assets of the Class B shares.
Under the Class D Plan, each Fund pays Mitchell Hutchins a distribution fee,
accrued daily and payable monthly, at the annual rate of 0.50% of the average
daily net assets of the Class D shares.
Among other things, each Plan provides that (1) Mitchell Hutchins will
submit to the Trust's board of trustees at least quarterly, and the trustees
will review, reports regarding all amounts expended under the Plan and the
purposes for which such expenditures were made, (2) the Plan will continue in
effect only so long as it is approved at least annually, and any material
amendment thereto is approved, by the Trust's board of trustees, including those
trustees who are not 'interested persons' of the Trust and who have no direct or
indirect financial interest in the operation of the Plan or any agreement
related to the Plan, acting in person at a meeting called for that purpose, (3)
payments by a Fund under the Plan shall not be materially increased without the
affirmative vote of the holders of a majority of the outstanding shares of the
relevant Class of that Fund and (4) while the Plan remains in effect, the
selection and nomination of trustees who are not 'interested persons' of the
Trust shall be committed to the discretion of the trustees who are not
interested persons of the Trust.
In reporting amounts expended under the Plans to the trustees, Mitchell
Hutchins will allocate expenses attributable to the sale of each Class of Fund
shares to such Class based on the ratio of sales of the shares of such Class to
the sales of all three Classes of shares. The fees paid by one Class of Fund
shares will not be used to subsidize the sale of any other Class of Fund shares.
Under prior plans of distribution substantially similar to the Class A
Plan, each Fund paid Mitchell Hutchins a monthly distribution fee computed at
the same rate and in the same manner as the service fees under the Class A Plan.
35
<PAGE>
The Funds paid (or accrued) the following fees to Mitchell Hutchins under
the Class A, Class B and Class D Plans during the fiscal year ended February 28,
1995:
<TABLE>
<CAPTION>
CALIFORNIA NATIONAL NEW YORK
TAX-FREE TAX-FREE MUNICIPAL HIGH TAX-FREE
INCOME FUND INCOME FUND INCOME FUND INCOME FUND
----------- ----------- -------------- -----------
<S> <C> <C> <C> <C>
Class A........ $ 484,315 $ 939,618 $175,612 $ 8,076*
Class B........ 361,590 634,659 282,845 129,831*
Class D........ 286,597 1,041,736 221,147 144,885*
</TABLE>
- ------------------
* During the fiscal year shown above, Mitchell Hutchins waived all or a portion
of its distribution fees. If such waivers had not been made, for the Class A,
Class B and Class D shares the actual fees which would have been paid by the
Fund would have been $90,781, $165,807 and $205,191, respectively, for New
York Tax-Free Income Fund.
Mitchell Hutchins estimates that it and its parent corporation,
PaineWebber, incurred the following shareholder service-related and
distribution-related expenses with respect to the Funds during the fiscal year
ended February 28, 1995:
CLASS A
<TABLE>
<CAPTION>
CALIFORNIA NATIONAL NEW YORK
TAX-FREE TAX-FREE MUNICIPAL HIGH TAX-FREE
INCOME FUND INCOME FUND INCOME FUND INCOME FUND
----------- ----------- -------------- -----------
<S> <C> <C> <C> <C>
Marketing and
advertising............ $ 74,201 $ 166,497 $ 29,142 $ 16,726
Amortization of
commissions............ N/A N/A N/A N/A
Printing of prospectuses
and statements of
additional
information............ $ 1,689 $ 5,036 $ 641 $ 323
Branch network costs
allocated and interest
expense................ $1,018,835 $2,775,356 $319,624 $ 156,867
Service fees paid to
PaineWebber Investment
executives............. $ 217,943 $ 422,829 $ 79,025 $ 40,851
CLASS B
<CAPTION>
CALIFORNIA NATIONAL NEW YORK
TAX-FREE TAX-FREE MUNICIPAL HIGH TAX-FREE
INCOME FUND INCOME FUND INCOME FUND INCOME FUND
----------- ----------- -------------- -----------
<S> <C> <C> <C> <C>
Marketing and
advertising............ $ 20,346 $ 27,105 $ 20,070 $ 18,623
Amortization of
commissions............ $ 192,462 $ 317,134 $156,411 $ 100,185
Printing of prospectuses
and statements of
additional
information............ $ 419 $ 810 $ 434 $ 350
Branch network costs
allocated and interest
expense................ $ 300,304 $ 489,559 $237,482 $ 169,330
Service fees paid to
PaineWebber Investment
executives............. $ 40,679 $ 71,396 $ 31,820 $ 18,652
(Table continued on next page)
</TABLE>
36
<PAGE>
(Table continued from previous page)
CLASS D
<TABLE>
<CAPTION>
CALIFORNIA NATIONAL NEW YORK
TAX-FREE TAX-FREE MUNICIPAL HIGH TAX-FREE
INCOME FUND INCOME FUND INCOME FUND INCOME FUND
----------- ----------- -------------- -----------
<S> <C> <C> <C> <C>
Marketing and
advertising............ $ 28,623 $ 74,955 $ 36,904 $ 35,304
Amortization of
commissions............ $ 71,303 $ 252,555 $ 52,057 $ 38,205
Printing of prospectuses
and statements of
additional
information............ $ 722 $ 2,598 $ 811 $ 674
Branch network costs
allocated and interest
expense................ $ 395,166 $1,258,426 $406,036 $ 289,121
Service fees paid to
PaineWebber Investment
executives............. $ 43,002 $ 156,261 $ 33,173 $ 30,778
</TABLE>
'Marketing and advertising' includes various internal costs allocated by
Mitchell Hutchins to its efforts at distributing Fund shares. These internal
costs encompass office rent, salaries and other overhead expenses of various
departments and areas of operations of Mitchell Hutchins. 'Branch network costs
allocated and interest expense' consist of an allocated portion of the expenses
of various PaineWebber departments involved in the distribution of each Fund's
shares, including the PaineWebber retail branch system.
In approving each Fund's overall Flexible Pricing(Service Mark) system of
distribution, the Trust's board of trustees considered several factors,
including that implementation of Flexible Pricing would (1) enable investors to
choose the purchasing option best suited to their individual situation, thereby
encouraging current shareholders to make additional investments in the Fund and
attracting new investors and assets to the Fund to the benefit of the Fund and
its shareholders; (2) facilitate distribution of the Fund's shares; and (3)
maintain the competitive position of the Fund in relation to other funds that
have implemented or are seeking to implement similar distribution arrangements.
In approving the Class A Plan for each Fund, the trustees considered all
the features of the distribution system, including (1) the conditions under
which initial sales charges would be imposed and the amount of such charges, (2)
Mitchell Hutchins' belief that the initial sales charge combined with a service
fee would be attractive to PaineWebber investment executives and correspondent
firms, resulting in greater growth of the Fund than might otherwise be the case,
(3) the advantages to the shareholders of economies of scale resulting from
growth in the Fund's assets and potential continued growth, (4) the services
provided to the Fund and its shareholders by Mitchell Hutchins, (5) the services
provided by PaineWebber pursuant to its Exclusive Dealer Agreement with Mitchell
Hutchins and (6) Mitchell Hutchins' shareholder service-related expenses and
costs.
In approving the Class B Plan for each Fund, the trustees considered all
the features of the distribution system, including (1) the conditions under
which contingent deferred sales charges would be imposed and the amount of such
charges, (2) the advantage to investors in having no initial sales charges
deducted from Fund purchase payments and instead having the entire amount of
their purchase payments immediately invested in Fund shares, (3) Mitchell
Hutchins' belief that the ability of PaineWebber investment executives and
correspondent firms to receive sales commissions when Class B shares are sold
and continuing service fees thereafter while their customers invest their entire
purchase payments immediately in Class B shares would prove attractive to the
investment executives and correspondent firms, resulting in greater growth of
the Fund than might otherwise be the case, (4) the advantages to the
shareholders of economies of scale resulting from growth in the Fund's assets
and potential continued growth, (5) the services provided to the Fund and its
37
<PAGE>
shareholders by Mitchell Hutchins, (6) the services provided by PaineWebber
pursuant to its Exclusive Dealer Agreement with Mitchell Hutchins and (7)
Mitchell Hutchins' shareholder service- and distribution-related expenses and
costs. The trustees also recognized that Mitchell Hutchins' willingness to
compensate PaineWebber and its investment executives, without the concomitant
receipt by Mitchell Hutchins of initial sales charges, was conditioned upon its
expectation of being compensated under the Class B Plan.
In approving the Class D Plan for each Fund, the trustees considered all
the features of the distribution system, including (1) the advantage to
investors in having no initial sales charges deducted from the Fund's purchase
payments and instead having the entire amount of their purchase payments
immediately invested in Fund shares, (2) the advantage to investors in being
free from contingent deferred sales charges upon redemption and paying for
distribution on an ongoing basis, (3) Mitchell Hutchins' belief that the ability
of PaineWebber investment executives and correspondent firms to receive sales
compensation for their sales of Class D shares on an ongoing basis, along with
continuing service fees, while their customers invest their entire purchase
payments immediately in Class D shares and do not face contingent deferred sales
charges, would prove attractive to the investment executives and correspondent
firms, resulting in greater growth to the Fund than might otherwise be the case,
(4) the advantages to the shareholders of economies of scale resulting from
growth in the Fund's assets and potential continued growth, (5) the services
provided to the Fund and its shareholders by Mitchell Hutchins, (6) the services
provided by PaineWebber pursuant to its Exclusive Dealer Agreement with Mitchell
Hutchins and (7) Mitchell Hutchins' shareholder service- and
distribution-related expenses and costs. The trustees also recognized that
Mitchell Hutchins' willingness to compensate PaineWebber and its investment
executives without the concomitant receipt by Mitchell Hutchins of initial sales
charges or contingent deferred sales charges upon redemption, was conditioned
upon its expectation of being compensated under the Class D Plan.
With respect to each Plan, the trustees considered all compensation that
Mitchell Hutchins would receive under the Plan and the Distribution Contract,
including service fees and, as applicable, initial sales charges, distribution
fees and contingent deferred sales charges. The trustees also considered the
benefits that would accrue to Mitchell Hutchins under each Plan in that Mitchell
Hutchins would receive service, distribution and advisory fees that are
calculated based upon a percentage of the average net assets of a Fund, which
fees would increase if the Plan were successful and the Fund attained and
maintained significant asset levels.
Under the Distribution Contract between each Trust and Mitchell Hutchins
for the Class A shares and similar prior distribution contracts, for the fiscal
years and the fiscal period set forth below, Mitchell Hutchins earned the
following approximate amounts of sales charges and retained the following
approximate amounts, net of concessions to PaineWebber as exclusive dealer:
CALIFORNIA TAX-FREE INCOME FUND
<TABLE>
<CAPTION>
FOR FISCAL
YEARS ENDED FOR FISCAL FOR FISCAL
FEBRUARY 28, PERIOD ENDED YEAR ENDED
------------------- FEBRUARY 28, NOVEMBER 30,
1995 1994 1993 1991
------- -------- ------------ ---------------------
<S> <C> <C> <C> <C>
Earned......... $88,183 $322,044 $103,126 $ 983,477
Retained....... 6,470 8,324 8,060 52,384
</TABLE>
38
<PAGE>
NATIONAL TAX-FREE INCOME FUND
<TABLE>
<CAPTION>
FOR FISCAL
YEARS ENDED FOR FISCAL FOR FISCAL
FEBRUARY 28, PERIOD ENDED YEAR ENDED
-------------------- FEBRUARY 28, NOVEMBER 30,
1995 1994 1993 1991
-------- -------- ------------ ---------------------
<S> <C> <C> <C> <C>
Earned......... $195,108 $732,825 $171,586 $ 1,120,935
Retained....... 14,852 47,024 18,456 53,883
</TABLE>
MUNICIPAL HIGH INCOME FUND
<TABLE>
<CAPTION>
FOR THE FISCAL YEARS ENDED
FEBRUARY 28,
-------------------------------
1995 1994 1993
------- -------- --------
<S> <C> <C> <C>
Earned......... $59,937 $250,560 $305,660
Retained....... 4,449 17,606 21,445
NEW YORK TAX-FREE INCOME FUND
<CAPTION>
FOR THE FISCAL YEARS ENDED
FEBRUARY 28,
-------------------------------
1995 1994 1993
------- -------- --------
<S> <C> <C> <C>
Earned......... $38,348 $170,247 $235,075
Retained....... 2,923 11,171 16,802
</TABLE>
Mitchell Hutchins earned and retained the following contingent deferred
sales charges paid upon certain redemptions of Class B shares for the fiscal
year ended February 28, 1995:
<TABLE>
<CAPTION>
CALIFORNIA NATIONAL NEW YORK
TAX-FREE TAX-FREE MUNICIPAL HIGH TAX-FREE
INCOME FUND INCOME FUND INCOME FUND INCOME FUND
- --------------- --------------- --------------- ---------------
<S> <C> <C> <C>
$280,699 $423,583 $239,162 $168,594
</TABLE>
PORTFOLIO TRANSACTIONS
Subject to policies established by each Trust's board of trustees, Mitchell
Hutchins is responsible for the execution of each Fund's portfolio transactions
and the allocation of brokerage transactions. In executing portfolio
transactions, Mitchell Hutchins seeks to obtain the best net results for a Fund,
taking into account such factors as the price (including the applicable dealer
spread or brokerage commission), size of order, difficulty of execution and
operational facilities of the firm involved. Each Fund effects its portfolio
transactions with municipal bond dealers. Municipal securities are traded on the
OTC market on a 'net' basis without a stated commission through dealers acting
for their own account and not as brokers. Prices paid to dealers in principal
transactions generally include a 'spread,' which is the difference between the
prices at which the dealer is willing to purchase and sell a specific security
at that time. Since inception, the Funds have not paid any brokerage
commissions.
For purchases or sales with broker-dealer firms which act as principal,
Mitchell Hutchins seeks best execution. Although Mitchell Hutchins may receive
certain research or execution services in connection with those transactions,
Mitchell Hutchins will not purchase securities at a higher price or sell
securities at a lower price than would otherwise be paid if no weight was
attributed to the services provided by the executing
39
<PAGE>
dealer. Moreover, Mitchell Hutchins will not enter into any explicit soft dollar
arrangements relating to principal transactions and will not receive in
principal transactions the types of services which could be purchased for hard
dollars. Mitchell Hutchins may engage in agency transactions in OTC debt
securities in return for research and execution services. These transactions are
entered into only in compliance with procedures ensuring that the transaction
(including commissions) is at least as favorable as it would have been if
effected directly with a market-maker that did not provide research or execution
services. These procedures include Mitchell Hutchins receiving multiple quotes
from dealers before executing the transactions on an agency basis.
Research services furnished by dealers or brokers with or through which the
Funds effect securities transactions may be used by Mitchell Hutchins in
advising other funds or accounts and, conversely, research services furnished to
Mitchell Hutchins by dealers or brokers in connection with other funds or
accounts Mitchell Hutchins advises may be used by Mitchell Hutchins in advising
the Funds. Information and research received from such brokers or dealers will
be in addition to, and not in lieu of, the services required to be performed by
Mitchell Hutchins under the Advisory Contracts.
Investment decisions for the Funds and for other investment accounts
managed by Mitchell Hutchins are made independently of each other in light of
differing considerations for the various accounts. However, the same investment
decision may occasionally be made for a Fund and one or more such accounts. In
such cases, simultaneous transactions are inevitable. Purchases or sales are
then averaged as to price and allocated between the Fund involved and such other
account(s) as to amount according to a formula deemed equitable to the Fund and
such account(s). While in some cases this practice could have a detrimental
effect upon the price or value of the security as far as a Fund is concerned, or
upon its ability to complete its entire order, in other cases it is believed
that coordination and the ability to participate in volume transactions will be
beneficial to the Fund.
No Fund will purchase securities that are offered in underwritings in which
Mitchell Hutchins or any of its affiliates is a member of the underwriting or
selling group, except pursuant to procedures adopted by each Trust's board of
trustees pursuant to Rule 10f-3 under the 1940 Act. Among other things, these
procedures require that the commission or spread paid in connection with such a
purchase be reasonable and fair, that the purchase be at not more than the
public offering price prior to the end of the first business day after the date
of the public offering and that Mitchell Hutchins or any affiliate thereof not
participate in or benefit from the sale to a Fund.
PORTFOLIO TURNOVER. Each Fund's annual portfolio turnover rate may vary
greatly from year to year, but it will not be a limiting factor when management
deems portfolio changes appropriate. The portfolio turnover rate is calculated
by dividing the lesser of a Fund's annual sales or purchases of portfolio
securities (exclusive of purchases or sales of securities whose maturities at
the time of acquisition were one year or less) by the monthly average value of
the securities in the portfolio during the year. For the fiscal years ended
February 28, 1995 and February 28, 1994, respectively, the portfolio turnover
rates for the Funds were: California Tax-Free Income Fund--10.61% and 36.73%;
National Tax-Free Income Fund--59.85% and 15.87%; Municipal High Income
Fund--28.44% and 23.19%; and New York Tax-Free Income Fund--6.30% and 8.14%.
40
<PAGE>
REDUCED SALES CHARGES, ADDITIONAL EXCHANGE AND REDEMPTION
INFORMATION AND OTHER SERVICES
COMBINED PURCHASE PRIVILEGE-CLASS A SHARES. Investors and eligible groups
of related Fund investors may combine purchases of Class A shares of the Funds
with concurrent purchases of Class A shares of any other PaineWebber or MH/KP
mutual fund and thus take advantage of the reduced sales charges for Class A
shares indicated in the table of sales charges in the Prospectus. The sales
charge payable on the purchase of shares of Class A shares of the Funds and
Class A shares of such other funds will be at the rates applicable to the total
amount of the combined concurrent purchases.
An 'eligible group of related Fund investors' can consist of any
combination of the following:
(a) an individual, that individual's spouse, parents and children;
(b) an individual and his or her Individual Retirement Account
('IRA');
(c) an individual (or eligible group of individuals) and any company
controlled by the individual(s) (a person, entity or group that holds 25%
or more of the outstanding voting securities of a corporation will be
deemed to control the corporation, and a partnership will be deemed to be
controlled by each of its general partners);
(d) an individual (or eligible group of individuals) and one or more
employee benefit plans of a company controlled by the individual(s);
(e) an individual (or eligible group of individuals) and a trust
created by the individual(s), the beneficiaries of which are the individual
and/or the individual's spouse, parents or children;
(f) an individual and a Uniform Gifts to Minors Act/Uniform Transfers
to Minors Act account created by the individual or the individual's spouse;
or
(g) an employer (or group of related employers) and one or more
qualified retirement plans of such employer or employers (an employer
controlling, controlled by or under common control with another employer is
deemed related to that other employer).
RIGHTS OF ACCUMULATION-CLASS A SHARES. Reduced sales charges are available
through a right of accumulation, under which investors and eligible groups of
related Fund investors (as defined above) are permitted to purchase Class A
shares of the Funds among related accounts at the offering price applicable to
the total of (1) the dollar amount then being purchased plus (2) an amount equal
to the then-current net asset value of the purchaser's combined holdings of
Class A Fund shares and Class A shares of any other PaineWebber or MH/KP mutual
fund. The purchaser must provide sufficient information to permit confirmation
of his or her holdings, and the acceptance of the purchase order is subject to
such confirmation. The right of accumulation may be amended or terminated at any
time.
WAIVERS OF SALES CHARGES-CLASS B SHARES. Among other circumstances, the
contingent deferred sales charge on Class B shares is waived where a total or
partial redemption is made within one year following the death of the
shareholder. The contingent deferred sales charge waiver is available where the
decedent is either the sole shareholder or owns the shares with his or her
spouse as a joint tenant with right of survivorship. This waiver applies only to
redemption of shares held at the time of death.
Certain PaineWebber mutual funds offered shares subject to contingent
deferred sales charges before the implementation of the Flexible Pricing System
on July 1, 1991 ('CDSC Funds'). The contingent deferred sales charge is waived
with respect to redemptions of Class B shares of CDSC Funds purchased prior to
July 1,
41
<PAGE>
1991 by officers, directors (trustees) or employees of the CDSC Funds, Mitchell
Hutchins or their affiliates (or their spouses and children under age 21). In
addition, the contingent deferred sales charge will be reduced by 50% with
respect to redemptions of Class B shares of CDSC Funds purchased prior to July
1, 1991 with a net asset value at the time of purchase of at least $1 million.
If Class B shares of a CDSC Fund purchased prior to July 1, 1991 are exchanged
for Class B shares of a Fund, any waiver or reduction of the contingent deferred
sales charge that applied to the Class B shares of the CDSC Fund will apply to
the Class B shares of the Fund acquired through the exchange.
ADDITIONAL EXCHANGE AND REDEMPTION INFORMATION. As discussed in the
Prospectus, eligible shares of each Fund may be exchanged for shares of the
corresponding class of most other PaineWebber or MH/KP mutual funds.
Shareholders will receive at least 60 days' notice of any termination or
material modification of the exchange offer, except no notice need be given of
an amendment whose only material effect is to reduce the exchange fee, and no
notice need be given if, under extraordinary circumstances, either redemptions
are suspended under the circumstances described below or a Fund temporarily
delays or ceases the sales of its shares because it is unable to invest amounts
effectively in accordance with the Fund's investment objectives, policies and
restrictions.
If conditions exist that make cash payments undesirable, each Fund reserves
the right to honor any request for redemption by making payment in whole or in
part in securities chosen by the Fund and valued in the same way as they would
be valued for purposes of computing the Fund's net asset value. If payment is
made in securities, a shareholder may incur brokerage expenses in converting
these securities into cash. Each Trust has elected, however, to be governed by
Rule 18f-1 under the 1940 Act, under which a Fund is obligated to redeem shares
solely in cash up to the lesser of $250,000 or 1% of the net asset value of the
Fund during any 90-day period for one shareholder. This election is irrevocable
unless the SEC permits its withdrawal. A Fund may suspend redemption privileges
or postpone the date of payment during any period (1) when the NYSE is closed or
trading on the NYSE is restricted as determined by the SEC, (2) when an
emergency exists, as defined by the SEC, that makes it not reasonably
practicable for the Fund to dispose of securities owned by it or fairly to
determine the value of its assets or (3) as the SEC may otherwise permit. The
redemption price may be more or less than the shareholder's cost, depending on
the market value of a Fund's portfolio at the time.
SYSTEMATIC WITHDRAWAL PLAN. On or about the 15th of each month for monthly
plans and on or about the 15th of the months selected for quarterly or
semi-annual plans, PaineWebber will arrange for redemption by a Fund of
sufficient shares to provide the withdrawal payment specified by participants in
the Fund's systematic withdrawal plan. The payment generally is mailed
approximately five business days after the redemption date. Withdrawal payments
should not be considered dividends, but redemption proceeds, with the tax
consequences described under 'Dividends and Taxes' in the Prospectus. If
periodic withdrawals continually exceed reinvested dividends, a shareholder's
investment may be correspondingly reduced. A shareholder may change the amount
of the systematic withdrawal or terminate participation in the plan at any time
without charge or penalty by written instructions with signatures guaranteed to
PaineWebber or the Transfer Agent. Instructions to participate in the plan,
change the withdrawal amount or terminate participation in the plan will not be
effective until five business days after written instructions with signatures
guaranteed are received by the Transfer Agent. Shareholders may request the
forms needed to establish a systematic withdrawal plan from their PaineWebber
investment executives, correspondent firms or the Transfer Agent at
1-800-647-1568.
REINSTATEMENT PRIVILEGE-CLASS A SHARES. As described in the Prospectus,
shareholders who have redeemed their Class A shares may reinstate their account
in a Fund without a sales charge. Shareholders may
42
<PAGE>
exercise the reinstatement privilege by notifying the Transfer Agent of such
desire and forwarding a check for the amount to be purchased within 365 days
after the date of redemption. The reinstatement will be made at the net asset
value per share next computed after the notice of reinstatement and check are
received. The amount of a purchase under this reinstatement privilege cannot
exceed the amount of the redemption proceeds. Gain on a redemption is taxable
regardless of whether the reinstatement privilege is exercised; however, a loss
arising out of a redemption will not be deductible to the extent the redemption
proceeds are reinvested, if the reinstatement privilege is exercised within 30
days after redemption, and an adjustment will be made to the shareholder's tax
basis for the shares acquired pursuant to the reinstatement privilege. Gain or
loss on a redemption also will be adjusted for federal income tax 46 purposes by
the amount of any sales charge paid on Class A shares, under the circumstances
and to the extent described below under 'Taxes'.
PAINEWEBBER RMA RESOURCE ACCUMULATION PLAN(SERVICE MARK);
PAINEWEBBER RESOURCE MANAGEMENT ACCOUNT(REGISTERED) (RMA(REGISTERED))
Shares of the PaineWebber and MH/KP mutual funds (each a 'PW Fund' and,
collectively, the 'PW Funds') are available for purchase through the RMA
Resource Accumulation Plan ('Plan') by customers of PaineWebber and its
correspondent firms who maintain Resource Management Accounts ('RMA
accountholders'). The Plan allows an RMA accountholder to continually invest in
one or more of the PW Funds at regular intervals, with payment for shares
purchased automatically deducted from the client's RMA account. The client may
elect to invest at monthly or quarterly intervals and may elect either to invest
a fixed dollar amount (minimum $100 per period) or to purchase a fixed number of
shares. A client can elect to have Plan purchases executed on the first or
fifteenth day of the month. Settlement occurs three Business Days after the
trade date, and the purchase price of the shares is withdrawn from the
investor's RMA account on the settlement date from the following sources and in
the following order: uninvested cash balances, balances in RMA money market
funds, or margin borrowing power, if applicable to the account.
To participate in the Plan, an investor must be an RMA accountholder, must
have made an initial purchase of the shares of each PW Fund selected for
investment under the Plan (meeting applicable minimum investment requirements)
and must complete and submit the RMA Resource Accumulation Plan Client Agreement
and Instruction Form available from PaineWebber. The investor must have received
a current prospectus for each PW Fund selected prior to enrolling in the Plan.
Information about mutual fund positions and outstanding instructions under the
Plan are noted on the RMA accountholder's account statement. Instructions under
the Plan may be changed at anytime, but may take up to two weeks to become
effective.
The terms of the Plan or an RMA accountholder's participation in the Plan,
may be modified or terminated at any time. It is anticipated that, in the
future, shares of other PW Funds and/or mutual funds other than the PW Funds may
be offered through the Plan.
PERIODIC INVESTING AND DOLLAR COST AVERAGING. Periodic investing in the PW
Funds or other mutual funds, whether through the Plan or otherwise, helps
investors establish and maintain a disciplined approach to accumulating assets
over time, de-emphasizing the importance of timing the market's highs and lows.
Periodic investing also permits an investor to take advantage of 'dollar cost
averaging.' By investing a fixed amount in mutual fund shares at established
intervals, an investor purchases more shares when the price is lower and fewer
shares when the price is higher, thereby increasing his or her earning
potential. Of course, dollar cost averaging does not guarantee a profit or
protect against a loss in a declining market, and an investor should consider
his or her financial ability to continue investing through periods of low share
prices. However, over
43
<PAGE>
time, dollar cost averaging generally results in a lower average original
investment cost than if an investor invested a larger dollar amount in a mutual
fund at one time.
PAINEWEBBER'S RESOURCE MANAGEMENT ACCOUNT. In order to enroll in the Plan,
an investor must have opened an RMA account with PaineWebber or one of its
correspondent firms. The RMA account is PaineWebber's comprehensive asset
management account and offers investors a number of features, including the
following:
o monthly Premier account statements that itemize all account activity,
including investment transactions, checking activity and Gold
MasterCard(Registered) transactions during the period, and provide
unrealized and realized gain and loss estimates for most securities held
in the account;
o comprehensive preliminary 9-month and year-end summary statements that
provide information on account activity for use in tax planning and tax
return preparation;
o automatic 'sweep' of uninvested cash into the RMA accountholder's choice
of one of the five RMA money market funds-RMA Money Market Portfolio, RMA
U.S. Government Portfolio, RMA Tax-Free Fund, RMA California Municipal
Money Fund and RMA New York Municipal Money Fund. Each money market fund
attempts to maintain a stable price per share of $1.00, although there
can be no assurance that it will be able to do so. Investments in the
money market funds are not insured or guaranteed by the U.S. government;
o check writing, with no per-check usage charge, no minimum amount on
checks and no maximum number of checks that can be written. RMA
accountholders can code their checks to classify expenditures. All
canceled checks are returned each month;
o Gold MasterCard, with or without a line of credit, which provides RMA
accountholders with direct access to their accounts and can be used with
automatic teller machines worldwide. Purchases on the Gold MasterCard are
debited to the RMA account once monthly, permitting accountholders to
remain invested for a longer period of time;
o 24-hour access to account information through toll-free numbers, and more
detailed personal assistance during business hours from the RMA Service
Center;
o expanded account protection to $25 million in the event of the
liquidation of PaineWebber. This protection does not apply to shares of
the RMA money market funds or the PW Funds because those shares are held
at the transfer agent and not through PaineWebber; and
o automatic direct deposit of checks into your RMA account and automatic
withdrawals from the account.
The annual account fee for an RMA account is $85, which includes the Gold
MasterCard, with an additional fee of $40 if the investor selects an optional
line of credit with the Gold MasterCard.
CONVERSION OF CLASS B SHARES
Class B shares of each Fund will automatically convert to Class A shares,
based on the relative net asset values of each of the Classes, as of the close
of business on the first Business Day (as defined under 'Valuation of Shares')
of the month in which the sixth anniversary of the initial issuance of such
Class B shares of the Fund occurs. For the purpose of calculating the holding
period required for conversion of Class B shares, the date of initial issuance
shall mean (1) the date on which such Class B shares were issued, or (2) for
Class B
44
<PAGE>
shares obtained through an exchange, or a series of exchanges, the date on which
the original Class B shares were issued. If a shareholder acquired Class B
shares of a Fund through an exchange of Class B shares of a CDSC Fund that were
acquired prior to July 1, 1991, the shareholder's holding period for purposes of
conversion is determined based on the date the CDSC Fund shares were initially
issued. For purposes of conversion to Class A, Class B shares purchased through
the reinvestment of dividends and other distributions paid in respect of Class B
shares will be held in a separate sub-account. Each time any Class B shares in
the shareholder's regular account (other than those in the sub-account) convert
to Class A, a pro rata portion of the Class B shares in the sub-account will
also convert to Class A. The portion will be determined by the ratio that the
shareholder's Class B shares converting to Class A bears to the shareholder's
total Class B shares not acquired through dividends and other distributions.
Under normal circumstances, the net asset values per share of the two
Classes of each Fund will be the same. However, if a Fund's accrued expenses on
any Business Day were to exceed the Fund's accrued income for that Business Day,
the net asset value per share of the Class B shares could be lower than that of
the Class A shares because of the higher ongoing expenses borne by the Class B
shares. If such a divergence existed on a conversion date, a shareholder would
receive fewer Class A shares than the number of Class B shares converted,
although the dollar value would be the same. Mitchell Hutchins considers the
possibility of such an occurrence to be remote.
The availability of the conversion feature is subject to (1) the continuing
applicability of a ruling of the Internal Revenue Service that the dividends and
other distributions paid on Class A and Class B shares will not result in
'preferential dividends' under the Internal Revenue Code and (2) the continuing
availability of an opinion of counsel to the effect that the conversion of
shares does not constitute a taxable event. If the conversion feature ceased to
be available, the Class B shares of each Fund would not be converted and would
continue to be subject to the higher ongoing expenses of the Class B shares
beyond six years from the date of purchase. Mitchell Hutchins has no reason to
believe that these conditions for the availability of the conversion feature
will not continue to be met.
VALUATION OF SHARES
Each Fund determines the net asset value per share separately for each
Class of shares as of the close of regular trading (currently 4:00 p.m., eastern
time) on the NYSE on each Business Day, which is defined as each Monday through
Friday when the NYSE is open. Currently, the NYSE is closed on the observance of
the following holidays: New Year's Day, Presidents' Day, Good Friday, Memorial
Day, Independence Day, Labor Day, Thanksgiving Day and Christmas Day.
Where market quotations are readily available, portfolio securities are
valued based upon market quotations, provided such quotations adequately
reflect, in the judgment of Mitchell Hutchins, the fair value of the security.
Where such market quotations are not readily available, securities are valued
based upon appraisals received from a pricing service using a computerized
matrix system or based upon appraisals derived from information concerning the
security or similar securities received from recognized dealers in those
securities. The amortized cost method of valuation generally is used with
respect to debt obligations with 60 days or less remaining to maturity unless
the Trust's board of trustees determines that this does not represent fair
value. All other assets will be valued at fair value as determined in good faith
by or under the direction of each Trust's boards of trustees.
45
<PAGE>
PERFORMANCE INFORMATION
Each Fund's performance data quoted in advertising and other promotional
materials ('Performance Advertisements') represent past performance and are not
intended to indicate future performance. The investment return and principal
value of an investment will fluctuate so that an investor's shares, when
redeemed, may be worth more or less than their original cost.
TOTAL RETURN CALCULATIONS. Average annual total return quotes
('Standardized Return') used in a Fund's Performance Advertisements are
calculated according to the following formula:
<TABLE>
<S> <C> <C>
P(1 + T)n = ERV
where: P = a hypothetical initial payment of $1,000 to purchase shares
of a specified Class
T = average annual total return of shares of that Class
n = number of years
ERV = ending redeemable value of a hypothetical $1,000 payment
made at the beginning of that period.
</TABLE>
Under the foregoing formula, the time periods used in Performance
Advertisements will be based on rolling calendar quarters, updated to the last
day of the most recent quarter prior to submission of the advertisement for
publication. Total return, or 'T' in the formula above, is computed by finding
the average annual change in the value of an initial $1,000 investment over the
period. In calculating the ending redeemable value for Class A shares, the
maximum 4% initial sales charge is deducted from the initial $1,000 payment and,
for Class B shares, the applicable contingent deferred sales charge imposed on a
redemption of Class B shares held for the period is deducted. All dividends and
other distributions are assumed to have been reinvested at net asset value. Each
Fund also may refer in Performance Advertisements to total return performance
data that are not calculated according to the formula set forth above
('Non-Standardized Return'). A Fund calculates Non-Standardized Return for
specified periods of time by assuming an investment of $1,000 in Fund shares and
assuming the reinvestment of all dividends and other distributions. The rate of
return is determined by subtracting the initial value of the investment from the
ending value and by dividing the remainder by the initial value. Neither initial
nor contingent deferred sales charges are taken into account in calculating
Non-Standardized Return; the inclusion of those charges would reduce the return.
Both Standardized Return and Non-Standardized Return for Class B shares for
periods of over six years will reflect conversion of the Class B shares to Class
A shares at the end of the sixth year.
The following table shows performance information for the Class A, Class B
and Class D shares of the Funds for the periods indicated. All returns for
periods of more than one year are expressed as an average annual return.
46
<PAGE>
<TABLE>
<CAPTION>
NEW
YORK
TAX-FREE
CALIFORNIA TAX-FREE NATIONAL TAX-FREE MUNICIPAL HIGH INCOME
INCOME FUND INCOME FUND INCOME FUND FUND
---------------------------- --------------------------- --------------------------- -------
CLASS A CLASS B CLASS D CLASS A CLASS B CLASS D CLASS A CLASS B CLASS D CLASS A
------- ------- ------- ------- ------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
One year ended February
28, 1995:
Standardized Return*... (4.22)% (5.85)% (0.70)% (4.61)% (6.29)% (1.13)% (5.96)% (7.67)% (2.51)% (4.80)%
Non-Standardized
Return............... (0.18)% (0.85)% (0.70)% (0.63)% (1.29)% (1.13)% (2.03)% (2.67)% (2.51)% (0.83)%
Ten years or since
Inception** to February
28, 1995:
Standardized Return*... 7.64% 5.15% 4.09% 8.51% 5.51% 4.32% 7.46% 5.71% 3.82% 7.00%
Non-Standardized
Return............... 8.11% 5.63% 4.09% 8.96% 5.98% 4.32% 8.03% 6.18% 3.82% 7.68%
Five years ended February
28, 1995:
Standardized Return*... 6.04% NA NA 6.23% NA NA 6.44% NA NA 6.75%
Non-Standardized
Return............... 6.90% NA NA 7.10% NA NA 7.32% NA NA 7.64%
<CAPTION>
CLASS B CLASS D
------- -------
<S> <<C> <C>
One year ended February
28, 1995:
Standardized Return*... (6.57)% (1.20)%
Non-Standardized
Return............... (1.57)% (1.20)%
Ten years or since
Inception** to February
28, 1995:
Standardized Return*... 6.18% 4.63%
Non-Standardized
Return............... 6.64% 4.63%
Five years ended February
28, 1995:
Standardized Return*... NA NA
Non-Standardized
Return............... NA NA
</TABLE>
- ------------------
* All Standardized Return figures for Class A shares reflect deduction of the
current maximum sales charge of 4%. Until January 28, 1991, the maximum sales
charge imposed on purchases of Class A shares of the Funds was 4.25% (other
than New York Tax-Free Income Fund). This higher sales charge is not
reflected in the Standardized Return set forth above. All Standardized Return
figures for Class B shares reflect deduction of the applicable contingent
deferred sales charges imposed on a redemption of shares held for the period.
Class D shares do not impose an initial or a contingent deferred sales
charge; therefore, Non-Standardized Return is identical to Standardized
Return.
** The inception dates for the Class A shares of the Funds are as follows:
California Tax-Free Income Fund--September 16, 1985; National Tax-Free
Income Fund--December 3, 1984; Municipal High Income Fund--June 23, 1987;
and New York Tax-Free Income Fund--September 23, 1988. The inception dates
for the Class B shares and Class D shares of each Fund are July 1, 1991 and
July 2, 1992, respectively.
YIELD. Yields used in each Fund's Performance Advertisements are
calculated by dividing the Fund's interest income attributable to a Class of
shares for a 30-day period ('Period'), net of expenses attributable to such
Class, by the average number of shares of such Class entitled to receive
dividends during the Period and expressing the result as an annualized
percentage (assuming semi-annual compounding) of the maximum offering price per
share (in the case of Class A shares) or the net asset value per share (in the
case of Class B shares) at the end of the Period. Yield quotations are
calculated according to the following formula:
[( a - b )6 ]
YIELD = 2 [( ----- + 1) -1 ]
[( cd ) ]
<TABLE>
<S> <C> <C>
where: a = interest earned during the Period attributable to a Class of
shares
b = expenses accrued for the Period attributable to a Class of
shares (net of reimbursements)
c = the average daily number of shares of the Class outstanding
during the Period that were entitled to receive dividends
d = the maximum offering price per share (in the case of Class A
shares) or the net asset value per share (in the case of
Class B and Class D shares) on the last day of the Period.
</TABLE>
Except as noted below, in determining net investment income earned during
the Period (variable 'a' in the above formula), a Fund calculates interest
earned on each debt obligation held by it during the Period by (1) computing the
obligation's yield to maturity, based on the market value of the obligation
(including actual accrued interest) on the last business day of the Period or,
if the obligation was purchased during the Period, the purchase price plus
accrued interest and (2) dividing the yield to maturity by 360 and multiplying
the
47
<PAGE>
resulting quotient by the market value of the obligation (including actual
accrued interest) to determine the interest income on the obligation for each
day of the period that the obligation is in the portfolio. Once interest earned
is calculated in this fashion for each debt obligation held by a Fund, interest
earned during the Period is then determined by totalling the interest earned on
all debt obligations. For purposes of these calculations, the maturity of an
obligation with one or more call provisions is assumed to be the next date on
which the obligation reasonably can be expected to be called or, if none, the
maturity date. With respect to Class A shares, in calculating the maximum
offering price per share at the end of the Period (variable 'd' in the above
formula), a Fund's current maximum 4% initial sales charge on Class A shares is
included. The Funds had the following yields for the 30-day period ended
February 28, 1995:
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS D
------- ------- -------
<S> <C> <C> <C>
California Tax-Free Income
Fund........................ 5.32% 4.79% 5.03%
National Tax-Free Income
Fund........................ 5.32 4.80 5.04
Municipal High Income Fund.... 6.11 5.63 5.88
New York Tax-Free Income
Fund........................ 5.16 4.64 4.87
</TABLE>
Tax-exempt yield is calculated according to the same formula except that
variable 'a' equals interest exempt from federal income tax earned during the
Period. This tax-exempt yield is then translated into tax-equivalent yield
according to the following formula:
( E )
TAX EQUIVALENT YIELD = ( ----- ) + t
( 1 - p )
<TABLE>
<S> <C>
E = tax-exempt yield of a Class of shares
p = stated income tax rate
t = taxable yield of a Class of shares
</TABLE>
The tax-equivalent yield of California Tax-Free Income Fund assumes a
46.24% combined effective California and federal tax rate. The tax-equivalent
yield of New York Tax-Free Income Fund assumes a 46.88% effective New York
State, New York City and federal tax rate. The tax-equivalent yield of each of
National Tax-Free Income Fund and Municipal High Income Fund assumes a 39.6%
effective federal tax rate.
The Funds had the following tax-equivalent yields for the 30-day period
ended February 28, 1995:
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS D
------- ------- -------
<S> <C> <C> <C>
California Tax-Free Income
Fund........................ 9.88% 8.89% 9.36%
National Tax-Free Income
Fund........................ 8.81 7.93 8.34
Municipal High Income Fund.... 10.12 9.30 9.74
New York Tax-Free Income
Fund........................ 9.70 8.72 9.17
</TABLE>
OTHER INFORMATION. In Performance Advertisements, each Fund may compare
its Standardized Return and/or its Non-Standardized Return with data published
by Lipper Analytical Services, Inc. ('Lipper'), CDA Investment Technologies,
Inc. ('CDA'), Wiesenberger Investment Companies Service ('Wiesenberger'),
Investment Company Data Inc. ('ICD') or Morningstar Mutual Funds
('Morningstar'), or with the performance of recognized stock, bond and other
indexes, including (but not limited to) the Municipal Bond Buyers Indices,
Lehman Bond Index, the Standard & Poor's 500 Composite Stock Price Index, the
Dow Jones Industrial Average, Merrill Lynch Municipal Bond Indices, the Morgan
Stanley Capital
48
<PAGE>
International World Index, the Lehman Brothers Treasury Bond Index, Lehman
Brothers Government/Corporate Bond Index, the Salomon Brothers World Government
Bond Index and changes in the Consumer Price Index as published by the U.S.
Department of Commerce. Each Fund also may refer in such materials to mutual
fund performance rankings and other data, such as comparative asset, expense and
fee levels, published by Lipper, CDA, Wiesenberger, ICD or Morningstar.
Performance Advertisements also may refer to discussions of a Fund and
comparative mutual fund data and ratings reported in independent periodicals,
including (but not limited to) THE WALL STREET JOURNAL, MONEY Magazine, FORBES,
BUSINESS WEEK, FINANCIAL WORLD, BARRON'S, FORTUNE, THE NEW YORK TIMES, THE
CHICAGO TRIBUNE, THE WASHINGTON POST and THE KIPLINGER LETTERS. Comparisons in
performance advertisements may be in graphic form.
Each Fund may include discussions or illustrations of the effects of
compounding in Performance Advertisements. 'Compounding' refers to the fact
that, if dividends or other distributions on an investment in a Fund are
reinvested by being paid in additional Fund shares, any future income or capital
appreciation of a Fund would increase the value, not only of the original Fund
investment, but also of the additional Fund shares received through
reinvestment. As a result, the value of the Fund investment would increase more
quickly than if dividends or other distributions had been paid in cash.
Each Fund may also compare its performance with the performance of bank
certificates of deposit (CDs) as measured by the CDA Investment Technologies,
Inc. Certificate of Deposit Index and the Bank Rate Monitor National Index and
the averages of yields of CDs of major banks published by Banxquote(Registered)
Money Markets. In comparing the Fund's performance to CD performance, investors
should keep in mind that bank CDs are insured in whole or in part by an agency
of the U.S. government and offer fixed principal and fixed or variable rates of
interest, and that bank CD yields may vary depending on the financial
institution offering the CD and prevailing interest rates. Fund shares are not
insured or guaranteed by the U.S. government and returns and net asset value
will fluctuate. The securities held by the Fund generally have longer maturities
than most CDs and may reflect interest rate fluctuations for longer term
securities. An investment in a Fund involves greater risks than an investment in
either a money market fund or a CD.
49
<PAGE>
TAXES
FEDERAL TAXES. In order to continue to qualify for treatment as a
regulated investment company ('RIC') under the Internal Revenue Code, each Fund
must distribute to its shareholders for each taxable year at least 90% of the
sum of its net interest income excludable from gross income under section 103(a)
of the Internal Revenue Code plus its investment company taxable income
(consisting generally of taxable net investment income plus net short-term
capital gain) and must meet several additional requirements. For each Fund these
requirements include the following: (1) the Fund must derive at least 90% of its
gross income each taxable year from dividends, interest, payments with respect
to securities loans and gains from the sale or other disposition of securities,
or other income (including gains from options or futures) derived with respect
to its business of investing in securities ('Income Requirement'); (2) the Fund
must derive less than 30% of its gross income each taxable year from the sale or
other disposition of securities, options or futures held for less than three
months ('Short-Short Limitation'); (3) at the close of each quarter of the
Fund's taxable year, at least 50% of the value of its total assets must be
represented by cash and cash items, U.S. government securities, securities of
other RICs and other securities that are limited, in respect of any one issuer,
to an amount that does not exceed 5% of the value of the Fund's total assets;
and (4) at the close of each quarter of the Fund's taxable year, not more than
25% of the value of its total assets may be invested in securities (other than
U.S. government securities or the securities of other RICs) of any one issuer.
Entities or persons who are 'substantial users' (or persons related to
'substantial users') of facilities financed by IDBs or PABs should consult their
tax advisers before purchasing Fund shares because, for users of certain of
these facilities, the interest on those bonds is not exempt from federal income
tax. For these purposes, 'substantial user' is defined to include a 'non-exempt
person' who regularly uses in a trade or business a part of a facility financed
from the proceeds of IDBs or PABs.
Up to 85% of social security and railroad retirement benefits may be
included in taxable income for recipients whose adjusted gross income (including
income from tax-exempt sources such as a Fund) plus 50% of their benefits
exceeds certain base amounts. Exempt-interest dividends from a Fund still are
tax-exempt to the extent described in the Prospectus; they are only included in
the calculation of whether a recipient's income exceeds the established amounts.
If Fund shares are sold at a loss after being held for six months or less,
the loss will be disallowed to the extent of any exempt-interest dividends
received on those shares and any loss not disallowed will be treated as
long-term, instead of short-term, capital loss to the extent of any capital gain
distributions received thereon. Investors also should be aware that if shares
are purchased shortly before the record date for a capital gain distribution,
the shareholder will pay full price for the shares and receive some portion of
the price back as a taxable distribution.
Special tax rules apply when a shareholder (1) disposes of Class A shares
through a redemption or exchange within 90 days of purchase and subsequently
acquires Class A shares of a PaineWebber or MH/KP fund without paying a sales
charge due to the 365-day reinstatement privilege or exchange privilege. See
'Reduced Sales Charges--Reinstatement Privilege--Class A shares' above and
'Exchanges' in the Prospectus. In these cases, any gain on the disposition of
the Class A shares would be increased, or loss decreased, by the amount of the
sales charge paid when the shares were acquired, and that amount will increase
the basis of the PaineWebber fund shares subsequently acquired. In addition, if
shares of a Fund are purchased within 30 days before or after redeeming that
Fund's shares (regardless of Class) at a loss, that loss will not be deductible
to the extent the redemption proceeds are reinvested and will increase the basis
of the newly purchased shares.
50
<PAGE>
Although no Fund currently expects to invest in instruments that generate
taxable interest income, if a Fund does so, under the circumstances described in
the Prospectus and in the discussion of municipal market discount bonds below,
the portion of any Fund dividend attributable to the interest earned thereon
will be taxable to the Fund's shareholders as ordinary income to the extent of
the Fund's earnings and profits, and only the remaining portion will qualify as
an 'exempt-interest dividend' (as described in the Prospectus). The respective
portions will be determined by the 'actual earned' method, under which the
portion of any dividend that qualifies as exempt-interest may vary, depending on
the relative proportions of tax-exempt and taxable interest earned during the
dividend period. Moreover, if a Fund realizes capital gain as a result of market
transactions, any distributions of the gain will be taxable to its shareholders.
Each Fund is required to withhold 31% of all taxable dividends, capital gain
distributions and redemption proceeds payable to any individuals and certain
other noncorporate shareholders who do not provide the Fund with a correct
taxpayer identification number. Each Fund also is required to withhold 31% of
all taxable dividends and capital gain distributions payable to those
shareholders who otherwise are subject to backup withholding.
Dividends and other distributions declared by a Fund in October, November
or December of any year and payable to shareholders of record on a date in any
of those months will be deemed to have been paid by the Fund and received by the
shareholders on December 31 of that year if the distributions are paid by the
Fund during the following January. Each Fund invests exclusively in debt
securities and receives no dividend income; accordingly, no portion of the
dividends or other distributions paid by any Fund is eligible for the
dividends-received deduction allowed to corporations.
Each Fund will be subject to a nondeductible 4% excise tax to the extent it
fails to distribute by the end of any calendar year substantially all of its
ordinary (taxable) income for the calendar year and capital gain net income for
the one-year period ending on October 31 of that year, plus certain other
amounts.
The use of hedging and option income strategies, such as writing (selling)
and purchasing options and futures, involves complex rules that will determine
for income tax purposes the character and timing of recognition of the gains and
losses a Fund realizes in connection therewith. Income from transactions in
options and futures derived by a Fund with respect to its business of investing
in securities will qualify as permissible income under the Income Requirement.
However, income from the disposition of options and futures will be subject to
the Short-Short Limitation if they are held for less than three months.
If a Fund satisfies certain requirements, any increase in value of a
position that is part of a 'designated hedge' will be offset by any decrease in
value (whether realized or not) of the offsetting hedging position during the
period of the hedge for purposes of determining whether the Fund satisfies the
Short-Short Limitation. Thus, only the net gain (if any) from the designated
hedge will be included in gross income for purposes of that limitation. Each
Fund will consider whether it should seek to qualify for this treatment for its
hedging transactions. To the extent a Fund does not qualify for this treatment,
it may be forced to defer the closing out of certain options and futures beyond
the time when it otherwise would be advantageous to do so, in order for the Fund
to continue to qualify as a RIC.
Each Fund may invest in municipal bonds that are purchased, generally not
on their original issue, with market discount (that is, at a price less than the
principal amount of the bond or, in the case of a bond that was issued with
original issue discount, a price less than the amount of the issue price plus
accrued original issue discount) ('municipal market discount bonds'). If a
bond's market discount is less than the product of (1) 0.25% of the redemption
price at maturity times (2) the number of complete years to maturity after the
taxpayer acquired the bond, then no market discount is considered to exist. Gain
on the disposition of a municipal market discount bond purchased by a Fund after
April 30, 1993 (other than a bond with a fixed
51
<PAGE>
maturity date within one year from its issuance) generally is treated as
ordinary (taxable) income, rather than capital gain, to the extent of the bond's
accrued market discount at the time of disposition. Market discount on such a
bond generally is accrued ratably, on a daily basis, over the period from the
acquisition date to the date of maturity. In lieu of treating the disposition
gain as above, a Fund may elect to include market discount in its gross income
currently, for each taxable year to which it is attributable.
CALIFORNIA TAXES. Individual shareholders of California Tax-Free Income
Fund who reside in California will not be subject to California personal income
tax on distributions received from the Fund to the extent such distributions are
attributable to interest on tax-exempt obligations issued by the State of
California or a California local government (or interest earned on obligations
of U.S. possessions or territories) ('exempt-interest dividends'), provided that
the Fund qualifies as a RIC under the Internal Revenue Code and satisfies the
requirement of California law that at least 50% of its assets at the close of
each quarter of its taxable year be invested in obligations the interest on
which is exempt from personal income taxation under the laws or Constitution of
California or the laws of the United States. Distributions from the Fund which
are attributable to sources other than those described in the preceding sentence
will generally be taxable to such shareholders as ordinary income. However,
distributions by California Tax-Free Income Fund, if any, that are derived from
interest on obligations of the U.S. government may also be designated by the
Fund and treated by its shareholders as exempt from California personal income
tax, provided that the foregoing 50% requirement is satisfied. Moreover, under
California legislation incorporating certain portions of the provisions of the
Internal Revenue Code applicable to RICs, amounts treated as capital gain
distributions for federal income tax purposes generally will be treated as
long-term capital gains for California personal income tax purposes. In
addition, distributions to shareholders other than exempt-interest dividends are
includable in income subject to the California alternative minimum tax.
Distributions of investment income and long-term and short-term capital
gains will not be excluded from taxable income in determining the California
corporate franchise tax for corporate shareholders. In addition, such
distributions may be includable in income subject to the California alternative
minimum tax.
Interest on indebtedness incurred by shareholders to purchase or carry
shares of California Tax-Free Income Fund will not be deductible for California
personal income tax purposes.
Shares of California Tax-Free Income Fund will not be subject to the
California property tax.
NEW YORK TAXES. Individual shareholders of New York Tax-Free Income Fund
will not be required to include in their gross income for New York State
purposes any portion of distributions received from the Fund to the extent such
distributions are directly attributable to interest earned on tax-exempt
obligations issued by New York State or any political subdivisions thereof
(including the City) or interest earned on obligations of U.S. possessions or
territories to the extent interest on such obligations is exempt from state
taxation pursuant to federal law provided that the Fund qualifies as a RIC and
satisfies the requirements that at least 50% of its assets at the close of each
quarter of its taxable year constitute obligations which are tax-exempt for
federal income tax purposes. Distributions from the Fund which are attributable
to sources other than those described in the preceding sentence (including
interest on obligations of other states and their political subdivisions) will
generally be taxable to such individual shareholders as ordinary income.
However, distributions by the Fund, if any, that are derived from interest
earned on obligations of the U.S. government may also be designated by the Fund
and treated by its shareholders as exempt from personal income taxation for New
York State and City purposes, provided that at least 50% of the value of its
total assets at the close of each quarter of its taxable year is invested in
such federal obligations. Distributions to individual shareholders
52
<PAGE>
by the Fund which represent long-term capital gains for federal income tax
purposes will be treated as long-term capital gains for New York State and City
personal income tax purposes.
Shareholders of New York Tax-Free Income Fund that are subject to the New
York State corporation franchise tax or the City general corporation tax will be
required to include exempt-interest dividends paid by the Fund in their 'entire
net income' for purposes of such taxes and will be required to include their
shares of the Fund in their investment capital for purposes of such taxes.
Shareholders of New York Tax-Free Income Fund will not be subject to the
unincorporated business taxation imposed by the City solely by reason of their
ownership of shares in the Fund. If a shareholder is subject to the
unincorporated business tax, income and gains distributed by the Fund will be
subject to such tax except to the extent such distributions are directly
attributable to interest earned on tax-exempt obligations issued by New York
State or any political subdivision thereof (including the City).
Shares of New York Tax-Free Income Fund will not be subject to property
taxes imposed by New York State or the City.
Interest on indebtedness incurred by shareholders to purchase or carry
shares of the New York Tax-Free Income Fund generally will not be deductible for
New York State personal income tax purposes.
Interest income or net capital gain of the Fund which is distributed to the
shareholders will generally not be taxable to the Fund for purposes of the New
York State corporation franchise tax or the New York City general corporation
tax.
The foregoing is a general summary of certain provisions of federal,
California and New York State and City tax laws currently in effect as they
directly govern the taxation of shareholders of the Funds. These provisions are
subject to change by legislative or administrative action, and any such change
may be retroactive with respect to Fund transactions. Shareholders are advised
to consult with their own tax advisers for more detailed information concerning
tax matters.
TAX-FREE INCOME VS. TAXABLE INCOME--NATIONAL TAX-FREE INCOME FUND AND
MUNICIPAL HIGH INCOME FUND. Table I below illustrates approximate equivalent
taxable and tax-free yields at the 1995 federal individual income tax rates. For
example, a couple with taxable income of $90,000 in 1995, or single individuals
with taxable income of $55,000 in 1995, whose investments earn a 6% tax-free
yield, would have to earn approximately an 8.70% taxable yield to receive the
same benefit.
TABLE I. 1995 FEDERAL TAXABLE VS. TAX-FREE YIELDS*
<TABLE>
<CAPTION>
A TAX-FREE YIELD OF
TAXABLE INCOME (000'S) ---------------------------------------------
- ------------------------------- 4.00% 5.00% 6.00% 7.00% 8.00%
SINGLE JOINT FEDERAL TAX ----- ----- ----- ----- -----
RETURN RETURN BRACKET IS EQUAL TO A TAXABLE YIELD OF APPROXIMATELY:
- ------------ -------------- ----------- ---------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
$ 0-- 22.1 $ 0-- 36.9 15.00% 4.71% 5.88% 7.06% 8.24% 9.41%
22.1-- 53.5 36.9-- 89.2 28.00 5.56 6.94 8.33 9.72 11.11
53.5--115.0 89.2--140.0 31.00 5.80 7.25 8.70 10.14 11.59
115.0--250.0 140.0--250.0 36.00 6.25 7.81 9.38 10.94 12.50
Over 250.0 Over 250.0 39.60 6.62 8.28 9.93 11.59 13.25
</TABLE>
- ------------------
* See note following Table III.
53
<PAGE>
TAX-FREE INCOME VS. TAXABLE INCOME--CALIFORNIA TAX-FREE INCOME FUND. Table
II below illustrates approximate equivalent taxable and tax-free yields at the
1995 individual federal and 1994 California personal income tax rates. For
example, a California couple with taxable income of $90,000, or a single
California individual with taxable income of $55,000, whose investments earn a
6% tax-free yield, would have to earn a 9.59% taxable yield to receive the same
benefit.
TABLE II. 1995 FEDERAL AND 1994 CALIFORNIA TAXABLE VS. TAX-FREE YIELDS*
<TABLE>
<CAPTION>
EFFECTIVE A TAX-FREE YIELD OF
TAXABLE INCOME (000'S) CALIFORNIA ---------------------------------------------
--------------------------------- AND 4.00% 5.00% 6.00% 7.00% 8.00%
SINGLE JOINT FEDERAL TAX ----- ----- ----- ----- -----
RETURN RETURN BRACKET IS EQUAL TO A TAXABLE YIELD OF APPROXIMATELY:
-------------- -------------- ----------- ---------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
$ 0-- 22.1 $ 0-- 36.9 20.10% 5.01% 6.26% 7.51% 8.76% 10.01%
22.1-- 24.5 36.9-- 49.0 32.32 5.91 7.39 8.87 10.34 11.82
24.5-- 31.0 49.0-- 62.0 33.76 6.04 7.55 9.06 10.57 12.08
31.0-- 53.5 62.0-- 89.2 34.70 6.13 7.66 9.19 10.72 12.25
53.5--107.5 89.2--140.0 37.42 6.39 7.99 9.59 11.19 12.78
107.5--115.00 37.90 6.44 8.05 9.66 11.27 12.88
140.0--214.9 41.95 6.89 8.61 10.34 12.06 13.78
115.00--214.9 214.9--250.0 42.40 6.94 8.68 10.42 12.15 13.89
214.9--250.0 43.04 7.02 8.78 10.53 12.29 14.04
250.0--429.9 45.64 7.36 9.20 11.04 12.88 14.72
Over 250.0 Over 429.9 46.24 7.44 9.30 11.16 13.02 14.88
</TABLE>
- ------------------
* See note following Table III.
TAX-FREE INCOME VS. TAXABLE INCOME--NEW YORK TAX-FREE INCOME FUND. Table
III below illustrates approximate equivalent taxable and tax-free yields at the
1995 federal individual, and New York State and New York City personal, income
tax rates. For example, a New York City couple with taxable income of $90,000 in
1995, whose investments earn a 4% tax-free yield, would have to earn a 6.59%
taxable yield to receive the same benefit. A couple who lives in New York State
outside of New York City with taxable income of $90,000 in 1995 would have to
earn a 6.27% taxable yield to realize a 4% tax-free yield.
Single taxpayers may also take advantage of high tax-free income. For
example, a single individual with taxable income of $55,000 in 1995 who lives in
New York City and whose investments earn a 4% tax-free yield, would have to earn
a 6.59% taxable yield to receive the same benefit. A single individual with
taxable income of $55,000 in 1995, who lives in New York State outside of New
York City would have to earn a 6.27% taxable yield to realize a 4% tax-free
yield.
54
<PAGE>
TABLE III. 1995 FEDERAL AND NEW YORK TAXABLE VS. TAX-FREE YIELDS*
<TABLE>
<CAPTION>
A TAX-FREE YIELD OF
TAXABLE INCOME (000'S) COMBINED ---------------------------------------------
FEDERAL/ 4.00% 5.00% 6.00% 7.00% 8.00%
SINGLE JOINT NYS/NYC ----- ----- ----- ----- -----
RETURN RETURN TAX BRACKET IS EQUAL TO A TAXABLE YIELD OF APPROXIMATELY:
-------------- -------------- ----------- ---------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
$ 0-- 22.1 $ 0-- 36.9 25.19% 5.35% 6.68% 8.02% 9.36% 10.69%
22.1-- 53.5 36.9-- 89.2 36.64 6.31 7.89 9.47 11.05 12.63
53.5--115.0 89.2--140.0 39.32 6.59 8.24 9.89 11.54 13.18
115.0--250.0 140.0--250.0 43.71 7.11 8.88 10.66 12.44 14.21
Over 250.0 Over 250.0 46.88 7.53 9.41 11.29 13.18 15.06
</TABLE>
<TABLE>
<CAPTION>
A TAX-FREE YIELD OF
TAXABLE INCOME (000'S) ---------------------------------------------
--------------------------------- COMBINED 4.00% 5.00% 6.00% 7.00% 8.00%
SINGLE JOINT FEDERAL/NYS ----- ----- ----- ----- -----
RETURN RETURN TAX BRACKET IS EQUAL TO A TAXABLE YIELD OF APPROXIMATELY:
-------------- -------------- ------------ ---------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
$ 0-- 22.1 $ 0-- 36.9 21.45% 5.09% 6.37% 7.64% 8.91% 10.19%
22.1-- 53.5 36.9-- 89.2 33.47 6.01 7.52 9.02 10.52 12.02
53.5--115.0 89.2--140.0 36.24 6.27 7.84 9.41 10.98 12.55
115.0--250.0 140.0--250.0 40.86 6.76 8.45 10.15 11.84 13.53
Over 250.0 Over 250.0 44.19 7.17 8.96 10.75 12.54 14.33
</TABLE>
- ------------------
* Single rate assumes no dependents; joint rate assumes two dependents. The
yields listed are for illustration only and are not necessarily representative
of a Fund's yield. Each Fund invests primarily in obligations the interest on
which is exempt from federal income tax and, in the case of California
Tax-Free Income Fund, from California personal income tax and, in the case of
New York Tax-Free Income Fund, from New York State and New York City personal
income taxes; however, some of a Fund's investments may generate taxable
income. Effective tax rates shown are those in effect on the date of this
Statement of Additional Information; such rates might change after that date.
The effective rates reflect the highest tax bracket within each range of
income listed. However, a California or New York taxpayer within the lowest
income ranges shown may fall within a lower effective tax bracket. The figures
set forth above do not reflect the federal alternative minimum tax,
limitations on federal or state itemized deductions and personal exemptions or
any state or local taxes payable on Fund distributions (other than California,
New York State and New York City personal income taxes in the case of Tables
II and III).
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OTHER INFORMATION
The names of the Trusts are PaineWebber Mutual Fund Trust and PaineWebber
Municipal Series. Prior to April 6, 1992, the name of PaineWebber Mutual Fund
Trust was PaineWebber California Tax-Free Income Fund and its sole operating
series was designated as 'Initial Series.' Prior to July 1, 1991, the name of
this Trust was PaineWebber California Tax-Exempt Income Fund. Prior to June 30,
1992, National Tax-Free Income Fund was a series of a different Massachusetts
business trust, PaineWebber Managed Municipal Trust. Prior to July 1, 1991, the
name of Municipal High Income Fund was 'PaineWebber Classic High Yield Municipal
Fund' and prior to July 1, 1989, its name was 'PaineWebber High Yield Municipal
Bond Fund.' Prior to July 1, 1991, the name of New York Tax-Free Income Fund was
'PaineWebber Classic New York Tax-Free Fund.'
Each Trust is an entity of the type commonly known as a 'Massachusetts
business trust.' Under Massachusetts law, shareholders could, under certain
circumstances, be held personally liable for the obligations of the Trust or a
Fund. However, the Declaration of Trust disclaims shareholder liability for the
obligations of the Trust or a Fund and requires that notice of such disclaimer
be given in each note, bond, contract, instrument, certificate or undertaking
made or issued by the Trust's trustees or by any officers or officer by or on
behalf of a Fund, the trustees or any of them in connection with the Fund. The
Declaration of Trust provides for indemnification from a Fund's property for all
losses and expenses of any Fund shareholder held personally liable for the
obligations of the Fund. Thus, the risk of a shareholder's incurring financial
loss on account of shareholder liability is limited to circumstances in which
the Fund itself would be unable to meet its obligations, a possibility that
Mitchell Hutchins believes is remote and not material. Upon payment of any
liability incurred by a shareholder solely by reason of being or having been a
shareholder, the shareholder paying such liability will be entitled to
reimbursement from the general assets of a Fund. The trustees intend to conduct
the operations of each Fund in such a way as to avoid, as far as possible,
ultimate liability of the shareholders for liabilities of the Fund.
Each Trust is authorized to issue Class C shares of the Funds in addition
to Class A, Class B and Class D shares, but neither Trust's board of trustees
has any current intention of doing so. Class C shares, if issued, would bear no
service or distribution fees, would be sold with no initial sales charge and
would be redeemable at net asset value without the imposition of a contingent
deferred sales charge. Class C shares would be offered only to a limited class
of institutional purchasers.
CLASS-SPECIFIC EXPENSES. Each Fund may determine to allocate certain of
its expenses (in addition to distribution fees) to the specific Classes of the
Fund's shares to which those expenses are attributable. For example, Class B
shares bear higher transfer agency fees per shareholder account than those borne
by Class A or Class D shares. The higher fee is imposed due to the higher costs
incurred by the transfer agent in tracking shares subject to a contingent
deferred sales charge because, upon redemption, the duration of the
shareholder's investment must be determined in order to determine the applicable
charge. Moreover, the tracking and calculations required by the automatic
conversion feature of the Class B shares will cause the transfer agent to incur
additional costs. Although the transfer agency fee will differ on a per account
basis as stated above, the specific extent to which the transfer agency fees
will differ between the Classes as a percentage of net assets is not certain,
because the fee as a percentage of net assets will be affected by the number of
shareholder accounts in each Class and the relative amounts of net assets in
each Class.
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COUNSEL. The law firm of Kirkpatrick & Lockhart LLP, 1800 M Street, N.W.,
Washington, D.C., 20036-5891, counsel to the Funds, has passed upon the legality
of the shares offered by the Funds' Prospectus. Kirkpatrick & Lockhart LLP also
acts as counsel to Mitchell Hutchins and PaineWebber in connection with other
matters. The law firm of Orrick, Herrington & Sutcliffe, 400 Sansome Street, San
Francisco, CA 94111, serves as counsel to California Tax-Free Income Fund with
respect to California law. The law firm of Orrick, Herrington & Sutcliffe, 599
Lexington Avenue, New York, New York 10022, serves as counsel to New York
Tax-Free Income Fund with respect to New York law.
AUDITORS. Ernst & Young LLP, 787 Seventh Avenue, New York, New York 10019,
serves as independent auditors for the Funds.
FINANCIAL STATEMENTS
The Funds' Annual Report to Shareholders for the fiscal year ended February
28, 1995 is a separate document supplied with this Statement of Additional
Information and the financial statements, accompanying notes and report of
independent auditors appearing therein are incorporated by reference in this
Statement of Additional Information.
57
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APPENDIX
THE FUNDS MAY USE THE FOLLOWING HEDGING AND OPTION INCOME INSTRUMENTS:
OPTIONS ON DEBT SECURITIES--A call option is a short-term contract pursuant
to which the purchaser of the option, in return for a premium, has the right to
buy the security underlying the option at a specified price at any time during
the term of the option. The writer of the call option, who receives the premium,
has the obligation, upon exercise of the option during the option term, to
deliver the underlying security against payment of the exercise price. A put
option is a similar contract which gives its purchaser, in return for a premium,
the right to sell the underlying security at a specified price during the option
term. The writer of the put option, who receives the premium, has the
obligation, upon exercise during the option term, to buy the underlying security
at the exercise price. Options on debt securities are traded primarily in the
OTC market rather than on any of the several options exchanges. At present, only
options on U.S. Treasury securities are listed for trading on any recognized
exchange.
OPTIONS ON INDEXES OF DEBT SECURITIES--An index assigns relative values to
the securities included in the index and fluctuates with changes in the market
values of such securities. Index options operate in the same way as more
traditional options except that exercises of index options are effected with
cash payments and do not involve delivery of securities. Thus, upon exercise of
an index option, the purchaser will realize and the writer will pay, an amount
based on the difference between the exercise price and the closing price of the
index. Currently, options on indexes of debt securities do not exist.
MUNICIPAL BOND INDEX FUTURES CONTRACTS--A municipal bond index futures
contract is a bilateral agreement pursuant to which one party agrees to accept
and the other party agrees to make delivery of an amount of cash equal to a
specified dollar amount times the difference between the index value at the
close of trading of the contract and the price at which the futures contract is
originally struck. No physical delivery of the bonds comprising the index is
made; generally contracts are closed out prior to the expiration date of the
contract.
MUNICIPAL DEBT FUTURES CONTRACTS--A municipal debt futures contract is a
bilateral agreement pursuant to which one party agrees to accept and the other
party agrees to make delivery of the specific type of municipal debt security
called for in the contract at a specified future time and at a specified price.
Currently there is no public market for municipal debt futures contracts.
OPTIONS ON FUTURES CONTRACTS--Options on futures contracts are similar to
options on securities except that an option on a futures contract gives the
purchaser the right, in return for the premium, 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 a security, at a
specified price at any time during the option term. Upon exercise of the option,
the delivery of the futures position to the holder of the option will be
accompanied by delivery of the accumulated balance, which represents the amount
by which the market price of the futures contract 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 future. The writer of an option, upon exercise, will assume a short position
in the case of a call, and a long position in the case of a put.
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59
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NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS NOT CONTAINED IN THE PROSPECTUS OR IN THIS STATEMENT OF
ADDITIONAL INFORMATION IN CONNECTION WITH THE OFFERING MADE BY THE PROSPECTUS
AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED
UPON AS HAVING BEEN AUTHORIZED BY A FUND OR ITS DISTRIBUTOR. THE PROSPECTUS
AND THIS STATEMENT OF ADDITIONAL INFORMATION DO NOT CONSTITUTE AN OFFERING BY
ANY FUND OR BY THE DISTRIBUTOR IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY
NOT LAWFULLY BE MADE.
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TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----------
<S> <C>
Investment Policies and Restrictions........... 1
Hedging and Related Income Strategies.......... 21
Trustees and Officers.......................... 27
Investment Advisory and Distribution
Arrangements................................. 33
Portfolio Transactions......................... 39
Reduced Sales Charges, Additional Exchange and
Redemption Information and Other Services.... 41
Conversion of Class B Shares................... 44
Valuation of Shares............................ 45
Performance Information........................ 46
Taxes.......................................... 50
Other Information.............................. 56
Financial Statements........................... 57
Appendix....................................... 58
</TABLE>
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PAINEWEBBER CALIFORNIA
TAX-FREE INCOME FUND
PAINEWEBBER NATIONAL
TAX-FREE INCOME FUND
PAINEWEBBER MUNICIPAL
HIGH INCOME FUND
PAINEWEBBER NEW YORK
TAX-FREE INCOME FUND
------------------------
STATEMENT OF ADDITIONAL
INFORMATION
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PAINEWEBBER
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JULY 1, 1995
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(Copyright)1995 PaineWebber Incorporated
[LOGO] Printed on
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