<PAGE>
[LOGO OF STATE BOND]
STATE BOND
Minnesota Tax-Free Income Fund
State Bond
Minnesota Tax-Free
Income Fund
Annual
Report
June 30, 1996
<PAGE>
State Bond Minnesota Tax-Free Income Fund
JULY 12, 1996
TO THE SHAREHOLDERS:
This Annual Report marks the completion of nine years of operations for the
State Bond Minnesota Tax-Free Income Fund (the "Fund"). We welcome new
shareholders who joined us during the year and we thank all of our shareholders
for their interest and support.
The allure of income that is exempt from both state and federal taxes continues
to be an attraction for investors. The Fund seeks to provide tax-free income and
has distributed a total of 53 cents per share for the fiscal year through
monthly dividends.
During the fiscal year ended June 30, 1996, the Federal Reserve reversed its
position of the previous year and became accommodative with reductions of a
quarter of a percent to the Federal Funds rate in July 1995, December 1995, and
January 1996. With these decreases, the 30-year Treasury Bond yield, which began
the fiscal year at 6.6%, decreased to under 6.0% in December 1995. However,
economic activity began to increase during the first quarter of 1996, and has
continued through June. This strength resulted in the 30-year Treasury Bond
yield increasing to 6.9% at June 30, 1996. The Fund's net asset value per share
began the fiscal year at $10.61, and increased in value to $10.85 at the end of
January 1996 as interest rates fell. However, as interest rates trended higher
through June 1996, the per share net asset value began to decrease and closed
the fiscal year at $10.56.
Diversification and quality of investments continues to be an emphasis of the
Fund. The "Schedule of Investments" shows that the Fund owns 73 different tax-
exempt issues. The portfolio's top five holdings include Minnesota State
Housing, St. Paul Independent School District, Northern Municipal Power Agency,
Minnesota State Higher Education Facilities Authority and Robbinsdale Hospital.
The portfolio's credit quality is reflected in the rating of each security by
Moody's Investors Service, Inc. and/or Standard & Poor's Corporation. By
selecting the higher rating awarded to each issuer by either service, bonds
comprising 38.1% of the total portfolio were AAA rated, 31.4% were AA rated, and
28.4% were A rated. The remaining 2.1% of the portfolio was invested in quality
rated short-term securities.
Should you desire additional information, we welcome your inquiries.
Sincerely,
/s/ Keith O. Martens
Keith O. Martens
Vice President
<PAGE>
State Bond Minnesota Tax-Free Income Fund
Schedule of Investments
June 30, 1996
<TABLE>
<CAPTION>
MOODY'S/S&P PRINCIPAL
RATING AMOUNT VALUE
------------------------------------------
<S> <C> <C> <C>
MUNICIPAL BONDS (97.9%)
Albany, MN Independent School District
#745, G.O. Bonds, 6.000%, due 2009 Aa1/NR $250,000 $243,377
Bloomington Port Authority, Series 1994
A, 5.250%, due 2003 Aaa/AAA 200,000 201,430
Burnsville, MN Multi-Family Housing
Rev. Ref. Bonds, Coventry Court
Apartments Project, Series 1989, NR/AAA 100,000 104,710
7.500%, due 2027
Centennial Minnesota Independent School
District #12, G.O. Bonds, Series 1991
A, 7.150%, due 2011 Aaa/AAA 250,000 270,355
Coon Rapids, MN, G.O. Tax Increment
Bonds, Series 1986 B2, 7.750%,
due 2006 A/NR 150,000 150,416
Dakota County, MN, G.O. Ref. Bonds,
6.450%, due 2010 Aaa/AAA 300,000 313,122
Dakota County, MN Housing and Rev.
Authority, SFM Rev. Bonds, 7.200%,
due 2009 NR/AAA 170,000 176,402
Duluth, MN, G.O. Water Rev., Series
1992 A, 6.250%, due 2007 A/NR 285,000 295,539
Duluth, MN, Economic Development
Authority, 6.200%, due 2012 Aaa/AAA 60,000 64,730
Duluth, MN, Economic Development
Authority, 6.200%, due 2012 Aaa/AAA 140,000 144,865
Eden Prairie, MN Multi-Family Housing
Preserve Place Apartments, 7.875%,
due 2017 NR/AAA 100,000 104,463
Eden Prairie, MN Housing &
Redevelopment Authority, 6.200%,
due 2008 A/NR 300,000 312,639
Edina, MN Independent School District
#273, 5.497%, due 2013 A1/NR 300,000 300,408
Foley, MN Independent School District
#51 MBIA, 7.500%, due 2008 Aaa/AAA 100,000 104,395
</TABLE>
2
<PAGE>
<TABLE>
<CAPTION>
MOODY'S/S&P PRINCIPAL
RATING AMOUNT VALUE
-----------------------------------
MUNICIPAL BONDS (CONTINUED)
<S> <C> <C> <C>
Hennepin County, MN Lease Rev.
Certificate of Participation, Series
1991, 6.800%, due 2017 Aa/AA $165,000 $177,961
Kandiyohi County, MN, G.O. Ref. Bonds,
Series 1993, 5.650%, due 2011 A/NR 225,000 224,766
Metropolitan Council, MN, 7.250%, due
2007 Aaa/AAA 150,000 162,951
Minneapolis, MN, 5.750%, due 2010 Aaa/AAA 275,000 278,814
Minneapolis, MN, 6.250%, due 2012 Aaa/AAA 250,000 262,813
Minneapolis, MN Multi-Family Housing
Revenue, 7.125%, due 2010 NR/AAA 200,000 211,544
Minneapolis, MN Multi-Family Housing
Revenue, 7.050%, due 2022 NR/AAA 300,000 311,844
Minneapolis, MN Special School District
#001, 5.900%, due 2011 Aaa/AAA 400,000 406,948
Minnesota State University Board
Revenue, 6.000%, due 2013 A/NR 300,000 304,520
Minnesota Public Access Authority,
Water Pollution Control, Rev. Bonds,
Series 1990 A, 7.100%, due 2012 Aa1/AAA 300,000 329,502
Minnesota Public Facilities Authority,
Water Pollution Control, Rev. Bonds,
Series 1991 A, 6.950%, due 2013 Aa1/AAA 250,000 277,030
Minnesota Public Facilities Authority,
Water Pollution Control, Rev. Bonds,
Series 1992 A, 6.500%, due 2014 Aa1/AAA 250,000 266,708
Minnesota State, 7.000%, due 2007 Aaa/AAA 150,000 162,641
Minnesota State Housing Finance Agency,
7.300%, due 2017 Aa/AA+ 255,000 269,497
Minnesota State Housing Finance Agency,
Rental Housing, Series C Ref. Bonds,
6.150%, due 2014 NR/AA+ 175,000 175,768
</TABLE>
3
<PAGE>
State Bond Minnesota Tax-Free Income Fund
Schedule of Investments (continued)
<TABLE>
<CAPTION>
MOODY'S/S&P PRINCIPAL
RATING AMOUNT VALUE
------------------------------------------
<S> <C> <C> <C>
MUNICIPAL BONDS (CONTINUED)
Minnesota State Housing Insurance
Agency, 7.650%, due 2008 Aa/AA+ $ 95,000 $100,239
Minnesota State Housing Finance Agency,
6.000%, due 2014 NR/AA+ 160,000 159,645
Minnesota State Housing Finance Agency,
7.100%, due 2011 Aa/AA+ 195,000 205,345
Minnesota State Housing Finance Agency,
Single Family Mortgage, 5.850%, due
2011 Aa/AA+ 345,000 343,634
Minnesota State Higher Education
Facilities, 6.300%, due 2014 Aa/AA- 300,000 312,129
Minnesota State Higher Education
Facilities, 5.450%, due 2007 A1/NR 200,000 198,158
Minnesota State Higher Education
Facilities, 5.600%, due 2014 A1/NR 315,000 304,180
Minnesota State Housing Development
Single Family Mortgage, Series B,
7.250%, due 2016 Aa/AA+ 45,000 46,007
Minnetonka, MN Multi-Family Housing
Rev. Bonds (Cedar Hills East Project),
7.500%, due 2017 NR/AA 100,000 101,677
Moorhead, MN Public Utility Rev. Bonds,
Series 1992, 6.050%, due 2006 Aaa/AAA 300,000 314,427
Northern Municipal Power Agency, MN
Electric Rev. Ref. Bonds, Series A,
7.250%, due 2017 Aaa/AAA 285,000 309,060
Northern Municipal Power Agency, MN
Electric Rev. Ref. Bonds, 6.000%, due
2020 A/A 530,000 530,360
Owatonna, MN Public Utility Ref. Bonds,
Series 1990, 7.400%, due 2007 A1/NR 300,000 325,797
</TABLE>
4
<PAGE>
<TABLE>
<CAPTION>
MOODY'S/S&P PRINCIPAL
RATING AMOUNT VALUE
-------------------------------------------
<S> <C> <C> <C>
MUNICIPAL BONDS (CONTINUED)
Ramsey & Washington Counties Resource
Recovery Rev. Bonds, NSP Project,
6.750%, due 2006 A1/AA- $100,000 $105,155
Red Wing Independent School District
#256, G.O. School Building, Series
1998 A, 7.300%, due 2004 A1/NR 150,000 156,491
Robbinsdale Hospital Ref. Rev. NMMCP,
1989, 7.200%, due 2005 Aaa/AAA 100,000 108,324
Robbinsdale Hospital Ref. Rev. NMMCP,
Series A, 5.450%, due 2013 Aaa/AAA 300,000 289,083
Robbinsdale Hospital Revenue, 5.450%,
due 2013 Aaa/AAA 370,000 356,536
Rochester, MN Health Care Facility Rev.
Bonds, Mayo Medical Center, 6.250%,
due 2021 NR/AA+ 500,000 512,065
Rosemount, MN Independent School
District, 5.875%, due 2014 Aa1/AA 500,000 503,275
Roseville, MN Independent School
District, 5.250%, due 2013 Aaa/AAA 300,000 286,860
St. Anthony-New Brighton Independent
School District #282, G.O. Bonds,
5.700%, due 2012 Aa1/NR 300,000 301,599
St. Cloud, MN Hydro Electric Generator
Facility Gross Rev. Bonds, 7.375%, due
2018 NR/A- 250,000 257,533
St. Louis Park, MN Health Care
Facility, 5.200%, due 2016 Aaa/AAA 480,000 440,314
St. Paul, MN, G.O. Street Improvement,
Special Assessment Bonds, Series 1988
D, 7.200%, due 2008 Aa/AA+ 100,000 100,602
St. Paul, MN Housing & Redevelopment
Authority, Package R, 6.450%, due 2007 NR/A- 300,000 323,115
</TABLE>
5
<PAGE>
State Bond Minnesota Tax-Free Income Fund
Schedule of Investments (continued)
<TABLE>
<CAPTION>
MOODY'S/S&P PRINCIPAL
RATING AMOUNT VALUE
-----------------------------------
<S> <C> <C> <C>
MUNICIPAL BONDS (CONTINUED)
St. Paul, MN Housing and Redevelopment
Authority Revenue Bonds, 5.400%, due
2008 Aaa/AAA $300,000 $298,389
St. Paul, MN, Independent School
District #625, Series C, 5.550%, due
2012 Aa/AA 300,000 297,822
St. Paul, MN, Independent School
District #625, Series 1994 C, 6.050%,
due 2012 Aa/AA 400,000 409,000
St. Paul, MN, Independent School
District #625, School Building Bonds,
Series 1990 D, 7.250%, due 2009 Aa/AA 150,000 159,977
St. Paul, MN, Independent School
District #625, 5.250%, due 2015 Aa/AA 300,000 284,301
St. Paul, MN Independent School
District, 5.200%, due 2011 Aa1/AA 300,000 288,996
Southern MN Municipal Power Agency,
Power Supply, 8.125%, due 2018 Aaa/AAA 300,000 323,835
Stearns County, MN, G.O. Ref. Bonds,
Series B, 6.000%, due 2007 A/NR 325,000 336,427
Stearns County, MN, Independent #2753,
5.000%, due 2012 Aa1/NR 300,000 279,804
Vadnais Heights, MN Housing Development
Rev. Bonds, Riverwood Housing
Foundation, 7.500%, due 2009 NR/A+ 115,000 115,382
Wayzata, MN Tax Increment Bonds,
7.000%, due 2010 Aa/NR 200,000 215,932
Wayzata, MN Independent School District
#284, G.O. Bonds, Series 1994 B,
5.800%, due 2009 Aa1/NR 250,000 254,683
Western Minnesota Municipal Power
Agency, Power Supply Revenue Ref.
Bonds, 6.875%, due 2007 A1/A 300,000 309,558
Western Minnesota Municipal Power,
Series A, 6.125%, due 2016 A1/A 250,000 249,995
</TABLE>
6
<PAGE>
<TABLE>
MOODY'S/S&P PRINCIPAL
RATING AMOUNT VALUE
---------------------------------
MUNICIPAL BONDS (CONTINUED)
<S> <C> <C> <C>
Western Minnesota Municipal Power
Agency, Transmission Project Rev. Ref.
Bonds, Series 1991, 6.750%, due 2016 Aaa/AAA $200,000 $ 212,828
Whitewater Bear Lake School, 6.000%,
due 2012 Aa1/NR 250,000 255,635
Worthington, MN, G.O. Water Rev. Bonds,
Series 1990 A, 7.000%, due 2010 A/NR 100,000 106,325
Wright County, MN, G.O. Jail Ref.
Bonds, Series 1992 B, 6.000%, due 2007 A/NR 350,000 362,282
-----------
TOTAL MUNICIPAL BONDS (Cost $17,878,298) 18,362,939
SHORT-TERM SECURITIES (2.1%)
General Electric Capital Corp., 5.000%,
due 07/01/96 390,000 390,000
-----------
TOTAL SHORT-TERM SECURITIES (Cost $390,000) 390,000
-----------
TOTAL INVESTMENTS (100.0%) (Cost $18,268,298*) $18,752,939
===========
</TABLE>
*Also represents cost for federal income tax purposes.
Ratings were provided by Moody's Investors Service, Inc. and Standard & Poor's
Corporation and are not covered by the report of Ernst & Young LLP.
See accompanying notes.
7
<PAGE>
State Bond Minnesota Tax-Free Income Fund
Statement of Assets and Liabilities
June 30, 1996
<TABLE>
<CAPTION>
ASSETS
<S> <C>
Investment in securities, at value (cost $18,268,298)
See accompanying schedule $18,752,939
Cash 55,214
Receivable for reimbursable expenses 2,553
Interest and other receivables 398,629
-----------
TOTAL ASSETS 19,209,335
LIABILITIES
Payable to affiliates 12,423
-----------
NET ASSETS $19,196,912
===========
Net Assets consist of:
Paid-in capital $18,666,066
Accumulated undistributed net realized gain on investments 46,205
Net unrealized appreciation on investments 484,641
-----------
NET ASSETS, for 1,818,405 shares outstanding $19,196,912
===========
NET ASSET VALUE and redemption price per share $ 10.56
===========
Maximum offering price per share (includes maximum sales
charge of 4.5% reduced on purchases of $50,000 or more) $ 11.06
===========
</TABLE>
See accompanying notes.
8
<PAGE>
State Bond Minnesota Tax-Free Income Fund
Statement of Operations
Year Ended June 30, 1996
<TABLE>
<CAPTION>
<S> <C>
INVESTMENT INCOME
Interest $1,135,500
EXPENSES
Investment advisory and management fees 113,090
Rule 12b-1 plan fees 47,121
Professional fees 16,868
Printing expenses 8,069
Transfer agent fees 7,625
Accounting and custodian fees 18,684
Other expenses 9,666
----------
Total expenses before reimbursement 221,123
Less: expense reimbursement (32,639)
----------
Net expenses 188,484
----------
Net investment income 947,016
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS
Net realized gain on investments 53,432
Change in unrealized appreciation on investments (128,527)
----------
Net loss on investments (75,095)
----------
Net increase in net assets resulting from operations $ 871,921
==========
</TABLE>
See accompanying notes.
9
<PAGE>
State Bond Minnesota Tax-Free Income Fund
Statement of Changes in Net Assets
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
1996 1995
---------------------------
<S> <C> <C>
INCREASE (DECREASE) IN NET ASSETS
Operations:
Net investment income $ 947,016 $ 945,895
Net realized gain on investments 53,432 27,592
Change in net unrealized appreciation (128,527) 268,408
---------------------------
Net increase in net assets resulting from
operations 871,921 1,241,895
Distributions to shareholders from:
Net investment income (947,016) (945,895)
Net realized gain (34,819) -
---------------------------
Total distributions to shareholders (981,835) (945,895)
Capital share transactions:
Proceeds from sales of shares 1,508,207 3,233,318
Proceeds from reinvested distributions 911,416 675,610
Cost of shares redeemed (1,290,750) (2,512,546)
---------------------------
Net increase in net assets resulting from share
transactions 1,128,873 1,396,382
---------------------------
Total increase in net assets 1,018,959 1,692,382
NET ASSETS
Beginning of year 18,177,953 16,485,571
---------------------------
End of year $19,196,912 $18,177,953
===========================
OTHER INFORMATION
Shares:
Sold 141,624 311,971
Issued through reinvestment of distributions 85,112 65,014
Redeemed (121,469) (241,814)
---------------------------
Net increase 105,267 135,171
===========================
</TABLE>
See accompanying notes.
10
<PAGE>
State Bond Minnesota Tax-Free Income Fund
Financial Highlights
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------------------------
1996 1995 1994 1993 1992
-------------------------------------------------
<S> <C> <C> <C> <C> <C>
SELECTED PER-SHARE DATA
Net asset value, beginning of year $ 10.61 $ 10.45 $ 10.94 $ 10.49 $ 10.18
Income from investment operations:
Net investment income .53 .56 .56 .59 .61
Net realized and unrealized gain
(loss) on investments (.03) .16 (.47) .45 .33
-------------------------------------------------
Total from investment operations .50 .72 .09 1.04 .94
Less distributions:
From net investment income (.53) (.56) (.56) (.59) (.61)
From net realized gain (.02) (.02) (.02)
-------------------------------------------------
Total distributions (.55) (.56) (.58) (.59) (.63)
-------------------------------------------------
Net asset value, end of year $ 10.56 $ 10.61 $ 10.45 $ 10.94 $ 10.49
=================================================
TOTAL RETURN (A) 4.78% 7.10% 0.79% 10.06% 9.47%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year
(in thousands) $19,197 $18,178 $16,486 $15,318 $12,244
Ratio of expenses to average net assets
1.00% 1.00% 1.00% 1.00% 1.00%
Ratio of net investment income to
average net assets 5.02% 5.37% 5.14% 5.41% 5.86%
Ratio of expenses to average net assets
before voluntary expense reimbursement
(Note 2) 1.17% 1.24% 1.29% 1.38% 1.54%
Ratio of net investment income to
average net assets before voluntary
expense reimbursement (Note 2) 4.85% 5.10% 4.87% 5.02% 5.32%
Portfolio turnover rate 13% 6% 2% 15% 1%
</TABLE>
(A) Total returns do not consider the effects of the one time sales charge.
11
<PAGE>
State Bond Minnesota Tax-Free Income Fund
Notes to Financial Statements
June 30, 1996
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
The State Bond Minnesota Tax-Free Income Fund (the "Fund") is the only
investment portfolio of State Bond Tax-Free Income Funds, Inc., which is
registered under the Investment Company Act of 1940, as amended, as an open-end
management investment company. The primary investment objective of the Fund is
to maximize current income exempt from both Federal income tax and Minnesota
personal income tax to the extent consistent with the preservation of capital,
with consideration given to the opportunity for capital gains by investing in
tax-exempt securities. The ability of the issuers of the securities held by the
Fund to meet their obligations may be affected by economic developments in
Minnesota or a specific industry or region.
ARM Financial Group, Inc. ("ARM") completed the acquisition of substantially all
of the assets and business operations of SBM Company ("SBM") on June 14, 1995.
As part of this acquisition, ARM Capital Advisors, Inc. ("ARM Capital
Advisors"), a subsidiary of ARM, assumed the responsibilities of SBM as manager
of the Fund. The Investment Advisory and Management Agreement between the Fund
and ARM Capital Advisors contains the same material terms and conditions
(including the fees payable to ARM Capital Advisors) as were contained in the
Fund"s prior Investment Advisory and Management Agreement with SBM.
As part of the acquisition, ARM acquired all of the issued and outstanding
common stock of SBM Financial Services, Inc. ("SBM Financial Services"), the
Fund's distributor. Effective February 1, 1996, ARM Transfer Agency, Inc. ("ARM
Transfer Agency") replaced SBM Financial Services as transfer agent for the
Fund. ARM Transfer Agency assumed SBM Financial Services' responsibility
pursuant to a transfer agency agreement with the Fund. ARM Transfer Agency is a
wholly-owned subsidiary of ARM.
BASIS OF PRESENTATION
The accompanying financial statements have been prepared in accordance with
generally accepted accounting principles for investment companies.
12
<PAGE>
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INVESTMENTS IN SECURITIES
Investment securities are stated at aggregate market values. Market valuations
are furnished by a pricing service approved by the Board of Directors. The
pricing service values portfolio securities which have remaining maturities of
more than 60 days from the date of valuation at quoted bid prices. Such
securities for which quotations are not readily available (which constitute a
majority of the Fund's portfolio securities) are valued at fair value as
determined by the pricing service. Securities which have remaining maturities of
60 days or less and short-term securities are valued at amortized cost which
approximates market value. The procedures of the pricing service and its
valuations are reviewed by the officers of the Fund under the general
supervision of the Board of Directors.
Security transactions are accounted for on trade date, and interest income is
recorded on the accrual basis. Realized gains or losses from investment
transactions are determined on the basis of specific identification.
At June 30, 1996, net unrealized appreciation on a federal income tax basis was
$484,641, which is comprised of unrealized appreciation of $608,832 and
unrealized depreciation of $124,191 for tax purposes.
INCOME TAX STATUS AND RELATED MATTERS
The Fund complied with the requirements of the Internal Revenue Code applicable
to regulated investment companies and distributed its taxable net investment
income and net realized gains. Therefore, no provision for federal income or
state income tax is required.
The Fund hereby designates $34,819 as capital gain dividends attributable to the
fiscal year ended June 30, 1996 for the purpose of the dividend paid deduction
in the Fund's federal income tax returns.
DISTRIBUTIONS TO SHAREHOLDERS
Exempt interest dividends from net investment income are declared daily and
distributed monthly. Distributions from net realized investment gains, if any,
are declared at least once a year. Dividends and distributions are recorded on
the ex-dividend date.
13
<PAGE>
State Bond Minnesota Tax-Free Income Fund
Notes to Financial Statements (continued)
2. INVESTMENT ADVISORY AGREEMENT AND PAYMENTS TO RELATED PARTIES
ARM Capital Advisors is the Fund's investment adviser. The investment advisory
fee is computed at the annual rate of .85% on the first $100,000,000 of average
daily net assets of the Fund and .80% on the average daily net assets in excess
of $100,000,000. Included in the investment advisory fee is .25% of the average
daily net assets which ARM Capital Advisors pays to SBM Financial Services under
a Rule 12b-1 plan of share distribution. ARM Capital Advisors has voluntarily
undertaken to reimburse the Fund for any expenses in excess of 1% of the average
daily net assets despite the fact that higher expenses may be permitted by state
law.
Fees paid to SBM Financial Services for underwriting services in connection with
sales of the Fund's capital shares aggregated $54,284 for the fiscal year ended
June 30, 1996. Such fees are not an expense of the Fund and are excluded from
the proceeds received by the Fund for sales of its capital shares as shown in
the accompanying statement of changes in net assets.
Certain officers and directors of the Fund are also officers of ARM, ARM Capital
Advisors, ARM Transfer Agency, and SBM Financial Services.
3. PURCHASES AND SALES OF SECURITIES
Aggregate purchases and proceeds from sales of securities, excluding short-term
investments, during the fiscal year ended June 30, 1996, amounted to $3,820,407
and $2,371,746, respectively.
4. CAPITAL SHARES
At June 30, 1996, the Fund had authority to issue ten billion shares of common
stock, with a par value of $.00001 each.
14
<PAGE>
Report of Independent Auditors
The Board of Directors and Shareholders
State Bond Minnesota Tax-Free Income Fund
We have audited the accompanying statement of assets and liabilities including
the schedule of investments of the State Bond Minnesota Tax-Free Income Fund
(the "Fund") as of June 30, 1996 and the related statement of operations for the
year then ended and changes in net assets and financial highlights for each of
the two years in the period then ended. These financial statements and financial
highlights are the responsibility of the Fund's management. Our responsibility
is to express an opinion on these financial statements and financial highlights
based on our audits. The financial highlights for the three years ended June 30,
1994 of the State Bond Minnesota Tax-Free Income Fund were audited by other
auditors whose report dated July 29, 1994 expressed an unqualified opinion.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned at June 30,
1996, by correspondence with the custodian. As to uncompleted securities
transactions, we performed other auditing procedures. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of the
State Bond Minnesota Tax-Free Income Fund at June 30, 1996, and the results of
its operations for the year then ended, and changes in its net assets and
financial highlights for each of the two years in the period then ended, in
conformity with generally accepted accounting principles.
/s/ Ernst & Young LLP
Kansas City, Missouri
August 9, 1996
15
<PAGE>
BOARD OF DIRECTORS
William B. Faulkner
President, William Faulkner & Associates, Inc.
Director, State Bond mutual funds
John Katz
Executive Vice President, Equitable Investment Corporation, retired 1991
Director, State Bond mutual funds
John R. Lindholm
Executive Vice President, ARM Financial Group, Inc.
Chairman, State Bond mutual funds
Chris L. Mahai
Senior Vice President, Strategic Integration, Star Tribune
Director, State Bond mutual funds
Theodore S. Rosky
Executive Vice President and Chief Financial Officer,
Providian Corporation, retired 1992
Director, State Bond mutual funds
----------------------
INVESTMENT ADVISER
ARM Capital Advisors, Inc.
GENERAL DISTRIBUTOR
SBM Financial Services, Inc.
100 North Minnesota Street
P.O. Box 69
New Ulm, Minnesota 56073-0069
1-800-328-4735
CUSTODIAN
Investors Fiduciary Trust Company
Kansas City, Missouri
----------------------
This report is intended for the general information of the shareholders of the
Fund. It is not authorized for distribution to prospective investors unless
accompanied or preceded by the offering prospectus of the Fund, which contains
details of sales commissions and other information.
Catalog #001724(8/96)
