<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON NOVEMBER 6, 1998
SECURITIES ACT FILE NO. 33-35987 INVESTMENT COMPANY ACT FILE NO. 811-4375
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM N-1A
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 [X]
PRE-EFFECTIVE AMENDMENT NO. [_]
[X]
POST-EFFECTIVE AMENDMENT NO. 8
AND/OR
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 [X]
[X]
AMENDMENT NO. 166
(Check appropriate box or boxes)
----------------
MERRILL LYNCH MASSACHUSETTS MUNICIPAL BOND FUND
OF MERRILL LYNCH MULTI-STATE MUNICIPAL SERIES TRUST
(Exact Name of Registrant as Specified in Charter)
<TABLE>
<S> <C>
800 SCUDDERS MILL ROAD
PLAINSBORO, NEW JERSEY 08536
(Address of Principal Executive Office) (Zip Code)
</TABLE>
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (609) 282-2800
ARTHUR ZEIKEL MERRILL LYNCH MULTI-STATE MUNICIPAL SERIES TRUST 800 SCUDDERS
MILL ROAD, PLAINSBORO, NEW JERSEY MAILING ADDRESS: P.O. BOX 9011, PRINCETON,
NEW JERSEY 08543-9011
(Name and Address of Agent for Service)
----------------
COPIES TO:
COUNSEL FOR THE TRUST:
BROWN & WOOD LLP MICHAEL J. HENNEWINKEL, ESQ.
ONE WORLD TRADE CENTER MERRILL LYNCH ASSET MANAGEMENT
P.O. BOX 9011
NEW YORK, NEW YORK 10048-0557 PRINCETON, NEW JERSEY 08543-9011
ATTENTION: THOMAS R. SMITH, JR., ESQ.
----------------
IT IS PROPOSED THAT THIS FILING WILL BECOME EFFECTIVE (CHECK APPROPRIATE BOX)
[X] immediately upon filing pursuant to paragraph (b)
[_] on (date) pursuant to paragraph (b)
[_] 60 days after filing pursuant to paragraph (a)(1)
[_] on (date) pursuant to paragraph (a)(1)
[_] 75 days after filing pursuant to paragraph (a)(2)
[_] on (date) pursuant to paragraph (a)(2) of Rule 485.
IF APPROPRIATE, CHECK THE FOLLOWING BOX:
[_] this post-effective amendment designates a new
effective date for a previously filed post-effective
amendment.
TITLE OF SECURITIES BEING REGISTERED: SHARES OF BENEFICIAL INTEREST, PAR VALUE
$.10 PER SHARE.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
PROSPECTUS
NOVEMBER 6, 1998
MERRILL LYNCH MASSACHUSETTS MUNICIPAL BOND FUND
OF MERRILL LYNCH MULTI-STATE MUNICIPAL SERIES TRUST
P.O. BOX 9011, PRINCETON, NEW JERSEY 08543-9011 . PHONE NO. (609) 282-2800
Merrill Lynch Massachusetts Municipal Bond Fund (the "Fund") is a mutual
fund that seeks to provide shareholders with as high a level of income exempt
from Federal income tax and Massachusetts personal income taxes as is
consistent with prudent investment management. The Fund invests primarily in a
non-diversified portfolio of long-term, investment grade obligations issued by
or on behalf of The Commonwealth of Massachusetts, its political subdivisions,
agencies and instrumentalities and obligations of other qualifying issuers,
such as issuers located in Puerto Rico, the U.S. Virgin Islands and Guam,
which pay interest exempt from Federal income tax and Massachusetts personal
income taxes ("Massachusetts Municipal Bonds"). Dividends paid by the Fund are
exempt from Federal income tax and Massachusetts personal income taxes to the
extent they are paid from interest on Massachusetts Municipal Bonds. The Fund
may invest in certain tax-exempt securities classified as "private activity
bonds" that may subject certain investors in the Fund to an alternative
minimum tax. At times, the Fund may seek to hedge its portfolio through the
use of futures transactions and options. There can be no assurance that the
investment objective of the Fund will be realized. For more information on the
Fund's investment objective and policies, please see "Investment Objective and
Policies" on page 11.
----------------
Pursuant to the Merrill Lynch Select Pricing SM System, the Fund offers four
classes of shares, each with a different combination of sales charges, ongoing
fees and other features. The Merrill Lynch Select Pricing SM System permits an
investor to choose the method of purchasing shares that the investor believes
is most beneficial given the amount of the purchase, the length of time the
investor expects to hold the shares and other relevant circumstances. See
"Merrill Lynch Select Pricing SM System" on page 4.
Shares may be purchased directly from Merrill Lynch Funds Distributor (the
"Distributor"), a division of Princeton Funds Distributor, Inc. ("PFD"),
P.O. Box 9081, Princeton, New Jersey 08543-9081 [(609) 282-2800], and other
securities dealers which have entered into selected dealer agreements with the
Distributor, including Merrill Lynch, Pierce, Fenner & Smith Incorporated
("Merrill Lynch"). The minimum initial purchase is $1,000 and the minimum
subsequent purchase is $50 except that for participants in certain fee-based
programs the minimum initial purchase is $250 and the minimum subsequent
purchase is $50. Merrill Lynch may charge its customers a processing fee
(presently $5.35) for confirming purchases and repurchases. Purchases and
redemptions made directly through Financial Data Services, Inc. (the "Transfer
Agent") are not subject to the processing fee. See "Purchase of Shares" and
"Redemption of Shares."
----------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES
AND EXCHANGE COMMISSION NOR HAS THE COMMISSION PASSED UPON THE ACCU-
RACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
----------------
This Prospectus is a concise statement of information about the Fund that is
relevant to making an investment in the Fund. This Prospectus should be
retained for future reference. A statement containing additional information
about the Fund, dated November 6, 1998 (the "Statement of Additional
Information"), has been filed with the Securities and Exchange Commission (the
"Commission") and is available, without charge, by calling or by writing
Merrill Lynch Multi-State Municipal Series Trust (the "Trust") at the above
telephone number or address. The Commission maintains a Web site
(http://www.sec.gov) that contains the Statement of Additional Information,
material incorporated by reference and other information regarding the Fund.
The Statement of Additional Information is hereby incorporated by reference
into this Prospectus. The Fund is a separate series of the Trust, an open-end
management investment company organized as a Massachusetts business trust.
----------------
FUND ASSET MANAGEMENT -- MANAGER
MERRILL LYNCH FUNDS DISTRIBUTOR -- DISTRIBUTOR
<PAGE>
FEE TABLE
A general comparison of the sales arrangements and other nonrecurring and
recurring expenses applicable to shares of the Fund follows:
<TABLE>
<CAPTION>
CLASS A(a) CLASS B(b) CLASS C CLASS D
---------- ---------- ------------ -------
<S> <C> <C> <C> <C>
SHAREHOLDER TRANS-
ACTION EXPENSES:
Maximum Sales
Charge Imposed
on Purchases (as
a percentage of
offering price). 4.00%(c) None None 4.00%(c)
Sales Charge
Imposed on
Dividend
Reinvestments... None None None None
Deferred Sales
Charge (as a
percentage of
originalpurchase
price or
redemption
proceeds, which-
ever is lower).. None(d) 4.0% during the first 1.0% for one None(d)
year, decreasing 1.0% year(f)
annually thereafter to
0.0% after the fourth
year(e)
Exchange Fee..... None None None None
ANNUAL FUND OPER-
ATING EXPENSES
(AS A PERCENTAGE
OF AVERAGE NET
ASSETS):
Management
Fees(g)......... 0.55% 0.55% 0.55% 0.55%
Rule 12b-1
Fees(h):
Account Mainte-
nance Fees...... None 0.25% 0.25% 0.10%
Distribution
Fees............ None 0.25% 0.35% None
(Class B shares convert
to Class D shares auto-
matically after approx-
imately ten years and
cease being subject to
distribution fees and
are subject to lower
account maintenance
fees)
Other Expenses:
Shareholder Ser-
vicing Costs(i). 0.03% 0.04% 0.04% 0.03%
Other............ 0.28% 0.28% 0.28% 0.28%
----- ----- ----- -----
Total Other Ex-
penses......... 0.31% 0.32% 0.32% 0.31%
----- ----- ----- -----
Total Fund
Operating
Expenses........ 0.86% 1.37% 1.47% 0.96%
===== ===== ===== =====
</TABLE>
- --------
(a) Class A shares are sold to a limited group of investors including existing
Class A shareholders and participants in certain fee-based programs. See
"Purchase of Shares--Initial Sales Charge Alternatives--Class A and Class
D Shares"--page 25 and "Shareholder Services--Fee-Based Programs"--page
36.
(b) Class B shares convert to Class D shares automatically approximately ten
years after initial purchase. See "Purchase of Shares--Deferred Sales
Charge Alternatives--Class B and Class C Shares"--page 26.
(c) Reduced for purchases of $25,000 and over and waived for purchases of
Class A shares by participants in connection with certain fee-based
programs. Class A and Class D purchases of $1,000,000 or more may not be
subject to an initial sales charge. See "Purchase of Shares--Initial Sales
Charge Alternatives--Class A and Class D Shares"--page 25.
(d) Class A and Class D shares are not subject to a contingent deferred sales
charge ("CDSC"), except that certain purchases of $1,000,000 or more are
not subject to an initial sales charge may instead be subject to a CDSC of
1.0% of amounts redeemed within the first year after purchase. Such CDSC
may be waived in connection with certain fee-based programs. See
"Shareholder Services--Fee-Based Programs"--page 36.
(Footnotes continued on next page)
2
<PAGE>
(e) The CDSC may be modified in connection with certain fee-based programs.
See "Shareholder Services--Fee-Based Programs"--page 36.
(f) The CDSC may be waived in connection with certain fee-based programs. See
"Shareholder Services--Fee-Based Programs"--page 36.
(g) See "Management of the Trust--Management and Advisory Arrangements"--page
21.
(h) See "Purchase of Shares--Distribution Plans"--page 29.
(i) See "Management of the Trust--Transfer Agency Services"--page 22.
EXAMPLE:
<TABLE>
<CAPTION>
CUMULATIVE EXPENSES PAID FOR THE PERIOD OF:
--------------------------------------------------
1 YEAR 3 YEARS 5 YEARS 10 YEARS
---------- ---------- ---------- -----------
<S> <C> <C> <C> <C>
An investor would pay the
following expenses on a
$1,000 investment
including the maximum $40
initial sales charge
(Class A and Class D
shares only) and assuming
(1) the Total Fund
Operating Expenses for
each class set forth on
page 2, (2) a 5% annual
return throughout the
periods and (3) redemption
at the end of the period
(including any applicable
CDSC for Class B and Class
C shares):
Class A.................. $48 $66 $86 $142
Class B.................. $54 $63 $75 $165
Class C.................. $25 $46 $80 $176
Class D.................. $49 $69 $91 $153
An investor would pay the
following expenses on the
same $1,000 investment
assuming no redemption at
the end of the period:
Class A.................. $48 $66 $86 $142
Class B.................. $14 $43 $75 $165
Class C.................. $15 $46 $80 $176
Class D.................. $49 $69 $91 $153
</TABLE>
The foregoing Fee Table is intended to assist investors in understanding the
costs and expenses that a shareholder in the Fund will bear directly or
indirectly. The Example set forth above assumes reinvestment of all dividends
and distributions and utilizes a 5% annual rate of return as mandated by
Commission regulations. THE EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION
OF PAST OR FUTURE EXPENSES OR ANNUAL RATES OF RETURN, AND ACTUAL EXPENSES OR
ANNUAL RATES OF RETURN MAY BE MORE OR LESS THAN THOSE ASSUMED FOR PURPOSES OF
THE EXAMPLE. Class B and Class C shareholders who hold their shares for an
extended period of time may pay more in Rule 12b-1 distribution fees than the
economic equivalent of the maximum front-end sales charge permitted under the
Conduct Rules of the National Association of Securities Dealers, Inc. (the
"NASD"). Merrill Lynch may charge its customers a processing fee (presently
$5.35) for confirming purchases and repurchases. Purchases and redemptions
made directly through the Transfer Agent are not subject to the processing
fee. See "Purchase of Shares" and "Redemption of Shares."
3
<PAGE>
MERRILL LYNCH SELECT PRICING SM SYSTEM
The Fund offers four classes of shares under the Merrill Lynch Select
Pricing SM System. The shares of each class may be purchased at a price equal
to the next determined net asset value per share subject to the sales charges
and ongoing fee arrangements described below. Shares of Class A and Class D
are sold to investors choosing the initial sales charge alternatives, and
shares of Class B and Class C are sold to investors choosing the deferred
sales charge alternatives. The Merrill Lynch Select Pricing SM System is used
by more than 50 registered investment companies advised by Merrill Lynch Asset
Management, L.P. ("MLAM") or Fund Asset Management, L.P. ("FAM" or the
"Manager"), an affiliate of MLAM. Funds advised by MLAM or FAM that utilize
the Merrill Lynch Select Pricing SM System are referred to herein as "MLAM-
advised mutual funds."
Each Class A, Class B, Class C or Class D share of the Fund represents an
identical interest in the investment portfolio of the Fund and has the same
rights, except that Class B, Class C and Class D shares bear the expenses of
the ongoing account maintenance fees and Class B and Class C shares bear the
expenses of the ongoing distribution fees and the additional incremental
transfer agency costs resulting from the deferred sales charge arrangements.
The CDSCs, distribution and account maintenance fees that are imposed on Class
B and Class C shares, as well as the account maintenance fees that are imposed
on Class D shares, are imposed directly against those classes and not against
all assets of the Fund and, accordingly, such charges will not affect the net
asset value of any other class or have any impact on investors choosing
another sales charge option. Dividends paid by the Fund for each class of
shares will be calculated in the same manner at the same time and will differ
only to the extent that account maintenance and distribution fees and any
incremental transfer agency costs relating to a particular class are borne
exclusively by that class. Each class has different exchange privileges. See
"Shareholder Services--Exchange Privilege."
Investors should understand that the purpose and function of the initial
sales charges with respect to the Class A and Class D shares are the same as
those of the CDSCs and distribution fees with respect to the Class B and Class
C shares in that the sales charges and distribution fees applicable to each
class provide for the financing of the distribution of the shares of the Fund.
The distribution-related revenues paid with respect to a class will not be
used to finance the distribution expenditures of another class. Sales
personnel may receive different compensation for selling different classes of
shares.
The following table sets forth a summary of the distribution arrangements
for each class of shares under the Merrill Lynch Select Pricing SM System,
followed by a more detailed description of each class and a discussion of the
factors that investors should consider in determining the method of purchasing
shares under the Merrill Lynch Select Pricing SM System that the investor
believes is most beneficial under his particular circumstances. More detailed
information as to each class of shares is set forth under "Purchase of
Shares."
4
<PAGE>
<TABLE>
<CAPTION>
ACCOUNT
MAINTENANCE DISTRIBUTION
CLASS SALES CHARGE(/1/) FEE FEE CONVERSION FEATURE
- ---------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
A Maximum 4.00% initial No No No
sales charge(/2/)(/3/)
- ---------------------------------------------------------------------------------------
B CDSC for a period of four years, 0.25% 0.25% B shares convert to
at a rate of 4.0% during the D shares automatically
first year, decreasing 1.0% after approximately
annually to 0.0%(/4/) ten years(/5/)
- ---------------------------------------------------------------------------------------
C 1.0% CDSC for one year(/6/) 0.25% 0.35% No
- ---------------------------------------------------------------------------------------
D Maximum 4.00% initial 0.10% No No
sales charge(/3/)
</TABLE>
- --------
(1) Initial sales charges are imposed at the time of purchase as a percentage
of the offering price. CDSCs are imposed if the redemption occurs within
the applicable CDSC time period. The charge will be assessed on an amount
equal to the lesser of the proceeds of redemption or the cost of the
shares being redeemed.
(2) Offered only to eligible investors. See "Purchase of Shares--Initial Sales
Charge Alternatives--Class A and Class D Shares--Eligible Class A
Investors."
(3) Reduced for purchases of $25,000 or more and waived for purchases of Class
A shares by participants in connection with certain fee-based programs.
Class A and Class D share purchases of $1,000,000 or more may not be
subject to an initial sales charge but instead may be subject to a 1.0%
CDSC if redeemed within one year. Such CDSC may be waived in connection
with certain fee-based programs. See "Class A" and "Class D" below.
(4) The CDSC may be modified in connection with certain fee-based programs.
(5) The conversion period for dividend reinvestment shares and certain fee-
based programs may differ. See "Purchase of Shares--Deferred Sales Charge
Alternatives--Class B and Class C Shares--Conversion of Class B Shares to
Class D Shares." Also, Class B shares of certain other MLAM-advised mutual
funds into which exchanges may be made have an eight year conversion
period. If Class B shares of the Fund are exchanged for Class B shares of
another MLAM-advised mutual fund, the conversion period applicable to the
Class B shares acquired in the exchange will apply, and the holding period
for the shares exchanged will be tacked onto the holding period for the
shares acquired.
(6) The CDSC may be waived in connection with certain fee-based programs.
Class A: Class A shares incur an initial sales charge when they are purchased
and bear no ongoing distribution or account maintenance fees. Class A
shares are offered to a limited group of investors and also will be
issued upon reinvestment of dividends on outstanding Class A shares.
Investors that currently own Class A shares of the Fund in a
shareholder account are entitled to purchase additional Class A
shares of the Fund in that account. Other eligible investors include
participants in certain fee-based programs. In addition, Class A
shares will be offered at net asset value to Merrill Lynch & Co.,
Inc. ("ML & Co.") and its subsidiaries (the term "subsidiaries," when
used herein with respect to ML & Co., includes MLAM, the Manager and
certain other entities directly or indirectly wholly owned and
controlled by ML & Co.) and their directors and employees, and to
members of the Boards of MLAM-advised mutual funds. The maximum
initial sales charge of 4.00% is reduced for purchases of $25,000 and
over and waived for purchases by participants in connection with
certain fee-based programs. Purchases of $1,000,000 or more may not
be subject to an initial sales charge, but if the initial sales
charge is waived, such purchases may be subject to a 1.0% CDSC if the
shares are redeemed within one year after purchase. Such CDSC may be
waived in connection with redemptions to fund participation in
certain fee-based programs. Sales charges also are reduced under a
right of
5
<PAGE>
accumulation that takes into account the investor's holdings of all
classes of all MLAM-advised mutual funds. See "Purchase of Shares--
Initial Sales Charge Alternatives--Class A and Class D Shares."
Class B: Class B shares do not incur a sales charge when they are purchased,
but they are subject to an ongoing account maintenance fee of 0.25%
and an ongoing distribution fee of 0.25% of the Fund's average net
assets attributable to Class B shares, as well as a CDSC if they are
redeemed within four years of purchase. Such CDSC may be modified in
connection with certain fee-based programs. Approximately ten years
after issuance, Class B shares will convert automatically into Class
D shares of the Fund, which are subject to a lower account
maintenance fee of 0.10% and no distribution fee; Class B shares of
certain other MLAM-advised mutual funds into which exchanges may be
made convert into Class D shares automatically after approximately
eight years. If Class B shares of the Fund are exchanged for Class B
shares of another MLAM-advised mutual fund, the conversion period
applicable to the Class B shares acquired in the exchange will apply,
as will the Class D account maintenance fee of the acquired fund upon
the conversion, and the holding period for the shares exchanged will
be tacked on to the holding period for the shares acquired. Automatic
conversion of Class B shares into Class D shares will occur at least
once each month on the basis of the relative net asset values of the
shares of the two classes on the conversion date, without the
imposition of any sales load, fee or other charge. Conversion of
Class B shares to Class D shares will not be deemed a purchase or
sale of the shares for Federal income tax purposes. Shares purchased
through reinvestment of dividends on Class B shares also will convert
automatically to Class D shares. The conversion period for dividend
reinvestment shares is modified as described under "Purchase of
Shares--Deferred Sales Charge Alternatives--Class B and Class C
Shares--Conversion of Class B Shares to Class D Shares."
Class C: Class C shares do not incur a sales charge when they are purchased,
but they are subject to an ongoing account maintenance fee of 0.25%
and an ongoing distribution fee of 0.35% of the Fund's average net
assets attributable to Class C shares. Class C shares are also
subject to a CDSC of 1.0% if they are redeemed within one year after
purchase. Such CDSC may be waived in connection with certain fee-
based programs. Although Class C shares are subject to a CDSC for
only one year (as compared to four years for Class B shares), Class C
shares have no conversion feature and, accordingly, an investor who
purchases Class C shares will be subject to account maintenance fees
and higher distribution fees that will be imposed on Class C shares
for an indefinite period subject to annual approval by the Trust's
Board of Trustees and regulatory limitations.
Class D: Class D shares incur an initial sales charge when they are purchased
and are subject to an ongoing account maintenance fee of 0.10% of the
Fund's average net assets attributable to Class D shares. Class D
shares are not subject to an ongoing distribution fee or any CDSC
when they are redeemed. The maximum initial sales charge of 4.00% is
reduced for purchases of $25,000 and over. Purchases of $1,000,000 or
more may not be subject to an initial sales charge, but if the
initial sales charge is waived such purchases may be subject to a
CDSC of 1.0% if the shares are redeemed within one year after
purchase. Such CDSC may be waived in connection with certain fee-
based programs. The schedule of initial sales charges and reductions
for the Class D shares is the same as the schedule for Class A
shares, except that there is no waiver for purchases of Class D
shares in connection with certain fee-based programs. Class D shares
also will be issued upon conversion of Class B shares as described
above under "Class B." See "Purchase of Shares--Initial Sales Charge
Alternatives--Class A and Class D Shares."
6
<PAGE>
The following is a discussion of the factors that investors should consider
in determining the method of purchasing shares under the Merrill Lynch Select
Pricing SM System that the investor believes is most beneficial under his
particular circumstances.
Initial Sales Charge Alternatives. Investors who prefer an initial sales
charge alternative may elect to purchase Class D shares or, if an eligible
investor, Class A shares. Investors choosing the initial sales charge
alternative who are eligible to purchase Class A shares should purchase Class
A shares rather than Class D shares because there is an account maintenance
fee imposed on Class D shares. Investors qualifying for significantly reduced
initial sales charges may find the initial sales charge alternative
particularly attractive because similar sales charge reductions are not
available with respect to the CDSCs imposed in connection with purchases of
Class B or Class C shares. Investors not qualifying for reduced initial sales
charges who expect to maintain their investment for an extended period of time
also may elect to purchase Class A or Class D shares, because over time the
accumulated ongoing account maintenance and distribution fees on Class B or
Class C shares may exceed the initial sales charge and, in the case of Class D
shares, the account maintenance fee. Although some investors that previously
purchased Class A shares may no longer be eligible to purchase Class A shares
of other MLAM-advised mutual funds, those previously purchased Class A shares,
together with Class B, Class C and Class D share holdings, will count toward a
right of accumulation that may qualify the investor for reduced initial sales
charges on new initial sales charge purchases. In addition, the ongoing Class
B and Class C account maintenance and distribution fees will cause Class B and
Class C shares to have higher expense ratios, pay lower dividends and have
lower total returns than the initial sales charge shares. The ongoing Class D
account maintenance fees will cause Class D shares to have a higher expense
ratio, pay lower dividends and have a lower total return than Class A shares.
Deferred Sales Charge Alternatives. Because no initial sales charges are
deducted at the time of purchase, Class B and Class C shares provide the
benefit of putting all of the investor's dollars to work from the time the
investment is made. The deferred sales charge alternatives may be particularly
appealing to investors who do not qualify for a reduction in initial sales
charges. Both Class B and Class C shares are subject to ongoing account
maintenance fees and distribution fees; however, the ongoing account
maintenance and distribution fees potentially may be offset to the extent any
return is realized on the additional funds initially invested in Class B or
Class C shares. In addition, Class B shares will be converted into Class D
shares of the Fund after a conversion period of approximately ten years, and
thereafter investors will be subject to lower ongoing fees.
Certain investors may elect to purchase Class B shares if they determine it
to be most advantageous to have all their funds invested initially and intend
to hold their shares for an extended period of time. Investors in Class B
shares should take into account whether they intend to redeem their shares
within the CDSC period and, if not, whether they intend to remain invested
until the end of the conversion period and thereby take advantage of the
reduction in ongoing fees resulting from the conversion into Class D shares.
Other investors, however, may elect to purchase Class C shares if they
determine that it is advantageous to have all their assets invested initially
and they are uncertain as to the length of time they intend to hold their
assets in MLAM-advised mutual funds. Although Class C shareholders are subject
to a shorter CDSC period at a lower rate, they are subject to higher
distribution fees and forgo the Class B conversion feature, making their
investment subject to account maintenance and distribution fees for an
indefinite period of time. In addition, while both Class B and Class C
distribution fees are subject to the limitations on asset-based sales charges
imposed by the NASD, the Class B distribution fees are further limited under a
voluntary waiver of asset-based sales charges. See "Purchase of Shares--
Limitations on the Payment of Deferred Sales Charges."
7
<PAGE>
FINANCIAL HIGHLIGHTS
The financial information in the table below has been audited in connection
with the annual audits of the financial statements of the Fund by Deloitte &
Touche llp, independent auditors. Financial statements for the fiscal year
ended July 31, 1998 and the independent auditors' report thereon appear in the
annual report of the Fund for the fiscal year ended July 31, 1998 (the "Annual
Report"), and are incorporated by reference in the Statement of Additional
Information. The following per share data and ratios have been derived from
information provided in the Fund's audited financial statements. Further
information about the performance of the Fund is contained in the Fund's most
recent annual report to shareholders which may be obtained, without charge, by
calling or by writing the Trust at the telephone number or address on the
front cover of this Prospectus.
<TABLE>
<CAPTION>
CLASS A
------------------------------------------------------------
FOR THE
PERIOD
FEBRUARY 28,
FOR THE YEAR ENDED JULY 31, 1992+ TO
---------------------------------------------- JULY 31,
1998 1997 1996 1995 1994 1993 1992
------ ------ ------ ------ ------ ------ ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Increase (Decrease) in
Net Asset Value:
PER SHARE OPERATING
PERFORMANCE:
Net asset value,
beginning of period.... $11.07 $10.60 $10.46 $10.48 $11.07 $10.68 $10.00
------ ------ ------ ------ ------ ------ ------
Investment income --
net................... .56 .56 .56 .56 .58 .63 .25
Realized and unrealized
gain (loss) on
investments -- net..... .08 .47 .14 (.02) (.43) .42 .68
------ ------ ------ ------ ------ ------ ------
Total from investment
operations............. .64 1.03 .70 .54 .15 1.05 .93
------ ------ ------ ------ ------ ------ ------
Less dividends and
distributions:
Investment income --
net................... (.56) (.56) (.56) (.56) (.58) (.63) (.25)
Realized gain on
investments -- net..... -- -- -- -- (.15) (.03) --
In excess of realized
gain on investments --
net................... -- -- -- -- (.01) -- --
------ ------ ------ ------ ------ ------ ------
Total dividends and
distributions.......... (.56) (.56) (.56) (.56) (.74) (.66) (.25)
------ ------ ------ ------ ------ ------ ------
Net asset value, end of
period................. $11.15 $11.07 $10.60 $10.46 $10.48 $11.07 $10.68
====== ====== ====== ====== ====== ====== ======
TOTAL INVESTMENT
RETURN:**
Based on net asset value
per share.............. 5.92% 10.02% 6.78% 5.35% 1.26% 10.08% 9.44%#
====== ====== ====== ====== ====== ====== ======
RATIOS TO AVERAGE NET
ASSETS:
Expenses, net of
reimbursement.......... .86% .83% .84% .88% .62% .42% .12%*
====== ====== ====== ====== ====== ====== ======
Expenses................ .86% .83% .84% .91% .85% .95% 1.16%*
====== ====== ====== ====== ====== ====== ======
Investment income --
net................... 5.02% 5.22% 5.23% 5.42% 5.33% 5.75% 5.82%*
====== ====== ====== ====== ====== ====== ======
SUPPLEMENTAL DATA:
Net assets, end of
period
(in thousands)......... $5,705 $5,757 $5,887 $6,630 $8,367 $7,093 $4,828
====== ====== ====== ====== ====== ====== ======
Portfolio turnover...... 23.32% 24.64% 56.05% 89.62% 72.13% 39.37% 18.86%
====== ====== ====== ====== ====== ====== ======
</TABLE>
- --------
+ Commencement of Operations.
* Annualized.
** Total investment returns exclude the effects of sales loads.
# Aggregate total investment return.
8
<PAGE>
<TABLE>
<CAPTION>
CLASS B
------------------------------------------------------------------
FOR THE
PERIOD
FEBRUARY 28,
FOR THE YEAR ENDED JULY 31, 1992+ TO
---------------------------------------------------- JULY 31,
1998 1997 1996 1995 1994 1993 1992
------- ------- ------- ------- ------- ------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Increase (Decrease) in
Net Asset Value:
PER SHARE OPERATING
PERFORMANCE:
Net asset value,
beginning of period.... $ 11.07 $ 10.60 $ 10.46 $ 10.48 $ 11.07 $ 10.68 $ 10.00
------- ------- ------- ------- ------- ------- -------
Investment income --
net................... .50 .51 .51 .50 .53 .57 .23
Realized and unrealized
gain (loss) on
investments -- net..... .08 .47 .14 (.02) (.43) .42 .68
------- ------- ------- ------- ------- ------- -------
Total from investment
operations............. .58 .98 .65 .48 .10 .99 .91
------- ------- ------- ------- ------- ------- -------
Less dividends and
distributions:
Investment income --
net................... (.50) (.51) (.51) (.50) (.53) (.57) (.23)
Realized gain on
investments -- net..... -- -- -- -- (.15) (.03) --
In excess of realized
gain on investments --
net................... -- -- -- -- (.01) -- --
------- ------- ------- ------- ------- ------- -------
Total dividends and
distributions.......... (.50) (.51) (.51) (.50) (.69) (.60) (.23)
------- ------- ------- ------- ------- ------- -------
Net asset value, end of
period................. $ 11.15 $ 11.07 $ 10.60 $ 10.46 $ 10.48 $ 11.07 $ 10.68
======= ======= ======= ======= ======= ======= =======
TOTAL INVESTMENT
RETURN:**
Based on net asset value
per share.............. 5.38% 9.46% 6.23% 4.82% .75% 9.53% 9.22%#
======= ======= ======= ======= ======= ======= =======
RATIOS TO AVERAGE NET
ASSETS:
Expenses, net of
reimbursement.......... 1.37% 1.34% 1.35% 1.39% 1.12% .93% .62%*
======= ======= ======= ======= ======= ======= =======
Expenses................ 1.37% 1.34% 1.35% 1.42% 1.36% 1.45% 1.68%*
======= ======= ======= ======= ======= ======= =======
Investment income --
net................... 4.51% 4.71% 4.72% 4.91% 4.83% 5.24% 5.32%*
======= ======= ======= ======= ======= ======= =======
SUPPLEMENTAL DATA:
Net assets, end of
period
(in thousands)......... $51,255 $53,336 $59,868 $66,927 $76,436 $71,429 $38,947
======= ======= ======= ======= ======= ======= =======
Portfolio turnover...... 23.32% 24.64% 56.05% 89.62% 72.13% 39.37% 18.86%
======= ======= ======= ======= ======= ======= =======
</TABLE>
- --------
+ Commencement of Operations.
* Annualized.
** Total investment returns exclude the effects of sales loads.
# Aggregate total investment return.
9
<PAGE>
<TABLE>
<CAPTION>
CLASS C CLASS D
----------------------------------- -----------------------------------
FOR THE FOR THE
PERIOD PERIOD
FOR THE YEAR OCTOBER 21, FOR THE YEAR OCTOBER 21,
ENDED JULY 31, 1994+ TO ENDED JULY 31, 1994+ TO
---------------------- JULY 31, ---------------------- JULY 31,
1998 1997 1996 1995 1998 1997 1996 1995
------ ------ ------ ----------- ------ ------ ------ -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Increase (Decrease) in
Net Asset Value:
PER SHARE OPERATING
PERFORMANCE:
Net asset value,
beginning of period.... $11.06 $10.60 $10.46 $10.03 $11.07 $10.61 $10.47 $10.03
------ ------ ------ ------ ------ ------ ------ ------
Investment income --
net................... .49 .49 .49 .37 .55 .55 .55 .42
Realized and unrealized
gain on investments --
net................... .08 .46 .14 .43 .08 .46 .14 .44
------ ------ ------ ------ ------ ------ ------ ------
Total from investment
operations............. .57 .95 .63 .80 .63 1.01 .69 .86
------ ------ ------ ------ ------ ------ ------ ------
Less dividends from
investment income --
net................... (.49) (.49) (.49) (.37) (.55) (.55) (.55) (.42)
------ ------ ------ ------ ------ ------ ------ ------
Net asset value, end of
period................. $11.14 $11.06 $10.60 $10.46 $11.15 $11.07 $10.61 $10.47
====== ====== ====== ====== ====== ====== ====== ======
TOTAL INVESTMENT
RETURN:**
Based on net asset value
per share.............. 5.28% 9.25% 6.12% 8.13%# 5.82% 9.80% 6.67% 8.70%#
====== ====== ====== ====== ====== ====== ====== ======
RATIOS TO AVERAGE NET
ASSETS:
Expenses................ 1.47% 1.43% 1.45% 1.56%* .96% .93% .94% 1.04%*
====== ====== ====== ====== ====== ====== ====== ======
Investment income --
net................... 4.40% 4.63% 4.61% 4.68%* 4.91% 5.13% 5.12% 5.22%*
====== ====== ====== ====== ====== ====== ====== ======
SUPPLEMENTAL DATA:
Net assets, end of
period (in thousands).. $1,835 $1,495 $1,185 $ 432 $2,837 $1,602 $1,290 $ 750
====== ====== ====== ====== ====== ====== ====== ======
Portfolio turnover...... 23.32% 24.64% 56.05% 89.62% 23.32% 24.64% 56.05% 89.62%
====== ====== ====== ====== ====== ====== ====== ======
</TABLE>
- --------
+ Commencement of Operations.
* Annualized.
** Total investment returns exclude the effects of sales loads.
# Aggregate total investment return.
10
<PAGE>
INVESTMENT OBJECTIVE AND POLICIES
The investment objective of the Fund is to provide shareholders with as high
a level of income exempt from Federal income tax and Massachusetts personal
income taxes as is consistent with prudent investment management. The Fund
seeks to achieve its objective while providing investors with the opportunity
to invest in a portfolio of securities consisting primarily of long-term
obligations issued by or on behalf of The Commonwealth of Massachusetts, its
political subdivisions, agencies and instrumentalities and obligations of
other qualifying issuers, such as issuers located in Puerto Rico, the U.S.
Virgin Islands and Guam, which pay interest exempt, in the opinion of bond
counsel to the issuer, from Federal income tax and Massachusetts personal
income taxes. Obligations bearing interest exempt from Federal income taxes
are referred to herein as "Municipal Bonds" and obligations the interest on
which is exempt from both Federal income tax and Massachusetts personal income
taxes are referred to as "Massachusetts Municipal Bonds." Unless otherwise
indicated, reference to Municipal Bonds shall be deemed to include
Massachusetts Municipal Bonds. The Fund at all times, except during temporary
defensive periods, will maintain at least 65% of its total assets invested in
Massachusetts Municipal Bonds. The investment objective of the Fund as set
forth in the first sentence of this paragraph is a fundamental policy and may
not be changed without shareholder approval. At times, the Fund may seek to
hedge its portfolio through the use of futures transactions to reduce
volatility in the net asset value of Fund shares.
Municipal Bonds may include several types of bonds. The Fund may also invest
in variable rate demand obligations ("VRDOs"). The interest on Municipal Bonds
may bear a fixed rate or be payable at a variable or floating rate. At least
80% of the Municipal Bonds purchased by the Fund primarily will be what are
commonly referred to as "investment grade" securities, which are obligations
rated at the time of purchase within the four highest quality ratings as
determined by either Moody's Investors Service, Inc. ("Moody's") (currently
Aaa, Aa, A and Baa), Standard & Poor's ("Standard & Poor's") (currently AAA,
AA, A and BBB) or Fitch IBCA, Inc. ("Fitch") (currently AAA, AA, A and BBB).
If Municipal Bonds are unrated, such securities will possess creditworthiness
comparable, in the opinion of the Manager, to obligations in which the Fund
may invest. Bonds rated in the fourth highest rating category, while
considered "investment grade," have certain speculative characteristics and
are more likely to be downgraded to non-investment grade than obligations
rated in one of the top three rating categories. See Appendix II--"Ratings of
Municipal Bonds" in the Statement of Additional Information for more
information regarding ratings of debt securities. An issue of rated
Massachusetts Municipal Bonds may cease to be rated or its rating may be
reduced below "investment grade" subsequent to its purchase by the Fund. If an
obligation is downgraded below investment grade, the Manager will consider
factors such as price, credit risk, market conditions, financial condition of
the issuer and interest rates to determine whether to continue to hold the
obligation in the Fund's portfolio.
The Fund may invest up to 20% of its total assets in Municipal Bonds that
are rated below Baa by Moody's or below BBB by Standard & Poor's or Fitch, or
which in the Manager's judgment, possess similar credit characteristics. Such
securities, sometimes referred to as "high yield" or "junk" bonds, are
predominantly speculative with respect to the capacity to pay interest and
repay principal in accordance with the terms of the security and generally
involve a greater volatility of price than securities in higher rating
categories. The market prices of high-yielding, lower-rated securities may
fluctuate more than higher-rated securities and may decline significantly in
periods of general economic difficulty, which may follow periods of rising
interest rates. In purchasing such securities, the Fund will rely on the
Manager's judgment, analysis and experience in evaluating the creditworthiness
of the issuer of such securities. The Manager will take into consideration,
among other
11
<PAGE>
things, the issuer's financial resources, its sensitivity to economic
conditions and trends, its operating history, the quality of its management
and regulatory matters. See "Investment Objective and Policies" in the
Statement of Additional Information for a more detailed discussion of the
pertinent risk factors involved in investing in "high yield" or "junk" bonds
and Appendix II--"Ratings of Municipal Bonds" in the Statement of Additional
Information for additional information regarding ratings of debt securities.
The Fund does not intend to purchase debt securities that are in default or
which the Manager believes will be in default.
Certain Municipal Bonds may be entitled to the benefits of letters of credit
or similar credit enhancements issued by financial institutions. In such
instances, the Trustees and the Manager will take into account in assessing
the quality of such bonds not only the creditworthiness of the issuer of such
bonds but also the creditworthiness of the financial institution.
The Fund's investments may also include VRDOs and VRDOs in the form of
participation interests ("Participating VRDOs") in variable rate tax-exempt
obligations held by a financial institution. The VRDOs in which the Fund will
invest are tax-exempt obligations which contain a floating or variable
interest rate adjustment formula and an unconditional right of demand on the
part of the holder thereof to receive payment of the unpaid principal balance
plus accrued interest on a short notice period not to exceed seven days.
Participating VRDOs provide the Fund with a specified undivided interest (up
to 100%) of the underlying obligation and the right to demand payment of the
unpaid principal balance plus accrued interest on the Participating VRDOs from
the financial institution on a specified number of days' notice, not to exceed
seven days. There is, however, the possibility that because of a default or
insolvency, the demand feature of VRDOs or Participating VRDOs may not be
honored. The Fund has been advised by its counsel that the Fund should be
entitled to treat the income received on Participating VRDOs as interest from
tax-exempt obligations.
VRDOs that contain an unconditional right of demand to receive payment of
the unpaid principal balance plus accrued interest on a notice period
exceeding seven days may be deemed illiquid securities. A VRDO with a demand
notice period exceeding seven days will therefore be subject to the Fund's
restriction on illiquid investments unless, in the judgment of the Trustees,
such VRDO is liquid. The Trustees may adopt guidelines and delegate to the
Manager the daily function of determining and monitoring liquidity of such
VRDOs. The Trustees, however, will retain sufficient oversight and be
ultimately responsible for such determinations.
The Fund ordinarily does not intend to realize investment income not exempt
from Federal income tax and Massachusetts personal income taxes. However, to
the extent that suitable Massachusetts Municipal Bonds are not available for
investment by the Fund, the Fund may purchase Municipal Bonds issued by other
states, their agencies and instrumentalities, the interest income on which is
exempt, in the opinion of bond counsel, from Federal income tax, but not
Massachusetts personal income taxation. The Fund may also invest in securities
not issued by or on behalf of a state or territory or by an agency or
instrumentality thereof, if the Fund nevertheless believes such securities to
be exempt from Federal income taxation ("Non-Municipal Tax-Exempt
Securities"). Non-Municipal Tax-Exempt Securities may include securities
issued by other investment companies that invest in Municipal Bonds, to the
extent such investments are permitted by the Investment Company Act of 1940,
as amended (the "1940 Act"). Other Non-Municipal Tax-Exempt Securities could
include trust certificates or other instruments evidencing interests in one or
more long-term municipal securities.
12
<PAGE>
Under normal circumstances, except when acceptable securities are
unavailable as determined by the Manager, the Fund will invest at least 65% of
its total assets in Massachusetts Municipal Bonds. For temporary defensive
periods or to provide liquidity, the Fund has the authority to invest as much
as 35% of its total assets in tax-exempt or taxable money market obligations
with a maturity of one year or less (such short-term obligations being
referred to herein as "Temporary Investments"), except that taxable Temporary
Investments shall not exceed 20% of the Fund's net assets. The Temporary
Investments, VRDOs and Participating VRDOs in which the Fund may invest also
will be in the following rating categories at the time of purchase: MIG-
1/VMIG-1 through MIG-3/VMIG-3 for notes and VRDOs and Prime-1 through Prime-3
for commercial paper (as determined by Moody's), SP-1 or SP-2 for notes and A-
1 through A-3 for VRDOs and commercial paper (as determined by Standard &
Poor's), or F-1 through F-3 for notes, VRDOs and commercial paper (as
determined by Fitch) or, if unrated, of comparable quality in the opinion of
the Manager. The Fund at all times will have at least 80% of its net assets
invested in securities the interest on which is exempt from Federal taxation.
However, interest received on certain otherwise tax-exempt securities which
are classified as "private activity bonds" (in general, bonds that benefit
non-governmental entities), may be subject to a Federal alternative minimum
tax. The percentage of the Fund's net assets invested in "private activity
bonds" will vary during the year. See "Distributions and Taxes." In addition,
the Fund reserves the right to invest temporarily a greater portion of its
assets in Temporary Investments for defensive purposes, when, in the judgment
of the Manager, market conditions warrant. The Fund's hedging strategies,
which are described in more detail under "Financial Futures Transactions and
Options," are not fundamental policies and may be modified by the Trustees of
the Trust without the approval of the Fund's shareholders.
POTENTIAL BENEFITS
Investment in shares of the Fund offers several benefits. The Fund offers
investors the opportunity to receive income exempt from Federal income taxes
and Massachusetts personal income taxes by investing in a professionally
managed portfolio consisting primarily of long-term Massachusetts Municipal
Bonds. The Fund also provides liquidity because of its redemption features and
relieves the investor of the burdensome administrative details involved in
managing a portfolio of tax-exempt securities. The benefits of investing in
the Fund are at least partially offset by the expenses involved in operating
an investment company. Such expenses primarily consist of the management fee
and operational costs, and in the case of certain classes of shares, the
account maintenance and distribution costs.
RISK FACTORS AND SPECIAL CONSIDERATIONS RELATING TO MUNICIPAL BONDS
The risks and special considerations involved in investments in Municipal
Bonds vary with the types of instruments being acquired. Investments in Non-
Municipal Tax-Exempt Securities may present similar risks, depending on the
particular product. Certain instruments in which the Fund may invest may be
characterized as derivative instruments. See "Description of Municipal Bonds"
and "Financial Futures Transactions and Options."
Moreover, the Fund ordinarily will invest at least 65% of its total assets
in Massachusetts Municipal Bonds, and therefore it is more susceptible to
factors adversely affecting issuers of Massachusetts Municipal Bonds than is a
municipal bond mutual fund that is not concentrated in issuers of
Massachusetts Municipal Bonds to this degree. The Commonwealth of
Massachusetts is experiencing a strong and continued economic recovery. The
budgeted operating funds of Massachusetts ended fiscal 1994 with a surplus of
revenues and other sources
13
<PAGE>
over expenditures and other uses, and with aggregate ending fund balances of
approximately $589.3 million. Massachusetts ended fiscal 1995, 1996 and 1997
with positive closing fund balances of $726.0 million, $1.172 billion and
$1.394 billion, respectively. As of August 21, 1998 and according to the
Executive Office for Administration and Finance, fiscal 1998 is expected to
end with positive budgetary fund balances totaling approximately $2.075
billion. Currently, Massachusetts' general obligation bonds are rated by
Standard & Poor's, Fitch and Moody's as AA-, AA- and Aa3, respectively. From
time to time, the rating agencies may further change their ratings in response
to budgetary matters or other economic indicators.
The value of Municipal Bonds generally may be affected by uncertainties in
the municipal markets as a result of legislation or litigation changing the
taxation of Municipal Bonds or the rights of Municipal Bond holders in the
event of bankruptcy. Municipal bankruptcies are rare, and certain provisions
of the U.S. Bankruptcy Code governing such bankruptcies are unclear. Further,
the application of state law to Municipal Bond issuers could produce varying
results among the states or among Municipal Bond Issuers within a state. These
uncertainties could have a significant impact on the prices of the
Massachusetts Municipal Bonds or Municipal Bonds in which the Fund invests.
The Manager does not believe that the current economic conditions in
Massachusetts or other factors described above will have a significant adverse
effect on the Fund's ability to invest in high quality Massachusetts Municipal
Bonds. Because the Fund's portfolio will be comprised primarily of investment
grade securities, the Fund is expected to be less subject to market and credit
risks than a fund that invests primarily in lower quality Massachusetts
Municipal Bonds. See "Description of Municipal Bonds" in the Statement of
Additional Information and see also Appendix I--"Economic and Financial
Conditions in Massachusetts" in the Statement of Additional Information.
DESCRIPTION OF MUNICIPAL BONDS
Municipal Bonds include debt obligations issued to obtain funds for various
public purposes, including construction and equipping of a wide range of
public facilities (including water, sewer, gas, electricity, solid waste,
health care, transportation, education and housing facilities), refunding of
outstanding obligations and obtaining funds for general operating expenses and
loans to other public institutions and facilities. In addition, certain types
of bonds are issued by or on behalf of public authorities to finance various
privately operated facilities, including certain local facilities for water
supply, gas, electricity or sewage or solid waste disposal. For purposes of
this Prospectus, such obligations are referred to as Municipal Bonds if the
interest paid thereon is excluded from gross income for purposes of Federal
income taxation and, as Massachusetts Municipal Bonds if the interest thereon
is exempt from Federal income tax and exempt from Massachusetts personal
income tax, even though such bonds may be "private activity bonds" as
discussed below.
The two principal classifications of Municipal Bonds are "general
obligation" bonds and "revenue" bonds which latter category includes
industrial development bonds ("IDBs") and, for bonds issued after August 15,
1986, private activity bonds. General obligation bonds are secured by the
issuer's pledge of its faith, credit and taxing power for the payment of
principal and interest. The taxing power of any governmental entity may be
limited, however, by provisions of its state constitution or laws, and an
entity's creditworthiness will depend on many factors, including potential
erosion of the tax base due to population declines, natural disasters,
declines in the state's industrial base or inability to attract new
industries, economic limits on the ability to tax without eroding the tax
base, state legislative proposals or voter initiatives to limit ad valorem
real property taxes and the
14
<PAGE>
extent to which the entity relies on Federal or state aid, access to capital
markets or other factors beyond the state's or entity's control. Accordingly,
the capacity of the issuer of a general obligation bond as to the timely
payment of interest and the repayment of principal when due is affected by the
issuer's maintenance of its tax base.
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 payments from the
user of the facility being financed; accordingly, the timely payment of
interest and the repayment of
principal in accordance with the terms of the revenue or special obligation
bond is a function of the economic viability of such facility or such revenue
source.
The Fund may purchase IDBs and private activity bonds. IDBs and private
activity bonds are, in most cases, tax-exempt securities issued by states,
municipalities or public authorities to provide funds, usually through a loan
or lease arrangement, to a private entity for the purpose of financing
construction or improvement of a facility to be used by the entity. Such bonds
are secured primarily by revenues derived from loan repayments or lease
payments due from the entity which may or may not be guaranteed by a parent
company or otherwise secured. IDBs and private activity bonds are generally
not secured by a pledge of the taxing power of the issuer of such bonds.
Therefore, an investor should be aware that repayment of such bonds generally
depends on the revenues of a private entity and be aware of the risks that
such an investment may entail. Continued ability of an entity to generate
sufficient revenues for the payment of principal and interest on such bonds
will be affected by many factors including the size of the entity, capital
structure, demand for its products or services, competition, general economic
conditions, governmental regulation and the entity's dependence on revenues
for the operation of the particular facility being financed. The Fund may also
invest in so-called "moral obligation" bonds, which are normally issued by
special purpose authorities. If an issuer of moral obligation bonds is unable
to meet its obligations, repayment of such bonds becomes a moral commitment,
but not a legal obligation of the state or municipality in question.
The Fund may invest in Municipal Bonds (and Non-Municipal Tax-Exempt
Securities) the return on which is based on a particular index of value or
interest rates. For example, the Fund may invest in Municipal Bonds that pay
interest based on an index of Municipal Bond interest rates or based on the
value of gold or some other commodity. The principal amount payable upon
maturity of certain Municipal Bonds also may be based on the value of an
index. To the extent the Fund invests in these types of Municipal Bonds, the
Fund's return on such Municipal Bonds will be subject to risk with respect to
the value of the particular index. Interest and principal payable on the
Municipal Bonds may also be based on relative changes among particular
indices. Also, the Fund may invest in so-called "inverse floating obligations"
or "residual interest bonds" on which the interest rates typically decline as
short-term market rates increase and increase as short-term market rates
decline. The Fund's return on such types of Municipal Bonds (and Non-Municipal
Tax-Exempt Securities) will be subject to risk with respect to the value of
the particular index, which may include reduced or eliminated interest
payments and losses of invested principal. Such securities have the effect of
providing a degree of investment leverage, since they may increase or decrease
in value in response to changes, as an illustration, in market interest rates
at a rate which is a multiple (typically two) of the rate at which fixed-rate
long-term tax-exempt securities increase or decrease in response to such
changes. As a result, the market values of such securities will generally be
more volatile than the market values of fixed-rate tax-exempt securities. To
seek to limit the volatility of these securities, the Fund may purchase
inverse floating obligations with shorter-term maturities or which contain
limitations on the extent to which the interest rate may vary. Certain
investments in such obligations may be
15
<PAGE>
illiquid. The Fund may not invest in such illiquid obligations if such
investments, together with other illiquid investments, would exceed 15% of the
Fund's total assets. The Manager believes, however, that indexed and inverse
floating obligations represent flexible portfolio management instruments for
the Fund which allow the Fund to seek potential investment rewards, hedge
other portfolio positions or vary the degree of investment leverage relatively
efficiently under different market conditions.
Also included within the general category of Municipal Bonds are
participation certificates issued by government authorities or entities to
finance the acquisition or construction of equipment, land and/or facilities.
The certificates represent participations in a lease, an installment purchase
contract or a conditional sales contract (hereinafter collectively called
"lease obligations") relating to such equipment, land or facilities. Although
lease obligations do not constitute general obligations of the issuer for
which the issuer's unlimited taxing power is pledged, a lease obligation is
frequently backed by the issuer's covenant to budget for, appropriate and make
the payments due under the lease obligation. However, certain lease
obligations contain "non-appropriation" clauses which provide that the issuer
has no obligation to make lease or installment purchase payments in future
years unless money is appropriated for such purpose on a yearly basis.
Although "non-appropriation" lease obligations are secured by the leased
property, disposition of the property in the event of foreclosure might prove
difficult. These securities represent a type of financing that has not yet
developed the depth of marketability associated with more conventional
securities. Certain investments in lease obligations may be illiquid. The Fund
may not invest in illiquid lease obligations if such investments, together
with other illiquid investments, would exceed 15% of the Fund's total assets.
The Fund may, however, invest without regard to such limitation in lease
obligations which the Manager, pursuant to guidelines which have been adopted
by the Board of Trustees and subject to the supervision of the Board,
determines to be liquid. The Manager will deem lease obligations liquid if
they are publicly offered and have received an investment grade rating of Baa
or better by Moody's, or BBB or better by Standard & Poor's or Fitch. Unrated
lease obligations, or those rated below investment grade, will be considered
liquid if the obligations come to the market through an underwritten public
offering and at least two dealers are willing to give competitive bids. In
reference to obligations rated below investment grade, the Manager must, among
other things, also review the creditworthiness of the municipality obligated
to make payment under the lease obligation and make certain specified
determinations based on such factors as the existence of a rating or credit
enhancement such as insurance, the frequency of trades or quotes for the
obligation and the willingness of dealers to make a market in the obligation.
The value of bonds and other fixed-income obligations may fall when interest
rates rise and rise when interest rates fall. In general, bonds and other
fixed-income obligations with longer maturities will be subject to greater
volatility resulting from interest rate fluctuations than will similar
obligations with shorter maturities. Under normal conditions, it is generally
anticipated that the Fund's average weighted maturity would be in excess of
ten years.
Federal tax legislation has limited the types and volume of bonds the
interest on which qualifies for a Federal income tax exemption. As a result,
this legislation and legislation which may be enacted in the future may affect
the availability of Municipal Bonds for investment by the Fund.
CALL RIGHTS
The Fund may purchase a Municipal Bond issuer's right to call all or a
portion of such Municipal Bond for mandatory tender for purchase (a "Call
Right"). A holder of a Call Right may exercise such right to require a
mandatory tender for the purchase of related Municipal Bonds, subject to
certain conditions. A Call Right that is
16
<PAGE>
not exercised prior to the maturity of the related Municipal Bond will expire
without value. The economic effect of holding both the Call Right and the
related Municipal Bond is identical to that of holding a Municipal Bond as a
non-callable security. Certain investments in such obligations may be
illiquid. The Fund may not invest in such illiquid obligations if such
investments, together with other illiquid investments, would exceed 15% of the
Fund's total assets.
WHEN-ISSUED SECURITIES AND DELAYED DELIVERY TRANSACTIONS
The Fund may purchase or sell Municipal Bonds on a delayed delivery basis or
a when-issued basis at fixed purchase terms. These transactions arise when
securities are purchased or sold by the Fund with payment and delivery taking
place in the future. The purchase will be recorded on the date the Fund enters
into the commitment and the value of the obligation will thereafter be
reflected in the calculation of the Fund's net asset value. The value of the
obligation on the delivery date may be more or less than its purchase price. A
separate account of the Fund will be established with its custodian consisting
of cash, cash equivalents or liquid securities having a market value at all
times at least equal to the amount of the forward commitment.
FINANCIAL FUTURES TRANSACTIONS AND OPTIONS
The Fund is authorized to purchase and sell certain exchange traded
financial futures contracts ("financial futures contracts") solely for the
purpose of hedging its investments in Municipal Bonds against declines in
value and to hedge against increases in the cost of securities it intends to
purchase. However, any transactions involving financial futures or options
(including puts and calls associated therewith) will be in accordance with the
Fund's investment policies and limitations. A financial futures contract
obligates the seller of a contract to deliver and the purchaser of a contract
to take delivery of the type of financial instrument covered by the contract,
or in the case of index-based futures contracts to make and accept a cash
settlement, at a specific future time for a specified price. A sale of
financial futures contracts may provide a hedge against a decline in the value
of portfolio securities because such depreciation may be offset, in whole or
in part, by an increase in the value of the position in the financial futures
contracts. A purchase of financial futures contracts may provide a hedge
against an increase in the cost of securities intended to be purchased,
because such appreciation may be offset, in whole or in part, by an increase
in the value of the position in the futures contracts. Distributions, if any,
of net long-term capital gains from certain transactions in futures or options
are taxable at long-term capital gains rates for Federal income tax purposes,
regardless of the length of time the shareholder has owned Fund shares. See
"Distributions and Taxes--Taxes."
The Fund deals in financial futures contracts traded on the Chicago Board of
Trade based on The Bond Buyer Municipal Bond Index, a price-weighted measure
of the market value of 40 large, recently issued tax-exempt bonds. There can
be no assurance, however, that a liquid secondary market will exist to
terminate any particular financial futures contract at any specific time. If
it is not possible to close a financial futures position entered into by the
Fund, the Fund would continue to be required to make daily cash payments of
variation margin in the event of adverse price movements. In such a situation,
if the Fund has insufficient cash, it may have to sell portfolio securities to
meet daily variation margin requirements at a time when it may be
disadvantageous to do so. The inability to close financial futures positions
also could have an adverse impact on the Fund's ability to hedge effectively.
There is also the risk of loss by the Fund of margin deposits in the event of
bankruptcy of a broker with whom the Fund has an open position in a financial
futures contract.
17
<PAGE>
The Fund may purchase and sell financial futures contracts on U.S.
Government securities and write and purchase put and call options on such
futures contracts as a hedge against adverse changes in interest rates as
described more fully in the Statement of Additional Information. With respect
to U.S. Government securities, currently there are financial futures contracts
based on long-term U.S. Treasury bonds, Treasury notes, Government National
Mortgage Association ("GNMA") Certificates and three-month U.S. Treasury
bills.
Subject to policies adopted by the Trustees, the Fund also may engage in
other financial futures contracts transactions and options thereon, such as
financial futures contracts or options on other municipal bond indexes which
may become available if the Manager of the Fund and the Trustees of the Trust
should determine that there is normally a sufficient correlation between the
prices of such futures contracts and the Municipal Bonds in which the Fund
invests to make such hedging appropriate.
Utilization of futures transactions and options thereon involves the risk of
imperfect correlation in movements in the price of futures contracts and
movements in the price of the security which is the subject of the hedge. If
the price of the futures contract moves more or less than the price of the
security that is the subject of the hedge, the Fund will experience a gain or
loss which will not be completely offset by movements in the price of such
security. There is a risk of imperfect correlation where the securities
underlying futures contracts have different maturities, ratings or geographic
mixes than the security being hedged. In addition, the correlation may be
affected by additions to or deletions from the index which serves as a basis
for a financial futures contract. Finally, in the case of futures contracts on
U.S. Government securities and options on such futures contracts, the
anticipated correlation of price movements between the U.S. Government
securities underlying the futures or options and Municipal Bonds may be
adversely affected by economic, political, legislative or other developments
which have a disparate impact on the respective markets for such securities.
Under regulations of the Commodity Futures Trading Commission ("CFTC"), the
futures trading activities described herein will not result in the Fund being
deemed to be a "commodity pool", as defined under such regulations, provided
that the Fund adheres to certain restrictions. In particular, the Fund may
purchase and sell futures contracts and options thereon (i) for bona fide
hedging purposes, and (ii) for non-hedging purposes, if the aggregate initial
margins and premiums required to establish positions in such contracts and
options does not exceed 5% of the liquidation value of the Fund's portfolio
assets after taking into account unrealized profits and unrealized losses on
any such contracts and options. (However, as stated above, the Fund intends to
engage in options and futures transactions only for hedging purposes.) Margin
deposits may consist of cash or securities acceptable to the broker and the
relevant contract market.
When the Fund purchases a futures contract, or writes a put option or
purchases a call option thereon, it will maintain an amount of cash, cash
equivalents (e.g., high grade commercial paper and daily tender adjustable
notes) or liquid securities in a segregated account with the Fund's custodian,
so that the amount so segregated plus the amount of initial and variation
margin held in the account of its broker equals the market value of the
futures contracts, thereby ensuring that the use of such futures contract is
unleveraged. It is not anticipated that transactions in futures contracts will
have the effect of increasing portfolio turnover.
Although certain risks are involved in options and futures transactions, the
Manager believes that, because the Fund will engage in futures transactions
only for hedging purposes, the futures portfolio strategies of the Fund will
not subject the Fund to certain risks frequently associated with speculation
in futures transactions.
18
<PAGE>
The liquidity of a secondary market in a futures contract may be adversely
affected by "daily price fluctuation limits" established by commodity
exchanges which limit the amount of fluctuation in a futures contract price
during a single trading day. Once the daily limit has been reached in the
contract, no trades may be entered into at a price beyond the limit, thus
preventing the liquidation of open futures positions. Prices have in the past
moved beyond the daily limit on a number of consecutive trading days.
The successful use of transactions in futures also depends on the ability of
the Manager to forecast correctly the direction and extent of interest rate
movements within a given time frame. To the extent these rates remain stable
during the period in which a futures contract is held by the Fund or moves in
a direction opposite to that anticipated, the Fund may realize a loss on the
hedging transaction which is not fully or partially offset by an increase in
the value of portfolio securities. As a result, the Fund's total return for
such period may be less than if it had not engaged in the hedging transaction.
Furthermore, the Fund will only engage in hedging transactions from time to
time and may not necessarily be engaging in hedging transactions when
movements in interest rates occur.
Reference is made to the Statement of Additional Information for further
information on financial futures contracts and certain options thereon.
REPURCHASE AGREEMENTS
As Temporary Investments, the Fund may invest in securities pursuant to
repurchase agreements. Repurchase agreements may be entered into only with a
member bank of the Federal Reserve System or a primary dealer in U.S.
Government securities or an affiliate thereof. Under such agreements, the
seller agrees, upon entering into the contract, to repurchase the security
from the Fund at a mutually agreed upon time and price, thereby determining
the yield during the term of the agreement. This results in a fixed rate of
return insulated from market fluctuations during such period. The Fund may not
invest in repurchase agreements maturing in more than seven days if such
investments, together with the Fund's other illiquid investments, would exceed
15% of the Fund's total assets. In the event of a default by the seller under
a repurchase agreement, the Fund may suffer time delays and incur costs or
possible losses in connection with the disposition of the underlying
securities.
INVESTMENT RESTRICTIONS
The Fund's investment activities are subject to further restrictions that
are described in the Statement of Additional Information. Investment
restrictions and policies which are fundamental policies may not be changed
without the approval of the holders of a majority of the Fund's outstanding
voting securities, as defined in the 1940 Act which means the lesser of (i)
67% of the shares represented at a meeting at which more than 50% of the
outstanding shares are represented or (ii) more than 50% of the outstanding
shares. Among its fundamental policies, the Fund may not invest more than 25%
of its assets, taken at market value at the time of each investment, in the
securities of issuers in any particular industry (excluding the U.S.
Government and its agencies and instrumentalities) (For purposes of this
restriction, states, municipalities and their political subdivisions are not
considered to be part of any industry). Investment restrictions and policies
that are non-fundamental policies may be changed by the Board of Trustees
without shareholder approval. As a non-fundamental policy, the Fund may not
borrow amounts in excess of 20% of its total assets taken at market value
(including the amount borrowed), and then only from banks as a temporary
measure for extraordinary or emergency purposes. In addition, the Fund will
not purchase securities while borrowings are outstanding.
19
<PAGE>
As a non-fundamental policy, the Fund will not invest in securities which
cannot be readily resold because of legal or contractual restrictions or which
cannot otherwise be marketed, redeemed or put to the issuer or a third party,
if at the time of acquisition more than 15% of its total assets would be
invested in such securities. This restriction shall not apply to securities
which mature within seven days or securities which the Board of Trustees of
the Trust has otherwise determined to be liquid pursuant to applicable law.
The Fund is classified as non-diversified within the meaning of the 1940
Act, which means that the Fund is not limited by the 1940 Act in the
proportion of its assets that it may invest in obligations of a single issuer.
However, the Fund's investments will be limited so as to qualify as a
"regulated investment company" for purposes of the Code. See "Distributions
and Taxes--Taxes." To qualify, among other requirements, the Trust will limit
the Fund's investments so that, at the close of each quarter of the taxable
year, (i) not more than 25% of the market value of the Fund's total assets
will be invested in the securities of a single issuer, and (ii) with respect
to 50% of the market value of its total assets, not more than 5% of the market
value of its total assets will be invested in the securities of a single
issuer and the Fund will not own more than 10% of the outstanding voting
securities of a single issuer. For purposes of this restriction, the Fund will
regard each state and each political subdivision, agency or instrumentality of
such state and each multi-state agency of which such state is a member and
each public authority which issues securities on behalf of a private entity as
a separate issuer, except that if the security is backed only by the assets
and revenues of a non-government entity then the entity with the ultimate
responsibility for the payment of interest and principal may be regarded as
the sole issuer. These tax-related limitations may be changed by the Trustees
of the Trust to the extent necessary to comply with changes to the Federal tax
requirements. A fund which elects to be classified as "diversified" under the
1940 Act must satisfy the foregoing 5% and 10% requirements with respect to
75% of its total assets. To the extent that the Fund assumes large positions
in the obligations of a small number of issuers, the Fund's total return may
fluctuate to a greater extent than that of a diversified company as a result
of changes in the financial condition or in the market's assessment of the
issuers.
Investors are referred to the Statement of Additional Information for a
complete description of the Fund's investment restrictions.
20
<PAGE>
MANAGEMENT OF THE TRUST
TRUSTEES
The Trustees of the Trust consist of six individuals, five of whom are not
"interested persons" of the Trust as defined in the 1940 Act. The Trustees are
responsible for the overall supervision of the operations of the Trust and the
Fund and perform the various duties imposed on the directors or trustees of
investment companies by the 1940 Act.
The Trustees of the Trust are:
Arthur Zeikel*--Chairman of the Manager and its affiliate, MLAM; Chairman
and Director of Princeton Services, Inc. ("Princeton Services"); Executive
Vice President of ML & Co.
James H. Bodurtha--Director and Executive Vice President, The China Business
Group, Inc.
Herbert I. London--John M. Olin Professor of Humanities, New York
University.
Robert R. Martin--Former Chairman, Kinnard Investments, Inc.
Joseph L. May--Attorney in private practice.
Andre F. Perold--Professor, Harvard Business School.
- --------
* Interested person, as defined in the 1940 Act, of the Trust.
MANAGEMENT AND ADVISORY ARRANGEMENTS
The Manager, which is an affiliate of MLAM and is owned and controlled by ML
& Co., a financial services holding company, acts as the manager for the Fund
and provides the Fund with management services. The Merrill Lynch Asset
Management Group (which includes the Manager) acts as the investment adviser
for more than 100 registered investment companies and offers portfolio
management services to individuals and institutions. As of September 1998, the
Asset Management Group had a total of approximately $467 billion in investment
company and other portfolio assets under management. This amount includes
assets managed for certain affiliates of the Manager.
Subject to the direction of the Trustees, the Manager is responsible for the
actual management of the Fund's portfolio and constantly reviews the Fund's
holdings in light of its own research analysis and that from other relevant
sources. The responsibility for making decisions to buy, sell or hold a
particular security rests with the Manager. The Manager performs certain of
the other administrative services and provides all the office space,
facilities, equipment and necessary personnel for management of the Fund.
Theodore R. Jaeckel, Jr. is the Portfolio Manager of the Fund and is
responsible for the day-to-day management of the Fund's investment portfolio.
He has been a Director (Municipal Tax-Exempt Fund Management) of MLAM since
1997 and was a Vice President thereof from 1991 to 1997.
Pursuant to the management agreement between the Manager and the Trust on
behalf of the Fund (the "Management Agreement"), the Manager is entitled to
receive from the Fund a monthly fee based upon the average daily net assets of
the Fund at the following annual rates: 0.55% of the average daily net assets
not exceeding $500 million; 0.525% of the average daily net assets exceeding
$500 million but not exceeding $1.0 billion; and 0.50% of the average daily
net assets exceeding $1.0 billion. For the fiscal year ended July 31, 1998,
the total fee paid by the Fund to the Manager was $337,900 (based on average
daily net assets of approximately $61.1 million).
21
<PAGE>
The Management Agreement obligates the Trust on behalf of the Fund to pay
certain expenses incurred in the Fund's operations, including, among other
things, the management fee, legal and audit fees, unaffiliated Trustees' fees
and expenses, registration fees, custodian and transfer agency fees,
accounting and pricing costs, and certain of the costs of printing proxies,
shareholder reports, prospectuses and statements of additional information.
Accounting services are provided to the Fund by the Manager, and the Fund
reimburses the Manager for its costs in connection with such services. For the
fiscal year ended July 31, 1998, the Fund reimbursed the Manager $45,571 for
accounting services. For the fiscal year ended July 31, 1998, the ratio of
total expenses to average net assets was 0.86% for Class A shares, 1.37% for
Class B shares, 1.47% for Class C shares and 0.96% for Class D shares.
CODE OF ETHICS
The Board of Trustees of the Trust has adopted a Code of Ethics under Rule
17j-1 of the 1940 Act which incorporates the Code of Ethics of the Manager
(together, the "Codes"). The Codes significantly restrict the personal
investing activities of all employees of the Manager and, as described below,
impose additional, more onerous, restrictions on fund investment personnel.
The Codes require that all employees of the Manager preclear any personal
securities investment (with limited exceptions, such as government
securities). The preclearance requirement and associated procedures are
designed to identify any substantive prohibition or limitation applicable to
the proposed investment. The substantive restrictions applicable to all
employees of the Manager include a ban on acquiring any securities in a "hot"
initial public offering and a prohibition from profiting on short-term trading
in securities. In addition, no employee may purchase or sell any security that
at the time is being purchased or sold (as the case may be), or to the
knowledge of the employee is being considered for purchase or sale, by any
fund advised by the Manager. Furthermore, the Codes provide for trading
"blackout periods" which prohibit trading by investment personnel of the Fund
within periods of trading by the Fund in the same (or equivalent) security (15
or 30 days depending upon the transaction).
TRANSFER AGENCY SERVICES
The Transfer Agent, which is a subsidiary of ML & Co., acts as the Trust's
transfer agent pursuant to a Transfer Agency, Dividend Disbursing Agency and
Shareholder Servicing Agency Agreement (the "Transfer Agency Agreement").
Pursuant to the Transfer Agency Agreement, the Transfer Agent is responsible
for the issuance, transfer and redemption of shares and the opening and
maintenance of shareholder accounts. Pursuant to the Transfer Agency Agreement
the Transfer Agent receives an annual fee of up to $11.00 per Class A or Class
D account and up to $14.00 per Class B or Class C account, and is entitled to
reimbursement for certain transaction charges and out-of-pocket expenses
incurred by the Transfer Agent under the Transfer Agency Agreement.
Additionally, a $.20 monthly closed account charge will be assessed on all
accounts which close during the calendar year. Application of this fee will
commence the month following the month the account is closed. At the end of
the calendar year, no further fees will be due. For purposes of the Transfer
Agency Agreement, the term "account" includes a shareholder account maintained
directly by the Transfer Agent and any other account representing the
beneficial interest of a person in the relevant share class on a recordkeeping
system, provided the recordkeeping system is maintained by a subsidiary of ML
& Co. For the fiscal year ended July 31, 1998, the total fee paid by the Fund
to the Transfer Agent was $23,040 pursuant to the Transfer Agency Agreement.
22
<PAGE>
PURCHASE OF SHARES
The Distributor, an affiliate of each of the Manager, MLAM and Merrill
Lynch, acts as the distributor of the shares of the Fund. Shares of the Fund
are offered continuously for sale by the Distributor and other eligible
securities dealers (including Merrill Lynch). Shares of the Fund may be
purchased from securities dealers or by mailing a purchase order directly to
the Transfer Agent. The minimum initial purchase is $1,000 and the minimum
subsequent purchase is $50, except that for shareholders who are participants
in certain fee-based programs, the minimum initial purchase is $250 and the
minimum subsequent purchase is $50.
The Fund offers its shares in four classes at a public offering price equal
to the next determined net asset value per share plus sales charges imposed
either at the time of purchase or on a deferred basis depending upon the class
of shares selected by the investor under the Merrill Lynch Select Pricing SM
System, as described below. The applicable offering price for purchase orders
is based upon the net asset value of the Fund next determined after receipt of
the purchase orders by the Distributor. As to purchase orders received by
securities dealers prior to the close of business on the New York Stock
Exchange (the "NYSE") (generally, 4:00 p.m., New York time), which includes
orders received after the close of business on the previous day, the
applicable offering price will be based on the net asset value determined as
of 15 minutes after the close of business on the NYSE on that day, provided
the Distributor in turn receives the order from the securities dealer prior to
30 minutes after the close of business on the NYSE on that day. If the
purchase orders are not received by the Distributor prior to 30 minutes after
the close of business on the NYSE on that day, such orders shall be deemed
received on the next business day. The Trust or the Distributor may suspend
the continuous offering of the Fund's shares of any class at any time in
response to conditions in the securities markets or otherwise and may
thereafter resume such offering from time to time. Any order may be rejected
by the Distributor or the Trust. Neither the Distributor nor the dealers are
permitted to withhold placing orders to benefit themselves by a price change.
Merrill Lynch may charge its customers a processing fee (presently $5.35) to
confirm a sale of shares to such customers. Purchases made directly through
the Fund's Transfer Agent are not subject to the processing fee.
The Fund issues four classes of shares under the Merrill Lynch Select
Pricing SM System, which permits each investor to choose the method of
purchasing shares that the investor believes is most beneficial given the
amount of the purchase, the length of time the investor expects to hold the
shares and other relevant circumstances. Shares of Class A and Class D are
sold to investors choosing the initial sales charge alternatives and shares of
Class B and Class C are sold to investors choosing the deferred sales charge
alternatives. Investors should determine whether under their particular
circumstances it is more advantageous to incur an initial sales charge or to
have the entire initial purchase price invested in the Fund with the
investment thereafter being subject to a CDSC and ongoing distribution fees
and higher account maintenance fees. A discussion of the factors that
investors should consider in determining the method of purchasing shares under
the Merrill Lynch Select Pricing SM System is set forth under "Merrill Lynch
Select Pricing SM System" on page 4.
Each Class A, Class B, Class C and Class D share of the Fund represents
identical interests in the investment portfolio of the Fund and has the same
rights, except that Class B, Class C and Class D shares bear the expenses of
the ongoing account maintenance fees, and Class B and Class C shares bear the
expenses of the ongoing distribution fees and the additional incremental
transfer agency costs resulting from the deferred sales charge arrangements.
The CDSCs, distribution and account maintenance fees that are imposed on Class
B and Class C shares, as well as the account maintenance fees that are imposed
on Class D shares, are imposed directly against those classes and not against
all assets of the Fund and, accordingly, such charges do not affect the net
asset
23
<PAGE>
value of any other class or have any impact on investors choosing another
sales charge option. Dividends paid by the Fund for each class of shares are
calculated in the same manner at the same time and will differ only to the
extent that account maintenance and distribution fees and any incremental
transfer agency costs relating to a particular class are borne exclusively by
that class. Class B, Class C and Class D shares each have exclusive voting
rights with respect to the Rule 12b-1 distribution plan adopted with respect
to such class pursuant to which account maintenance and/or distribution fees
are paid (except that Class B shareholders may vote upon any material changes
to expenses charged under the Class D Distribution Plan). See "Distribution
Plans" below. Each class has different exchange privileges. See "Shareholder
Services--Exchange Privilege."
Investors should understand that the purpose and function of the initial
sales charges with respect to Class A and Class D shares are the same as those
of the CDSCs and distribution fees with respect to Class B and Class C shares
in that the sales charges and distribution fees applicable to each class
provide for the financing of the distribution of the shares of the Fund. The
distribution-related revenues paid with respect to a class will not be used to
finance the distribution expenditures of another class. Sales personnel may
receive different compensation for selling different classes of shares.
Investors are advised that only Class A and Class D shares may be available
for purchase through securities dealers, other than Merrill Lynch, that are
eligible to sell shares.
The following table sets forth a summary of the distribution arrangements
for each class of shares under the Merrill Lynch Select Pricing SM System,
followed by a more detailed description of each class.
<TABLE>
<CAPTION>
ACCOUNT
MAINTENANCE DISTRIBUTION CONVERSION
CLASS SALES CHARGE(/1/) FEE FEE FEATURE
- ------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
A Maximum 4.00% initial sales No No No
charge(/2/)(/3/)
- ------------------------------------------------------------------------------------------
B CDSC for a period of four years, 0.25% 0.25% B shares convert to
at a rate of 4.0% during the D shares automatically
first year, decreasing 1.0% after approximately
annually to 0.0% (/4/) ten years(/5/)
- ------------------------------------------------------------------------------------------
C 1.0% CDSC for one year(/6/) 0.25% 0.35% No
- ------------------------------------------------------------------------------------------
D Maximum 4.00% initial 0.10% No No
sales charge(/3/)
</TABLE>
- --------
(1) Initial sales charges are imposed at the time of purchase as a percentage
of the offering price. CDSCs are imposed if the redemption occurs within
the applicable CDSC time period. The charge will be assessed on an amount
equal to the lesser of the proceeds of redemption or the cost of the
shares being redeemed.
(2) Offered only to eligible investors. See "Initial Sales Charge
Alternatives--Class A and Class D Shares--Eligible Class A Investors."
(3) Reduced for purchases of $25,000 or more and waived for purchases of Class
A shares by participants in connection with certain fee-based programs.
Certain Class A and Class D share purchases of $1,000,000 or more may not
be subject to an initial sales charge but instead may be subject to a 1.0%
CDSC if redeemed within one year. Such CDSC may be waived in connection
with certain fee-based programs.
(4) The CDSC may be modified in connection with certain fee-based programs.
(5) The conversion period for dividend reinvestment shares and certain fee-
based programs may differ. See "Deferred Sales Charge Alternatives--Class
B and Class C Shares--Conversion of Class B Shares to Class D Shares."
Also, Class B shares of certain other MLAM-advised mutual funds into which
exchanges may be made have an eight year conversion period. If Class B
shares of the Fund are exchanged for Class B shares of another MLAM-
advised mutual fund, the conversion period applicable to the Class B
shares acquired in the exchange will apply, and the holding period for the
shares exchanged will be tacked onto the holding period for the shares
acquired.
(6) The CDSC may be waived in connection with certain fee-based programs.
24
<PAGE>
INITIAL SALES CHARGE ALTERNATIVES--CLASS A AND CLASS D SHARES
Investors choosing the initial sales charge alternatives who are eligible to
purchase Class A shares should purchase Class A rather than Class D shares
because there is an account maintenance fee imposed on Class D shares.
The public offering price of Class A and Class D shares for purchasers
choosing the initial sales charge alternative is the next determined net asset
value plus varying sales charges (i.e., sales loads), as set forth below.
<TABLE>
<CAPTION>
SALES CHARGE SALES CHARGE DISCOUNT TO
AS PERCENTAGE AS PERCENTAGE* SELECTED DEALERS
OF OFFERING OF THE NET AS PERCENTAGE OF THE
AMOUNT OF PURCHASE PRICE AMOUNT INVESTED OFFERING PRICE
- ------------------ ------------- --------------- --------------------
<S> <C> <C> <C>
Less than $25,000........... 4.00% 4.17% 3.75%
$25,000 but less than
$50,000.................... 3.75 3.90 3.50
$50,000 but less than
$100,000................... 3.25 3.36 3.00
$100,000 but less than
$250,000................... 2.50 2.56 2.25
$250,000 but less than
$1,000,000................. 1.50 1.52 1.25
$1,000,000 and over**....... 0.00 0.00 0.00
</TABLE>
- --------
* Rounded to the nearest one-hundredth percent.
** The initial sales charge may be waived on certain Class A and Class D
purchases of $1,000,000 or more and on Class A purchases by participants in
connection with certain fee-based programs. If the sales charge is waived
in connection with a purchase of $1,000,000 or more, such purchases may be
subject to a 1.0% CDSC if the shares are redeemed within one year after
purchase. Such CDSC may be waived in connection with certain fee-based
programs. The charge will be assessed on an amount equal to the lesser of
the proceeds of redemption or the cost of the shares being redeemed.
The Distributor may reallow discounts to selected dealers and retain the
balance over such discounts. At times the Distributor may reallow the entire
sales charge to such dealers. Since securities dealers selling Class A and
Class D shares of the Fund will receive a concession equal to most of the
sales charge, they may be deemed to be underwriters under the Securities Act
of 1933, as amended. The proceeds from account maintenance fees are used to
compensate the Distributor and Merrill Lynch (pursuant to a sub-agreement) for
providing continuing account maintenance activities. For the fiscal year ended
July 31, 1998, the Fund sold 55,712 Class A shares for aggregate net proceeds
of $618,548. The gross sales charges for the sale of Class A shares of the
Fund for the year were $1,703, of which $136 and $1,567 were received by the
Distributor and Merrill Lynch, respectively. For the fiscal year ended July
31, 1998, the Distributor received no CDSCs with respect to redemption within
one year after purchase of Class A shares purchased subject to a front-end
sales charge waiver. For the fiscal year ended July 31, 1998, the Fund sold
128,646 Class D shares for aggregate net proceeds of $1,434,340. The gross
sales charges for the sale of Class D shares of the Fund for the year were
$5,000, of which $437 and $4,563 were received by the Distributor and Merrill
Lynch, respectively. For the fiscal year ended July 31, 1998, the Distributor
received no CDSCs with respect to redemption within one year after purchase of
Class D shares purchased subject to a front-end sales charge waiver.
Eligible Class A Investors. Class A shares are offered to a limited group of
investors and also will be issued upon reinvestment of dividends on
outstanding Class A shares. Investors that currently own Class A shares of the
Fund in a shareholder account are entitled to purchase additional Class A
shares of the Fund in
25
<PAGE>
that account. Class A shares are available at net asset value to corporate
warranty insurance reserve fund programs and U.S. branches of foreign banking
institutions provided that the program or branch has $3 million or more
initially invested in MLAM-advised mutual funds. Also eligible to purchase
Class A shares at net asset value are participants in certain investment
programs including TMA SM Managed Trusts to which Merrill Lynch Trust Company
provides discretionary trustee services, collective investment trusts for
which Merrill Lynch Trust Company serves as trustee, and purchases made in
connection with certain fee-based programs. In addition, Class A shares are
offered at net asset value to ML & Co., and its subsidiaries and their
directors and employees and to members of the Boards of MLAM-advised
investment companies, including the Trust. Certain persons who acquired shares
of certain MLAM-advised closed-end funds in their initial offerings who wish
to reinvest the net proceeds from a sale of their closed-end fund shares of
common stock in shares of the Fund also may purchase Class A shares of the
Fund if certain conditions set forth in the Statement of Additional
Information are met. In addition, Class A shares of the Fund and certain other
MLAM-advised mutual funds are offered at net asset value to shareholders of
Merrill Lynch Senior Floating Rate Fund, Inc. and, if certain conditions set
forth in the Statement of Additional Information are met, to shareholders of
Merrill Lynch Municipal Strategy Fund, Inc. and Merrill Lynch High Income
Municipal Bond Fund, Inc. who wish to reinvest the net proceeds from a sale of
certain of their shares of common stock pursuant to a tender offer conducted
by such funds in shares of the Fund and certain other MLAM-advised mutual
funds.
Reduced Initial Sales Charges. No initial sales charges are imposed upon
Class A and Class D shares issued as a result of the automatic reinvestment of
dividends or capital gains distributions. Class A and Class D sales charges
also may be reduced under a Right of Accumulation and a Letter of Intention.
Class A shares are offered at net asset value to certain eligible Class A
investors as set forth above under "Eligible Class A Investors." See
"Shareholder Services--Fee-Based Programs." Provided applicable threshold
requirements are met, either Class A or Class D shares are offered at net
asset value to Employee Access SM Accounts available through authorized
employers. Class A shares are offered at net asset value to shareholders of
Merrill Lynch Senior Floating Rate Fund, Inc. and, subject to certain
conditions, Class A and Class D shares are offered at net asset value to
shareholders of Merrill Lynch Municipal Strategy Fund, Inc. and Merrill Lynch
High Income Municipal Bond Fund, Inc. who wish to reinvest in shares of the
Fund the net proceeds from a sale of certain of their shares of common stock,
pursuant to tender offers conducted by those funds.
Class D shares are offered at net asset value without sales charge to an
investor who has a business relationship with a Merrill Lynch Financial
Consultant, if certain conditions set forth in the Statement of Additional
Information are met. Class D shares may be offered at net asset value in
connection with the acquisition of assets of other investment companies.
Additional information concerning these reduced initial sales charges is set
forth in the Statement of Additional Information.
DEFERRED SALES CHARGE ALTERNATIVES--CLASS B AND CLASS C SHARES
Investors choosing the deferred sales charge alternatives should consider
Class B shares if they intend to hold their shares for an extended period of
time and Class C shares if they are uncertain as to the length of time they
intend to hold their assets in MLAM-advised mutual funds.
26
<PAGE>
The public offering price of Class B and Class C shares for investors
choosing the deferred sales charge alternatives is the next determined net
asset value per share without the imposition of a sales charge at the time of
purchase. As discussed below, Class B shares are subject to a four-year CDSC
which declines each year, while Class C shares are subject only to a one-year
1.0% CDSC. On the other hand, approximately ten years after Class B shares are
issued, such Class B shares, together with shares issued upon dividend
reinvestment with respect to those shares, are automatically converted into
Class D shares of the Fund and thereafter will be subject to lower continuing
fees. See "Conversion of Class B Shares to Class D Shares" below. Both Class B
and Class C shares are subject to an account maintenance fee of 0.25% of net
assets and Class B and Class C shares are subject to distribution fees of
0.25% and 0.35%, respectively, of net assets as discussed below under
"Distribution Plans." The proceeds from the account maintenance fees are used
to compensate the Distributor and Merrill Lynch (pursuant to a sub-agreement)
for providing continuing account maintenance activities.
Class B and Class C shares are sold without an initial sales charge so that
the Fund will receive the full amount of the investor's purchase payment.
Merrill Lynch compensates its Financial Consultants for selling Class B and
Class C shares at the time of purchase from its own funds. See "Distribution
Plans" below.
Proceeds from the CDSCs and the distribution fees are paid to the
Distributor and are used in whole or in part by the Distributor to defray the
expenses of dealers (including Merrill Lynch) that are paid from the dealers'
own funds. These expenses relate to providing distribution-related services to
the Fund in connection with the sale of the Class B and Class C shares, such
as the payment of compensation to financial consultants for selling such
shares. The combination of the CDSC and the ongoing distribution fee
facilitates the ability of the Fund to sell the Class B and Class C shares
without a sales charge being deducted at the time of purchase. Approximately
ten years after issuance, Class B shares will convert automatically into Class
D shares of the Fund, which are subject to a lower account maintenance fee and
no distribution fee; Class B shares of certain other MLAM-advised mutual funds
into which exchanges may be made convert into Class D shares automatically
after approximately eight years. If Class B shares of the Fund are exchanged
for Class B shares of another MLAM-advised mutual fund, the conversion period
applicable to the Class B shares acquired in the exchange will apply, and the
holding period for the shares exchanged will be tacked on to the holding
period for the shares acquired.
Imposition of the CDSC and the distribution fee on Class B and Class C
shares is limited by the NASD asset-based sales charge rule. See "Limitations
on the Payment of Deferred Sales Charges" below. Class B shareholders of the
Fund exercising the exchange privilege described under "Shareholder Services--
Exchange Privilege" will continue to be subject to the Fund's CDSC schedule if
such schedule is higher than the CDSC schedule relating to the Class B shares
acquired as a result of the exchange.
Contingent Deferred Sales Charges--Class B Shares. Class B shares that are
redeemed within four years of purchase may be subject to a CDSC at the rates
set forth below charged as a percentage of the dollar amount subject thereto.
The charge will be assessed on an amount equal to the lesser of the proceeds
of redemption or the cost of the shares being redeemed. Accordingly, no sales
charge will be imposed on increases in net asset value above the initial
purchase price. In addition, no charge will be assessed on shares derived from
reinvestment of dividends or capital gains distributions.
27
<PAGE>
The following table sets forth the rates of the Class B CDSC:
<TABLE>
<CAPTION>
CDSC AS A
PERCENTAGE OF
DOLLAR AMOUNT
SUBJECT TO
YEAR SINCE PURCHASE PAYMENT MADE CHARGE
-------------------------------- -------------
<S> <C>
0-1.......................................................... 4.0%
1-2.......................................................... 3.0%
2-3.......................................................... 2.0%
3-4.......................................................... 1.0%
4 and thereafter............................................. 0.0%
</TABLE>
For the fiscal year ended July 31, 1998, the Distributor received CDSCs of
approximately $26,341 with respect to redemptions of Class B shares, all of
which were paid to Merrill Lynch. Additional CDSCs payable to the Distributor
may have been waived or converted to a contingent obligation in connection
with a shareholder's participation in certain fee-based programs.
In determining whether a CDSC is applicable to a redemption, the calculation
will be determined in the manner that results in the lowest applicable rate
being charged. Therefore, it will be assumed that the redemption is first of
shares held for over four years or shares acquired pursuant to reinvestment of
dividends or distributions and then of shares held longest during the four-
year period. The charge will not be applied to dollar amounts representing an
increase in the net asset value since the time of purchase. A transfer of
shares from a shareholder's account to another account will be assumed to be
made in the same order as a redemption.
To provide an example, assume an investor purchased 100 shares at $10 per
share (at a cost of $1,000) and in the third year after purchase, the net
asset value per share is $12 and, during such time, the investor has acquired
10 additional shares upon dividend reinvestment. If at such time the investor
makes his first redemption of 50 shares (proceeds of $600), 10 shares will not
be subject to a CDSC because of dividend reinvestment. With respect to the
remaining 40 shares, the CDSC is applied only to the original cost of $10 per
share and not to the increase in net asset value of $2 per share. Therefore,
$400 of the $600 redemption proceeds will be charged at a rate of 2.0% (the
applicable rate in the third year after purchase).
The Class B CDSC is waived on redemptions of shares following the death or
disability (as defined in the Code) of a shareholder. The Class B CDSC also is
waived for any Class B shares that are purchased within qualifying Employee
Access SM Accounts. Additional information concerning the waiver of the
Class B CDSC is set forth in the Statement of Additional Information. The
terms of the CDSC may be modified in connection with redemptions of fund
participation in certain fee-based programs. See "Shareholder Services--Fee-
Based Programs."
Contingent Deferred Sales Charges--Class C Shares. Class C shares that are
redeemed within one year of purchase may be subject to a 1.0% CDSC charged as
a percentage of the dollar amount subject thereto. The charge will be assessed
on an amount equal to the lesser of the proceeds of redemption or the cost of
the shares being redeemed. Accordingly, no Class C CDSC will be imposed on
increases in net asset value above the initial purchase price. In addition, no
Class C CDSC will be assessed on shares derived from reinvestment of dividends
or capital gains distributions. For the fiscal year ended July 31, 1998, the
Distributor received CDSCs of approximately $1,466 with respect to redemptions
of Class C shares, all of which were paid to Merrill Lynch. The Class C CDSC
may be waived in connection with certain fee-based programs. See "Shareholder
Services--Fee-Based Programs."
28
<PAGE>
In determining whether a Class C CDSC is applicable to a redemption, the
calculation will be determined in the manner that results in the lowest
possible rate being charged. Therefore, it will be assumed that the redemption
is first of shares held for over one year or shares acquired pursuant to
reinvestment of dividends or distributions and then of shares held longest
during the one-year period. The charge will not be applied to dollar amounts
representing an increase in the net asset value since the time of purchase. A
transfer of shares from a shareholder's account to another account will be
assumed to be made in the same order as a redemption.
Conversion of Class B Shares to Class D Shares. After approximately ten
years (the "Conversion Period"), Class B shares will be converted
automatically into Class D shares of the Fund. Class D shares are subject to
an ongoing account maintenance fee of 0.10% of net assets but are not subject
to the distribution fee that is borne by Class B shares. Automatic conversion
of Class B shares into Class D shares will occur at least once each month (on
the "Conversion Date") on the basis of the relative net asset values of the
shares of the two classes on the Conversion Date, without the imposition of
any sales load, fee or other charge. Conversion of Class B shares to Class D
shares will not be deemed a purchase or sale of the shares for Federal income
tax purposes.
In addition, shares purchased through reinvestment of dividends on Class B
shares also will convert automatically to Class D shares. The Conversion Date
for dividend reinvestment shares will be calculated taking into account the
length of time the shares underlying such dividend reinvestment shares were
outstanding. If at a Conversion Date the conversion of Class B shares to Class
D shares of the Fund in a single account will result in less than $50 worth of
Class B shares being left in the account, all of the Class B shares of the
Fund held in the account on the Conversion Date will be converted to Class D
shares of the Fund.
Share certificates for Class B shares of the Fund to be converted must be
delivered to the Transfer Agent at least one week prior to the Conversion Date
applicable to those shares. In the event such certificates are not received by
the Transfer Agent at least one week prior to the Conversion Date, the related
Class B shares will convert to Class D shares on the next scheduled Conversion
Date after such certificates are delivered.
In general, Class B shares of equity MLAM-advised mutual funds will convert
approximately eight years after initial purchase, and Class B shares of
taxable and tax-exempt fixed income MLAM-advised mutual funds will convert
approximately ten years after initial purchase. If, during the Conversion
Period, a shareholder exchanges Class B shares with an eight-year Conversion
Period for Class B shares with a ten-year Conversion Period, or vice versa,
the Conversion Period applicable to the Class B shares acquired in the
exchange will apply, and the holding period for the shares exchanged will be
tacked on to the holding period for the shares acquired.
The Conversion Period also may be modified for investors who participate in
certain fee-based programs. See "Shareholder Services--Fee-Based Programs."
DISTRIBUTION PLANS
The Fund has adopted separate distribution plans for Class B, Class C and
Class D shares pursuant to Rule 12b-1 under the 1940 Act (each a "Distribution
Plan") with respect to the account maintenance and/or distribution fees paid
by the Fund to the Distributor with respect to such classes. The Class B and
Class C Distribution Plans provide for the payment of account maintenance fees
and distribution fees, and the Class D Distribution Plan provides for the
payment of account maintenance fees.
29
<PAGE>
The Distribution Plans for Class B, Class C and Class D shares each provides
that the Fund pays the Distributor an account maintenance fee relating to the
shares of the relevant class, accrued daily and paid monthly, at the annual
rates of 0.25%, 0.25% and 0.10%, respectively, of the average daily net assets
of the Fund attributable to shares of the relevant class in order to
compensate the Distributor and Merrill Lynch (pursuant to a sub-agreement) in
connection with account maintenance activities.
The Distribution Plans for Class B and Class C shares each provide that the
Fund also pays the Distributor a distribution fee relating to the shares of
the relevant class, accrued daily and paid monthly, at the annual rate of
0.25% and 0.35%, respectively, of the average daily net assets of the Fund
attributable to the shares of the relevant class in order to compensate the
Distributor and Merrill Lynch (pursuant to a sub-agreement) for providing
shareholder and distribution services, and bearing certain distribution-
related expenses of the Fund, including payments to financial consultants for
selling Class B and Class C shares of the Fund. The Distribution Plans
relating to Class B and Class C shares are designed to permit an investor to
purchase Class B and Class C shares through dealers without the assessment of
an initial sales charge and at the same time permit the dealer to compensate
its financial consultants in connection with the sale of the Class B and Class
C shares. In this regard, the purpose and function of the ongoing distribution
fee and the CDSC are the same as those of the initial sales charge with
respect to the Class A and Class D shares of the Fund in that the deferred
sales charges provide for the financing of the distribution of the Fund's
Class B and Class C shares.
For the fiscal year ended July 31, 1998, the Fund paid the Distributor
$262,623 pursuant to the Class B Distribution Plan (based on average daily net
assets subject to such Class B Distribution Plan of approximately $52.2
million), all of which was paid to Merrill Lynch for providing account
maintenance and distribution-related activities and services in connection
with Class B shares. For the fiscal year ended July 31, 1998, the Fund paid
the Distributor $9,324 pursuant to the Class C Distribution Plan (based on
average daily net assets subject to such Class C Distribution Plan of
approximately $1.5 million), all of which was paid to Merrill Lynch for
providing account maintenance and distribution-related activities and services
in connection with Class C shares. For the fiscal year ended July 31, 1998,
the Fund paid the Distributor $1,612 pursuant to the Class D Distribution Plan
(based on average daily net assets subject to such Class D Distribution Plan
of approximately $1.6 million), all of which was paid to Merrill Lynch for
providing account maintenance activities in connection with Class D shares.
Payments under the Distribution Plans are based on a percentage of average
daily net assets attributable to the shares regardless of the amount of
expenses incurred, and, accordingly, distribution-related revenues from the
Distribution Plans may be more or less than distribution-related expenses.
Information with respect to the distribution-related revenues and expenses is
presented to the Trustees for their consideration in connection with their
deliberations as to the continuance of the Class B and Class C Distribution
Plans. This information is presented annually as of December 31 of each year
on a "fully allocated accrual" basis and quarterly on a "direct expense and
revenue/cash" basis. On the fully allocated accrual basis, revenues consist of
the account maintenance fees, distribution fees, the CDSCs and certain other
related revenues, and expenses consist of financial consultant compensation,
branch office and regional operation center selling and transaction processing
expenses, advertising, sales promotion and market expenses, corporate overhead
and interest expense. On the direct expense and revenue/cash basis, revenues
consist of the account maintenance fees, distribution fees and CDSCs, and the
expenses consist of financial consultant compensation.
30
<PAGE>
As of December 31, 1997, the fully allocated accrual expenses incurred by
the Distributor and Merrill Lynch for the period since the commencement of
operations of Class B shares exceeded fully allocated accrual revenues by
approximately $912,000 (1.74% of Class B net assets at that date). As of July
31, 1998, direct cash revenues for the period since the commencement of
operations of Class B shares exceeded direct cash expenses by $1,209,031
(2.36% of Class B net assets at that date). As of December 31, 1997, the fully
allocated accrual expenses incurred by the Distributor and Merrill Lynch for
the period since the commencement of operations of Class C shares exceeded
fully allocated accrual revenues by approximately $1,000 (0.07% of Class C net
assets at that date). As of July 31, 1998, direct cash revenues for the period
since the commencement of operations of Class C shares exceeded direct cash
expenses by $17,165 (0.94% of Class C net assets at that date).
LIMITATIONS ON THE PAYMENT OF DEFERRED SALES CHARGES
The maximum sales charge rule in the Conduct Rules of the NASD imposes a
limitation on certain asset-based sales charges such as the distribution fee
and the CDSC borne by the Class B and Class C shares, but not the account
maintenance fee. The maximum sales charge rule is applied separately to each
class. As applicable to the Fund, the maximum sales charge rule limits the
aggregate of distribution fee payments and CDSCs payable by the Fund to (1)
6.25% of eligible gross sales of Class B shares and Class C shares, computed
separately (defined to exclude shares issued pursuant to dividend
reinvestments and exchanges) plus (2) interest on the unpaid balance for the
respective class, computed separately, at the prime rate plus 1% (the unpaid
balance being the maximum amount payable minus amounts received from the
payment of the distribution fee and the CDSC). In connection with the Class B
shares, the Distributor has voluntarily agreed to waive interest charges on
the unpaid balance in excess of 0.50% of eligible gross sales. Consequently,
the maximum amount payable to the Distributor (referred to as the "voluntary
maximum") in connection with the Class B shares is 6.75% of eligible gross
sales. The Distributor retains the right to stop waiving the interest charges
at any time. To the extent payments would exceed the voluntary maximum, the
Fund will not make further payments of the distribution fee with respect to
Class B shares, and any CDSCs will be paid to the Fund rather than to the
Distributor; however, the Fund will continue to make payments of the account
maintenance fee. In certain circumstances the amount payable pursuant to the
voluntary maximum may exceed the amount payable under the NASD formula. In
such circumstances payments in excess of the amount payable under the NASD
formula will not be made.
The Fund has no obligation with respect to distribution and/or account
maintenance-related expenses incurred by the Distributor and Merrill Lynch in
connection with Class B, Class C and Class D shares, and there is no assurance
that the Trustees of the Trust will approve the continuance of the
Distribution Plans from year to year. However, the Distributor intends to seek
annual continuation of the Distribution Plans. In their review of the
Distribution Plans, the Trustees will be asked to take into consideration
expenses incurred in connection with the account maintenance and/or
distribution of each class of shares separately. The initial sales charges,
the account maintenance fees, the distribution fees and/or the CDSCs received
with respect to one class will not be used to subsidize the sale of shares of
another class. Payments of the distribution fee on Class B shares will
terminate upon conversion of those Class B shares into Class D shares as set
forth under "Deferred Sales Charge Alternatives--Class B and Class C Shares--
Conversion of Class B Shares to Class D Shares."
31
<PAGE>
REDEMPTION OF SHARES
The Trust is required to redeem for cash all shares of the Fund upon receipt
of a written request in proper form. The redemption price is the net asset
value per share next determined after the initial receipt of proper notice of
redemption. Except for any CDSC that may be applicable, there will be no
charge for redemption if the redemption request is sent directly to the
Transfer Agent. Shareholders liquidating their holdings will receive upon
redemption all dividends reinvested through the date of redemption. The value
of shares at the time of redemption may be more or less than the shareholder's
cost, depending on the market value of the securities held by the Fund at such
time.
REDEMPTION
A shareholder wishing to redeem shares may do so, without charge, by
tendering the shares directly to the Transfer Agent, Financial Data Services,
Inc., P.O. Box 45289, Jacksonville, Florida 32232-5289. Redemption requests
delivered other than by mail should be delivered to Financial Data Services,
Inc., 4800 Deer Lake Drive East, Jacksonville, Florida 32246-6484. Proper
notice of redemption in the case of shares deposited with the Transfer Agent
may be accomplished by a written letter requesting redemption. Proper notice
of redemption in the case of shares for which certificates have been issued
may be accomplished by a written letter as noted above accompanied by
certificates for the shares to be redeemed. Redemption requests should not be
sent to the Trust. The redemption request in either event requires the
signature(s) of all persons in whose name(s) the shares are registered, signed
exactly as such name(s) appear(s) on the Transfer Agent's register. The
signature(s) on the redemption request must be guaranteed by an "eligible
guarantor institution" as such term is defined in Rule 17Ad-15 under the
Securities Exchange Act of 1934, as amended, the existence and validity of
which may be verified by the Transfer Agent through the use of industry
publications. Notarized signatures are not sufficient. In certain instances,
the Transfer Agent may require additional documents such as, but not limited
to, trust instruments, death certificates, appointments as executor or
administrator, or certificates of corporate authority. For shareholders
redeeming directly with the Transfer Agent, payments will be mailed within
seven days of receipt of a proper notice of redemption.
At various times the Trust may be requested to redeem Fund shares for which
it has not yet received good payment (e.g., cash, Federal funds or certified
check drawn on a United States bank). The Trust may delay or cause to be
delayed the mailing of a redemption check until such time as it has assured
itself that good payment has been collected for the purchase of such Fund
shares, which will not exceed 10 days.
REPURCHASE
The Trust also will repurchase Fund shares through a shareholder's listed
securities dealer. The Trust normally will accept orders to repurchase Fund
shares by wire or telephone from dealers for their customers at the net asset
value next computed after receipt of the order by the dealer, provided that
the request for repurchase is received by the dealer prior to the close of
business on the NYSE (generally, the NYSE closes at 4:00 P.M., Eastern time)
on the day received and such request is received by the Trust from such dealer
not later than 30 minutes after the close of business on the NYSE on the same
day. Dealers have the responsibility of submitting such repurchase requests to
the Trust not later than 30 minutes after the close of business on the NYSE,
in order to obtain that day's closing price.
32
<PAGE>
The foregoing repurchase arrangements are for the convenience of
shareholders and do not involve a charge by the Trust (other than any
applicable CDSC). Securities firms that do not have selected dealer agreements
with the Distributor, however, may impose a transaction charge on the
shareholder for transmitting the notice of repurchase to the Trust. Merrill
Lynch may charge its customers a processing fee (presently $5.35) to confirm a
repurchase of shares to such customers. Repurchases made directly through the
Fund's Transfer Agent are not subject to the processing fee. The Trust
reserves the right to reject any order for repurchase, which right of
rejection might adversely affect shareholders seeking redemption through the
repurchase procedure. However, a shareholder whose order for repurchase is
rejected by the Trust may redeem Fund shares as set forth above.
Redemption payments will be made within seven days of the proper tender of
the certificates, if any, and stock power or letter requesting redemption, in
each instance with signatures guaranteed as noted above.
REINSTATEMENT PRIVILEGE--CLASS A AND CLASS D SHARES
Shareholders who have redeemed their Class A or Class D shares have a
privilege to reinstate their accounts by purchasing Class A or Class D shares
of the Fund, as the case may be, at net asset value without a sales charge up
to the dollar amount redeemed. The reinstatement privilege may be exercised by
sending a notice of exercise along with a check for the amount to be
reinstated to the Transfer Agent within 30 days after the date the request for
redemption was accepted by the Transfer Agent or the Distributor.
Alternatively, the reinstatement privilege may be exercised through the
investor's Merrill Lynch Financial Consultant within 30 days after the date
the request for redemption was accepted by the Transfer Agent or the
Distributor. The reinstatement will be made at the net asset value per share
next determined after the notice of reinstatement is received and cannot
exceed the amount of the redemption proceeds.
SHAREHOLDER SERVICES
The Trust offers a number of shareholder services and investment plans
described below that are designed to facilitate investment in shares of the
Fund. Full details as to each of such services, copies of the various plans
described below, and instructions as to how to participate in the various
services or plans, or to change options with respect thereto can be obtained
from the Trust by calling the telephone number on the cover page hereof or
from the Distributor or Merrill Lynch.
INVESTMENT ACCOUNT
Each shareholder whose account is maintained at the Transfer Agent has an
Investment Account and will receive statements at least quarterly from the
Transfer Agent. These statements will serve as transaction confirmations for
automatic investment purchases and the reinvestment of ordinary income
dividends and capital gains distributions. These statements will also show any
other activity in the account since the preceding statement. Shareholders will
receive separate transaction confirmations for each purchase or sale
transaction other than automatic investment purchases and the reinvestments of
ordinary income dividends and long-term capital gains distributions. A
shareholder may make additions to his or her Investment Account at any time by
mailing a check directly to the Transfer Agent. Shareholders may also maintain
their accounts through Merrill Lynch. Upon the transfer of shares out of a
Merrill Lynch brokerage account, an Investment Account in the transferring
shareholder's name will be opened automatically at the Transfer Agent.
Shareholders considering transferring
33
<PAGE>
their Class A or Class D shares from Merrill Lynch to another brokerage firm
or financial institution should be aware that, if the firm to which the Class
A or Class D shares are to be transferred will not take delivery of shares of
the Fund, a shareholder either must redeem the Class A or Class D shares
(paying any applicable CDSC) so that the cash proceeds can be transferred to
the account at the new firm or such shareholder must continue to maintain an
Investment Account at the Transfer Agent for those Class A or Class D shares.
Shareholders interested in transferring their Class B or Class C shares from
Merrill Lynch and who do not wish to have an Investment Account maintained for
such shares at the Transfer Agent may request their new brokerage firm to
maintain such shares in an account registered in the name of the brokerage
firm for the benefit of the shareholder at the Transfer Agent. If the new
brokerage firm is willing to accommodate the shareholder in this manner, the
shareholder must request that he or she be issued certificates for such shares
and then must turn the certificates over to the new firm for re-registration
as described in the preceding sentence.
EXCHANGE PRIVILEGE
U.S. shareholders of each class of shares of the Fund have an exchange
privilege with certain other MLAM-advised mutual funds and Summit Cash
Reserves Fund ("Summit"), a Merrill Lynch-sponsored money market fund
specifically designated as available for exchange by holders of Class A, Class
B, Class C and Class D shares of MLAM-advised mutual funds. There is currently
no limitation on the number of times a shareholder may exercise the exchange
privilege. The exchange privilege may be modified or terminated at any time in
accordance with the rules of the Commission.
Under the Merrill Lynch Select Pricing SM System, Class A shareholders may
exchange Class A shares of the Fund for Class A shares of a second MLAM-
advised mutual fund if the shareholder holds any Class A shares of the second
fund in the account in which the exchange is made at the time of the exchange
or is otherwise eligible to purchase Class A shares of the second fund. If the
Class A shareholder wants to exchange Class A shares for shares of a second
MLAM-advised mutual fund, and the shareholder does not hold Class A shares of
the second fund in his or her account at the time of the exchange and is not
otherwise eligible to acquire Class A shares of the second fund, the
shareholder will receive Class D shares of the second fund as a result of the
exchange. Class D shares also may be exchanged for Class A shares of a second
MLAM-advised mutual fund at any time as long as, at the time of the exchange,
the shareholder holds Class A shares of the second fund in the account in
which the exchange is made or is otherwise eligible to purchase Class A shares
of the second fund.
Exchanges of Class A and Class D shares are made on the basis of the
relative net asset values per Class A or Class D share, respectively, plus an
amount equal to the difference, if any, between the sales charge previously
paid on the Class A or Class D shares being exchanged and the sales charge
payable at the time of the exchange on the shares being acquired.
Class B, Class C and Class D shares are exchangeable with shares of the same
class of other MLAM-advised mutual funds.
Shares of the Fund that are subject to a CDSC are exchangeable on the basis
of relative net asset value per share without the payment of any CDSC that
might otherwise be due upon redemption of the shares of the Fund. For purposes
of computing the CDSC that may be payable upon a disposition of the shares
acquired in the exchange, the holding period for the previously owned shares
of the Fund is "tacked" to the holding period for the newly acquired shares of
the other fund.
34
<PAGE>
Class A and Class D shares are exchangeable for Class A shares of, and Class
B and Class C shares are exchangeable for Class B shares of Summit. Class A
shares of Summit have an exchange privilege back into Class A or Class D
shares of MLAM-advised mutual funds; Class B shares of Summit have an exchange
privilege back into Class B or Class C shares of MLAM-advised mutual funds
and, in the event of such an exchange, the period of time that Class B shares
of Summit are held will count toward satisfaction of the holding period
requirement for purposes of reducing any CDSC and, with respect to Class B
shares, toward satisfaction of any Conversion Period. Class B shares of Summit
will be subject to a distribution fee at an annual rate of 0.75% of average
daily net assets of such Class B shares. This exchange privilege does not
apply with respect to certain Merrill Lynch fee-based programs, for which
alternative exchange arrangements may exist. Please see your Merrill Lynch
Financial Consultant for further information.
Prior to October 12, 1998, exchanges from the Fund and other MLAM-advised
mutual funds into a money market fund were directed to certain Merrill Lynch-
sponsored money market funds other than Summit. Shareholders who have
exchanged shares of a MLAM-advised mutual fund for shares of such other money
market funds and subsequently wish to exchange those money market fund shares
for shares of the Fund will be subject to the CDSC schedule applicable to such
Fund shares, if any. The holding period for those money market fund shares
will not count toward satisfaction of the holding period requirement for
reduction of the CDSC imposed on such shares, if any, and, with respect to
Class B shares, toward satisfaction of the Conversion Period. However, the
holding period for Class B or Class C shares received in exchange for such
money market fund shares will be aggregated with the holding period for the
original shares for purposes of reducing the CDSC or satisfying the Conversion
Period.
Class B shareholders of the Fund exercising the exchange privilege will
continue to be subject to the Fund's CDSC schedule if such schedule is higher
than the CDSC schedule relating to the new Class B shares. In addition, Class
B shares of the Fund acquired through use of the exchange privilege will be
subject to the Fund's CDSC schedule if such schedule is higher than the CDSC
schedule relating to the Class B shares of the MLAM-advised mutual fund from
which the exchange has been made.
Exercise of the exchange privilege is treated as a sale of the exchanged
shares and a purchase of the acquired shares for Federal income tax purposes.
For further information, see "Shareholder Services--Exchange Privilege" in the
Statement of Additional Information.
The Fund's exchange privilege is modified with respect to purchases of Class
A and Class D shares by non-retirement plan investors under the Merrill Lynch
Mutual Fund Advisor (Merrill Lynch MFA SM) program (the "MFA program"). First,
the initial allocation of assets is made under the MFA program. Then, any
subsequent exchange under the MFA program of Class A or Class D shares of a
MLAM-advised mutual fund for Class A or Class D shares of the Fund will be
made solely on the basis of the relative net asset values of the shares being
exchanged. Therefore, there will not be a charge for any difference between
the sales charge previously paid on the shares of the other MLAM-advised
mutual fund and the sales charge payable on the shares of the Fund being
acquired in the exchange under the MFA program.
AUTOMATIC REINVESTMENT OF DIVIDENDS AND CAPITAL GAINS DISTRIBUTIONS
All dividends and capital gains distributions are reinvested automatically
in full and fractional shares of the Fund, without a sales charge, at the net
asset value per share at the close of business on the monthly payment date for
such dividends and distributions. A shareholder may at any time, by written
notification to Merrill Lynch, if the shareholder's account is maintained with
Merrill Lynch, or by telephone (1-800-MER-FUND) to
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the Transfer Agent if the shareholder's account is maintained with the
Transfer Agent, elect to have subsequent dividends or both dividends and
capital gains distributions paid in cash, rather than reinvested, in which
event payment will be mailed on or about the payment date (provided that, in
the event that a payment on an account maintained at the Transfer Agent would
amount to $10.00 or less, a shareholder will not receive such payment in cash
and such payment will automatically be reinvested in additional shares). Cash
payments can also be directly deposited to the shareholder's bank account. No
CDSC will be imposed upon redemption of shares issued as a result of the
automatic reinvestment of dividends or capital gains distributions. The Fund
is not responsible for any failure of delivery to the shareholder's address of
record and no interest will accrue on amounts represented by uncashed
distribution or redemption checks.
SYSTEMATIC WITHDRAWAL PLANS
A shareholder may elect to receive systematic withdrawal payments from his
or her Investment Account through automatic payment by check or through
automatic payment by direct deposit to his or her bank account on either a
monthly or quarterly basis. Alternatively, a shareholder whose shares are held
within a CMA (R) or CBA (R) account may elect to have shares redeemed on a
monthly, bimonthly, quarterly, semiannual or annual basis through the
CMA (R)/CBA (R) Systematic Redemption Program, subject to certain conditions.
With respect to redemptions of Class B or Class C shares pursuant to a
systematic withdrawal plan, the maximum number of Class B or Class C shares
that can be redeemed from an account annually shall not exceed 10% of the
value of shares of such class in that account at the time the election to join
the systematic withdrawal plan was made. Any CDSC that otherwise might be due
on such redemption of Class B or Class C shares will be waived. Shares
redeemed pursuant to a systematic withdrawal plan will be redeemed in the same
order as Class B or Class C shares are otherwise redeemed. See "Purchase of
Shares--Deferred Sales Charge Alternatives--Class B and Class C Shares--
Contingent Deferred Sales Charges--Class B Shares" and "Contingent Deferred
Sales Charges--Class C Shares." Where the systematic withdrawal plan is
applied to Class B shares, upon conversion of the last Class B shares in an
account to Class D shares, the systematic withdrawal plan will be applied
thereafter to Class D shares if the shareholder so elects. See "Purchase of
Shares--Deferred Sales Charge Alternatives--Class B and Class C Shares--
Conversion of Class B Shares to Class D Shares."
AUTOMATIC INVESTMENT PLANS
Regular additions of Class A, Class B, Class C and Class D shares may be
made to an Investor's Investment Account by prearranged charges of $50 or more
to his regular bank account. An investor whose shares of the Fund are held
within a CMA(C) or CBA(C) account may arrange to have periodic investments
made in the Fund in amounts of $100 or more through the CMA(C) or CBA(C)
Automated Investment Program.
FEE-BASED PROGRAMS
Certain Merrill Lynch fee-based programs, including pricing alternatives for
securities transactions, (each referred to in this paragraph as a "Program")
may permit the purchase of Class A shares at net asset value. Under specified
circumstances, participants in certain Programs may deposit other classes of
shares which will be exchanged for Class A shares. Initial or deferred sales
charges otherwise due in connection with such exchanges may be waived or
modified, as may the Conversion Period applicable to the deposited shares.
Termination of participation in a Program may result in the redemption of
shares held therein or the automatic
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exchange thereof to another class at net asset value, which may be shares of a
money market fund. In addition, upon termination of participation in a
Program, shares that have been held for less than specified periods within
such Program may be subject to a fee based upon the current value of such
shares. These Programs also generally prohibit such shares from being
transferred to another account at Merrill Lynch, to another broker-dealer or
to the Transfer Agent. Except in limited circumstances (which may also involve
an exchange as described above), such shares must be redeemed and another
class of shares purchased (which may involve the imposition of initial or
deferred sales charges and distribution and account maintenance fees) in order
for the investment not to be subject to Program fees. Additional information
regarding a specific Program (including charges and limitations on
transferability applicable to shares that may be held in such Program) is
available in such Program's client agreement and from the Transfer Agent at
(800) MER-FUND or (800) 637-3863.
PORTFOLIO TRANSACTIONS
The Trust has no obligation to deal with any dealer or group of dealers in
the execution of transactions in portfolio securities of the Fund. Municipal
Bonds and other securities in which the Fund invests are traded primarily in
the over-the-counter market. Where possible, the Trust deals directly with the
dealers who make a market in the securities involved except in those
circumstances where better prices and execution are available elsewhere. It is
the policy of the Trust to obtain the best net results in conducting portfolio
transactions for the Fund, taking into account such factors as price
(including the applicable dealer spread), the size, type and difficulty of the
transactions involved, the firm's general execution and operations facilities,
and the firm's risk in positioning the securities involved and the provision
of supplemental investment research by the firm. While reasonably competitive
spreads or commissions are sought, the Fund will not necessarily be paying the
lowest spread or commission available. The sale of shares of the Fund may be
taken into consideration as a factor in the selection of brokers or dealers to
execute portfolio transactions for the Fund. The portfolio securities of the
Fund generally are traded on a net basis and normally do not involve either
brokerage commissions or transfer taxes. The cost of portfolio securities
transactions of the Fund primarily consists of dealer or underwriter spreads.
Under the 1940 Act, persons affiliated with the Trust, including Merrill
Lynch, are prohibited from dealing with the Trust as a principal in the
purchase and sale of securities unless such trading is permitted by an
exemptive order issued by the Commission. The Trust has obtained an exemptive
order permitting it to engage in certain principal transactions with Merrill
Lynch involving high quality short-term municipal bonds subject to certain
conditions. In addition, the Fund may not purchase securities, including
Municipal Bonds, during the existence of any underwriting syndicate of which
Merrill Lynch is a member or in a private placement in which Merrill Lynch
serves as placement agent except pursuant to procedures approved by the
Trustees of the Trust which either comply with rules adopted by the Commission
or with interpretations of the Commission staff. An affiliated person of the
Trust may serve as its broker in over-the-counter transactions conducted for
the Fund on an agency basis only.
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DISTRIBUTIONS AND TAXES
DISTRIBUTIONS
The net investment income of the Fund is declared as dividends daily prior
to the determination of the net asset value which is calculated 15 minutes
after the close of business on the NYSE (generally, the NYSE closes at 4:00
p.m., Eastern time) on that day. The net investment income of the Fund for
dividend purposes consists of interest earned on portfolio securities, less
expenses, in each case computed since the most recent determination of the net
asset value. Expenses of the Fund, including the management fees and the
account maintenance and distribution fees, are accrued daily. Dividends of net
investment income are declared daily and reinvested monthly in the form of
additional full and fractional shares of the Fund at net asset value as of the
close of business on the "payment date" unless the shareholder elects to
receive such dividends in cash. Shares will accrue dividends as long as they
are issued and outstanding. Shares are issued and outstanding from the
settlement date of a purchase order to the day prior to the settlement date of
a redemption order.
All net realized capital gains, if any, are declared and distributed to the
Fund's shareholders at least annually. Capital gains distributions will be
reinvested automatically in shares unless the shareholder elects to receive
such distributions in cash.
The per share dividends and distributions on each class of shares will be
reduced as a result of any account maintenance, distribution and transfer
agency fees applicable to that class. See "Additional Information--
Determination of Net Asset Value."
See "Shareholder Services" for information as to how to elect either
dividend reinvestment or cash payments. Portions of dividends and
distributions which are taxable to shareholders as described below are subject
to income tax whether they are reinvested in shares of the Fund or received in
cash.
TAXES
The Trust intends to continue to qualify the Fund for the special tax
treatment afforded regulated investment companies ("RICs") under the Code. As
long as it so qualifies, the Fund (but not its shareholders) will not be
subject to Federal income tax to the extent that it distributes its net
investment income and net realized capital gains. The Trust intends to cause
the Fund to distribute substantially all of such income. So long as the Fund
qualifies as a regulated investment company under the Code, it will not be
subject to any Massachusetts income tax.
To the extent that the dividends distributed to the Fund's Class A, Class B,
Class C and Class D shareholders (together, the "shareholders") are derived
from interest income exempt from Federal tax under Code Section 103(a) and are
properly designated as "exempt-interest dividends" by the Trust, they will be
excludable from a shareholder's gross income for Federal income tax purposes.
Exempt-interest dividends are included, however, in determining the portion,
if any, of a person's social security benefits and railroad retirement
benefits subject to Federal income taxes. The portion of such exempt-interest
dividends properly identified in a year-end statement as directly attributable
to interest on Massachusetts Municipal Bonds ("Massachusetts exempt-interest
dividends") also will be exempt from Massachusetts personal income taxes.
Corporate shareholders and shareholders subject to income taxation by states
other than Massachusetts will realize a lower after-tax rate of return than
individual Massachusetts shareholders since the dividends distributed
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by the Fund generally will not be exempt, to any significant degree, from the
Massachusetts corporate excise tax or from income taxation by such other
states. The Trust will inform shareholders annually as to the portion of the
Fund's distributions which constitutes exempt-interest dividends and the
portion which is exempt from Massachusetts personal income taxes. Interest on
indebtedness incurred or continued to purchase or carry Fund shares is not
deductible for Federal income tax or Massachusetts corporate excise tax
purposes, to the extent attributable to exempt-interest dividends, and is not
deductible for Massachusetts personal income tax purposes to the extent
attributable to Massachusetts exempt-interest dividends. Persons who may be
"substantial users" (or "related persons" of substantial users) of facilities
financed by industrial development bonds or private activity bonds held by the
Fund should consult their tax advisors before purchasing Fund shares.
Exempt-interest and capital gain dividends paid to a corporate shareholder
will be subject to Massachusetts corporate excise tax, and the value of the
shares of the Fund may be taken into account in calculating the property
component of such tax.
Distributions from investment income and capital gains of the Fund,
including exempt-interest dividends, may also be subject to state taxes in
states other than Massachusetts and may be subject to local taxes.
Accordingly, investors in the Fund should consult their tax advisors with
respect to the application of such taxes to the receipt of Fund dividends and
to the holding of shares in the Fund.
To the extent that the Fund's distributions are derived from interest on its
taxable investments or from an excess of net short-term capital gains over net
long-term capital losses ("ordinary income dividends"), such distributions are
considered taxable ordinary income for Federal income tax purposes and taxable
dividend income for Massachusetts tax purposes. Distributions, if any, from an
excess of net long-term capital gains over net short-term capital losses
derived from the sale of securities or from certain transactions in futures or
options ("capital gain dividends") are taxable as long-term capital gains for
Federal income tax purposes, regardless of the length of time the shareholder
has owned Fund shares and, for Massachusetts income tax purposes, are taxed as
capital gain income, unless they are attributable to the sale of certain
Massachusetts Municipal Bonds issued pursuant to legislation that specifically
exempts capital gains on their sale from Massachusetts personal income
taxation. Certain additional categories of capital gains are taxable at
different rates for Federal income tax purposes; there also are different
long-term capital gains rates for Massachusetts personal income tax purposes.
Generally not later than 60 days after the close of the Fund's taxable year,
the Trust will provide shareholders with a written notice designating the
amounts of any exempt-interest dividends, ordinary income dividends or capital
gain dividends, as well as any amount of capital gain dividends in the
different categories of capital gain referred to above. For Massachusetts
personal income tax purposes, proposed regulations have been issued that
would, if finalized, permit different classes of capital gains to be passed
through to RIC shareholders. Distributions by the Fund, whether from exempt-
interest income, ordinary income or capital gains, will not be eligible for
the dividends received deduction allowed to corporations under the Code.
All or a portion of the Fund's gain from the sale or redemption of tax-
exempt obligations purchased at a market discount will be treated as ordinary
income rather than capital gain. This rule may increase the amount of ordinary
income dividends received by shareholders. Distributions in excess of the
Fund's earnings and profits will first reduce the adjusted tax basis of a
holder's shares and, after such adjusted tax basis is reduced to zero, will
constitute capital gains to such holder (assuming the shares are held as a
capital asset). Any loss upon the sale or exchange of shares held for six
months or less will be disallowed to the extent of any exempt-interest
dividends received by the shareholder. In addition, any such loss that is not
disallowed under the rule stated
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above will be treated as long-term capital loss to the extent of any capital
gain dividends received by the shareholder. If the Fund pays a dividend in
January which was declared in the previous October, November or December to
shareholders of record on a specified date in one of such months, then such
dividend will be treated for tax purposes as being paid by the Fund and
received by its shareholders on December 31 of the year in which such dividend
was declared.
The Code subjects interest received on certain otherwise tax-exempt
securities to an alternative minimum tax. This alternative minimum tax applies
to interest received on certain "private activity bonds" issued after August
7, 1986. Private activity bonds are bonds which, although tax-exempt, are used
for purposes other than those generally performed by governmental units and
which benefit non-governmental entities (e.g., bonds used for industrial
development or housing purposes). Income received on such bonds is classified
as an item of "tax preference," which could subject certain investors in such
bonds, including shareholders of the Fund, to an alternative minimum tax. The
Fund will purchase such "private activity bonds," and the Trust will report to
shareholders within 60 days after the Fund's taxable year-end the portion of
the Fund's dividends declared during the year which constitutes an item of tax
preference for alternative minimum tax purposes. The Code further provides
that corporations are subject to an alternative minimum tax based, in part, on
certain differences between taxable income as adjusted for other tax
preferences and the corporation's "adjusted current earnings," which more
closely reflect a corporation's economic income. Because an exempt-interest
dividend paid by the Fund will be included in adjusted current earnings, a
corporate shareholder may be required to pay alternative minimum tax on
exempt-interest dividends paid by the Fund.
No gain or loss will be recognized by Class B shareholders on the conversion
of their Class B shares into Class D shares. A shareholder's basis in the
Class D shares acquired will be the same as such shareholder's basis in the
Class B shares converted, and the holding period of the acquired Class D
shares will include the holding period for the converted Class B shares.
If a shareholder exercises an exchange privilege within 90 days of acquiring
the shares, then the loss the shareholder can recognize on the exchange will
be reduced (or the gain increased) to the extent any sales charge paid to the
Fund on the exchanged shares reduces any sales charge such shareholder would
have owed upon purchase of the new shares in the absence of the exchange
privilege. Instead, such sales charge will be treated as an amount paid for
the new shares.
A loss realized on a sale or exchange of shares of the Fund will be
disallowed if other Fund shares are acquired (whether through the automatic
reinvestment of dividends or otherwise) within a 61-day period beginning 30
days before and ending 30 days after the date that the shares are disposed of.
In such a case, the basis of the shares acquired will be adjusted to reflect
the disallowed loss.
Under certain Code provisions, some shareholders may be subject to a 31%
withholding tax on certain ordinary income dividends and on capital gain
dividends and redemption payments ("backup withholding"). Generally,
shareholders subject to backup withholding will be those for whom no certified
taxpayer identification number is on file with the Trust or who, to the
Trust's knowledge, have furnished an incorrect number. When establishing an
account, an investor must certify under penalty of perjury that such number is
correct and that such investor is not otherwise subject to backup withholding.
The Code provides that every person required to file a tax return must
include for information purposes on such return the amount of exempt-interest
dividends received from all sources (including the Fund) during the taxable
year.
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The foregoing is a general and abbreviated summary of the applicable
provisions of the Code, Treasury regulations and Massachusetts tax laws
presently in effect. For the complete provisions, reference should be made to
the pertinent Code sections, the Treasury regulations promulgated thereunder
and the applicable Massachusetts personal income and corporate excise tax laws
and regulations. The Code and the Treasury regulations, as well as the
Massachusetts tax laws, are subject to change by legislative, judicial or
administrative action either prospectively or retroactively.
Shareholders are urged to consult their tax advisors regarding the
availability of any exemptions from state or local taxes and with specific
questions as to Federal, foreign, state or local taxes.
PERFORMANCE DATA
From time to time the Fund may include its average annual total return,
yield and tax-equivalent yield for various specified time periods in
advertisements or information furnished to present or prospective
shareholders. Average annual total return, yield and tax-equivalent yield are
computed separately for Class A, Class B, Class C and Class D shares in
accordance with formulas specified by the Commission.
Average annual total return quotations for the specified periods will be
computed by finding the average annual compounded rates of return (based on
net investment income and any realized and unrealized capital gains or losses
on portfolio investments over such periods) that would equate the initial
amount invested to the redeemable value of such investment at the end of each
period. Average annual total return will be computed assuming all dividends
and distributions are reinvested and taking into account all applicable
recurring and nonrecurring expenses, including any CDSC that would be
applicable to a complete redemption of the investment at the end of the
specified period such as in the case of Class B and Class C shares and the
maximum sales charge in the case of Class A and Class D shares. Dividends paid
by the Fund with respect to all shares, to the extent any dividends are paid,
will be calculated in the same manner at the same time on the same day and
will be in the same amount, except that account maintenance and distribution
charges and any incremental transfer agency costs relating to each class of
shares will be borne exclusively by that class. The Fund will include
performance data for all classes of shares of the Fund in any advertisement or
information including performance data of the Fund.
The Fund also may quote total return and aggregate total return performance
data for various specified time periods. Such data will be calculated
substantially as described above, except that (1) the rates of return
calculated will not be average annual rates, but rather, actual annual,
annualized or aggregate rates of return and (2) the maximum applicable sales
charges will not be included with respect to annual or annualized rates of
return calculations. Aside from the impact on the performance data
calculations of including or excluding the maximum applicable sales charges,
actual annual or annualized total return data generally will be lower than
average annual total return data since the average annual rates of return
reflect compounding; aggregate total return data generally will be higher than
average annual total return data since the aggregate rates of return reflect
compounding over a longer period of time. In advertisements distributed to
investors whose purchases are subject to waiver of the CDSC in the case of
Class B and Class C shares or reduced sales charges in the case of Class A and
Class D shares, the performance data may take into account the reduced, and
not the maximum, sales charge or may not take into account the CDSC and
therefore may reflect greater total return since, due to the reduced sales
charges or waiver of the CDSC, a lower amount of expenses is deducted. See
"Purchase of Shares." The
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Fund's total return may be expressed either as a percentage or as a dollar
amount in order to illustrate such total return on a hypothetical $1,000
investment in the Fund at the beginning of each specified period.
Yield quotations will be computed based on a 30-day period by dividing (a)
the net income based on the yield of each security earned during the period by
(b) the average daily number of shares outstanding during the period that were
entitled to receive dividends multiplied by the maximum offering price per
share on the last day of the period. Tax equivalent yield quotations will be
computed by dividing (a) the part of the Fund's yield that is tax-exempt by
(b) one minus a stated tax rate and (c) adding the result to that part, if
any, of the Fund's yield that is not tax-exempt. The yield for the 30-day
period ended July 31, 1998 was 4.06% for Class A shares, 3.72% for Class B
shares, 3.62% for Class C shares and 3.96% for Class D shares and the tax-
equivalent yield for the same period (based on a Federal income tax rate of
28%) was 5.64% for Class A shares, 5.17% for Class B shares, 5.03% for Class C
shares and 5.50% for Class D shares.
Total return, yield and tax-equivalent yield figures are based on the Fund's
historical performance and are not intended to indicate future performance.
The Fund's total return, yield and tax-equivalent yield will vary depending on
market conditions, the securities comprising the Fund's portfolio, the Fund's
operating expenses and the amount of realized and unrealized net capital gains
or losses during the period. The value of an investment in the Fund will
fluctuate and an investor's shares, when redeemed, may be worth more or less
than their original cost.
On occasion, the Fund may compare its performance to the Lehman Brothers
Municipal Bond Index or other market indices or to performance data published
by Lipper Analytical Services, Inc., Morningstar Publications, Inc.
("Morningstar"), CDA Investment Technology, Inc., Money Magazine, U.S. News &
World Report, Business Week, Forbes Magazine, Fortune Magazine or other
industry publications. When comparing its performance to a market index, the
Fund may refer to various statistical measures derived from the historic
performance of the Fund and the index, such as standard deviation and beta. In
addition, from time to time, the Fund may include the Fund's risk-adjusted
performance ratings assigned by Morningstar in advertising or supplemental
sales literature. As with other performance data, performance comparisons
should not be considered indicative of the Fund's relative performance for any
future period.
ADDITIONAL INFORMATION
DETERMINATION OF NET ASSET VALUE
The net asset value of the shares of all classes of the Fund is determined
by the Manager once daily 15 minutes after the close of business on the NYSE
(generally, the NYSE closes at 4:00 p.m., Eastern time), on each day during
which the NYSE is open for trading. The net asset value per share is computed
by dividing the sum of the value of the securities held by the Fund plus any
cash or other assets (including interest and dividends accrued but not yet
received) minus all liabilities (including accrued expenses) by the total
number of shares outstanding at such time, rounded to the nearest cent.
Expenses, including the fees payable to the Manager and the Distributor, are
accrued daily.
The per share net asset value of the Class A shares will generally be higher
than the per share net asset value of shares of the other classes, reflecting
the daily expense accruals of the account maintenance, distribution and higher
transfer agency fees applicable with respect to Class B and Class C shares and
the daily expense
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accruals of the account maintenance fees applicable with respect to Class D
shares; moreover, the per share net asset value of Class D shares generally
will be higher than the per share net asset value of Class B and Class C
shares, reflecting the daily expense accruals of the distribution fees, higher
account maintenance fees and higher transfer agency fees applicable with
respect to Class B and Class C shares. It is expected, however, that the per
share net asset value of the classes will tend to converge (although not
necessarily meet) immediately after the payment of dividends or distributions
which will differ by approximately the amount of the expense accrual
differentials between the classes.
ORGANIZATION OF THE TRUST
The Trust is a business trust organized on August 2, 1985 under the laws of
Massachusetts. On October 1, 1987, the Trust changed its name from "Merrill
Lynch Multi-State Tax-Exempt Series Trust" to "Merrill Lynch Multi-State
Municipal Bond Series Trust," and on December 22, 1987 the Trust again changed
its name to "Merrill Lynch Multi-State Municipal Series Trust." The Trust is
an open-end management investment company comprised of separate series
("Series"), each of which is a separate portfolio offering shares to selected
groups of purchasers. Each of the Series is managed independently in order to
provide to shareholders who are residents of the state to which such Series
relates as high a level of income exempt from Federal and, in certain cases,
state and local income taxes as is consistent with prudent investment
management. The Trustees are authorized to create an unlimited number of
Series and, with respect to each Series, to issue an unlimited number of full
and fractional shares of beneficial interest, $.10 par value per share, of
different classes. Shareholder approval is not required for the authorization
of additional Series or classes of a Series of the Trust. At the date of this
Prospectus, the shares of the Fund are divided into Class A, Class B, Class C
and Class D shares. Class A, Class B, Class C and Class D shares represent
interests in the same assets of the Fund and are identical in all respects
except that Class B, Class C and Class D shares bear certain expenses relating
to the account maintenance associated with such shares, and Class B and Class
C shares bear certain expenses relating to the distribution of such shares.
Each class has exclusive voting rights with respect to matters relating to
distribution and/or account maintenance expenditures, as applicable. See
"Purchase of Shares." The Trustees of the Trust may classify and reclassify
the shares of any Series into additional or other classes at a future date.
Shareholders are entitled to one vote for each full share and to fractional
votes for fractional shares held in the election of Trustees (to the extent
hereinafter provided) and on other matters submitted to the vote of
shareholders. There normally will be no meeting of shareholders for the
purpose of electing Trustees unless and until such time as less than a
majority of the Trustees holding office have been elected by shareholders, at
which time the Trustees then in office will call a shareholders' meeting for
the election of Trustees. Shareholders may, in accordance with the terms of
the Declaration of Trust, cause a meeting of shareholders to be held for the
purpose of voting on the removal of Trustees. Also, the Trust will be required
to call a special meeting of shareholders of a Series in accordance with the
requirements of the 1940 Act to seek approval of new management and advisory
arrangements, of a material increase in distribution fees or of a change in
the fundamental policies, objectives or restrictions of a Series. Except as
set forth above, the Trustees shall continue to hold office and appoint
successor Trustees. Upon liquidation or dissolution of a Series, each issued
and outstanding share is entitled to participate equally in dividends and
distributions declared by the respective Series and in net assets of such
Series remaining after satisfaction of outstanding liabilities except that, as
noted above, Class B, Class C and Class D shares bear certain additional
expenses. The obligations and liabilities of a particular Series are
restricted to the assets of that Series and do not extend to the assets of the
Trust generally. The shares of each Series, when issued, will be fully-paid
and non-assessable by the Trust.
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SHAREHOLDER REPORTS
Only one copy of each shareholder report and certain shareholder
communications will be mailed to each identified shareholder regardless of the
number of accounts such shareholder has. If a shareholder wishes to receive
separate copies of each report and communication for each of the shareholder's
related accounts, the shareholder should notify in writing:
Financial Data Services, Inc. P.O. Box 45289 Jacksonville, FL 32232-5289
The written notification should include the shareholder's name, address, tax
identification number and Merrill Lynch, Pierce, Fenner & Smith Incorporated
and/or mutual fund account numbers. If you have any questions regarding this
matter please call your Merrill Lynch Financial Consultant or Financial Data
Services, Inc. at 800-637-3863.
SHAREHOLDER INQUIRIES
Shareholder inquiries may be addressed to the Trust at the address or
telephone number set forth on the cover page of this Prospectus.
YEAR 2000 ISSUES
Many computer systems were designed using only two digits to designate
years. These systems may not be able to distinguish the Year 2000 from the
Year 1900 (commonly known as the "Year 2000 Problem"). Like other investment
companies and financial and business organizations, the Fund could be
adversely affected if the computer systems used by the Manager or other Fund
service providers do not properly address this problem prior to January 1,
2000. The Manager has established a dedicated group to analyze these issues
and to implement any systems modifications necessary to prepare for the Year
2000. Currently, the Manager does not anticipate that the transition to the
Year 2000 will have any material impact on its ability to continue to service
the Fund at current levels. In addition, the Manager has sought assurances
from the Fund's other service providers that they are taking all necessary
steps to ensure that their computer systems will accurately reflect the Year
2000, and the Manager will continue to monitor the situation. At this time,
however, no assurance can be given that the Fund's other service providers
have anticipated every step necessary to avoid any adverse effect on the Fund
attributable to the Year 2000 Problem.
----------------
The Declaration of Trust establishing the Trust, dated August 2, 1985, a
copy of which together with all amendments thereto (the "Declaration"), is on
file in the office of the Secretary of the Commonwealth of Massachusetts,
provides that the name "Merrill Lynch Multi-State Municipal Series Trust"
refers to the Trustees under the Declaration collectively as Trustees, but not
as individuals or personally; and no Trustee, shareholder, officer, employee
or agent of the Trust shall be held to any personal liability, nor shall
resort be had to such person's private property for the satisfaction of any
obligation or claim of the Trust, but the "Trust Property" only shall be
liable.
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MANAGER
Fund Asset Management
Administrative Offices:
800 Scudders Mill Road
Plainsboro, New Jersey
Mailing Address:
P.O. Box 9011
Princeton, New Jersey 08543-9011
DISTRIBUTOR
Merrill Lynch Funds Distributor,
a division of Princeton Funds Distributor, Inc.
Administrative Offices:
800 Scudders Mill Road
Plainsboro, New Jersey
Mailing Address:
P.O. Box 9081
Princeton, New Jersey 08543-9081
CUSTODIAN
State Street Bank and Trust Company
P.O. Box 351
Boston, Massachusetts 02101
TRANSFER AGENT
Financial Data Services, Inc.
Administrative Offices:
4800 Deer Lake Drive East
Jacksonville, Florida 32246-6484
Mailing Address:
P.O. Box 45289
Jacksonville, Florida 32232-5289
INDEPENDENT AUDITORS
Deloitte & Touche LLP
117 Campus Drive
Princeton, New Jersey 08540-6400
COUNSEL
Brown & Wood LLP
One World Trade Center
New York, New York 10048-0557
<PAGE>
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS, OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS, IN CONNECTION
WITH THE OFFER CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN OR MADE, SUCH OTHER
INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE TRUST, THE MANAGER OR THE DISTRIBUTOR. THIS PROSPECTUS DOES
NOT CONSTITUTE AN OFFERING IN ANY STATE IN WHICH SUCH OFFERING MAY NOT
LAWFULLY BE MADE.
-------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Fee Table.................................................................. 2
Merrill Lynch Select Pricing SM System..................................... 4
Financial Highlights....................................................... 8
Investment Objective and Policies.......................................... 11
Potential Benefits........................................................ 13
Risk Factors and Special Considerations Relating to Municipal Bonds....... 13
Description of Municipal Bonds............................................ 14
Call Rights............................................................... 16
When-Issued Securities and Delayed Delivery Transactions.................. 17
Financial Futures Transactions and Options................................ 17
Repurchase Agreements..................................................... 19
Investment Restrictions................................................... 19
Management of the Trust.................................................... 21
Trustees.................................................................. 21
Management and Advisory Arrangements...................................... 21
Code of Ethics............................................................ 22
Transfer Agency Services.................................................. 22
Purchase of Shares......................................................... 23
Initial Sales Charge Alternatives--Class A and Class D Shares............. 25
Deferred Sales Charge Alternatives--Class B and Class C Shares............ 26
Distribution Plans........................................................ 29
Limitations on the Payment of Deferred Sales Charges...................... 31
Redemption of Shares....................................................... 32
Redemption................................................................ 32
Repurchase................................................................ 32
Reinstatement Privilege--Class A and Class D Shares....................... 33
Shareholder Services....................................................... 33
Investment Account........................................................ 33
Exchange Privilege........................................................ 34
Automatic Reinvestment of Dividends and Capital Gains Distributions....... 35
Systematic Withdrawal Plans............................................... 36
Automatic Investment Plans................................................ 36
Fee-Based Programs........................................................ 36
Portfolio Transactions..................................................... 37
Distributions and Taxes.................................................... 38
Distributions............................................................. 38
Taxes..................................................................... 38
Performance Data........................................................... 41
Additional Information..................................................... 42
Determination of Net Asset Value.......................................... 42
Organization of the Trust................................................. 43
Shareholder Reports....................................................... 44
Shareholder Inquiries..................................................... 44
Year 2000 Issues.......................................................... 44
</TABLE>
Code #16148-1198
[LOGO] MERRILL LYNCH
MERRILL LYNCH
MASSACHUSETTS MUNICIPAL
BOND FUND
OF MERRILL LYNCH MULTI-STATE
MUNICIPAL SERIES TRUST
[ART]
PROSPECTUS
November 6, 1998
Distributor:
Merrill Lynch
Funds Distributor
This prospectus should be
retained for future reference.
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
MERRILL LYNCH MASSACHUSETTS MUNICIPAL BOND FUND
OF MERRILL LYNCH MULTI-STATE MUNICIPAL SERIES TRUST
P.O. BOX 9011, PRINCETON, NEW JERSEY 08543-9011 . PHONE NO. (609) 282-2800
----------------
Merrill Lynch Massachusetts Municipal Bond Fund (the "Fund") is a series of
Merrill Lynch Multi-State Municipal Series Trust (the "Trust"), an open-end
management investment company organized as a Massachusetts business trust. The
investment objective of the Fund is to provide shareholders with as high a
level of income exempt from Federal income tax and Massachusetts personal
income taxes as is consistent with prudent investment management. The Fund
invests primarily in a non-diversified portfolio of long-term investment grade
obligations issued by or on behalf of The Commonwealth of Massachusetts, its
political subdivisions, agencies and instrumentalities and obligations of
other qualifying issuers, such as issuers located in Puerto Rico, the U.S.
Virgin Islands and Guam, which pay interest exempt from Federal income tax and
Massachusetts personal income taxes. There can be no assurance that the
investment objective of the Fund will be realized.
Pursuant to the Merrill Lynch Select PricingSM System, the Fund offers four
classes of shares, each with a different combination of sales charges, ongoing
fees and other features. The Merrill Lynch Select PricingSM System permits an
investor to choose the method of purchasing shares that the investor believes
is most beneficial given the amount of the purchase, the length of time the
investor expects to hold the shares and other relevant circumstances.
----------------
The Statement of Additional Information of the Fund is not a prospectus and
should be read in conjunction with the prospectus of the Fund, dated November
6, 1998 (the "Prospectus"), which has been filed with the Securities and
Exchange Commission (the "Commission") and can be obtained, without charge, by
calling or by writing the Fund at the above telephone number or address. This
Statement of Additional Information has been incorporated by reference into
the Prospectus. Capitalized terms used but not defined herein have the same
meanings as in the Prospectus.
----------------
FUND ASSET MANAGEMENT -- MANAGER
MERRILL LYNCH FUNDS DISTRIBUTOR -- DISTRIBUTOR
----------------
The date of this Statement of Additional Information is November 6, 1998.
<PAGE>
INVESTMENT OBJECTIVE AND POLICIES
The investment objective of the Fund is to provide shareholders with as high
a level of income exempt from Federal income tax and Massachusetts personal
income taxes as is consistent with prudent investment management. The Fund
seeks to achieve its objective by investing primarily in a portfolio of long-
term obligations issued by or on behalf of The Commonwealth of Massachusetts,
its political subdivisions, agencies and instrumentalities and obligations of
other qualifying issuers, such as issuers located in Puerto Rico, the U.S.
Virgin Islands and Guam, which pay interest exempt, in the opinion of bond
counsel to the issuer, from Federal income tax and Massachusetts personal
income taxes. Obligations exempt from Federal income taxes are referred to
herein as "Municipal Bonds" and obligations exempt from both Federal income
tax and Massachusetts personal income taxes are referred to as "Massachusetts
Municipal Bonds." Unless otherwise indicated, references to Municipal Bonds
shall be deemed to include Massachusetts Municipal Bonds. The Fund anticipates
that at all times, except during temporary defensive periods, it will maintain
at least 65% of its total assets invested in Massachusetts Municipal Bonds. At
times, the Fund will seek to hedge its portfolio through the use of futures
transactions to reduce volatility in the net asset value of Fund shares.
Reference is made to "Investment Objective and Policies" in the Prospectus for
a discussion of the investment objective and policies of the Fund.
Municipal Bonds may include general obligation bonds of the State and its
political subdivisions, revenue bonds to finance utility systems, highways,
bridges, port and airport facilities, colleges, hospitals, housing facilities,
etc., and industrial development bonds or private activity bonds. The interest
on such obligations may bear a fixed rate or be payable at a variable or
floating rate. The Municipal Bonds purchased by the Fund will be primarily
what are commonly referred to as "investment grade" securities, which are
obligations rated at the time of purchase within the four highest quality
ratings as determined by either Moody's Investors Service, Inc. ("Moody's")
(currently Aaa, Aa, A and Baa), Standard & Poor's ("Standard & Poor's")
(currently AAA, AA, A and BBB) or Fitch IBCA, Inc. ("Fitch") (currently AAA,
AA, A and BBB). If unrated, such securities will possess creditworthiness
comparable, in the opinion of the manager of the Fund, Fund Asset Management,
L.P. (the "Manager"), to other obligations in which the Fund may invest.
The Fund ordinarily does not intend to realize investment income not exempt
from Federal income tax and Massachusetts personal income taxes. However, to
the extent that suitable Massachusetts Municipal Bonds are not available for
investment by the Fund, the Fund may purchase Municipal Bonds issued by other
states, their agencies and instrumentalities, the interest income on which is
exempt, in the opinion of bond counsel to the issuer, from Federal income tax
but not Massachusetts personal income tax. The Fund also may invest in
securities not issued by or on behalf of a state or territory or by an agency
or instrumentality thereof, if the Fund nevertheless believes such securities
to be exempt from Federal income taxation ("Non-Municipal Tax-Exempt
Securities"). Non-Municipal Tax-Exempt Securities may include securities
issued by other investment companies that invest in municipal bonds, to the
extent permitted by applicable law. Other Non-Municipal Tax-Exempt Securities
could include trust certificates or other instruments evidencing interests in
one or more long-term municipal securities.
Except when acceptable securities are unavailable as determined by the
Manager, the Fund, under normal circumstances, will invest at least 65% of its
total assets in Massachusetts Municipal Bonds. For temporary periods or to
provide liquidity, the Fund has the authority to invest as much as 35% of its
assets in tax-exempt or taxable money market obligations with a maturity of
one year or less (such short-term obligations being referred to herein as
"Temporary Investments"), except that taxable Temporary Investments shall not
exceed 20% of the Fund's net assets. The Fund at all times will have at least
80% of its net assets invested in securities exempt from Federal income
taxation. However, interest received on certain otherwise tax-exempt
securities which are classified as "private activity bonds" (in general bonds
that benefit non-governmental entities) may be subject to an alternative
minimum tax. The Fund may purchase such private activity bonds. See
"Distributions and Taxes." In addition, the Fund reserves the right to invest
temporarily a greater portion of its assets in Temporary Investments for
defensive purposes, when, in the judgment of the Manager, market conditions
warrant. The investment objective of the Fund set forth in this paragraph is a
fundamental policy of the Fund which may not
2
<PAGE>
be changed without a vote of a majority of the outstanding shares of the Fund.
The Fund's hedging strategies are not fundamental policies and may be modified
by the Trustees of the Trust without the approval of the Fund's shareholders.
Municipal Bonds may at times be purchased or sold on a delayed delivery
basis or a when-issued basis. These transactions arise when securities are
purchased or sold by the Fund with payment and delivery taking place in the
future, often a month or more after the purchase. The payment obligation and
the interest rate are each fixed at the time the buyer enters into the
commitment. The Fund will make only commitments to purchase such securities
with the intention of actually acquiring the securities, but the Fund may sell
these securities prior to the settlement date if it is deemed advisable.
Purchasing Municipal Bonds on a when-issued basis involves the risk that the
yields available in the market when the delivery takes place may actually be
higher than those obtained in the transaction itself; if yields so increase,
the value of the when-issued obligations generally will decrease. The Fund
will maintain a separate account at its custodian bank consisting of cash,
cash equivalents or high-grade, liquid Municipal Bonds or Temporary
Investments (valued on a daily basis) equal at all times to the amount of the
when-issued commitment.
The Fund may invest in Municipal Bonds (and Non-Municipal Tax-Exempt
Securities) the return on which is based on a particular index of value or
interest rates. For example, the Fund may invest in Municipal Bonds that pay
interest based on an index of Municipal Bond interest rates or based on the
value of gold or some other commodity. The principal amount payable upon
maturity of certain Municipal Bonds also may be based on the value of an
index. Also, the Fund may invest in so-called "inverse floating obligations"
or "residual interest bonds" on which the interest rates typically decline as
market rates increase and increase as market rates decline. For example, to
the extent the Fund invests in these types of Municipal Bonds, the Fund's
return on such Municipal Bonds will be subject to risk with respect to the
value of the particular index, which may include reduced or eliminated
interest payments and losses of invested principal. Such securities have the
effect of providing a degree of investment leverage, since they may increase
or decrease in value in response to changes, as an illustration, in market
interest rates at a rate which is a multiple (typically two) of the rate at
which fixed-rate long-term tax exempt securities increase or decrease in
response to such changes. As a result, the market values of such securities
will generally be more volatile than the market values of fixed-rate tax
exempt securities. To seek to limit the volatility of these securities, the
Fund may purchase inverse floating obligations with shorter term maturities or
which contain limitations on the extent to which the interest rate may vary.
Certain investments in such obligations may be illiquid. The Fund may not
invest in such illiquid obligations if such investments, together with other
illiquid investments, would exceed 15% of the Fund's total assets. The Manager
believes, however, that indexed and inverse floating obligations represent
flexible portfolio management instruments for the Fund which allow the Fund to
seek potential investment rewards, hedge other portfolio positions or vary the
degree of investment leverage relatively efficiently under different market
conditions.
The Fund may purchase a Municipal Bond issuer's right to call all or a
portion of such Municipal Bond for mandatory tender for purchase (a "Call
Right"). A holder of a Call Right may exercise such right to require a
mandatory tender for the purchase of related Municipal Bonds, subject to
certain conditions. A Call Right that is not exercised prior to the maturity
of the related Municipal Bond will expire without value. The economic effect
of holding both the Call Right and the related Municipal Bond is identical to
holding a Municipal Bond as a non-callable security. Certain investments in
such obligations may be illiquid. The Fund may not invest in such illiquid
obligations if such investments, together with other illiquid investments,
would exceed 15% of the Fund's total assets.
The Fund may invest up to 20% of its total assets in Municipal Bonds which
are rated below Baa by Moody's or below BBB by Standard & Poor's or Fitch or
which, in the Manager's judgment, possess similar credit characteristics
("high yield securities"). See Appendix II--"Ratings of Municipal Bonds" for
additional information regarding ratings of debt securities. The Manager
considers the ratings assigned by Standard & Poor's, Moody's or Fitch as one
of several factors in its independent credit analysis of issuers.
3
<PAGE>
High yield securities are considered by Standard & Poor's, Moody's and Fitch
to have varying degrees of speculative characteristics. Consequently, although
high yield securities can be expected to provide higher yields, such
securities may be subject to greater market price fluctuations and risk of
loss of principal than lower yielding, higher rated debt securities.
Investments in high yield securities will be made only when, in the judgment
of the Manager, such securities provide attractive total return potential
relative to the risk of such securities, as compared to higher quality debt
securities. The Fund generally will not invest in debt securities in the
lowest rating categories (those rated CC or lower by Standard & Poor's or
Fitch or Ca or lower by Moody's) unless the Manager believes that the
financial condition of the issuer or the protection afforded the particular
securities is stronger than would otherwise be indicated by such low ratings.
Issuers or obligors of high yield securities may be highly leveraged and may
not have available to them more traditional methods of financing. Therefore,
the risks associated with acquiring the securities of such issuers or obligors
generally are greater than is the case with higher rated securities. For
example, during an economic downturn or a sustained period of rising interest
rates, issuers or obligors of high yield securities may be more likely to
experience financial stress, especially if such issuers or obligors are highly
leveraged. In addition, the market for high yield municipal securities is
relatively new and has not weathered a major economic recession, and it is
unknown what effects such a recession might have on such securities. During
such periods, such issuers may not have sufficient revenues to meet their
interest payment obligations. The issuer's ability to service its debt
obligations also may be adversely affected by specific issuer developments, or
the issuer's inability to meet specific projected business forecasts, or the
unavailability of additional financing. The risk of loss due to default by the
issuer is significantly greater for the holders of high yield securities
because such securities may be unsecured and may be subordinated to other
creditors of the issuer.
High yield securities frequently have call or redemption features that would
permit an issuer to repurchase the security from the Fund. If a call were
exercised by the issuer during a period of declining interest rates, the Fund
likely would have to replace such called security with a lower yielding
security, thus decreasing the net investment income to the Fund and dividends
to shareholders.
The Fund may have difficulty disposing of certain high yield securities
because there may be a thin trading market for such securities. Because not
all dealers maintain markets in all high yield securities, there is no
established secondary market for many of these securities, and the Fund
anticipates that such securities could be sold only to a limited number of
dealers or institutional investors. To the extent that a secondary trading
market for high yield securities does exist, it generally is not as liquid as
the secondary market for higher rated securities. Reduced secondary market
liquidity may have an adverse impact on market price and the Fund's ability to
dispose of particular issues when necessary to meet the Fund's liquidity needs
or in response to a specific economic event such as a deterioration in the
creditworthiness of the issuer. Reduced secondary market liquidity for certain
securities also may make it more difficult for the Fund to obtain accurate
market quotations for purposes of valuing the Fund's portfolio. Market
quotations generally are available on many high yield securities only from a
limited number of dealers and may not necessarily represent firm bids of such
dealers or prices for actual sales.
It is expected that a significant portion of the high yield securities
acquired by the Fund will be purchased upon issuance, which may involve
special risks because the securities so acquired are new issues. In such
instances the Fund may be a substantial purchaser of the issue and therefore
have the opportunity to participate in structuring the terms of the offering.
Although this may enable the Fund to seek to protect itself against certain of
such risks, the considerations discussed herein would nevertheless remain
applicable.
Adverse publicity and investor perceptions, which may not be based on
fundamental analysis, also may decrease the value and liquidity of high yield
securities, particularly in a thinly traded market. Factors adversely
affecting the market value of high yield securities are likely to adversely
affect the Fund's net asset value. In addition, the Fund may incur additional
expenses to the extent that it is required to seek recovery upon a default on
a portfolio holding or participate in the restructuring of the obligation.
4
<PAGE>
DESCRIPTION OF
MUNICIPAL BONDS AND TEMPORARY INVESTMENTS
Set forth below is a description of the Municipal Bonds and Temporary
Investments in which the Fund may invest. A more complete discussion
concerning futures and options transactions is set forth under "Investment
Objective and Policies" in the Prospectus. Information with respect to ratings
assigned to tax-exempt obligations which the Fund may purchase is set forth in
Appendix II to this Statement of Additional Information.
DESCRIPTION OF MUNICIPAL BONDS
Municipal Bonds include debt obligations issued to obtain funds for various
public purposes, including construction of a wide range of public facilities,
refunding of outstanding obligations and obtaining funds for general operating
expenses and loans to other public institutions and facilities. In addition,
certain types of industrial development bonds or private activity bonds are
issued by or on behalf of public authorities to finance various privately
owned or operated facilities. Such obligations are included within the term
Municipal Bonds if the interest paid thereon is excluded from gross income for
Federal income tax purposes and, in the case of Massachusetts Municipal Bonds,
exempt from Massachusetts personal income taxes. Other types of industrial
development bonds or private activity bonds, the proceeds of which are used
for the construction, equipment or improvement of privately operated
industrial or commercial facilities, may constitute Municipal Bonds, although
the current Federal tax laws place substantial limitations on the size of such
issues.
The two principal classifications of Municipal Bonds are "general
obligation" bonds and "revenue" bonds which latter category includes
industrial development bonds ("IDBs") and, for bonds issued after August 15,
1986, private activity bonds. General obligation bonds are secured by the
issuer's pledge of 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 or limited tax or other specific revenue source such as
payments from the user of the facility being financed. IDBs and, in the case
of bonds issued after August 15, 1986, private activity bonds are in most
cases revenue bonds and generally do not constitute the pledge of the credit
or taxing power of the issuer of such bonds. Generally, the payment of the
principal of and interest on such bonds depends solely on the ability of the
user of the facility financed by the bonds to meet its financial obligations
and the pledge, if any, of real and personal property so financed as security
for such payment, unless a line of credit, bond insurance or other security is
furnished. The Fund may invest in Municipal Bonds that are so-called "moral
obligation" bonds, which are normally issued by special purpose public
authorities. If an issuer of moral obligation bonds is unable to meet its
obligations, repayment of such bonds becomes a moral commitment, but not a
legal obligation, of the state or municipality in question.
Also included within the general category of Municipal Bonds are
participation certificates issued by government authorities or entities to
finance the acquisition or construction of equipment, land and/or facilities.
The certificates represent participations in a lease, an installment purchase
contract or a conditional sales contract (hereinafter collectively called
"lease obligations") relating to such equipment, land or facilities. Although
lease obligations do not constitute general obligations of the issuer for
which the issuer's unlimited taxing power is pledged, a lease obligation is
frequently backed by the issuer's covenant to budget for, appropriate and make
the payments due under the lease obligation. Certain investments in lease
obligations may be illiquid. The Fund may not invest in illiquid lease
obligations if such investments, together with all other illiquid investments,
would exceed 15% of the Fund's total assets. The Fund may, however, invest
without regard to such limitation in lease obligations which the Manager,
pursuant to the guidelines which have been adopted by the Board of Trustees
and subject to the supervision of the Board of Trustees, determines to be
liquid. The Manager will deem lease obligations liquid if they are publicly
offered and have received an investment grade rating of Baa or better by
Moody's, or BBB or better by Standard & Poor's or Fitch. Unrated lease
obligations, or those rated below investment grade, will be considered liquid
if the obligations come to the market through an underwritten public offering
and at least two dealers are willing to give competitive bids. In reference to
the latter, the Manager must, among other things, also review the
creditworthiness of the entity obligated to make payment under the lease
5
<PAGE>
obligation and make certain specified determinations based on such factors as
the existence of a rating or credit enhancement such as insurance, the
frequency of trades or quotes for the obligation and the willingness of
dealers to make a market in the obligation.
Yields on Municipal Bonds are dependent on a variety of factors, including
the general condition of the money market and of the municipal bond market,
the size of a particular offering, the financial condition of the issuer, the
general conditions of the Municipal Bond market, the maturity of the
obligation, and the rating of the issue. The ability of the Fund to achieve
its investment objective is also dependent on the continuing ability of the
issuers of the bonds in which the Fund invests to meet their obligations for
the payment of interest and principal when due. There are variations in the
risks involved in holding Municipal Bonds, both within a particular
classification and between classifications, depending on numerous factors.
Furthermore, the rights of owners of Municipal Bonds and the obligations of
the issuer of such Municipal Bonds may be subject to applicable bankruptcy,
insolvency and similar laws and court decisions affecting the rights of
creditors generally and to general equitable principles, which may limit the
enforcement of certain remedies.
DESCRIPTION OF TEMPORARY INVESTMENTS
The Fund may invest in short-term tax-free and taxable securities subject to
the limitations set forth under "Investment Objective and Policies." The tax-
exempt money market securities may include municipal notes, municipal
commercial paper, municipal bonds with remaining maturity of less than one
year, variable rate demand notes and participations therein. Municipal notes
include tax anticipation notes, bond anticipation notes and grant anticipation
notes. Anticipation notes are sold as interim financing in anticipation of tax
collection, bond sales, government grants or revenue receipts. Municipal
commercial paper refers to short-term unsecured promissory notes generally
issued to finance short-term credit needs. The taxable money market securities
in which the Fund may invest as Temporary Investments consist of U.S.
Government securities, U.S. Government agency securities, domestic bank or
savings institution certificates of deposit and bankers' acceptances, short-
term corporate debt securities such as commercial paper, and repurchase
agreements. These Temporary Investments must have a stated maturity not in
excess of one year from the date of purchase.
Variable rate demand obligations ("VRDOs") are tax-exempt obligations which
contain a floating or variable interest rate adjustment formula and an
unconditional right of demand on the part of the holder thereof to receive
payment of the unpaid principal balance plus accrued interest upon a short
notice period not to exceed seven days. There is, however, the possibility
that because of default or insolvency the demand feature of VRDOs and
Participating VRDOs, described below, may not be honored. The interest rates
are adjustable at intervals (ranging from daily to up to one year) to some
prevailing market rate for similar investments, such adjustment formula being
calculated to maintain the market value of the VRDOs at approximately the par
value of the VRDOs on the adjustment date. The adjustments typically are set
at a rate determined by the remarketing agent or based upon the Public
Securities Association Index or some other appropriate interest rate
adjustment index. The Fund may invest in all types of tax-exempt instruments
currently outstanding or to be issued in the future which satisfy the short-
term maturity and quality standards of the Fund.
The Fund also may invest in VRDOs in the form of participation interests
("Participating VRDOs") in variable rate tax-exempt obligations held by a
financial institution, typically a commercial bank. Participating VRDOs
provide the Fund with a specified undivided interest (up to 100%) of the
underlying obligation and the right to demand payment of the unpaid principal
balance plus accrued interest on the Participating VRDOs from the financial
institution upon a specified number of days' notice, not to exceed seven days.
In addition, a Participating VRDO is backed by an irrevocable letter of credit
or guaranty of the financial institution. The Fund would have an undivided
interest in the underlying obligation and thus participate on the same basis
as the financial institution in such obligation except that the financial
institution typically retains fees out of the interest paid on the obligation
for servicing the obligation, providing the letter of credit and issuing the
repurchase commitment. The Fund has been advised by its counsel that the Fund
should be entitled to treat the income received on Participating VRDOs as
interest from tax-exempt obligations.
6
<PAGE>
VRDOs that contain an unconditional right of demand to receive payment of
the unpaid principal balance plus accrued interest on a notice period
exceeding seven days may be deemed to be illiquid securities. A VRDO with a
demand notice period exceeding seven days will therefore be subject to the
Fund's restriction on illiquid investments unless, in the judgment of the
Trustees, such VRDO is liquid. The Trustees may adopt guidelines and delegate
to the Manager the daily function of determining and monitoring liquidity of
such VRDOs. The Trustees, however, will retain sufficient oversight and will
be ultimately responsible for such determination.
The Trust has established the following standards with respect to money
market securities and VRDOs in which the Fund invests. Commercial paper
investments at the time of purchase must be rated A-1 through A-3 by Standard
& Poor's, Prime-1 through Prime-3 by Moody's or F-1 through F-3 by Fitch or,
if not rated, issued by companies having an outstanding debt issue rated at
least A by Standard & Poor's, Fitch or Moody's. Investments in corporate bonds
and debentures (which must have maturities at the date of purchase of one year
or less) must be rated at the time of purchase at least A by Standard &
Poor's, Moody's or Fitch. Notes and VRDOs at the time of purchase must be
rated SP-1/A-1 through SP-2/A-3 by Standard & Poor's, MIG-l/VMIG-1 through
MIG-3/VMIG-3 by Moody's or F-1 through F-3 by Fitch. Temporary Investments, if
not rated, must be of comparable quality to securities rated in the above
rating categories in the opinion of the Manager. The Fund may not invest in
any security issued by a commercial bank or a savings institution unless the
bank or institution is organized and operating in the United States, has total
assets of at least one billion dollars and is a member of the Federal Deposit
Insurance Corporation ("FDIC"), except that up to 10% of total assets may be
invested in certificates of deposit of small institutions if such certificates
are fully insured by the FDIC.
REPURCHASE AGREEMENTS
The Fund may invest in securities pursuant to repurchase agreements.
Repurchase agreements may be entered into only with a member bank of the
Federal Reserve System or a primary dealer in U.S. Government securities or an
affiliate thereof. Under such agreements, the seller agrees, upon entering
into the contract, to repurchase the security at a mutually agreed upon time
and price, thereby determining the yield during the term of the agreement.
This results in a fixed rate of return insulated from market fluctuations
during such period. In repurchase agreements, the prices at which the trades
are conducted do not reflect accrued interest on the underlying obligations.
Such agreements usually cover short periods, such as under one week.
Repurchase agreements may be construed to be collateralized loans by the
purchaser to the seller secured by the securities transferred to the
purchaser. In the case of a repurchase agreement, the Fund will require the
seller to provide additional collateral if the market value of the securities
falls below the repurchase price at any time during the term of the repurchase
agreement. In the event of default by the seller under a repurchase agreement
construed to be a collateralized loan, the underlying securities are not owned
by the Fund but only constitute collateral for the seller's obligation to pay
the repurchase price. Therefore, the Fund may suffer time delays and incur
costs or possible losses in connection with the disposition of the collateral.
In the event of a default under such a repurchase agreement, instead of the
contractual fixed rate of return, the rate of return to the Fund will depend
on intervening fluctuations of the market value of such security and the
accrued interest on the security. In such event, the Fund would have rights
against the seller for breach of contract with respect to any losses arising
from market fluctuations following the failure of the seller to perform. The
Fund may not invest in repurchase agreements maturing in more than seven days
if such investments, together with all other illiquid investments, would
exceed 15% of the Fund's total assets.
In general, for Federal income tax purposes, repurchase agreements are
treated as collateralized loans secured by the securities "sold." Therefore,
amounts earned under such agreements will not be considered tax-exempt
interest.
FINANCIAL FUTURES TRANSACTIONS AND OPTIONS
Reference is made to the discussion concerning futures transactions under
"Investment Objective and Policies" in the Prospectus. Set forth below is
additional information concerning these transactions.
7
<PAGE>
As described in the Prospectus, the Fund may purchase and sell exchange
traded financial futures contracts ("financial futures contracts") to hedge
its portfolio of Municipal Bonds against declines in the value of such
securities and to hedge against increases in the cost of securities the Fund
intends to purchase. However, any transactions involving financial futures or
options will be in accordance with the Fund's investment policies and
limitations. To hedge its portfolio, the Fund may take an investment position
in a futures contract which will move in the opposite direction from the
portfolio position being hedged. While the Fund's use of hedging strategies is
intended to moderate capital changes in portfolio holdings and thereby reduce
the volatility of the net asset value of Fund shares, the Fund anticipates
that its net asset value will fluctuate. Set forth below is information
concerning futures transactions.
Description of Futures Contracts. A futures contract is an agreement between
two parties to buy and sell a security, or in the case of an index-based
futures contract, to make and accept a cash settlement for a set price on a
future date. A majority of transactions in futures contracts, however, do not
result in the actual delivery of the underlying instrument or cash settlement,
but are settled through liquidation, i.e., by entering into an offsetting
transaction. Futures contracts have been designed by boards of trade which
have been designated "contracts markets" by the Commodity Futures Trading
Commission ("CFTC").
The purchase or sale of a futures contract differs from the purchase or sale
of a security in that no price or premium is paid or received. Instead, an
amount of cash or securities acceptable to the broker and the relevant
contract market, which varies, but is generally about 5% of the contract
amount, must be deposited with the broker. This amount is known as "initial
margin" and represents a "good faith" deposit assuring the performance of both
the purchaser and seller under the futures contract. Subsequent payments to
and from the broker, called "variation margin," are required to be made on a
daily basis as the price of the futures contract fluctuates making the long
and short positions in the futures contract more or less valuable, a process
known as "marking to the market." At any time prior to the settlement date of
the futures contract, the position may be closed out by taking an opposite
position which will operate to terminate the position in the futures contract.
A final determination of variation margin is then made, additional cash is
required to be paid to or released by the broker, and the purchaser realizes a
loss or gain. In addition, a nominal commission is paid on each completed sale
transaction.
The Fund may deal in financial futures contracts based on a long-term
municipal bond index developed by the Chicago Board of Trade ("CBT") and The
Bond Buyer (the "Municipal Bond Index"). The Municipal Bond Index is comprised
of 40 tax-exempt municipal revenue and general obligations bonds. Each bond
included in the Municipal Bond Index must be rated A or higher by Moody's or
Standard & Poor's and must have a remaining maturity of 19 years or more.
Twice a month new issues satisfying the eligibility requirements are added to,
and an equal number of old issues are deleted from, the Municipal Bond Index.
The value of the Municipal Bond Index is computed daily according to a formula
based on the price of each bond in the Municipal Bond Index, as evaluated by
six dealer-to-dealer brokers.
The Municipal Bond Index futures contract is traded only on the CBT. Like
other contract markets, the CBT assures performance under futures contracts
through a clearing corporation, a nonprofit organization managed by the
exchange membership which also is responsible for handling daily accounting of
deposits or withdrawals of margin.
As described in the Prospectus, the Fund may purchase and sell financial
futures contracts on U.S. Government securities as a hedge against adverse
changes in interest rates as described below. With respect to U.S. Government
securities, currently there are financial futures contracts based on long-term
U.S. Treasury bonds, Treasury notes, Government National Mortgage Association
("GNMA") Certificates and three-month U.S. Treasury bills. The Fund may
purchase and write call and put options on futures contracts on U.S.
Government securities in connection with its hedging strategies.
Subject to policies adopted by the Trustees, the Fund also may engage in
other futures contracts transactions such as futures contracts on other
municipal bond indices that may become available if the Manager and the
8
<PAGE>
Trustees should determine that there is normally a sufficient correlation
between the prices of such futures contracts and the Municipal Bonds in which
the Fund invests to make such hedging appropriate.
Futures Strategies. The Fund may sell a financial futures contract (i.e.,
assume a short position) in anticipation of a decline in the value of its
investments in Municipal Bonds resulting from an increase in interest rates or
otherwise. The risk of decline could be reduced without employing futures as a
hedge by selling such Municipal Bonds and either reinvesting the proceeds in
securities with shorter maturities or by holding assets in cash. This
strategy, however, entails increased transaction costs in the form of dealer
spreads and typically would reduce the average yield of the Fund's portfolio
securities as a result of the shortening of maturities. The sale of futures
contracts provides an alternative means of hedging against declines in the
value of its investments in Municipal Bonds. As such values decline, the value
of the Fund's positions in the futures contracts will tend to increase, thus
offsetting all or a portion of the depreciation in the market value of the
Fund's Municipal Bond investments which are being hedged. While the Fund will
incur commission expenses in selling and closing out futures positions,
commissions on futures transactions are lower than transaction costs incurred
in the purchase and sale of Municipal Bonds. In addition, the ability of the
Fund to trade in the standardized contracts available in the futures markets
may offer a more effective defensive position than a program to reduce the
average maturity of the portfolio securities due to the unique and varied
credit and technical characteristics of the municipal debt instruments
available to the Fund. Employing futures as a hedge also may permit the Fund
to assume a defensive posture without reducing the yield on its investments
beyond any amounts required to engage in futures trading.
When the Fund intends to purchase Municipal Bonds, the Fund may purchase
futures contracts as a hedge against any increase in the cost of such
Municipal Bonds, resulting from an increase in interest rates or otherwise,
that may occur before such purchases can be effected. Subject to the degree of
correlation between the Municipal Bonds and the futures contracts, subsequent
increases in the cost of Municipal Bonds should be reflected in the value of
the futures held by the Fund. As such purchases are made, an equivalent amount
of futures contracts will be closed out. Due to changing market conditions and
interest rate forecasts, however, a futures position may be terminated without
a corresponding purchase of portfolio securities.
Call Options on Futures Contracts. The Fund also may purchase and sell
exchange traded call and put options on financial futures contracts on U.S.
Government securities. The purchase of a call option on a futures contract is
analogous to the purchase of a call option on an individual security.
Depending on the pricing of the option compared to either the futures contract
on which it is based, or on the price of the underlying debt securities, it
may or may not be less risky than ownership of the futures contract or
underlying debt securities. Like the purchase of a futures contract, the Fund
will purchase a call option on a futures contract to hedge against a market
advance when the Fund is not fully invested.
The writing of a call option on a futures contract constitutes a partial
hedge against declining prices of the securities which are deliverable upon
exercise of the futures contract. If the futures price at expiration is below
the exercise price, the Fund will retain the full amount of the option premium
which provides a partial hedge against any decline that may have occurred in
the Fund's portfolio holdings.
Put Options on Futures Contracts. The purchase of options on a futures
contract is analogous to the purchase of protective put options on portfolio
securities. The Fund will purchase put options on futures contracts to hedge
the Fund's portfolio against the risk of rising interest rates.
The writing of a put option on a futures contract constitutes a partial
hedge against increasing prices of the securities which are deliverable upon
exercise of the futures contract. If the futures price at expiration is higher
than the exercise price, the Fund will retain the full amount of the option
premium which provides a partial hedge against any increase in the price of
Municipal Bonds which the Fund intends to purchase.
The writer of an option on a futures contract is required to deposit initial
and variation margin pursuant to requirements similar to those applicable to
futures contracts. Premiums received from the writing of an option
9
<PAGE>
will be included in initial margin. The writing of an option on a futures
contract involves risks similar to those relating to futures contracts.
The Trust has received an order from the Commission exempting it from the
provisions of Section 17(f) and Section 18(f) of the Investment Company Act of
1940, as amended (the "1940 Act"), in connection with its strategy of
investing in futures contracts. Section 17(f) relates to the custody of
securities and other assets of an investment company and may be deemed to
prohibit certain arrangements between the Trust and commodities brokers with
respect to initial and variation margin. Section 18(f) of the 1940 Act
prohibits an open-end investment company such as the Trust from issuing a
"senior security" other than a borrowing from a bank. The staff of the
Commission has in the past indicated that a futures contract may be a "senior
security" under the 1940 Act.
Restrictions on Use of Futures Transactions. Regulations of the CFTC
applicable to the Fund require that all of the Fund's futures transactions
constitute bona fide hedging transactions and that the Fund purchase and sell
futures contracts and options thereon (i) for bona fide hedging purposes, and
(ii) for non-hedging purposes, if the aggregate initial margin and premiums
required to establish positions in such contracts and options does not exceed
5% of the liquidation value of the Fund's portfolio assets after taking into
account unrealized profits and unrealized losses on any such contracts and
options. (However, the Fund intends to engage in options and futures
transactions only for hedging purposes.) Margin deposits may consist of cash
or securities acceptable to the broker and the relevant contract market.
When the Fund purchases futures contracts or a call option with respect
thereto or writes a put option on a futures contract, an amount of cash, cash
equivalents or liquid securities will be deposited in a segregated account
with the Fund's custodian so that the amount so segregated, plus the amount of
initial and variation margin held in the account of its broker, equals the
market value of the futures contract, thereby ensuring that the use of such
futures is unleveraged.
Risk Factors in Futures Transactions and Options. Investment in futures
contracts involves the risk of imperfect correlation between movements in the
price of the futures contract and the price of the security being hedged. The
hedge will not be fully effective when there is imperfect correlation between
the movements in the prices of two financial instruments. For example, if the
price of the futures contract moves more than the price of the hedged
security, the Fund will experience either a loss or gain on the futures
contract which is not completely offset by movements in the price of the
hedged securities. To compensate for imperfect correlations, the Fund may
purchase or sell futures contracts in a greater dollar amount than the hedged
securities if the volatility of the hedged securities is historically greater
than the volatility of the futures contracts. Conversely, the Fund may
purchase or sell fewer futures contracts if the volatility of the price of the
hedged securities is historically less than that of the futures contracts.
The particular municipal bonds comprising the index underlying the Municipal
Bond Index financial futures contract may vary from the Municipal Bonds held
by the Fund. As a result, the Fund's ability to hedge effectively all or a
portion of the value of its Municipal Bonds through the use of such financial
futures contracts will depend in part on the degree to which price movements
in the index underlying the financial futures contract correlate with the
price movements of the Municipal Bonds held by the Fund. The correlation may
be affected by disparities in the average maturity, ratings, geographical mix
or structure of the Fund's investments as compared to those comprising the
Municipal Bond Index, and general economic or political factors. In addition,
the correlation between movements in the value of the Municipal Bond Index may
be subject to change over time as additions to and deletions from the
Municipal Bond Index alter its structure. The correlation between futures
contracts on U.S. Government securities and the Municipal Bonds held by the
Fund may be adversely affected by similar factors and the risk of imperfect
correlation between movements in the prices of such futures contracts and the
prices of the Municipal Bonds held by the Fund may be greater.
The Fund expects to liquidate a majority of the futures contracts it enters
into through offsetting transactions on the applicable contract market. There
can be no assurance, however, that a liquid secondary market will exist
10
<PAGE>
for any particular futures contract at any specific time. Thus, it may not be
possible to close out a futures position. In the event of adverse price
movements, the Fund would continue to be required to make daily cash payments
of variation margin. In such situations, if the Fund has insufficient cash, it
may be required to sell portfolio securities to meet daily variation margin
requirements at a time when it may be disadvantageous to do so. The inability
to close out futures positions also could have an adverse impact on the Fund's
ability to hedge effectively its investments in Municipal Bonds. The Fund will
enter into a futures position only if, in the judgment of the Manager, there
appears to be an actively traded secondary market for such futures contracts.
The successful use of transactions in futures and related options also
depends on the ability of the Manager to forecast correctly the direction and
extent of interest rate movements within a given time frame. To the extent
interest rates remain stable during the period in which a futures contract or
option is held by the Fund or such rates move in a direction opposite to that
anticipated, the Fund may realize a loss on the hedging transaction which is
not fully or partially offset by an increase in the value of portfolio
securities. As a result, the Fund's total return for such period may be less
than if it had not engaged in the hedging transaction.
Because of low initial margin deposits made on the opening of a futures
position, futures transactions involve substantial leverage. As a result,
relatively small movements in the price of the futures contracts can result in
substantial unrealized gains or losses. Because the Fund will engage in the
purchase and sale of futures contracts solely for hedging purposes, however,
any losses incurred in connection therewith should, if the hedging strategy is
successful, be offset in whole or in part by increases in the value of
securities held by the Fund or decreases in the price of securities the Fund
intends to acquire.
The amount of risk the Fund assumes when it purchases an option on a futures
contract is the premium paid for the option plus related transaction costs. In
addition to the correlation risks discussed above, the purchase of an option
on a futures contract also entails the risk that changes in the value of the
underlying futures contract will not be reflected fully in the value of the
option purchased.
Municipal Bond Index futures contracts were approved for trading in 1986.
Trading in such futures contracts may tend to be less liquid than that in
other futures contracts. The trading of futures contracts also is subject to
certain market risks, such as inadequate trading activity, which could at
times make it difficult or impossible to liquidate existing positions.
INVESTMENT RESTRICTIONS
The Fund has adopted a number of fundamental and non-fundamental
restrictions and policies relating to the investment of its assets and its
activities. The fundamental policies set forth below may not be changed
without the approval of the holders of a majority of the Fund's outstanding
voting securities (which for this purpose and under the 1940 Act means the
lesser of (i) 67% of the Fund's shares present at a meeting at which more than
50% of the outstanding shares of the Fund are represented or (ii) more than
50% of the Fund's outstanding shares). The Fund may not:
1. Invest more than 25% of its assets, taken at market value at the time
of each investment, in the securities of issuers in any particular industry
(excluding the U.S. Government and its agencies and instrumentalities). For
purposes of this restriction, states, municipalities and their political
subdivisions are not considered part of any industry.
2. Make investments for the purpose of exercising control or management.
3. Purchase or sell real estate, except that, to the extent permitted by
applicable law, the Fund may invest in securities directly or indirectly
secured by real estate or interests therein or issued by companies which
invest in real estate or interests therein.
4. Make loans to other persons, except that the acquisition of bonds,
debentures or other corporate debt securities and investment in government
obligations, commercial paper, pass-through instruments,
11
<PAGE>
certificates of deposit, bankers' acceptances, repurchase agreements or any
similar instruments shall not be deemed to be the making of a loan, and
except further that the Fund may lend its portfolio securities, provided
that the lending of portfolio securities may be made only in accordance
with applicable law and the guidelines set forth in the Fund's Prospectus
and Statement of Additional Information, as they may be amended from time
to time.
5. Issue senior securities to the extent such issuance would violate
applicable law.
6. Borrow money, except that (i) the Fund may borrow from banks (as
defined in the 1940 Act) in amounts up to 33 1/3% of its total assets
(including the amount borrowed), (ii) the Fund may to the extent permitted
by applicable law, borrow up to an additional 5% of its total assets for
temporary purposes, (iii) the Fund may obtain such short-term credit as may
be necessary for the clearance of purchases and sales of portfolio
securities and (iv) the Fund may purchase securities on margin to the
extent permitted by applicable law. The Fund may not pledge its assets
other than to secure such borrowings or, to the extent permitted by the
Fund's investment policies as set forth in its Prospectus and Statement of
Additional Information, as they may be amended from time to time, in
connection with hedging transactions, short sales, when-issued and forward
commitment transactions and similar investment strategies.
7. Underwrite securities of other issuers, except insofar as the Fund
technically may be deemed an underwriter under the Securities Act of 1933,
as amended (the "Securities Act"), in selling portfolio securities.
8. Purchase or sell commodities or contracts on commodities, except to
the extent that the Fund may do so in accordance with applicable law and
the Fund's Prospectus and Statement of Additional Information, as they may
be amended from time to time, and without registering as a commodity pool
operator under the Commodity Exchange Act.
Under the non-fundamental investment restrictions, which may be changed by
the Board of Trustees without shareholder approval, the Fund may not:
a. Purchase securities of other investment companies, except to the
extent such purchases are permitted by applicable law. As a matter of
policy, however, the Fund will not purchase shares of any registered open-
end investment company or registered unit investment trust, in reliance on
Section 12(d)(1)(F) or (G) (the "fund of funds" provisions) of the 1940 Act
at any time the Fund's shares are owned by another investment company that
is part of the same group of investment companies as the Fund.
b. Make short sales of securities or maintain a short position, except to
the extent permitted by applicable law. The Fund currently does not intend
to engage in short sales, except short sales "against the box."
c. Invest in securities which cannot be readily resold because of legal
or contractual restrictions or which cannot otherwise be marketed, redeemed
or put to the issuer or a third party, if at the time of acquisition more
than 15% of its total assets would be invested in such securities. This
restriction shall not apply to securities which mature within seven days or
securities which the Board of Trustees of the Trust has otherwise
determined to be liquid pursuant to applicable law.
d. Notwithstanding fundamental investment restriction (6) above, borrow
amounts in excess of 20% of its total assets, taken at market value
(including the amount borrowed), and then only from banks as a temporary
measure for extraordinary or emergency purposes. In addition, the Fund will
not purchase securities while borrowings are outstanding.
In addition, to comply with Federal income tax requirements for
qualification as a "regulated investment company," the Fund's investments will
be limited in a manner such that, at the close of each quarter of each fiscal
year, (a) no more than 25% of the Fund's total assets are invested in the
securities of a single issuer, and (b) with regard to at least 50% of the
Fund's total assets, no more than 5% of its total assets are invested in the
securities of a single issuer. For purposes of this restriction, the Fund will
regard each state and each political subdivision, agency or instrumentality of
such state and each multi-state agency of which such state is a member
12
<PAGE>
and each public authority which issues securities on behalf of a private
entity as a separate issuer, except that if the security is backed only by the
assets and revenues of a non-governmental entity then the entity with the
ultimate responsibility for the payment of interest and principal may be
regarded as the sole issuer. These tax-related limitations may be changed by
the Trustees of the Trust to the extent necessary to comply with changes to
the Federal income tax requirements. An exemptive order has been obtained
which permits the Trust to effect principal transactions with Merrill Lynch in
high quality, short-term, tax-exempt securities subject to conditions set
forth in such order.
Because of the affiliation of Merrill Lynch, Pierce, Fenner & Smith
Incorporated ("Merrill Lynch") with the Manager, the Fund is prohibited from
engaging in certain transactions involving Merrill Lynch or its affiliates
except for brokerage transactions permitted under the 1940 Act involving only
usual and customary commissions or transactions pursuant to an exemptive order
under the 1940 Act. Included among such restricted transactions will be
purchases from or sales to Merrill Lynch of securities in transactions in
which it acts as principal. See "Portfolio Transactions."
MANAGEMENT OF THE TRUST
TRUSTEES AND OFFICERS
Information about the Trustees, executive officers of the Trust and the
portfolio manager of the Fund, including their ages and their principal
occupations for at least the last five years, is set forth below. Unless
otherwise noted, the address of each Trustee, executive officer and the
portfolio manager is P.O. Box 9011, Princeton, New Jersey 08543-9011.
Arthur Zeikel (66)--President and Trustee(1)(2)--Chairman of the Manager and
of Merrill Lynch Asset Management, L.P. ("MLAM") (which terms as used herein
include their corporate predecessors) since 1997; President of the Manager and
MLAM from 1977 to 1997; Chairman of Princeton Services, Inc. ("Princeton
Services") since 1997 and Director thereof since 1993; President of Princeton
Services from 1993 to 1997; Executive Vice President of Merrill Lynch & Co.,
Inc. ("ML & Co.") since 1990.
James H. Bodurtha (54)--Trustee(2)--36 Popponesset Road, Cotuit,
Massachusetts 02635. Director and Executive Vice President, The China Business
Group, Inc. since 1996; Chairman and Chief Executive Officer, China Enterprise
Management Corporation from 1993 to 1996; Chairman, Berkshire Corporation
since 1980; Partner, Squire, Sanders & Dempsey from 1980 to 1993.
Herbert I. London (59)--Trustee(2)--113-115 University Place, New York, New
York 10003. John M. Olin Professor of Humanities, New York University since
1993 and Professor thereof since 1980; President, Hudson Institute since 1997
and Trustee since 1980; Dean, Gallatin Division of New York University from
1976 to 1993; Distinguished Fellow, Herman Kahn Chair, Hudson Institute from
1984 to 1985; Director, Damon Corporation from 1991 to 1995; Overseer, Center
for Naval Analyses from 1983 to 1993; Limited Partner, Hypertech LP since
1996.
Robert R. Martin (71)--Trustee(2)--513 Grand Hill, St. Paul, Minnesota
55102. Chairman and Chief Executive Officer, Kinnard Investments, Inc. from
1990 to 1993; Executive Vice President, Dain Bosworth from 1974 to 1989;
Director, Carnegie Capital Management from 1977 to 1985 and Chairman thereof
in 1979; Director, Securities Industry Association from 1981 to 1982 and
Public Securities Association from 1979 to 1980; Chairman of the Board, WTC
Industries, Inc. in 1994; Trustee, Northland College since 1992.
Joseph L. May (69)--Trustee(2)--424 Church Street, Suite 2000, Nashville,
Tennessee 37219. Attorney in private practice since 1984; President, May and
Athens Hosiery Mills Division, Wayne-Gossard Corporation from 1954 to 1983;
Vice President, Wayne-Gossard Corporation from 1972 to 1983; Chairman, The May
Corporation (personal holding company) from 1972 to 1983; Director, Signal
Apparel Co. from 1972 to 1989.
13
<PAGE>
Andre F. Perold (46)--Trustee(2)--Morgan Hall, Soldiers Field, Boston,
Massachusetts 02163. Professor, Harvard Business School since 1989 and
Associate Professor from 1983 to 1989; Trustee, The Common Fund since 1989;
Director, Quantec Limited since 1991 and TIBCO from 1994 to 1996.
Terry K. Glenn (58)--Executive Vice President(1)(2)--Executive Vice
President of the Manager and MLAM since 1983; Executive Vice President and
Director of Princeton Services since 1993; President of Princeton Funds
Distributor, Inc. ("PFD") since 1986 and Director thereof since 1991;
President of Princeton Administrators, L.P. ("Princeton Administrators") since
1988.
Vincent R. Giordano (54)--Senior Vice President(1)(2)--Senior Vice President
of the Manager and MLAM since 1984; Senior Vice President of Princeton
Services since 1993.
Kenneth A. Jacob (47)--Vice President(1)(2)--First Vice President of MLAM
since 1997; Vice President of MLAM from 1984 to 1997; Vice President of the
Manager since 1984.
Theodore R. Jaeckel, Jr. (39)--Portfolio Manager and Vice President of the
Fund(1)(2)--Director (Municipal Tax-Exempt Fund Management) of MLAM since 1997
and Vice President thereof from 1991 to 1997.
Donald C. Burke (38)--Vice President(1)(2)--First Vice President of MLAM
since 1997; Vice President of MLAM from 1990 to 1997; Director of Taxation of
MLAM since 1990.
Gerald M. Richard (49)--Treasurer(1)(2)--Senior Vice President and Treasurer
of the Manager and MLAM since 1984; Senior Vice President and Treasurer of
Princeton Services since 1993; Treasurer of PFD since 1984 and Vice President
thereof since 1981.
Robert E. Putney, III (38)--Secretary(1)(2)--Director (Legal Advisory) of
MLAM and Princeton Administrators since 1997; Vice President of MLAM from 1994
to 1997; Vice President of Princeton Administrators from 1996 to 1997;
Attorney with MLAM from 1991 to 1994.
- --------
(1) Interested person, as defined in the 1940 Act, of the Trust.
(2) Such Trustee or officer is a director, trustee or officer of certain other
investment companies for which the Manager or MLAM acts as investment
adviser or manager.
At November 1, 1998, the Trustees, the officers of the Trust and the
officers of the Fund as a group (13 persons) owned an aggregate of less than
1% of the outstanding shares of the Fund. At such date, Mr. Zeikel, a Trustee
and officer of the Trust, the other officers of the Trust and the officers of
the Fund owned less than 1% of the outstanding shares of common stock of
ML & Co.
14
<PAGE>
COMPENSATION OF TRUSTEES
The Trust pays each Trustee not affiliated with the Manager (each a "non-
affiliated Trustee") a fee of $10,000 per year plus $1,000 per meeting
attended, together with such Trustee's actual out-of-pocket expenses relating
to attendance at meetings. The Trust also compensates members of its Audit and
Nominating Committee (the "Committee"), which consists of all the non-
affiliated Trustees, a fee of $2,000 per year plus $500 per meeting attended.
The Trust reimburses each non-affiliated Trustee for his out-of-pocket
expenses relating to attendance at Board and Committee meetings. The fees and
expenses of the Trustees are allocated to the respective series of the Trust
on the basis of asset size. For the fiscal year ended July 31, 1998, fees and
expenses paid to non-affiliated Trustees that were allocated to the Fund
aggregated $3,435.
The following table sets forth the compensation paid by the Fund to the non-
affiliated Trustees for the fiscal year ended July 31, 1998 and the aggregate
compensation paid by all registered investment companies (including the Trust)
advised by the Manager and its affiliate, MLAM ("FAM/MLAM Advised Funds") to
the non-affiliated Trustees for the calendar year ended December 31, 1997:
<TABLE>
<CAPTION>
AGGREGATE
COMPENSATION
PENSION OR FROM TRUST AND
RETIREMENT OTHER
BENEFITS FAM/MLAM
ACCRUED AS ADVISED FUNDS
COMPENSATION PART OF TRUST'S PAID TO
NAME OF TRUSTEE FROM FUND EXPENSES TRUSTEE(1)
- --------------- ------------ --------------- --------------
<S> <C> <C> <C>
James H. Bodurtha................... $685.31 None $148,500
Herbert I. London................... $685.31 None $148,500
Robert R. Martin.................... $685.31 None $148,500
Joseph L. May....................... $685.31 None $148,500
Andre F. Perold..................... $685.31 None $148,500
</TABLE>
- --------
(1) The Trustees serve on the boards of FAM/MLAM Advised Funds as follows: Mr.
Bodurtha (25 registered investment companies consisting of 43 portfolios);
Mr. London (25 registered investment companies consisting of 43
portfolios); Mr. Martin (25 registered investment companies consisting of
43 portfolios); Mr. May (25 registered investment companies consisting of
43 portfolios); and Mr. Perold (25 registered investment companies
consisting of 43 portfolios).
MANAGEMENT AND ADVISORY ARRANGEMENTS
Reference is made to "Management of the Trust--Management and Advisory
Arrangements" in the Prospectus for certain information concerning the
management and advisory arrangements of the Fund.
Securities may be held by, or be appropriate investments for, the Fund as
well as other funds or investment advisory clients of the Manager or its
affiliates. Because of different objectives or other factors, a particular
security may be bought for one or more clients when one or more clients are
selling the same security. If the Manager or its affiliates purchase or sell
securities for the Fund or other funds for which they act as manager or for
their advisory clients and such sales or purchases arise for consideration at
or about the same time, transactions in such securities will be made, insofar
as feasible, for the respective funds and clients in a manner deemed equitable
to all. To the extent that transactions on behalf of more than one client of
the Manager or its affiliates during the same period may increase the demand
for securities being purchased or the supply of securities being sold, there
may be an adverse effect on price.
Pursuant to a management agreement between the Trust on behalf of the Fund
and the Manager (the "Management Agreement"), the Manager receives for its
services to the Fund monthly compensation based upon the average daily net
assets of the Fund at the following annual rates: 0.55% of the average daily
net assets not exceeding $500 million; 0.525% of the average daily net assets
exceeding $500 million but not exceeding $1.0 billion; and 0.50% of the
average daily net assets exceeding $1.0 billion. For the fiscal years ended
July 31, 1996, 1997 and 1998, the total advisory fees paid by the Fund to the
Manager were $406,646, $355,290 and $337,900, respectively.
15
<PAGE>
The Management Agreement obligates the Manager to provide investment
advisory services and to pay all compensation of and furnish office space for
officers and employees of the Trust connected with investment and economic
research, trading and investment management of the Trust, as well as the fees
of all Trustees of the Trust who are affiliated persons of ML & Co. or any of
its affiliates. The Fund pays all other expenses incurred in its operation and
a portion of the Trust's general administrative expenses allocated on the
basis of the asset size of the respective series of the Trust ("Series").
Expenses that will be borne directly by the Series include, among other
things, redemption expenses, expenses of portfolio transactions, expenses of
registering the shares under Federal and state securities laws, pricing costs
(including the daily calculation of net asset value), expenses of printing
shareholder reports, prospectuses and statements of additional information
except to the extent paid by Merrill Lynch Funds Distributor, a division of
PFD (the "Distributor") as described below, fees for legal and auditing
services, Commission fees, interest, certain taxes, and other expenses
attributable to a particular Series. Expenses that will be allocated on the
basis of asset size of the respective Series include fees and expenses of
unaffiliated Trustees, state franchise taxes, costs of printing proxies and
other expenses related to shareholder meetings, and other expenses properly
payable by the Trust. The organizational expenses of the Trust were paid by
the Trust, and as additional Series are added to the Trust, the organizational
expenses are allocated among the Series (including the Fund) in a manner
deemed equitable by the Trustees. Depending upon the nature of a lawsuit,
litigation costs may be assessed to the specific Series to which the lawsuit
relates or allocated on the basis of the asset size of the respective Series.
The Trustees have determined that this is an appropriate method of allocation
of expenses. Accounting services are provided to the Fund by the Manager and
the Fund reimburses the Manager for its costs in connection with such
services. For the fiscal years ended July 31, 1996, 1997 and 1998, the Fund
reimbursed the Manager $38,780, $40,593 and $45,571, respectively, for such
services. As required by the Fund's distribution agreements, the Distributor
will pay the promotional expenses of the Fund incurred in connection with the
offering of shares of the Fund. Certain expenses in connection with the
account maintenance and the distribution of Class B and Class C shares will be
financed by the Fund pursuant to the Distribution Plans in compliance with
Rule 12b-1 under the 1940 Act. See "Purchase of Shares--Distribution Plans."
The Manager is a limited partnership, the partners of which are ML & Co. and
Princeton Services. ML & Co. and Princeton Services are "controlling persons"
of the Manager as defined under the 1940 Act because of their ownership of its
voting securities or their power to exercise a controlling influence over its
management or policies.
Duration and Termination. Unless earlier terminated as described herein, the
Management Agreement will remain in effect from year to year if approved
annually (a) by the Trustees of the Trust or by a majority of the outstanding
shares of the Fund and (b) by a majority of the Trustees who are not parties
to such contract or interested persons (as defined in the 1940 Act) of any
such party. Such contracts are not assignable and may be terminated without
penalty on 60 days' written notice at the option of either party thereto or by
vote of the shareholders of the Fund.
PURCHASE OF SHARES
Reference is made to "Purchase of Shares" in the Prospectus for certain
information as to the purchase of Fund shares.
The Fund issues four classes of shares under the Merrill Lynch Select
Pricing SM System: shares of Class A and Class D are sold to investors
choosing the initial sales charge alternatives, and shares of Class B and
Class C are sold to investors choosing the deferred sales charge alternatives.
Each Class A, Class B, Class C and Class D share of the Fund represents
identical interests in the investment portfolio of the Fund and has the same
rights, except that Class B, Class C and Class D shares bear the expenses of
the ongoing account maintenance fees, and Class B and Class C shares bear the
expenses of the ongoing distribution fees and the additional incremental
transfer agency costs resulting from the deferred sales charge arrangements.
Class B, Class C and Class D shares each have exclusive voting rights with
respect to the Rule 12b-1 distribution plan adopted with respect to such
16
<PAGE>
class pursuant to which account maintenance and/or distribution fees are paid
(except that Class B shareholders may vote upon any material changes to
expenses charged under the Class D Distribution Plan). Each class has
different exchange privileges. See "Shareholder Services--Exchange Privilege."
The Merrill Lynch Select Pricing SM System is used by more than 50
registered investment companies advised by MLAM or its affiliate, the Manager.
Funds advised by MLAM or the Manager that utilize the Merrill Lynch Select
PricingSM System are referred to herein as "Select Pricing Funds."
The Fund has entered into four separate distribution agreements with the
Distributor in connection with the continuous offering of each class of shares
of the Fund (the "Distribution Agreements"). The Distribution Agreements
obligate the Distributor to pay certain expenses in connection with the
offering of each class of shares of the Fund. After the prospectuses,
statements of additional information and periodic reports have been prepared,
set in type and mailed to shareholders, the Distributor pays for the printing
and distribution of copies thereof used in connection with the offering to
dealers and prospective investors. The Distributor also pays for other
supplementary sales literature and advertising costs. The Distribution
Agreements are subject to the same renewal requirements and termination
provisions as the Management Agreement described above.
INITIAL SALES CHARGE ALTERNATIVES--CLASS A AND CLASS D SHARES
The gross sales charges for the sale of Class A shares for the fiscal year
ended July 31, 1996 were $580, of which the Distributor received $43 and
Merrill Lynch received $537. The gross sales charges for the sale of Class A
shares for the fiscal year ended July 31, 1997 were $530, of which the
Distributor received $40 and Merrill Lynch received $490. The gross sales
charges for the sale of Class A shares for the fiscal year ended July 31, 1998
were $1,703 of which the Distributor received $136 and Merrill Lynch received
$1,567. For the fiscal years ended July 31, 1996, 1997 and 1998, the
Distributor received no contingent deferred sales charges ("CDSCs") with
respect to redemption within one year after purchase of Class A shares
purchased subject to a front-end sales charge waiver. The gross sales charges
for the sale of Class D shares for the fiscal year ended July 31, 1996 were
$2,286, of which the Distributor received $207 and Merrill Lynch received
$2,079. The gross sales charges for the sale of Class D shares for the fiscal
year ended July 31, 1997 were $2,819 of which the Distributor received $314
and Merrill Lynch received $2,505. The gross sales charges for the sale of
Class D shares for the fiscal year ended July 31, 1998 were $5,000, of which
the Distributor received $437 and Merrill Lynch received $4,563. For the
fiscal years ended July 31, 1996, 1997 and 1998, the Distributor received no
CDSCs with respect to redemption within one year after purchase of Class D
shares purchased subject to a front-end sales charge waiver.
The term "purchase," as used in the Prospectus and this Statement of
Additional Information in connection with an investment in Class A and Class D
shares of the Fund, refers to a single purchase by an individual, or to
concurrent purchases, which in the aggregate are at least equal to the
prescribed amounts, by an individual, his spouse and their children under the
age of 21 years purchasing shares for his or their own account and to single
purchases by a trustee or other fiduciary purchasing shares for a single trust
estate or single fiduciary account although more than one beneficiary is
involved. The term "purchase" also includes purchases by any "company," as
that term is defined in the 1940 Act, but does not include purchases by any
such company that has not been in existence for at least six months or which
has no purpose other than the purchase of shares of the Fund or shares of
other registered investment companies at a discount; provided, however, that
it shall not include purchases by any group of individuals whose sole
organizational nexus is that the participants therein are credit cardholders
of a company, policyholders of an insurance company, customers of either a
bank or broker-dealer or clients of an investment adviser.
Closed-End Fund Investment Option. Class A shares of the Fund and certain
other Select Pricing Funds ("Eligible Class A Shares") are offered at net
asset value to shareholders of certain closed-end funds advised by the Manager
or MLAM who purchased such closed-end fund shares prior to October 21, 1994,
the date the Merrill Lynch Select Pricing SM System commenced operations, and
wish to reinvest the net proceeds from a sale of their closed-end fund shares
of common stock in Eligible Class A Shares, if the conditions set forth below
are
17
<PAGE>
satisfied. Alternatively, closed-end fund shareholders who purchased such
shares on or after October 21, 1994 and wish to reinvest the net proceeds from
a sale of their closed-end fund shares are offered Class A shares (if eligible
to buy Class A shares) or Class D shares of the Fund and other Select Pricing
Funds ("Eligible Class D Shares"), if the following conditions are met. First,
the sale of closed-end fund shares must be made through Merrill Lynch, and the
net proceeds therefrom must be immediately reinvested in Eligible Class A or
Class D Shares. Second, the closed-end fund shares must either have been
acquired in the initial public offering or be shares representing dividends
from shares of common stock acquired in such offering. Third, the closed-end
fund shares must have been continuously maintained in a Merrill Lynch
securities account. Fourth, there must be a minimum purchase of $250 to be
eligible for the investment option.
Shareholders of certain MLAM-advised continuously offered closed-end funds
may reinvest at net asset value the net proceeds from a sale of certain shares
of common stock of such funds in shares of the Fund. Upon exercise of this
investment option, shareholders of Merrill Lynch Senior Floating Rate Fund,
Inc. will receive Class A shares of the Fund and shareholders of Merrill Lynch
Municipal Strategy Fund, Inc. and Merrill Lynch High Income Municipal Bond
Fund, Inc. will receive Class D shares of the Fund, except that shareholders
already owning Class A shares of the Fund will be eligible to purchase
additional Class A shares pursuant to this option, if such additional Class A
shares will be held in the same account as the existing Class A shares and the
other requirements pertaining to the reinvestment privilege are met. In order
to exercise this investment option, a shareholder of one of the above-
referenced continuously offered closed-end funds (an "eligible fund") must
sell his or her shares of common stock of the eligible fund (the "eligible
shares") back to the eligible fund in connection with a tender offer conducted
by the eligible fund and reinvest the proceeds immediately in the designated
class of shares of the Fund. This investment option is available only with
respect to eligible shares as to which no Early Withdrawal Charge or CDSC
(each as defined in the eligible fund's prospectus) is applicable. Purchase
orders from eligible fund shareholders wishing to exercise this investment
option will be accepted only on the day that the related tender offer
terminates and will be effected at the net asset value of the designated class
of the Fund on such day.
REDUCED INITIAL SALES CHARGES
Right of Accumulation. Reduced sales charges are applicable through a right
of accumulation under which eligible investors are permitted to purchase
shares of the Fund subject to an initial sales charge at the offering price
applicable to the total of (a) the public offering price of the shares then
being purchased plus (b) an amount equal to the then current net asset value
or cost, whichever is higher, of the purchaser's combined holdings of all
classes of shares of the Fund and of other Select Pricing Funds. For any such
right of accumulation to be made available, the Distributor must be provided
at the time of purchase, by the purchaser or the purchaser's securities
dealer, with sufficient information to permit confirmation of qualification.
Acceptance of the purchase order is subject to such confirmation. The right of
accumulation may be amended or terminated at any time. Shares held in the name
of a nominee or custodian under pension, profit-sharing, or other employee
benefit plans may not be combined with other shares to qualify for the right
of accumulation.
Letter of Intention. Reduced sales charges are applicable to purchases
aggregating $25,000 or more of the Class A or Class D shares of the Fund or
any Select Pricing Funds made within a 13-month period starting with the first
purchase pursuant to a Letter of Intention in the form provided in the
Prospectus. The Letter of Intention is available only to investors whose
accounts are maintained at the Fund's Transfer Agent. The Letter of Intention
is not available to employee benefit plans for which Merrill Lynch provides
plan participant, record keeping services. The Letter of Intention is not a
binding obligation to purchase any amount of Class A or Class D shares;
however, its execution will result in the purchaser paying a lower sales
charge at the appropriate quantity purchase level. A purchase not originally
made pursuant to a Letter of Intention may be included under a subsequent
Letter of Intention executed within 90 days of such purchase if the
Distributor is informed in writing of this intent within such 90-day period.
The value of Class A or Class D shares of the Fund and of other Select Pricing
Funds presently held, at cost or maximum offering price (whichever is higher),
on the date of the first purchase under the Letter of Intention, may be
included as a credit toward the completion of such Letter,
18
<PAGE>
but the reduced sales charge applicable to the amount covered by such Letter
will be applied only to new purchases. If the total amount of shares does not
equal the amount stated in the Letter of Intention (minimum of $25,000), the
investor will be notified and must pay, within 20 days of the expiration of
such Letter, the difference between the sales charge on the Class A or Class D
shares purchased at the reduced rate and the sales charge applicable to the
shares actually purchased through the Letter. Class A or Class D shares equal
to at least 5.0% of the intended amount will be held in escrow during the 13-
month period (while remaining registered in the name of the purchaser) for
this purpose. The first purchase under the Letter of Intention must be at
least 5.0% of the dollar amount of such Letter. If a purchase during the term
of such Letter would otherwise be subject to a further reduced sales charge
based on the right of accumulation, the purchaser will be entitled on that
purchase and subsequent purchases to that further reduced percentage sales
charge that would be applicable to a single purchase equal to the total dollar
value of the shares then being purchased under such Letter, but there will be
no retroactive reduction of the sales charges on any previous purchase. The
value of any shares redeemed or otherwise disposed of by the purchaser prior
to termination or completion of the Letter of Intention will be deducted from
the total purchases made under such Letter. An exchange from the Summit Cash
Reserves Fund into the Fund that creates a sales charge will count toward
completing a new or existing Letter of Intention from the Fund.
Employee Access SM Accounts. Provided applicable threshold requirements are
met, either Class A or Class D shares are offered at net asset value to
Employee Access SM Accounts available through authorized employers. The
initial minimum investment for such accounts is $500, except that the initial
minimum investment for shares purchased for such accounts pursuant to the
Automatic Investment Program is $50.
TMA SM Managed Trusts. Class A shares are offered to TMA SM Managed Trusts
to which Merrill Lynch Trust Company provides discretionary trustee services
at net asset value.
Purchase Privilege of Certain Persons. Trustees of the Trust, members of the
Boards of other MLAM-advised investment companies, ML & Co. and its
subsidiaries (the term "subsidiaries," when used herein with respect to ML &
Co., includes MLAM, the Manager and certain other entities directly or
indirectly wholly owned and controlled by ML & Co.), and their directors and
employees, and any trust, pension, profit-sharing or other benefit plan for
such persons, may purchase Class A shares of the Fund at net asset value.
Class D shares of the Fund are offered at net asset value, without a sales
charge, to an investor who has a business relationship with a Financial
Consultant who joined Merrill Lynch from another investment firm within six
months prior to the date of purchase by such investor, if the following
conditions are satisfied: first, the investor must advise Merrill Lynch that
it will purchase Class D shares of the Fund with proceeds from a redemption of
a mutual fund that was sponsored by the Financial Consultant's previous firm
and was subject to a sales charge either at the time of purchase or on a
deferred basis; and second, the investor also must establish that such
redemption had been made within 60 days prior to the investment in the Fund
and the proceeds from the redemption had been maintained in the interim in
cash or a money market fund.
Class D shares of the Fund are also offered at net asset value, without a
sales charge, to an investor who has a business relationship with a Merrill
Lynch Financial Consultant and who has invested in a mutual fund sponsored by
a non-Merrill Lynch company for which Merrill Lynch has served as a selected
dealer and where Merrill Lynch has either received or given notice that such
arrangement will be terminated ("notice"), if the following conditions are
satisfied: first, the investor must purchase Class D shares of the Fund with
proceeds from a redemption of shares of such other mutual fund and the shares
of such other fund were subject to a sales charge either at the time of
purchase or on a deferred basis; and second, such purchase of Class D shares
must be made within 90 days after such notice.
Class D shares of the Fund are offered at net asset value, without a sales
charge, to an investor who has a business relationship with a Merrill Lynch
Financial Consultant and who has invested in a mutual fund for which Merrill
Lynch has not served as a selected dealer if the following conditions are
satisfied: first, the investor must advise Merrill Lynch that it will purchase
Class D shares of the Fund with proceeds from the redemption of shares of such
other mutual fund and that such shares have been outstanding for a period of
no less than six
19
<PAGE>
months; and second, such purchase of Class D shares must be made within 60
days after the redemption and the proceeds from the redemption must be
maintained in the interim in cash or a money market fund.
Acquisition of Certain Investment Companies. The public offering price of
Class D shares may be reduced to the net asset value per Class D share in
connection with the acquisition of the assets of or merger or consolidation
with a personal holding company or a public or private investment company. The
value of the assets or company acquired in a tax-free transaction may be
adjusted in appropriate cases to reduce possible adverse tax consequences to
the Fund that might result from an acquisition of assets having net unrealized
appreciation that is disproportionately higher at the time of acquisition than
the realized or unrealized appreciation of the Fund. The issuance of Class D
shares for consideration other than cash is limited to bona fide
reorganizations, statutory mergers or other acquisitions of portfolio
securities that (i) meet the investment objectives and policies of the Fund,
(ii) are acquired for investment and not for resale (subject to the
understanding that the disposition of the Fund's portfolio securities shall at
all times remain within its control); and (iii) are liquid securities, the
value of which is readily ascertainable, which are not restricted as to
transfer either by law or liquidity of market (except that the Fund may
acquire through such transactions restricted or illiquid securities to the
extent the Fund does not exceed applicable limits on acquisition of such
securities set forth under "Investment Objective and Policies" herein).
Reductions in or exemptions from the imposition of a sales load are due to
the nature of the investors and/or the reduced sales efforts that will be
needed in obtaining such investments.
DISTRIBUTION PLANS
Reference is made to "Purchase of Shares--Distribution Plans" in the
Prospectus for certain information with respect to the separate distribution
plans for Class B, Class C and Class D shares pursuant to Rule 12b-1 under the
1940 Act (each a "Distribution Plan") with respect to the account maintenance
and/or distribution fees paid by the Fund to the Distributor with respect to
such classes.
Payments of the account maintenance and/or distribution fees are subject to
the provisions of Rule 12b-1 under the 1940 Act. Among other things, each
Distribution Plan provides that the Distributor shall provide and the Trustees
shall review quarterly reports of the disbursement of the account maintenance
and/or distribution fees paid to the Distributor. In their consideration of
each Distribution Plan, the Trustees must consider all factors they deem
relevant, including information as to the benefits of the Distribution Plan to
the Fund and its related class of shareholders. Each Distribution Plan further
provides that, so long as the Distribution Plan remains in effect, the
selection and nomination of Trustees who are not "interested persons" of the
Trust, as defined in the 1940 Act (the "Independent Trustees"), shall be
committed to the discretion of the Independent Trustees then in office. In
approving each Distribution Plan in accordance with Rule 12b-1, the
Independent Trustees concluded that there is reasonable likelihood that such
Distribution Plan will benefit the Fund and its related class of shareholders.
Each Distribution Plan can be terminated at any time, without penalty, by the
vote of a majority of the Independent Trustees or by the vote of the holders
of a majority of the outstanding related class of voting securities of the
Fund. A Distribution Plan cannot be amended to increase materially the amount
to be spent by the Fund without the approval of the related class of
shareholders and all material amendments are required to be approved by the
vote of Trustees, including a majority of the Independent Trustees who have no
direct or indirect financial interest in such Distribution Plan, cast in
person at a meeting called for that purpose. Rule 12b-1 further requires that
the Trust preserve copies of such Distribution Plan and any report made
pursuant to such plan for a period of not less than six years from the date of
such Distribution Plan or such report, the first two years in an easily
accessible place.
LIMITATIONS ON THE PAYMENT OF DEFERRED SALES CHARGES
The maximum sales charge rule in the Conduct Rules of the National
Association of Securities Dealers, Inc. (the "NASD") imposes a limitation on
certain asset-based sales charges such as the distribution fee and the CDSC
borne by the Class B and Class C shares but not the account maintenance fee.
The maximum sales charge
20
<PAGE>
rule is applied separately to each class. As applicable to the Fund, the
maximum sales charge rule limits the aggregate of distribution fee payments
and CDSCs payable by the Fund to (1) 6.25% of eligible gross sales of Class B
shares and Class C shares, computed separately (defined to exclude shares
issued pursuant to dividend reinvestments and exchanges), plus (2) interest on
the unpaid balance for the respective class, computed separately, at the prime
rate plus 1% (the unpaid balance being the maximum amount payable minus
amounts received from the payment of the distribution fee and the CDSC). In
connection with the Class B shares, the Distributor has voluntarily agreed to
waive interest charges on the unpaid balance in excess of 0.50% of eligible
gross sales. Consequently, the maximum amount payable to the Distributor
(referred to as the "voluntary maximum") in connection with the Class B shares
is 6.75% of eligible gross sales. The Distributor retains the right to stop
waiving the interest charges at any time. To the extent payments would exceed
the voluntary maximum, the Fund will not make further payments of the
distribution fee with respect to Class B shares, and any CDSCs will be paid to
the Fund rather than to the Distributor; however, the Fund will continue to
make payments of the account maintenance fee. In certain circumstances the
amount payable pursuant to the voluntary maximum may exceed the amount payable
under the NASD formula. In such circumstances payment in excess of the amount
payable under the NASD formula will not be made.
The following table sets forth comparative information as of July 31, 1998
with respect to the Class B and Class C shares of the Fund indicating the
maximum allowable payments that can be made under the NASD maximum sales
charge rule and, with respect to the Class B shares, the Distributor's
voluntary maximum.
<TABLE>
<CAPTION>
DATA CALCULATED AS OF JULY 31, 1998
------------------------------------------------------------------------------
ANNUAL
ALLOWABLE ALLOWABLE AMOUNTS DISTRIBUTION
ELIGIBLE AGGREGATE INTEREST ON MAXIMUM PREVIOUSLY AGGREGATE FEE AT CURRENT
GROSS SALES UNPAID AMOUNT PAID TO UNPAID NET ASSET
SALES(1) CHARGES BALANCE(2) PAYABLE DISTRIBUTOR(3) BALANCE LEVEL(4)
-------- --------- ----------- ------- -------------- --------- --------------
<S> <C> <C> <C> <C> <C> <C> <C>
(IN THOUSANDS)
CLASS B SHARES, FOR THE
PERIOD FEBRUARY 28,
1992 (COMMENCEMENT OF
OPERATIONS) TO JULY 31,
1998:
Under NASD Rule As
Adopted................ $100,735 $6,296 $2,865 $9,161 $1,942 $7,219 $128
Under Distributor's
Voluntary Waiver....... $100,735 $6,296 $ 504 $6,800 $1,942 $4,858 $128
CLASS C SHARES, FOR THE
PERIOD OCTOBER 21, 1994
(COMMENCEMENT OF
OPERATIONS) TO JULY 31,
1998:
Under NASD Rule As
Adopted................ $ 3,056 $ 191 $ 34 $ 225 $ 19 $ 206 $ 6
</TABLE>
- --------
(1) Purchase price of all eligible Class B or Class C shares sold during the
periods indicated other than shares acquired through dividend reinvestment
and the exchange privilege.
(2) Interest is computed on a monthly basis based upon the prime rate, as
reported in The Wall Street Journal, plus 1%, as permitted under the NASD
Rule.
(3) Consists of CDSC payments, distribution fee payments and accruals. See
"Purchase of Shares--Distribution Plans" in the Prospectus. This figure
may include CDSCs that were deferred when a shareholder redeemed shares
prior to the expiration of the applicable CDSC period and invested the
proceeds, without the imposition of a sales charge, in Class A shares in
conjunction with the shareholder's participation in the Merrill Lynch
Mutual Fund Advisor (Merrill Lynch MFASM) Program (the "MFA Program"). The
CDSC is booked as a contingent obligation that may be payable if the
shareholder terminates participation in the MFA Program.
(4) Provided to illustrate the extent to which the current level of
distribution fee payments (not including any CDSC payments) is amortizing
the unpaid balance. No assurance can be given that payments of the
distribution fee will reach either the NASD maximum (with respect to Class
B and Class C shares) or the voluntary maximum (with respect to Class B
shares).
REDEMPTION OF SHARES
Reference is made to "Redemption of Shares" in the Prospectus for certain
information as to the redemption and repurchase of Fund shares.
The right to redeem shares or to receive payment with respect to any such
redemption may be suspended for more than seven days only for any period
during which trading on the NYSE is restricted as determined by
21
<PAGE>
the Commission or the NYSE is closed (other than customary weekend and holiday
closings), for any period during which an emergency exists, as defined by the
Commission, as a result of which disposal of portfolio securities or
determination of the net asset value of the Fund is not reasonably
practicable, and for such other periods as the Commission may by order permit
for the protection of shareholders of the Fund.
The value of shares at the time of the redemption may be more or less than
the shareholder's cost, depending on the market value of the securities held
by the Fund at any such time.
DEFERRED SALES CHARGES--CLASS B AND CLASS C SHARES
As discussed in the Prospectus under "Purchase of Shares--Deferred Sales
Charge Alternatives--Class B and Class C Shares," while Class B shares
redeemed within four years of purchase are subject to a CDSC under most
circumstances, the charge is waived on redemptions of Class B shares in
certain circumstances including following the death or disability of a Class B
shareholder. Redemptions for which the waiver applies are any partial or
complete redemption following the death or disability (as defined in the
Internal Revenue Code of 1986 as amended (the "Code")) of a Class B
shareholder (including one who owns the Class B shares as joint tenant with
his or her spouse), provided the redemption is requested within one year of
the death or initial determination of disability. For the fiscal years ended
July 31, 1996, 1997 and 1998, the Distributor received CDSCs of $166,231,
$81,715 and $26,341, respectively, with respect to redemptions of Class B
shares, all of which were paid to Merrill Lynch. Additional CDSCs payable to
the Distributor during the fiscal years ended July 31, 1997 and 1998, may have
been waived or converted to a contingent obligation in connection with a
shareholder's participation in certain fee-based programs. For the fiscal
years ended July 31, 1996, 1997 and 1998, the Distributor received CDSCs of
$2,058, $1,089 and $1,466, respectively, with respect to redemptions of Class
C shares, all of which were paid to Merrill Lynch.
PORTFOLIO TRANSACTIONS
Reference is made to "Investment Objective and Policies" and "Portfolio
Transactions" in the Prospectus.
Under the 1940 Act, persons affiliated with the Trust are prohibited from
dealing with the Fund as a principal in the purchase and sale of securities
unless such trading is permitted by an exemptive order issued by the
Commission. Since over-the-counter ("OTC") transactions are usually principal
transactions, affiliated persons of the Trust, including Merrill Lynch, may
not serve as dealer in connection with transactions with the Fund. The Trust
has obtained an exemptive order permitting it to engage in certain principal
transactions with Merrill Lynch involving high quality short-term municipal
bonds subject to certain conditions. For the year ended July 31, 1996, the
Fund engaged in five transactions pursuant to such order for an aggregate
market value of $2,800,000. For the year ended July 31, 1997, the Fund engaged
in four transactions pursuant to such order for an aggregate market value of
$2,100,000. For the fiscal year ended July 31, 1998, the Fund engaged in five
transactions pursuant to such order for an aggregate market value of
$1,000,000. Affiliated persons of the Trust may serve as broker for the Fund
in OTC transactions conducted on an agency basis. Certain court decisions have
raised questions as to the extent to which investment companies should seek
exemptions under the 1940 Act in order to seek to recapture underwriting and
dealer spreads from affiliated entities. The Trustees have considered all
factors deemed relevant, and have made a determination not to seek such
recapture at this time. The Trustees will reconsider this matter from time to
time.
The Fund may not purchase securities, including Municipal Bonds, during the
existence of any underwriting syndicate of which Merrill Lynch is a member or
in a private placement in which Merrill Lynch serves as placement agent except
pursuant to procedures approved by the Trustees of the Trust which either
comply with rules adopted by the Commission or with interpretations of the
Commission Staff. Rule 10f-3 under the 1940 Act sets forth conditions under
which the Fund may purchase municipal bonds from an underwriting syndicate of
which Merrill Lynch is a member. The rule sets forth requirements relating to,
among other things, the terms of an issue of municipal bonds purchased by the
Fund, the amount of municipal bonds which may be purchased in any one issue
and the assets of the Fund which may be invested in a particular issue.
22
<PAGE>
The Fund does not expect to use any particular dealer in the execution of
transactions but, subject to obtaining the best net results, dealers who
provide supplemental investment research (such as information concerning tax-
exempt securities, economic data and market forecasts) to the Manager may
receive orders for transactions by the Fund. Information so received will be
in addition to and not in lieu of the services required to be performed by the
Manager under its Management Agreement and the expenses of the Manager will
not necessarily be reduced as a result of the receipt of such supplemental
information.
The Trust has no obligation to deal with any broker in the execution of
transactions for the Fund's portfolio securities. In addition, consistent with
the Conduct Rules of the NASD and policies established by the Trustees of the
Trust, the Manager may consider sales of shares of the Fund as a factor in the
selection of brokers or dealers to execute portfolio transactions for the
Fund.
Generally, the Fund does not purchase securities for short-term trading
profits. However, the Fund may dispose of securities without regard to the
time they have been held when such action, for defensive or other reasons,
appears advisable to its Manager. As a result of the investment policies
described herein, the Fund's portfolio turnover rate may be higher than that
of other investment companies; however, it is extremely difficult to predict
portfolio turnover rates with any degree of accuracy. Higher portfolio
turnover may contribute to higher transaction costs in the form of dealer
spreads and brokerage commissions which are borne directly by the Fund. High
portfolio turnover may also result in negative tax consequences, such as an
increase in capital gains dividends or in ordinary income dividends of accrued
market discount. See "Distributions and Taxes." The portfolio turnover rate is
calculated by dividing the lesser of purchases or sales of portfolio
securities for the particular fiscal year by the monthly average of the value
of the portfolio securities owned by the Fund during the particular fiscal
year. For purposes of determining this rate, all securities whose maturities
at the time of acquisition are one year or less are excluded. The portfolio
turnover for the years ended July 31, 1997 and 1998 was 24.64% and 23.32%,
respectively.
Section 11(a) of the Securities and Exchange Act of 1934, as amended,
generally prohibits members of the U.S. national securities exchanges from
executing exchange transactions for their affiliates and institutional
accounts that they manage unless the member (i) has obtained prior express
authorization from the account to effect such transactions, (ii) at least
annually furnishes the account with a statement setting forth the aggregate
compensation received by the member in effecting such transactions, and (iii)
complies with any rules the Commission has prescribed with respect to the
requirements of clauses (i) and (ii). To the extent Section 11(a) would apply
to Merrill Lynch acting as a broker for the Fund in any of its portfolio
transactions executed on any such securities exchange of which it is a member,
appropriate consents have been obtained from the Fund and annual statements as
to aggregate compensation will be provided to the Fund.
DETERMINATION OF NET ASSET VALUE
Reference is made to "Additional Information--Determination of Net Asset
Value" in the Prospectus for information concerning the determination of net
asset value.
The net asset value of the shares of all classes of the Fund is determined
by the Manager once daily, Monday through Friday, as of 15 minutes after the
close of business on the NYSE (generally, the NYSE closes at 4:00 p.m.,
Eastern time) on each day during which the NYSE is open for trading. The NYSE
is not open on New Year's Day, Martin Luther King, Jr. Day, Presidents' Day,
Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day and
Christmas Day. Net asset value per share is computed by dividing the sum of
the value of the securities held by the Fund plus any cash or other assets
(including interest and dividends accrued but not yet received) minus all
liabilities (including accrued expenses) by the total number of shares
outstanding at such time, rounded to the nearest cent. Expenses, including the
fees payable to the Manager and Distributor, are accrued daily.
The per share net asset value of Class B, Class C and Class D shares
generally will be lower than the per share net asset value of Class A shares,
reflecting the daily expense accruals of the account maintenance, distribution
fees, and higher transfer agency fees applicable with respect to the Class B
and Class C shares and
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the daily expense accruals of the account maintenance fees with respect to
Class D shares; moreover, the per share net asset value of Class B and Class C
shares generally will be lower than the per share net asset value of Class D
shares, reflecting the daily expense accruals of the distribution fees, higher
account maintenance fees and higher transfer agency fees applicable with
respect to Class B and Class C shares of the Fund. It is expected, however,
that the per share net asset value of the four classes will tend to converge
(although not necessarily meet) immediately after the payment of dividends,
which will differ by approximately the amount of the expense accrual
differentials between the classes.
The Municipal Bonds and other portfolio securities in which the Fund invests
are traded primarily in OTC municipal bond and money markets and are valued at
the last available bid price in the OTC market or on the basis of yield
equivalents as obtained from one or more dealers that make markets in the
securities. One bond is the "yield equivalent" of another bond when, taking
into account market price, maturity, coupon rate, credit rating and ultimate
return of principal, both bonds will theoretically produce an equivalent
return to the bondholder. Financial futures contracts and options thereon,
which are traded on exchanges, are valued at their settlement prices as of the
close of such exchanges. Short-term investments with a remaining maturity of
60 days or less are valued on an amortized cost basis, which approximates
market value. Securities and assets for which market quotations are not
readily available are valued at fair value as determined in good faith by or
under the direction of the Trustees of the Trust, including valuations
furnished by a pricing service retained by the Trust, which may utilize a
matrix system for valuations. The procedures of the pricing service and its
valuations are reviewed by the officers of the Trust under the general
supervision of the Trustees.
SHAREHOLDER SERVICES
The Trust offers a number of shareholder services described below which are
designed to facilitate investment in shares of the Fund. Full details as to
each of such services, copies of the various plans described below and
instructions as to how to participate in the various services or plans, or how
to change options with respect thereto, can be obtained from the Trust, the
Distributor or Merrill Lynch.
INVESTMENT ACCOUNT
Each shareholder whose account is maintained at the Transfer Agent has an
Investment Account and will receive statements, at least quarterly, from the
Transfer Agent. These statements will serve as transaction confirmations for
automatic investment purchases and the reinvestment of ordinary income
dividends and long-term capital gains distributions. These statements will
also show any other activity in the account since the previous statement.
Shareholders also will receive separate confirmations for each purchase or
sale transaction other than automatic investment purchases and the
reinvestment of ordinary income dividends and long-term capital gains
distributions. A shareholder may make additions to his or her Investment
Account at any time by mailing a check directly to the Transfer Agent.
Share certificates are issued only for full shares and only upon the
specific request of the shareholder who has an Investment Account. Issuance of
certificates representing all or only part of the full shares in an Investment
Account may be requested by a shareholder directly from the Transfer Agent.
Shareholders considering transferring their Class A or Class D shares from
Merrill Lynch to another brokerage firm or financial institution should be
aware that, if the firm to which the Class A or Class D shares are to be
transferred will not take delivery of shares of the Fund, a shareholder either
must redeem the Class A or Class D shares (paying any applicable CDSC) so that
the cash proceeds can be transferred to the account at the new firm or
continue to maintain an Investment Account at the Transfer Agent for those
Class A or Class D shares. Shareholders interested in transferring their Class
B or Class C shares from Merrill Lynch and who do not wish to have an
Investment Account maintained for such shares at the Transfer Agent may
request their new brokerage firm to maintain such shares in an account
registered in the name of the brokerage firm for the benefit of the
shareholder at the Transfer Agent. If the new brokerage firm is willing to
accommodate the shareholder in this manner, the shareholder must request that
he or she be issued certificates for his or her shares, and then must turn the
certificates over to the new firm for re-registration as described in the
preceding sentence.
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AUTOMATIC INVESTMENT PLANS
A U.S. shareholder may make additions to an Investment Account at any time
by purchasing Class A shares (if he or she is an eligible Class A investor as
described in the Prospectus) or Class B, Class C or Class D shares at the
applicable public offering price either through the shareholder's securities
dealer or by mail directly to the Transfer Agent, acting as agent for such
securities dealers. Voluntary accumulation also can be made through a service
known as the Automatic Investment Plan whereby the Fund is authorized through
pre-authorized checks or automated clearing house debits of $50 or more to
charge the regular bank account of the shareholder on a regular basis to
provide systematic additions to the Investment Account of such shareholder. An
investor whose shares of the Fund are held within a CMA (R) or CBA (R) account
may arrange to make periodic investments of $100 or more in Fund shares in
their CMA (R) or CBA (R) account or in certain related accounts.
AUTOMATIC REINVESTMENT OF DIVIDENDS AND CAPITAL GAINS DISTRIBUTIONS
Unless specific instructions are given as to the method of payment of
dividends and capital gains distributions, dividends and distributions will be
automatically reinvested in additional shares of the Fund. Such reinvestment
will be at the net asset value of shares of the Fund as of the close of
business on the monthly payment date for such dividends and distributions.
Shareholders may elect in writing to receive either their income dividends or
capital gains distributions, or both, in cash, in which event payment will be
mailed on or about the payment date (provided that, in the event that a
payment on an account maintained at the Transfer Agent would amount to $10.00
or less, a shareholder will not receive such payment in cash and such payment
will automatically be reinvested in additional shares). The Fund is not
responsible for any failure of delivery to the shareholder's address of record
and no interest will accrue on amounts represented by uncashed distribution or
redemption checks.
Shareholders may, at any time, notify Merrill Lynch in writing if their
account is maintained with Merrill Lynch or notify the Transfer Agent in
writing or by telephone (1-800-MER-FUND) if their account is maintained with
the Transfer Agent that they no longer wish to have their dividends and/or
capital gains distributions reinvested in shares of the Fund or vice versa
and, commencing ten days after the receipt by the Transfer Agent of such
notice, such instructions will be effected.
SYSTEMATIC WITHDRAWAL PLANS
A shareholder may elect to make systematic withdrawals from an Investment
Account of Class A, Class B, Class C or Class D shares on either a monthly or
quarterly basis as provided below. Quarterly withdrawals are available for
shareholders who have acquired shares of the Fund having a value, based on
cost or the current offering price, of $5,000 or more, and monthly withdrawals
are available for shareholders with shares having a value of $10,000 or more.
At the time of each withdrawal payment, sufficient shares are redeemed from
those on deposit in the shareholder's account to provide the withdrawal
payment specified by the shareholder. The shareholder may specify the dollar
amount and the class of shares to be redeemed. Redemptions will be made at net
asset value as determined as of 15 minutes after the close of business on the
NYSE (generally, the NYSE closes at 4:00 p.m., Eastern time) on the 24th day
of each month or the 24th day of the last month of each quarter, whichever is
applicable. If the NYSE is not open for business on such date, the shares will
be redeemed at the close of business on the following business day. The check
for the withdrawal payment will be mailed, or the direct deposit for the
withdrawal payment will be made, on the next business day following
redemption. When a shareholder is making systematic withdrawals, dividends and
distributions on all shares in the Investment Account are reinvested
automatically in Fund shares. A shareholder's Systematic Withdrawal Plan may
be terminated at any time, without charge or penalty, by the shareholder, the
Trust, the Transfer Agent or the Distributor.
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With respect to redemptions of Class B or Class C shares pursuant to a
systematic withdrawal plan, the maximum number of Class B or Class C shares
that can be redeemed from an account annually shall not exceed 10% of the
value of shares of such class in that account at the time the election to join
the systematic withdrawal plan was made. Any CDSC that otherwise might be due
on such redemption of Class B or Class C shares will be waived. Shares
redeemed pursuant to systematic withdrawal plan will be redeemed in the same
order as Class B or Class C shares are otherwise redeemed. See "Purchase of
Shares--Deferred Sales Charge Alternatives-Class B and Class C Shares--
Contingent Deferred Sales Charges-Class B Shares" and "--Contingent Deferred
Sales Charges-Class C Shares." Where the systematic withdrawal plan is applied
to Class B shares, upon conversion of the last Class B shares in an account to
Class D shares, the systematic withdrawal plan will be applied thereafter to
Class D shares if the shareholder so elects. See "Purchase of Shares--Deferred
Sales Charge Alternatives-Class B and Class C Shares--Conversion of Class B
Shares to Class D Shares" in the Prospectus. If an investor wishes to change
the amount being withdrawn in a systematic withdrawal plan the investor should
contact his or her Merrill Lynch Financial Consultant.
Withdrawal payments should not be considered as dividends, yield or income.
Each withdrawal is a taxable event. If periodic withdrawals continuously
exceed reinvested dividends, the shareholder's original investment may be
reduced correspondingly. Purchases of additional shares concurrent with
withdrawals are ordinarily disadvantageous to the shareholder because of sales
charges and tax liabilities. The Trust will not knowingly accept purchase
orders for shares of the Fund from investors who maintain a Systematic
Withdrawal Plan unless such purchase is equal to at least one year's scheduled
withdrawals or $1,200, whichever is greater. Periodic investments may not be
made into an Investment Account in which the shareholder has elected to make
systematic withdrawals.
Alternatively, a shareholder whose shares are held within a CMA (R) or
CBA (R) Account may elect to have shares redeemed on a monthly, bimonthly,
quarterly, semiannual or annual basis through the CMA (R) or CBA (R)
Systematic Redemption Program. The minimum fixed dollar amount redeemable is
$50. The proceeds of systematic redemptions will be posted to the
shareholder's account three business days after the date the shares are
redeemed. All redemptions are made at net asset value. A shareholder may elect
to have his or her shares redeemed on the first, second, third or fourth
Monday of each month, in the case of monthly redemptions, or of every other
month, in the case of bimonthly redemptions. For quarterly, semiannual or
annual redemptions, the shareholder may select the month in which the shares
are to be redeemed and may designate whether the redemption is to be made on
the first, second, third or fourth Monday of the month. If the Monday selected
is not a business day, the redemption will be processed at net asset value on
the next business day. The CMA(R) or CBA(R) Systematic Redemption Program is
not available if Fund shares are being purchased within the account pursuant
to the Automatic Investment Program. For more information on the CMA (R) or
CBA (R) Systematic Redemption Program, eligible shareholders should contact
their Merrill Lynch Financial Consultant.
EXCHANGE PRIVILEGE
U.S. shareholders of each class of shares of the Fund have an exchange
privilege with certain other Select Pricing Funds and Summit Cash Reserves
Fund ("Summit"), a series of Financial Institutions Series Trust, which is a
Merrill Lynch-sponsored money market mutual fund specifically designated as
available for exchange by holders of Class A, Class B, Class C and Class D
shares of Select Pricing Funds. Shares with a net asset value of at least $100
are required to qualify for the exchange privilege and any shares utilized in
an exchange must have been held by the shareholder for at least 15 days.
Before effecting an exchange, shareholders should obtain a currently effective
prospectus of the fund into which the exchange is to be made. Exercise of the
exchange privilege is treated as a sale of the exchanged shares and a purchase
of the acquired shares for Federal income tax purposes.
Exchanges of Class A and Class D Shares. Class A shareholders may exchange
Class A shares of the Fund for Class A shares of a second Select Pricing Fund
if the shareholder holds any Class A shares of the second fund in his or her
account in which the exchange is made at the time of the exchange or is
otherwise eligible to purchase Class A shares of the second fund. If the Class
A shareholder wants to exchange Class A
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shares for shares of a second Select Pricing Fund, but does not hold Class A
shares of the second fund in his or her account at the time of the exchange
and is not otherwise eligible to acquire Class A shares of the second fund,
the shareholder will receive Class D shares of the second fund as a result of
the exchange. Class D shares also may be exchanged for Class A shares of a
second Select Pricing Fund at any time as long as, at the time of the
exchange, the shareholder holds Class A shares of the second fund in the
account in which the exchange is made or is otherwise eligible to purchase
Class A shares of the second fund. Class D shares are exchangeable with shares
of the same class of other Select Pricing Funds.
Exchanges of Class A or Class D shares outstanding ("outstanding Class A or
Class D shares") for Class A or Class D shares of other Select Pricing Funds
or Class A shares of Summit ("new Class A or Class D shares") are transacted
on the basis of relative net asset value per Class A or Class D share,
respectively, plus an amount equal to the difference, if any, between the
sales charge previously paid on the outstanding Class A or Class D shares and
the sales charge payable at the time of the exchange on the new Class A or
Class D shares. With respect to outstanding Class A or Class D shares as to
which previous exchanges have taken place, the "sales charge previously paid"
shall include the aggregate of the sales charges paid with respect to such
Class A or Class D shares in the initial purchase and any subsequent exchange.
Class A or Class D shares issued pursuant to dividend reinvestment are sold on
a no-load basis in each of the funds offering Class A or Class D shares. For
purposes of the exchange privilege, Class A or Class D shares acquired through
dividend reinvestment shall be deemed to have been sold with a sales charge
equal to the sales charge previously paid on the Class A or Class D shares on
which the dividend was paid. Based on this formula, Class A and Class D shares
generally may be exchanged into the Class A or Class D shares, respectively,
of the other funds with a reduced sales charge or without a sales charge.
Exchanges of Class B and Class C Shares. Each Select Pricing Fund with Class
B or Class C shares outstanding ("outstanding Class B or Class C shares")
offers to exchange its Class B or Class C shares for Class B or Class C
shares, respectively, of another Select Pricing Fund or for Class B shares of
Summit ("new Class B or Class C shares") on the basis of relative net asset
value per Class B or Class C share, without the payment of any CDSC that might
otherwise be due on redemption of the outstanding shares. Class B shareholders
of the Fund exercising the exchange privilege will continue to be subject to
the Fund's CDSC schedule if such schedule is higher than the CDSC schedule
relating to the new Class B shares acquired through use of the exchange
privilege. In addition, Class B shares of the Fund acquired through use of the
exchange privilege will be subject to the Fund's CDSC schedule if such
schedule is higher than the CDSC schedule relating to the Class B shares of
the fund from which the exchange has been made. For purposes of computing the
CDSC that may be payable on a disposition of the new Class B or Class C
shares, the holding period for the outstanding Class B or Class C Shares is
"tacked" to the holding period of the new Class B or Class C shares. For
example, an investor may exchange Class B or Class C shares of the Fund for
those of Merrill Lynch Special Value Fund, Inc. ("Special Value Fund") after
having held the Fund's Class B shares for two and a half years. The 2% CDSC
that generally would apply to a redemption would not apply to the exchange.
Three years later the investor may decide to redeem the Class B shares of
Special Value Fund and receive cash. There will be no CDSC due on this
redemption, since by "tacking" the two and a half year holding period of Fund
Class B shares to the three-year holding period for the Special Value Fund
Class B shares, the investor will be deemed to have held the Special Value
Fund Class B shares for more than five years.
Exchanges for Shares of a Money Market Fund. Class A and Class D shares are
exchangeable for Class A shares of Summit and Class B and Class C shares are
exchangeable for Class B shares of Summit. Class A shares of Summit have an
exchange privilege back into Class A or Class D shares of Select Pricing
Funds; Class B shares of Summit have an exchange privilege back into Class B
or Class C shares of Select Pricing Funds and in the event of such an
exchange, the period of time that Class B shares of Summit are held will count
toward satisfaction of the holding period requirement for purposes of reducing
any CDSC and toward satisfaction of any conversion period with respect to
Class B shares. Class B shares of Summit will be subject to a distribution fee
at an annual rate of 0.75% of average daily net assets of such Class B shares.
This exchange privilege does not apply with respect to certain Merrill Lynch
fee-based programs for which alternative exchange arrangements may exist.
Please see your Merrill Lynch Financial Consultant for further information.
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Prior to October 12, 1998, exchanges from the Fund and other Select Pricing
Funds into a money market fund were directed to certain Merrill Lynch-
sponsored money market funds other than Summit. Shareholders who have
exchanged Select Pricing Fund shares for shares of such other money market
funds and subsequently wish to exchange those money market fund shares for
shares of the Fund will be subject to the CDSC schedule applicable to such
Fund shares, if any. The holding period for those money market fund shares
will not count toward satisfaction of the holding period requirement for
reduction of the CDSC imposed on such shares, if any, and, with respect to
Class B shares, toward satisfaction of the conversion period. However, the
holding period for Class B or Class C shares received in exchange for such
money market fund shares will be aggregated with the holding period for the
original Select Pricing Fund shares for purposes of reducing the CDSC or
satisfying the conversion period.
Exchanges by Participants in the MFA Program. The Fund's exchange privilege
is modified with respect to purchases of Class A and Class D shares by non-
retirement plan investors under the MFA Program. First, the initial allocation
of assets is made under the MFA Program. Then, any subsequent exchange under
the MFA Program of Class A or Class D shares of a Select Pricing Fund for
Class A or Class D shares of the Fund will be made solely on the basis of the
relative net asset values of the shares being exchanged. Therefore, there will
not be a charge for any difference between the sales charge previously paid on
the shares of the other Select Pricing Fund and the sales charge payable on
the shares of the Fund being acquired in the exchange under the MFA Program.
Exercise of the Exchange Privilege. To exercise the exchange privilege, a
shareholder should contact his or her Merrill Lynch Financial Consultant, who
will advise the Fund of the exchange. Shareholders of the Fund, and
shareholders of the other Select Pricing Funds with shares for which
certificates have not been issued, may exercise the exchange privilege by wire
through their securities dealers. The Fund reserves the right to require a
properly completed Exchange Application. This exchange privilege may be
modified or terminated in accordance with the rules of the Commission. The
Fund reserves the right to limit the number of times an investor may exercise
the exchange privilege. Certain funds may suspend the continuous offering of
their shares to the general public at any time and may thereafter resume such
offering from time to time. The exchange privilege is available only to U.S.
shareholders in states where the exchange legally may be made. It is
contemplated that the exchange privilege may be applicable to other new mutual
funds whose shares may be distributed by the Distributor.
DISTRIBUTIONS AND TAXES
The Trust intends to continue to qualify the Fund for the special tax
treatment afforded regulated investment companies ("RICs") under the Code. As
long as it so qualifies, the Fund (but not its shareholders) will not be
subject to Federal income tax to the extent that it distributes its net
investment income and net realized capital gains. The Trust intends to cause
the Fund to distribute substantially all of such income. So long as the Fund
qualifies as a regulated investment company under the Code, it will not be
subject to any Massachusetts income tax.
As discussed in the Fund's Prospectus, the Trust has established other
series in addition to the Fund (together with the Fund, the "Series"). Each
Series of the Trust is treated as a separate corporation for Federal income
tax purposes. Each Series, therefore, is considered to be a separate entity in
determining its treatment under the rules for RICs described in the
Prospectus. Losses in one Series do not offset gains in another Series, and
the requirements (other than certain organizational requirements) for
qualifying for RIC status are determined at the Series level rather than at
the Trust level.
The Code requires a RIC to pay a nondeductible 4% excise tax to the extent
the RIC does not distribute, during each calendar year, 98% of its ordinary
income, determined on a calendar year basis, and 98% of its capital gains,
determined, in general, on an October 31 year end, plus certain undistributed
amounts from previous years. The required distributions, however, are based
only on the taxable income of a RIC. The excise tax, therefore, generally will
not apply to the tax-exempt income of a RIC, such as the Fund, that pays
exempt-interest dividends.
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The Trust intends to qualify the Fund to pay "exempt-interest dividends" as
defined in Section 852(b)(5) of the Code. Under such section if, at the close
of each quarter of the Fund's taxable year, at least 50% of the value of its
total assets consists of obligations exempt from Federal income tax ("tax-
exempt obligations") under Section 103(a) of the Code (relating generally to
obligations of a state or local governmental unit), the Fund shall be
qualified to pay exempt-interest dividends to its Class A, Class B, Class C
and Class D shareholders (together, the "shareholders"). Exempt-interest
dividends are dividends or any part thereof paid by the Fund that are
attributable to interest on tax-exempt obligations and designated by the Trust
as exempt-interest dividends in a written notice mailed to the Fund's
shareholders within 60 days after the close of the Fund's taxable year. For
this purpose, the Fund will allocate interest from tax-exempt obligations (as
well as ordinary income, capital gains, and tax preference items, discussed
below) among the Class A, Class B, Class C and Class D shareholders according
to a method (which it believes is consistent with the Commission rule
permitting the issuance and sale of multiple classes of shares) that is based
on the gross income allocable to Class A, Class B, Class C and Class D
shareholders during the taxable year or such other method as the Internal
Revenue Service may prescribe. To the extent that the dividends distributed to
the Fund's shareholders are derived from interest income exempt from Federal
income tax under Code Section 103(a) and are properly designated as exempt-
interest dividends, they will be excludable from a shareholder's gross income
for Federal income tax purposes. Exempt-interest dividends are included,
however, in determining the portion, if any, of a person's social security and
railroad retirement benefits subject to Federal income taxes. Interest on
indebtedness incurred or continued to purchase or carry shares of a RIC paying
exempt-interest dividends, such as the Fund, will not be deductible by the
investor for Federal income tax or Massachusetts corporate excise tax
purposes, to the extent attributable to exempt-interest dividends.
Shareholders are advised to consult their tax advisors with respect to whether
exempt-interest dividends retain the exclusion under Code Section 103(a) if a
shareholder would be treated as a "substantial user" or "related person" under
Code Section 147(a) with respect to property financed with the proceeds of an
issue of "industrial development bonds" or "private activity bonds," if any,
held by the Fund.
The portion of the Fund's exempt-interest dividends directly attributable to
interest received by the Fund from Massachusetts Municipal Bonds and properly
identified in a year-end statement ("Massachusetts exempt-interest dividends")
also will be exempt from Massachusetts personal income taxes. Interest on
indebtedness incurred or continued to purchase or carry shares of the Fund
will not be deductible for Massachusetts personal income tax purposes to the
extent attributable to Massachusetts exempt-interest dividends. Corporate
shareholders and shareholders subject to income taxation by states other than
Massachusetts will realize a lower after tax rate of return than Massachusetts
shareholders since the dividends distributed by the Fund generally will not be
exempt, to any significant degree, from the Massachusetts corporate excise tax
or from income taxation by such other states. The Trust will inform
shareholders annually regarding the portion of the Fund's distributions that
constitutes exempt-interest dividends and the portion that constitutes
Massachusetts exempt-interest dividends. The Fund will allocate exempt-
interest dividends among Class A, Class B, Class C and Class D shareholders
for Massachusetts income tax purposes based on a method similar to that
described above for Federal income tax purposes.
Distributions from investment income and capital gains of the Fund,
including exempt-interest dividends, will be subject to the Massachusetts
corporate excise tax and may also be subject to state taxes in states other
than Massachusetts and local taxes. The value of Fund shares owned by a
corporation also may be subject to the property component of the Massachusetts
corporate excise tax, and to taxes in other states that tax intangible
property. Accordingly, investors in the Fund, including, in particular,
corporate investors which may be subject to the Massachusetts corporate excise
tax, should consult their tax advisors with respect to the application of such
taxes to an investment in the Fund and to the receipt of Fund dividends and
with respect to their Massachusetts tax situation in general.
To the extent that the Fund's distributions are derived from interest on its
taxable investments or from an excess of net short-term capital gains over net
long-term capital losses ("ordinary income dividends"), such distributions are
considered taxable ordinary income for Federal income tax purposes and taxable
dividend income for Massachusetts tax purposes. Distributions, if any, from an
excess of net long-term capital gains over
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net short-term capital losses derived from the sale of securities or from
certain transactions in futures or options ("capital gain dividends") are
taxable as long-term capital gains for Federal income tax purposes, regardless
of the length of time the shareholder has owned Fund shares, and for
Massachusetts income tax purposes will be taxed as capital gain income, unless
they are attributable to the sale of certain Massachusetts Municipal Bonds
issued pursuant to legislation that specifically exempts capital gains on
their sale from Massachusetts personal income taxation. Certain additional
categories of capital gains are taxable at different rates for Federal income
tax purposes. Generally not later than 60 days after the close of the Fund's
taxable year, the Trust will provide shareholders with a written notice
designating the amounts of any exempt-interest dividends, ordinary income
dividends or capital gain dividends, as well as any amount of capital gain
dividends in different categories of capital gain referred to above. There
also are different long-term capital gains rates for Massachusetts personal
income tax purposes. For Massachusetts personal income tax purposes, proposed
regulations have been issued that would, if finalized, permit different
classes of capital gains to be passed through to RIC shareholders.
Distributions by the Fund, whether from exempt-interest income, ordinary
income or capital gains, will not be eligible for the dividends received
deduction allowed to corporations under the Code.
All or a portion of the Fund's gain from the sale or redemption of tax-
exempt obligations purchased at a market discount will be treated as ordinary
income rather than capital gain. This rule may increase the amount of ordinary
income dividends received by shareholders. Distributions in excess of the
Fund's earnings and profits will first reduce the adjusted tax basis of a
holder's shares and, after such adjusted tax basis is reduced to zero, will
constitute capital gains to such holder (assuming the shares are held as a
capital asset). Any loss upon the sale or exchange of Fund shares held for six
months or less will be disallowed to the extent of any exempt-interest
dividends received by the shareholder. In addition, any such loss that is not
disallowed under the rule stated above will be treated as long-term capital
loss to the extent of any capital gain dividends received by the shareholder.
If the Fund pays a dividend in January which was declared in the previous
October, November or December to shareholders of record on a specific date in
one of such months, then such dividend will be treated for tax purposes as
being paid by the Fund and received by its shareholders on December 31 of the
year in which such dividend was declared.
The Code subjects interest received on certain otherwise tax-exempt
securities to an alternative minimum tax. The alternative minimum tax applies
to interest received on certain "private activity bonds" issued after August
7, 1986. Private activity bonds are bonds which, although tax-exempt, are used
for purposes other than those generally performed by governmental units and
which benefit non-governmental entities (e.g., bonds used for industrial
development or housing purposes). Income received on such bonds is classified
as an item of "tax preference," which could subject certain investors in such
bonds, including shareholders of the Fund, to an alternative minimum tax. The
Fund will purchase such "private activity bonds," and the Trust will report to
shareholders within 60 days after the calendar year-end the portion of the
Fund's dividends declared during the year which constitutes an item of tax
preference for alternative minimum tax purposes. The Code further provides
that corporations are subject to an alternative minimum tax based, in part, on
certain differences between taxable income as adjusted for other tax
preferences and the corporation's "adjusted current earnings," which more
closely reflect a corporation's economic income. Because an exempt-interest
dividend paid by the Fund will be included in adjusted current earnings, a
corporate shareholder may be required to pay alternative minimum tax on
exempt-interest dividends paid by the Fund.
The Fund may invest in high yield securities as described in the Prospectus.
Furthermore, the Fund may also invest in instruments the return on which
includes nontraditional features such as indexed principal or interest
payments ("non-traditional instruments"). These instruments may be subject to
special tax rules under which the Fund may be required to accrue and
distribute income before amounts due under the obligations are paid. In
addition, it is possible that all or a portion of the interest payments on
such high yield securities and/or nontraditional instruments could be
recharacterized as taxable ordinary income.
No gain or loss will be recognized by Class B shareholders on the conversion
of their Class B shares into Class D shares. A shareholder's basis in the
Class D shares acquired will be the same as such shareholder's basis in the
Class B shares converted, and the holding period of the acquired Class D
shares will include the holding period for the converted Class B shares.
30
<PAGE>
If a shareholder exercises an exchange privilege within 90 days of acquiring
the shares, then the loss the shareholder can recognize on the exchange will
be reduced (or the gain increased) to the extent any sales charge paid to the
Fund on the exchanged shares reduces any sales charge such shareholder would
have owed upon purchase of the new shares in the absence of the exchange
privilege. Instead, such sales charge will be treated as an amount paid for
the new shares.
A loss realized on a sale or exchange of shares of the Fund will be
disallowed if other Fund shares are acquired (whether through the automatic
reinvestment of dividends or otherwise) within a 61-day period beginning 30
days before and ending 30 days after the date that the shares are disposed of.
In such a case, the basis of the shares acquired will be adjusted to reflect
the disallowed loss.
Ordinary income dividends paid to shareholders who are nonresident aliens or
foreign entities will be subject to a 30% U.S. withholding tax under existing
provisions of the Code applicable to foreign individuals and entities unless a
reduced rate of withholding or a withholding exemption is provided under
applicable treaty law. Nonresident shareholders are urged to consult their own
tax advisors concerning the applicability of the U.S. withholding tax.
Under certain Code provisions, some shareholders may be subject to a 31%
withholding tax on certain ordinary income dividends and on capital gain
dividends and redemption payments ("backup withholding"). Generally,
shareholders subject to backup withholding will be those for whom no certified
taxpayer identification number is on file with the Trust or who, to the
Trust's knowledge, have furnished an incorrect number. When establishing an
account, an investor must certify under penalty of perjury that such number is
correct and that such investor is not otherwise subject to backup withholding.
The Code provides that every person required to file a tax return must
include for information purposes on such return the amount of exempt-interest
dividends received from all sources (including the Fund) during the taxable
year.
TAX TREATMENT OF OPTIONS AND FUTURES TRANSACTIONS
The Fund may purchase or sell municipal bond index futures contracts and
interest rate futures contracts on U.S. Government securities ("financial
futures contracts"). The Fund may also purchase and write call and put options
on such financial futures contracts. In general, unless an election is
available to the Fund or an exception applies, such options and financial
futures contracts that are "Section 1256 contracts" will be "marked to market"
for Federal income tax purposes at the end of each taxable year, i.e., each
such option or financial futures contract will be treated as sold for its fair
market value on the last day of the taxable year, and any gain or loss
attributable to Section 1256 contracts will be 60% long-term and 40% short-
term capital gain or loss. Application of these rules to Section 1256
contracts held by the Fund may alter the timing and character of distributions
to shareholders. The mark-to-market rules outlined above, however, will not
apply to certain transactions entered into by the Fund solely to reduce the
risk of changes in price or interest rates with respect to its investments.
Code Section 1092, which applies to certain "straddles," may affect the
taxation of the Fund's sales of securities and transactions in financial
futures contracts and related options. Under Section 1092, the Fund may be
required to postpone recognition for tax purposes of losses incurred in
certain sales of securities and certain closing transactions in financial
futures contracts or the related options.
The foregoing is a general and abbreviated summary of the applicable
provisions of the Code, Treasury regulations and Massachusetts tax laws
presently in effect. For the complete provisions, reference should be made to
the pertinent Code sections, the Treasury regulations promulgated thereunder
and the applicable Massachusetts personal income and corporate excise tax
laws. The Code and the Treasury regulations, as well as the Massachusetts tax
laws, are subject to change by legislative, judicial or administrative action
either prospectively or retroactively.
Shareholders are urged to consult their own tax advisors regarding the
availability of any exemptions from state or local taxes and with specific
questions as to Federal, foreign, state or local taxes.
31
<PAGE>
PERFORMANCE DATA
From time to time the Fund may include its average annual total return and
other total return data, as well as yield and tax-equivalent yield, in
advertisements or information furnished to present or prospective shareholders.
From time to time, the Fund may include the Fund's Morningstar risk-adjusted
performance ratings in advertisements or supplemental sales literature. Total
return and yield and tax-equivalent yield figures are based on the Fund's
historical performance and are not intended to indicate future performance.
Average annual total return, yield and tax-equivalent yield are determined
separately for Class A, Class B, Class C and Class D shares in accordance with
formulas specified by the Commission.
Average annual total return quotations for the specified periods are computed
by finding the average annual compounded rates of return (based on net
investment income and any realized and unrealized capital gains or losses on
portfolio investments over such periods) that would equate the initial amount
invested to the redeemable value of such investment at the end of each period.
Average annual total return is computed assuming all dividends and
distributions are reinvested and taking into account all applicable recurring
and nonrecurring expenses, including the maximum sales charge in the case of
Class A and Class D shares and the CDSC that would be applicable to a complete
redemption of the investment at the end of the specified period in the case of
the Class B and Class C shares.
The Fund also may quote annual, average annual and annualized total return
and aggregate total return performance data, both as a percentage and as a
dollar amount based on a hypothetical $1,000 investment, for various periods
other than those noted below. Such data will be computed as described above,
except that (1) as required by the periods of the quotations, actual annual,
annualized or aggregate data, rather than average annual data, may be quoted
and (2) the maximum applicable sales charges will not be included with respect
to annual or annualized rates of return calculations. Aside from the impact on
the performance data calculations of including or excluding the maximum
applicable sales charges, actual annual or annualized total return data
generally will be lower than average annual total return data since the average
rates of return reflect compounding of return; aggregate total return data
generally will be higher than average annual total return data since the
aggregate rates of return reflect compounding over a longer period of time.
32
<PAGE>
Set forth below is the total return, yield and tax-equivalent yield
information for Class A, Class B, Class C and Class D shares of the Fund for
the periods indicated.
<TABLE>
<CAPTION>
CLASS A SHARES CLASS B SHARES CLASS C SHARES CLASS D SHARES
-------------------------- ---------------------------- -------------------------- ----------------------------
REDEEMABLE REDEEMABLE REDEEMABLE REDEEMABLE
EXPRESSED AS VALUE OF A EXPRESSED AS A VALUE OF A EXPRESSED AS VALUE OF A EXPRESSED AS A VALUE OF A
A PERCENTAGE HYPOTHETICAL PERCENTAGE HYPOTHETICAL A PERCENTAGE HYPOTHETICAL PERCENTAGE HYPOTHETICAL
BASED ON A $1,000 BASED ON A $1,000 BASED ON A $1,000 BASED ON A $1,000
HYPOTHETICAL INVESTMENT HYPOTHETICAL INVESTMENT HYPOTHETICAL INVESTMENT HYPOTHETICAL INVESTMENT
$1,000 AT THE END OF $1,000 AT THE END OF $1,000 AT THE END OF $1,000 AT THE END OF
PERIOD INVESTMENT THE PERIOD INVESTMENT THE PERIOD INVESTMENT THE PERIOD INVESTMENT THE PERIOD
------ ------------ ------------- -------------- ------------- ------------ ------------- -------------- -------------
AVERAGE ANNUAL TOTAL RETURN
(INCLUDING MAXIMUM APPLICABLE SALES CHARGE)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
One year ended
July 31, 1998.. 1.68% $1,016.80 1.38% $1,013.80 4.28% $1,042.80 1.58% $1,015.80
Five years ended
July 31, 1998.. 4.97% $1,274.30 5.29% $1,294.10 -- -- -- --
Inception
(February 28,
1992) to July
31, 1998....... 6.90% $1,535.30 7.04% $1,548.00 -- -- -- --
Inception
(October 21,
1994) to July
31, 1998....... -- -- -- -- 7.63% $1,319.80 7.05% $1,293.40
<CAPTION>
ANNUAL TOTAL RETURN
(EXCLUDING MAXIMUM APPLICABLE SALES CHARGE)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Year ended July
31, 1998....... 5.92% $1,059.20 5.38% $1,053.80 5.28% $1,052.80 5.82% $1,058.20
Year ended July
31, 1997....... 10.02% $1,100.20 9.46% $1,094.60 9.25% $1,092.50 9.80% $1,098.00
Year ended July
31, 1996....... 6.78% $1,067.80 6.23% $1,062.30 6.12% $1,061.20 6.67% $1,066.70
Year ended July
31, 1995....... 5.35% $1,053.50 4.82% $1,048.20 -- -- -- --
Inception
(October 21,
1994) to July
31, 1995....... -- -- -- -- 8.13% $1,081.30 8.70% $1,087.00
Year ended July
31, 1994....... 1.26% $1,012.60 0.75% $1,007.50 -- -- -- --
Year ended July
31, 1993....... 10.08% $1,100.80 9.53% $1,095.30 -- -- -- --
Inception
(February 28,
1992) to July
31, 1992....... 9.44% $1,094.40 9.22% $1,092.20 -- -- -- --
<CAPTION>
AGGREGATE TOTAL RETURN
(INCLUDING MAXIMUM APPLICABLE SALES CHARGE)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Inception
(February 28,
1992) to July
31, 1998....... 53.53% $1,535.30 54.80% $1,548.00 -- -- -- --
Inception
(October 21,
1994) to July
31, 1998....... -- -- -- -- 31.98% $1,319.80 29.34% $1,293.40
<CAPTION>
YIELD
<S> <C> <C> <C> <C> <C> <C> <C> <C>
30 days ended
July 31, 1998.. 4.06% -- 3.72% -- 3.62% -- 3.96% --
<CAPTION>
TAX EQUIVALENT YIELD*
<S> <C> <C> <C> <C> <C> <C> <C> <C>
30 days ended
July 31, 1998.. 5.64% -- 5.17% -- 5.03% -- 5.50% --
</TABLE>
- --------
* Based on a Federal income tax rate of 28%.
In order to reflect the reduced sales charges in the case of Class A or
Class D shares or the waiver of the CDSC in the case of Class B or Class C
shares applicable to certain investors, as described under "Purchase of
Shares" and "Redemption of Shares," respectively, the total return data quoted
by the Fund in advertisements directed to such investors may take into account
the reduced, and not the maximum, sales charge or may take into account the
CDSC and therefore may reflect greater total return since, due to the reduced
sales charges or the waiver of sales charges, a lower amount of expenses is
deducted.
33
<PAGE>
GENERAL INFORMATION
DESCRIPTION OF SHARES
The Declaration of Trust provides that the Trust shall be comprised of
separate Series each of which will consist of a separate portfolio which will
issue separate shares. The Trust is presently comprised of the Fund, Merrill
Lynch Arizona Municipal Bond Fund, Merrill Lynch Arkansas Municipal Bond Fund,
Merrill Lynch Colorado Municipal Bond Fund, Merrill Lynch Connecticut
Municipal Bond Fund, Merrill Lynch Florida Municipal Bond Fund, Merrill Lynch
Maryland Municipal Bond Fund, Merrill Lynch Michigan Municipal Bond Fund,
Merrill Lynch Minnesota Municipal Bond Fund, Merrill Lynch New Jersey
Municipal Bond Fund, Merrill Lynch New Mexico Municipal Bond Fund, Merrill
Lynch New York Municipal Bond Fund, Merrill Lynch North Carolina Municipal
Bond Fund, Merrill Lynch Ohio Municipal Bond Fund, Merrill Lynch Oregon
Municipal Bond Fund, Merrill Lynch Pennsylvania Municipal Bond Fund and
Merrill Lynch Texas Municipal Bond Fund. The Trustees are authorized to create
an unlimited number of Series and, with respect to each Series, to issue an
unlimited number of full and fractional shares of beneficial interest, par
value $.10 per share, of different classes and to divide or combine the shares
into a greater or lesser number of shares without thereby changing the
proportionate beneficial interests in the Series. Shareholder approval is not
necessary for the authorization of additional Series or classes of a Series of
the Trust. At the date of this Statement of Additional Information, the shares
of the Fund are divided into Class A, Class B, Class C and Class D shares.
Class A, Class B, Class C and Class D shares represent interests in the same
assets of the Fund and are identical in all respects except that Class B,
Class C and Class D shares bear certain expenses related to the account
maintenance and/or distribution expenditures. The Board of Trustees may
classify and reclassify the shares of any Series into additional or other
classes at a future date.
All shares of the Trust have equal voting rights, except that only shares of
the respective Series are entitled to vote on matters concerning only that
Series and, as noted above, Class B, Class C and Class D shares have exclusive
voting rights with respect to matters relating to the account maintenance
and/or distribution expenses, as appropriate, being borne solely by such
class. Each issued and outstanding share of a Series is entitled to one vote
and to participate equally in dividends and distributions with respect to that
Series and, upon liquidation or dissolution of the Series, in the net assets
of such Series remaining after satisfaction of outstanding liabilities, except
that, as noted above, expenses relating to distribution and/or account
maintenance of the Class B, Class C and Class D shares are borne solely by the
respective class. There normally will be no meeting of shareholders for the
purposes of electing Trustees unless and until such time as less than a
majority of the Trustees holding office have been elected by shareholders, at
which time the Trustees then in office will call a shareholders' meeting for
the election of Trustees. Shareholders may, in accordance with the terms of
the Declaration of Trust, cause a meeting of shareholders to be held for the
purpose of voting on the removal of Trustees. Also, the Trust will be required
to call a special meeting of shareholders in accordance with the requirements
of the 1940 Act to seek approval of new management and advisory arrangements,
of a material increase in distribution fees or of a change in the fundamental
policies, objectives or restrictions of a Series.
The obligations and liabilities of a particular Series are restricted to the
assets of that Series and do not extend to the assets of the Trust generally.
The shares of each Series, when issued, will be fully paid and nonassessable,
have no preference, preemptive, conversion, exchange or similar rights, and
will be freely transferable. Holders of shares of any Series are entitled to
redeem their shares as set forth elsewhere herein and in the Prospectus.
Shares do not have cumulative voting rights and the holders of more than 50%
of the shares of the Trust voting for the election of Trustees can elect all
of the Trustees if they choose to do so, and in such event the holders of the
remaining shares would not be able to elect any Trustees. No amendments may be
made to the Declaration of Trust, other than amendments necessary to conform
the Declaration to certain laws or regulations, to change the name of the
Trust, or to make certain non-material changes, without the affirmative vote
of a majority of the outstanding shares of the Trust or of the affected Series
or class, as applicable.
Under Massachusetts law, shareholders of a business trust may, under certain
circumstances, be held personally liable as partners for the trust's
obligations. However, the risk of a shareholder incurring financial loss on
account of shareholder liability is limited to circumstances in which both
inadequate insurance existed and the trust itself was unable to meet its
obligations.
34
<PAGE>
The Manager provided the initial capital for the Fund by purchasing 10,000
shares of the Fund for $100,000. Such shares were acquired for investment and
can only be disposed of by redemption. If additional Series are added to the
Trust, the organizational expenses will be allocated among the Series in a
manner deemed equitable by the Trustees.
COMPUTATION OF OFFERING PRICE PER SHARE
An illustration of the computation of the offering price for Class A, Class
B, Class C and Class D shares of the Fund based on the value of the Fund's net
assets and number of shares outstanding on July 31, 1998 is calculated as set
forth below.
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C CLASS D
---------- ----------- ---------- ----------
<S> <C> <C> <C> <C>
Net Assets....................... $5,705,117 $51,254,618 $1,835,065 $2,836,906
========== =========== ========== ==========
Number of Shares Outstanding..... 511,806 4,598,228 164,760 254,440
========== =========== ========== ==========
Net Asset Value Per Share (net
assets divided by number of
shares outstanding)............. $ 11.15 $ 11.15 $ 11.14 $ 11.15
Sales Charge (for Class A and
Class D shares: 4.00% of
offering price; 4.17% of net
asset value per share)*......... .46 ** ** .46
---------- ----------- ---------- ----------
Offering Price................... $ 11.61 $ 11.15 $ 11.14 $ 11.61
========== =========== ========== ==========
</TABLE>
- --------
* Rounded to the nearest one-hundredth percent; assumes maximum sales charge
is applicable.
** Class B and Class C shares are not subject to an initial sales charge but
may be subject to a CDSC on redemption of shares. See "Purchase of Shares--
Deferred Sales Charge Alternatives--Class B and Class C Shares" in the
Prospectus and "Redemption of Shares--Deferred Sales Charges--Class B and
Class C Shares" herein.
INDEPENDENT AUDITORS
Deloitte & Touche LLP, 117 Campus Drive, Princeton, New Jersey 08540-6400,
has been selected as the independent auditors of the Trust. The selection of
independent auditors is subject to approval by the independent Trustees of the
Trust. The independent auditors are responsible for auditing the annual
financial statements of the Fund.
CUSTODIAN
State Street Bank and Trust Company, P.O. Box 351, Boston, Massachusetts
02101, acts as the custodian of the Fund's assets. The custodian is
responsible for safeguarding and controlling the Fund's cash and securities,
handling the delivery of securities and collecting interest on the Fund's
investments.
TRANSFER AGENT
Financial Data Services, Inc., 4800 Deer Lake Drive East, Jacksonville,
Florida 32246-6484, acts as the Trust's transfer agent. The Transfer Agent is
responsible for the issuance, transfer and redemption of shares and the
opening, maintenance and servicing of shareholder accounts. See "Management of
the Trust--Transfer Agency Services" in the Prospectus.
LEGAL COUNSEL
Brown & Wood LLP, One World Trade Center, New York, New York 10048-0557, is
counsel for the Trust.
35
<PAGE>
REPORTS TO SHAREHOLDERS
The fiscal year of the Fund ends on July 31 of each year. The Trust sends to
shareholders of the Fund at least semi-annually reports showing the Fund's
portfolio and other information. An annual report, containing financial
statements audited by independent auditors, is sent to shareholders each year.
After the end of each year shareholders will receive Federal income tax
information regarding dividends and capital gains distributions.
ADDITIONAL INFORMATION
The Prospectus and this Statement of Additional Information do not contain
all the information set forth in the Registration Statement and the exhibits
relating thereto, which the Trust has filed with the Securities and Exchange
Commission, Washington, D.C., under the Securities Act and the 1940 Act, to
which reference is hereby made.
The Declaration of Trust establishing the Trust dated August 2, 1985, a copy
of which, together with all amendments thereto (the "Declaration") is on file
in the office of the Secretary of the Commonwealth of Massachusetts, provides
that the name "Merrill Lynch Multi-State Municipal Series Trust" refers to the
Trustees under the Declaration collectively as Trustees, but not as
individuals or personally; and no Trustee, shareholder, officer, employee or
agent of the Trust shall be held to any personal liability; nor shall resort
be had to any such person's private property for the satisfaction of any
obligation or claim of the Trust but the "Trust Property" only shall be
liable.
To the knowledge of the Trust, no person or entity owned beneficially 5% or
more of the Fund's shares on November 1, 1998.
FINANCIAL STATEMENTS
The Fund's audited financial statements are incorporated by reference in
this Statement of Additional Information to its 1998 annual report to
shareholders. You may request a copy of the annual report at no charge by
calling 1-800-456-4587 ext. 789 between 8:00 a.m. and 8:00 p.m. on any
business day.
36
<PAGE>
APPENDIX I
ECONOMIC AND FINANCIAL CONDITIONS IN MASSACHUSETTS
The following information is a brief summary of factors affecting the economy
of the Commonwealth of Massachusetts and does not purport to be a complete
description of such factors. Other factors will affect issuers. The summary is
based primarily upon one or more publicly available offering statements
relating to debt offerings of Massachusetts issuers; however, it has not been
updated nor will it be updated during the year. The Trust has not independently
verified the information.
While economic growth in the Commonwealth of Massachusetts (sometimes
referred to herein as the "Commonwealth") slowed considerably during the
recession of 1990-1991, indicators such as retail sales, housing permits,
construction, and employment levels suggest a strong and continued economic
recovery. As of August 1998, the Commonwealth's unadjusted unemployment rate
was 2.8% as compared to a national average of 4.5%. Per capita personal income
in the Commonwealth is currently higher than the national average.
In fiscal 1996, the total revenues of the budgeted operating funds of the
Commonwealth increased by approximately 5.7% over the prior fiscal year to
$17.328 billion. Expenditures increased by 3.9% over the prior fiscal year to
$16.881 billion. As a result, the Commonwealth ended fiscal year 1996 with a
positive closing fund balance of $1.172 billion.
In fiscal 1997, the total revenues of the budgeted operating funds of the
Commonwealth increased by approximately 4.9% over the prior fiscal year to
$18.170 billion. Expenditures increased by 6.3% over the prior fiscal year to
$17.949 billion. As a result, the Commonwealth ended fiscal year 1997 with a
positive closing fund balance of $1.394 billion.
Budgeted revenues and other sources in fiscal 1998, which ended June 30,
1998, were estimated as of August 21, 1998 by the Executive Office for
Administration and Finance to be approximately $19.697 billion, including tax
revenues of $14.026 billion. It is estimated that fiscal 1998 budgeted
expenditures will be $18.887 billion and that fiscal 1998 will end with fund
balances of approximately $2.075 billion.
On July 21, 1998, Acting Governor Cellucci signed into law the fiscal 1999
budget. The tax cuts incorporated into the budget were valued by the Department
of Revenue at $990 million. The $19.5 billion budget substantially increases
funding for education, child care and worker training.
Standard & Poor's and Moody's Investors Service, Inc. have rated the
Commonwealth's general obligation bonds as AA- and Aa3, respectively. Fitch
IBCA, Inc. has recently rated the Commonwealth's bonds as AA-. From time to
time, agencies may change their ratings.
Growth of tax revenues in the Commonwealth is limited by law. Tax revenues in
fiscal years 1993 through 1997 were lower than the limits set by law, and the
Executive Office for Administration and Finance estimates that state tax
revenues in fiscal 1998 will not reach the limits imposed by law. In addition,
legislation enacted in December, 1989 imposes a limit on the amount of
outstanding direct bonds of the Commonwealth. The law further provides that
bonds to be refunded from the proceeds of Commonwealth refunding bonds are to
be excluded from outstanding direct bonds upon the issuance of the refunding
bonds. The limit did not apply to certain fiscal recovery bonds issued in 1990
to fund the 1990 operating deficit, the final maturity of which was paid on
December 1, 1997. In January, 1990, legislation was enacted to impose a limit
on debt service appropriations in Commonwealth budgets beginning in fiscal
1991. The law provides that no more than 10% of the total appropriations in any
fiscal year may be expended for payment of interest and principal on general
obligation debt of the Commonwealth. This limit did not apply to the fiscal
recovery bonds.
Certain of the Commonwealth's cities, counties and towns have at times
experienced serious financial difficulties which have adversely affected their
credit standing. The recurrence of such financial difficulties, or
37
<PAGE>
financial difficulties of the Commonwealth, could adversely affect the market
values and marketability of outstanding obligations issued by the Commonwealth
or its public authorities or municipalities.
On December 13, 1996 Middlesex County, the Commonwealth's most populous
county, defaulted on $4.5 million in unrated county hospital revenue
anticipation notes. Following the default, the noteholders, together with
certain other creditors of the County, initiated legal action to attach County
assets valued at $20 million in satisfaction of various obligations of the
County. On July 11, 1997 then Governor Weld signed legislation that
immediately abolished the Middlesex County government. The legislation also
eliminated Worcester and Hampden County government on July 1, 1998. On August
13, 1998, Acting Governor Cellucci approved legislation abolishing county
government in Hampshire, Essex and Berkshire Counties on January 1, 1999, July
1, 1999 and July 1, 2000, respectively. The Secretary of Administration and
Finance is to conduct an audit of all remaining county assets and liabilities
and report to the Legislature by February 1, 1999. In general, all
liabilities, debts, leases and contracts of an abolished county which are in
force immediately before the transfer date would become obligations of the
Commonwealth.
In Massachusetts, the tax on personal property and real estate is virtually
the only source of tax revenues available to cities and towns to meet local
costs. "Proposition 2 1/2," an initiative petition adopted by the voters of
the Commonwealth on November 4, 1980, limits the power of Massachusetts cities
and towns and certain tax-supported districts and public agencies to raise
revenue from property taxes to support their operations, including the payment
of certain debt service. Proposition 2 required many cities and towns to
reduce their property tax levels to a stated percentage of the full and fair
cash value of their taxable real estate and personal property and limited the
amount by which the total property taxes assessed by a city or town might
increase from year to year. Although Proposition 2 1/2 will continue to
constrain local property tax revenues, significant capacity exists for
overrides in nearly all cities and towns.
To offset shortfalls experienced by local governments as a result of the
implementation of Proposition 2 1/2, the government of the Commonwealth
increased direct local aid from the 1981 level of $1.632 billion to $3.246
billion in fiscal 1996. Fiscal 1997 expenditures for direct local aid were
$3.558 billion, which is an increase of approximately 9.6% above the 1996
level. It is estimated that fiscal 1998 expenditures for direct local aid will
be $3.912 billion, which is an increase of approximately 9.9% above the fiscal
1997 level.
The aggregate unfunded actuarial liabilities of the pension systems of the
Commonwealth and the unfunded liability of the Commonwealth related to local
retirement systems are significant--estimated to be approximately $6.720
billion as of January 1, 1996 on the basis of certain actuarial assumptions
regarding, among other things, future investment earnings, annual inflation
rates, wage increases and cost of living increases. No assurance can be given
that these assumptions will be realized. The legislature adopted a
comprehensive pension bill addressing the issue in January 1988, which
requires the Commonwealth, beginning in fiscal year 1989, to fund future
pension liabilities currently and amortize the Commonwealth's unfunded
liabilities over 40 years in accordance with funding schedules prepared by the
Secretary for Administration and Finance and approved by the legislature. The
amounts required for funding of current pension liabilities in fiscal years
1998, 1999, 2000 and 2001 are estimated to be $1.046 billion, $1.059 billion,
$1.073 billion and $1.088 billion, respectively. Pension funding legislation
was revised in July, 1997, as part of the fiscal 1998 budget, to include an
accelerated pension funding schedule that would eliminate the Commonwealth's
unfunded liability by 2018 rather than 2028. The fiscal 1999 appropriation for
pension funding is approximately $93.9 million less than the amount required
by the most recently approved pension funding schedule. The smaller
appropriation is based on the assumption that a revised funding schedule will
require reduced funding because of the 1997 change in law eliminating
Commonwealth responsibility for funding cost-of-living adjustments incurred by
local pension systems. A revised funding schedule has not yet been submitted
to the Legislature.
38
<PAGE>
APPENDIX II
RATINGS OF MUNICIPAL BONDS
DESCRIPTION OF MOODY'S INVESTORS SERVICE, INC.'S ("MOODY'S") LONG-TERM DEBT
RATINGS
Aaa
Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally
referred to as "gilt edged." Interest payments are protected by a
large or by an exceptionally stable margin and principal is secure.
While the various protective elements are likely to change, such
changes as can be visualized are most unlikely to impair the
fundamentally strong position of such issues.
Aa
Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are
generally known as high grade bonds. They are rated lower than the
best bonds because margins of protection may not be as large as in Aaa
securities or fluctuation of protective elements may be of greater
amplitude or there may be other elements present which make the long-
term risk appear somewhat larger than in Aaa securities.
A
Bonds which are rated A possess many favorable investment attributes
and are to be considered as upper-medium-grade obligations. Factors
giving security to principal and interest are considered adequate, but
elements may be present which suggest a susceptibility to impairment
sometime in the future.
Baa
Bonds which are rated Baa are considered as medium-grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest
payment 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.
Note: Those bonds in the Aa, A, Baa, Ba and B groups which Moody's believes
possess the strongest investment attributes are designated by the symbols Aa1,
A1, Baa1, Ba1 and B1.
Short-term Notes: The three ratings of Moody's for short-term notes are
MIG1/VMIG1, MIG2/ VMIG2 and MIG3/VMIG3; MIG1/VMIG1 denotes "best quality . . .
strong protection by established cash flows;" MIG2/VMIG2 denotes "high
quality" with ample margins of protection; MIG3/VMIG3 notes are of "favorable
quality . . . but . . . lacking the undeniable strength of the preceding
grades."
39
<PAGE>
DESCRIPTION OF MOODY'S SHORT-TERM DEBT RATINGS
Moody's employs the following three designations, all judged to be
investment grade, to indicate the relative repayment ability of rated issuers:
Issuers rated Prime-1 (or supporting institutions) have a superior ability
for repayment of senior short-term debt obligations. Prime-1 repayment ability
will often be evidenced by the many following characteristics: leading market
positions in well established industries; high rates of return on funds
employed; conservative capitalization structure with moderate reliance on debt
and ample asset protection; broad margins in earnings coverage of fixed
financial charges and high internal cash generation; and well established
access to a range of financial markets and assured sources of alternate
liquidity.
Issuers rated Prime-2 (or supporting institutions) have a strong ability for
repayment of senior short-term debt obligations. This will normally be
evidenced by many of the characteristics cited above but to a lesser degree.
Earnings trends and coverage ratios, while sound, may be more subject to
variation. Capitalization characteristics, while still appropriate, may be
more affected by external conditions. Ample alternate liquidity is maintained.
Issuers rated Prime-3 (or supporting institutions) have an acceptable
ability for repayment of senior short-term debt obligations. The effect of
industry characteristics and market composition may be more pronounced.
Variability in earnings and profitability may result in changes in the level
of debt protection measurements and may require relatively high financial
leverage. Adequate alternate liquidity is maintained.
Issuers rated Not Prime do not fall within any of the Prime rating
categories.
DESCRIPTION OF STANDARD & POOR'S ("STANDARD & POOR'S") ISSUE CREDIT RATING
DEFINITIONS
A Standard & Poor's issue credit rating is a current opinion of the
creditworthiness of an obligor with respect to a specific financial
obligation, a specific class of financial obligations, or a specific financial
program (including ratings on medium term note programs and commercial paper
programs). It takes into consideration the creditworthiness of guarantors,
insurers, or other forms of credit enhancement on the obligation and takes
into account the currency in which the obligation is denominated.
The issue credit rating is not a recommendation to purchase, sell, or hold a
financial obligation, inasmuch as it does not comment as to market price or
suitability for a particular investor.
Issue credit ratings are based on current information furnished by the
obligors or obtained by Standard & Poor's from other sources it considers
reliable. Standard & Poor's does not perform an audit in connection with any
credit rating and may, on occasion, rely on unaudited financial information.
Credit ratings may be changed, suspended, or withdrawn as a result of changes
in, or unavailability of, such information, or based on other circumstances.
The ratings are based, in varying degrees, on the following considerations:
I. Likelihood of payment capacity and willingness of the obligor to meet
its financial commitment on an obligation in accordance with the terms
of obligation;
II. Nature of and provisions of the obligation; and
III. Protection afforded by, and relative position of, the obligation in
the event of bankruptcy, reorganization, or other arrangement under the
laws of bankruptcy and other laws affecting creditors' rights.
40
<PAGE>
LONG-TERM ISSUE CREDIT RATINGS
<TABLE>
<C> <S>
AAA An obligation rated "AAA" has the highest rating assigned by Standard
& Poor's. The obligor's capacity to meet its financial commitment on
the obligation is extremely strong.
AA An obligation rated "AA" differs from the highest rated obligations
only in small degree. The obligor's capacity to meet its financial
commitment on the obligation is very strong.
A An obligation rated "A" is somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than
obligations in higher-rated categories. However, the obligor's
capacity to meet its financial commitment on the obligation is still
strong.
BBB An obligation rated "BBB" exhibits adequate protection parameters.
However, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity of the obligor to meet its
financial commitment on the obligation.
BB An obligation rated "BB," "B," "CCC," "CC" and "C" is regarded as
having significant speculative characteristics. "BB" indicates the
B least degree of speculation and "C" the highest degree of speculation.
CCC While such bonds will likely have some quality and protective
CC characteristics, these may be outweighed by large uncertainties or
C major exposures to adverse conditions.
D An obligation rated "D" is in payment default. The "D" rating
category is used when payments on an obligation are not made on the
date due even if the applicable grace period has not expired, unless
Standard & Poor's 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 or the taking of a similar action if
payments on an obligation are jeopardized.
</TABLE>
Plus (+) 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
rating categories.
SHORT-TERM ISSUE CREDIT RATINGS
<TABLE>
<C> <S>
A-1 A short-term obligation rated "A-1" is rated in the highest category
by Standard & Poor's. The obligor's capacity to meet its financial
commitment on the obligation is strong. Within this category, certain
obligations are designated with a plus sign (+). This indicates that
the obligor's capacity to meet its financial commitment on these
obligations is extremely strong.
A-2 A short-term obligation rated "A-2" is somewhat more susceptible to
the adverse effects of changes in circumstances and economic
conditions than obligations in higher rating categories. However, the
obligor's capacity to meet its financial commitment on the obligation
is satisfactory.
A-3 A short-term obligation rated "A-3" exhibits adequate protection
parameters. However, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity of the
obligor to meet its financial commitment on the obligation.
B A short-term obligation rated "B" is regarded as having significant
speculative characteristics. The obligor currently has the capacity
to meet its financial commitment on the obligation; however, it faces
major ongoing uncertainties which could lead to the obligor's
inadequate capacity to meet its financial commitment on the
obligation.
C A short-term obligation rated "C" is currently vulnerable to
nonpayment and is dependent upon favorable business, financial, and
economic conditions for the obligor to meet its financial commitment
on the obligation.
D A short-term obligation rated "D" is in payment default. The "D"
rating category is used when payments on an obligation are not made
on the date due even if the applicable grace period has not expired,
unless Standard & Poor's 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 or the taking of a similar action if
payments on an obligation are jeopardized.
</TABLE>
41
<PAGE>
DESCRIPTION OF FITCH IBCA, INC. ("FITCH") RATINGS
Fitch credit ratings are an opinion on the ability of an entity or of a
securities issue to meet financial commitments, such as interest, preferred
dividends, or repayment of principal, on a timely basis.
Credit ratings are used by investors as indications of the likelihood of
getting their money back in accordance with the terms on which they invested.
Thus, the use of credit ratings defines their function: "investment-grade"
ratings (international long-term "AAA"--"BBB" categories; short-term "F1"--
"F3") indicate a relatively low probability of default, while those in the
"speculative" or "non-investment grade" categories (international long-term
"BB"--"D") either signal a higher probability of default or that a default has
already occurred. Ratings imply no specific prediction of default probability.
Entities or issues carrying the same rating are of similar but not
necessarily identical credit quality since the rating categories do not fully
reflect small differences in the degrees of credit risk.
Fitch credit and other ratings are not recommendations to buy, sell, or hold
any security. Ratings do not comment on the adequacy of market price, the
suitability of any security for a particular investor, or the tax-exempt
nature or taxability of any payments of any security. The ratings are based on
information obtained from issuers, other obligors, underwriters, their
experts, and other sources Fitch believes to be reliable. Fitch does not audit
or verify the truth or accuracy of such information. Ratings may be changed or
withdrawn as a result of changes in, or the unavailability of, information or
for other reasons.
INTERNATIONAL CREDIT RATINGS
Fitch's international credit ratings are applied to the spectrum of
corporate, structured, and public finance. They cover sovereign (including
supranational and subnational), financial, bank, insurance, and other
corporate entities and the securities they issue, as well as municipal and
other public finance entities, and securities backed by receivables or other
financial assets, and counterparties. When applied to an entity, these long-
and short-term ratings assess its general creditworthiness on a senior basis.
When applied to specific issues and programs, these ratings take into account
the relative preferential position of the holder of the security and reflect
the terms, conditions, and covenants attaching to that security.
ANALYTICAL CONSIDERATIONS
When assigning ratings, Fitch considers the historical and prospective
financial condition, quality of management, and operating performance of the
issuer and of any guarantor, any special features of a specific issue or
guarantee, the issue's relationship to other obligations of the issuer, as
well as developments in the economic and political environment that might
affect the issuer's financial strength and credit quality.
Investment-grade ratings reflect expectations of timeliness of payment.
However, ratings of different classes of obligations of the same issuer may
vary based on expectations of recoveries in the event of a default or
liquidation. Recovery expectations, which are the amounts expected to be
received by investors after a security defaults, are a relatively minor
consideration in investment-grade ratings, but Fitch does use "notching" of
particular issues to reflect their degree of preference in a winding up,
liquidation, or reorganization as well as other factors. Recoveries do,
however, gain in importance at lower rating levels, because of the greater
likelihood of default, and become the major consideration at the "DDD"
category. Factors that affect recovery expectations include collateral and
seniority relative to other obligations in the capital structure.
Variable rate demand obligations and other securities which contain a demand
feature will have a dual rating, such as "AAA/F1+." The first rating denotes
long-term ability to make principal and interest payments. The second rating
denotes ability to meet a demand feature in full and on time.
42
<PAGE>
INTERNATIONAL LONG-TERM CREDIT RATINGS
Investment Grade
AAA Highest credit quality. "AAA" ratings denote the lowest expectation of
credit risk. They are assigned only in case of exceptionally strong
capacity for timely payment of financial commitments. This capacity is
highly unlikely to be adversely affected by foreseeable events.
AA Very high credit quality. "AA" ratings denote a very low expectation of
credit risk. They indicate strong capacity for timely payment of
financial commitments. This capacity is not significantly vulnerable to
foreseeable events.
A High credit quality. "A" ratings denote a low expectation of credit
risk. The capacity for timely payment of financial commitments is
considered strong. This capacity may, nevertheless, be more vulnerable
to changes in circumstances or in economic conditions than is the case
for higher ratings.
BBB Good credit quality. "BBB" ratings indicate that there is currently a
low expectation of credit risk. The capacity for timely payment of
financial commitments is considered adequate, but adverse changes in
circumstances and in economic conditions are more likely to impair this
capacity. This is the lowest investment-grade category.
Speculative Grade
BB Speculative. "BB" ratings indicate that there is a possibility of
credit risk developing, particularly as the result of adverse economic
change over time; however, business or financial alternatives may be
available to allow financial commitments to be met. Securities rated in
this category are not investment grade.
B Highly speculative. "B" ratings indicate that significant credit risk
is present, but a limited margin of safety remains. Financial
commitments are currently being met; however, capacity for continued
payment is contingent upon a sustained, favorable business and economic
environment.
CCC
High default risk. Default is a real possibility. Capacity for meeting
CC financial commitments is solely reliant upon sustained, favorable
business or economic developments. A "CC" rating indicated that default
C of some kind appears probable. "C" ratings signal imminent default.
DDD
Default. Securities are not meeting current obligations and are
DD extremely speculative. "DDD" designates the highest potential for
recovery of amounts outstanding on any securities involved. For U.S.
D corporates, for example, "DD" indicates expected recovery of 50%-90% of
such outstandings, and "D", the lowest recovery potential, i.e. below
50%.
INTERNATIONAL SHORT-TERM CREDIT RATINGS
A short-term rating has a time horizon of less than 12 months for most
obligations, or up to three years for U.S. public finance securities, and thus
places greater emphasis on the liquidity necessary to meet financial
commitments in a timely manner.
F1 Highest credit quality. Indicates the strongest capacity for timely
payment of financial commitments; may have an added "+" to denote any
exceptionally strong credit feature.
F2 Good credit quality. A satisfactory capacity for timely payment of
financial commitments, but the margin of safety is not as great as in
the case of the higher ratings.
F3 Fair credit quality. The capacity for timely payment of financial
commitments is adequate; however, near-term adverse changes could
result in a reduction to non-investment grade.
B Speculative. Minimal capacity for timely payment of financial
commitments, plus vulnerability to near-term adverse changes in
financial and economic conditions.
C High default risk. Default is a real possibility. Capacity for meeting
financial commitments is solely reliant upon a sustained, favorable
business and economic environment.
D Default. Denotes actual or imminent payment default.
43
<PAGE>
- --------
Notes:
"+" or "-" may be appended to a rating to denote relative status within
major rating categories. Such suffixes are not added to the "AAA" long-term
rating category, to categories below "CCC," or to short-term ratings other
than "F1."
"NR" indicates that Fitch does not rate the issuer or issue in question.
"Withdrawn": A rating is withdrawn when Fitch deems the amount of
information available to be inadequate for rating purposes, or when an
obligation matures, is called, or refinanced.
RatingAlert: Ratings are placed on RatingAlert to notify investors that
there is a reasonable probability of a rating change and the likely direction
of such change. These are designated as "Positive," indicting a potential
upgrade, "Negative," for a potential downgrade, or "Evolving," if ratings may
be raised, lowered or maintained. RatingAlert is typically resolved over a
relatively short period.
44
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<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Investment Objective and Policies.......................................... 2
Description of Municipal Bonds and Temporary Investments................... 5
Description of Municipal Bonds............................................ 5
Description of Temporary Investments...................................... 6
Repurchase Agreements..................................................... 7
Financial Futures Transactions and Options................................ 7
Investment Restrictions................................................... 11
Management of the Trust.................................................... 13
Trustees and Officers..................................................... 13
Compensation of Trustees.................................................. 15
Management and Advisory Arrangements...................................... 15
Purchase of Shares......................................................... 16
Initial Sales Charge Alternatives--Class A and Class D Shares............. 17
Reduced Initial Sales Charges............................................. 18
Distribution Plans........................................................ 20
Limitations on the Payment of Deferred Sales Charges...................... 20
Redemption of Shares....................................................... 21
Deferred Sales Charges--Class B and Class C Shares........................ 22
Portfolio Transactions..................................................... 22
Determination of Net Asset Value........................................... 23
Shareholder Services....................................................... 24
Investment Account........................................................ 24
Automatic Investment Plans................................................ 25
Automatic Reinvestment of Dividends and Capital Gains Distributions....... 25
Systematic Withdrawal Plans............................................... 25
Exchange Privilege........................................................ 26
Distributions and Taxes.................................................... 28
Tax Treatment of Option and Futures Transactions.......................... 31
Performance Data........................................................... 32
General Information........................................................ 34
Description of Shares..................................................... 34
Computation of Offering Price Per Share................................... 35
Independent Auditors...................................................... 35
Custodian................................................................. 35
Transfer Agent............................................................ 35
Legal Counsel............................................................. 35
Reports to Shareholders................................................... 36
Additional Information.................................................... 36
Financial Statements....................................................... 36
Appendix I--Economic and Financial Conditions in Massachusetts............. 37
Appendix II--Ratings of Municipal Bonds.................................... 39
</TABLE>
Code # 16149-1198
[LOGO] MERRILL LYNCH
MASSACHUSETTS MUNICIPAL
BOND FUND
OF MERRILL LYNCH MULTI-STATE
MUNICIPAL SERIES TRUST
[ART]
STATEMENT OF
ADDITIONAL
INFORMATION
November 6, 1998
Distributor:
Merrill Lynch
Funds Distributor
<PAGE>
PART C. OTHER INFORMATION
ITEM 24. FINANCIAL STATEMENTS AND EXHIBITS.
(A)FINANCIAL STATEMENTS
Contained in Part A:
Financial Highlights for each of the years in the six-year period
ended July 31, 1998 and the period February 28, 1992 (commencement of
operations) to July 31, 1992.
Incorporated by reference in Part B:
Financial Statements:
Schedule of Investments as of July 31, 1998.*
Statement of Assets and Liabilities as of July 31, 1998.*
Statement of Operations for the year ended July 31, 1998.*
Statements of Changes in Net Assets for each of the years in the two-
year period ended July 31, 1998.*
Financial Highlights for each of the years in the five-year period
ended July 31, 1998.*
- --------
* Included in Registrant's 1998 Annual Report to shareholders filed with the
Securities and Exchange Commission for the year ended July 31, 1998 pursuant
to Rule 30b2-1 under the Investment Company Act of 1940, as amended ("1940
Act").
(B)EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<C> <S>
1(a) --Declaration of Trust of the Registrant, dated August 2, 1985.(a)
(b) --Amendment to Declaration of Trust, dated September 18, 1987.(a)
(c) --Amendment to Declaration of Trust, dated December 21, 1987.(a)
(d) --Amendment to Declaration of Trust, dated October 3, 1988.(a)
(e) --Amendment to Declaration of Trust, dated October 17, 1994 and
instrument establishing Class C and Class D shares of beneficial
interest.(a)
(f) --Instrument establishing Merrill Lynch Massachusetts Municipal Bond
Fund (the "Fund") as a series of Registrant.(a)
(g) --Instrument establishing Class A and Class B shares of beneficial
interest of the Fund.(a)
2 --By-Laws of Registrant.(a)
3 --None.
4 --Portions of the Declaration of Trust, Establishment and Designation
and By-Laws of the Registrant defining the rights of holders of the
Fund as a series of the Registrant.(b)
5(a) --Form of Management Agreement between Registrant and Fund Asset
Management, L.P.(a)
(b) --Supplement to Management Agreement between Registrant and Fund Asset
Management, L.P.(e)
6(a) --Form of Revised Class A Shares Distribution Agreement between
Registrant and Merrill Lynch Funds Distributor, Inc. (now known as
Princeton Funds Distributor, Inc.) ("the Distributor") (including
Form of Selected Dealers Agreement).(e)
(b) --Form of Class B Shares Distribution Agreement between Registrant and
the Distributor.(a)
(c) --Form of Class C Shares Distribution Agreement between Registrant and
the Distributor (including Form of Selected Dealers Agreement).(e)
(d) --Form of Class D Shares Distribution Agreement between Registrant and
the Distributor (including Form of Selected Dealers Agreement).(e)
(e) --Letter Agreement between the Fund and the Distributor, dated
September 15, 1993, in connection with the Merrill Lynch Mutual Fund
Adviser Program.(c)
7 --None.
8 --Form of Custody Agreement between Registrant and State Street Bank &
Trust Company.(d)
9 --Form of Transfer Agency, Dividend Disbursing Agency and Shareholder
Servicing Agency Agreement between Registrant and Financial Data
Services, Inc.(f)
</TABLE>
C-1
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<C> <S>
10 --Opinion of Brown & Wood LLP, counsel for the Registrant.(h)
11 --Consent of Deloitte & Touche LLP, independent auditors for the
Registrant.
12 --None.
13 --Certificate of Fund Asset Management, L.P.(a)
14 --None.
15(a) --Amended and Restated Class B Distribution Plan of the Registrant and
Amended and Restated Class B Distribution Plan Sub-Agreement. (c)
(b) --Form of Class C Distribution Plan and Class C Shares Distribution
Plan Sub-Agreement of Registrant.(e)
(c) --Form of Class D Distribution Plan and Class D Distribution Plan Sub-
Agreement of Registrant.(e)
16(a) --Schedule for computation of each performance quotation provided in
the Registration Statement in response to Item 22 relating to Class A
Shares.(a)
(b) --Schedule for computation of each performance quotation provided in
the Registration Statement in response to Item 22 relating to Class B
Shares.(a)
(c) --Schedule for computation of each performance quotation provided in
the Registration Statement in response to Item 22 relating to Class C
Shares.(a)
(d) --Schedule for computation of each performance quotation provided in
the Registration Statement in response to Item 22 relating to Class D
Shares.(a)
17(a) --Financial Data Schedule for Class A Shares.
(b) --Financial Data Schedule for Class B Shares.
(c) --Financial Data Schedule for Class C Shares.
(d) --Financial Data Schedule for Class D Shares.
18 --Merrill Lynch Select PricingSM System Plan Pursuant to Rule 18f-3.(g)
</TABLE>
- --------
(a) Filed on October 27, 1995 as an Exhibit to Post-Effective Amendment No. 5
to Registrant's Registration Statement on Form N-1A under the Securities
Act of 1933, as amended (File No. 33-35987) (the "Registration
Statement").
(b) Reference is made to Article II, Section 2.3 and Articles V, VI, VIII, IX,
X and XI of the Registrant's Declaration of Trust, as amended, filed as
Exhibits 1(a), 1(b), 1(c), 1(d) and 1(e) with Post-Effective Amendment No.
5 to the Registrant's Registration Statement; to the Certificates of
Establishment and Designation establishing the Fund as a series of the
Registrant and establishing Class A and Class B shares of beneficial
interest of the Fund, filed as Exhibits 1(f) and 1(g), respectively, with
Post-Effective Amendment No. 5 to the Registration Statement; and to
Articles I, V and VI of the Registrant's By-Laws, filed as Exhibit 2 with
Post-Effective Amendment No. 5 to the Registration Statement.
(c) Filed on November 9, 1993 as an Exhibit to Post-Effective Amendment No. 3
to Registrant's Registration Statement.
(d) Incorporated by reference to Exhibit 8 to Post-Effective Amendment No. 3
to Registrant's Registration Statement on Form N-1A under the Securities
Act of 1933, as amended, filed on October 14, 1994, relating to shares of
Merrill Lynch Minnesota Municipal Bond Fund series of the Registrant (File
No. 33-44734).
(e) Filed on October 17, 1994 as an Exhibit to Post-Effective Amendment No. 4
to Registrant's Registration Statement.
(f) Incorporated by reference to Exhibit 9 to Post-Effective Amendment No. 5
to Registrant's Registration Statement on Form N-1A under the Securities
Act of 1933, as amended, filed on October 20, 1995, relating to shares of
Merrill Lynch Arizona Municipal Bond Fund series of the Registrant (File
No. 33-41311).
(g) Incorporated by reference to Exhibit 18 to Post-Effective Amendment No. 13
to Registrant's Registration Statement on Form N-1A under the Securities
Act of 1933, as amended, filed on January 25, 1996, relating to shares of
Merrill Lynch New York Municipal Bond Fund series of the Registrant (File
No. 2-99473).
(h) Previously filed as an Exhibit to the Registration Statement.
ITEM 25. PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH REGISTRANT.
Registrant is not controlled by or under common control with any other
person.
C-2
<PAGE>
ITEM 26. NUMBER OF HOLDERS OF SECURITIES.
<TABLE>
<CAPTION>
NUMBER OF
RECORD HOLDERS AT
TITLE OF CLASS SEPTEMBER 30, 1998*
-------------- -------------------
<S> <C>
Class A Shares of beneficial interest, par value
$0.10 per share.................................... 170
Class B Shares of beneficial interest, par value
$0.10 per share.................................... 1,512
Class C Shares of beneficial interest, par value
$0.10 per share.................................... 73
Class D Shares of beneficial interest, par value
$0.10 per share.................................... 51
</TABLE>
- --------
* The number of holders shown above includes holders of record plus beneficial
owners whose shares are held of record by Merrill Lynch, Pierce, Fenner &
Smith Incorporated ("Merrill Lynch").
ITEM 27. INDEMNIFICATION.
Section 5.3 of the Registrant's Declaration of Trust provides as follows:
"The Trust shall indemnify each of its Trustees, officers, employees and
agents (including persons who serve at its request as directors, officers or
trustees of another organization in which it has any interest as a
shareholder, creditor or otherwise) against all liabilities and expenses
(including amounts paid in satisfaction of judgments, in compromise, as fines
and penalties and as counsel fees) reasonably incurred by him in connection
with the defense or disposition of any action, suit or other proceeding,
whether civil or criminal, in which he may be involved or with which he may be
threatened, while in office or thereafter, by reason of his being or having
been such a Trustee, officer, employee or agent, except with respect to any
matter as to which he shall have been adjudicated to have acted in bad faith,
willful misfeasance, gross negligence or reckless disregard of his duties;
provided, however, that as to any matter disposed of by a compromise payment
by such person, pursuant to a consent decree or otherwise, no indemnification
either for said payment or for any other expenses shall be provided unless the
Trust shall have received a written opinion from independent legal counsel
approved by the Trustees to the effect that if either the matter of willful
misfeasance, gross negligence or reckless disregard of duty, or the matter of
good faith and reasonable belief as to the best interests of the Trust, had
been adjudicated, it would have been adjudicated in favor of such person. The
rights accruing to any Person under these provisions shall not exclude any
other right to which he may be lawfully entitled; provided that no Person may
satisfy any right of indemnity or reimbursement granted herein or in Section
5.1 or to which he may be otherwise entitled except out of the property of the
Trust, and no Shareholder shall be personally liable to any Person with
respect to any claim for indemnity or reimbursement or otherwise. The Trustees
may make advance payments in connection with indemnification under this
Section 5.3, provided that the indemnified person shall have given a written
undertaking to reimburse the Trust in the event it is subsequently determined
that he is not entitled to such indemnification."
Insofar as the conditional advancing of indemnification moneys for actions
based upon the 1940 Act may be concerned, such payments will be made only on
the following conditions: (i) the advances must be limited to amounts used, or
to be used, for the preparation or presentation of a defense to the action,
including costs connected with the preparation of a settlement; (ii) advances
may be made only upon receipt of a written promise by, or on behalf of, the
recipient to repay that amount of the advance which exceeds the amount which
it is ultimately determined that he or she is entitled to receive from the
Registrant by reason of indemnification; and (iii) (a) such promise must be
secured by a surety bond, other suitable insurance or an equivalent form of
security which assures that any repayments may be obtained by the Registrant
without delay or litigation, which bond, insurance or other form of security
must be provided by the recipient of the advance, or (b) a majority of a
quorum of the Registrant's disinterested, non-party Trustees, or an
independent legal counsel in a written opinion, shall determine, based upon a
review of readily available facts that the recipient of the advance ultimately
will be found entitled to indemnification.
In Section 9 of the Class A, Class B, Class C and Class D Shares
Distribution Agreements relating to the securities being offered hereby, the
Registrant agrees to indemnify the Distributor and each person, if any, who
controls the Distributor within the meaning of the Securities Act of 1933 (the
"1933 Act"), against certain types of civil liabilities arising in connection
with the Registration Statement or Prospectus and Statement of Additional
Information.
C-3
<PAGE>
Insofar as indemnification for liabilities arising under the 1933 Act may be
permitted to Trustees, officers and controlling persons of the Registrant and
the principal underwriter pursuant to the foregoing provisions or otherwise,
the Registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as expressed
in the 1933 Act and is, therefore, unenforceable. In the event that a claim
for indemnification against such liabilities (other than the payment by the
Registrant of expenses incurred or paid by a Trustee, officer, or controlling
person of the Registrant and the principal underwriter in connection with the
successful defense of any action, suit or proceeding) is asserted by such
Trustee, officer or controlling person or the principal underwriter in
connection with the shares being registered, the Registrant will, unless in
the opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the 1933
Act and will be governed by the final adjudication of such issue.
ITEM 28. BUSINESS AND OTHER CONNECTIONS OF INVESTMENT ADVISER.
Fund Asset Management, L.P. (the "Manager" or "FAM") acts as the investment
adviser for the following open-end registered investment companies: CBA Money
Fund, CMA Government Securities Fund, CMA Money Fund, CMA Multi-State
Municipal Series Trust, CMA Tax-Exempt Fund, CMA Treasury Fund, The Corporate
Fund Accumulation Program, Inc., Financial Institutions Series Trust, Merrill
Lynch Basic Value Fund, Inc., Merrill Lynch California Municipal Series Trust,
Merrill Lynch Corporate Bond Fund, Inc., Merrill Lynch Corporate High Yield
Fund, Inc., Merrill Lynch Emerging Tigers Fund, Inc., Merrill Lynch Federal
Securities Trust, Merrill Lynch Funds for Institutions Series, Merrill Lynch
Multi-State Limited Maturity Municipal Series Trust, Merrill Lynch Multi-State
Municipal Series Trust, Merrill Lynch Municipal Bond Fund, Inc., Merrill Lynch
Phoenix Fund, Inc., Merrill Lynch Special Value Fund, Inc., Merrill Lynch
World Income Fund, Inc. and The Municipal Fund Accumulation Program, Inc.; and
for the following closed-end registered investment companies: Apex Municipal
Fund, Inc., Corporate High Yield Fund, Inc., Corporate High Yield Fund II,
Inc., Corporate High Yield Fund III, Inc., Debt Strategies Fund, Inc., Debt
Strategies Fund II, Inc., Debt Strategies Fund III, Inc., Income Opportunities
Fund 1999, Inc., Income Opportunities Fund 2000, Inc., Merrill Lynch Municipal
Strategy Fund, Inc., MuniAssets Fund, Inc., MuniEnhanced Fund, Inc.,
MuniHoldings California Insured Fund, Inc., MuniHoldings California Insured
Fund II, Inc., MuniHoldings California Insured Fund III, Inc., MuniHoldings
Florida Insured Fund, MuniHoldings Florida Insured Fund II, MuniHoldings
Florida Insured Fund III, MuniHoldings Fund, Inc., MuniHoldings Fund II, Inc.,
MuniHoldings Insured Fund, Inc., MuniHoldings New Jersey Insured Fund, Inc.,
MuniHoldings New Jersey Insured Fund II, Inc., MuniHoldings New York Fund,
Inc., MuniHoldings New York Insured Fund, Inc., MuniHoldings New York Insured
Fund II, Inc., MuniInsured Fund, Inc., MuniVest Fund, Inc., MuniVest Fund II,
Inc., MuniVest Florida Fund, MuniVest Michigan Insured Fund, Inc., MuniVest
New Jersey Fund, Inc., MuniVest Pennsylvania Insured Fund, MuniYield Arizona
Fund, Inc., MuniYield California Fund, Inc., MuniYield California Insured
Fund, Inc., MuniYield California Insured Fund II, Inc., MuniYield Florida
Fund, MuniYield Florida Insured Fund, MuniYield Fund, Inc., MuniYield Insured
Fund, Inc., MuniYield Michigan Fund, Inc., MuniYield Michigan Insured Fund,
Inc., MuniYield New Jersey Fund, Inc., MuniYield New Jersey Insured Fund,
Inc., MuniYield New York Insured Fund, Inc., MuniYield New York Insured Fund
II, Inc., MuniYield Pennsylvania Fund, MuniYield Quality Fund, Inc., MuniYield
Quality Fund II, Inc., Senior High Income Portfolio, Inc. and Worldwide
DollarVest Fund, Inc.
Merrill Lynch Asset Management, L.P. ("MLAM"), an affiliate of the Manager,
acts as the investment adviser for the following open-end registered
investment companies: Merrill Lynch Adjustable Rate Securities Fund, Inc.,
Merrill Lynch Americas Income Fund, Inc., Merrill Lynch Asset Builder Program,
Inc., Merrill Lynch Asset Growth Fund, Inc., Merrill Lynch Asset Income Fund,
Inc., Merrill Lynch Capital Fund, Inc., Merrill Lynch Convertible Fund, Inc.,
Merrill Lynch Developing Capital Markets Fund, Inc., Merrill Lynch Dragon
Fund, Inc., Merrill Lynch EuroFund, Merrill Lynch Fundamental Growth Fund,
Inc., Merrill Lynch Fund For Tomorrow, Inc., Merrill Lynch Global Allocation
Fund, Inc., Merrill Lynch Global Bond Fund for Investment and Retirement,
Merrill Lynch Global Growth Fund, Inc., Merrill Lynch Global Holdings, Inc.,
Merrill Lynch Global Resources Trust, Merrill Lynch Global SmallCap Fund,
Inc., Merrill Lynch Global Technology Fund, Inc., Merrill Lynch Global Utility
Fund, Inc., Merrill Lynch Global Value Fund, Inc., Merrill
C-4
<PAGE>
Lynch Growth Fund, Merrill Lynch Healthcare Fund, Inc., Merrill Lynch
Intermediate Government Bond Fund, Merrill Lynch International Equity Fund,
Merrill Lynch Latin America Fund, Inc., Merrill Lynch Middle East/Africa Fund,
Inc., Merrill Lynch Municipal Series Trust, Merrill Lynch Pacific Fund, Inc.,
Merrill Lynch Ready Assets Trust, Merrill Lynch Real Estate Fund, Inc.,
Merrill Lynch Retirement Series Trust, Merrill Lynch Series Fund, Inc.,
Merrill Lynch Short-Term Global Income Fund, Inc., Merrill Lynch Strategic
Dividend Fund, Merrill Lynch Technology Fund, Inc., Merrill Lynch U.S.
Treasury Money Fund, Merrill Lynch U.S.A. Government Reserves, Merrill Lynch
Utility Income Fund, Inc., Merrill Lynch Variable Series Funds, Inc. and
Hotchkis and Wiley Funds (advised by Hotchkis and Wiley, a division of MLAM);
and for the following closed-end registered investment companies: Merrill
Lynch High Income Municipal Bond Fund, Inc. and Merrill Lynch Senior Floating
Rate Fund, Inc. MLAM also acts as sub-adviser to Merrill Lynch World Strategy
Portfolio and Merrill Lynch Basic Value Equity Portfolio, two investment
portfolios of EQ Advisors Trust.
The address of each of these registered investment companies is P.O. Box
9011, Princeton, New Jersey 08543-9011, except that the address of Merrill
Lynch Funds for Institutions Series and Merrill Lynch Intermediate Government
Bond Fund is One Financial Center, 23rd Floor, Boston, Massachusetts 02111-
2665. The address of the Manager, MLAM, Princeton Services, Inc. ("Princeton
Services") and Princeton Administrators, L.P. (Princeton Administrators) is
also P.O. Box 9011, Princeton, New Jersey 08543-9011. The address of Princeton
Funds Distributor, Inc. ("PFD") and of Merrill Lynch Funds Distributor
("MLFD") is P.O. Box 9081, Princeton, New Jersey 08543-9081. The address of
Merrill Lynch, Pierce, Fenner & Smith Incorporated ("Merrill Lynch") and
Merrill Lynch & Co., Inc. ("ML & Co.") is World Financial Center, North Tower,
250 Vesey Street, New York, New York 10281-1201. The address of the Fund's
transfer agent, Financial Data Services, Inc. ("FDS"), is 4800 Deer Lake Drive
East, Jacksonville, Florida 32246-6484.
Set forth below is a list of each executive officer and partner of the
Manager indicating each business, profession, vocation or employment of a
substantial nature in which each such person or entity has been engaged since
June 1, 1996 for his/her or its own account or in the capacity of director,
officer, partner or trustee. In addition, Mr. Zeikel is President, Mr. Richard
is Treasurer and Mr. Glenn is Executive Vice President of substantially all of
the investment companies described in the first two paragraphs of this Item 28
and Messrs. Giordano, Harvey, Kirstein and Monagle are officers of one or more
of such companies.
Officers and partners of FAM are set forth as follows:
<TABLE>
<CAPTION>
OTHER SUBSTANTIAL BUSINESS,
NAME POSITION(S) WITH THE MANAGER PROFESSION, VOCATION OR EMPLOYMENT
---- ---------------------------- ----------------------------------
<C> <C> <S>
ML & Co. ............... Limited Partner Financial Services Holding
Company; Limited Partner of
MLAM
Princeton Services...... General Partner General Partner of MLAM
Arthur Zeikel........... Chairman Chairman of MLAM; President
of MLAM and FAM from 1977 to
1997; Chairman and Director
of Princeton Services;
President of Princeton
Services from 1993 to 1997;
Executive Vice President of
ML & Co.
Jeffrey M. Peek......... President President of MLAM; President
and Director of Princeton
Services; Executive Vice
President of ML & Co.;
Managing Director and Co-
Head of the Investment
Banking Division of Merrill
Lynch in 1997; Senior Vice
President and Director of
the Global Securities and
Economics Division of
Merrill Lynch from 1995 to
1997.
Terry K. Glenn.......... Executive Vice Executive Vice President of
President MLAM; Executive Vice
President and Director of
Princeton Services;
President and Director of
PFD; Director of FDS;
President of Princeton
Administrators.
</TABLE>
C-5
<PAGE>
<TABLE>
<CAPTION>
OTHER SUBSTANTIAL BUSINESS,
NAME POSITION(S) WITH THE MANAGER PROFESSION, VOCATION OR EMPLOYMENT
---- ---------------------------- ----------------------------------
<C> <C> <S>
Mark Desario............ Senior Vice President Senior Vice President of MLAM
Linda L. Federici....... Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services
Vincent R. Giordano..... Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services
Elizabeth A. Griffin.... Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services
Norman R. Harvey........ Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services
Michael J. Hennewinkel.. Senior Vice Senior Vice President,
President, Secretary Secretary and General
and General Counsel Counsel of MLAM; Senior Vice
President of Princeton
Services
Philip L. Kirstein...... Senior Vice President Senior Vice President of
MLAM; Senior Vice President,
Director and Secretary of
Princeton Services
Ronald M. Kloss......... Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services
Debra Landsman-Yaros.... Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services; Vice
President of PFD
Stephen M.M. Miller..... Senior Vice President Executive Vice President of
Princeton Administrators;
Senior Vice President of
Princeton Services
Joseph T. Monagle, Jr. . Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services
Brian A. Murdock........ Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services;
Director of PFD
Michael L. Quinn........ Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services
Gerald M. Richard....... Senior Vice President Senior Vice President and
and Treasurer Treasurer of MLAM; Senior
Vice President and Treasurer
of Princeton Services; Vice
President and Treasurer of
PFD
Gregory D. Upah......... Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services
Ronald L. Welburn....... Senior Vice President Senior Vice President of
MLAM; Senior Vice President
of Princeton Services
</TABLE>
ITEM 29. PRINCIPAL UNDERWRITERS.
(a) MLFD, a division of PFD, acts as the principal underwriter for the
Registrant and for each of the open-end registered investment companies
referred to in the first two paragraphs of Item 28 except CBA Money Fund, CMA
Government Securities Fund, CMA Money Fund, CMA Multi-State Municipal Series
Trust, CMA Tax-Exempt Fund, CMA Treasury Fund, The Corporate Fund Accumulation
Program, Inc., and The Municipal Fund Accumulation Program, Inc. MLFD also
acts as the principal underwriter for the following closed-end registered
investment companies: Merrill Lynch High Income Municipal Bond Fund, Inc.,
Merrill Lynch Municipal Strategy Fund, Inc. and Merrill Lynch Senior Floating
Rate Fund, Inc. A separate division of PFD acts as the principal underwriter
of a number of other investment companies.
C-6
<PAGE>
(b) Set forth below is information concerning each director and officer of
PFD. The principal business address of each such person is P.O. Box 9011,
Princeton, New Jersey 08543-9011, except that the address of Messrs. Breen,
Crook, Fatseas and Wasel is One Financial Center, 23rd Floor, Boston,
Massachusetts 02111-2665.
<TABLE>
<CAPTION>
POSITION(S) AND OFFICES POSITION(S) AND OFFICES
NAME WITH PFD WITH REGISTRANT
---- ----------------------- -----------------------
<S> <C> <C>
Terry K. Glenn........... President and Director Executive Vice President
Brian A. Murdock......... Director None
Thomas J. Verage......... Director None
Robert W. Crook.......... Senior Vice President None
Michael J. Brady......... Vice President None
William M. Breen......... Vice President None
Michael G. Clark......... Vice President None
James T. Fatseas......... Vice President None
Debra W. Landsman-Yaros.. Vice President None
Michelle T. Lau.......... Vice President None
Gerald M. Richard........ Vice President and Treasurer Treasurer
Salvatore Venezia........ Vice President None
William Wasel............ Vice President None
Robert Harris............ Secretary None
</TABLE>
(c) Not applicable.
ITEM 30. LOCATION OF ACCOUNTS AND RECORDS.
All accounts, books and other documents required to be maintained by Section
31(a) of the Investment Company Act of 1940, as amended, and the rules
thereunder are maintained at the offices of the Registrant, 800 Scudders Mill
Road, Plainsboro, New Jersey 08536, and its transfer agent, Financial Data
Services, Inc., 4800 Deer Lake Drive East, Jacksonville, Florida 32246-6484.
ITEM 31. MANAGEMENT SERVICES.
Other than as set forth under the caption "Management of the Trust--
Management and Advisory Arrangements" in the Prospectus constituting Part A of
the Registration Statement and under "Management of the Trust--Management and
Advisory Arrangements" in the Statement of Additional Information constituting
Part B of the Registration Statement, the Registrant is not a party to any
management-related service contract.
ITEM 32. UNDERTAKINGS.
(a) Not applicable.
(b) Not applicable.
(c) The Registrant undertakes to furnish each person to whom a prospectus is
delivered with a copy of the Registrant's latest annual report to
shareholders, upon request and without charge.
C-7
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 and the
Investment Company Act of 1940, the Registrant certifies that it meets all of
the requirements for effectiveness of this Post-Effective Amendment to its
Registration Statement pursuant to Rule 485(b) under the Securities Act of
1933 and has duly caused this Post-Effective Amendment to its Registration
Statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the Township of Plainsboro, and the State of New Jersey, on the
6th day of November, 1998.
Merrill Lynch Multi-State Municipal
Series Trust
(Registrant)
/s/ Gerald M. Richard
By: _________________________________
(GERALD M. RICHARD, TREASURER)
Pursuant to the requirements of the Securities Act of 1933, this Post-
Effective Amendment to its Registration Statement has been signed below by the
following persons in the capacities and on the date(s) indicated.
SIGNATURE TITLE DATE
Arthur Zeikel* President and
- ------------------------------------- Trustee
(ARTHUR ZEIKEL) (Principal Executive Officer)
Gerald M. Richard* Treasurer (Principal Financial
- ------------------------------------- and Accounting
(GERALD M. RICHARD) Officer)
James H. Bodurtha* Trustee
- -------------------------------------
(JAMES H. BODURTHA)
Herbert I. London* Trustee
- -------------------------------------
(HERBERT I. LONDON)
Robert R. Martin* Trustee
- -------------------------------------
(ROBERT R. MARTIN)
Joseph L. May* Trustee
- -------------------------------------
(JOSEPH L. MAY)
Andre F. Perold* Trustee
- -------------------------------------
(ANDRE F. PEROLD)
/s/ Gerald M. Richard
*By: ________________________________ November 6,
(GERALD M. RICHARD, ATTORNEY-IN- 1998
FACT)
C-8
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<C> <S>
11 --Consent of Deloitte & Touche LLP, independent auditors for the
Registrant.
17(a) --Financial Data Schedule for Class A Shares.
(b) --Financial Data Schedule for Class B Shares.
(c) --Financial Data Schedule for Class C Shares.
(d) --Financial Data Schedule for Class D Shares.
</TABLE>
<PAGE>
APPENDIX FOR GRAPHIC AND IMAGE MATERIAL
Pursuant to Rule 304 of Regulation S-T, the following table presents
fair and accurate narrative descriptions of graphic and image material omitted
from this EDGAR Submission file due to ASCII-incompatibility and cross-
references this material to the location of each occurrence in the text.
DESCRIPTION OF OMITTED LOCATION OF GRAPHIC
GRAPHIC OR IMAGE OR IMAGE IN TEXT
- ---------------------- -------------------
Compass plate, circular Back cover of Prospectus and
graph paper and Merrill Lynch back cover of Statement of
logo including stylized market Additional Information
bull
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 6
<SERIES>
<NUMBER> 01
<NAME> MERRILL LYNCH MASSACHUSETTS MUNICIPAL BOND FUND - CLASS A
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JUL-31-1998
<PERIOD-START> AUG-01-1997
<PERIOD-END> JUL-31-1998
<INVESTMENTS-AT-COST> 56146051
<INVESTMENTS-AT-VALUE> 61370844
<RECEIVABLES> 2206693
<ASSETS-OTHER> 98338
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 63675875
<PAYABLE-FOR-SECURITIES> 1866909
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 177260
<TOTAL-LIABILITIES> 2044169
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 57740827
<SHARES-COMMON-STOCK> 511806
<SHARES-COMMON-PRIOR> 519994
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (1333914)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 5224793
<NET-ASSETS> 5705117
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 3609613
<OTHER-INCOME> 0
<EXPENSES-NET> (805435)
<NET-INVESTMENT-INCOME> 2804178
<REALIZED-GAINS-CURRENT> 239318
<APPREC-INCREASE-CURRENT> 157464
<NET-CHANGE-FROM-OPS> 3200960
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> (288288)
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 55712
<NUMBER-OF-SHARES-REDEEMED> (73879)
<SHARES-REINVESTED> 9979
<NET-CHANGE-IN-ASSETS> (557869)
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> (1573231)
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 337900
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 805435
<AVERAGE-NET-ASSETS> 5714377
<PER-SHARE-NAV-BEGIN> 11.07
<PER-SHARE-NII> .56
<PER-SHARE-GAIN-APPREC> .08
<PER-SHARE-DIVIDEND> (.56)
<PER-SHARE-DISTRIBUTIONS> 0
<RETURNS-OF-CAPITAL> 0
<PER-SHARE-NAV-END> 11.15
<EXPENSE-RATIO> .86
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 6
<SERIES>
<NUMBER> 02
<NAME> MERRILL LYNCH MASSACHUSETTS MUNICIPAL BOND FUND - CLASS B
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JUL-31-1998
<PERIOD-START> AUG-01-1997
<PERIOD-END> JUL-31-1998
<INVESTMENTS-AT-COST> 56146051
<INVESTMENTS-AT-VALUE> 61370844
<RECEIVABLES> 2206693
<ASSETS-OTHER> 98338
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 63675875
<PAYABLE-FOR-SECURITIES> 1866909
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 177260
<TOTAL-LIABILITIES> 2044169
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 57740827
<SHARES-COMMON-STOCK> 4598228
<SHARES-COMMON-PRIOR> 4817405
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (1333914)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 5224793
<NET-ASSETS> 51254618
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 3609613
<OTHER-INCOME> 0
<EXPENSES-NET> (805435)
<NET-INVESTMENT-INCOME> 2804178
<REALIZED-GAINS-CURRENT> 239318
<APPREC-INCREASE-CURRENT> 157464
<NET-CHANGE-FROM-OPS> 3200960
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> (2368275)
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 479010
<NUMBER-OF-SHARES-REDEEMED> (813644)
<SHARES-REINVESTED> 115457
<NET-CHANGE-IN-ASSETS> (557869)
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> (1573231)
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 337900
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 805435
<AVERAGE-NET-ASSETS> 52238399
<PER-SHARE-NAV-BEGIN> 11.07
<PER-SHARE-NII> .50
<PER-SHARE-GAIN-APPREC> .08
<PER-SHARE-DIVIDEND> (.50)
<PER-SHARE-DISTRIBUTIONS> 0
<RETURNS-OF-CAPITAL> 0
<PER-SHARE-NAV-END> 11.15
<EXPENSE-RATIO> 1.37
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 6
<SERIES>
<NUMBER> 03
<NAME> MERRILL LYNCH MASSACHUSETTS MUNICIPAL BOND FUND - CLASS C
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JUL-31-1998
<PERIOD-START> AUG-01-1997
<PERIOD-END> JUL-31-1998
<INVESTMENTS-AT-COST> 56146051
<INVESTMENTS-AT-VALUE> 61370844
<RECEIVABLES> 2206693
<ASSETS-OTHER> 98338
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 63675875
<PAYABLE-FOR-SECURITIES> 1866909
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 177260
<TOTAL-LIABILITIES> 2044169
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 57740827
<SHARES-COMMON-STOCK> 164760
<SHARES-COMMON-PRIOR> 135135
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (1333914)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 5224793
<NET-ASSETS> 1835065
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 3609613
<OTHER-INCOME> 0
<EXPENSES-NET> (805435)
<NET-INVESTMENT-INCOME> 2804178
<REALIZED-GAINS-CURRENT> 239318
<APPREC-INCREASE-CURRENT> 157464
<NET-CHANGE-FROM-OPS> 3200960
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> (68440)
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 67852
<NUMBER-OF-SHARES-REDEEMED> (43020)
<SHARES-REINVESTED> 4793
<NET-CHANGE-IN-ASSETS> (557869)
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> (1573231)
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 337900
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 805435
<AVERAGE-NET-ASSETS> 1545482
<PER-SHARE-NAV-BEGIN> 11.06
<PER-SHARE-NII> .49
<PER-SHARE-GAIN-APPREC> .08
<PER-SHARE-DIVIDEND> (.49)
<PER-SHARE-DISTRIBUTIONS> 0
<RETURNS-OF-CAPITAL> 0
<PER-SHARE-NAV-END> 11.14
<EXPENSE-RATIO> 1.47
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 6
<SERIES>
<NUMBER> 04
<NAME> MERRILL LYNCH MASSACHUSETTS MUNICIPAL BOND FUND - CLASS D
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JUL-31-1998
<PERIOD-START> AUG-01-1997
<PERIOD-END> JUL-31-1998
<INVESTMENTS-AT-COST> 56146051
<INVESTMENTS-AT-VALUE> 61370844
<RECEIVABLES> 2206693
<ASSETS-OTHER> 98338
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 63675875
<PAYABLE-FOR-SECURITIES> 1866909
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 177260
<TOTAL-LIABILITIES> 2044169
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 57740827
<SHARES-COMMON-STOCK> 254440
<SHARES-COMMON-PRIOR> 144619
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (1333914)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 5224793
<NET-ASSETS> 2836906
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 3609613
<OTHER-INCOME> 0
<EXPENSES-NET> (805435)
<NET-INVESTMENT-INCOME> 2804178
<REALIZED-GAINS-CURRENT> 239318
<APPREC-INCREASE-CURRENT> 157464
<NET-CHANGE-FROM-OPS> 3200960
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> (79175)
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 143611
<NUMBER-OF-SHARES-REDEEMED> (35553)
<SHARES-REINVESTED> 1763
<NET-CHANGE-IN-ASSETS> (557869)
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> (1573231)
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 337900
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 805435
<AVERAGE-NET-ASSETS> 1603256
<PER-SHARE-NAV-BEGIN> 11.07
<PER-SHARE-NII> .55
<PER-SHARE-GAIN-APPREC> .08
<PER-SHARE-DIVIDEND> (.55)
<PER-SHARE-DISTRIBUTIONS> 0
<RETURNS-OF-CAPITAL> 0
<PER-SHARE-NAV-END> 11.15
<EXPENSE-RATIO> .96
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0
</TABLE>
<PAGE>
EXHIBIT 99.11
INDEPENDENT AUDITORS' CONSENT
Merrill Lynch Massachusetts Municipal Bond Fund of
Merrill Lynch Multi-State Municipal Series Trust:
We consent to the incorporation by reference in this Post-Effective Amendment
No. 8 to Registration Statement No. 33-35987 of our report dated September 4,
1998 appearing in the annual report to the shareholders of the Merrill Lynch
Massachusetts Municipal Bond Fund for the year ended July 31, 1998, and to the
reference to us under the caption "Financial Highlights" in the Prospectus,
which is a part of such Registration Statement.
/s/ Deloitte & Touche LLP
Deloitte & Touche LLP
Princeton, New Jersey
November 5, 1998
