<PAGE> 1
[U.S.
GOVERNMENT
INCOME FUND LOGO]
[PHOTO]
From Our Family to Yours: The Intelligent Creation of Wealth.
SEMI-ANNUAL REPORT
(Unaudited) and Investment Performance
Review for the Six Month Period Ended
April 30, 1998
[HERITAGE LOGO]
---------------
U.S. GOVERNMENT
INCOME FUND(TM)
---------------
[HERITAGE LOGO and ADDRESS]
HERITAGE FAMILY OF FUNDS (TM)
From Our Family to Yours:
The Intelligent Creation of Wealth.
HERITAGE MONEY MARKET FUNDS
Cash Trust Money Market
Cash Trust Municipal Money Market
HERITAGE BOND FUNDS
Intermediate Government
High Yield
HERITAGE STOCK FUNDS
Income-Growth
Value Equity
Growth Equity
Capital Appreciation
Mid Cap
Small Cap
International
This report is for the information of shareholders of Heritage U.S. Government
Income Fund. New York Stock Exchange Symbol: HGA. It is not a prospectus,
circular or representation intended for use in the purchase or sale of shares
of the Fund or of any securities mentioned in the report.
5M 4/98 (Recycle Logo) Printed on recycled paper
<PAGE> 2
June 11, 1998
Dear Fellow Shareholders:
During the six months ended April 30, 1998, the Heritage U.S. Government
Income Fund (the "Fund") returned +2.53% on net asset value and -0.09% based on
market value. By comparison, the Lehman Intermediate Government/Corporate Index
returned +3.10% and the Lehman Aggregate Government/Corporate Index returned
+3.64% for the same period.
Interest rates fell modestly during the period, with long-term Treasury bond
yields falling from 6.15% to 5.95%, just 0.20% or 20 basis points. The yields in
the intermediate sector of the yield curve also fell, but by a lesser extent,
with the five-year Treasury declining only by 0.08% or 8 basis points to 5.64%
from 5.72% at the end of October. Because of the relatively high level of
Federal Funds, the very short end of the Treasury yield curve was little-
changed over the period, with the one-year Treasury bill actually rising in
yield by 3 basis points.
The following yield curve chart graphically depicts the changes in U.S.
Government Bond Yields over the period:
(U.S. Treasury Yield Curve Graph)
The decline in interest rates reflected an economy which remained relatively
strong but with significantly lower inflation or "disinflation" on the Consumer
Price Index and falling prices or "deflation" on the Producer Price Index.
The strength in the economy and the low levels of inflation juxtaposed to
provide much unrest within the domestic fixed income markets and within the
Federal Open Market Committee. In the fall and winter, there was a general
perception that the economy would slow, eventually leading the Fed to reduce
interest rates. However, after the beginning of the year, market perceptions
changed to anticipate a steady to tighter Fed policy rather than an easing.
Consequently, yields bottomed out and then rose slightly from that point.
The continued stability of short-term rates and a continued decline in
longer term rates helped to "flatten" the slope of the yield curve and impaired
the Fund's ability to generate significantly higher income through the use of
leverage strategies. At the end of April, the rate charged for one month
borrowing against U.S. Treasury collateral was approximately 5.48%, while the
ten year Treasury yield stood at only 5.67%. Due to the relatively high cost of
financing, the yield advantage gained from "rolling" mortgage securities also
declined. The flatness of the yield curve necessitated a reduction in the Fund's
monthly dividend from $0.077 to $0.067 per share to reduce the potential for any
return of principal.
During this period, your Fund's investments consisted primarily of short,
intermediate, and longer term U.S. Treasury securities, and mortgage-related
securities. The emphasis on Treasury securities was designed to improve net
asset value performance given falling interest rates. In hindsight, the Fund's
performance would have been better
<PAGE> 3
had a greater percentage of assets been committed to the longer sector of the
Treasury market rather than being invested in the higher income producing
mortgage sector.
Continued uncertainty over the impact of the Asian crisis and the strength
of the domestic economy have again raised the possibility of the Federal Reserve
increasing short-term interest rates to slow an overheated economy. We currently
believe market conditions warrant a conservative approach to the fixed income
markets. Longer term, we remain quite positive on the outlook for lower
inflation, a weakening economy and improving bond markets. At the present time,
we have structured the Fund to have a duration (sensitivity to changes in
interest rates) relatively close to that of the Lehman Intermediate
Government/Corporate Index. We would plan to extend the Fund's duration should
we see evidence of slower economic growth emerge.
Thank you for your continued confidence in the Heritage U.S. Government
Income Fund.
<TABLE>
<S> <C>
Sincerely, Sincerely,
/s/ STEPHEN G. HILL /s/ H. PETER WALLACE
Stephen G. Hill H. Peter Wallace
President Portfolio Manager
</TABLE>
2
<PAGE> 4
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HERITAGE U.S. GOVERNMENT INCOME FUND
INVESTMENT PORTFOLIO
APRIL 30, 1998
(UNAUDITED)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
PRINCIPAL MATURITY MARKET
AMOUNT DATE VALUE
--------- -------- -----------
<C> <S> <C> <C>
U.S. GOVERNMENT AND AGENCY SECURITIES--104.4%(A)
U.S. TREASURIES--45.7%(A)
$5,000,000 U.S. Treasury Notes, 5.375%................................. 02/15/01 $ 4,970,315
2,000,000 U.S. Treasury Notes, 5.5%................................... 02/28/03 1,985,626
5,000,000 U.S. Treasury Notes, 5.5%................................... 03/31/03 4,965,625
5,000,000 U.S. Treasury Bonds, 6.125%................................. 11/15/27 5,120,315
-----------
Total U.S. Treasuries (cost $17,085,313).................... 17,041,881
-----------
U.S. GOVERNMENT AGENCIES--58.7%(A)
FEDERAL HOME LOAN MORTGAGE CORPORATION--9.1%
3,000,000 REMIC, 10.0%, 1378 H, PAC(c)................................ 01/15/21 3,377,820
-----------
FEDERAL NATIONAL MORTGAGE ASSOCIATION--14.6%
1,000,000 Medium Term Note, 6.21%..................................... 11/07/07 1,015,027
449,469 REMIC, 9.67%, 1990-96 E, SEQ................................ 01/25/17 459,744
81,590 REMIC, 8%, 1991-28 H, PAC(c)................................ 02/25/20 81,419
2,000,000 REMIC, 8.5%, 1992-65 K, PAC(c).............................. 05/25/21 2,097,072
1,756,406 Pool #394212, 30 year Pass-Through, 7.5%(c)................. 07/01/27 1,802,810
-----------
5,456,072
-----------
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION--35.0%
2,000,000 REMIC, 7.0%, 1996-16 G, SEQ................................. 04/16/22 2,018,120
4,147,823 Pool #415688, 30 year Pass-Through, 7.5%(c)................. 11/15/25 4,261,681
1,681,789 Pool #442741, 30 year Pass-Through, 7.5%(c)................. 03/15/27 1,727,483
5,000,000 TBA, 30 year Pass-Through, 7.0%............................. 05/01/28 5,057,815
-----------
13,065,099
-----------
Total U.S. Government Agencies (cost $21,695,409)........... 21,898,991
-----------
Total U.S. Government and Agency Securities (cost
$38,780,722)................................................ 38,940,872
-----------
PRIVATE ISSUE MORTGAGE SECURITIES--1.0%(A)
PRIVATE ISSUE MORTGAGE SECURITIES--1.0%
386,095 Kidder Peabody Mortgage Asset Trust, 8.94%, 24-E, PAC....... 04/01/19 386,821
-----------
Total Private Issue Mortgage Securities (cost $398,884)..... 386,821
-----------
REPURCHASE AGREEMENT--7.3%(A)
Repurchase Agreement with State Street Bank and Trust Company, dated April 30,
1998 @ 5.47% to be repurchased at $2,719,413 on May 1, 1998, collateralized by
$2,425,000 United States Treasury Bond, 7.125% due February 15, 2023, (market
value $2,794,993 including interest) (cost $2,719,000)............................ 2,719,000
-----------
TOTAL INVESTMENT PORTFOLIO (cost $41,898,606)(b), 112.7%(a)....................... 42,046,693
OTHER ASSETS AND LIABILITIES, net (12.7%)(a)...................................... (4,739,601)
-----------
NET ASSETS, 100.0%................................................................ $37,307,092
===========
</TABLE>
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(a) Percentages indicated are based on net assets.
(b) The aggregate identified cost for federal income tax purposes is
substantially the same. Market value includes net unrealized appreciation of
$148,087, which consists of aggregate gross unrealized appreciation for all
securities in which there is an excess of market value over tax cost of
$209,923 and aggregate gross unrealized depreciation for all securities in
which there is an excess of tax cost over market value of $61,836.
(c) Some or all of these securities are segregated in connection with the
reverse repurchase agreement and/or mortgage dollar rolls.
PAC--Planned Amortization Class
REMIC--Real Estate Mortgage Investment Conduit
SEQ--Sequential Class
TBA--To be announced
The accompanying notes are an integral part of the financial statements.
3
<PAGE> 5
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HERITAGE U.S. GOVERNMENT INCOME FUND
STATEMENT OF ASSETS AND LIABILITIES
APRIL 30, 1998
(UNAUDITED)
- --------------------------------------------------------------------------------
<TABLE>
<S> <C> <C>
Assets
Investments, at market value (identified cost $41,898,606)
(Note 1).................................................. $42,046,693
Cash........................................................ 621
Receivables:
Interest.................................................. 382,315
Deferred organization expense............................... 4,272
-----------
Total assets........................................ 42,433,901
Liabilities
Payables (Note 4):
Investments purchased, delayed delivery, net (Note 1)..... $ 5,050,000
Accrued management fee.................................... 31,966
Accrued administrative fee................................ 4,582
Other accrued expenses.................................... 40,261
-----------
Total liabilities................................... 5,126,809
-----------
Net assets, at market value................................. $37,307,092
===========
Net Assets
Net assets consist of:
Paid-in capital (Note 1).................................. $43,465,066
Accumulated distribution in excess of net investment
income.................................................. (117,408)
Accumulated net realized loss on investments (Note 1)..... (6,188,653)
Net unrealized appreciation on investments................ 148,087
-----------
Net assets, at market value................................. $37,307,092
===========
Net asset value per share ($37,307,092 divided by 3,115,471
shares of beneficial interest outstanding, no par value)
(Notes 1 and 2)........................................... $11.97
=====
</TABLE>
The accompanying notes are an integral part of the financial statements.
4
<PAGE> 6
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HERITAGE U.S. GOVERNMENT INCOME FUND
STATEMENT OF OPERATIONS
FOR THE SIX MONTH PERIOD ENDED
APRIL 30, 1998
(UNAUDITED)
- --------------------------------------------------------------------------------
<TABLE>
<S> <C> <C>
Investment Income
Income:
Interest (includes mortgage dollar roll income of
$181,994)............................................... $1,503,804
Expenses (Notes 1 and 4):
Management fee............................................ $103,723
Administrative fee........................................ 27,944
Interest expense.......................................... 26,827
Legal fees................................................ 23,082
Custodian/Fund accounting fees............................ 21,763
Reports to shareholders................................... 12,776
Shareholder servicing..................................... 10,221
NYSE fees................................................. 8,085
Auditing fees............................................. 7,560
Organization costs........................................ 3,661
Trustees' fees and expenses............................... 2,187
Other..................................................... 1,362
--------
Total expenses before waiver........................ 249,191
Fees waived by Manager (Note 4)..................... (36,066) 213,125
-------- ----------
Net investment income....................................... 1,290,679
----------
Realized and Unrealized Gain (Loss) on Investments
Net realized loss from investment transactions.............. (88,339)
Net increase in unrealized depreciation of investments
during the period......................................... (235,253)
----------
Net loss on investments............................. (323,592)
----------
Net increase in net assets resulting from operations........ $ 967,087
==========
</TABLE>
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STATEMENTS OF CHANGES IN NET ASSETS
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FOR THE
SIX MONTH
PERIOD ENDED FOR THE
APRIL 30, 1998 YEAR ENDED
(UNAUDITED) OCTOBER 31, 1997
---------------- ----------------
<S> <C> <C>
Increase (decrease) in net assets:
Operations:
Net investment income..................................... $ 1,290,679 $ 3,108,630
Net realized loss from investment transactions............ (88,339) (379,007)
Net increase (decrease) in unrealized depreciation of
investments during the period........................... (235,253) 264,998
----------- -----------
Net increase in net assets resulting from operations...... 967,087 2,994,621
Distribution to shareholders from:
Net investment income ($0.45 and $0.99 per share,
respectively)........................................... (1,408,087) (3,110,485)
Tax return of capital ($0.02 per share)................... -- (48,409)
----------- -----------
Total distribution.................................. (1,408,087) (3,158,894)
----------- -----------
Decrease in net assets...................................... (441,000) (164,273)
Net assets, beginning of period............................. 37,748,092 37,912,365
----------- -----------
Net assets, end of period (including accumulated
distribution in excess of net investment income of
$117,408 at April 30, 1998)............................... $37,307,092 $37,748,092
=========== ===========
</TABLE>
The accompanying notes are an integral part of the financial statements.
5
<PAGE> 7
- --------------------------------------------------------------------------------
HERITAGE U.S. GOVERNMENT INCOME FUND
STATEMENT OF CASH FLOWS
FOR THE SIX MONTH PERIOD ENDED APRIL 30, 1998
(UNAUDITED)
- --------------------------------------------------------------------------------
<TABLE>
<S> <C>
CASH PROVIDED (USED) BY FINANCING ACTIVITIES:
Cash used from Reverse Repurchase Transactions, net....... $ (6,415,321)
Dividends and Distributions paid in cash.................. (1,408,087)
Proceeds from disposition of mortgage dollar rolls, net... 4,835,194
------------
Cash used by financing activities....................... (2,988,214)
------------
CASH PROVIDED (USED) BY OPERATIONS:
Net investment income..................................... 1,290,679
Increase in accrued expenses.............................. 6,761
Decrease in interest receivable........................... 119,313
Decrease in investments payable/receivable, net........... (4,965,385)
Proceeds from disposition of portfolio securities......... 66,542,290
Purchase of short term securities, net.................... (1,509,000)
Purchase of portfolio securities.......................... (58,495,937)
------------
Cash provided by operations............................. 2,988,721
------------
NET INCREASE IN CASH........................................ 507
CASH AT BEGINNING OF PERIOD................................. 114
------------
CASH AT END OF PERIOD....................................... $ 621
============
</TABLE>
The accompanying notes are an integral part of the financial statements.
6
<PAGE> 8
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HERITAGE U.S. GOVERNMENT INCOME FUND
FINANCIAL HIGHLIGHTS
- --------------------------------------------------------------------------------
The following table includes selected data for a share outstanding
throughout each period and other performance information derived from the
financial statements.
<TABLE>
<CAPTION>
FOR THE
SIX MONTH
PERIOD ENDED FOR THE YEARS ENDED OCTOBER 31,
APRIL 30, 1998 ----------------------------------------------
(UNAUDITED) 1997 1996 1995 1994+
-------------- -------- ------- ------ -------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF THE PERIOD....... $ 12.12 $ 12.17 $ 12.59 $11.99 $ 14.02*
------- -------- ------- ------ -------
INCOME FROM INVESTMENT OPERATIONS:
Net investment income(a)..................... 0.41 0.99 1.07 1.17 0.98
Net realized and unrealized gain (loss) on
investments................................ (0.11) (0.03) (0.43) 0.59 (2.04)
------- -------- ------- ------ -------
Total from investment operations............. 0.30 .96 .64 1.76 (1.06)
------- -------- ------- ------ -------
LESS DISTRIBUTIONS:
Dividends from net investment income......... (0.45) (0.99) (1.06) (1.15) (0.91)
Distributions in excess of net investment
income..................................... -- -- -- -- (0.02)
Tax return of capital........................ -- (0.02) -- (0.01) (0.04)
------- -------- ------- ------ -------
Total distributions.......................... (0.45) (1.01) (1.06) (1.16) (0.97)
------- -------- ------- ------ -------
NET ASSET VALUE, END OF PERIOD................. $ 11.97 $ 12.12 $ 12.17 $12.59 $ 11.99
======= ======== ======= ====== =======
MARKET VALUE, END OF PERIOD.................... $10.625 $11.0625 $11.125 $11.75 $11.375
======= ======== ======= ====== =======
TOTAL RETURN:
Per share market value(c).................... (.09%)(e) 8.61% 3.94% 13.87% (18.20%)(b)
Per share net asset value(c)................. 2.53% (e) 8.44% 5.41% 15.78% (7.75%)(b)
RATIOS AND SUPPLEMENTAL DATA:
Ratio of operating expenses, net, to average
daily net assets (excluding interest and
taxes)(a).................................. 1.00% 1.00% 1.00% 1.00% 1.00%(d)
Ratio of net investment income to average
daily net assets........................... 6.93% 8.37% 8.70% 9.57% 7.99%(d)
Portfolio turnover rate...................... 117% (e) 62% 47% 150% 163%(d)
Net assets, end of period ($ millions)....... 37 38 38 39 37
</TABLE>
- ---------------
+ For the period November 19, 1993 (commencement of operations) to October 31,
1994.
* Beginning per share amount reflects $15.00, initial public offering price,
net of underwriting discounts and offering costs ($.98).
(a) Excludes management fees waived by the Manager of $.01, $.03, $.03, $.04 and
$.02 per share, respectively. The operating expense ratio (excluding
interest expense) including such items would be 1.19% (annualized), 1.28%,
1.27%, 1.36% and 1.21% (annualized), respectively.
(b) Return since inception, does not include offering costs, not annualized.
(c) Total return based on per share net asset value reflects the effects of
changes in net asset value on the performance of the Fund during the period
and assumes dividend distributions were reinvested. Per share net asset
value return percentage is not an indication of the performance of a
shareholder's investment in the Fund due to differences between the market
price of the stock and the net asset value of the Fund during the period.
(d) Annualized.
(e) Not annualized.
The accompanying notes are an integral part of the financial statements.
7
<PAGE> 9
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HERITAGE U.S. GOVERNMENT INCOME FUND
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED)
- --------------------------------------------------------------------------------
Note 1: SIGNIFICANT ACCOUNTING POLICIES. Heritage U.S. Government Income Fund
(the "Fund") is organized as a Massachusetts business trust and is
registered under the Investment Company Act of 1940, as amended, as a
diversified, closed-end management investment company. The Fund's
primary investment objective is to provide a high level of current
income and its secondary investment objective is capital appreciation.
The Fund will seek to achieve these objectives through the active
management of a portfolio composed primarily of mortgage-related
securities and mortgages. The Fund normally will invest a minimum of 65%
of its total assets in securities issued or guaranteed by the U.S.
Government, its agencies or instrumentalities, including
mortgage-related securities. The preparation of financial statements in
accordance with generally accepted accounting principles requires
management to make estimates and assumptions that affect the reported
amounts and disclosures. Actual results could differ from those
estimates. The following is a summary of significant accounting
policies.
Security Valuation: The Fund values investment securities at market
value based on the last sales price as reported by the principal
securities exchange on which the security is traded. If no sale is
reported, market value is based on the most recent quoted bid price and
in the absence of a market quote, securities are valued using such
methods as the Board of Trustees believes would reflect fair market
value. Investments in certain debt instruments not traded in an
organized market are valued on the basis of valuations furnished by
independent pricing services or broker/dealers who utilize information
with respect to market transactions in such securities or comparable
securities, quotations from dealers, yields, maturities, ratings and
various relationships between securities. Short-term investments having
a maturity of 60 days or less are valued at amortized cost, which
approximates market.
Repurchase Agreements: The Fund enters into repurchase agreements
whereby the Fund, through its custodian, receives delivery of the
underlying securities, the market value of which at the time of purchase
is required to be in an amount equal to at least 100% of the resale
price.
Reverse Repurchase Agreements: The Fund may borrow by entering into
reverse repurchase agreements whereby the Fund sells securities and
agrees to repurchase them at a mutually agreed price. Reverse repurchase
agreements may be used for leverage purposes as permitted by the
prospectus. At the time the Fund enters into a reverse repurchase
agreement, it will establish and maintain a segregated account with an
approved custodian containing liquid high grade securities, marked to
market daily, having a value no less than the repurchase price
(including accrued interest).
Forward Commitments and When-Issued Securities: Delivery and payment for
securities that have been purchased by the Fund on a forward commitment
or when-issued basis can take place a month or more after the
transaction date. During this period, such securities are subject to
market fluctuations and the Fund maintains, in a segregated account with
its custodian, assets with a market value equal to the amount of its
purchase commitments.
Mortgage Dollar Rolls: The Fund may enter into mortgage dollar rolls
principally in to be announced (TBA) securities, in which the Fund sells
mortgage securities for delivery in the current month and simultaneously
contracts to repurchase similar, but not identical, securities at the
same price on a fixed date. The Fund accounts for such dollar rolls as a
financing transaction and receives compensation as consideration for
entering into the commitment to repurchase.
The compensation is recorded and amortized to income over the roll
period. The counterparty receives all principal and interest payments,
including prepayments, made in respect of the security while it is the
holder. Mortgage dollar rolls may be renewed with a new purchase and
repurchase price fixed and a cash settlement made at cash renewal
without physical delivery of the securities subject to the contract. If
the fund enters into closing transactions before the end of the fee roll
period, the Fund will accelerate the unamortized portion of the fee.
Futures Contracts: A futures contract is an agreement between two
parties to buy and sell financial instruments at a set price on a future
date. Upon entering into futures contracts, the Fund is required to
deposit with a broker an amount ("initial margin") equal to a certain
percentage of the purchase price indicated in the futures contract.
Subsequent payments ("variation margin") are made or received by the
Fund each day, dependent on the daily fluctuations in the value of the
underlying security, and are recorded for financial reporting purposes
as unrealized gains or losses by the Fund. Upon closing of the contract,
the Fund will realize for financial reporting purposes, a gain or loss
equal to the difference between the value of the futures contract opened
and the futures contract closed. The Fund may be subject to certain
risks upon entering into futures contracts resulting from the imperfect
correlation of prices between the futures and securities markets.
Federal Income Taxes: The Fund's policy is to comply with the
requirements of the Internal Revenue Code of 1986, as amended, which are
applicable to regulated investment companies and to distribute
substantially all of its taxable income to its shareholders.
Accordingly, no provision has been made for federal income taxes.
Distribution of Income and Gains: Distributions of net investment income
are made monthly. Net realized gains from investment transactions for
the Fund during any particular year in excess of available capital loss
carryforwards, which, if not distributed, would be taxable to the Fund,
will be distributed to shareholders in the following fiscal year. The
Fund uses the
8
<PAGE> 10
- --------------------------------------------------------------------------------
HERITAGE U.S. GOVERNMENT INCOME FUND
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED)
(CONTINUED)
- --------------------------------------------------------------------------------
identified cost method for determining realized gain or loss on
investments for both financial and federal income tax reporting
purposes.
Organization Expenses: Expenses incurred in connection with the
formation of the Fund were deferred and are being amortized on a
straight-line basis over 60 months from the date of commencement of
operations.
Capital Accounts: The Fund reports the undistributed net investment
income and accumulated net realized gain (loss) accounts on a basis
approximating amounts available for future tax distributions (or to
offset future taxable realized gains when a capital loss carryforward is
available). Accordingly, the Fund may periodically make
reclassifications among certain capital accounts without impacting the
net asset value of the Fund.
Statement of Cash Flows: Information on financial transactions which
have been settled through the receipt and disbursement of cash is
presented in the Statement of Cash Flows. The cash amount shown in the
Statement of Cash Flows is the amount reported as cash in the Fund's
Statement of Assets and Liabilities and represents the cash position in
its custodian bank account at April 30, 1998.
Other: For the purpose of these financial statements, investment
security transactions are accounted for on a trade date basis.
Distributions to shareholders are recorded on the ex-dividend date.
Interest income is recorded on the accrual basis. All original issue
discounts are accreted for both tax and financial reporting purposes.
Note 2: FUND SHARES. There was no Fund share activity for the year ended
October 31, 1997 and the six month period ended April 30, 1998. Shares
outstanding remain at 3,115,471.
Note 3: PURCHASES AND SALES OF SECURITIES. For the six month period ended April
30, 1998, purchases, sales and paydowns of U.S. Government securities
(excluding short-term investments and mortgage dollar roll transactions)
aggregated $58,495,937, $64,559,329 and $1,982,961, respectively.
Purchases and sales included in mortgage dollar roll transactions
aggregated $271,384,375 and $276,212,500, respectively.
Note 4: MANAGEMENT, ADMINISTRATIVE, AND TRUSTEES' FEES. Under the Fund's
Investment Advisory Agreement with Heritage Asset Management, Inc. (the
"Manager"), the Fund agrees to pay to the Manager a monthly fee of
0.01667% of average weekly net assets for the preceding period
(approximately .20% per annum) plus a fee equal to 4.5% of gross weekly
income, computed daily and payable monthly. Under the Fund's
Administration Agreement, the Fund will pay the Manager a monthly fee of
0.0125% of average weekly net assets for the preceding period
(approximately .15% per annum). The Manager voluntarily reduces such
fees in any year to the extent that operating expenses (excluding
interest and taxes) of the Fund exceed 1.00% on an annual basis of the
Fund's average daily net assets. Under this agreement, management fees
of $36,066 were waived for the six month period ended April 30, 1998. If
total Fund expenses fall below the expense limitation agreed to by the
Manager before the end of the year ending October 31, 2000, the Fund may
be required to pay the Manager a portion or all of the waived management
fee. In addition, the Fund may be required to pay the Manager a portion
or all of the management fees waived of $102,111 for the year ended
October 31, 1997, if total Fund expenses fall below the annual expense
limitations before the end of the year ending October 31, 1999.
The Manager also performs Fund Accounting services and charged the Fund
$15,264 during the period of which $9,600 was payable as of April 30,
1998.
Trustees of the Fund also serve as Trustees for Heritage Cash Trust,
Heritage Capital Appreciation Trust, Heritage Income-Growth Trust,
Heritage Income Trust and Heritage Series Trust, open-end investment
companies that are also advised by the Manager (collectively referred to
as the Heritage funds). Each Trustee of the Heritage funds that is not
an interested person of the Manager received an annual fee of $8,000, an
additional fee of $3,000 for each combined quarterly meeting of the
Heritage mutual funds attended and $1,000 for each special Trustees
meeting attended. Trustees' fees and expenses are paid equally by each
of the Heritage funds.
Note 5: FEDERAL INCOME TAXES. For the year ended October 31, 1997, to reflect
reclassifications arising from permanent book/tax differences primarily
attributable to paydown income and market discount, the Fund credited
accumulated net realized loss on investments $4,015 and undistributed
net investment loss $48,409 and debited paid-in capital $52,424. As of
October 31, 1997, the fund has net tax basis capital loss carryforwards
of $6,100,314 that may be applied against any realized net taxable gains
until the expiration dates of October 31, 2002 ($4,068,100), October 31,
2003 ($1,211,069), October 31, 2004 ($446,153) and October 31, 2005
($374,992).
9
<PAGE> 11
- --------------------------------------------------------------------------------
HERITAGE U.S. GOVERNMENT INCOME FUND
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED)
(CONTINUED)
- --------------------------------------------------------------------------------
Note 6: PURPOSES OF AND RISKS RELATING TO CERTAIN FINANCIAL INSTRUMENTS. The
Fund may enter into reverse repurchase agreements to raise cash without
liquidating any portfolio securities. Reverse repurchase agreements
involve the risk that the market value of securities retained in lieu of
sale by the Fund may decline below the price of the securities the Fund
has sold but is obliged to repurchase.
The Fund may enter into mortgage dollar roll agreements in order to
hedge against anticipated changes in interest rates and prices and to
enhance the Fund's yield. When such transactions are negotiated, the
price is fixed at the time the commitment is made, but delivery and
payment for the securities takes place on a later date. There is always
a risk that securities may not be delivered and that the Fund may incur
a loss or will have lost the opportunity to invest the amount set aside
for such transaction in the segregated asset account.
In the event the buyer of securities under a reverse repurchase
agreement or dollar roll files for bankruptcy or becomes insolvent, the
Fund's use of proceeds may be restricted pending a determination by the
other party, its trustee or receiver, whether to enforce the Fund's
obligation to repurchase the securities.
Note 7: SHAREHOLDERS MEETING. On February 23, 1998, the Annual Meeting of
Shareholders was held. The results of that meeting on the following
items were as follows:
<TABLE>
<CAPTION>
SHARES
---------------------
WITHHELD
FOR AUTHORITY
--------- ---------
<S> <C> <C>
Election of Trustees
Class III
Thomas A. James......................................... 2,708,979 28,393
C. Andrew Graham........................................ 2,705,469 31,903
Eric Stattin............................................ 2,705,469 31,903
</TABLE>
<TABLE>
<CAPTION>
SHARES
--------------------------------
FOR AGAINST AUTHORITY
---------- ------- ---------
<S> <C> <C> <C>
Ratification of the selection of Price Waterhouse LLP as
independent accountants of the Fund for the fiscal year
ending October 31, 1998................................... 2,701,703 13,140 22,529
</TABLE>
10
<PAGE> 12
HERITAGE U.S. GOVERNMENT INCOME FUND is a member of the Heritage family of
mutual funds. Other investment alternatives available to you from Heritage
include:
[ ] HERITAGE CASH TRUST
MONEY MARKET FUND
MUNICIPAL MONEY MARKET FUND
[ ] HERITAGE CAPITAL APPRECIATION TRUST
[ ] HERITAGE INCOME-GROWTH TRUST
[ ] HERITAGE INCOME TRUST
HIGH YIELD BOND FUND
INTERMEDIATE GOVERNMENT FUND
[ ] HERITAGE SERIES TRUST
EAGLE INTERNATIONAL EQUITY PORTFOLIO
GROWTH EQUITY FUND
MID CAP GROWTH FUND
SMALL CAP STOCK FUND
VALUE EQUITY FUND
We are pleased that many of you are also investors in these funds. For
information and a prospectus for any of these mutual funds, please contact your
financial advisor. Please read the prospectus carefully before you invest in any
of the funds.
