<PAGE> 1
PROSPECTUS
----------
October 21, 1994
MERRILL LYNCH NEW MEXICO MUNICIPAL BOND FUND
MERRILL LYNCH MULTI-STATE MUNICIPAL SERIES TRUST
P.O. BOX 9011, PRINCETON, NEW JERSEY 08543-9011 * PHONE NO. (609) 282-2800
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Merrill Lynch New Mexico Municipal Bond Fund (the "Fund") is a mutual fund
seeking to provide shareholders with as high a level of income exempt from
Federal and New Mexico income taxes as is consistent with prudent investment
management. The Fund invests primarily in a portfolio of long-term investment
grade obligations, the interest on which, in the opinion of bond counsel to the
issuer, is exempt from Federal and New Mexico income taxes. 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.
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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 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 System" on page 4.
Shares may be purchased directly from Merrill Lynch Funds Distributor,
Inc. (the "Distributor"), P.O. Box 9011, Princeton, New Jersey 08543-9011
((609) 282-2800), or from securities dealers which have entered into 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. Merrill Lynch may charge its
customers a processing fee (presently $4.85) for confirming purchases and
repurchases. Purchases and redemptions directly through the Fund's Transfer
Agent are not subject to the processing fee. See "Purchase of Shares" and
"Redemption of Shares".
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THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS
PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
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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 October 21, 1994 (the "Statement of
Additional Information"), has been filed with the Securities and Exchange
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 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.
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FUND ASSET MANAGEMENT-MANAGER
MERRILL LYNCH FUNDS DISTRIBUTOR, INC.-DISTRIBUTOR
<PAGE> 2
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(c) Class D(c)
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Shareholder Transaction Expenses:
Maximum Sales Charge Imposed on
Purchases (as a percentage of
offering price).............. 4.00%(d) None None 4.00%(d)
Sales Charge Imposed on
Dividend Reinvestments....... None None None None
Deferred Sales Charge (as a
percentage of original
purchase price or redemption
proceeds, whichever is lower) None(e) 4.0% during the first 1% for one None(e)
year, decreasing 1.0% year
annually thereafter
to 0.0% after the
fourth year
Exchange Fee................... None None None None
Annual Fund Operating Expenses
(as a percentage of average net
assets)(f):
Management Fees(g)............. 0.55% 0.55% 0.55% 0.55%
12b-1 Fees(h):
Account Maintenance Fees.... None 0.25% 0.25% 0.10%
Distribution Fees........... None 0.25% 0.35% None
(Class B shares
convert to Class D
shares automatically
after approximately
ten years,
cease being subject
to distribution fees
and become subject
to lower account
maintenance fees)
Other Expenses
Custodial Fees............... .04% .04% .04% .04%
Shareholder Servicing
Costs(i)................... .07% .07% .07% .07%
Miscellaneous................ 1.81% 1.81% 1.81% 1.81%
----- ----- ----- -----
Total Other Expenses........ 1.92% 1.92% 1.92% 1.92%
----- ----- ----- -----
Total Fund Operating Expenses.. 2.47% 2.97% 3.07% 2.57%
===== ===== ===== =====
</TABLE>
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(a) Class A shares are sold to a limited group of investors including
existing Class A shareholders and investment programs. See "Purchase of
Shares-Initial Sales Charge Alternatives-Class A and Class D Shares"-page
22.
(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 24.
(c) Prior to the date of this Prospectus, the Trust has not offered its
Class C and Class D shares to the public.
(d) Reduced for purchases of $25,000 and over. Class A or 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 22.
(e) Class A and Class D shares are not subject to a contingent deferred sales
charge ("CDSC"), except that purchases of $1,000,000 or more which may
not be subject to an initial sales charge may instead be subject to a
CDSC if redeemed within the first year of purchase.
(f) Information under "Other Expenses" for all classes of shares is estimated
for the fiscal year ending July 31, 1995.
(g) See "Management of the Trust-Management and Advisory Arrangements"-
page 19.
(h) See "Purchase of Shares-Distribution Plans"-page 26.
(i) See "Management of the Trust-Transfer Agency Services"-page 20.
2
<PAGE> 3
For the period ended July 31, 1994, the Manager voluntarily waived all
of its management fees and voluntarily reimbursed the Fund for a portion of
other expenses (excluding 12b-1 fees). The fee table has been restated to
assume the absence of any waiver or reimbursement because the Manager may
discontinue or reduce such waiver and assumption of expenses at any time
without notice. During the fiscal period ended July 31, 1994, the Manager
waived management fees and reimbursed expenses totaling 2.47% for Class A
shares and 2.47% for Class B shares after which the Fund's total expense
ratio was 0% for Class A shares and .50% for Class B shares. Information is
not provided with respect to either Class C or Class D shares since no Class
C or Class D shares were publicly offered during that year.
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
above; (2) a 5% annual return throughout the periods and (3) redemption at
the end of the period:
Class A......................................................... $64 $114 $166 $309
Class B......................................................... $70 $112 $156 $329
Class C......................................................... $41 $ 95 $161 $338
Class D......................................................... $65 $117 $171 $319
An investor would pay the following expenses on the same $1,000 investment
assuming no redemption at the end of the period:
Class A......................................................... $64 $114 $166 $309
Class B......................................................... $30 $ 92 $156 $329
Class C......................................................... $31 $ 95 $161 $338
Class D......................................................... $65 $117 $171 $319
</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
Securities and Exchange Commission (the "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 Rules of Fair Practice of
the National Association of Securities Dealers, Inc. ("NASD"). Merrill Lynch
may charge its customers a processing fee (presently $4.85) for confirming
purchases and repurchases. Purchases and redemptions directly through the
Fund's Transfer Agent are not subject to the processing fee. See "Purchase of
Shares" and "Redemption of Shares".
3
<PAGE> 4
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 System is used by
more than 50 mutual funds advised by Merrill Lynch Asset Management, L.P.
("MLAM") or an affiliate of MLAM, Fund Asset Management, L.P. ("FAM" or the
"Manager"). Funds advised by MLAM or FAM 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 deferred sales charges 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 the Class D shares, will be 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 deferred sales charges with respect to the Class B and Class C
shares in that the sales charges 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 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 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
Shares".
4
<PAGE> 5
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------
Account
Maintenance Distribution Conversion
Class Sales Charge (1) Fee Fee Feature
- ----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Maximum 4.00% initial sales
A charge (2), (3) No No No
- ----------------------------------------------------------------------------------------------
B CDSC for a period of 4 0.25% 0.25% B shares convert to D
years, at a rate of 4.0% during shares automatically
the first year, decreasing after approximately
1.0% annually to 0.0% ten years (4)
- ----------------------------------------------------------------------------------------------
C 1.0% CDSC for one year 0.25% 0.35% No
- ----------------------------------------------------------------------------------------------
D Maximum 4.00% initial sales 0.10% No No
charge (3)
- ----------------------------------------------------------------------------------------------
</TABLE>
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(1) Initial sales charges are imposed at the time of purchase as a percentage
of the offering price. Contingent deferred sales charges ("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. Class A and Class D share
purchases of $1,000,000 or more will not be subject to an initial sales
charge but instead may be subject to a CDSC if redeemed within one year.
See "Class A" and "Class D" below.
(4) The conversion period for dividend reinvestment shares is modified. 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.
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 in a
shareholder account are entitled to purchase additional Class A
shares in that account. Other eligible investors include
participants in certain investment programs. In addition, Class A
shares will be offered to Merrill Lynch & Co., Inc. and its
subsidiaries (the term "subsidiaries", when used herein with respect
to Merrill Lynch & Co., Inc., includes MLAM, the Manager and certain
other entities directly or indirectly wholly-owned and controlled by
Merrill Lynch & Co., Inc.) and their directors and employees and to
members of the Boards of MLAM-advised mutual funds. The maximum
initial sales charge is 4.00%, which 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 if the shares are redeemed
within one year after purchase. Sales charges also are reduced under
a right of accumulation which takes into account the investors
holdings of all classes of all MLAM-advised mutual funds. See
"Purchase of Shares-Initial Sales Charge Alternatives-Class A and
Class D Shares".
5
<PAGE> 6
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%, an ongoing distribution fee of 0.25% and a CDSC if
they are redeemed within four years 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 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 onto the holding period for the shares
acquired. Automatic conversion of Class B shares into Class D shares
will occur at least once a 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% of average net assets and an ongoing distribution fee
of 0.35%. Class C shares are also subject to a CDSC if they are
redeemed within one year of purchase. Although Class C shares are
subject to a 1.0% CDSC for only one year (as compared to four years
for Class B), Class C shares have no conversion feature and,
accordingly, an investor that purchases Class C shares will be
subject to distribution fees that will be imposed on Class C shares
for an indefinite period subject to annual approval by the Fund's
Board of Directors 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 average net assets. Class D shares are not subject to an
ongoing distribution fee or any CDSC when they are redeemed.
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 will be subject to a CDSC of 1.0% if the shares are
redeemed within one year after purchase. The schedule of initial
sales charges and reductions for Class D shares is the same as the
schedule for Class A shares. 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".
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 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 of the 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 deferred sales charges imposed in connection
with
6
<PAGE> 7
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 which 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 forego 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> 8
FINANCIAL HIGHLIGHTS
The financial information in the table below has been audited in
conjunction with the annual audit of the financial statements of the Fund by
Deloitte & Touche LLP, independent auditors. Financial statements for the
period May 6, 1994 (commencement of operations) to July 31, 1994 and the
independent auditors' report thereon are included 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.
Financial information is not presented for Class C or Class D shares since no
shares of those classes are publicly issued as of the date of this
Prospectus. 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 Fund at the
telephone number or address on the front cover of this Prospectus.
<TABLE>
<CAPTION>
Class A Class B
----------------------------- ---------------------------
For the period May 6, 1994 + For the period May 6, 1994+
to July 31, 1994 to July 31, 1994
----------------------------- ---------------------------
<S> <C> <C>
Increase (Decrease) in Net Asset Value:
Per Share Operating Performance:
Net Asset Value, Beginning of Period.... $10.00 $10.00
------ ------
Investment income-net................... .13 .12
Realized and unrealized gain on
investments-net....................... .24 .24
------ ------
Total from investment operations........ .37 .36
------ ------
Less dividends:
Investment income-net................... (.13) (.12)
------ ------
Net asset value, end of period.......... $10.24 $10.24
====== ======
Total Investment Return**:
Based on net asset value per share...... 3.76%++ 3.64%++
====== ======
Ratios to Average Net Assets:
Expenses, excluding distribution fees
and net of reimbursement.............. -%* -%*
====== ======
Expenses, net of reimbursement.......... -%* .50%*
====== ======
Expenses................................ 2.47%* 2.97%*
====== ======
Investment income-net................... 5.49%* 4.98%*
====== ======
Supplemental Data:
Net Assets, end of period (in thousands) $8,166 $8,505
Portfolio turnover...................... 16.06% 16.06%
====== ======
</TABLE>
----------
** Total investment returns exclude the effects of sales loads.
* Annualized
++ Aggregate total investment return.
+ Commencement of Operations
8
<PAGE> 9
INVESTMENT OBJECTIVE AND POLICIES
The investment objective of the Fund is to provide shareholders with as
high a level of income exempt from Federal and New Mexico 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 State of New Mexico, its political subdivisions,
agencies and instrumentalities and obligations of other qualifying issuers,
such as issuers located in Puerto Rico, the Virgin Islands and Guam, which
pay interest exempt, in the opinion of bond counsel to the issuer, from
Federal and New Mexico income taxes. Obligations exempt from Federal income
taxes are referred to herein as "Municipal Bonds" and obligations exempt from
both Federal and New Mexico income taxes are referred to as "New Mexico
Municipal Bonds". Unless otherwise indicated, references to Municipal Bonds
shall be deemed to include New Mexico Municipal Bonds. The Fund at all times,
except during temporary defensive periods, will maintain at least 65% of its
total assets invested in New Mexico 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 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, as defined herein, may present similar risks, depending on the
particular product. Certain investments in which the Fund may invest may be
characterized as derivative instruments. See "Description of Municipal Bonds"
and "Financial Futures Transactions and Options". 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 Corporation ("Standard &
Poor's") (currently AAA, AA, A and BBB) or Fitch Investors Service, 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 of the Fund, Fund Asset Management, L.P. (the "Manager"), to
obligations in which the Fund may invest. Municipal 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 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
9
<PAGE> 10
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
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. 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".
The Fund's investments may also include variable rate demand obligations
("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 and New Mexico income taxes. However, to the extent that
suitable New Mexico 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, but not New Mexico, taxation. 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 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
derivative instruments evidencing interests in one or more long-term
municipal securities.
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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 New Mexico 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-4/VMIG-4 for notes and VRDOs and Prime-1 through
Prime-3 for commercial paper (as determined by Moody's), SP-1 and 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 investment objective of the Fund is a fundamental policy of the Fund
which may be not changed without a vote of a majority of the outstanding
shares of the Fund. 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 and New
Mexico income taxes by investing in a professionally managed portfolio
consisting primarily of long-term New Mexico 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, account
maintenance and distribution fees.
Special and Risk Considerations Relating to New Mexico Municipal Bonds
The Fund ordinarily will invest at least 65% of its total assets in New
Mexico Municipal Bonds, and therefore it is more susceptible to factors
adversely affecting issuers of New Mexico Municipal Bonds than is a
tax-exempt mutual fund that is not concentrated in issuers of New Mexico
Municipal Bonds to this degree.
For the current and ensuing fiscal years, the New Mexico General Fund
stands at a substantial surplus in relation to budgeted expenditures.
Employment, per capita personal income and the overall economy are growing
slowly, although mining is below earlier levels and reductions in federal
spending associated with the end of the Cold War have affected various
national laboratories and military installations in the State.
The Manager does not believe that the current economic conditions in New
Mexico or other factors described above will have a significant adverse
effect on the Fund's ability to invest in high quality New Mexico Municipal
Bonds. Because the Fund's portfolio will be comprised primarily of investment
grade securities, the
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Fund is expected to be less subject to market and credit risks than a fund
that invests primarily in lower quality New Mexico Municipal Bonds. See
Appendix I, "Economic and Financial Conditions in New Mexico" 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 facilities for the
local furnishing of electric energy or gas, sewage facilities, solid waste
disposal facilities and other specialized facilities. For purposes of this
Prospectus, such obligations are referred to as Municipal Bonds if the
interest paid thereon is exempt from Federal income tax, and, as New Mexico
Municipal Bonds if the interest thereon is exempt from Federal and New Mexico
income taxes, 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 state constitutions 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 extent to which the entity relies on Federal or
state aid, access to capital markets or other factors beyond the state 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 will not
invest more than 10% of its total assets (taken at market value at the time
of each investment) in industrial revenue bonds where the entity supplying
the revenues from which the issuer is paid, including predecessors, has a
record of less than three years of continuous business operations.
Investments involving entities with less than three years of continuous
business operations may pose somewhat greater risks due to the lack of a
substantial operating history for such entities. The Manager believes,
however, that the potential benefits of such investments outweigh the
potential risks, particularly given the Fund's limitations on such
investments.
The Fund may purchase IDBs and private activity bonds. IDBs and private
activity bonds are 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. Neither
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IDBs nor private activity bonds are 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 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. If an issuer of such bonds is unable to meet its obligations,
repayment of such bonds becomes a moral commitment, but not a legal
obligation, of the issuer.
The Fund may invest in Municipal Bonds 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. 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. 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. The Manager believes that indexed and inverse
floating obligations represent a flexible portfolio management instrument for
the Fund which allows the Manager to vary the degree of investment leverage
relatively efficiently under different market conditions. 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 net assets.
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
frequently is 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 net
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
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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 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.
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.
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 high grade, liquid Municipal Bonds
having a market value at all times at least equal to the amount of the
forward commitment.
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 not exercised prior to the maturity
of the related Municipal Bond will expire without value. The economic effect
to 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 net assets.
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,
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<PAGE> 15
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.
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, 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
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
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<PAGE> 16
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 short-term, high-grade, fixed-income 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. The Fund must meet certain Federal
income tax requirements under the Internal Revenue Code of 1986, as amended
(the "Code"), in order to qualify for the special tax treatment afforded
regulated investment companies, including a requirement that less than 30% of
its gross income be derived from the sale or other disposition of securities
held for less than three months. Additionally, the Fund is required to meet
certain diversification requirements under the Code.
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
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<PAGE> 17
more than seven days if such investments, together with the Fund's other
illiquid investments, would exceed 15% of the Fund's net 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 has adopted a number of restrictions and policies relating to
the investment of the Fund's assets and its activities, which are fundamental
policies of the Fund and 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. Among the more significant restrictions, the Fund may not:
(i) purchase any securities other than securities referred to under
"Investment Objective and Policies" herein; (ii) purchase securities of other
investment companies, except in connection with certain specified
transactions and with respect to investments of up to 10% of the Fund's total
assets in securities of closed-end investment companies; (iii) 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 (The Fund will not purchase securities
while borrowings are outstanding); (iv) mortgage, pledge, hypothecate or in
any manner transfer as security for indebtedness any securities owned or held
by the Fund except in connection with certain specified transactions; (v)
invest in securities which cannot be readily resold because of legal or
contractual restrictions or which are not readily marketable, including
individually negotiated loans that constitute illiquid investments and
illiquid lease obligations, and in repurchase agreements and purchase and
sale contracts maturing in more than seven days, if, regarding all such
securities taken together, more than 15% of its net assets (taken at market
value at the time of each investment) would be invested in such securities;
(vi) invest more than 10% of its total assets (taken at market value at the
time of each investment) in industrial revenue bonds where the entity
supplying the revenues from which the issue is to be paid, and the guarantor
of the obligation, including predecessors, each have a record of less than
three years' continuous business operation; and (vii) invest more than 25% of
its total assets (taken at market value at the time of each investment) in
securities of issuers in any particular industry (other than United States
Government securities or Government agency securities, Municipal Bonds and
Non-Municipal Tax-Exempt Securities).
The Board of Trustees of the Trust, at a meeting held on August 3, 1994,
approved certain changes to the fundamental and non-fundamental investment
restrictions of the Fund. These changes were proposed in connection with the
creation of a set of standard fundamental and non-fundamental investment
restrictions that would be adopted, subject to shareholder approval, by all
of the non-money market mutual funds advised by MLAM or FAM. The proposed
uniform investment restrictions are designed to provide each of these funds,
including the Fund, with as much investment flexibility as possible under the
1940 Act and applicable state securities regulations, help promote
operational efficiencies and facilitate monitoring of compliance. The
investment objectives and policies of the Fund will be unaffected by the
adoption of the proposed investment restrictions.
The full text of the proposed investment restrictions is set forth under
"Investment Objective and Policies-Proposed Uniform Investment Restrictions"
in the Statement of Additional Information. Shareholders of the Fund are
currently considering whether to approve the proposed revised investment
restrictions. If such shareholder approval is obtained, the Fund's current
investment restrictions will be replaced by the proposed restrictions, and
the Fund's Prospectus and Statement of Additional Information will be
supplemented to reflect such change.
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.
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However, the Fund's investments will be limited so as to qualify as a
"regulated investment company" for purposes of the Code. See "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.
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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 are:
Arthur Zeikel*-President and Chief Investment Officer of the Manager and
MLAM; President and Director of Princeton Services, Inc. ("Princeton
Services"); Executive Vice President of Merrill Lynch & Co., Inc.
("ML&Co.") and Merrill Lynch; and Director of the Distributor.
Kenneth S. Axelson-Former Executive Vice President and Director, J.C.
Penney Company, Inc.
Herbert I. London-John M. Olin Professor of Humanities, New York
University.
Robert R. Martin-Chairman, WTC Industries, Inc.; 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
Fund Asset Management, L.P. (the "Manager"), which is an affiliate of
MLAM and is owned and controlled by ML&Co., acts as the manager for the Fund
and provides the Fund with management services. The Manager or MLAM acts as
the investment adviser for over 100 other registered investment companies.
MLAM also provides investment advisory services to individual and
institutional accounts. As of August 31, 1994, the Manager and MLAM had a
total of approximately $165.7 billion in investment company and other
portfolio assets under management, including accounts of 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.
Vincent R. Giordano and Kenneth A. Jacob are the Portfolio Managers for
the Fund. Vincent R. Giordano has been a Portfolio Manager of the Manager and
MLAM since 1977 and a Senior Vice President of the Manager and MLAM since
1984. Kenneth A. Jacob has been a Vice President of the Manager and MLAM
since 1984.
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
19
<PAGE> 20
billion; and 0.50% of the average daily net assets exceeding $1.0 billion.
For the period May 6, 1994 (commencement of operations) to July 31, 1994, the
total fee paid by the Fund to the Manager was $18,228 all of which was
voluntarily waived (based on average net assets of approximately $13.9
million).
The Management Agreement obligates 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 paid the
Manager for its costs in connection with such services. For the period May 6,
1994 (commencement of operations) to July 31, 1994, the Fund paid the
Manager $7,450 for accounting services, all of which was voluntarily
reimbursed by the Manager. During this same period the ratio of total
expenses, excluding distribution fees and net of reimbursement, to average
net assets was 0% for Class A shares and 0% for Class B shares; no Class C or
Class D shares had been issued during such period.
Transfer Agency Services
Financial Data Services, Inc. (the "Transfer Agent"), which is a
wholly-owned 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 Fund
pays the Transfer Agent an annual fee of $11.00 per Class A or Class D
shareholder account and $14.00 per Class B or Class C shareholder account,
and the Transfer Agent is entitled to reimbursement from the Fund for
out-of-pocket expenses incurred by the Transfer Agent under the Transfer
Agency Agreement. For the period May 6, 1994 (commencement of operations) to
July 31, 1994, the Fund paid the Transfer Agent a total fee of $2,300
pursuant to the Transfer Agency Agreement for providing transfer agency
services.
PURCHASE OF SHARES
Merrill Lynch Funds Distributor, Inc. (the "Distributor"), an affiliate
of both 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.
The Fund is offering 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 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 4:15 P.M., New York
time, which includes orders received after the determination of net asset
value on the previous day, the applicable offering price will be based on the
net asset value as of 4:15 P.M. on the day the orders are placed with the
Distributor, provided the orders are received by the Distributor prior to
4:30 P.M., New York time, on that day. If the purchase orders are not
received prior to 4:30 P.M., New York time, 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
20
<PAGE> 21
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 $4.85) to confirm a sale of shares to such
customers. Purchases 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 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 contingent deferred sales charge
and ongoing distribution fees. A discussion of the factors that investors
should consider in determining the method of purchasing shares under the
Merrill Lynch Select Pricing System is set forth under "Merrill Lynch Select
Pricing 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 deferred sales charges 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, will be 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. 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. 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 deferred sales charges with respect to Class B and Class C
shares in that the sales charges 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, which are
eligible to sell shares.
21
<PAGE> 22
The following table sets forth a summary of the distribution arrangements
for each class of shares under the Merrill Lynch Select Pricing System.
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C>
- -------------------------------------------------------------------------------------------------------------------------
Account
Maintenance Distribution Conversion
Class Sales Charge(1) Fee Fee Feature
- -------------------------------------------------------------------------------------------------------------------------
A Maximum 4.00% initial sales No No No
charge (2)(3)
- -------------------------------------------------------------------------------------------------------------------------
B CDSC for a period of 4 years, at a 0.25% 0.25% B shares convert to
rate of 4.0% during the first year, D shares automatically after
decreasing 1.0% annually to 0.0% approximately ten years (4)
- -------------------------------------------------------------------------------------------------------------------------
C 1.0% CDSC for one year 0.25% 0.35% No
- -------------------------------------------------------------------------------------------------------------------------
D Maximum 4.00% initial sales charge (3) 0.10% No No
- -------------------------------------------------------------------------------------------------------------------------
</TABLE>
----------
(1) Initial sales charges are imposed at the time of purchase as a percentage
of the offering price. CDSCs may be 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
Alternative-Class A and Class D Shares-Eligible Class A Investors".
(3) Reduced for purchases of $25,000 or more. 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 CDSC if redeemed within one year.
(4) The conversion period for dividend reinvestment shares is modified. 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.
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 shares 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.
22
<PAGE> 23
<TABLE>
<CAPTION>
Sales Charge Sales Charge Discount to
and 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.
** Class A and Class D purchases of $1,000,000 or more made on or after
October 21, 1994 will be subject to a CDSC of 1.0% if the shares are
redeemed within one year after purchase. Class A purchases made prior to
October 21, 1994 may be subject to a CDSC if the shares are redeemed
within one year of purchase at the following rates: 0.75% on purchases of
$1,000,000 to $2,500,000; 0.40% on purchases of $2,500,001 to $3,500,000;
0.25% on purchases of $3,500,001 to $5,000,000; and 0.20% on purchases of
more than $5,000,000 in lieu of paying an initial sales charge. The charge
will be assessed on an amount equal to the lesser of the proceeds of the
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. During the period May 6, 1994 (commencement of
operations) to July 31, 1994, the Fund sold 811,846 Class A shares for
aggregate net proceeds of $8,154,057. The gross sales charges for the sale of
Class A shares of the Fund for that period were $175,173, of which $3,507 and
$171,666 were received by the Distributor and Merrill Lynch, respectively.
For the period May 6, 1994 (commencement of operations) to July 31, 1994, the
Distributor received no CDSCs with respect to redemption within one year
after purchase of Class A shares purchased subject to front-end sales charge
waivers.
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 in a
shareholder account are entitled to purchase additional Class A shares in
that account. Class A shares are available at net asset value to corporate
warranty insurance reserve fund programs provided that the program has $3
million or more initially invested in MLAM-advised mututal 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 and certain
purchases made in connection with the Merrill Lynch Mutual Fund Adviser
program. In addition, Class A shares will be 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 Fund.
Certain persons who acquire shares of MLAM-advised closed-end funds 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. For example, 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. who wish to
reinvest the net proceeds from a sale of certain of their shares of common
stock of Merrill Lynch Senior Floating Rate Fund, Inc. in shares of such
funds.
23
<PAGE> 24
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".
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.
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,
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 Merrill
Lynch 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 CDSC and the distribution fee 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) related 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 Class B and Class C shares, from the dealers' own
funds. 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
onto the holding period for the shares acquired.
24
<PAGE> 25
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. The proceeds from the
ongoing account maintenance fee are used to compensate Merrill Lynch for
providing continuing account maintenance activities. 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 which
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 CDSC will be imposed on increases in net asset value above the initial
purchase price. In addition, no CDSC will be assessed on shares derived from
reinvestment of dividends or capital gains distributions.
The following table sets forth the Class B CDSC:
<TABLE>
<CAPTION>
CDSC as a
Percentage of
Year Since Purchase Dollar Amount
Payment Made Subject to Charge
------------ -----------------
<S> <C>
0-1......................................................... 4.0%
1-2......................................................... 3.0%
2-3......................................................... 2.0%
3-4......................................................... 1.0%
4 and thereafter............................................ None
</TABLE>
For the period May 6, 1994 (commencement of operations) to July 31, 1994,
the Distributor received no CDSCs with respect to redemptions of Class B
shares.
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 charge because of dividend reinvestment. With respect to
the remaining 40 shares, the charge 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 Internal Revenue Code of 1986, as amended)
of a shareholder. Additional information concerning the waiver of the Class B
CDSC is set forth in the Statement of Additional Information.
25
<PAGE> 26
Contingent Deferred Sales Charges-Class C Shares. Class C shares which
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.
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 applicable 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 onto the holding period for the shares acquired.
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 distri-
26
<PAGE> 27
bution 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.
The Distribution Plans for Class B, Class C and Class D shares each
provide 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 fees 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 period May 6, 1994 (commencement of operations) to July 31, 1994,
the Fund paid the Distributor account maintenance fees of $4,252 and
distribution fees of $4,253 under the Class B Distribution Plan. The Fund did
not begin to offer shares of Class C or Class D publicly until the date of
this Prospectus. Accordingly, no payments have been made pursuant to the
Class C or Class D Distribution Plans prior to the date of this Prospectus.
The 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 CDSC
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. Annual data with respect to fully allocated accrual expenses
incurred by the Distributor and Merrill Lynch is not yet available. As of
July 31, 1994, direct cash expenses for the period since May 6, 1994
(commencement of operations) exceeded direct cash revenues by approximately
$101,161 (1.19% of Class B net assets at that date).
The Fund has no obligation with respect to distribution and/or account
maintenance 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.
27
<PAGE> 28
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 fee, the
distribution fee 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 Shares-Conversion of Class B Shares to Class D
Shares".
Limitations on the Payment of Deferred Sales Charges.
The maximum sales charge rule in the Rules of Fair Practice 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.
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 which 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., Transfer Agency Mutual Fund Operations, P.O. Box 45289, Jacksonville,
Florida 32232-5289. Redemption requests delivered other than by mail should
be delivered to Financial Data Services, Inc., Transfer Agency Mutual Fund
Operations, 4800 Deer Lake Drive East,
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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
ofshares 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 notice
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 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 New York Stock Exchange on the day received, and such request
is received by the Fund from such dealer not later than 4:30 P.M., New York
time, on the same day. Dealers have the responsibility to submit such
repurchase requests to the Fund not later than 4:30 P.M., New York time, in
order to obtain that day's closing price.
Dealers have the responsibility of submitting such repurchase requests to
the Trust not later than 4:30 P.M., New York time, in order to obtain that
day's closing price. The repurchase arrangements are for the convenience of
shareholders and do not involve a charge by the Trust (other than any
applicable CDSC in the case of Class B shares); securities firms which do not
have selected dealer agreements with the Distributor, however, may impose a
charge on the shareholder for transmitting the notice of repurchase to the
Trust. Merrill Lynch may charge its customers a processing fee (presently
$4.85) to confirm a repurchase of shares of such customers. Redemptions
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.
Reinstatement Privilege-Class A and Class D Shares
Shareholders who have redeemed their Class A or Class D shares have a
one-time privilege to reinstate their accounts by purchasing Class A or Class
D shares, as the case may be, of the Fund 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.
The
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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. The reinstatement privilege is a one-time privilege
and may be exercised by the Class A or Class D shareholder only the first
time such shareholder makes a redemption.
SHAREHOLDER SERVICES
The Trust offers a number of shareholder services and investment plans
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 long-term capital gain
distributions. The statements will also show any other activity in the
account since the preceding statement. Shareholders also will receive
separate transaction 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 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 at 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 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.
Exchange Privilege. Shareholders of each class of shares of the Fund have
an exchange privilege with certain other 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 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 his 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 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
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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 will be exchangeable with shares of
the same class of other MLAM-advised mutual funds.
Shares of the Fund which are subject to a CDSC will be 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 of the newly
acquired shares of the other Fund.
Class A, Class B, Class C and Class D shares also will be exchangeable
for shares of certain MLAM-advised money market funds specifically designated
as available for exchange by holders of Class A, Class B, Class C or Class D
shares. The period of time that Class A, Class B, Class C or Class D shares
are held in a money market fund, however, will not count toward satisfaction
of the holding period requirement for reduction of any CDSC imposed on such
shares, if any, and, with respect to Class B shares, toward satisfaction of
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 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 under the Merrill Lynch Mutual Fund Adviser
("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 or by telephone (1-800-MER-FUND) to the Transfer Agent,
elect to have subsequent dividends or both dividends and capital gains
distributions paid in
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cash, rather than reinvested, in which event payment will be mailed monthly.
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.
Systematic Withdrawal Plans. A Class A or Class D shareholder may elect
to receive systematic withdrawal payments from his Investment Account through
automatic payment by check or through automatic payment by direct deposit to
his bank account on either a monthly or quarterly basis. A Class A or Class D
shareholder whose shares are held within a CMA(Reg) or CBA(Reg) Account may
elect to have shares redeemed on a monthly, bimonthly, quarterly, semiannual
or annual basis through the Systematic Redemption Program, subject to certain
conditions.
Automatic Investment Plans. Regular additions of Class A, Class B, Class
C or Class D shares may be made to an investor's Investment Account by
prearranged charges of $50 or more to his regular bank account.
Alternatively, investors who maintain CMA(Reg) accounts may arrange to have
periodic investments made in the Fund in their CMA(Reg) account or in certain
related accounts in amounts of $100 or more through the CMA(Reg) Automated
Investment Program.
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
Trust may not purchase securities, including Municipal Bonds, for the Fund
during the existence of any underwriting syndicate of which Merrill Lynch is
a member except pursuant to procedures approved by the Trustees of the Trust
which comply with rules adopted by the Commission. Affiliated persons of the
Trust may serve as its broker in over-the-counter transactions conducted for
the Fund on an agency basis only.
DISTRIBUTIONS AND TAXES
Distributions
The net investment income of the Fund is declared as dividends daily
following the normal close of trading on the New York Stock Exchange
(currently 4:00 P.M.) prior to the determination of the net asset value on
that
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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 settlement date of a redemption order.
All net realized long- or short-term 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 "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 Internal
Revenue Code of 1986, as amended (the "Code"). If it so qualifies, in any
taxable year in which it distributes at least 90% of its taxable net income
and 90% of its tax-exempt net income (see below), 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.
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 income 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 paid from interest received by the Fund
from New Mexico Municipal Bonds also will be exempt from New Mexico personal
and corporate income taxes. Shareholders subject to income taxation by states
other than New Mexico will realize a lower after-tax rate of return than New
Mexico shareholders, since the dividends distributed by the Fund generally
will not be exempt from income taxation by such other states to any
significant degree. 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 New Mexico income tax.
Interest on indebtedness incurred or continued to purchase or carry Fund
shares is not deductible for Federal or New Mexico income tax purposes to the
extent attributable to 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 advisers before purchasing Fund shares.
Shares of the Fund will not be subject to the New Mexico personal
property tax.
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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 ordinary income for Federal and New Mexico
income tax purposes. Such distributions are not eligible for the dividends
received deduction for corporations. Distributions, if any, of net long-term
capital gains 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 New Mexico income tax
purposes, are treated as capital gains which are taxed at ordinary income
rates. Under the Revenue Reconciliation Act of 1993, 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 treated
as long-term capital loss to the extent of any capital gain dividends
received by the shareholder. In addition, such loss will be disallowed to the
extent of any exempt-interest 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 "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 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.
The Revenue Reconciliation Act of 1993 has added new marginal tax
brackets of 36% and 39.6% for individuals and has created a graduated
structure of 26% and 28% for the alternative minimum tax applicable to
individual taxpayers. These rate increases may affect an individual
investor's after-tax return from an investment in the Fund as compared with
such investor's return from taxable investments.
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 the sales
charge
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<PAGE> 35
paid to the Fund 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 provisions of the Code, 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.
The foregoing is a general and abbreviated summary of the applicable
provisions of the Code, Treasury regulations and New Mexico 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 New Mexico income tax laws. The Code and the Treasury
regulations, as well as the New Mexico tax laws, are subject to change by
legislative, judicial or administrative action either prospectively or
retroactively.
Shareholders are urged to consult their tax advisers regarding the
availability of any exemptions from state or local taxes (other than those
imposed by New Mexico) 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
and 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 fees and
distribution charges and any incremental
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<PAGE> 36
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
reduced sales charges in the case of Class A or Class D shares or waiver of
the CDSC in the case of Class B 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 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, 1994 was 5.14% for Class A shares and 4.86%
for Class B shares, and the tax-equivalent yield for the same period (based
on a Federal income tax rate of 28%) was 7.14% for Class A shares and 6.75%
for Class B shares. The yield without voluntary reimbursement for the 30-day
period would have been 2.94% for Class A shares and 2.56% for Class B shares
with a tax equivalent yield of 4.08% for Class A shares and 3.56% for Class B
shares.
Total return and yield figures are based on the Fund's historical
performance and are not intended to indicate future performance. The Fund's
total return and 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 gain 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 performance data
published by Lipper Analytical Services, Inc., Morningstar Publications, Inc.
("Morningstar") and CDA Investment Technology, Inc., or to data contained in
publications such as Money Magazine, U.S. News & World Report, Business Week,
Forbes Magazine and Fortune Magazine. From time to time, the Fund may include
the Fund's Morningstar risk-adjusted performance ratings in advertisements or
supplemental sales literature. As with other performance data, performance
comparisons should not be considered representative of the Fund's relative
performance for any future period.
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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 as of 4:15 P.M., New York time, on each
day during which the New York Stock Exchange 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 minus all
liabilities 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 generally will 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 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 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 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 an unincorporated 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 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 to be 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, 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 of $.10 par value
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 related to the account maintenance associated with such shares, and
Class B and Class C shares bear certain expenses related to the distribution
of such shares. Each class has exclusive voting rights with respect to
matters relating to account maintenance and distribution expenditures as
applicable. See "Purchase of Shares". The Trust has received an order from
the Commission permitting the issuance and sale of multiple classes of common
stock. The Trustees of the Trust may classify and reclassify the shares of
the Trust into additional classes of common stock 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
37
<PAGE> 38
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. 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 upon liquidation or dissolution
remaining after satisfaction of outstanding liabilities except that, as noted
above, the 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.
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.
Attn: TAMFO
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.
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.
38
<PAGE> 39
MERRILL LYNCH NEW MEXICO MUNICIPAL BOND FUND-AUTHORIZATION FORM (PART 1)
1. Share Purchase Application
I, being of legal age, wish to purchase: (choose one)
/ / Class A shares / / Class B shares / / Class C shares |B) Class D shares
of Merrill Lynch New Mexico Municipal Bond Fund and establish an
Investment Account as described in the Prospectus. In the event that I
am not eligible to purchase Class A shares, I understand that Class D
shares will be purchased.
Basis for establishing an Investment Account:
A. I enclose a check for $............ payable to Financial Data Services,
Inc. as an initial investment (minimum $1,000). I understand that this purchase
will be executed at the applicable offering price next to be determined after
this Application is received by you.
B. I already own shares of the following Merrill Lynch mutual
funds that would qualify for the right of accumulation as outlined
in the Statement of Additional Information: (Please list all funds.
Use a separate sheet of paper if necessary.)
1. ................................... 4. ................................
2. ................................... 5. ................................
3. ................................... 6. ................................
Name.......................................................................
First Name Initial Last Name
Name of Co-Owner (if any)..................................................
First Name Initial Last Name
Address................................................Date.................
............................................................................
........................................................
(Zip Code)
Occupation........................ Name and Address
of Employer.............................
.............................
.............................
....................................... .............................
Signature of Owner Signature of Co-Owner (if any)
(In the case of co-owners, a joint tenancy with right of survivorship
will be presumed unless otherwise specified)
2. Dividend and Capital Gain Distribution Options
Ordinary Income Dividends Long-Term Capital Gains
Select / / Reinvest Select / / Reinvest
One: / / Cash One: / / Cash
If no election is made, dividends and capital gains will be
automatically reinvested at net asset value without a sales charge. If
cash, specify how you would like your distributions paid to you:
/ / Check or / / Direct Deposit to bank account
If direct deposit to bank account is selected, please complete below:
I hereby authorize payment of dividend and capital gain distributions
by direct deposit to my bank account and, if necessary, debit entries
and adjustments for any credit entries made to my account in
accordance with the terms I have selected on the Merrill Lynch New
Mexico Municipal Bond Fund Authorization Form.
Specify type of account (check one) / / checking / / savings
Name on your account.........................................................
Bank Name.................. Bank Number................. Account Number......
Bank Address.................................................................
I agree that this authorization will remain in effect until I provide written
notification to Financial Data Services, Inc. amending or terminating this
service.
Signature of Depositor .......................................................
Signature of Depositor............................ Date.......................
(if joint account, both must sign)
Note: If direct deposit to bank account is selected, your blank, unsigned
check marked "VOID" or a deposit slip from your savings account should
accompany this application.
39
<PAGE> 40
3. Social Security Number or Taxpayer Identification Number
---------------------------------------------------------
---------------------------------------------------------
Social Security Number or Taxpayer Identification Number
Under penalty of perjury, I certify (1) that the number set forth above is my
correct Social Security Number or Taxpayer Identification Number and (2) that
I am not subject to backup withholding (as discussed in the Prospectus under
"Distributions and Taxes-Taxes") either because I have not been notified that
I am subject thereto as a result of a failure to report all interest or
dividends, or the Internal Revenue Service ("IRS") has notified me that I am no
longer subject thereto.
Instruction: You must strike out the language in (2) above if you have been
notified that you are subject to backup withholding due to underreporting and
if you have not received a notice from the IRS that backup withholding has been
terminated. The undersigned authorizes the furnishing of this certification to
other Merrill Lynch sponsored mutual funds.
Signature of Owner ............ Signature of Co-Owner (if any)...............
4. Letter of Intention - Class A and D shares only (See terms and conditions
in the Statement of Additional Information)
Dear Sir/Madam: ..............................., 19....
Date of initial purchase
Although I am not obligated to do so, I intend to purchase shares
of Merrill Lynch New Mexico Municipal Bond Fund or any other
investment company with an initial sales charge or deferred sales
charge for which the Merrill Lynch Funds Distributor, Inc. acts as
distributor over the next 13-month period which will equal or exceed:
/ / $25,000 / / $50,000 / / $100,000 / / $250,000 / / $1,000,000
Each purchase will be made at the then reduced offering price
applicable to the amount checked above, as described in the Merrill
Lynch New Mexico Municipal Bond Fund Prospectus.
I agree to the terms and conditions of the Letter of Intention. I hereby
irrevocably constitute and appoint Merrill Lynch Funds Distributor, Inc.,
my attorney, with full power of substitution, to surrender for redemption any
or all shares of Merrill Lynch New Mexico Municipal Bond Fund held as security.
By................................. ......................................
Signature of Owner Signature of Co-Owner (If registered
in joint names, both must sign)
In making purchases under this letter, the following are the related accounts
on which reduced offering prices are to apply:
(1) Name............................. (2) Name.................................
Account Number ...................... Account Number ..........................
5. For Dealer Only We hereby authorize Merrill Lynch Funds
Distributor, Inc. to act as our Branch Office,
Branch Office, Address Stamp. Address, Stamp agent in connection with
transactions under this authorization form and
agree to notify the Distributor of any
purchases made under a Letter of Intention or
Systematic Withdrawal Plan. We guarantee the
Shareholder's signature.
..............................................
Dealer Name and Address
By:...........................................
Authorized Signature of Dealer
This form, when completed, should be mailed to:
Merrill Lynch New Mexico
Municipal Bond Fund
c/o Financial Data Services, Branch Code F/C No. ................
Inc. F/C Last Name
Transfer Agency Mutual Fund
Operations
P.O. Box 45289 Branch-Code F/C No.
Jacksonville, FL 32232-5289 Dealer's Customer A/C No.
40
<PAGE> 41
MERRILL LYNCH NEW MEXICO MUNICIPAL BOND FUND-AUTHORIZATION FORM (PART 2)
1. Account Registration
Name of Owner .......................
Name of Co-Owner (if any) ........... Social Security Number
or Taxpayer Identification Number
Address ............................. Account Number ........................
..................................... (if existing account)
2. Systematic Withdrawal Plan-Class A and D Shares Only
(See terms and conditions in the Statement of Additional Information)
Minimum Requirements: $10,000 for monthly disbursements, $5,000 for
quarterly, of / / Class A or / / Class D shares in Merrill Lynch New Mexico
Municipal Bond Fund at cost or current offering price. Withdrawals to be made
either (check one) / / Monthly on the 24th day of each month, or
/ / Quarterly on the 24th day of March, June, September and December.
If the 24th falls on a weekend or holiday, the next succeeding
business day will be utilized.
Begin systematic withdrawal on........... or as soon as possible thereafter.
(month)
Specify how you would like your withdrawal paid to you (check one):
/ / $....... or / /.......% of the current value of / / Class A or / / Class D
shares in the account. Specify withdrawal method: / / check or / /
direct deposit to bank account (check one and complete part (a) or (b)
below):
Draw checks payable (check one)
(a) I hereby authorize payment by check
/ / as indicated in Item 1.
/ / to the order of...........................................................
Mail to (check one)
/ / the address indicated in Item 1.
/ / Name (please print)......................................................
Address .......................................................................
...............................................................................
Signature of Owner.................................. Date......................
Signature of Co-Owner (if any).................................................
(b) I hereby authorize payment by direct deposit to my bank account
and, if necessary, debit entries and adjustments for any credit
entries made to my account. I agree that this authorization will
remain in effect until I provide written notification to Financial
Data Services, Inc. amending or terminat-ing this service.
Specify type of account (check one) |B( checking |B( savings
Name on your account ..........................................................
Bank Name .....................................................................
Bank Number............................... Account Number......................
Bank Address...................................................................
...............................................................................
Signature of Depositor............................... Date.....................
Signature of Depositor.........................................................
(If joint account, both must sign)
Note: If direct deposit is elected, your blank, unsigned check marked
"VOID" or a deposit slip from your savings account should accompany
this application.
41
<PAGE> 42
3. Application for Automatic Investment Plan
I hereby request that Financial Data Services, Inc. draw an automated
clearing house ("ACH") debit on my checking account as described below
each month to purchase: (choose one)
/ / Class A shares / / Class B shares / / Class C shares / / Class D
shares
of Merrill Lynch New Mexico Municipal Bond Fund subject to the terms
set forth below. In the event that I am not eligible to purchase Class A
shares, I understand that Class D shares will be purchased.
FINANCIAL DATA SERVICES, INC.
You are hereby authorized to draw an ACH debit each month on my bank account
for investment in Merrill Lynch New Mexico Municipal Bond Fund as indicated
below:
Amount of each ACH debit $.................................................
Account number.............................................................
Please date and invest ACH debits on the 20th of each month beginning
............................................................................
............................................................... (Month)
or as soon thereafter as possible.
I agree that you are drawing these ACH debits voluntarily at my request and
that you shall not be liable for any loss arising from any delay in
preparing or failure to prepare any such debit. If I change banks or desire
to terminate or suspend this program, I agree to notify you promptly in
writing. I hereby authorize you to take any action to correct erroneous ACH
debits of my bank account or purchases of fund shares including liquidating
shares of the Fund and credit my bank account. I further agree that if a
check or debit is not honored upon presentation, Financial Data Services,
Inc. is authorized to discontinue immediately the Automatic Investment Plan
and to liquidate sufficient shares held in my account to offset the purchase
made with the dishonored debit.
............ ........................
Date Signature of Depositor
........................
Signature of Depositor
(If joint account, both
must sign)
AUTHORIZATION TO HONOR ACH DEBITS
DRAWN BY FINANCIAL DATA SERVICES, INC.
To......................................................................Bank
(Investor's Bank)
Bank Address ...............................................................
City................... State................... Zip Code...................
As a convenience to me, I hereby request and authorize you to pay and charge
to my account ACH debits drawn on my account by and payable to Financial
Data Services, Inc. I agree that your rights in respect to each such debit
shall be the same as if it were a check drawn on you and signed personally
by me. This authority is to remain in effect until revoked by me
in writing. Until you receive such notice, you shall be fully protected in
honoring any such debit. I further agree that if any such debit be
dishonored, whether with or without cause and whether intentionally or
inadvertently, you shall be under no liability.
. . . . . . . . . . . . . . .. . . . . . . . . . . . . . . . . . . . .
Date Signature of Depositor
. . . . . . . . . . . . . . .. . . . . . . . . . . . . . . . . . . . .
Bank Account Number Signature of Depositor
(If joint account, both must sign)
Note: If Automatic Investment Plan is elected, your blank, unsigned check
marked "VOID" should accompany this Application.
<PAGE> 43
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, Inc.
Administrative Offices:
800 Scudders Mill Road
Plainsboro, New Jersey
Mailing Address:
P.O. Box 9011
Princeton, New Jersey 08543-9011
Custodian
State Street Bank and Trust Company
P.O. Box 351
Boston, Massachusetts 02101
Transfer Agent
Financial Data Services, Inc.
Administrative Offices:
Transfer Agency Mutual Fund Operations
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
Counsel
Brown & Wood
One World Trade Center
New York, New York 10048-0557
<PAGE> 44
<TABLE>
<CAPTION>
<S> <C>
====================================================== ======================================================
No person has been authorized to give any Prospectus
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 anoffering in
any state in which such offering may not (Paste-up art)
lawfully be made.
----------
TABLE OF CONTENTS
Page
----
Fee Table................................... 2
Merrill Lynch Select Pricing SM System...... 4
Financial Highlights........................ 8
Investment Objective and Policies........... 9
Potential Benefits........................ 11
Special and Risk Considerations Relating MERRILL LYNCH
to New Mexico Municipal Bonds........... 11 NEW MEXICO
Description of Municipal Bonds............ 12 MUNICIPAL BOND
When-Issued Securities and Delayed FUND
Delivery Transactions .................. 14
Call Rights............................... 14
Financial Futures Transactions and Options 14
Repurchase Agreements .................... 16
Investment Restrictions .................. 17 MERRILL LYNCH MULTI-STATE
Management of the Trust .................... 19 MUNICIPAL SERIES TRUST
Trustees.................................. 19
Management and Advisory Arrangements...... 19
Transfer Agency Services.................. 20
Purchase of Shares.......................... 20
Initial Sales Charge Alternatives-Class A
and Class D Shares...................... 22
Deferred Sales Charge Alternatives-Class B
and Class C Shares...................... 24
Distribution Plans........................ 26
Limitations on the Payment of Deferred
Sales Charges........................... 28
Redemption of Shares........................ 28
Redemption................................ 28
Repurchase................................ 29
Reinstatement Privilege-Class A and Class
D Shares................................ 29
Shareholder Services........................ 30 October 21, 1994
Portfolio Transactions...................... 32
Distributions and Taxes..................... 32 Distributor:
Distributions............................. 32 Merrill Lynch
Taxes..................................... 33 Funds Distributor, Inc.
Performance Data............................ 35
Additional Information...................... 37 This prospectus should be
Determination of Net Asset Value.......... 37 retained for future reference.
Organization of the Trust................. 37
Shareholder Reports....................... 38
Shareholder Inquiries..................... 38
Authorization Form.......................... 39
Code #18034-1094
====================================================== ======================================================
</TABLE>
<PAGE> 45
STATEMENT OF ADDITIONAL INFORMATION
-----------------------------------
MERRILL LYNCH NEW MEXICO MUNICIPAL BOND FUND
MERRILL LYNCH MULTI-STATE MUNICIPAL SERIES TRUST
P.O. BOX 9011, PRINCETON, NEW JERSEY 08543-9011 * PHONE NO. (609) 282-2800
----------
Merrill Lynch New Mexico 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 and New Mexico income taxes as is
consistent with prudent investment management. The Fund invests primarily in
a portfolio of long-term investment grade obligations the interest on which
is exempt from Federal and New Mexico income taxes in the opinion of bond
counsel to the issuer ("New Mexico Municipal Bonds"). There can be no
assurance that the investment objective of the Fund will be realized.
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 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
October 21, 1994 (the "Prospectus"), which has been filed with the Securities
and Exchange 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, INC. - DISTRIBUTOR
----------
The date of this Statement of Additional Information is October 21, 1994
<PAGE> 46
INVESTMENT OBJECTIVE AND POLICIES
The investment objective of the Fund is to provide shareholders with as
high a level of income exempt from Federal and New Mexico 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 State of New Mexico, its political
subdivisions, agencies and instrumentalities and obligations of other
qualifying issuers, such as issuers located in Puerto Rico, the Virgin
Islands and Guam, which pay interest exempt, in the opinion of bond counsel
to the issuer, from Federal and New Mexico income taxes. Obligations exempt
from Federal income taxes are referred to herein as "Municipal Bonds" and
obligations exempt from both Federal and New Mexico income taxes are referred
to as "New Mexico Municipal Bonds". Unless otherwise indicated, references to
Municipal Bonds shall be deemed to include New Mexico 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 New
Mexico 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 of 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 Corporation ("Standard &
Poor's") (currently AAA, AA, A and BBB) or Fitch Investors Service, 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 and New Mexico income taxes. However, to the extent that
suitable New Mexico 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 but not New Mexico taxation. 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 also 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 New Mexico Municipal Bonds. For temporary 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 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
2
<PAGE> 47
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 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 actually may 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 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. 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. The Manager believes that indexed
and inverse floating obligations represent a flexible portfolio management
instrument for the Fund which allows the Manager to vary the degree of
investment leverage relatively efficiently under different market conditions.
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 net assets.
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
3
<PAGE> 48
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 net 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.
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.
The Fund does not intend to purchase debt securities that are in default or
which the Manager believes will be in default.
Issuers 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 of high yield securities may be more likely to experience
financial stress, especially if such issuers are highly leveraged. During
periods of economic recession, 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
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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 affect
adversely 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.
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 bonds are issued by or on behalf of
public authorities to finance various privately owned or operated facilities,
including certain facilities for local furnishing of electric energy or gas,
sewage facilities, solid waste disposal facilities and other specialized
facilities. Such obligations are included within the term Municipal Bonds if
the interest paid thereon is, in the opinion of bond counsel, excluded from
gross income for Federal income tax purposes and, in the case of New Mexico
Municipal Bonds, exempt from New Mexico 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 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. Industrial development
bonds ("IDBs") and, in the case of bonds issued after April 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 IDBs
and private activity bonds depends
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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 also may invest in
"moral obligation" bonds, which are normally issued by special purpose public
authorities. Under a moral obligation bond, if the issuer thereof is unable
to meet its obligations, the repayment of the bond 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 net 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 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.
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 also is 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.
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
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<PAGE> 51
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 VRDO 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 prime rate of
a bank 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.
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 therefore will 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-4/VMIG-4 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
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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 insured fully by the FDIC.
Repurchase Agreements
The Fund may invest in securities pursuant to repurchase agreements.
Repurchase agreements and purchase and sale contracts may be entered into
only with a member bank of the Federal Reserve System or 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 the case of
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 net 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. The treatment of purchase and sale contracts is less certain.
However, it is likely that income from such arrangements also 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.
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 (or puts and calls associated therewith) will be in accordance with
the Fund's investment policies and limitations. See "Investment Objective and
Policies-Investment Restrictions" in the Prospectus. 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
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<PAGE> 53
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 "mark 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 which may become available if the Manager and
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<PAGE> 54
the 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
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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 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 Securities and Exchange
Commission (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 short-term, high-grade, fixed income 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 offset completely 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
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<PAGE> 56
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 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 have only recently been approved
for trading and therefore have little trading history. It is possible that
trading in such futures contracts will 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.
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INVESTMENT RESTRICTIONS
Current Restrictions. In addition to the investment restrictions set
forth in the Prospectus, the Trust has adopted a number of restrictions and
policies relating to the investment of its assets and its activities, which
are fundamental policies and 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) purchase any securities other than securities
referred to under "Investment Objective and Policies" herein and in the
Prospectus; (2) invest more than 25% of its total assets (taken at market
value at the time of each investment) in securities of issuers in any
particular industry (other than U.S. Government securities or Government
agency securities, Municipal Bonds and Non-Municipal Tax-Exempt Securities);
(3) invest more than 10% of its total assets (taken at market value at the
time of each investment) in industrial revenue bonds where the entity
supplying the revenues from which the issuer is to be paid, and the guarantor
of the obligation, including predecessors, each have a record of less than
three years of continuous business operation; (4) make investments for the
purpose of exercising control or management; (5) purchase securities of other
investment companies, except in connection with a merger, consolidation,
acquisition or reorganization, and provided further that the Fund may
purchase securities of closed-end investment companies if immediately
thereafter not more than (i) 3% of the total outstanding voting stock of such
company is owned by the Fund, (ii) 5% of the Fund's total assets, taken at
market value, would be invested in any one such company, or (iii) 10% of the
Fund's total assets, taken at market value, would be invested in such
securities; (6) purchase or sell real estate (including limited partnership
interests, but provided that such restriction shall not apply to readily
marketable securities secured by real estate or interests therein or issued
by companies which invest in real estate or interests therein), commodities
or commodity contracts (except that the Fund may purchase and sell financial
futures contracts), interests in oil, gas or other mineral exploration or
development programs or leases; (7) purchase any securities on margin, except
for use of short-term credit necessary for clearance of purchases and sales
of portfolio securities (the deposit or payment by the Fund of initial or
variation margin in connection with financial futures contracts is not
considered the purchase of a security on margin); (8) make short sales of
securities or maintain a short position or invest in put, call, straddle or
spread options (this restriction does not apply to options on financial
futures contracts); (9) make loans to other persons, provided that the Fund
may purchase a portion of an issue of tax-exempt securities (the acquisition
of a portion of an issue of tax-exempt securities or bonds, debentures or
other debt securities which are not publicly distributed is considered to be
the making of a loan under the 1940 Act) and provided further that
investments in repurchase agreements and purchase and sale contracts shall
not be deemed to be the making of a loan; (10) 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 (Usually only "leveraged" investment companies may
borrow in excess of 5% of their assets; however, the Fund will not borrow to
increase income but only to meet redemption requests which might otherwise
require untimely disposition of portfolio securities. The Fund will not
purchase securities while borrowings are outstanding. Interest paid on such
borrowings will reduce net income); (11) mortgage, pledge, hypothecate or in
any manner transfer as security for indebtedness any securities owned or held
by the Fund except as may be necessary in connection with borrowings
mentioned in (10) above, and then such mortgaging, pledging or hypothecating
may not exceed 10% of its total assets, taken at market value, or except as
may be necessary in connection with transactions in financial futures
contracts; (12) invest in securities which cannot be readily resold because
of legal or contractual restrictions or which are not readily marketable,
including individually negotiated loans that constitute illiquid investments
and illiquid lease obligations, or in repurchase agreements or purchase and
sale contracts maturing
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in more than seven days, if, regarding all such securities, more than 15% of
its net assets (taken at market value), would be invested in such securities;
and (13) act as an underwriter of securities, except to the extent that the
Fund may technically be deemed an underwriter when engaged in the activities
described in (12) above or insofar as the Fund may be deemed an underwriter
under the Securities Act of 1933, as amended, in selling portfolio
securities.
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 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.
Proposed Uniform Investment Restrictions. As discussed in the Prospectus
under "Investment Objectives and Policies-Investment Restrictions", the Board
of Trustees of the Trust has approved the replacement of the Fund's existing
investment restrictions with the fundamental and non-fundamental investment
restrictions set forth below. These uniform investment restrictions have been
proposed for adoption by all of the non-money market mutual funds advised by
Fund Asset Management, L.P. (the "Manager") or its affiliate, Merrill Lynch
Asset Management, L.P. ("MLAM"). The investment objective and policies of the
Fund will be unaffected by the adoption of the proposed investment
restrictions.
Shareholders of the Fund are currently considering whether to approve the
proposed revised investment restrictions. If such shareholder approval is
obtained, the Fund's current investment restrictions will be replaced by the
proposed restrictions, and the Fund's Prospectus and Statement of Additional
Information will be supplemented to reflect such change.
Under the proposed fundamental investment restrictions, the Fund may not:
1. Invest more than 25% of its assets, taken at market value, in the
securities of issuers in any particular industry (excluding the U.S.
Government and its agencies and instrumentalities).
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,
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.
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<PAGE> 59
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 Investment Company Act) in amounts up to 331/3% of its
total assets (including the amount borrowed), (ii) the Fund may 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 borrownings 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
transaction 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 proposed non-fundamental investment restrictions, the Fund
may not:
a. Purchase securities of other investment companies, except to
the extent such purchases are permitted by applicable law.
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 Directors of the Fund
has otherwise determined to be liquid pursuant to applicable law.
Notwithstanding the 15% limitation herein, to the extent the laws of any
state in which the Fund's shares are registered or qualified for sale
require a lower limitation, the Fund will observe such limitation. As of
the date hereof, therefore, the Fund will not invest more than 10% of its
total assets in securities which are subject to this investment
restriction (c).
d. Invest in warrants if, at the time of acquisition, its investments
in warrants, valued at the lower of cost or market value, would exceed 5%
of the Fund's net assets; included within such limitation, but not to
exceed 2% of the Fund's net assets, are warrants which are not listed on
the New York Stock Exchange or American Stock Exchange or a major foreign
exchange. For purposes of this restriction, warrants acquired by the Fund
in units or attached to securities may be deemed to be without value.
e. Invest in securities of companies having a record, together with
predecessors, of less than three years of continuous operation, if more
than 5% of the Fund's total assets would be invested in such securities.
This restriction shall not apply to mortgage-backed securities,
asset-backed securities or obligations issued or guaranteed by the U.S.
Government, its agencies or instrumentalities.
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<PAGE> 60
f. Purchase or retain the securities of any issuer, if those
individual officers and directors of the Fund, the officers and general
partner of the Investment Adviser, the directors of such general partner
or the officers and directors of any subsidiary thereof each owning
beneficially more than one-half of one percent of the securities of such
issuer own in the aggregate more than 5% of the securities of such
issuer.
g. Invest in real estate limited partnership interests or interests
in oil, gas or other mineral leases, or exploration or development
programs, except that the Fund may invest in securities issued by
companies that engage in oil, gas or other mineral exploration or
development activities.
h. Write, purchase or sell puts, calls, straddles, spreads or
combinations thereof, except to the extent permitted in the Fund's
Prospectus and Statement of Additional Information, as they may be
amended from time to time.
i. 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.
----------
Because of the affiliation of Merrill Lynch with the Fund, the Fund
is prohibited from engaging in certain transactions involving Merrill
Lynch except pursuant to a permissive order or otherwise in compliance
with the provisions of the 1940 Act and the rules and regulations
thereunder. Included among such restricted transactions are purchases
from or sales to Merrill Lynch or securities in transactions in which it
acts as principal and purchases of securities from underwriting
syndicates of which Merrill Lynch is a member.
MANAGEMENT OF THE TRUST
Trustees and Officers
The Trustees and executive officers of the Trust and their principal
occupations for at least the last five years are set forth below. Unless
otherwise noted, the address of each Trustee and executive officer is P.O.
Box 9011, Princeton, New Jersey 08543-9011.
ARTHUR ZEIKEL-President and Trustee(1)(2)-President and Chief Investment
Officer of the Manager (which term as used herein includes the Manager's
corporate predecessors) since 1977; President of MLAM (which term as used
herein includes MLAM's corporate predecessors) since 1977 and Chief
Investment Officer thereof since 1976; President and Director of Princeton
Services, Inc. ("Princeton Services") since 1993; Executive Vice President of
Merrill Lynch & Co., Inc. ("ML&Co.") since 1990; Executive Vice President of
Merrill Lynch since 1990 and Senior Vice President thereof from 1985 to 1990;
Director of Merrill Lynch Funds Distributor, Inc. ("MLFD" or the
"Distributor").
KENNETH S. AXELSON-Trustee(2)-75 Jameson Point Road, Rockland, Maine
04841. Executive Vice President and Director, J.C. Penney Company, Inc.
until 1982; Director, UNUM Corporation, Protection Mutual Insurance
Company, Zurn Industries, Inc. and, formerly of Central Maine Power
Company (until 1992); Key Trust Company of Maine (until 1992); and Grumman
Corporation (until 1994); Trustee, The Chicago Dock and Canal Trust.
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<PAGE> 61
HERBERT I. LONDON-Trustee(2)-New York University-Gallatin Division,
113-115 University Place, New York, New York 10003. John M. Olin, Professor
of Humanities, New York University since 1993 and Professor thereof since
1973; Dean, Gallatin Division of New York University from 1978 to 1993 and
Director from 1975 to 1976; Distinguished Fellow, Herman Kahn Chair, Hudson
Institute from 1984 to 1985; Trustee, Hudson Institute since 1980; Director,
Damon Corporation since 1991; Overseer, Center for Naval Analyses.
ROBERT R. MARTIN-Trustee(2)-513 Grand Hill, St. Paul, Minnesota 55102.
Chairman, UTC Industries, Inc. since 1994; 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; Trustee, Northland College since 1992.
JOSEPH L. MAY-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.
ANDRE F. PEROLD-Trustee(2)-Morgan Hall, Soldiers Field, Boston,
Massachusetts 02163. Professor, Harvard Business School and Associate
Professor from 1983 to 1989; Trustee, The Common Fund, since 1989;
Director, Quantec Limited since 1991 and Teknekron Software Systems since
1994.
TERRY K. GLENN-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 MLFD since 1986 and Director
thereof since 1991.
VINCENT R. GIORDANO-Vice President and Portfolio Manager(1)(2)- Portfolio
Manager of the Manager and MLAM since 1977 and Senior Vice President of the
Manager and MLAM since 1984; Vice President of MLAM from 1980 to 1984; Senior
Vice President of Princeton Services since 1993.
KENNETH A. JACOB-Vice President and Portfolio Manager(1)(2)-Vice
President of the Manager and MLAM since 1984.
DONALD C. BURKE-Vice President(1)(2)-Vice President and Director of
Taxation of MLAM since 1990; Employee of Deloitte & Touche LLP from 1982 to
1990.
GERALD M. RICHARD-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 MLFD since 1984 and Vice
President since 1981.
JERRY WEISS-Secretary(1)(2)-Vice President of MLAM since 1990; Attorney
in private practice from 1982 to 1990.
At September 30, 1994, the Trustees and officers of the Trust as a
group (12 persons) owned an aggregate of less than 1% of the outstanding
shares of Common Stock of ML&Co. and owned an aggregate of less than 1% of
the outstanding shares of the Fund.
----------
(1) Interested person, as defined in the 1940 Act, of the Trust.
(2) Such Trustee or officer is a director or officer of certain other
investment companies for which the Manager or MLAM acts as investment
adviser or manager.
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<PAGE> 62
The Trust pays each Trustee not affiliated with the Manager 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 Committee, which consists of
all the non-affiliated Trustees, a fee of $2,000 per year plus $500 per
meeting attended. Fees and expenses paid to the unaffiliated Trustees
aggregated $48 for the period May 6, 1994 (commencement of operations) to
July 31, 1994.
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 period May 6,
1994, the Fund's commencement of operations, to July 31, 1994, the Fund's
fiscal year end, the total advisory fees payable to the Manager aggregated
$18,228, all of which was voluntarily waived.
California imposes limitations on the expenses of the Fund. These annual
expense limitations require that the Manager reimburse the Fund in an amount
necessary to prevent the aggregate ordinary operating expenses (excluding
taxes, brokerage fees and commissions, distribution fees and extraordinary
charges such as litigation costs) from exceeding in any fiscal year 2.5% of
the Fund's first $30,000,000 of average net assets, 2.0% of the next
$70,000,000 of average net assets and 1.5% of the remaining average net
assets. The Manager's obligation to reimburse the Fund is limited to the
amount of the management fee. Expenses not covered by this limitation are
interest, taxes, brokerage commissions and other items such as extraordinary
legal expenses. No fee payment will be made to the Manager during any fiscal
year which will cause such expenses to exceed limitations at the time of such
payment. No fee reimbursements were made during the period May 6, 1994 (the
Fund's commencement of operations) to July 31, 1994 (the Fund's fiscal year
end) pursuant to these operating expense limitations.
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
compensation of all Trustees of the Trust who are affiliated persons of the
Manager or any of its subsidiaries. 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
18
<PAGE> 63
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 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 which 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 period May 6, 1994 (the Fund's commencement of operations) to July 31,
1994, the Fund paid the Manager $7,450 for accounting services, all of which
was voluntarily reimbursed by the Manager. 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 account maintenance and the distribution
of Class B shares will be financed by the Fund pursuant to the Distribution
Plan in compliance with Rule 12b-1 under the 1940 Act. See "Purchase of
Shares-Distribution Plan".
The Manager is a limited partnership, the partners of which are
ML&Co., Fund Asset Management, L.P. and Princeton Services, Inc.
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 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
class pursuant to which account maintenance and/or distribution fees are
paid. Each class has different exchange privileges. See "Shareholder
Services-Exchange Privilege".
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<PAGE> 64
The Merrill Lynch Select Pricing System is used by more than 50 mutual
funds advised by MLAM or its affiliate, the Manager. Funds advised by MLAM or
the Manager are referred to herein as "MLAM-advised mutual 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 Fund commenced the public offering of its Class A shares on May 6,
1994. The gross sales charges for the sale of Class A shares for the period
May 6, 1994, the Fund's commencement of operations, to July 31, 1994, the
Fund's fiscal year end, were approximately $175,473, of which the Distributor
received approximately $3,507 and Merrill Lynch received approximately
$171,666.
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 which 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 Investment Option. Class A shares of the Fund and other
MLAM-advised mutual 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 and wish to reinvest the net proceeds of a sale of their closed-end
fund shares of common stock in Eligible Class A or Class D shares, if the
conditions set forth below are satisified. 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 MLAM-advised mutual 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. Class A shares of the Fund are offered at net asset value to
shareholders of Merrill
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<PAGE> 65
Lynch Senior Floating Rate Fund, Inc. ("Senior Floating Rate Fund") who wish
to reinvest the net proceeds from a sale of certain of their shares of common
stock of Senior Floating Rate Fund in shares of the Fund. In order to
exercise this investment option, Senior Floating Rate Fund shareholders must
sell their Senior Floating Rate Fund shares to the Senior Floating Rate Fund
in connection with a tender offer conducted by the Senior Floating Rate Fund
and reinvest the proceeds immediately in the Fund. This investment option is
available only with respect to the proceeds of Senior Floating Rate Fund
shares as to which no Early Withdrawal Charge (as defined in the Senior
Floating Rate Fund prospectus) is applicable. Purchase orders from Senior
Floating Rate Fund shareholders wishing to exercise this investment option
will be accepted only on the day that the related Senior Floating Rate Fund
tender offer terminates and will be effected at the net asset value of the
Fund at 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 MLAM-advised
mutual 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 other MLAM-advised mutual 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 and Class D shares of the Fund and of other
MLAM-advised mutual 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,
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 five percent 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 five percent 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, but there will be no retroactive reduction of the sales charges
on any previous purchase. The value of
21
<PAGE> 66
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 a MLAM-advised
money market fund into the Fund that creates a sales charge will count toward
completing a new or existing Letter of Intention from the Fund.
TMA SM Managed Trusts. Class A shares are offered at net asset value to
TMA SM Managed Trusts to which Merrill Lynch Trust Company provides
discretionary trustee services.
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 will be offered at net asset value, without
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. 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 the net asset value,
without 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 such fund was 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 will be 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 such
shares of other mutual funds and that such shares have been outstanding for a
period of no less than six months. 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 which might result from an acquisition of assets having net
unrealized appreciation which 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 which (i) meet the investment
22
<PAGE> 67
objective 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 the 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 Plan" 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 fees 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 each 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 each
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 Rules of Fair Practice of the
National Association of Securities Dealers, Inc. ("NASD") imposes a
limitation on certain asset-based sales charges such as the distribution fee
and the contingent deferred sales charge ("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
23
<PAGE> 68
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,
1994 with respect to the Class B shares of the Fund indicating the maximum
allowable payments that can be made under the NASD maximum sales charge rule
and the Distributor's voluntary maximum for the period May 6, 1994
(commencement of the public offering of Class B shares) to July 31, 1994.
Since Class C shares of the Fund had not been publicly issued prior to the
date of this Statement of Additional Information, information concerning
Class C shares is not yet provided below.
<TABLE>
<CAPTION>
Data Calculated as of July 31, 1994
-------------------------------------------------------------------------------------------------
Annual
Distribution
Allowable Allowable Amounts Fee at
Eligible Aggregate Interest Maximum Previously Aggregate Current
Gross Sales on 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>
Under NASD Rule as Adopted.... $7,596,144 $474,760 $ 7,167 $481,927 $4,253 $477,674 $21,263
Under Distributor's Voluntary
Waiver...................... $7,596,164 $474,760 $37,981 $512,741 $4,253 $508,488 $21,263
</TABLE>
----------
(1) Purchase price of all eligible Class B shares sold since May 6, 1994
(commencement of public offering of Class B shares) 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 1.0%, as permitted under the
NASD Rule.
(3) Consists of CDSC payments, distribution fee payments and accruals. Of the
distribution fee payments made prior to July 6, 1993 under the Prior Plan
at the .50% rate, .25% of average daily net assets has been treated as a
distribution fee and .25% of average daily net assets has been deemed to
have been a service fee and not subject to the NASD maximum sales charge
rule.
(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 voluntary maximum or the NASD
maximum.
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 only for any period during which trading on the
New York Stock Exchange is restricted as determined by the Commission or such
Exchange 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.
24
<PAGE> 69
Deferred Sales Charges-Class B 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
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 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 period May 6, 1994, the Fund's
commencement of operations, to July 31, 1994, the Fund's fiscal year end, the
Distributor received no CDSCs.
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 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 period May 6, 1994, the Fund's
commencement of operations, to July 31, 1994, the Fund's fiscal year end, the
Fund engaged in no transactions pursuant to such order. Affiliated persons of
the Trust may serve as broker for the Fund in over-the-counter 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.
As a non-fundamental restriction, the Trust will prohibit the purchase or
retention by the Fund of the securities of any issuer if the officers,
directors or trustees of the Trust or the Manager owning beneficially more
than one-half of one per cent of the securities of an issuer together own
beneficially more than five per cent of the securities of that issuer. In
addition, under the 1940 Act, the Fund may not purchase securities during the
existence of any underwriting syndicate of which Merrill Lynch is a member
except pursuant to an exemptive order or rules adopted by the Commission.
Rule 10f-3 under the 1940 Act sets forth conditions under which the Fund may
purchase municipal bonds in such transactions. 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.
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.
25
<PAGE> 70
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 Rules of Fair Practice 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. While it is not possible to predict
turnover rates with any certainty, at present it is anticipated that the
Fund's annual portfolio turnover rate, under normal circumstances after the
Fund's portfolio is invested in accordance with its investment objective,
will be less than 100%. (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 period May 6, 1994 (the commencement of operations) to July 31, 1994 was
16.06%.
Section 11(a) of the Securities 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 which 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
The net asset value of the Fund is determined by the Manager once daily,
Monday through Friday, as of 4:15 P.M., New York City time, on each day
during which the New York Stock Exchange is open for trading. The New York
Stock Exchange is not open on New Year's 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 minus all
liabilities by the total number of shares outstanding at such time, rounded
to the nearest cent. Expenses, including the fees payable to the Manager and
any account maintenance and/or distribution fees, are accrued daily. The per
share net asset value of the Class B, Class C and Class D shares generally
will be lower than the per share net asset value of the Class A shares
reflecting the higher daily expense accruals of the account maintenance;
distribution and higher transfer agency fees applicable with respect to the
Class B and Class C shares and the daily expense accruals of the account
maintenance fees applicable with respect to the Class D shares; moreover the
per share net asset value of the Class B and Class C shares generally will be
lower than the per share net asset value of its Class D shares reflecting the
daily expense accruals of the distribution fees and higher transfer agency
fees applicable with respect to the Class B and Class C shares of the Fund.
Even under those circumstances, the per share net asset value of the four
classes will tend to converge immediately after the payment of dividends,
which will differ by approximately the amount of the expense accrual
differential between the classes.
26
<PAGE> 71
The Municipal Bonds, and other portfolio securities in which the Fund
invests are traded primarily in over-the-counter municipal bond and money
markets and are valued at the last available bid price in the
over-the-counter 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 and copies of the various plans described below 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 showing any reinvestment of dividends and capital gain
distributions activity in the account since the preceding statement.
Shareholders also will receive separate confirmations for each purchase or
sale transaction other than reinvestment of ordinary income dividends and
long-term capital gains distributions. 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 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. A shareholder
may make additions to his 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.
Automatic Investment Plans
A 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
27
<PAGE> 72
Transfer Agent, acting as agent for such securities dealers. Voluntary
accumulation also can be made through a service known as the Fund's 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. Alternatively, investors who
maintain CMA(Reg) accounts may arrange to have periodic investments made in
the Fund in their CMA(Reg) account or in certain related accounts in amounts
of $100 or more through the CMA(Reg) Automated Investment Program.
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 reinvested automatically 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. Cash payments can
also be directly deposited to the shareholder's bank account.
Shareholders may, at any time, notify the Transfer Agent in writing or by
telephone (1-800-MER-FUND) 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-Class A and Class D Shares
A Class A or Class D shareholder may elect to make systematic withdrawals
from an Investment Account on either a monthly or quarterly basis as provided
below. Quarterly withdrawals are available for shareholders who have acquired
Class A or Class D 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 Class A or Class D shares with such a value
of $10,000 or more.
At the time of each withdrawal payment, sufficient Class A or Class D
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 either a dollar amount or a percentage of the value of his Class
A or Class D shares. Redemptions will be made at net asset value as
determined at the normal close of business on the New York Stock Exchange
(currently 4:00 P.M., New York City time) on the 24th day of each month or
the 24th day of the last month of each quarter, whichever is applicable. If
the Exchange is not open for business on such date, the Class A or Class D
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 Class A or Class D shares in the
Investment Account are reinvested automatically in the Fund's Class A or
Class D shares, respectively. 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. 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 Class A or Class D 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
Class A or Class D shares of the Fund from investors who
28
<PAGE> 73
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.
A Class A or Class D shareholder whose shares are held within a CMA(Reg)
or CBA(Reg) Account may elect to have shares redeemed on a monthly,
bimonthly, quarterly, semiannual or annual basis through the Systematic
Redemption Program. The minimum fixed dollar amount redeemable is $25. The
proceeds of systematic redemptions will be posted to the shareholder's
account five business days after the date the shares are redeemed. Monthly
systematic redemptions will be made at net asset value on the first Monday of
each month, bimonthly systematic redemptions will be made at net asset value
on the first Monday of every other month, and quarterly, semiannual or annual
redemptions are made at net asset value on the first Monday of months
selected at the shareholder's option. If the first Monday of the month is a
holiday, the redemption will be processed at net asset value on the next
business day. The Systematic Redemption Program is not available if Company
shares are being purchased within the account pursuant to the Automatic
Investment Program. For more information on the Systematic Redemption
Program, eligible shareholders should contact their Financial Consultant.
Exchange Privilege
Shareholders of each class of shares of the Fund have an exchange
privilege with certain other MLAM-advised mutual funds listed below. Under
the Merrill Lynch Select Pricing 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 his
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 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. Class B, Class C and Class D shares will be
exchangeable with shares of the same class of other MLAM-advised mutual
funds. 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 of
the newly acquired shares of the other fund as more fully described below.
Class A, Class B, Class C and Class D shares also will be exchangeable for
shares of certain MLAM-advised money market funds specifically designated
below as available for exchange by holders of Class A, Class B, Class C or
Class D shares. 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 15 days. It is contemplated that
the exchange privilege may be applicable to other new mutual funds whose
shares may be distributed by the Distributor.
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 MLAM-advised
mutual fund ("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
29
<PAGE> 74
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 and
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 of the other funds or into shares of the Class A and
Class D money market funds without a sales charge.
In addition, each of the funds with Class B and Class C shares
outstanding ("outstanding Class B and Class C shares") offers to exchange its
Class B or Class C shares for Class B or Class C shares, respectively, of
another MLAM-advised mutual fund ("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 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 sales load 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 shares of the Fund for those of Merrill Lynch Special Value Fund
("Special Value Fund") after having held the Fund's Class B shares for two
and a half years. The 2% sales load 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 Merrill Lynch 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 the Fund's 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 new Class B shares for more than
five years.
Shareholders also may exchange shares of the Fund into shares of a money
market fund advised by the Manager or its affiliates, but the period of time
that Class B or Class C shares are held in a Class B money market fund will
not count towards satisfaction of the holding period requirement for purposes
of reducing the CDSC or, with respect to Class B shares, towards satisfaction
of the conversion period. However, shares of a money market fund which were
acquired as a result of an exchange for Class B or Class C shares of a fund
may, in turn, be exchanged back into Class B or Class C shares, respectively,
of any fund offering such shares, in which event the holding period for Class
B or Class C shares of the Fund will be aggregated with previous holding
periods for purposes of reducing the CDSC. Thus, for example, an investor may
exchange Class B shares of the Fund for shares of Merrill Lynch Institutional
Fund ("Institutional Fund") after having held the Fund Class B shares for two
and a half years and three years later decide to redeem the shares of
Institutional Fund for cash. At the time of this redemption, the 2% CDSC that
would have been due had the Class B shares of the Fund been redeemed for cash
rather than exchanged for shares of Institutional Fund will be payable. If,
instead of such redemption the shareholder exchanged such shares for Class B
shares of a fund which the shareholder continues to hold for an additional
two and a half years, any subsequent redemption will not incur a CDSC.
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Set forth below is a description of the investment objectives of the
other funds into which exchanges can be made:
Funds Issuing Class A, Class B, Class C and Class D Shares:
MERRILL LYNCH ADJUSTABLE
RATE SECURITIES FUND, INC.. High current income
consistent with a policy of limiting the
degree of fluctuation in net asset value
of fund shares resulting from movements in
interest rates through investment
primarily in a portfolio of adjustable
rate securities.
MERRILL LYNCH AMERICAS
INCOME FUND, INC. ......... A high level of current income, consistent
with prudent investment risk, by
investing primarily in debt securities
denominated in a currency of a country
located in the Western Hemisphere (i.e.,
North and South America and the
surrounding waters).
MERRILL LYNCH ARIZONA
LIMITED MATURITY MUNICIPAL
BOND FUND ................. A portfolio of Merrill Lynch Multi-State
Limited Maturity Municipal Series Trust,
a series fund, whose objective is to
provide as high a level of income exempt
from Federal and Arizona income taxes as
is consistent with prudent investment
management through investment in a
portfolio primarily of intermediate-term
investment grade Arizona Municipal Bonds.
MERRILL LYNCH ARIZONA
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
Arizona income taxes as is consistent
with prudent investment management.
MERRILL LYNCH ARKANSAS
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series Fund,
whose objective is to provide as high a
level of income exempt from Federal and
Arkansas income taxes as is consistent
with prudent investment management.
MERRILL LYNCH ASSET GROWTH
FUND, INC. ................ High total investment return, consistent
with prudent risk from investment in
United States and foreign equity, debt
and money market securities the
combination of which will be varied both
with respect to types of securities and
markets in response to changing market
and economic trends.
MERRILL LYNCH ASSET INCOME
FUND, INC. ................ A high level of current income through
investment primarily in United States
fixed income securities.
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MERRILL LYNCH BALANCED FUND
FOR INVESTMENT AND
RETIREMENT................. As high a level of total investment return
as is consistent with relatively low
level of risk through investing in common
stocks and other types of securities,
including fixed income securities and
convertible securities.
MERRILL LYNCH BASIC VALUE
FUND, INC. ................ Capital appreciation and, secondarily,
income through investment in securities,
primarily equities, that are undervalued
and therefore represent basic investment
value.
MERRILL LYNCH CALIFORNIA
INSURED MUNICIPAL BOND
FUND ...................... A portfolio of Merrill Lynch California
Municipal Series Trust, a series fund
whose objective is to provide as high a
level of income exempt from Federal and
California income taxes as is consistent
with prudent investment management
through investment in a portfolio
primarily of insured California Municipal
Bonds.
MERRILL LYNCH CALIFORNIA
LIMITED MATURITY MUNICIPAL
BOND FUND ................. A portfolio of Merrill Lynch Multi-State
Limited Maturity Municipal Series Trust,
a series fund, whose objective is to
provide as high a level of income exempt
from Federal and California income taxes
as is consistent with prudent investment
management through investment in a
portfolio primarily of intermediate-term
investment grade California Municipal
Bonds.
MERRILL LYNCH CALIFORNIA
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch California
Municipal Series Trust, a series fund,
whose objective is to provide with as
high a level of income exempt from
Federal and California income taxes as is
consistent with prudent investment
management.
MERRILL LYNCH CAPITAL
FUND, INC.................. The highest total investment return
consistent with prudent risk through a
fully managed investment policy utilizing
equity, debt and convertible securities.
MERRILL LYNCH COLORADO
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
Colorado income taxes as is consistent
with prudent investment management.
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MERRILL LYNCH CONNECTICUT
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Limited Municipal Series Trust, a series
fund, whose objective is to provide as
high a level of income exempt from
Federal and Connecticut income taxes as
is consistent with prudent investment
management.
MERRILL LYNCH CORPORATE
BOND FUND, INC. ........... Current income from three separate
diversified portfolios of fixed income
securities.
MERRILL LYNCH DEVELOPING
CAPITAL MARKETS FUND, INC. Long-term appreciation through investment
in securities, principally equities, of
issuers in countries having smaller
capital markets.
MERRILL LYNCH DRAGON
FUND, INC.................. Capital appreciation primarily through
investment in equity and debt securities
of issuers domiciled in developing
countries located in Asia and the Pacific
Basin.
MERRILL LYNCH EUROFUND....... Capital appreciation primarily through
investment in equity securities of
corporations domiciled in Europe.
MERRILL LYNCH FEDERAL
SECURITIES TRUST........... High current return through investments in
U.S. Government and Government agency
securities, including GNMA mortgage-
backed certificates and other
mortgage-backed Government securities.
MERRILL LYNCH FLORIDA
LIMITED MATURITY MUNICIPAL
BOND FUND ................. A portfolio of Merrill Lynch Multi-State
Limited Maturity Municipal Series Trust,
a series fund, whose objective is to
provide as high a level of income exempt
from Federal income taxes as is
consistent with prudent investment
management while seeking to offer
shareholders the opportunity to own
securities exempt from Florida intangible
personal property taxes through
investment in a portfolio primarily of
intermediate-term investment grade
Florida Municipal Bonds.
MERRILL LYNCH FLORIDA
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal
income taxes as is consistent with
prudent investment management while
seeking to offer shareholders the
opportunity to own securities exempt from
Florida intangible personal property
taxes.
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MERRILL LYNCH FUND FOR
TOMORROW, INC. ............ Long-term growth through investment in a
portfolio of good quality securities,
primarily common stock, potentially
positioned to benefit from demographic
and cultural changes as they affect
consumer markets.
MERRILL LYNCH FUNDAMENTAL
GROWTH FUND, INC. ......... Long-term growth through investment in a
diversified portfolio of equity
securities placing particular emphasis on
companies that have exhibited
above-average growth rates in earnings.
MERRILL LYNCH GLOBAL
ALLOCATION FUND, INC. ..... High total investment return, consistent
with prudent risk, through a fully
managed investment policy utilizing
United States and foreign equity, debt
and money market securities, the
combination of which will be varied from
time to time both with respect to the
types of securities and markets in
response to changing market and economic
trends.
MERRILL LYNCH GLOBAL BOND
FUND FOR INVESTMENT AND
RETIREMENT ................ High total investment return from
investment in government and corporate
bonds denominated in various currencies
and multi-national currency units.
MERRILL LYNCH GLOBAL
CONVERTIBLE FUND, INC. .... High total return from investment primarily
in an internationally diversified
portfolio of convertible debt securities,
convertible preferred stock and
"synthetic" convertible securities
consisting of a combination of debt
securities or preferred stock and
warrants or options.
MERRILL LYNCH GLOBAL
HOLDINGS, INC. (residents
of Arizona must meet
investor suitability The highest total investment return
standards) ................ consistent with prudent risk through
worldwide investment in an
internationally diversified portfolio of
securities.
MERRILL LYNCH GLOBAL
RESOURCES TRUST ........... Long-term growth and protection of capital
from investment in securities of domestic
and foreign companies that possess
substantial natural resource assets.
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MERRILL LYNCH GLOBAL SMALLCAP
FUND, INC.................. Long-term growth of capital by investing
primarily in equity securities of
companies with relatively small market
capitalizations located in various
foreign countries and in the United
States.
MERRILL LYNCH GLOBAL UTILITY
FUND, INC. ................ Capital appreciation and current income
through investment of at least 65% of its
total assets in equity and debt
securities issued by domestic and foreign
companies which are primarily engaged in
the ownership or operation of facilities
used to generate, transmit or distribute
electricity, telecommunications, gas or
water.
MERRILL LYNCH GROWTH FUND
FOR INVESTMENT AND
RETIREMENT ................ Growth of capital and, secondarily, income
from investment in a diversified
portfolio of equity securities placing
principal emphasis on those securities
which management of the fund believes to
be undervalued.
MERRILL LYNCH HEALTHCARE
FUND, INC. (residents of
Wisconsin must meet
investor suitability
standards) ................ Capital appreciation through worldwide
investment in equity securities of
companies that derive or are expected to
derive a substantial portion of their
sales from products and services in
healthcare.
MERRILL LYNCH INTERNATIONAL
EQUITY FUND ............... Capital appreciation and, secondarily,
income by investing in a diversified
portfolio of equity securities of issuers
located in countries other than the
United States.
MERRILL LYNCH LATIN AMERICA
FUND, INC. ................ Capital appreciation by investing primarily
in Latin American equity and debt
securities.
MERRILL LYNCH MARYLAND
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
Maryland income taxes as is consistent
with prudent investment management.
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MERRILL LYNCH MASSACHUSETTS
LIMITED MATURITY MUNICIPAL
BOND FUND ................. A portfolio of Merrill Lynch Multi-State
Limited Maturity Municipal Series Trust,
a series fund, whose objective is to
provide as high a level of income exempt
from Federal and Massachusetts income
taxes as is consistent with prudent
investment management through investment
in a portfolio primarily of
intermediate-term investment grade
Massachusetts Municipal Bonds.
MERRILL LYNCH MASSACHUSETTS
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
Massachusetts income taxes as is
consistent with prudent investment
management.
MERRILL LYNCH MICHIGAN
LIMITED MATURITY MUNICIPAL
BOND FUND ................. A portfolio of Merrill Lynch Multi-State
Limited Maturity Municipal Series Trust,
a series fund, whose objective is to
provide as high a level of income exempt
from Federal and Michigan income taxes as
is consistent with prudent investment
management through investment in a
portfolio primarily of intermediate-term
investment grade Michigan Municipal
Bonds.
MERRILL LYNCH MICHIGAN
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
Michigan income taxes as is consistent
with prudent investment management.
MERRILL LYNCH MINNESOTA
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
Minnesota personal income taxes as is
consistent with prudent investment
management.
MERRILL LYNCH MUNICIPAL BOND
FUND, INC. ................ Tax-exempt income from three separate
diversified portfolios of municipal
bonds.
MERRILL LYNCH MUNICIPAL
INTERMEDIATE TERM FUND..... Currently the only portfolio of Merrill
Lynch Municipal Series Trust, a series
fund, whose objective is to provide as
high a level as possible of income exempt
from Federal income taxes by investing in
investment grade obligations with a
dollar weighted average maturity of five
to twelve years.
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<PAGE> 81
MERRILL LYNCH NEW JERSEY
LIMITED MATURITY MUNICIPAL
BOND FUND ................. A portfolio of Merrill Lynch Multi-State
Limited Maturity Municipal Series Trust,
a series fund, whose objective is to
provide as high a level of income exempt
from Federal and New Jersey income taxes
as is consistent with prudent investment
management through a portfolio primarily
of intermediate-term investment grade New
Jersey Municipal Bonds.
MERRILL LYNCH NEW JERSEY
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
New Jersey income taxes as is consistent
with prudent investment management.
MERRILL LYNCH NEW YORK
LIMITED MATURITY MUNICIPAL
BOND FUND ................. A portfolio of Merrill Lynch Multi-State
Limited Maturity Municipal Series Trust,
a series fund, whose objective is to
provide as high a level of income exempt
from Federal, New York State and New York
City income taxes as is consistent with
prudent investment management through
investment in a portfolio primarily of
intermediate-term investment grade New
York Municipal Bonds.
MERRILL LYNCH NEW YORK
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal, New
York State and New York City income taxes
as is consistent with prudent investment
management.
MERRILL LYNCH NORTH CAROLINA
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
North Carolina income taxes as is
consistent with prudent investment
management.
MERRILL LYNCH OHIO MUNICIPAL
BOND FUND ................. A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
Ohio income taxes as is consistent with
prudent investment management.
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<PAGE> 82
MERRILL LYNCH OREGON
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
Oregon income taxes as is consistent with
prudent investment management.
MERRILL LYNCH PACIFIC FUND,
INC. ...................... Capital appreciation by investing in equity
securities of corporations domiciled in
Far Eastern and Western Pacific countries,
including Japan, Australia, Hong Kong and
Singapore.
MERRILL LYNCH PENNSYLVANIA
LIMITED MATURITY MUNICIPAL A portfolio of Merrill Lynch Multi-State
BOND FUND ................. Limited Maturity Municipal Series Trust,
a series fund, whose objective is to
provide as high a level of income exempt
from Federal and Pennsylvania income taxes
as is consistent with prudent investment
management through investment in a
portfolio of intermediate-term investment
grade Pennsylvania Municipal Bonds.
MERRILL LYNCH PENNSYLVANIA
MUNICIPAL BOND FUND ....... A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal and
Pennsylvania personal income taxes as is
consistent with prudent investment
management.
MERRILL LYNCH PHOENIX FUND,
INC. ...................... Long-term growth of capital by investing in
equity and fixed income securities,
including tax-exempt securities, of
issuers in weak financial condition or
experiencing poor operating results
believed to be undervalued relative to
the current or prospective condition of
such issuer.
MERRILL LYNCH SHORT-TERM
GLOBAL INCOME FUND, INC.... As high a level of current income as is
consistent with prudent investment
management from a global portfolio of
high quality debt securities denominated
in various currencies and multinational
currency units and having remaining
maturities not exceeding three years.
MERRILL LYNCH SPECIAL VALUE
FUND, INC. ................ Long-term growth of capital from
investments in securities, primarily
common stock, of relatively small
companies believed to have special
investment value and emerging growth
companies regardless of size.
MERRILL LYNCH STRATEGIC
DIVIDEND FUND ............. Long-term total return from investment in
dividend paying common stocks which yield
more than Standard & Poor's 500 Composite
Stock Price Index.
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MERRILL LYNCH TECHNOLOGY
FUND, INC.. . ............. Capital appreciation through worldwide
investment in equity securities of
companies that derive or are expected to
derive a substantial portion of their
sales from products and services in
technology.
MERRILL LYNCH TEXAS MUNICIPAL
BOND FUND ................. A portfolio of Merrill Lynch Multi-State
Municipal Series Trust, a series fund,
whose objective is to provide as high a
level of income exempt from Federal
income taxes as is consistent with
prudent investment management by
investing primarily in a portfolio of
long-term, investment grade obligations
issued by the State of Texas, its
political subdivisions, agencies and
instrumentalities.
MERRILL LYNCH UTILITY INCOME
FUND, INC. ................ High current income through investment in
equity and debt securities issued by
companies which are primarily engaged in
the ownership or operation of facilities
used to generate, transmit or distribute
electricity, telecommunications, gas or
water.
MERRILL LYNCH WORLD INCOME
FUND, INC. ................ High current income by investing in a
global portfolio of fixed income
securities denominated in various
currencies, including multinational
currencies units.
Class A Share Money Market Funds:
MERRILL LYNCH READY ASSETS
TRUST ..................... Preservation of capital, liquidity and the
highest possible current income
consistent with the foregoing objectives
from the short-term money market
securities in which the Trust invests.
MERRILL LYNCH RETIREMENT
RESERVES MONEY FUND
(available only if the
exchange occurs within
certain retirement plans) . Currently the only portfolio of Merrill
Lynch Retirement Series Trust, a series
fund, whose objectives are current
income, preservation of capital and
liquidity available from investing in a
diversified portfolio of short-term money
market securities.
MERRILL LYNCH U.S.A.
GOVERNMENT RESERVES ....... Preservation of capital, current income and
liquidity available from investing in
direct obligations of the U.S. Government
and repurchase agreements relating to
such securities.
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<PAGE> 84
MERRILL LYNCH U.S. TREASURY
MONEY FUND ................ Preservation of capital, liquidity and
current income through investment
exclusively in a diversified portfolio of
short-term marketable securities which
are direct obligations of the U.S.
Treasury.
Class B, Class C and Class D Share Money Market Funds:
MERRILL LYNCH GOVERNMENT
FUND....................... A portfolio of Merrill Lynch Funds For
Institutions Series, a series fund, whose
objective is to provide current income
consistent with liquidity and security of
principal from investment in securities
issued or guaranteed by the U.S.
Government, its agencies and
instrumentalities and in repurchase
agreements secured by such obligations.
MERRILL LYNCH INSTITUTIONAL
FUND....................... A portfolio of Merrill Lynch Funds For
Institutions Series, a series fund, whose
objective is to provide maximum current
income consistent with liquidity and the
maintenance of a high quality portfolio
of money market securities.
MERRILL LYNCH INSTITUTIONAL
TAX-EXEMPT FUND ........... A portfolio of Merrill Lynch Funds for
Institutions Series, a series Fund, whose
object is to provide current income
exempt from Federal income taxes,
preservation of capital and liquidity
available from investing in a diversified
portfolio of short-term, high quality
municipal bonds.
MERRILL LYNCH TREASURY FUND.. A portfolio of Merrill Lynch Funds For
Institutions Series, a series fund, whose
objective is to provide current income
consistent with liquidity and security of
principal from investment in direct
obligations of the U.S. Treasury and up
to 10% of its total assets in repurchase
agreements secured by such obligations.
Before effecting an exchange, shareholders should obtain a currently
effective prospectus of the fund into which the exchange is to be made.
To exercise the exchange privilege, shareholders should contact their
Merrill Lynch financial consultant, who will advise the Fund of the exchange.
Shareholders of the Fund, and shareholders of the other funds described above
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 at any time 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.
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DISTRIBUTIONS AND TAXES
The Trust intends to continue to qualify the Fund for the special tax
treatment afforded regulated investment companies ("RICs") under the Internal
Revenue Code of 1986, as amended (the "Code"). If it so qualifies, in any
taxable year in which it distributes at least 90% of its taxable net income
and 90% of its tax-exempt net income (see below), 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.
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. The Trust anticipates that
it will make sufficient timely distributions of taxable income of the Fund to
avoid imposition of the excise tax on the Fund.
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 the Fund's 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
which 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's exemptive order 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 benefits 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 or New Mexico income tax purposes to the extent attributable to
exempt-interest dividends. Shareholders are advised to consult their tax
advisers with respect to whether exempt-interest dividends retain the
exclusion under Code Section 103(a) if a shareholder would be
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<PAGE> 86
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 paid from interest
received by the Fund from New Mexico Municipal Bonds will be exempt from New
Mexico personal and corporate income taxes. Shareholders subject to income
taxation in states other than New Mexico will realize a lower after-tax rate
of return than New Mexico shareholders since the dividends distributed by the
Fund generally will not be exempt, to any significant degree, from income
taxation by such other states. The Trust will inform shareholders annually
regarding the portion of the Fund's distributions which constitutes
exempt-interest dividends and the portion which is exempt from New Mexico
income taxes. The Trust will allocate exempt-interest dividends among Class
A, Class B, Class C and Class D shareholders for New Mexico income tax
purposes based on a method similar to that described above for Federal income
tax purposes.
Shares of the Fund will not be subject to the New Mexico personal
property tax.
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 ordinary income for Federal and New Mexico
income tax purposes. Such distributions are not eligible for the dividends
received deduction for corporations. Distributions, if any, of net long-term
capital gains 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 New Mexico income tax
purposes, are treated as capital gains which are taxed at ordinary income
rates. Under the Revenue Reconciliation Act of 1993, 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, however, will be
treated as long-term capital loss to the extent of capital gain dividends
received by the shareholder. In addition, such loss will be disallowed to the
extent of any exempt-interest 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 "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 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
42
<PAGE> 87
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.
The Revenue Reconciliation Act of 1993 has added new marginal tax
brackets of 36% and 39.6% for individuals and has created a graduated
structure of 26% and 28% for the alternative minimum tax applicable to
individual taxpayers. These rate increases may affect an individual
investor's after-tax return from an investment in the Fund as compared with
such investor's return from taxable investments.
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 the sales
charge paid to the Fund 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 provisions of the Code, 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.
Ordinary income dividends paid by the Fund to shareholders who are
nonresident aliens or foreign entities will be subject to a 30% United States
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 advisers concerning the
applicability of the United States withholding tax.
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.
Environmental Tax
The Code imposes a deductible tax (the "Environmental Tax") on a
corporation's modified alternative minimum taxable income (computed without
regard to the alternative tax net operating loss deduction and the deduction
for the Environmental Tax) at a rate of $12 per $10,000 (0.12%) of
alternative minimum taxable
43
<PAGE> 88
income in excess of $2,000,000. The Environmental Tax is imposed for taxable
years beginning after December 31, 1986, and before January 1, 1996. The
Environmental Tax is imposed even if the corporation is not required to pay
an alternative minimum tax because the corporation's regular income tax
liability exceeds its minimum tax liability. The Code provides, however, that
a RIC, such as the Fund, is not subject to the Environmental Tax. However,
exempt-interest dividends paid by the Fund that create alternative minimum
taxable income for corporate shareholders under the Code (as described above)
may subject corporate shareholders of the Fund to the Environmental Tax.
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.
Code Section 1092, which applies to certain "straddles," may affect the
taxation of the Fund's 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 closing
transactions in financial futures contracts or the related options.
One of the requirements for qualification as a RIC is that less than 30%
of the Fund's gross income be derived from gains from the sale or other
disposition of securities held for less than three months. Accordingly, the
Fund may be restricted in effecting closing transactions within three months
after entering into an option or financial futures contract.
----------
The foregoing is a general and abbreviated summary of the applicable
provisions of the Code, Treasury regulations and New Mexico 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 New Mexico tax laws. The Code and the Treasury
regulations, as well as the New Mexico tax laws, are subject to change by
legislative or administrative action either prospectively or retroactively.
Shareholders are urged to consult their own tax advisers regarding the
availability of any exemptions from state or local taxes (other than those
imposed by New Mexico) and with specific questions as to Federal, state,
local or foreign taxes.
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. Total return and yield and tax-equivalent yield figures are
based on the Fund's historical performance and
44
<PAGE> 89
are not intended to indicate future performance. Average annual total return
and 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.
Set forth below is total return, yield and tax-equivalent yield
information for the Class A and Class B shares of the Fund for the period
indicated. Since Class B and Class C shares have not been issued prior to the
date of this Statement of Additional Information, performance information
concerning Class C and Class D shares is not yet provided.
<TABLE>
<CAPTION>
Class A Shares Class B Shares
--------------------------------------- ----------------------------------------
Expressed as Redeemable Value Expressed as Redeemable Value
a percentage of a hypothetical a percentage of a hypothetical
based on a $1,000 investment based on a $1,000 investment
hypothetical at the end of hypothetical at the end of
Period $1,000 investment the period $1,000 investment the period
------ ----------------- ----------------- ----------------- ------------------
<S> <C> <C> <C> <C>
Average Annual Total Return (including maximum applicable sales charge)
May 6, 1994 (Inception)
to July 31, 1994...... -1.65% $ 996.10 -1.50% $ 996.40
Annual Total Return (excluding maximum applicable sales charges)
May 6, 1994 (Inception)
to July 31, 1994...... 3.76% $1,037.60 3.64% $1,036.40
Aggregate Total Return (including maximum applicable sales charges)
May 6, 1994 (Inception)
to July 31, 1994...... -0.39% $ 996.10 -0.36% $ 996.40
30 days ended July 31,
1994.................. 5.14% Yield 4.86%
30 days ended July 31,
1994.................. 7.14% Tax-Equivalent Yield* 6.75%
<FN>
- ----------
*Based on a Federal income tax rate of 28%.
</TABLE>
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<PAGE> 90
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 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 charge or the waiver of sales charges, a lower amount of expenses is
deducted.
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 Massachusetts 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 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
an interest in the same assets of the Fund and are identical in all respects
except that the Class B, Class C and Class D shares bear certain expenses
related to the account maintenance and/or distribution of such shares and
have exclusive voting rights with respect to matters relating to such account
maintenance and/or distribution expenditures. The Trust has received an order
(the "Order") from the Commission permitting the issuance and sale of
multiple classes of shares. The Order permits the Trust to issue additional
classes of shares of any Series if the Board of Trustees deems such issuance
to be in the best interests of the Trust. The Board of Trustees of the Trust
may classify and reclassify the shares of any Series into additional 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 will have
exclusive voting rights with respect to matters relating to the account
maintenance and/or distribution expenses being borne solely by such class.
Each issued and outstanding share is entitled to one vote and to participate
equally in dividends and distributions declared by the Fund and in the net
assets of such Series upon liquidation or dissolution remaining after
satisfaction of outstanding liabilities, except that, as noted above,
expenses related to the account maintenance and/or distribution of the Class
C and Class D shares will be borne solely by such 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 sharehold-
46
<PAGE> 91
ers, 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 are 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 without the affirmative
vote of a majority of the outstanding shares of the Trust.
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. The organizational
expenses of the Fund (estimated at approximately $49,600) will be paid by the
Fund and amortized over a period not exceeding five years. The proceeds
realized by the Manager (or any subsequent holder) upon the redemption of any
of the shares initially purchased by it will be reduced by the proportionate
amount of unamortized organizational expenses which the number of shares
redeemed bears to the number of shares initially purchased. Such
organizational expenses include certain of the initial organizational
expenses of the Trust which have been allocated to the Fund by the Trustees.
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 and
Class B shares of the Fund based on the Fund's net assets and number of
shares outstanding on July 31, 1994 is calculated as set forth below.
Information is not provided for Class C and Class D shares since no Class C
or Class D shares were publicly offered prior to the date of this Statement
of Additional Information.
<TABLE>
<CAPTION>
Class A Class B
------- -------
<S> <C> <C>
Net Assets ............................................................... $8,166,242 $8,505,323
========== ==========
Number of Shares Outstanding ............................................. 797,248 830,341
========== ==========
Net Asset Value Per Share (net assets divided by number of shares
outstanding) ........................................................... $ 10.24 $ 10.24
Sales Charge (for Class A shares: 4.00% of offering price (4.17% of net
asset value per share))* ............................................... .43 **
---------- ----------
Offering Price ........................................................... $ 10.67 $ 10.24
========== ==========
</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.
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<PAGE> 92
Independent Auditors
Deloitte & Touche LLP, 117 Campus Drive, Princeton, New Jersey
08540-6400, has been selected as the independent auditors of the Fund. The
selection of independent auditors is subject to ratification by the
shareholders of the Fund. 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, One World Trade Center, New York, New York 10048-0557, is
counsel for the Trust.
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 Commission,
Washington, D.C., under the Securities Act of 1933 and the Investment Company
Act of 1940, 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 September 30, 1994.
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<PAGE> 93
APPENDIX I
ECONOMIC AND FINANCIAL INFORMATION CONCERNING NEW MEXICO
The information set forth below is derived generally from official
statements prepared in connection with the issuance of municipal bonds in New
Mexico and other sources that are generally available to investors. However,
statements such as the City of Albuquerque's "Annual Information Statement in
connection with Bonds & Notes of the City" are annual and therefore remain
unchanged since the last economic and financial information described by the
Manager. The information is provided as general information intended to give
a recent historical description and is not intended to indicate future or
continuing trends affecting the financial or other positions of the State of
New Mexico (the "State"). The Trust has not independently verified this
information.
The State, admitted as the forty-seventh state on January 6, 1912, is the
fifth largest state, containing approximately 121,365 square miles. The
State's terrain varies widely and incorporates six of the seven life zones
between its northern mountains and its arid southern plains.
The State's climate is characterized by sunshine and warm bright skies in
both winter and summer. Every part of the state receives no less than 70%
sunshine year-round. Humidities range from 60% (mornings) to 30%
(afternoons). Evenings are crisp and cool in all seasons because of low
humidity.
The State has a semiarid subtropical climate with light precipitation.
Thunderstorms in July and August bring most of the moisture. December to
March snowfalls vary from 2 inches (lower Rio Grande Valley) to 300 inches
(north central mountains). The State is an experience in comfortable living
with its clean air, blue skies, and fair weather.
PRINCIPAL ECONOMIC ACTIVITIES
According to reports of the Bureau of Business and Economic Research of
the University of New Mexico ("BBER") through June 1994 and covering reports
of economic results for 1993 and the first quarter of 1994, New Mexico's
economy performed exceptionally well in 1993, with diversified growth by
sector and region throughout the State. A net 22,400 jobs were added.
Personal income growth was up strongly. The rate of increase was the fourth
highest rate in the country. However, New Mexico still ranks very low with
respect to per capita income. New Mexico's job growth in 1993 was among the
top ten rates of growth in the country; for the first quarter of 1994, the
increase over the first quarter of 1993 was 4.2 percent, the largest
quarterly increase in almost ten years. This performance is due to unique
factors and the absence in New Mexico of certain key impediments to growth
which have impacted other states. New Mexico is becoming less dependent on
defense spending, having made efforts to convert away from military
technology. The State has so far escaped any major defense cuts. In fact,
U.S. Air Force facilities are expanding and Sandia National Laboratories
has gained additional funds for arms control and energy research.
Job losses in defense related activities which have occurred have been
fairly minor from an overall state perspective.
Even though government is still the major employer in the State, it is
becoming less so. According to Gerry Bradley, economic analyst for the New
Mexico Department of Labor, New Mexico's financial strength is now led by
construction and manufacturing. These industries replace energy, the sector
which powered New Mexico's growth in the 1970s and early 1980s. While the
government sector has declined in importance as a direct employer, it still
accounts for 20% of the Albuquerque MSA's total nonagricultural employment.
(As of 1993,
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<PAGE> 94
the Albuquerque Metropolitan Statistical Area ("MSA") was redefined to
include Sandoval County, the location of Rio Rancho, as well as Valencia
County). Not included in this calculation are the 7,500 jobs at Sandia
National Laboratories and about 6,200 military jobs at Kirtland Air Force
Base. The University of New Mexico ("UNM"), the Albuquerque Public
Schools system, Sandia and Kirtland are the largest employers in the
Albuquerque area. Discussions of defense cutbacks create considerable
uncertainty over future funding for operations at Kirtland and Sandia. The
uncertain political and budgetary climate renders projections as to the
magnitude of employment reductions which may result from such cuts highly
speculative. However, Kirtland employment increased during 1992 and
additional employment is expected as a result of the expansion of an air
force training wing and from the relocation of units based elsewhere to
Albuquerque. Construction is proceeding on major facilities that will serve
the expanded missions at the base. At Sandia, employment has remained steady.
However, potential future cuts in military spending cast a cloud over the
outlook. Recent actions by Congress have expanded the missions of Sandia and
other Department of Energy research labs beyond nuclear weapons to include
(1) arms control verification, (2) nuclear waste clean-up and (3) technology
research and development. While this broadening of the labs' mission is
encouraging, the transition to a new funding base with more reliance on the
private sector could result in workforce reductions over the next few years.
Many Sandia employees are at or near retirement age. If, as expected,
they remain in the Albuquerque area following retirement, the economic
impact of cutbacks would be alleviated.
Reflecting the comparatively minor role of exports in the state economy,
New Mexico was not adversely affected by the national slowdown of exports
during 1993 on account of recessions in Japan and continental Europe. Also,
New Mexico largely escaped the negative impacts of corporate downsizing which
affected other parts of the United States, reflecting the small number of
large businesses headquartered in the state.
New Mexico's trade and construction sectors returned to employment
growth during early 1992. Construction boomed during 1993 in residential
construction, non-residential construction other than buildings, and
non-residential construction. Construction employment increased at a 14.5
percent rate, adding 4,500 jobs. During the first quarter of 1994, growth in
this sector has continued, showing a 16.8 percent gain over the first quarter
of 1993. The gains are boosted by a continued boom in construction of
residential housing and the major expansion of Intel's electronics
manufacturing plant at Rio Rancho.
In the mining sector, employment showed a gain during 1993 following a
loss in 1992 which reflected the adverse impact of low oil prices and very
low gas prices. Production of natural gas continued to increase during 1993
and a long-term coal purchase agreement between an out-of-state utility and a
mine in northeast New Mexico has had a favorable impact. Recent developments
continue to be positive, with a further increase in employment during the
first quarter of 1994, the reopening of a copper mine in southern New Mexico
and the expansion of other copper mining facilities.
The manufacturing sector lost more than 2,500 jobs over the four quarters
beginning with the second quarter of 1991, and 1,500 jobs during 1992.
However, during the period beginning with the first quarter of 1993,
manufacturing employment saw a strong performance, topped off by a net gain
of 1,700 jobs during the first quarter of 1994, approximately 500 of which
are attributable to the expansion of Intel. Statewide manufacturing
employment is up to 46,300 as of August, 1994, compared to 43,500 in August
of 1993.
GOVERNMENTAL ORGANIZATION
The State's government consists of the three branches characteristic
of the American political system: executive, legislative and judicial. The
executive branch is headed by the Governor who is elected for a four-year
term. A governor may succeed himself in office once. Following a
reorganization plan implemented in
50
<PAGE> 95
1978 to reduce and consolidate some 390 agencies, boards and commissions, the
primary functions of the executive branch are now carried out by sixteen
cabinet departments, each headed by a cabinet secretary appointed by the
Governor.
The Legislature consists of 112 members and is divided into a Senate and
a House of Representatives. Senators are elected for four-year terms, members
of the House for two-year terms. The Legislature convenes in regular session
annually on the third Tuesday in January. Regular sessions are
constitutionally limited in length to sixty calendar days in odd-numbered
years and thirty calendar days in even-numbered years. In addition, special
sessions of the Legislature may be convened by the Governor under certain
limited circumstances. Legislators receive no salary, but do receive per diem
and mileage allowances while in session or on official State business.
The judicial branch is composed of a statewide system of Magistrate and
District Courts, the Court of Appeals and the Supreme Court. The district
court is the trial court of record with general jurisdiction.
STATE TAXES AND REVENUES
Programs and operations of the State are predominately funded through a
system of 29 major taxes administered by the Taxation and Revenue Department
("TRD"). In addition, interest income and earnings from the Permanent Fund
and the Severance Tax Permanent Fund provide important sources of funds for
State purposes. The most important tax and revenue sources as measured by
magnitude of revenue generation are described below.
Gross Receipts Tax
The gross receipts tax is levied on the total amount of money or the
value of other consideration received from selling property (including
tangible personal property) in the State, from leasing property employed in
the State, and from performing services in the State. Exempt from the tax are
wages, certain agricultural products, dividends and interest, and gas, oil,
or mineral extractions. This tax is paid by the seller but generally passed
on to the purchaser.
The gross receipts tax is the largest single source of State General Fund
revenues and a primary source of revenues for cities and countries. The tax
includes the statewide gross receipts tax levy of 5% plus several local
option city and county levies. A credit of .5% against the statewide rate of
5% is allowed for municipal local option taxes. Receipts from the statewide
levy, less disbursements to each incorporated municipality of 1.225% of the
taxable gross receipts reported in that municipality and less disbursements
to the State Aviation Fund of 2.15% of the value of jet fuel sales, are
deposited in the State General Fund.
In fiscal year 1992-93, total gross receipts collections, including local
option taxes, amounted to $1.289 billion. Of this amount $825 million was
distributed to the State General Fund, $463 million went to cities and
counties and $604 thousand to the Aviation Fund. Gross receipts taxes
represented 36% of recurring General Fund receipts.
Personal Income Tax
The personal income tax is imposed on the net income of every resident
individual and upon the net income from business, property, or employment of
non-resident individuals. State taxable income is generally equal to federal
adjusted gross income less a personal exemption allowance, standard
deductions or itemized deductions
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and amounts non-taxable by the laws or Constitution of the State or the
United States. Since State taxable income is substantially derived from
Federal adjusted gross income, federal concepts characterizing income and
entities are generally followed in New Mexico. The State also allows
deductions for income earned by Indians on reservations and graduated
deductions for income earned by taxpayers 65 years old or older. Collections
are placed in the State General Fund.
For tax years beginning after 1986, tax rates range from 2.4% on taxable
income of $8,000 or less on joint returns (1.8% on taxable income at $5,200
or less for single returns) to 8.5% on taxable income over $64,000 on joint
returns (8.5% on taxable income over $41,600 for single elderly).
State statutes provide for a number of tax rebates and tax credits which
are paid from or credited against the personal income tax and which have the
effect of reducing available personal income tax collections. Rebate programs
target those with very low incomes and include a general low income rebate, a
gross receipts tax rebate for food and medical expenses (which was repealed
by the 1993 legislature) and a rebate for property taxes paid by the elderly.
Credits are available for day care costs.
In fiscal year 1992-1993 $527 million of personal income tax receipts
were distributed of which $491 million went to the General Fund and $33
million was returned to taxpayers through rebates and credits. The remainder
went to special refund, intercept and donation programs. The distribution to
the General Fund represented approximately 22% of recurring General Fund
receipts.
Corporate Income Tax
The corporate income tax is imposed on the net income of every domestic
corporation and upon the net income of foreign corporations from business,
property, and employment in the State. State taxable income is generally
equal to federal taxable income with adjustments for net operating loss
carryovers and amounts non-taxable by the laws or Constitution of the State
or the United States. The tax is not imposed on Insurance companies which pay
a state premium tax, nonprofit organizations or retirement trust funds.
Collections, net of refunds, are placed in the State General Fund.
Tax rates are established under a graduated table and range from 4.8% on
the first $500,000 of taxable income to 7.6% on income in excess of
$1,000,000. In fiscal year 1992-93 the corporate income tax resulted in net
receipts of $90 million to the General Fund, representing 4% of recurring
General Fund receipts.
Oil and Gas Emergency School Tax
The oil and gas emergency school tax is imposed against persons for the
privilege of engaging in the business of severing oil, natural gas, liquid
hydrocarbons and carbon dioxide from the soil of the State.
The oil and gas emergency school tax rate is 4.0% of the taxable value of
such products at the production unit. The rate was increased from 3.15% on
July 1, 1993. The tax is due on the 25th day of the second month following
the month of production, creating a slight lag between oil and gas production
and tax collections. Oil and gas emergency school tax receipts are disbursed
to the General Fund. In fiscal year 1992-93 net oil and gas emergency school
tax receipts were equal to $103 million and represented approximately 4.5% of
General Fund receipts.
Gasoline Tax
The Gasoline Tax is levied on all gasoline received in the State and is
paid by the distributors at the rate of 16.2 cents per gallon. In addition,
there is a petroleum products loading fee of $80/8,000 gallons (about one
cent/gallon). These taxes are distributed principally to the State Road Fund
and the counties and municipalities
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of the State based on a formula related to the amount of fuel received in
each jurisdiction. Other portions of tax revenues are earmarked for local
government road funds and for gas tank cleanup funds. The $147 million of
gasoline tax collections in fiscal year 1992-93 were distributed as follows:
$101 million to the State Road Fund, $14.9 million to counties and
municipalities, $18.6 million for local government road funds and $11.7
million to the Corrective Action Fund. No gasoline tax receipts were credited
to the General Fund. The 1993 legislature increased gasoline taxes 6 cents
per gallon and special fuel taxes 2 cents per gallon effective July 1, 1993,
with all but 1 cent per gallon of the gasoline tax to be distributed to the
General Fund. The 1994 legislature then suspended 2 cents of the 1993 6 cent
increase until June 30, 1997; earmarked 2 cents to the local government road
fund; earmarked 1 cent to the state road fund; and earmarked 1 cent to the
general fund.
Royalties, Rents, and Bonuses
Federal Lands
Under the federal 1920 Mineral Leasing Act, the State receives a 50%
share of all income generated from the leasing of federally held lands for
mineral production. Principal sources of income on federal lands are royalty
payments on oil and gas production. In 1992, approximately 37% of total oil
production and 67% of total gas production occurred on federal lands in the
State. Additional income is derived from bonus payments for oil and gas
leases and royalty payments on production of coal, potash, and other
minerals. Federal mineral lease income is collected by the U.S. Minerals
Management Service. The State receives its payments on a monthly basis and
makes the deposits to the General Fund, almost exclusively for funding public
schools. In fiscal year 1992-93, $133 million, or 6% of total receipts, was
deposited in the General Fund from this source.
State Lands
The State Land Office manages lands acquired by the State under the
Federal Ferguson Act, enacted prior to statehood, as well as under the State
Constitution. All income from such lands is dedicated to specific educational
purposes and institutions. As with Federal lands, the oil and gas industry is
the principal source of revenue from State lands. In 1992 State lands
accounted for 37% of State oil production and 18% of State gas production.
Bonus income is also collected in the form of cash payments as a result of
competitive bidding for State leases. Rentals and bonus income are
distributed to the respective beneficiary institutions, largely the public
schools, for operating purposes. The public school portion of leases, rents,
and bonuses in 1992-93 was $10 million and was deposited in the General Fund.
Minerals production from State trust lands also generates royalty income
which is deposited in the State Permanent Fund. Royalties are imposed on most
minerals production values at the rate of 121/2%, although there is a
provision for rates of up to 20% for new leases on developed acreage.
Beneficiaries of the State Permanent Fund are the same as those educational
institutions and public schools benefiting from State lands. Fiscal year
1992-93 royalty income to the Permanent Fund was $122.9 million, $103.9
million of which represented the portion dedicated to public school purposes.
Severance Taxes
Severance taxes are levied on producers and others severing minerals and
mineral resources within the State, and are distinguished from several other
taxes on, or revenue sources related to, valuable mineral extraction in New
Mexico including the oil and gas emergency school tax, state royalties, bonus
revenues, oil and gas ad valorem production taxes, the oil and gas ad valorem
equipment tax, and the natural gas processors tax.
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Severance taxes on natural gas, oil and carbon dioxide generated $121
million or 78% of fiscal year 1992-93 severance tax collections. Severance
taxes from coal production generated $78 million or 19% of fiscal year
1992-93 severance tax collections. Other minerals and material resources,
subject to severance taxation, which are produced in New Mexico include
uranium, copper, potash, gold, lead, manganese, sand, gravel, peat moss,
timber, and a variety of metals.
Production and Property Taxes on Oil and Gas
Statutory rates on oil for the School Tax (3.15%), the Oil and Gas
Severance Tax (3.75%) and the Conservation Tax (.18%) are effectively reduced
by deductions allowed for trucking costs and for Federal, State and Indian
royalties. Statutory rates on natural gas for the School Tax (3.15%), the Oil
and Gas Severance Tax (3.75%), and the Conservation Tax (.18%) are
effectively reduced by deductions for Federal, State and Indian royalties and
by deductions for transportation and processing tariffs upstream of the sales
location. The ad valorem taxes are imposed in lieu of property taxes on
reserves and lease equipment, and local rates vary in accordance with
jurisdiction.
Production Taxes on Coal
Statutory rates for the Resources Excise and the Conservation Tax are
effectively reduced by a deduction for Federal, State and Indian royalties.
The Resource Excise Tax is separate and apart from the severance tax, and is
levied on persons or entities which sever or process natural resources in New
Mexico. Separate Resources Excise Taxes are levied as follows: a "resources
tax" on the severer who owns the resource; a "processors tax" on the
processor; and a "service tax" on one who severs a natural resource owned by
another. The effective Severance Tax rate on coal reflects the mix of old and
new contract sales and of underground and surface mines. Property taxes were
computed on the basis of average tax per ton liability for 1989 although the
property tax pertained to both equipment and production values. Fundamental
differences in tax bases preclude a true comparison between property taxes
and other taxes shown above. However, property taxes are included in this
analysis to prevent understating the tax burden.
Property Taxation System
With certain limited exceptions, real and tangible personal property
owned by individuals or corporations is subject to ad valorem taxation in the
State. Local county assessors are responsible for the appraisal of most
residential and commercial property. The Central Appraisal Bureau of the
State Taxation and Revenue Department ("TRD") provides technical assistance
to the county assessors and assists in the implementation of the Property Tax
Code.
The Central Assessment Bureau of the TRD is responsible for the
assessment of certain types of properties not assessed by the counties.
Property assessed by the Central Assessment Bureau is referred to as central
valuations and includes the following types of properties.
Railroads
Communication systems
Pipelines
Public utilities
Airlines
Electric generating plants
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Construction machinery and equipment, and other personal property of
persons engaged in construction which is used in more than one county
Mineral property, excepting oil and gas property
Property valuations are established as of January 1 of each year (except
certain livestock). Centrally assessed property is verified and certified to
the local assessors who combine the values with all locally assessed property
values. The totals are reported to the Central Assessment Bureau and the
Department of Finance and Administration and certified for budgetary use. The
county treasurers levy the applicable rates against individual properties and
are required to mail tax bills for the current fiscal year no later than
November 1. Property taxes are due to the county treasurers in two equal
installments on November 10 and April 10. Taxes become delinquent on December
10 and May 10 following the two respective due dates. Civil penalties and
interest are imposed on delinquent taxes. County treasurers are responsible
for the collection of property taxes and their distribution to the
governmental entities participating in the tax receipts, including those
amounts due to the State for payment of principal, premium, if any, and
interest on general obligation bonds.
Maximum property tax rates for operations for various types of local
governments are imposed by the Constitution of the State and by governing
statutes. Differing rates of taxation may apply to residential and
non-residential properties. Except for property which by statute is subject
to special methods of valuation, the value of property is its market value as
determined by sales of comparable property. If comparable sales are
unavailable, an income or cost method of valuation is used. Residential
properties are eligible for a head of family exemption which is $2,000 for
property tax year 1993 and subsequent years. There is also a $2,000 veterans
exemption. Assessed value is computed as one-third of the value derived after
exemptions, the maximum assessment ratio allowed under the State
Constitution. All but one county had completed reappraisal for 1992. Values
obtained thereby will be maintained or revised every two years. As of January
1995, all property will be valued, using the sale of comparable property
method, at its 1992 value.
Oil and gas properties and related production equipment are subject to
property taxation in the State. The oil and gas ad valorem production tax is
levied on the basis of assessed value deemed the equivalent of 50% of the
actual price of the oil and gas received at the production unit, less certain
trucking expense deductions and royalties paid to the federal government, the
State, or Indian tribes. The oil and gas production equipment ad valorem tax
is levied based on assessed value deemed equivalent to 9% of the previous
calendar year sales value of the product from each production unit.
The tax year for oil and gas production begins on September 1 based on
tax rates which are set on August 31. The oil and gas ad valorem production
tax is due by the 25th day of the second month following the month of
production. Taxes are collected monthly. The oil and gas production equipment
ad valorem tax is due on November 30. Collections are distributed to the
county treasurers who further distribute the tax revenues to the
participating governmental entities.
Property Tax Rate Limitations
The New Mexico Constitution imposes a four mill limit on taxes levied
upon real or personal property for State revenue except for the support of
the educational, penal and charitable institutions of the State, payment of
the State debt and interest thereon, and total annual tax levy upon such a
property for all State purposes exclusive of necessary levies for the State
debt shall not exceed ten mills, and taxes levied upon real or personal
tangible property for all purposes, except special levies on specific classes
of property and except necessary levies for public debt shall not exceed
twenty mills annually on each dollar of the assessed valuation thereof, but
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laws may be passed authorizing additional taxes to be levied outside of such
limitation when approved by at least a majority of the qualified electors of
the taxing district who paid a property tax therein during the preceding year
voting on such proposition. Currently the State imposes no levy of property
taxes except for the payment of State debt.
Statutes establish maximum property tax rates for operating purposes for
cities, counties and school districts. The Department of Finance and
Administration is permitted by statute to set a rate at less than the maximum
rate in any tax year.
Dollars
Per
Thousand
--------
Counties.......................................... $11.85
Cities............................................ 7.65
Schools........................................... 0.50
------
Maximum statutory tax rate for counties, cities,
and schools combined............................ $20.00
Apart from the allowable operating rates above, New Mexico governments
may levy additional property taxes as authorized by statute and voter
approval for:
Debt service
County hospitals
School district capital improvements
Branch and community colleges
Vocational schools
Flood control districts and authorities
Judgments
Water and sanitation districts
Conservancy districts
Other special districts
In addition, the Legislature has established certain limits on the amount
of increase in property tax revenue which may be produced for county and city
operating purposes. The "yield control" formula is activated by property
valuation increases due to county assessor reappraisal programs. The yield
control law limits the increase in revenue in any one year over the prior
year to the lesser of 5% or the percentage increase in the annual price index
published by the United States Department of Commerce for State and Local
Government Purchases of Goods and Services, plus increases in tax revenues
resulting from new construction and improvements to properties.
State and Local Government Leases
In 1989, the New Mexico Supreme Court held in the case of Montano v.
Gabaldon that certain lease purchase agreements which, without voter
approval, commit the State or a political subdivision of the State to make
payments out of general revenues in future years, violate the State
Constitution. The Court stated that its ruling will have modified prospective
effect only. The ruling has impeded lease financings and may reduce the
number of New Mexico Municipal Bonds and certificates of participation based
on lease obligations.
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APPENDIX II
RATINGS OF MUNICIPAL BONDS
Description of Moody's Investors Service, Inc.'s ("Moody's") Municipal Bond
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 edge". Interest payments are
protected by a large or by an exceptionally stable margin and
principal is secure. While the various protective elements are
likely to change, such changes as can be visualized are most
unlikely to impair the fundamentally strong position of such
issues.
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 risks 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 four ratings of Moody's for short-term notes are
MIG 1/VMIG1, MIG 2/VMIG2, MIG 3/VMIG3 and MIG 4/VMIG4; MIG 1/VMIG1 denotes
"best quality . . . strong protection by established cash flows"; MIG
2/VMIG2 denotes "high quality" with ample margins of protection; MIG
3/VMIG3 notes are
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of "favorable quality . . . but . . . lacking the undeniable strength of
the preceding grades"; MIG 4/VMIG4 notes are of "adequate quality . . .
(p)rotection commonly regarded as required of an investment security is
present . . . there is specific risk."
Description of Moody's Corporate Bond Ratings
Excerpts from Moody's description of its corporate bond ratings:
Aaa-judged to be the best quality, carry the smallest degree of investment
risk; Aa-judged to be of high quality by all standards; A-possess many
favorable investment attributes and are to be considered as upper medium
grade obligations.
Description of Moody's Commercial Paper Ratings
Moody's Commercial Paper ratings are opinions of the ability of issuers
to repay punctually promissory obligations not having an original maturity in
excess of nine months. Moody's employs the following three designations, all
judged to be investment grade, to indicate the relative repayment capacity of
rated issuers:
Issuers rated Prime-1 (or related supporting institutions) have a
superior capacity for repayment of short-term promissory obligations. Prime-1
repayment capacity will normally be evidenced by the following
characteristics: leading market positions in well established industries;
high rates of return on funds employed; conservative capitalization
structures with moderate reliance on debt and ample asset protection; broad
margins in earning 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 related supporting institutions) have a strong
capacity for repayment of short-term promissory 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, will 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 related supporting institutions) have an
acceptable capacity for repayment of short-term promissory obligations. The
effects 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 the requirement for
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 Corporation's ("Standard & Poor's")
Municipal Debt Ratings
A Standard & Poor's municipal debt rating is a current assessment of the
creditworthiness of an obligor with respect to a specific obligation. This
assessment may take into consideration obligors such as guarantors, insurers,
or lessees.
The debt rating is not a recommendation to purchase, sell or hold a
security, inasmuch as it does not comment as to market price or suitability
for a particular investor.
The ratings are based on current information furnished by the issuer or
obtained by Standard & Poor's from other sources Standard & Poor's considers
reliable. Standard & Poor's does not perform an audit in connection with any
rating and may, on occasion, rely on unaudited financial information. The
ratings may be changed, suspended or withdrawn as a result of changes in, or
unavailability of, such information, or for other circumstances.
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The ratings are based, in varying degrees, on the following
considerations:
<TABLE>
<CAPTION>
<S> <C>
I. Likelihood of default-capacity and willingness of the obligor as to the timely
payment of interest and repayment of principal in accordance with the terms of
the obligation;
II. Nature of and provisions of the obligations;
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.
AAA Debt rated "AAA" has the highest rating assigned by Standard &
Poor's. Capacity to pay interest and repay principal is extremely
strong.
AA Debt rated "AA" has a very strong capacity to pay interest and
repay principal and differs from the higher-rated issues only in
small degree.
A Debt rated "A" has a strong capacity to pay interest and repay
principal although it is somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than
debt in higher-rated categories.
BBB Debt rated "BBB" is regarded as having an adequate capacity to pay
interest and repay principal. Whereas it normally exhibits adequate
protection parameters, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity to pay
interest and repay principal for debt in this category than for
debt in higher rated categories.
BB, Debt rated "BB", "B", "CCC", "CC" and "C" is regarded, on balance,
B, as predominately speculative with respect to capacity to pay
CCC, interest and repay principal in accordance with the terms of the
CC, obligations. "BB" indicates the lowest degree of speculation
C and "CC" the highest degree of speculation. While such debt
will likely have some quality and protective characteristics,
these are outweighed by large uncertainties or major exposures to
adverse conditions.
CI The rating "CI" is reserved for income bonds on which no interest
is being paid.
D Debt rated "D" is in payment default. The "D" rating category is
used when interest payments or principal payments are not made on
the date due even if the applicable grace period has not expired,
unless 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 if debt service payments are
jeopardized.
</TABLE>
Plus (+) or Minus (|m-): 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.
Description of Standard & Poor's Corporate Bond Ratings
A Standard & Poor's corporate debt rating is a current assessment of the
creditworthiness of an obligor with respect to specific obligation. Debt
rated "AAA" has the highest rating assigned by Standard & Poor's. Capacity to
pay interest and repay principal is extremely strong. Debt rated "AA" has a
very strong capacity to pay interest and to repay principal and differs from
the highest rated issues only in small degree. Debt rated "A" has a strong
capacity to pay interest and repay principal although it is somewhat more
susceptible to the adverse effects of changes in circumstances and economic
conditions than debt of a higher rated category. Debt rated
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"BBB" is regarded as having an adequate capacity to pay interest and repay
principal. Whereas it normally exhibits adequate protection parameters,
adverse economic conditions or changing circumstances are more likely to lead
to a weakened capacity to pay interest and repay principal for debt in this
category than in higher rated categories.
The ratings from "AA" to "BBB" may be modified by the addition of a plus
or minus sign to show relative standing within the major rating categories.
Description of Standard & Poor's Commercial Paper Ratings
A Standard & Poor's Commercial Paper Rating is a current assessment of
the likelihood of timely payment of debt having an original maturity of no
more than 365 days. Ratings are graded into four categories, ranging from "A"
for the highest quality obligations to "D" for the lowest. Ratings are
applicable to both taxable and tax-exempt commercial paper. Issues assigned
the highest rating are regarded as having the greatest capacity for timely
payment. Issues in this category are further refined with the designation 1,
2 and 3 to indicate the relative degree of safety. The three designations in
the "A" category are as follows:
A-1 This designation indicates that the degree of safety regarding timely
payment is either overwhelming or very strong. Those issues determined
to possess extremely strong safety characteristics are denoted with a
plus sign (+) designation.
A-2 Capacity for timely payment on issues with this designation is strong.
However, the relative degree of safety is not as overwhelming as for
issues designated "A-1".
A-3 Issues carrying this designation have a satisfactory capacity for
timely payment. They are, however, somewhat more vulnerable to the
adverse effects of changes in circumstances than obligations carrying
the higher designations.
B Issues rated "B" are regarded as having only speculative capacity for
timely payment.
C This rating is assigned to short-term debt obligations with a doubtful
capacity for payment.
D Debt rated "D" is in payment default. The "D" rating category is used
when interest payments or principal payments are not made on the date
due, even if the applicable grace period has not expired, unless S&P
believes that such payments will be made during such grace period.
A Commercial Paper Rating is not a recommendation to purchase or sell a
security. The ratings are based on current information furnished to Standard
& Poor's by the issuer and obtained by Standard & Poor's from other sources
it considers reliable. The ratings may be changed, suspended, or withdrawn as
a result of changes in, or unavailability of, such information.
A Standard & Poor's note rating reflects the liquidity concerns and
market access risks unique to notes. Notes due in 3 years or less will likely
receive a note rating. Notes maturing beyond 3 years will most likely receive
a long-term debt rating. The following criteria will be used in making that
assessment.
-Amortization schedule (the larger the final maturity relative to other
maturities, the more likely it will be treated as a note).
-Source of payment (the more dependent the issue is on the market for its
refinancing, the more likely it will be treated as a note).
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Note rating symbols are as follows:
SP-1 A very strong or strong capacity to pay principal and interest.
Those issues determined to possess overwhelming safety
characteristics will be given a "+" designation.
SP-2 A satisfactory capacity to pay principal and interest.
SP-3 A speculative capacity to pay principal and interest.
Standard & Poor's may continue to rate note issues with a maturity
greater than three years in accordance with the same rating scale currently
employed for municipal bond ratings.
Unrated: Where no rating has been assigned or where a rating has been
suspended or withdrawn, it may be for reasons unrelated to the quality of
the issue.
Should no rating be assigned, the reason may be one of the following:
1. An application for rating was not received or accepted.
2. The issue or issuers belongs to a group of securities that are not
rated as a matter of policy.
3. There is a lack of essential data pertaining to the issue or issuer.
4. The issue was privately placed, in which case the rating is not
published in Moody's publications.
Suspension or withdrawal may occur if new and material circumstances arise,
the effects of which preclude satisfactory analysis; if there is no longer
available reasonable up-to-date information to permit a judgment to be
formed; if a bond is called for redemption; or for other reasons.
Description of Fitch Investors Service, Inc.'s ("Fitch") Investment
Grade Bond Ratings
Fitch investment grade bond ratings provide a guide to investors in
determining the credit risk associated with a particular security. The
ratings represent Fitch's assessment of the issuer's ability to meet the
obligations of a specific debt issue or class of debt in a timely manner.
The rating takes into consideration special features of the issue, its
relationship to other obligations of the issuer, the current and prospective
financial condition and operating performance of the issuer and of any
guarantor, as well as the economic and political environment that might
affect the issuer's future financial strength and credit quality.
Fitch ratings do not reflect any credit enhancement that may be provided
by insurance policies or financial guaranties unless otherwise indicated.
Bonds that have 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 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 payments made in respect of any security.
Fitch 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, suspended, or withdrawn as a result of
changes in, or the unavailability of, information or for any other reasons.
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AAA Bonds considered to be investment grade and of the highest credit
quality. The obligor has an exceptionally strong ability to pay
interest and repay principal, which is unlikely to be affected by
reasonably foreseeable events.
AA Bonds considered to be investment grade and of very high credit
quality. The obligor's ability to pay interest and repay principal
is very strong, although not quite as strong as bonds rated "AAA".
Because bonds rated in the "AAA" and "AA" categories are not
significantly vulnerable to foreseeable future developments,
short-term debt of these issuers is generally rated "F-1+".
A Bonds considered to be investment grade and of high credit quality.
The obligor's ability to pay interest and repay principal is
considered to be strong, but may be more vulnerable to adverse
changes in economic conditions and circumstances than bonds with
higher ratings.
BBB Bonds considered to be investment grade and of satisfactory credit
quality. The obligor's ability to pay interest and repay principal
is considered to be adequate. Adverse changes in economic
conditions and circumstances, however, are more likely to have
adverse impact on these bonds, and therefore, impair timely
payment. The likelihood that the ratings of these bonds will fall
below investment grade is higher than for bonds with higher
ratings.
Plus (+) or Minus (|m-): Plus and minus signs are used with a rating
symbol to indicate the relative position of a credit within the rating
category. Plus and minus signs, however, are not used in the "AAA" category.
Credit Trend Indicator: Credit trend indicators show whether credit
fundamentals are improving, stable, declining, or uncertain, as follows:
Improving /aa
Stable /ac
Declining /ag
Uncertain /az
Credit trend indicators are not predictions that any rating change will
occur, and have a longer-term time frame than issues placed on FitchAlert.
NR indicates that Fitch does not rate the specific issue.
Conditional A conditional rating is premised on the successful
completion of a project or the occurrence of a specific
event.
Suspended A rating is suspended when Fitch deems the amount of
information available from the issuer to be inadequate
for rating purposes.
Withdrawn A rating will be withdrawn when an issue matures or is
called or refinanced and, at Fitch's discretion, when an
issuer fails to furnish proper and timely information.
62
<PAGE> 107
FitchAlert Ratings are placed on FitchAlert to notify investors of
an occurrence that is likely to result in a rating change
and the likely direction of such change. These are
designated as "Positive," indicating a potential upgrade,
"Negative," for potential downgrade, or "Evolving," where
ratings may be raised or lowered. FitchAlert is
relatively short-term, and should be resolved within 12
months.
Description of Fitch Speculative Grade Bond Ratings
Fitch speculative grade bond ratings provide a guide to investors in
determining the credit risk associated with a particular security. The
ratings ("BB" to "C") represent Fitch's assessment of the likelihood of
timely payment of principal and interest in accordance with the terms of
obligation for bond issues not in default. For defaulted bonds, the rating
("DDD" to "D") is an assessment of the ultimate recovery value through
reorganization or liquidation.
The rating takes into consideration special features of the issue, its
relationship to other obligations of the issuer, the current and prospective
financial condition and operating performance of the issuer and any
guarantor, as well as the economic and political environment that might
affect the issuer's future financial strength.
Bonds that have the same rating are of similar but not necessarily
identical credit quality since rating categories cannot fully reflect the
differences in degrees of credit risk.
BB Bonds are considered speculative. The obligor's ability to pay
interest and repay principal may be affected over time by adverse
economic changes. However, business and financial alternatives can be
identified which could assist the obligor in satisfying its debt
service requirements.
B Bonds are considered highly speculative. While bonds in this class
are currently meeting debt service requirements, the probability of
continued timely payment of principal and interest reflects the
obligor's limited margin of safety and the need for reasonable
business and economic activity throughout the life of the issue.
CCC Bonds have certain identifiable characteristics which, if not
remedied, may lead to default. The ability to meet obligations
requires an advantageous business and economic environment.
CC Bonds are minimally protected. Default in payment of interest and/or
principal seems probable over time.
C Bonds are in imminent default in payment of interest or principal.
DDD, Bonds are in default on interest and/or principal payments.
DD Such bonds are extremely speculative and should be valued on the
and D basis of their ultimate recovery value in liquidation or
reorganization of the obligor. "DDD" represents the highest potential
for recovery on these bonds, and "D" represents the lowest potential
for recovery.
Plus (+) or Minus (-): Plus and minus signs are used with a rating
symbol to indicate the relative position of a credit within the rating
category. Plus and minus signs, however, are not used in the "DDD", "DD", or
"D" categories.
Description of Fitch Investment Grade Short-Term Ratings
Fitch's short-term ratings apply to debt obligations that are payable on
demand or have original maturities of generally up to three years, including
commercial paper, certificates of deposit, medium-term notes, and municipal
and investment notes.
63
<PAGE> 108
The short-term rating places greater emphasis than a long-term rating on
the existence of liquidity necessary to meet the issuer's obligations in a
timely manner.
Fitch short-term ratings are as follows:
F-1+ Exceptionally Strong Credit Quality. Issues assigned this rating
are regarded as having the strongest degree of assurance for
timely payment.
F-1 Very Strong Credit Quality. Issues assigned this rating reflect an
assurance of timely payment only slightly less in degree than
issues rated "F-1+".
F-2 Good Credit Quality. Issues assigned this rating have a
satisfactory degree of assurance for timely payment, but the margin
of safety is not as great as for issues assigned "F-1+" and "F-1"
ratings.
F-3 Fair Credit Quality. Issues assigned this rating have
characteristics suggesting that the degree of assurance for timely
payment is adequate, however, near-term adverse changes could cause
these securities to be rated below investment grade.
F-S Weak Credit Quality. Issues assigned this rating have
characteristics suggesting a minimal degree of assurance for timely
payment and are vulnerable to near-term adverse changes in
financial and economic conditions.
D Default. Issues assigned this rating are in actual or imminent
payment default.
LOC The symbol "LOC" indicates that the rating is based on a letter of
credit issued by a commercial bank.
INS The symbol "INS" indicates that the rating is based on an insurance
policy or financial guaranty issued by an insurance company.
64
<PAGE> 109
INDEPENDENT AUDITORS' REPORT
The Board of Trustees and Shareholders,
Merrill Lynch New Mexico Municipal Bond Fund of
Merrill Lynch Multi-State Municipal Series Trust:
We have audited the accompanying statement of assets and liabilities,
including the schedule of investments, of Merrill Lynch New Mexico Municipal
Bond Fund of Merrill Lynch Multi-State Municipal Series Trust as of July 31,
1994, the related statements of operations and changes in net assets, and the
financial highlights for the period May 6, 1994 (commencement of operations)
to July 31, 1994. These financial statements and the financial highlights are
the responsibility of the Fund's management. Our responsibility is to express
an opinion on these financial statements and the financial highlights based
on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements and the
financial highlights are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures
in the financial statements. Our procedures included confirmation of
securities owned at July 31, 1994 by correspondence with the custodian and
brokers. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, such financial statements and financial highlights present
fairly, in all material respects, the financial position of Merrill Lynch New
Mexico Municipal Bond Fund of Merrill Lynch Multi-State Municipal Series
Trust as of July 31, 1994, the results of its operations, the changes in its
net assets, and the financial highlights for the period May 6, 1994 to July
31, 1994 in conformity with generally accepted accounting principles.
Deloitte & Touche LLP
Princeton, New Jersey
August 29, 1994
<PAGE> 110
SCHEDULE OF INVESTMENTS
<TABLE>
<CAPTION> (in Thousands)
S&P Moody's Face Value
Ratings Ratings Amount Issue (Note 1a)
New Mexico--91.6%
<S> <C> <C> <C> <C>
AA Aa $ 500 Albuquerque, New Mexico, General Purpose Bonds, UT, Series A, 5.80% due 7/01/2000 $ 522
A1+ VMIG1 600 Albuquerque, New Mexico, Hospital Revenue Bonds (Sisters of Charity of Saint
Joseph's Church), VRDN, 2.90% due 5/15/2022 (a) 600
AA A1 400 Albuquerque, New Mexico, Joint Water and Sewer System, Revenue Refunding Bonds,
Series A, 4.60% due 7/01/2005 362
A1+ NR 700 Eddy County, New Mexico, PCR, Refunding (IMC Fertilizer Inc. Project), VRDN,
2.80% due 2/01/2003 (a) 700
Farmington, New Mexico, PCR, Refunding, Series A:
A1+ P1 600 (Arizona Public Service Company), VRDN, 2.75% due 5/01/2024 (a) 600
AAA Aaa 500 (Public Service Company of New Mexico), 6.375% due 12/15/2022 (d) 508
A+ Aa3 1,000 (Southern California Edison Company), 7.20% due 4/01/2021 1,066
AAA Aaa 500 Farmington, New Mexico, Utility System Revenue Refunding Bonds, 5.75% due
5/15/2013 (c) 483
AAA Aaa 1,500 Gallup, New Mexico, PCR, Refunding (Plains Electric Generation), 6.65% due
8/15/2017 (b) 1,573
AAA Aaa 1,000 Las Cruces, New Mexico, Health Facilities Revenue Refunding Bonds (Evangelical
Lutheran Project), Capital Guaranty, 6.45% due 12/01/2017 1,026
A A3 750 Lordsburg, New Mexico, PCR, Refunding (Phelps Dodge Corporation Project), 6.50%
due 4/01/2013 764
AAA Aaa 500 Los Alamos County, New Mexico, Utility System Revenue Refunding Bonds, Series A, 6%
due 7/01/2015 (e) 500
AAA Aaa 425 Los Lunas, New Mexico, Gross Receipt Tax Revenue Refunding Bonds, 5.50% due
7/01/2009 (b) 413
AAA Aaa 1,000 New Mexico Educational Assistance Foundation, Student Loan Revenue Bonds, AMT,
Series A, 6.85% due 4/01/2005 (d) 1,090
A1+ NR 700 New Mexico Mortgage Finance Authority, S/F Mortgage Revenue Bonds, Series A,
VRDN, 2.85% due 7/01/2017 (a) 700
</TABLE>
PORTFOLIO ABBREVIATIONS
To simplify the listings of Merrill Lynch New Mexico Municipal Bond
Fund's portfolio holdings in the Schedule of Investments, we have
abbreviated the names of some of the securities according to the
list at right.
AMT Alternative Minimum Tax (subject to)
GO General Obligation Bonds
PCR Pollution Control Revenue Bonds
S/F Single-Family
UT Unlimited Tax
VRDN Variable Rate Demand Notes
<PAGE> 111
SCHEDULE OF INVESTMENTS (concluded)
<TABLE>
<CAPTION>
(in Thousands)
S&P Moody's Face Value
Ratings Ratings Amount Issue (Note 1a)
New Mexico (concluded)
<S> <C> <C> <C> <C>
A1 VMIG1 $ 800 New Mexico State Hospital Equipment Loan Council, Hospital Equipment and
Improvement Revenue Bonds (Health Facilities), VRDN, 3% due 5/01/2009 (a)(b) $ 800
AA A1 750 New Mexico State University, Revenue Refunding and Improvement Bonds, 5.75% due
4/01/2016 714
NR Aa 600 New Mexico System Revenue Bonds (Military Institution at Rosewell), 6% due
6/01/2013 602
Santa Fe, New Mexico, Revenue Bonds, Series A (d):
AAA Aaa 750 6.25% due 6/01/2015 761
AAA Aaa 1,000 6.30% due 6/01/2024 1,008
AA A1 500 University of New Mexico, University Revenue Bonds, Series B, 5.75% due 6/01/2022 472
Puerto Rico--16.4%
BB Baa 500 Puerto Rico Commonwealth, Aqueduct and Sewer Authority Revenue Bonds, Series A,
7% due 7/01/2019 521
A Baa1 300 Puerto Rico Commonwealth, GO, UT, 6.45% due 7/01/2017 308
A-1 VMIG1 500 Puerto Rico Commonwealth, Government Development Bank Refunding Bonds, VRDN,
2.55% due 12/01/2015 (a) 500
A- Baa1 500 Puerto Rico Electric Power Authority, Power Revenue Refunding Bonds, Series
S, 7% due 7/01/2007 559
BBB- NR 400 Puerto Rico, Industrial, Tourist, Educational, Medical and Environmental
Control Facilities Financing Authority, Higher Education Revenue Bonds
(PolyTechnic University of Puerto Rico Project), Series A, 5.50% due 8/01/2024 351
A+ A 500 Puerto Rico Telephone Authority, Revenue Refunding Bonds, Series L, 6.125%
due 1/01/2022 503
Total Investments (Cost--$17,675)--108.0% 18,006
Liabilities in Excess of Other Assets--(8.0%) (1,334)
-------
Net Assets--100.0% $16,672
=======
<FN>
(a)The interest rate is subject to change periodically based upon
the prevailing market rate. The interest rates shown are the
rates in effect at July 31, 1994.
(b)MBIA Insured.
(c)FGIC Insured.
(d)AMBAC Insured.
(e)FSA Insured.
NR--Not Rated.
Ratings shown have not been audited by Deloitte & Touche LLP.
</FN>
See Notes to Financial Statements.
</TABLE>
<PAGE> 112
FINANCIAL INFORMATION
Statement of Assets and Liabilities as of July 31, 1994
<TABLE>
<CAPTION>
<S> <C> <C> <C>
Assets: Investments, at value (identified cost--$17,674,951) (Note 1a) $ 18,006,387
Cash 75,769
Receivables:
Interest $ 228,460
Beneficial interest sold 123,685
Investment adviser (Note 2) 63,464
Securities sold 2,650 418,259
------------
Deferred organization expenses (Note 1e) 47,237
Prepaid registration fees and other assets (Note 1e) 14,006
------------
Total assets 18,561,658
------------
<PAGE> 113
Liabilities: Payables:
Securities purchased 1,762,666
Dividends to shareholders (Note 1f) 13,286
Distributor (Note 2) 3,326 1,779,278
------------
Accrued expenses and other liabilities 110,815
------------
Total liabilities 1,890,093
------------
Net Assets: Net assets $ 16,671,565
============
Net Assets Class A Shares of beneficial interest, $.10 par value, unlimited number of
Consist of: shares authorized $ 79,725
Class B Shares of beneficial interest, $.10 par value, unlimited number of
shares authorized 83,034
Paid-in capital in excess of par 16,184,840
Accumulated realized capital losses--net (7,470)
Unrealized appreciation on investments--net 331,436
------------
Net assets $ 16,671,565
============
Net Asset Class A--Based on net assets of $8,166,242 and 797,248 shares of
Value: beneficial interest outstanding $ 10.24
============
Class B--Based on net assets of $8,505,323 and 830,341 shares of
beneficial interest outstanding $ 10.24
============
See Notes to Financial Statements.
</TABLE>
FINANCIAL INFORMATION (continued)
<PAGE> 114
Statement of Operations
<TABLE>
<CAPTION>
For the Period May 6, 1994+
to July 31, 1994
<S> <C> <C>
Investment Interest and amortization of premium and discount earned $ 181,850
Income
(Note 1d):
Expenses: Printing and shareholder reports 30,000
Investment advisory fees (Note 2) 18,228
Registration fees (Note 1e) 17,949
Distribution fees--Class B (Note 2) 8,505
Accounting services (Note 2) 7,450
Amortization of organization expenses (Note 1e) 2,363
Custodian fees 1,330
Transfer agent fees--Class B (Note 2) 1,222
Transfer agent fees--Class A (Note 2) 1,078
Professional fees 800
Pricing fees 655
Trustees' fees and expenses 48
Other 569
------------
Total expenses before reimbursement 90,197
Reimbursement of expenses (Note 2) (81,692)
------------
Total expenses after reimbursement 8,505
------------
Investment income--net 173,345
------------
Realized & Realized loss on investments--net (7,470)
Unrealized Unrealized appreciation on investments--net 331,436
Gain ------------
(Loss) on Net Increase in Net Assets Resulting from Operations $ 497,311
Investments ============
- --Net (Notes
1d & 3):
</TABLE>
<PAGE> 115
<TABLE>
Statement of Changes in Net Assets
<CAPTION>
For the Period May 6, 1994+
Increase (Decrease) in Net Assets: to July 31, 1994
<S> <C> <C>
Operations: Investment income--net $ 173,345
Realized loss on investments--net (7,470)
Unrealized appreciation on investments--net 331,436
------------
Net increase in net assets resulting from operations 497,311
------------
Dividends to Investment income--net:
Shareholders Class A (88,620)
(Note 1f): Class B (84,725)
------------
Net decrease in net assets resulting from dividends to shareholders (173,345)
------------
Beneficial Net increase in net assets derived from beneficial interest
Interest transactions 16,247,599
Transactions ------------
(Note 4):
Net Assets: Total increase in net assets 16,571,565
Beginning of period 100,000
------------
End of period $ 16,671,565
============
<FN>
+Commencement of Operations.
</FN>
See Notes to Financial Statements.
</TABLE>
FINANCIAL INFORMATION (concluded)
<PAGE> 116
Financial Highlights
<TABLE>
<CAPTION>
The following per share data and ratios have been derived
from information provided in the financial statements. For the Period May 6, 1994+
to July 31, 1994
Increase (Decrease) in Net Asset Value: Class A Class B
<S> <C> <C> <C>
Per Share Net asset value, beginning of period $ 10.00 $ 10.00
Operating ------------ ------------
Performance: Investment income--net .13 .12
Realized and unrealized gain on investments--net .24 .24
------------ ------------
Total from investment operations .37 .36
------------ ------------
Less dividends:
Investment income--net (.13) (.12)
------------ ------------
Net asset value, end of period $ 10.24 $ 10.24
============ ============
Total Based on net asset value per share 3.76%++ 3.64%++
Investment ============ ============
Return:**
Ratios to Expenses, including distribution fees and net of reimbursement --%* --%*
Average ============ ============
Net Assets: Expenses, net of reimbursement --%* .50%*
============ ============
Expenses 2.47%* 2.97%*
============ ============
Investment income--net 5.49%* 4.98%*
============ ============
Supplemental Net assets, end of period (in thousands) $ 8,166 $ 8,505
Data: ============ ============
Portfolio turnover 16.06% 16.06%
============ ============
<FN>
+Commencement of Operations.
++Aggregate total investment return.
*Annualized.
**Total investment returns exclude the effects of sales loads.
</FN>
See Notes to Financial Statements.
</TABLE>
<PAGE> 117
NOTES TO FINANCIAL STATEMENTS
1. Significant Accounting Policies:
Merrill Lynch New Mexico Municipal Bond Fund (the "Fund") is part of
Merrill Lynch Multi-State Municipal Series Trust (the "Trust"). The
Fund is registered under the Investment Company Act of 1940 as a non-
diversified, open-end management investment company. Prior to
commencement of operations on May 6, 1994, the Fund had no
operations other than those relating to organizational matters and
the issuance of 5,000 Class A Shares of beneficial interest and
5,000 Class B Shares of beneficial interest of the Fund to Fund
Asset Management, L.P. ("FAM") for $100,000. The Fund offers both
Class A and Class B Shares. Class A Shares are sold with a front-end
sales charge. Class B Shares may be subject to a contingent deferred
sales charge. Both classes of shares have identical voting,
dividend, liquidation and other rights and the same terms and
conditions, except that Class B Shares bear certain expenses related
to the distribution of such shares and have exclusive voting rights
with respect to matters relating to such distribution expenditures.
The following is a summary of significant accounting policies
followed by the Fund.
(a)Valuation of investments--Municipal bonds and other portfolio
securities in which the Fund invests are traded primarily in the
over-the-counter municipal bond and money markets and are valued at
the last available bid price in the over-the-counter market or on
the basis of yield equivalents as obtained from one or more dealers
that make markets in the securities. 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 sixty days or less are
valued on an amortized cost basis, which approximates market value.
Options, which are traded on exchanges, are valued at their last
sale price as of the close of such exchanges or, lacking any sales,
at the last available bid price. 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 Board
of 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.
<PAGE> 118
(b)Financial futures contracts--The Fund may purchase or sell
interest rate futures contracts and options on such futures
contracts for the purpose of hedging the market risk on existing
securities or the intended purchase of securities. Futures contracts
are contracts for delayed delivery of securities at a specific
future date and at a specific price or yield. Upon entering into a
contract, the Fund deposits and maintains as collateral such initial
margin as required by the exchange on which the transaction is
effected. Pursuant to the contract, the Fund agrees to receive from
or pay to the broker an amount of cash equal to the daily
fluctuation in value of the contract. Such receipts or payments are
known as variation margin and are recorded by the Fund as unrealized
gains or losses. When the contract is closed, the Fund records a
realized gain or loss equal to the difference between the value of
the contract at the time it was opened and the value at the time it
was closed.
(c)Income taxes--It is the Fund's policy to comply with the
requirements of the Internal Revenue Code applicable to regulated
investment companies and to distribute substantially all of its
taxable income to its shareholders. Therefore, no Federal income tax
provision is required.
(d)Security transactions and investment income--Security
transactions are recorded on the dates the transactions are entered
into (the trade dates). Interest income is recognized on the accrual
basis. Discounts and market premiums are amortized into interest
income. Realized gains and losses on security transactions are
determined on the identified cost basis.
(e)Deferred organization expenses and prepaid registration fees--
Deferred organization expenses are charged to expense on a straight-
line basis over a five-year period beginning with commencement of
operations. Prepaid registration fees are charged to expense as the
related shares are issued.
(f)Dividends and distributions--Dividends from net investment income
are declared daily and paid monthly. Distributions of capital gains
are recorded on the ex-dividend dates.
NOTES TO FINANCIAL STATEMENTS (concluded)
<PAGE> 119
2. Investment Advisory Agreement and Transactions with Affiliates:
The Fund has entered into an Investment Advisory Agreement with FAM.
Effective January 1, 1994, the investment advisory business of FAM
was reorganized from a corporation to a limited partnership. Both
prior to and after the reorganization, ultimate control of FAM was
vested with Merrill Lynch & Co., Inc. ("ML & Co."). The general
partner of FAM is Princeton Services, Inc. ("PSI"), an indirect
wholly-owned subsidiary of ML & Co. The limited partners are ML &
Co. and Fund Asset Management, Inc. ("FAMI"), which is also an
indirect wholly-owned subsidiary of ML & Co. The Fund has also
entered into Distribution Agreements and a Distribution Plan with
Merrill Lynch Funds Distributor, Inc. ("MLFD" or "Distributor"), a
wholly-owned subsidiary of Merrill Lynch Investment Management, Inc.
("MLIM"), which is also an indirect wholly-owned subsidiary of ML &
Co.
FAM is responsible for the management of the Fund's portfolio and
provides the necessary personnel, facilities, equipment and certain
other services necessary to the operations of the Fund. For such
services, the Fund pays a monthly fee based upon the average daily
value of the Fund's net assets at the following annual rates: 0.55%
of the Fund's average daily net assets not exceeding $500 million;
0.525% of average daily net assets in excess of $500 million but not
exceeding $1 billion; and 0.50% of average daily net assets in
excess of $1 billion. The Investment Advisory Agreement obligates
FAM to reimburse the Fund to the extent the Fund's expenses
(excluding interest, taxes, distribution fees, brokerage fees and
commissions, and extraordinary items) exceed 2.5% of the Fund's
first $30 million of average daily net assets, 2.0% of the next $70
million of average daily net assets, and 1.5% of the average daily
net assets in excess thereof. FAM's obligation to reimburse the Fund
is limited to the amount of the management fee. No fee payment will
be made to the Investment Adviser during any fiscal year which will
cause such expenses to exceed expense limitations at the time of
such payment. For the period ended July 31, 1994, FAM earned fees of
$18,228, all of which was voluntarily waived. FAM also voluntarily
reimbursed the Fund $63,464 in additional expenses.
<PAGE> 120
The Fund has adopted a Plan of Distribution ("the Plan") in
accordance with Rule 12b-1 under the Investment Company Act of 1940,
pursuant to which the Fund pays the Distributor an ongoing account
maintenance fee and distribution fee relating to Class B Shares,
which are accrued daily and paid monthly at the annual rates of
0.25% and 0.25%, respectively, of the average daily net assets of
the Class B Shares of the Fund. Pursuant to a sub-agreement with the
Distributor, Merrill Lynch, Pierce, Fenner & Smith, Inc.
("MLPF&S"), an affiliate of ML & Co., also provides account
maintenance and distribution services to the Fund. The ongoing
account maintenance fee compensates the Distributor and Merrill
Lynch for providing distribution and account maintenance services to
Class B shareholders. As authorized by the Plan, the Distributor
has entered into an agreement with MLPF&S which provides for the
compensation of MLPF&S for providing distribution-related services
to the Fund.
For the period ended July 31, 1994, MLFD earned underwriting
discounts of $3,507, and MLPF&S earned dealer concessions of
$171,666 on sales of the Fund's Class A Shares.
Financial Data Services, Inc. ("FDS"), a wholly-owned subsidiary of
ML & Co., is the Fund's transfer agent.
Accounting services are provided to the Fund by FAM at cost.
Certain officers and/or trustees of the Fund are officers and/or
directors of FAM, FAMI, PSI, MLIM, MLFD, FDS, MLPF&S, and/or ML &
Co.
3. Investments:
Purchases and sales of investments, excluding short-term securities,
for the period ended July 31, 1994 were $15,585,457 and $1,819,342,
respectively.
Net realized and unrealized gains (losses) as of July 31, 1994 were
as follows:
Realized Unrealized
Gains (Losses) Gains
Long-term investments $ 11,580 $ 331,436
Financial futures contracts (19,050) --
----------- ------------
Total $ (7,470) $ 331,436
=========== ============
<PAGE> 121
As of July 31, 1994, net unrealized appreciation for Federal income
tax purposes aggregated $331,436, of which $338,101 related to
appreciated securities and $6,665 related to depreciated securities.
The aggregate cost of investments at July 31, 1994 for Federal
income tax purposes was $17,674,951.
4. Beneficial Interest Transactions:
Net increase in net assets derived from beneficial interest
transactions was $16,247,599 for the period ended July 31, 1994.
Transactions in shares of beneficial interest for Class A and Class
B Shares were as follows:
<TABLE>
<CAPTION>
Class A Shares for the Period Dollar
May 6, 1994+ to July 31, 1994 Shares Amount
- ------------------------------ ---------- ------------
<S> <C> <C>
Shares sold 811,846 $ 8,154,057
Shares issued to shareholders
in reinvestment of dividends 461 4,692
----------- ------------
Total issued 812,307 8,158,749
Shares redeemed (20,059) (201,258)
----------- ------------
Net increase 792,248 $ 7,957,491
=========== ============
</TABLE>
+Prior to May 6, 1994 (commencement of operations), the Fund issued
5,000 shares to FAM for $50,000.
<PAGE> 122
Class B Shares for the Period Dollar
May 6, 1994+ to July 31, 1994 Shares Amount
----------- ------------
Shares sold 835,841 $ 8,396,609
Shares issued to shareholders
in reinvestment of dividends 818 8,343
----------- ------------
Total issued 836,659 8,404,952
Shares redeemed (11,318) (114,844)
----------- ------------
Net increase 825,341 $ 8,290,108
=========== ============
+Prior to May 6, 1994 (commencement of operations), the Fund issued
5,000 shares to FAM for $50,000.
<PAGE> 123
<TABLE>
<CAPTION>
<S> <C>
====================================================== ======================================================
TABLE OF CONTENTS Statement of
Additional Information
Page
----
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 .................. 8
Financial Futures Transactions and (Paste-up art)
Options............................... 8
Investment Restrictions..................... 13
Management of the Trust..................... 16
Trustees and Officers................... 16
Management and Advisory Arrangements.... 18
Purchase of Shares.......................... 19
Initial Sales Charge Alternatives-Class
A and Class D Shares.................. 20
Reduced Initial Sales Charges........... 21 MERRILL LYNCH
Distribution Plans...................... 23 NEW MEXICO
Limitations on the Payment of Deferred MUNICIPAL BOND
Sales Charges......................... 23 FUND
Redemption of Shares........................ 24
Deferred Sales Charges-Class B Shares... 25
Portfolio Transactions...................... 25 MERRILL LYNCH MULTI-STATE
Determination of Net Asset Value............ 26 MUNICIPAL SERIES TRUST
Shareholder Services........................ 27
Investment Account...................... 27
Automatic Investment Plans.............. 27
Automatic Reinvestment of Dividends and
Capital Gains Distributions........... 28
Systematic Withdrawal Plans-Class A and
Class D Shares........................ 28 October 21, 1994
Exchange Privilege...................... 29 Distributor:
Distributions and Taxes..................... 41 Merrill Lynch
Environmental Tax....................... 43 Funds Distributor, Inc.
Tax Treatment of Options and Futures
Transactions.......................... 44
Performance Data............................ 44
General Information......................... 46
Description of Shares................... 46
Computation of Offering Price Per Share. 47
Independent Auditors.................... 48
Custodian............................... 48
Transfer Agent.......................... 48
Legal Counsel........................... 48
Reports to Shareholders................. 48
Additional Information.................. 48
Appendix I - Economic and Financial
Information Concerning New Mexico......... 49
Appendix II - Ratings of Municipal Bonds.... 57
Independent Auditors' Report................ 65
Financial Statements........................ 66
Code #18036-1094
====================================================== ======================================================
</TABLE>
<PAGE> 124
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
