-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, F4dvEDX+T0HcWQ/7rFau3IoqN7HxNuOYvkm7S1dQJfdsvtUiM/YQ3ObwMHm8Xrso CQdlB+41/ZMfxIn62lhlCA== 0000950135-99-003516.txt : 19990716 0000950135-99-003516.hdr.sgml : 19990716 ACCESSION NUMBER: 0000950135-99-003516 CONFORMED SUBMISSION TYPE: N-2/A PUBLIC DOCUMENT COUNT: 8 FILED AS OF DATE: 19990715 FILER: COMPANY DATA: COMPANY CONFORMED NAME: COLONIAL MUNICIPAL INCOME TRUST CENTRAL INDEX KEY: 0000809844 STANDARD INDUSTRIAL CLASSIFICATION: [] FISCAL YEAR END: 1130 FILING VALUES: FORM TYPE: N-2/A SEC ACT: SEC FILE NUMBER: 333-77261 FILM NUMBER: 99664651 FILING VALUES: FORM TYPE: N-2/A SEC ACT: SEC FILE NUMBER: 811-04992 FILM NUMBER: 99664652 BUSINESS ADDRESS: STREET 1: ONE FINANCIAL CTR CITY: BOSTON STATE: MA ZIP: 02111 BUSINESS PHONE: 6174263750 N-2/A 1 COLONIAL MUNICIPAL INCOME TRUST 1 AS FILED WITH THE U.S. SECURITIES AND EXCHANGE COMMISSION ON JULY 15, 1999 SECURITIES ACT FILE NO. 333-77261 INVESTMENT COMPANY ACT FILE NO. 811-4992 U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM N-2 (Check appropriate box or boxes) REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 [X] Pre-Effective Amendment No. 2 [X] ----------- Post-Effective Amendment No. [ ] ----------- and/or REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 [X] Amendment No. 10 [X] --------------- COLONIAL MUNICIPAL INCOME TRUST (Exact Name of Registrant as Specified in Charter) One Financial Center, Boston, Massachusetts 02111 (Address of Principal Executive Offices) (617) 426-3750 (Registrant's Telephone Number, including Area Code) Name and Address of Agent for Service Copies to William J. Ballou, Esq. John M. Loder, Esq. Gary Schpero, Esq. Colonial Management Associates, Inc. Ropes & Gray Simpson Thacher & Bartlett One Financial Center One International Place 425 Lexington Avenue Boston, Massachusetts 02111-2621 Boston, Massachusetts 02110-2624 New York, New York 10017-3954
APPROXIMATE DATE OF PROPOSED PUBLIC OFFERING: As soon as practicable after the effective date of this Registration Statement. If any of the securities being registered on this form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, as amended (the "Securities Act"), other than securities offered only in connection with dividend or interest reinvestment plans, check the following box. [ ] It is proposed that this filing will become effective (check appropriate box): [ ] when declared effective pursuant to Section 8(c) CALCULATION OF REGISTRATION FEE UNDER THE SECURITIES ACT OF 1933
PROPOSED MAXIMUM PROPOSED MAXIMUM TITLE OF SECURITIES AMOUNT BEING OFFERING PRICE PER AGGREGATE OFFERING AMOUNT OF BEING REGISTERED REGISTERED (1) UNIT (1) PRICE (1) REGISTRATION FEE (2) - ---------------------- -------------------- --------------------- --------------------- -------------------- Municipal Auction 3,600 $25,000 $90,000,000 $25,020 Rate Cumulative Preferred Shares No Par Value Per Share
(1) Estimated solely for purposes of calculating the registration fee. (2) Previously paid. The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine. 2 COLONIAL MUNICIPAL INCOME TRUST MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARES CROSS REFERENCE SHEET ITEMS REQUIRED BY FORM N-2 PART A
ITEM NO. ITEM CAPTION PROSPECTUS CAPTION - -------- ------------ ------------------- 1 Outside Front Cover Front Cover Page 2 Inside Front and Outside Front and Back Cover Page Back Cover Page 3 Fee Table and Synopsis Not Applicable 4 Financial Highlights Financial Highlights 5 Plan of Distribution Underwriting 6 Selling Shareholders Not Applicable 7 Use of Proceeds Use of Proceeds 8 General Description of the Prospectus Summary; The Trust; Management of the Trust; Investment Objectives and Policies; Risk Factors and Special Considerations 9 Management Management of the Trust; Custodian, Transfer Agent, Dividend Disbursing Agent and Registrar 10 Capital Stock, Long-Term Debt, Capitalization at May 31, Other Securities 1999; and Description of Municipal Preferred; Description of Common Shares; Certain Provisions in the Agreement and Declaration of Trust
3 11 Defaults and Arrears on Senior Not Applicable Securities 12 Legal Proceedings Not Applicable 13 Table of Contents of the Table of Contents of the Statement of Additional Statement of Additional Information Information
PART B
STATEMENT OF ADDITIONAL ITEM NO. ITEM CAPTION INFORMATION CAPTION - --------- ------------ ------------------------ 14 Cover Page Cover Page 15 Table of Contents Table of Contents 16 General Information and History Not Applicable 17 Investment Objective and Investment Objectives and Policies Policies; Miscellaneous Investment Practices 18 Management Management of the Trust 19 Control Persons and Principal Management of the Trust Holders of Securities 20 Investment Advisory and Other Management of the Trust Services 21 Brokerage Allocation and Other Portfolio Transactions Practices 22 Tax Status Tax Matters 23 Financial Statements Financial Statements
-2- 4 THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER TO SELL THESE SECURITIES AND IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED. SUBJECT TO COMPLETION, DATED JULY 15, 1999 PROSPECTUS $90,000,000 COLONIAL MUNICIPAL INCOME TRUST MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED ("MUNICIPAL PREFERRED") SHARES 3,600 SHARES, SERIES F LIQUIDATION PREFERENCE $25,000 PER SHARE ------------------ Colonial Municipal Income Trust is selling 3,600 Series F Municipal Auction Rate Cumulative Preferred Shares. The Trust is a nondiversified, closed-end management investment company that seeks, as its primary investment objective, to provide high current income generally exempt from federal income tax. The Trust's secondary investment objective is to seek total return. The bonds and notes purchased by the Trust generally are issued by or on behalf of state and local governmental units, whose interest is exempt from federal income tax. Under normal circumstances, the Trust will invest at least 80% of its assets in debt securities that are consistent with its objectives of high current income and total return. Typically, these investments include tax-exempt bonds that are rated to be of medium and lower quality or, if unrated, are considered by the Trust's investment advisor to be of comparable quality. The Trust's investments in medium and lower quality bonds and notes involve special risks. An investment in the Trust is not appropriate for all investors. Investors in Municipal Preferred shares will be entitled to receive cash dividends at an annual rate that may vary for the successive dividend periods for such shares. The dividend rate on the Municipal Preferred shares for the period between the date of issue and , 1999 will be % per year. For each subsequent period, the auction agent will determine the dividend rate for a particular period by an auction conducted on the business day prior to that period. Investors in shares of Municipal Preferred may participate in auctions through their broker-dealers in accordance with the procedures specified herein. The Trust may redeem shares of Municipal Preferred as described under "Description of Municipal Preferred -- Redemption." This Prospectus sets forth concisely the information you should know before investing, including information about risks. You should read this Prospectus before you invest and keep it for future reference. The Trust's Statement of Additional Information, dated , 1999, contains additional information about the Trust and is incorporated by reference into (which means it is considered to be a part of) this Prospectus. You may obtain a free copy by calling Colonial Management Associates, Inc. at 1-800-426-3750. See page 42 of this Prospectus for a table of contents of the Statement of Additional Information. ------------------ INVESTING IN THE SHARES OF MUNICIPAL PREFERRED INVOLVES CERTAIN RISKS. SEE THE "RISK FACTORS AND SPECIAL CONSIDERATIONS" SECTION BEGINNING ON PAGE 6 OF THIS PROSPECTUS. Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this Prospectus is truthful or complete. Any representation to the contrary is a criminal offense. ------------------
PER SHARE TOTAL ------- ----------- Public Price.................................. $25,000 $90,000,000 Sales Load.................................... Proceeds to Trust (before expenses)...........
The public offering price per share will be increased by the amount of dividends, if any, that have accumulated from the date the shares of Municipal Preferred are first issued. ------------------ The underwriter is offering the shares of Municipal Preferred subject to various conditions. The underwriter expects to deliver the shares to purchasers, in book-entry form through The Depository Trust Company, on or about , 1999. ------------------ SALOMON SMITH BARNEY , 1999 5 YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN OR INCORPORATED BY REFERENCE IN THIS PROSPECTUS. THE TRUST HAS NOT, AND THE UNDERWRITER HAS NOT, AUTHORIZED ANY OTHER PERSON TO PROVIDE YOU WITH DIFFERENT INFORMATION. IF ANYONE PROVIDES YOU WITH DIFFERENT OR INCONSISTENT INFORMATION, YOU SHOULD NOT RELY ON IT. THE TRUST IS NOT, AND THE UNDERWRITER IS NOT, MAKING AN OFFER TO SELL THESE SECURITIES IN ANY JURISDICTION WHERE THE OFFER OR SALE IS NOT PERMITTED. YOU SHOULD ASSUME THAT THE INFORMATION APPEARING IN THIS PROSPECTUS IS ACCURATE AS OF THE DATE ON THE FRONT COVER OF THIS PROSPECTUS ONLY. THE TRUST'S BUSINESS, FINANCIAL CONDITION, RESULTS OF OPERATIONS AND PROSPECTS MAY HAVE CHANGED SINCE THAT DATE. ------------------------ TABLE OF CONTENTS
PAGE ---- PROSPECTUS SUMMARY.......................................... 1 RISK FACTORS AND SPECIAL CONSIDERATIONS..................... 6 FINANCIAL HIGHLIGHTS........................................ 8 THE TRUST................................................... 9 USE OF PROCEEDS............................................. 9 CAPITALIZATION AT MAY 31, 1999.............................. 10 PORTFOLIO COMPOSITION....................................... 10 INVESTMENT OBJECTIVES AND POLICIES.......................... 11 MANAGEMENT OF THE TRUST..................................... 19 THE AUCTION................................................. 21 DETERMINATION OF NET ASSET VALUE............................ 23 DESCRIPTION OF MUNICIPAL PREFERRED.......................... 24 RATING AGENCY GUIDELINES.................................... 29 DESCRIPTION OF COMMON SHARES................................ 31 CERTAIN PROVISIONS IN THE AGREEMENT AND DECLARATION OF TRUST..................................................... 31 REPURCHASE OF COMMON SHARES; CONVERSION TO OPEN-END FUND.... 32 TAX MATTERS................................................. 33 CUSTODIAN, TRANSFER AGENT, DIVIDEND DISBURSING AGENT AND REGISTRAR................................................. 36 UNDERWRITING................................................ 36 LEGAL OPINIONS.............................................. 37 REPORTS TO SHAREHOLDERS..................................... 37 EXPERTS..................................................... 37 FURTHER INFORMATION......................................... 37 GLOSSARY.................................................... 38 TABLE OF CONTENTS OF STATEMENT OF ADDITIONAL INFORMATION.... 42
6 PROSPECTUS SUMMARY This summary highlights some information from this Prospectus. It may not contain all of the information that is important to you. To understand the offering of the Municipal Preferred shares fully, you should read this entire Prospectus carefully, including the risk factors. You should also refer to the Glossary, which defines certain terms used in this Prospectus. This summary is qualified in its entirety by reference to the detailed information included in this Prospectus and the Statement of Additional Information. THE OFFERING.................. Colonial Municipal Income Trust (the "Trust") is offering a total of 3,600 shares of Series F Municipal Preferred at a purchase price of $25,000 per share plus dividends, if any, that have accumulated from the date the Trust first issues the shares. Salomon Smith Barney is offering the shares as underwriter. The Municipal Preferred shares will be preferred shares of the Trust that entitle their holders to receive cash dividends at an annual rate that may vary for the successive dividend periods for such shares. In general, except as described under "-- Dividends and Dividend Periods" and "Description of the Municipal Preferred -- Dividends and Dividend Periods," each dividend period will be seven days. An auction agent will determine the dividend rate for a particular period by an auction conducted on the business day immediately prior to the start of that dividend period. Investors and potential investors in the Municipal Preferred shares may participate in auctions for the Municipal Preferred shares through their broker-dealers. Generally, investors in Municipal Preferred shares will not receive certificates representing ownership of their shares. The securities depository (The Depository Trust Company or any successor) or its nominee for the account of the investor's agent member (generally the investor's broker-dealer) will maintain ownership of the Municipal Preferred shares in book-entry form. An investor's agent member, in turn, will maintain records of that investor's beneficial ownership of Municipal Preferred shares. THE TRUST..................... Colonial Municipal Income Trust has operated as a nondiversified, closed-end management investment company since 1987. See "The Trust." The Trust was organized as a Massachusetts business trust on January 22, 1987 and has registered under the Investment Company Act of 1940, as amended. The Trust's common shares of beneficial interest are traded on the New York Stock Exchange under the symbol "CMU." DIVIDENDS AND DIVIDEND PERIODS....................... Dividends on Municipal Preferred shares are cumulative from the date the shares are first issued. The Trust will pay dividends on the shares of Municipal Preferred, out of legally available funds and when declared by the Board of Trustees, beginning on , 1999. After the initial dividend period, each dividend period for the shares of Municipal Preferred will generally consist of seven days; provided, however, that before any auction, the Trust may 1 7 - -------------------------------------------------------------------------------- decide, subject to certain limitations and only if it gives certain notices, to declare a special dividend period of up to five years. Accordingly, in the case of dividend periods that are not special dividend periods, dividends generally will be payable on each succeeding Monday. The Trust may specify different dividend payment dates for certain special dividend periods. The Trust will pay dividends through the securities depository (The Depository Trust Company) on each dividend payment date. The dividend rate on the shares of Municipal Preferred for the period between the date of issue and , 1999 will be % per year. For each subsequent dividend period, the auction agent (Bankers Trust Company) will determine the dividend rate on the shares of Municipal Preferred through an auction. MAXIMUM DIVIDEND RATE......... Generally, the rate at which the Trust pays dividends on shares of Municipal Preferred may not exceed the maximum dividend rate. The maximum dividend rate may vary for different dividend periods. It is determined by the current credit rating assigned to the shares of Municipal Preferred and an independent reference rate that may vary over time. If the number of shares of Municipal Preferred available during an auction exceeds the total number of shares subject to bids for that auction at less than or equal to the maximum dividend rate, then the dividend rate for the subsequent dividend period will be the maximum dividend rate. In addition, if the Trust fails to pay a dividend on shares of Municipal Preferred, or if the Trust fails to pay the full redemption price for shares of Municipal Preferred when due, then the dividend rate for the subsequent dividend period will be the maximum dividend rate. If, however, the Trust cures its failure to pay a dividend or to pay the full redemption price, then the maximum dividend rate will not apply. ASSET MAINTENANCE............. Under the Trust's Amended and Restated By-Laws, which establish and fix the rights and preferences of the shares of Municipal Preferred, the Trust must maintain - asset coverage of the Municipal Preferred shares as required by the rating agency or agencies rating the Municipal Preferred shares, and - asset coverage of the Municipal Preferred shares of at least 200% as required by the Investment Company Act of 1940. Based on the composition of the Trust's portfolio and market conditions as of May 31, 1999, the asset coverage of the Municipal Preferred shares as measured pursuant to the Investment Company Act of 1940 would be approximately 327% if the Trust were to issue all Municipal Preferred shares offered in this Prospectus, representing approximately 31% of the Trust's capital. - -------------------------------------------------------------------------------- 2 8 MANDATORY REDEMPTION.......... If the Trust does not maintain its required asset coverage, it must redeem shares of Municipal Preferred at $25,000 per share plus any dividends that accumulate and remain unpaid up to the date fixed for redemption. The Trust will limit redemption to the number of Municipal Preferred shares, together with all other preferred shares of the Trust (if any), necessary to restore the required asset coverage. As of the date of this offering, there are no other preferred shares outstanding. The Trust may avoid mandatory redemption by restoring its required asset coverage pursuant to rating agency guidelines. The provisions of the Investment Company Act of 1940 may restrict the Trust's ability to make a mandatory redemption in connection with a failure to comply with the rating agencies' asset coverage requirements. OPTIONAL REDEMPTION........... The Trust, at its option and subject to certain conditions, may choose to redeem all or a portion of the shares of Municipal Preferred generally on the second business day preceding any dividend payment date at the price of $25,000 per share plus accumulated but unpaid dividends, if any, whether or not earned or declared to (but not including) the date fixed for redemption, and, during certain special dividend rate periods, any applicable premium. LIQUIDATION PREFERENCE........ The liquidation preference (that is, the amount the Trust must pay to Municipal Preferred shareholders if the Trust is liquidated) for shares of Municipal Preferred will be $25,000 per share plus accumulated but unpaid dividends, if any, whether or not earned or declared. VOTING RIGHTS................. The Investment Company Act of 1940 requires that the holders of Municipal Preferred shares, and the holders of any other preferred shares of the Trust, voting as a separate class, have the right to - elect at least two trustees at all times, and - elect a majority of the trustees at any time when dividends on the Municipal Preferred shares, or any other preferred shares of the Trust, are unpaid for two full years. In each case, the holders of common shares, Municipal Preferred shares, and any other preferred shares of the Trust, voting together as a single class, will elect the remaining trustees. The holders of Municipal Preferred shares, and the holders of any other preferred shares of the Trust, will vote as a separate class or classes on certain other matters as required under the Trust's Agreement and Declaration of Trust, the Investment Company Act of 1940, and Massachusetts law. Each common share, each Municipal Preferred share, and each share of any other class of preferred shares of the Trust is entitled to one vote per share. TAXATION...................... Dividends on shares of Municipal Preferred will be exempt from regular federal income tax in the hands of owners of such shares to the extent such dividends are payable from tax-exempt income earned on the Trust's investments. All or a portion of the Trust's dividends may be subject to the federal alternative 3 9 minimum tax. The Trust is currently required to allocate net capital gain and other income taxable for federal income tax purposes, if any, proportionately between common shares of beneficial interest and shares of Municipal Preferred. The Trust shall, in the case of a seven-day dividend period or a special dividend period of 28 days or fewer for the shares of Municipal Preferred, and may, in the case of any other special dividend period for such shares, give notice of the amount of any income taxable for federal income tax purposes to be included in a dividend on shares of Municipal Preferred in advance of the related auction. The amount of taxable income allocable to shares of Municipal Preferred will depend upon the amount of such income realized by the Trust, but is not generally expected to be significant. INVESTMENT OBJECTIVES......... The Trust's primary investment objective is to provide high current income generally exempt from Federal income tax. The Trust's secondary objective is to seek total return. INVESTMENT STRATEGIES......... The interest on the instruments in which the Trust primarily invests is exempt from federal income tax (other than the possible incidence of any alternative minimum tax). Under normal circumstances, the Trust will invest at least 80% of its assets in debt securities that are consistent with its objectives of seeking high current income and total return. Typically, the Trust's investments include municipal obligations rated Baa or lower by Moody's Investors Service, Inc. ("Moody's") or BBB or lower by Standard & Poor's Ratings Services, a division of The McGraw-Hill Companies ("Standard & Poor's"), or comparably rated by any other national bond rating service, or which are unrated but considered by the Trust's investment advisor, Colonial Management Associates, Inc., to be of comparable quality. The Trust may invest in bonds in the lowest rating categories (bonds rated C by Moody's or D by Standard & Poor's), but will do so only when the Trust's investment advisor believes the true quality of the credit of the issuer of such bonds is stronger than the rating indicates. The Trust may invest in bonds on which the issuer has defaulted or failed to pay principal or interest when due. The Trust may also invest in higher quality issues, particularly when the difference in returns between quality classifications is very narrow or when management expects interest rates to change. In addition to investing in municipal obligations, the Trust may hedge against changes in interest rates by engaging in the following: - interest rate futures contracts, - index futures, and - options on interest rate futures contracts, tax-exempt indices, and index futures. 4 10 INVESTMENT ADVISOR............ Colonial Management Associates, Inc., an investment advisor registered under the Investment Advisers Act of 1940, as amended, has served as the Trust's investment advisor since the Trust's inception. The investment advisor is a wholly owned subsidiary of Liberty Funds Group LLC, which is an indirect wholly owned subsidiary of Liberty Mutual Insurance Company. RATINGS....................... The Trust will not issue shares of Municipal Preferred unless such shares have a rating of aaa from Moody's and AAA from Standard & Poor's. SECONDARY MARKET TRADING...... Broker-dealers may, but are not obligated to, maintain a secondary market in shares of Municipal Preferred outside of auctions. There can be no assurance that a secondary market will develop or, if it does develop, that it will provide owners with liquidity of investment. Shares of Municipal Preferred may be transferred outside of auctions only to a broker-dealer or such other persons who may be permitted by the Trust. 5 11 RISK FACTORS AND SPECIAL CONSIDERATIONS You should consider the following risk factors and other special considerations in deciding whether to invest in shares of Municipal Preferred: LOWER-RATED SECURITIES. Municipal obligations offering the high current income sought by Colonial Municipal Income Trust (the "Trust") are ordinarily in the medium and lower rating categories of recognized rating agencies or are unrated and, therefore, generally involve greater volatility of price and risk of nonpayment of principal and interest than securities in higher rating categories. The possibility of defaults by or bankruptcies of issuers of securities cause, in part, this risk of principal and interest and may result in nonpayment of principal or interest or restructuring of the debt obligation and, possibly, a reduction in the Trust's net asset value. The medium and lower quality municipal obligations in which the Trust will invest are speculative to varying degrees. While such securities may have some quality and protective characteristics, large uncertainties or major risk exposures to adverse conditions are expected to outweigh such characteristics. Municipal obligations in the lower rating categories are regarded as predominantly speculative in character. With respect to unrated tax-exempt securities, the Trust will rely more on the judgment, analysis and experience of the Trust's investment advisor, Colonial Management Associates, Inc. (the "Advisor"), than for rated securities. In evaluating the creditworthiness of an issue, whether rated or unrated, the Advisor may consider, among other things, the following factors: - the issuer's financial resources; - its sensitivity to economic conditions and trends; - any operating history of and the community support for the facility financed by the issue; - the ability of the issuer's management; and - regulatory matters. The Trust may invest in bonds in the lowest rating categories (for example, bonds rated C by Moody's, which Moody's regards as having extremely poor prospects of ever attaining any real investment standing, or bonds rated D by Standard & Poor's), but will do so only when the Advisor believes the rating does not accurately reflect the true quality of the credit of the issuer of such bonds. The Trust may invest in bonds that are in default or on which the issuer has not made required payments of principal or interest, or both. In addition, medium and lower rated or unrated municipal obligations are frequently traded only in markets where the number of potential purchasers and sellers, if any, is very limited. This may limit the availability of such securities for the Trust to purchase and the ability of the Trust to sell such securities at their fair value. The Advisor will attempt to reduce the risks of investing in medium or lower rated or unrated municipal obligations to the greatest extent practicable through the use of credit analysis. NON-DIVERSIFICATION. The Trust is registered as a "non-diversified" investment company. This means that the Trust may invest a greater percentage of its assets in a single issuer than a diversified investment company. Even as a non-diversified investment company, the Trust must still meet the diversification requirements of applicable Federal income tax laws. Because the Trust may invest a relatively high percentage of its assets in a limited number of issuers, the Trust may be more exposed to any single economic, political or regulatory occurrence than a more widely-diversified investment company. PRIVATE ACTIVITY BONDS. The Trust may invest in certain tax-exempt securities classified as "private activity bonds." These bonds may subject certain investors in the Trust to the alternative minimum tax. The Trust may invest all or any part of its assets in such private activity bonds. OPTIONS AND FUTURES TRANSACTIONS. The Trust may seek to hedge its portfolio against changes in interest rates using options, index options and futures and financial futures contracts. The Trust's hedging transactions are designed to reduce volatility but come at some cost. However, the Trust must pay for the 6 12 option, and the price of the security may not in fact drop. In large part, the success of the Trust's hedging activities depends on its ability to forecast movements in securities prices and interest rates. The Trust does not, however, intend to enter into options and futures transactions for speculative purposes. The Trust is not required to hedge its portfolio. ANTITAKEOVER PROVISIONS. The Trust's Agreement and Declaration of Trust includes provisions that could limit the ability of other entities or persons to acquire control of the Trust or to change the composition of its Board of Trustees. Such provisions could discourage a third party from seeking to obtain control of the Trust. INVESTMENT CONSIDERATIONS. Investors in the shares of Municipal Preferred should consider the following factors: - The credit ratings of the shares of Municipal Preferred could be reduced while an investor holds such shares. - Neither broker-dealers nor the Trust are obligated to purchase shares of the Municipal Preferred in an auction or otherwise nor is the Trust required to redeem shares of the Municipal Preferred in the event of a failed auction. - If sufficient bids do not exist in an auction, the applicable dividend rate will be the maximum applicable dividend rate, and in such event, owners of the shares of Municipal Preferred wishing to sell will not be able to sell all, and may not be able to sell any, of such shares in the auction. As a result, investors may not have liquidity of investment. SECONDARY MARKET. The broker-dealers intend to maintain a secondary trading market in the shares of Municipal Preferred outside of auctions; however, they have no obligation to do so and there can be no assurance that a secondary market for the Municipal Preferred will develop or, if it does develop, that it will provide holders with a liquid trading market. The shares of Municipal Preferred will not be registered on any stock exchange or on any automated quotation system. An increase in the level of interest rates likely will have an adverse effect on the secondary market price of the shares of Municipal Preferred, and a selling shareholder may have to sell Municipal Preferred between auctions at a price per share of less than $25,000. You may transfer shares outside of auctions only to broker-dealers or such other persons as may be permitted by the Trust. YEAR 2000 COMPLIANCE. Like other investment companies, financial and business organizations and individuals around the world, the Trust could be adversely affected if the computer systems used by the Advisor, other service providers and the issuers in which the Trust invests do not properly process and calculate date-related information and data from and after January 1, 2000. This is commonly known as the "Year 2000 Problem." The Advisor is taking steps that it believes are reasonably designed to address the Year 2000 Problem, including communicating with vendors who provide services, software and systems to the Trust to provide that date-related information and data can be properly processed and calculated on and after January 1, 2000. Many Trust service providers and vendors, including the Advisor, are in the process of making Year 2000 modifications to their services, software and systems and believe that such modifications will be completed on a timely basis prior to January 1, 2000. In addition, Year 2000 readiness information, if available, is one of the factors considered by the Advisor in its assessment of the issuers in which the Trust invests. There can be no assurance that these steps will be sufficient to avoid any adverse impact on the Trust. 7 13 FINANCIAL HIGHLIGHTS The table below sets forth certain specified information for a common share of beneficial interest of the Trust outstanding throughout each period presented. The financial highlights for each period presented have been audited by PricewaterhouseCoopers LLP, the Trust's independent accountants, whose unqualified report on the periods from 1994 through 1998 is included in the Trust's November 30, 1998 Annual Report and in "Report of Independent Accountants" in the "Financial Statements" section of the Statement of Additional Information. The financial highlights should be read in conjunction with the financial statements and notes thereto included in "Financial Statements" in the Statement of Additional Information.
FOR THE FISCAL YEARS ENDED NOVEMBER 30, --------------------------------------------------------------- 1998 1997 1996 1995 1994 1993 -------- -------- -------- -------- -------- -------- Net asset value -- beginning of period............................... $ 7.410 $ 7.410 $ 7.480 $ 7.150 $ 7.830 $ 7.890 -------- -------- -------- -------- -------- -------- Net investment income.................. 0.469 0.509 0.508 0.547 0.609 0.639 Net realized and unrealized gain (loss)............................... 0.183 (0.002) (0.068) 0.335 (0.707) (0.063) -------- -------- -------- -------- -------- -------- Total from investment operations.................. 0.652 0.507 0.440 0.882 (0.098) 0.576 -------- -------- -------- -------- -------- -------- Distributions: From net investment income........... (0.487) (0.507) (0.510) (0.552) (0.582) (0.632) In excess of net investment income..... (0.005) -- -- -- -- (0.004) -------- -------- -------- -------- -------- -------- Total distributions........... (0.492) (0.507) (0.510) (0.552) (0.582) (0.636) -------- -------- -------- -------- -------- -------- Net asset value -- end of period....... $ 7.570 $ 7.410 $ 7.410 $ 7.480 $ 7.150 $ 7.830 -------- -------- -------- -------- -------- -------- Per share market value: End of Period........................ $ 8.125 $ 7.560 $ 7.250 $ 6.750 $ 6.750 $ 8.000 -------- -------- -------- -------- -------- -------- Total return based on net asset value(b)............................. 8.99% 7.07% 6.38% 12.96% (0.42)% 7.42% -------- -------- -------- -------- -------- -------- Total return based on market value(c)............................. 14.57% 11.67% 15.36% 8.04% (10.06)% 11.56% -------- -------- -------- -------- -------- -------- Net assets, end of period (000)........ $208,931 $203,533 $202,793 $204,666 $195,444 $213,292 Ratio of operating expenses to average net assets(d)........................ 0.82% 0.86% 0.91% 0.98% 0.90% 0.87% Ratio of net investment income to average net assets(d)................ 6.20% 6.83% 6.87% 7.47% 8.12% 8.03% Portfolio turnover rate................ 34% 15% 22% 24% 24% 21% FOR THE FISCAL YEARS ENDED NOVEMBER 30, ----------------------------------------------- 1992 1991 1990 1989 -------- -------- -------- -------- Net asset value -- beginning of period............................... $ 8.060 $ 8.370 $ 8.650 $ 8.980 -------- -------- -------- -------- Net investment income.................. 0.636 0.682 0.751 0.768 Net realized and unrealized gain (loss)............................... (0.170) (0.279) (0.311) (0.321) -------- -------- -------- -------- Total from investment operations.................. 0.466 0.403 0.440 0.447 -------- -------- -------- -------- Distributions: From net investment income........... (0.636) (0.713) (0.720) (0.777) In excess of net investment income..... -- -- -- -- -------- -------- -------- -------- Total distributions........... (0.636) (0.713) (0.720) (0.777) -------- -------- -------- -------- Net asset value -- end of period....... $ 7.890 $ 8.060 $ 8.370 $ 8.650 -------- -------- -------- -------- Per share market value: End of Period........................ $ 7.875 $ 8.375 (a) (a) -------- -------- -------- -------- Total return based on net asset value(b)............................. (b) (b) (b) (b) -------- -------- -------- -------- Total return based on market value(c)............................. 1.82% 17.77% (12.27)% 7.19% -------- -------- -------- -------- Net assets, end of period (000)........ $213,420 $216,394 $223,091 $229,209 Ratio of operating expenses to average net assets(d)........................ 0.87% 0.87% 0.86% 0.87% Ratio of net investment income to average net assets(d)................ 7.99% 8.29% 8.92% 8.66% Portfolio turnover rate................ 10% 12% 20% 18%
- --------------- (a) Per share market value: End of period of the Trust was not included in the audited financial statements for years prior to 1991. (b) Total return at net asset value assuming all distributions reinvested. Total return at net asset value for the Trust was not included in the audited financial statements for years prior to 1993. (c) Total return at market value assuming all distributions reinvested and excluding brokerage commissions. (d) The benefits derived from custody credits and directed brokerage arrangements had no impact. Ratios for years prior to 1995 are net of benefits received, if any. 8 14 THE TRUST The Trust is a closed-end, nondiversified management investment company. The Trust's primary investment objective is to provide high income, generally exempt from Federal income tax. The Trust's secondary investment objective is to seek total return. The bonds and notes purchased by the Trust generally are issued by or on behalf of state and local governmental units, whose interest is exempt from Federal income tax (other than the possible incidence of any alternative minimum tax) ("Municipal Obligations"). See "Investment Objectives and Policies." No assurance can be given that the Trust's investment objectives will be achieved. All or a portion of the Trust's dividends may be subject to the Federal alternative minimum tax. The Trust was organized as a Massachusetts business trust under the laws of the Commonwealth of Massachusetts on January 22, 1987, and is registered under the Investment Company Act of 1940, as amended (the "1940 Act"). In March 1987, the Trust issued 26,000,000 shares of beneficial interest, no par value (the "Common Shares"), pursuant to the initial public offering thereof and commenced operations. The Trust's Common Shares are traded on the New York Stock Exchange under the symbol "CMU." The Trust's principal office is located at One Financial Center, Boston, MA 02111, and its telephone number is (617) 426-3750. USE OF PROCEEDS The net proceeds of this offering will be approximately $ , after payment of the sales load to Salomon Smith Barney Inc. (the "Underwriter") and offering costs. The net proceeds of the offering will be invested in accordance with the Trust's investment objectives and policies. It is presently anticipated that the Trust will be able to invest substantially all of the net proceeds in Municipal Obligations that meet the Trust's investment objectives at or shortly (within six to eight weeks) after the completion of the offering. To the extent that all of the proceeds cannot be so invested, pending such investment, the Trust will invest such proceeds initially in high-quality, short-term tax-exempt money market securities, the income on which will be exempt from Federal income taxes (other than the possible incidence of any alternative minimum tax), or in high-quality Municipal Obligations with relatively low volatility (such as pre-refunded and intermediate-term securities), to the extent such securities are available. If necessary to invest fully the net proceeds of the offerings immediately, the Trust may also purchase, as temporary investments, short-term taxable investments of the type described under "Investment Objectives and Policies -- Temporary and Defensive Investments," the income on which is subject to Federal income taxes. 9 15 CAPITALIZATION AT MAY 31, 1999 The following table sets forth the unaudited capitalization of the Trust at May 31, 1999 and as adjusted to give effect to the issuance of the shares of Series F Municipal Preferred offered hereby (including estimated offering expenses and sales loads of $1,282,520).
ACTUAL AS ADJUSTED ------------ ------------ Shareholders' Equity: Preferred Shares, no par value per share; 3,600 shares authorized (no shares issued; 3,600 shares of Municipal Auction Rate Cumulative Preferred Shares issued, as adjusted, at $25,000 per share liquidation preference)............................................ $ -- $ 90,000,000 Common Shares, no par value per share; unlimited shares authorized; 27,623,344 shares outstanding*............. 244,992,130 243,709,610 Undistributed (overdistributed) net investment income..... (1,047,827) (1,047,827) Net realized gain (loss) from investment transactions..... (43,213,559) (43,213,559) Net unrealized appreciation of investments................ 4,417,498 4,417,498 ------------ ------------ Net Assets............................................. $205,148,242 $293,865,722 ============ ============
- --------------- * None of these outstanding shares are held by or for the account of the Trust. PORTFOLIO COMPOSITION As of May 31, 1999, approximately 99.40% of the market value of the Trust's portfolio was invested in long and intermediate-term Municipal Obligations and approximately 0.60% of the market value of the Trust's portfolio was invested in short-term securities. For purposes of the foregoing sentence, futures in which the Trust has invested are not included as long and intermediate-term Municipal Obligations or as short-term securities and are not included in the market value of the Trust's portfolio. The following table sets forth certain information with respect to the composition of the Trust's investment portfolio (excluding short-term securities) as of May 31, 1999.
STANDARD & NUMBER OF MARKET NUMBER OF MARKET POOR'S* ISSUES VALUE PERCENT MOODY'S* ISSUES VALUE PERCENT - ---------- --------- --------------- ------- -------- --------- --------------- ------- AAA 15 $ 20,629,552.56 10.30% Aaa 16 $ 21,977,378.85 10.97% AA 1 2,060,200.00 1.03 Aa 1 2,060,200.00 1.03 A 6 9,359,207.50 4.67 A 3 4,796,270.00 2.39 BBB 35 35,546,881.80 17.74 Baa 27 28,536,150.75 14.25 BB 8 7,505,218.76 3.75 Ba 8 8,241,093.76 4.11 B 2 1,785,625.00 0.89 B 3 2,922,000.00 1.46 NR** 122 123,437,093.57 61.62 NR** 131 131,790,685.83 65.79 --- --------------- ------ --- --------------- ------ Total 189 $200,323,779.19 100.00% Total 189 $200,323,779.19 100.00% === =============== ====== === =============== ======
- --------------- * Standard & Poor's rating categories may be modified further by a plus (+) or minus (-) in AA, A, BBB, BB, B and C ratings. Moody's rating categories may be modified further by a 1, 2 or 3 in Aa, A, Baa, Ba and B ratings. ** Many bonds are rated by only one rating agency, which results in a higher percentage of bonds in this category. The total market value of bonds that do not carry a rating from any rating service is $108,810,907, which represents 54.32% of the market value of the Trust's portfolio (excluding short-term securities and futures) as of May 31, 1999. 10 16 INVESTMENT OBJECTIVES AND POLICIES The Trust's primary investment objective is to provide high current income, generally exempt from Federal income tax. The Trust's secondary objective is to seek total return. The Trust may seek to achieve its objectives by engaging in hedging transactions. Under normal circumstances, the Trust will invest at least 80% of its assets in debt securities that are consistent with its objectives of seeking high current income and total return. Typically, the Trust's investments include medium and lower quality Municipal Obligations (which are considered to be bonds which are rated Baa or lower by Moody's or BBB or lower by Standard & Poor's or comparably rated by any other national bond rating service, or which are unrated but considered by the Advisor to be of comparable quality). The high yields the Trust seeks are generally available from such securities. These obligations are considered to be speculative to varying degrees. For example, bonds rated Ba or BB are regarded, on balance, as predominantly speculative with respect to capacity to pay interest and repay principal in accordance with the terms of the obligation. For a more complete description of bond ratings, see Appendix A in the Statement of Additional Information. As noted above under "Risk Factors and Special Considerations," the Trust may invest in bonds in the lowest rating categories (bonds rated C by Moody's or D by Standard & Poor's), but will do so only when the Advisor believes such rating does not accurately reflect the true quality of the credit of the issuer of such bonds. The Trust may invest in bonds that are in default or on which the payment of principal or interest, or both, is in arrears. The medium and lower rated or unrated Municipal Obligations that the Trust intends to purchase are frequently traded in markets where the number of potential purchasers and sellers, if any, is very limited. This consideration may limit the availability of such securities for the Trust to purchase and may also limit the ability of the Trust to sell such securities at their fair value in response to changes in the economy or the financial markets. In addition to its investments in medium and lower quality Municipal Obligations, the Trust may invest in higher quality issues, particularly when the difference in returns between quality classifications is very narrow or when management expects interest rates to change. These investments may lessen the risk of decline in net asset value due to credit deterioration but may also affect the amount of current income, since yields on high quality securities are usually lower than yields on medium and lower quality securities. The Trust may invest in a relatively high percentage of Municipal Obligations issued by entities having similar characteristics. The issuers may be located in the same geographic area or may pay their interest obligations from revenues of similar projects. This may make the Trust more susceptible to similar economic, political or regulatory occurrences. As the similarity in issuers increases, the potential for fluctuation of the net asset value of the Trust's securities also increases. The Trust's policy is not to concentrate in any industry, but the Trust may invest up to 25% of its assets in industrial development revenue bonds or private activity revenue bonds that are based, directly or indirectly, on the credit of private entities in any one industry, or in securities of private issuers in any one industry (governmental issuers are not considered to be part of any "industry"). See "Investment Objectives and Policies -- Fundamental Investment Policies" and "Investment Objectives and Policies -- Other Investment Policies" in the Statement of Additional Information. It is a fundamental policy of the Trust, which may not be changed without approval of holders of a majority of the Trust's outstanding voting securities (as defined in "Investment Objectives and Policies -- Fundamental Investment Policies" and "Investment Objectives and Policies -- Other Investment Policies" in the Statement of Additional Information), to invest, under normal circumstances, at least 80% of its assets in tax-exempt bonds and tax-exempt notes. Except for this policy and the investment policies listed in the Statement of Additional Information under "Investment Objectives and Policies -- Fundamental Investment Policies," the Trust's investment policies and its investment objectives may be changed without shareholder approval. In addition to investing in Municipal Obligations, the Trust may engage in transactions involving interest rate futures contracts ("financial futures"), index futures and options on financial futures, tax- 11 17 exempt indices and index futures, as a hedge against changes in interest rates. See "Investment Objectives and Policies -- Hedging Activities." The costs of and possible losses incurred from such transactions may reduce the Trust's current return. The Trust may also purchase securities on a "when-issued" basis, enter into repurchase agreements and invest in other taxable instruments, subject to certain limitations. See "Investment Objectives and Policies -- Forward Commitments," "Investment Objectives and Policies -- Repurchase Agreements" and "Investment Objectives and Policies -- Temporary and Defensive Investments." DESCRIPTION OF MUNICIPAL OBLIGATIONS As used in this Prospectus, the term "Municipal Obligations" refers to debt obligations the interest on which was at the time of issuance, in the opinion of bond counsel to the issuer, exempt from Federal income tax (other than the possible incidence of any alternative minimum tax). (For a description of the Federal alternative minimum tax, see "Tax Matters -- Federal Taxation of Shareholders.") Municipal Obligations include debt obligations issued by a state (including the District of Columbia), a territory or a possession of the United States, or any political subdivision thereof, to obtain funds for various public purposes, including the construction of a wide range of public facilities such as airports, bridges, highways, housing, mass transportation, roads, schools and water and sewer works or for other public purposes. Interest on industrial development bonds used to fund the construction, equipment, repair or improvement of privately-operated industrial or commercial facilities may also be exempt from Federal income tax, but the size of such issues is limited under current Federal tax law. The Trust may not be a desirable investment for "substantial users" of facilities financed by industrial development bonds or private activity bonds or for "related persons" of substantial users. See "Tax Matters" in this Prospectus and "Tax Matters" in the Statement of Additional Information. The Trust has no present intention of investing in Municipal Obligations the interest on which is not exempt from Federal income tax (other than the possible incidence of any alternative minimum tax). The two principal classifications of Municipal Obligations are general obligation bonds and limited obligation (or revenue) bonds. General obligation bonds are obligations involving the credit of an issuer possessing taxing power and are payable from the issuer's general unrestricted revenues and not from any particular fund or source. The characteristics and method of enforcement of general obligation bonds vary according to the law applicable to the particular issuer, and payment may be dependent upon appropriation by the issuer's legislative body. Limited obligation 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 or other specific revenue source. Tax-exempt industrial development bonds and private activity bonds also generally are revenue bonds and thus not payable from the unrestricted revenues of the issuer. The credit quality of industrial development bonds and private activity bonds is usually directly related to the credit of the corporate user of the facilities. Payment of principal of and interest on industrial development bonds and private activity bonds is the responsibility of the corporate user (and any guarantor). Prices and yields on Municipal Obligations are dependent on a variety of factors, including general money market conditions, the financial condition of the issuer, general conditions in the tax-exempt bond market, the size of a particular offering, the maturity of the obligation and the ratings of particular issues, and are subject to change from time to time. Information about the financial condition of an issuer of Municipal Obligations may not be as extensive as that which is made available by corporations whose securities are publicly traded. The ratings of Moody's, Standard & Poor's and other national bond rating services represent their opinions and are not absolute standards of quality. Municipal Obligations with the same maturity, interest rate and rating may have different yields while Municipal Obligations of the same maturity and interest rate with different ratings may have the same yield. Obligations of issuers of Municipal Obligations are subject to the provisions of bankruptcy, insolvency and other laws, such as the Federal Bankruptcy Reform Act of 1978, affecting the rights and remedies of creditors. Congress or state legislatures may seek to extend the time for payment of principal or interest, or 12 18 both, or to impose other constraints upon enforcement of such obligations. There is also the possibility that, as a result of litigation or other conditions, the power or ability of issuers to meet their obligations to pay interest on and principal of their Municipal Obligations may be materially impaired or their obligations may be found to be invalid or unenforceable. Such litigation or conditions may from time to time have the effect of introducing uncertainties in the market for Municipal Obligations or certain segments thereof, or materially affecting the credit risk with respect to particular bonds. Adverse economic, business, legal or political developments might affect all or a substantial portion of the Trust's Municipal Obligations in the same manner. HEDGING ACTIVITIES Hedging is a means of transferring risk that an investor does not desire to assume in an uncertain interest rate environment. The Advisor believes it is possible to reduce or enhance the effects of interest rate fluctuations through the use of futures contracts and options on financial instruments. However, so long as either Standard & Poor's or Moody's is rating the shares of Municipal Preferred, the Trust will only engage in futures or options transactions in accordance with guidelines of such ratings agencies and, to the extent transactions would not be permitted by such guidelines, only after it has received written confirmation from Standard & Poor's or Moody's, as appropriate, that such transactions would not impair the ratings then assigned by such rating agency to shares of Municipal Preferred. Thus, the ability of the Trust to engage in hedging activities may be limited by such rating agency restrictions. The Trust may purchase and sell financial futures and tax-exempt bond index futures contracts ("index futures") to hedge against changes, caused by changing interest rates, in the market value of Municipal Obligations in its portfolio or that it intends to acquire. In order to hedge, the Trust may also purchase and write put and call options on financial futures, tax-exempt bond indices and index futures. The costs of and possible losses incurred from these transactions may reduce the Trust's current return. Income earned by the Trust from its hedging activities will be treated as capital gain and, if not offset by net realized capital loss, will be distributed to shareholders in taxable distributions. See "Tax Matters -- Federal Taxation of Shareholders." The Trust will not engage in transactions in futures contracts or related options for speculative purposes but only as a hedge against changes resulting from market conditions in the values of securities in its portfolio or that it intends to acquire. In addition, the Trust will not purchase or sell futures contracts or purchase or sell related options if immediately thereafter the sum of the amount of its initial margin deposits on its existing futures and related options positions and premiums paid for related options would exceed 5% of its total assets (taken at current value). In instances involving the purchase of futures contracts or call options thereon or the writing of put options thereon by the Trust, an amount of cash or liquid high-grade debt securities, equal to the underlying commodity value of the futures contracts and options (less any related margin deposits), will be deposited in a segregated account with the Trust's custodian to collateralize the position and thereby ensure that the use of such futures contracts and options is unleveraged. FINANCIAL FUTURES. In connection with its hedging activities, the Trust may engage in transactions involving financial futures. A financial future is a contract that obligates the seller to deliver and the purchaser to take delivery of a specified type of financial instrument at a specified future time and at a specified price. Although financial futures contracts by their terms require actual delivery and acceptance of securities, in most cases the contracts are closed out before the settlement date without the making or taking of delivery of securities. Closing out a futures contract purchase or sale is effected by entering into an offsetting transaction. Financial futures trade on boards of trade that have been designated "contracts markets" by the Commodity Futures Trading Commission. Financial futures trade on these markets in a manner that is similar to the way a stock trades on a stock exchange. The boards of trade, through their clearing corporations, guarantee performance of the contracts. Currently, there are financial futures based on long-term U.S. Treasury bonds, U.S. Treasury notes, Government National Mortgage Association ("GNMA") certificates, three-month U.S. Treasury bills and three-month domestic bank certificates of 13 19 deposit. The Trust expects other financial futures to be developed and traded. The Trust expects to engage in transactions involving financial futures if, in the opinion of the Advisor, they are appropriate hedging instruments for the Trust. The sale of financial futures by the Trust is for the purpose of hedging the Trust's holdings of long-term debt securities. In the event of a rise in interest rates, the value of the Trust's short position in financial futures would increase at approximately the same rate as the value of the long-term bonds in its portfolio would decline, thereby keeping the net asset value of the Trust from declining as much as it otherwise would have. If, on the other hand, the Trust held cash reserves and interest rates were expected to decline, the Trust might purchase futures contracts and thus take advantage of the anticipated rise in the value of long-term securities without actually buying them. In such an event, the futures contracts could be liquidated and the Trust's cash reserves could then be used to buy long-term securities in the cash market. Unlike when the Trust purchases or sells a security, no price is paid or received by the Trust upon the sale or purchase of a financial future. The Trust will initially be required to deposit with the Trust's custodian an amount of "initial margin" of cash or U.S. Treasury bills equal to a small percentage of the contract amount. The nature of initial margin in futures transactions is different from that of margin in securities transactions in that initial margin on financial futures does not involve the borrowing of funds by the customer to finance the transactions. Rather, the initial margin is in the nature of a performance bond or good faith deposit on the contract which is returned to the Trust upon termination of the financial future, assuming all contractual obligations have been satisfied. Subsequent payments, called maintenance margin, to and from the broker, will be made on a daily basis as the price of the underlying debt security fluctuates, making the long and short positions in the financial future more or less valuable, a process known as "marking to market." For example, when the Trust has sold a financial future and the price of the underlying debt security has declined, that position will have increased in value and the Trust will receive from the broker a maintenance margin payment equal to that increase. Conversely, where the Trust has sold a financial future and the price of the underlying debt security has increased, the position would be less valuable, and the Trust would be required to make a maintenance margin payment to the broker. At any time prior to expiration of the financial future, the Trust may elect to close the position by taking an opposite position in the financial future. A final determination of maintenance margin is then made, additional cash is required to be paid by or released to the Trust, and the Trust realizes a loss or a gain. While financial futures based on debt securities do provide for the delivery and acceptance of securities, such deliveries and acceptances are very seldom made. Generally, the financial future is terminated by entering into an offsetting transaction. An offsetting transaction for a financial future sale is effected by the Trust entering into a financial future purchase for the same aggregate amount of the specific type of financial instrument and same delivery date. If the price in the sale exceeds the price in the offsetting purchase, the Trust immediately is paid the difference and thus realizes a gain. If the offsetting purchase price exceeds the sale price, the Trust pays the difference and realizes a loss. There are several risks in connection with the use of financial futures by the Trust as a hedging device. One risk arises because of the imperfect correlation between movements in the price of the financial future and movements in the price of the debt securities that are the subject of the hedge. Financial futures based on U.S. Government securities and GNMA certificates historically have reacted to an increase or decrease in interest rates in a similar fashion to the underlying U.S. Government securities and GNMA certificates. To the extent, however, that the Trust enters into financial futures on other than Municipal Obligations, which are the only financial futures currently available, there is a possibility that the value of such financial futures would not vary in direct proportion to the value of the Trust's holdings of Municipal Obligations. Another result of the imperfect correlation between movements in the prices of the financial future and of the debt securities being hedged is that the price of the financial future may move more or less than the price of the debt securities being hedged. If the price of the financial future moves less than the price of the securities that are the subject of the hedge, the hedge will not be fully effective, but if the 14 20 price of the securities being hedged has moved in an unfavorable direction, the Trust would be in a better position than if it had not hedged at all. If the price of the securities being hedged has moved in a favorable direction, the advantage will be partially offset by the futures contract. If the price of the financial future moves more than the price of the security, the Trust will experience either a loss or a gain on the future which will not be completely offset by movements in the prices of the debt securities which are the subject of the hedge. To compensate for the imperfect correlation of movements in the price of debt securities being hedged and movements in the price of related financial futures, the Trust may sell financial futures in a greater or lesser dollar amount than the dollar amount of the securities being hedged. The market prices of financial futures may be affected by several factors other than interest rates. First, all participants in the futures market are subject to margin deposit and maintenance requirements. Rather than meeting additional margin deposit requirements, investors may close financial futures through offsetting transactions, which could distort the normal relationship between the debt securities and futures markets. Second, from the point of view of speculators, the deposit requirements in the futures market are less onerous than margin requirements in the securities market. Therefore, increased participation by speculators in the futures market may also cause temporary price distortions. Due to the possibility of price distortions in the futures market and the imperfect correlation between movements in the prices of debt securities and movements in the prices of related financial futures, a correct forecast of interest rate trends by the Trust's investment advisor may still not result in a successful hedging transaction. Positions in futures contracts may be closed out only on an exchange or board of trade that provides a secondary market for such futures. Although the Trust intends to engage in futures transactions only on exchanges or boards of trade where there appears to be an active secondary market, there is no assurance that a liquid secondary market on an exchange or board of trade will exist for any particular contract or at any particular time. If there is not a liquid secondary market at a particular time, it may not be possible to close a futures position at such time, and in the event of adverse price movements, the Trust would continue to be required to make daily cash payments of maintenance margin. However, in the event financial futures are used to hedge portfolio securities, such securities will not be sold until the financial futures can be terminated. In such circumstances, an increase in the price of the securities, if any, may partially or completely offset losses on the financial futures. OPTIONS ON FINANCIAL FUTURES. The Trust may also purchase put and call options on financial futures which are traded on a U.S. exchange or board of trade and enter into closing transactions with respect to such options to terminate an existing position. The purchase of put options on financial futures is analogous to the sale of futures so as to hedge the Trust's portfolio of debt securities against the risk of rising interest rates. The purchase of call options on financial futures is analogous to the purchase of futures contracts and represents a means of obtaining temporary exposure to market appreciation at limited risk. Such options may be used to protect against a market advance when the Trust is not fully invested. The Trust may write call options on futures contracts, which constitutes a partial hedge against any declining price of long-term debt securities. If the futures price at expiration is below the exercise price, the Trust will retain the full amount of the option premium, which provides a partial hedge against any decline that may have occurred in the Trust's holdings of debt securities. If the futures price at expiration exceeds the exercise price, the Trust will ordinarily realize a loss equal to the amount of such excess. The Trust may write put options on futures contracts, which constitutes a partial hedge against an increase in the price of long-term debt securities when the Trust is not fully invested. If the futures price at expiration is above the exercise price, the Trust will retain the full amount of the option premium, which provides a partial hedge against any increase in the market price of long-term debt securities. If the futures price at expiration is less than the exercise price, the Trust will ordinarily realize a loss equal to the difference between the futures price and the exercise price. An option on a futures contract gives the purchaser the right, in return for the premium paid, to assume a position in a futures contract (a long position if the option is a call and a short position if the option is a put) at a specified exercise price at any time during the period of the option. Upon exercise of the option, the delivery of the futures position by the writer of the option to the holder of the option will 15 21 be accompanied by delivery of the accumulated balance in the writer's futures margin account which represents the amount by which the market price of the futures contract, at exercise, exceeds, in the case of a call, or is less than, in the case of a put, the exercise price of the option on the futures contract. If an option is exercised on the last trading day prior to the expiration date of the option, the settlement will be made entirely in cash in an amount equal to the difference between the exercise price of the option and the closing price of the futures contract on the expiration date. Currently options can be purchased or written with respect to futures contracts on U.S. Treasury bonds on the Chicago Board of Trade. The holder or writer of an option may terminate his position by selling or purchasing an option of the same series. There is no guarantee that such closing transactions can be effected. Several special risks relate to transactions in options on futures. The ability to establish and close out positions on such options will be subject to the maintenance of a liquid secondary market. Compared to the sale of financial futures, the purchase of put options on financial futures involves less potential risk to the Trust because the maximum amount at risk is the premium paid for the options (plus transaction costs). However, there may be circumstances when the purchase of a put option on a financial future would result in a loss to the Trust when the sale of a financial future would not, such as when there is no movement in the price of debt securities. An option position may be closed out only on an exchange or board of trade that provides a secondary market for an option of the same series. Although the Trust generally will purchase only those options for which there appears to be an active secondary market, there is no assurance that a liquid secondary market on an exchange or board of trade will exist for any particular option, or at any particular time, and for some options, no secondary market on an exchange or board of trade may exist. In such event, it might not be possible to effect closing transactions in particular options, with the result that the Trust would have to exercise its options in order to realize any profit and would incur transaction costs upon closing out the futures positions acquired pursuant to the exercise of such option. Reasons for the absence of a liquid secondary market on an exchange or board of trade include the following: - there may be insufficient trading interest in certain options; - restrictions may be imposed by an exchange or board of trade on opening transactions or closing transactions or both; - trading halts, suspensions or other restrictions may be imposed with respect to particular classes or series of options; - unusual or unforeseen circumstances may interrupt normal operations on an exchange or board of trade; - the facilities of an exchange or board of trade or the Options Clearing Corporation (the "Clearing Corporation") may not at all times be adequate to handle current trading volume; or - one or more exchanges or boards of trade could, for economic or other reasons, decide or be compelled at some future date to discontinue the trading of options (or a particular class or series of options), in which event the secondary market on that exchange or board of trade (or in that class or series of options) would cease to exist, although outstanding options on that exchange or board of trade which had been issued by the Clearing Corporation as a result of trades on that exchange or board of trade could continue to be exercisable in accordance with their terms. There is no assurance that higher than anticipated trading activity or other unforeseen events might not, at times, render certain of the facilities of the Clearing Corporation inadequate, and thereby result in the institution by an exchange or board of trade of special procedures that may interfere with the timely execution of customers' orders. TAX-EXEMPT BOND INDEX TRANSACTIONS. The Trust anticipates utilizing tax-exempt bond index futures as a hedge against changes in the market value of the Municipal Obligations in its portfolio or which it 16 22 intends to acquire. A tax-exempt bond index assigns relative values to the Municipal Obligations included in the index. A tax-exempt bond index fluctuates with changes in the market values of the Municipal Obligations included in the index. An index future is a bilateral agreement pursuant to which two parties agree to receive or deliver at settlement an amount of cash equal to a specified dollar amount multiplied by the difference between the value of the index at the close of the last trading day of the contract and the price at which the future was originally written. An index future has similar characteristics to financial futures discussed above except that settlement is made through delivery of cash rather than the underlying securities. The Trust's strategies in employing index futures will be similar to the strategies involved in financial futures transactions. Tax-exempt bond index futures transactions also will be subject to risks similar to those described above with respect to financial futures, except that the correlation between movements in the price of a futures contract and movements in the price of the Trust's portfolio securities is likely to be higher for index futures than for financial futures. The Trust may also purchase and write put and call options on tax-exempt bond indices and on tax-exempt bond index futures and enter into closing transactions with respect to such options. An option on an index gives the holder the right to receive cash upon exercise of the option in an amount equal to a specified multiple times the amount by which the fixed exercise price of the option exceeds, in the case of a put, or is less than, in the case of a call, the closing value of the underlying index on the date of exercise. An option on an index future gives the purchaser the right, in return for the premium paid, to assume a position in an index contract rather than to sell (in the case of a put option) or buy (in the case of a call option) a debt instrument at a specified exercise price at any time during the period of the option. Upon exercise of the put option, the delivery of the futures position by the holder of the option to the writer of the option will be accompanied by delivery of the accumulated balance of the writer's futures margin account, which represents the amount by which the market price of the index futures contract, at exercise, is less than the exercise price of the put option on the index future. FORWARD COMMITMENTS New issues of Municipal Obligations are often purchased on a "when-issued" or delayed delivery basis. The payment obligations and the interest rate that will be received on the securities are fixed at the time the buyer enters into the commitment. The Trust will not begin earning interest on such securities, however, until the securities are scheduled for settlement. The Trust may enter into such "forward commitments" if it holds and maintains until the settlement date, in a segregated account, cash or short-term debt obligations in an amount sufficient to meet the purchase price provided such obligations are rated A-1 + or SP-1+ by Standard & Poor's or the long-term debt of the issuers of such obligations is rated AAA by Standard & Poor's. Forward commitments involve a risk of loss if the value of the Municipal Obligation to be purchased declines prior to the settlement date. Such a decline in value could result from, among other things, changes in the level of interest rates or other market factors. This risk is in addition to the risk of decline in the value of the Trust's other assets. Although the Trust generally will enter into forward commitments with the intention of acquiring Municipal Obligations for its portfolio, the Trust may dispose of a commitment prior to settlement if the Advisor deems it appropriate to do so. The Trust may realize capital gain or loss upon the sale of forward commitments. Any such gains, if not offset by net realized capital losses, will be distributed to shareholders in taxable distributions. REPURCHASE AGREEMENTS The Trust may purchase U.S. Government securities and concurrently enter into so-called "repurchase agreements" with the seller, usually a bank or broker-dealer, whereby the seller agrees to repurchase such securities at the Trust's cost plus interest within a specified time (normally one day). While repurchase agreements involve certain risks not associated with direct investments in U.S. Government securities, the Trust will follow procedures designed to minimize such risks. These procedures include effecting repurchase transactions only with the member banks of the Federal Reserve System and registered broker-dealers having creditworthiness substantially equivalent to that of the issuers of 17 23 investment grade debt securities. In addition, the Trust's repurchase agreements will always be at least equal to the repurchase price, including any accrued interest earned on the repurchase agreement. In the event of a default or bankruptcy by a seller, the Trust will seek to liquidate such collateral. However, the exercise of the Trust's right to liquidate such collateral could involve certain costs or delays and, to the extent that proceeds from any sale upon a default of the obligation to repurchase were less than the repurchase price, the Trust could suffer a loss. ZERO COUPON SECURITIES (ZEROS) The Trust may invest in zero coupon securities, which are securities issued at a significant discount from face value and pay interest only at maturity rather than at intervals during the life of the security and in certificates representing undivided interests in the interest or principal of mortgage-backed securities (interest only/principal only), which tend to be more volatile than other types of securities. The Trust will accrue and distribute income from zero coupon and stripped securities and certificates on a current basis and may have to sell securities to generate cash for distributions. TEMPORARY AND DEFENSIVE INVESTMENTS A portion of the Trust's assets will be held in cash or invested in short-term securities for day-to-day operating purposes. It is the intention of the Trust that short-term investments will also be in tax-exempt securities. However, if suitable short-term tax-exempt securities are not available or if short-term tax-exempt securities are available only on a when-issued basis, the Trust may invest up to 20% of its assets in short-term obligations of the U.S. Government or in repurchase agreements, or short-term notes and obligations rated A-1+, of banks that have or whose parent holding companies have long-term debt ratings of AAA or of corporations with long-term debt ratings of AAA, the interest on all of which is not exempt from Federal income taxes. Notwithstanding the foregoing, the Trust may temporarily invest more than 20% of its assets in such taxable obligations for defensive purposes. The ability of the Trust to invest in securities other than tax-exempt securities (as well as its ability to enter into repurchase agreements) is limited, however, by a requirement of the Code that at least 50% of its total assets be invested in tax-exempt securities at the end of each quarter in order to pass through to shareholders the Federal income tax exemption for dividends derived from net investment income on tax-exempt securities. See "Tax Matters -- Federal Taxation of Shareholders." 18 24 MANAGEMENT OF THE TRUST TRUSTEES AND OFFICERS The Board of Trustees is responsible for the general supervision of the Trust, including general supervision of the duties performed by the Advisor under its Management Agreement (as defined below) with the Trust. There are 13 trustees of the Trust, five of whom are "interested persons" (as defined in the 1940 Act) of the Trust, the Advisor or the Underwriter. The names and addresses of the trustees and officers of the Trust and their principal occupations and other affiliations during the past five years are set forth under "Management of the Trust" in the Statement of Additional Information. THE ADVISOR The Advisor is Colonial Management Associates, Inc., a Massachusetts corporation having its principal offices at One Financial Center, Boston, Massachusetts 02111. The Advisor is a wholly owned subsidiary of Liberty Funds Group LLC ("Liberty Funds Group") and both Liberty Funds Group and the Advisor are indirect wholly owned subsidiaries of Liberty Mutual Insurance Company ("Liberty"), an underwriter of workers' compensation insurance and a property and casualty insurer in the U.S. The Advisor has been an investment advisor since 1931. As of the date of this Prospectus, the Advisor serves as investment advisor or sub-advisor for 35 open-end and 5 closed-end management investment companies and manages over $16 billion in assets. The Advisor's investment advisory business is managed together with the mutual funds and institutional investment advisory businesses of its affiliate, Stein Roe & Farnham Incorporated ("Stein Roe"), by a combined management team of employees from both companies. Stein Roe also shares personnel, facilities and systems with Colonial that may be used in providing administrative services to the Trust. Both the Advisor and Stein Roe are subsidiaries of Liberty Financial Companies, Inc. Maureen Newman, a Senior Vice President of the Advisor, has managed the Trust since July 1998. Ms. Newman joined the Advisor in May 1996 as Vice President, Portfolio Manager and Director of Municipal Research and has served in that capacity since that date. Prior to joining the Advisor, Ms. Newman was a portfolio manager and bond analyst at Fidelity Investments from May 1985 until May 1996. MANAGEMENT AGREEMENT The Management Agreement between the Advisor and the Trust (the "Management Agreement") provides that, subject to the direction of the Board of Trustees of the Trust and the applicable provisions of the 1940 Act, the Advisor is responsible for the actual management of the Trust's portfolio. The responsibility for making decisions to buy, sell or hold a particular investment rests with the Advisor, subject to review by the Board of Trustees of the Trust and compliance with the applicable provisions of the 1940 Act. The Advisor provides the Trust with accounting, bookkeeping and pricing services and other services and office facilities (the expenses of which are borne by the Trust as specified below), except to the extent these services are provided by an administrator or an accounting firm hired by the Trust. Under the Management Agreement with the Trust, the Advisor receives a monthly advisory fee at the annual rate of 0.65% of the average weekly net assets of the Trust. Since the Advisor's fee is based on the average weekly net assets of the Trust, the Advisor will benefit from the increase in the Trust's net assets resulting from the offering of the shares of Municipal Preferred. It is not possible to state precisely the amount of additional compensation the Advisor will receive as a result of the offering because the proceeds of the offering will be invested in additional portfolio securities which will fluctuate in value. However, based on the estimated proceeds from the offering, assuming all the shares of Municipal Preferred offered hereby are purchased, the Advisor would receive additional annual advisory fees of approximately $576,663 19 25 as a result of the increase in average weekly net assets under management over the Trust's current net assets under management, assuming no fluctuations in the value of Trust portfolio securities. The Advisor places all orders for the purchase and sale of portfolio securities. In selecting broker-dealers, the Advisor may consider research and brokerage services furnished by such broker-dealers to the Advisor and its affiliates. In recognition of the research and brokerage services provided, the Advisor may cause the Trust to pay the selected broker-dealer a higher commission than would have been charged by another broker-dealer not providing such services. Subject to seeking best execution, the Advisor may consider sales of shares of certain other funds distributed by affiliates of Liberty in selecting broker-dealers for portfolio security transactions. 20 26 THE AUCTION GENERAL The proposed provisions of the Amended and Restated By-Laws of the Trust (the "By-Laws") provide that, except as otherwise described herein, the Applicable Rate with respect to shares of Municipal Preferred for each Rate Period after the Initial Rate Period thereof shall be equal to the rate per annum that the Auction Agent advises has resulted on the Business Day preceding the first day of such Subsequent Rate Period (an "Auction Date") from implementation of the auction procedures (the "Auction Procedures") set forth in the By-Laws and summarized below, in which persons determine to hold or offer to sell or, based on dividend rates bid by them, offer to purchase or sell such shares. Each periodic implementation of the Auction Procedures is referred to herein as an "Auction." Certain defined terms used in this section and under "Description of Municipal Preferred" are defined in the Glossary. AUCTION PROCEDURES Prior to the Submission Deadline on each Auction Date for shares of Municipal Preferred, each customer of a Broker-Dealer who is listed on the records of that Broker-Dealer (or, if applicable, the Auction Agent) as a holder of shares of Municipal Preferred (a "Beneficial Owner") may submit orders ("Orders") to that Broker-Dealer as follows: - Hold Order -- indicating its desire to hold shares of Municipal Preferred without regard to the Applicable Rate for the next Rate Period. - Bid -- indicating its desire to sell shares of Municipal Preferred at $25,000 per share if the Applicable Rate for the next Rate Period is less than the rate specified in such Bid (also known as a hold-at-a rate order). - Sell Order -- indicating its desire to sell shares of Municipal Preferred at $25,000 per share without regard to the Applicable Rate for the next Rate Period. A Beneficial Owner may submit different types of Orders to its Broker-Dealer with respect to shares of Municipal Preferred then held by such Beneficial Owner. A Beneficial Owner that submits a Bid to its Broker-Dealer having a rate higher than the Maximum Rate on the Auction Date will be treated as having submitted a Sell Order to its Broker-Dealer. A Beneficial Owner that fails to submit an Order to its Broker-Dealer will be deemed to have submitted a Hold Order to its Broker-Dealer; provided, however, that if a Beneficial Owner fails to submit an Order to its Broker-Dealer for an Auction relating to a Rate Period for Municipal Preferred of more than 28 Rate Period Days, such Beneficial Owner will be deemed to have submitted a Sell Order to its Broker-Dealer. A Sell Order shall constitute an irrevocable offer to sell the shares of Municipal Preferred subject thereto. A Beneficial Owner that offers to become the Beneficial Owner of additional shares of Municipal Preferred is, for purposes of such offer, a Potential Beneficial Owner of additional shares of Municipal Preferred as discussed below. A customer of a Broker-Dealer that is not a Beneficial Owner of shares of Municipal Preferred but that wishes to purchase shares, or that is a Beneficial Owner that wishes to purchase additional shares (in each case, a "Potential Beneficial Owner"), may submit Bids to its Broker-Dealer in which it offers to purchase shares of Municipal Preferred at $25,000 per share if the Applicable Rate for the next Rate Period is not less than the rate specified in such Bid. A Bid placed by a Potential Beneficial Owner specifying a rate higher than the Maximum Rate on the Auction Date will not be accepted. The Broker-Dealers in turn will submit the Orders of their respective customers who are Beneficial Owners and Potential Beneficial Owners to the Auction Agent, designating themselves (unless otherwise permitted by the Trust) as Existing Holders in respect of shares subject to Orders submitted or deemed submitted to them by Beneficial Owners and as Potential Holders in respect of shares subject to Orders submitted to them by Potential Beneficial Owners. However, neither the Trust nor the Auction Agent will 21 27 be responsible for a Broker-Dealer's failure to comply with the foregoing. Any Order placed with the Auction Agent by a Broker-Dealer as or on behalf of an Existing Holder or a Potential Holder will be treated in the same manner as an Order placed with a Broker-Dealer by a Beneficial Owner or Potential Beneficial Owner. Similarly, any failure by a Broker-Dealer to submit to the Auction Agent an Order in respect of any shares of Municipal Preferred held by it or customers who are Beneficial Owners will be treated in the same manner as a Beneficial Owner's failure to submit to its Broker-Dealer an Order in respect of shares of Municipal Preferred held by it. A Broker-Dealer may also submit Orders to the Auction Agent for its own account as an Existing Holder or Potential Holder, provided it is not an affiliate of the Trust. The Auction Agent after each Auction for shares of Municipal Preferred will pay to each Broker-Dealer, from funds provided by the Trust, a service charge at the annual rate of 1/4 of 1% in the case of any Auction immediately preceding a Rate Period of less than one year, or a percentage agreed to by the Trust and the Broker-Dealers in the case of any Auction immediately preceding a Rate Period of one year or longer, of the purchase price of shares of Municipal Preferred placed by such Broker-Dealer at such Auction. See "The Auction -- Broker-Dealers" in the Statement of Additional Information. If Sufficient Clearing Bids exist (that is, the number of shares of Municipal Preferred subject to Bids submitted or deemed submitted to the Auction Agent by Broker-Dealers as or on behalf of Potential Holders with rates equal to or lower than the Maximum Rate is at least equal to the number of shares of Municipal Preferred subject to Sell Orders submitted or deemed submitted to the Auction Agent by Broker-Dealers as or on behalf of Existing Holders), the Applicable Rate for the next succeeding Rate Period will be the lowest rate specified in the Submitted Bids which, taking into account such rate and all lower rates bid by Broker-Dealers as or on behalf of Existing Holders and Potential Holders, would result in Existing Holders and Potential Holders owning all the shares of Municipal Preferred available for purchase in the Auction. If Sufficient Clearing Bids do not exist, the Applicable Rate for the next succeeding Rate Period will be the Maximum Rate on the Auction Date. In such event, Beneficial Owners that have submitted or are deemed to have submitted Sell Orders may not be able to sell in such Auction all shares of Municipal Preferred subject to such Sell Orders. If Broker-Dealers submit or are deemed to have submitted to the Auction Agent Hold Orders with respect to all Existing Holders, the Applicable Rate for the next succeeding Rate Period will be the All Hold Order Rate. The Auction Procedures include a pro rata allocation of shares for purchase and sale, which may result in an Existing Holder continuing to hold or selling, or a Potential Holder purchasing, a number of shares of Municipal Preferred that is fewer than the number of shares of Municipal Preferred specified in its Order. To the extent the allocation procedures have that result, Broker-Dealers that have designated themselves as Existing Holders or Potential Holders in respect of customer Orders will be required to make appropriate pro rata allocations among their respective customers. Settlement of purchases and sales with respect to shares of Municipal Preferred will be made on the next Business Day (also a Dividend Payment Date) after the Auction Date through the Securities Depository. Purchasers will make payment through their Agent Members in same-day funds to the Securities Depository against delivery to their respective Agent Member. The Securities Depository will make payment to the Sellers' Agent Members in accordance with the Securities Depository's normal procedures, which now provide for payment against delivery by their Agent Members in same-day funds. The settlement procedures to be used with respect to Auctions for shares of Municipal Preferred are set forth in Appendix C to the Statement of Additional Information. The first Auction for shares of Municipal Preferred will be held on Friday, , 1999, the Business Day preceding the Dividend Payment Date for the Initial Rate Period thereof. Thereafter, except during Special Rate Periods, Auctions will normally be held every Friday, and each Subsequent Rate Period will normally begin on the following Monday. Whenever the Trust intends to include any net capital gain or other income taxable for Federal income tax purposes in any dividend on shares of Municipal Preferred, the Trust shall, in the case of Minimum Rate Periods or Special Rate Periods of 28 Rate Period Days or fewer, and may, in the case of any other Special Rate Period, notify the Auction Agent of the amount to be so included not later than 22 28 the Dividend Payment Date next preceding the Auction Date on which the Applicable Rate for such dividend is to be established. Whenever the Auction Agent receives such notice from the Trust, it will be required in turn to notify each Broker-Dealer, who, on or prior to such Auction Date, in accordance with its Broker-Dealer Agreement, will be required to notify its customers who are Beneficial Owners and Potential Beneficial Owners believed by it to be interested in submitting an Order in the Auction to be held on such Auction Date. SECONDARY MARKET TRADING AND TRANSFER OF MUNICIPAL PREFERRED The Broker-Dealers (including the Underwriter) expect, but are not obligated, to maintain a secondary trading market in shares of Municipal Preferred outside of Auctions. There can be no assurance that a secondary trading market for shares of Municipal Preferred will develop or, if it does develop, that it will provide owners with liquidity of investment. The shares of Municipal Preferred will not be registered on any stock exchange or on the National Association of Securities Dealers Automated Quotations System. Investors who purchase shares of Municipal Preferred in an Auction for a Special Rate Period should note that because the dividend rate on such shares will be fixed for the length of such Rate Period, the value of such shares may fluctuate in response to the changes in interest rates, and may be more or less than their original cost if sold on the open market in advance of the next Auction thereof, depending on market conditions. A Beneficial Owner or an Existing Holder may sell, transfer, or otherwise dispose of shares of Municipal Preferred only in whole shares and only (1) pursuant to a Bid or Sell Order placed with the Auction Agent in accordance with the Auction Procedures, (2) to a Broker-Dealer or (3) to such other persons as may be permitted by the Trust; provided, however, that (a) a sale, transfer or other disposition of shares of Municipal Preferred from a customer of a Broker-Dealer who is listed on the records of that Broker-Dealer as the holder of such shares to that Broker-Dealer or another customer of that Broker-Dealer shall not be deemed to be a sale, transfer or other disposition for purposes of the foregoing if such Broker-Dealer remains the Existing Holder of the shares so sold, transferred or disposed of immediately after such sale, transfer or disposition and (b) in the case of all transfers other than pursuant to Auctions, the Broker-Dealer (or other person, if permitted by the Trust) to whom such transfer is made shall advise the Auction Agent of such transfer. DETERMINATION OF NET ASSET VALUE Net asset value of the Trust will be determined no less frequently than as of the close of regular trading on the New York Stock Exchange (the "Exchange") (generally 4:00 p.m. Eastern time) on the last Business Day of each week (generally Friday), and at such other times as the Trust may authorize. The net asset value of the Trust equals the value of the Trust's assets less the Trust's liabilities. Portfolio securities for which market quotations are readily available are valued at current market value. Short-term investments maturing in 60 days or less are valued at amortized cost when the Advisor determines, pursuant to procedures adopted by the Board of Trustees, that such cost approximates current market value. All other securities and assets are valued at their fair value following procedures adopted by the Board of Trustees. 23 29 DESCRIPTION OF MUNICIPAL PREFERRED GENERAL The Agreement and Declaration of Trust of the Trust (the "Declaration") provides that the Trust may authorize separate classes of shares of beneficial interest. The By-Laws of the Trust will, at the time they are amended and restated, authorize the issuance of 3,600 preferred shares of beneficial interest, no par value per share, which may be issued from time to time in such series and with such designations, preferences and other rights, qualifications, limitations and restrictions as are determined in a resolution of the Board of Trustees ("Preferred Shares"). The By-Laws authorize the issuance of up to 3,600 shares of Series F Municipal Preferred. Shares of Municipal Preferred carry one vote per share. Shares of Municipal Preferred will, when issued, be fully paid and, subject to matters discussed in "Certain Provisions in the Agreement and Declaration of Trust," nonassessable, and will have no pre-emptive or conversion rights or rights to cumulative voting. DIVIDENDS AND DIVIDEND PERIODS GENERAL. The Initial Rate Period for shares of Municipal Preferred is a period consisting of days. Any Subsequent Rate Period will be a Minimum Rate Period (7 Rate Period Days) unless the Trust, subject to certain conditions, designates such Subsequent Rate Period as a Special Rate Period. See "Designation of Special Rate Periods" below. Dividends on the shares of Municipal Preferred will be payable, when, as and if declared by the Board of Trustees out of funds legally available therefor in accordance with the Declaration, the By-Laws and applicable law on Monday, , 1999, and thereafter on each Monday; provided, however, that (1) if the Monday on which dividends would otherwise be payable is not a Business Day, then dividends shall be payable instead on the first Business Day that falls after such Monday and (2) the Trust may specify different Dividend Payment Dates in respect of any Special Rate Period of such shares of more than 28 Rate Period Days. The amount of dividends per share payable on shares of Municipal Preferred on any date on which dividends shall be payable on such shares shall be computed by multiplying the Applicable Rate in effect for such Dividend Period or Dividend Periods or part thereof for which dividends have not been paid by a fraction, the numerator of which shall be the number of days in such Dividend Period or Dividend Periods or part thereof and the denominator of which shall be 365 if such Dividend Period consists of 7 Rate Period Days and 360 for all other Dividend Periods, and applying the rate obtained against $25,000. Dividends will be paid through the Securities Depository on each Dividend Payment Date in accordance with its normal procedures, which now provide for it to distribute dividends in next-day funds to Agent Members, who in turn are expected to distribute such dividend payments to the persons for whom they are acting as agents. Each of the initial Broker-Dealers, however, has indicated to the Trust that such Broker-Dealer or the Agent Member designated by such Broker-Dealer will make such dividend payments available in same-day funds on each Dividend Payment Date to customers that use such Broker-Dealer or its designee as Agent Member. Dividends on shares of Municipal Preferred shall accumulate from the Date of Original Issue. The dividend rate for the Initial Rate Period will be % per annum. For each Subsequent Rate Period, the dividend rate will be the Applicable Rate that the Auction Agent advises the Trust results from an Auction, except as provided below. The Applicable Rate that results from an Auction will not be greater than the Maximum Rate which is: (i) in the case of any Auction Date which is not the Auction Date immediately prior to the first day of any proposed Special Rate Period, the product of (1) the Reference Rate on such Auction Date for the next Rate Period and (2) the Rate Multiple on such Auction Date, unless such shares have or had a Special Rate Period (other than a Special Rate Period of 28 Rate Period Days or 24 30 fewer) and an Auction at which Sufficient Clearing Bids existed has not yet occurred for a Minimum Rate Period after such Special Rate Period, in which case the higher of: (A) the dividend rate on such shares of the then-ending Rate Period; and (B) the product of (x) the higher of (I) the Reference Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period, if such then-ending Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period, if such then-ending Rate Period was more than 364 Rate Period Days, and (II) the Reference Rate on such Auction Date for a Rate Period equal in length to such Special Rate Period, if such Special Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to such Special Rate Period, if such Special Rate Period was more than 364 Rate Period Days and (y) the Rate Multiple on such Auction Date; or (ii) in the case of any Auction Date which is the Auction Date immediately prior to the first day of any proposed Special Rate Period, the product of (1) the highest of (x) the Reference Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period, if such then-ending Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period, if such then-ending Rate Period was more than 364 Rate Period Days, (y) the Reference Rate on such Auction Date for the Special Rate Period for which the Auction is being held if such Special Rate Period is 364 Rate Period Days or fewer or the Treasury Note Rate on such Auction Date for the Special Rate Period for which the Auction is being held if such Special Rate Period is more than 364 Rate Period Days, and (z) the Reference Rate on such Auction Date for Minimum Rate Periods and (2) the Rate Multiple on such Auction Date. If any Auction for any Subsequent Rate Period is not held for any reason other than as described below, the dividend rate for such Subsequent Rate Period will be the Maximum Rate on the Auction Date for such Subsequent Rate Period. If the Trust fails to pay in a timely manner to the Auction Agent the full amount of any dividend on, or the redemption price of, shares of Municipal Preferred during any Rate Period thereof (other than any Special Rate Period of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period of more than 364 Rate Period Days during which such a failure occurred that has not been cured), and, prior to 12:00 Noon on the third Business Day next succeeding the date such failure occurred, such failure shall have been cured and the Trust shall have paid a late charge, each as described more fully in the Statement of Additional Information, no Auction will be held for the Subsequent Rate Period thereof and the dividend rate for shares of Municipal Preferred for such Subsequent Rate Period will be the Maximum Rate on the Auction Date for such Subsequent Rate Period. If the Trust fails to pay in a timely manner to the Auction Agent the full amount of any dividend on, or the redemption price of, any shares of Municipal Preferred during any Rate Period (other than any Special Rate Period of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period of more than 364 Rate Period Days during which such a failure occurred that has not been cured), and, prior to 12:00 Noon on the third Business Day next succeeding the date on which such failure occurred, such failure shall not have been cured or the Trust shall not have paid a late charge, each as described more fully in the Statement of Additional Information, no Auction will be held in respect of such shares for the first Subsequent Rate Period thereof thereafter (or for any Rate Period thereof thereafter to and including the Rate Period during which such failure is so cured and such late charge so paid (such late charge to be paid only in the event Moody's is rating such shares at the time the Trust cures such failure)), and the dividend rate for such shares for each such Subsequent Rate Period shall be a rate per annum equal to the Maximum Rate on the Auction Date for each such Subsequent Rate Period (but with the prevailing rating for such shares, for purposes of determining such Maximum Rate, being deemed to be "Below 'ba3'/BB-"). 25 31 If the Trust fails to pay in a timely manner to the Auction Agent the full amount of any dividend on, or the redemption price of, any shares of Municipal Preferred during a Special Rate Period of more than 364 Rate Period Days, or during any Rate Period succeeding any Special Rate Period of more than 364 Rate Period Days during which such a failure occurred that has not been cured, and such failure shall not have been cured or, in the event Moody's is then rating such shares, the Trust shall not have paid a late charge, in each case prior to 12:00 Noon, Eastern time, on the fourth Business Day preceding the Auction Date for the Rate Period subsequent to such Rate Period and as more fully described in the Statement of Additional Information, no Auction will be held for such Subsequent Rate Period thereof (or for any Rate Period thereof thereafter to and including the Rate Period during which such failure is so cured and such late charge is so paid (such late charge to be paid only in the event that Moody's is rating the shares at the time and the Trust cures such failure)), and the dividend rate for each such Subsequent Rate Period shall be a rate per annum equal to the Maximum Rate on the Auction Date for each such Subsequent Rate Period (but with the prevailing rating for such shares, for purposes of determining such Maximum Rate, being deemed to be "Below 'ba3'/BB-"). A failure to pay dividends on or the redemption price of shares of Municipal Preferred shall have been cured with respect to any Rate Period if, within the respective time periods described above, the Trust shall have paid to the Auction Agent (i) all accumulated and unpaid dividends on the shares of Municipal Preferred and (ii) without duplication, the redemption price for the shares of Municipal Preferred, if any, for which notice of redemption has been mailed by the Trust; provided, however, that the foregoing clause (ii) shall not apply to the Trust's failure to pay the redemption price in respect of shares of Municipal Preferred when the related notice of redemption provides that redemption of such shares is subject to one or more conditions precedent and any such condition precedent shall not have been satisfied at the time or times and in the manner specified in such notice of redemption. GROSS-UP PAYMENTS. Holders of shares of Municipal Preferred shall be entitled to receive, when, as and if declared by the Board of Trustees, out of funds legally available therefor in accordance with the Declaration, the By-Laws and applicable law, dividends in an amount equal to the aggregate Gross-up Payment in accordance with the following: If, in the case of any Minimum Rate Period or any Special Rate Period of 28 Rate Period Days or fewer, the Trust allocates any net capital gain or other income taxable for Federal income tax purposes to a dividend paid on shares of Municipal Preferred without having given advance notice thereof to the Auction Agent as described above under "The Auction -- Auction Procedures" (a "Taxable Allocation") solely by reason of the fact that such allocation is made retroactively as a result of the redemption of all or a portion of the outstanding shares of Municipal Preferred or the liquidation of the Trust, the Trust will, prior to the end of the calendar year in which such dividend was paid, provide notice thereof to the Auction Agent and direct the Trust's dividend disbursing agent to send such notice with a Gross-up Payment to each holder of shares (initially Cede & Co., as nominee of the Securities Depository) that was entitled to such dividend payment with respect to shares of Municipal Preferred during such calendar year at such holder's address as the same appears or last appeared on the record books of the Trust. If, in the case of any Special Rate Period of more than 28 Rate Period Days, the Trust makes a Taxable Allocation to a dividend paid on shares of Municipal Preferred, the Trust shall, prior to the end of the calendar year in which such dividend was paid, provide notice thereof to the Auction Agent and direct the Trust's dividend disbursing agent to send such notice with a Gross-up Payment to each holder of such shares that was entitled to such dividend payment during such calendar year at such holder's address as the same appears or last appeared on the record books of the Trust. The Trust shall not be required to make Gross-up Payments with respect to any net capital gain or other taxable income determined by the Internal Revenue Service to be allocable in a manner different from that allocated by the Trust. A "Gross-up Payment" in respect of any dividend means payment to a holder of shares of Municipal Preferred of an amount which, giving effect to the Taxable Allocations made with respect to such dividend, would cause such holder's after-tax returns (taking into account both the Taxable Allocations 26 32 and the Gross-up Payment) to be equal to the after-tax return the holder would have received if no such Taxable Allocations had occurred. Such Gross-up Payment shall be calculated: (i) without consideration being given to the time value of money; (ii) assuming that no holder of shares of Municipal Preferred is subject to the Federal alternative minimum tax with respect to dividends received from the Trust; and (iii) assuming that each holder of shares of Municipal Preferred is taxable at the maximum marginal regular Federal individual income tax rate applicable to ordinary income or net capital gain, as applicable, or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income or net capital gain, as applicable, whichever is greater, in effect at the time such Gross-up Payment is made. RESTRICTIONS ON DIVIDENDS AND OTHER DISTRIBUTIONS. For so long as any shares of Municipal Preferred are outstanding, the Trust may not declare, pay or set apart for payment any dividend or other distribution (other than a dividend or distribution paid in shares of, or in options, warrants or rights to subscribe for or purchase, Common Shares) in respect of Common Shares or call for redemption, redeem, purchase or otherwise acquire for consideration any Common Shares (except by conversion into or exchange for shares of the Trust ranking junior to the shares of Municipal Preferred as to the payment of dividends and the distribution of assets upon liquidation), unless (1) full cumulative dividends on shares of Municipal Preferred through their most recently ended Dividend Period shall have been paid or shall have been declared and sufficient funds for the payment thereof deposited with the Auction Agent; (2) the Trust has redeemed the full number of shares of Municipal Preferred required to be redeemed by any provision for mandatory redemption pertaining thereto; and (3) immediately after such transaction the Discounted Value of the Trust's portfolio would at least equal the Municipal Preferred Basic Maintenance Amount in accordance with guidelines of the rating agency or agencies then rating the shares of Municipal Preferred. Except as set forth in the next sentence, no dividends shall be declared or paid or set apart for payment on any class or series of shares of beneficial interest of the Trust ranking, as to the payment of dividends, on a parity with shares of Municipal Preferred for any period unless full cumulative dividends have been or contemporaneously are declared and paid on the shares of Municipal Preferred through their most recent Dividend Payment Date. When dividends are not paid in full upon the shares of Municipal Preferred through their most recent Dividend Payment Date or upon any other class or series of shares ranking on a parity as to the payment of dividends with shares of Municipal Preferred through their most recent respective dividend payment dates, all dividends declared upon shares of Municipal Preferred and any other such class or series of shares ranking on a parity as to the payment of dividends with shares of Municipal Preferred shall be declared pro rata so that the amount of dividends declared per share on shares of Municipal Preferred and such other class or series of shares shall in all cases bear to each other the same ratio that accumulated dividends per share on the shares of Municipal Preferred and such other class or series of shares bear to each other. DESIGNATION OF SPECIAL RATE PERIODS The Trust, at its option, may designate any succeeding Subsequent Rate Period as a Special Rate Period consisting of a specified number of Rate Period Days evenly divisible by seven and not more than 1,820 (approximately 5 years), subject to certain adjustments. A designation of a Special Rate Period shall be effective only if, among other things, (i) the Trust shall give certain notices to the Auction Agent, (ii) an Auction for such shares shall have been held on the Auction Date immediately preceding the first day of such proposed Special Rate Period and Sufficient Clearing Bids for such shares shall have existed in such Auction and (iii) if the Trust shall have mailed a notice of redemption with respect to any shares of Municipal Preferred, the redemption price with respect to such shares shall have been deposited with the Auction Agent. VOTING RIGHTS In addition to voting rights described below under "Certain Provisions in the Agreement and Declaration of Trust" and in the Statement of Additional Information under "Investment Objectives and Policies -- Fundamental Investment Policies," holders of shares of Municipal Preferred, voting as a separate class, are entitled to elect (1) two trustees of the Trust at all times and (2) a majority of the 27 33 trustees if at any time dividends on shares of Municipal Preferred shall be unpaid in an amount equal to two years dividends thereon, and to continue to be so represented until all dividends in arrears shall have been paid or otherwise provided for. In all other cases, trustees shall be elected by holders of Common Shares and Preferred Shares (including Municipal Preferred), voting together as a single class. Subject to the voting rights described above and except as otherwise specified under "Certain Provisions in the Agreement and Declaration of Trust," the Trust may not, among other things, without the approval of the holders of a "majority of the outstanding" shares of Municipal Preferred, voting as a separate class, approve any plan of reorganization adversely affecting shares of Municipal Preferred. In addition, the Trust may not, without the affirmative vote of the holders of at least a majority of the shares of Municipal Preferred outstanding at the time, voting as a separate class: (a) authorize, create or issue additional shares of Municipal Preferred or classes or series of Preferred Shares ranking prior to or on a parity with shares of Municipal Preferred with respect to the payment of dividends or the distribution of assets upon liquidation or (b) amend, alter or repeal the provisions of the Declaration or the By-Laws, whether by merger, consolidation or otherwise, so as to materially affect any preference, right or power of such shares of Municipal Preferred or the holders thereof; provided, however, that a division of a share of Municipal Preferred shall be deemed to materially affect any such preference, right or power only if the terms of such division adversely affect the holders of shares of Municipal Preferred. The Trust may not, without the affirmative vote of the holders of at least 66 2/3% of the shares of Municipal Preferred outstanding at the time, voting as a separate class, file a voluntary application for relief under Federal bankruptcy law or any similar application under state law for so long as the Trust is solvent and does not foresee becoming insolvent. Notwithstanding the second sentence of this paragraph, the Trust may, without the vote of the holders of shares of Municipal Preferred, authorize, create or issue additional shares of Municipal Preferred or classes or series of Preferred Shares ranking on a parity with shares of Municipal Preferred with respect to the payment of dividends and the distribution of assets upon liquidation if the Trust obtains written confirmation from Moody's (if Moody's is then rating the shares of Municipal Preferred) and Standard & Poor's (if Standard & Poor's is then rating the shares of Municipal Preferred) that the issuance of any such additional shares or class or series of shares would not impair the rating then assigned by such rating agency to shares of Municipal Preferred; provided, however, that if Moody's or Standard & Poor's is not then rating the shares of Municipal Preferred, the aggregate liquidation preference of all Preferred Shares of the Trust outstanding after any such issuance, exclusive of accumulated and unpaid dividends, may not exceed $90,000,000. If any action set forth in this paragraph would adversely affect the rights of one or more series (the "Affected Series") of Municipal Preferred in a manner different from any other series of Municipal Preferred, the Trust will not approve any such action without the affirmative vote of the holders of at least a majority of the shares of each such Affected Series outstanding at the time (each such Affected Series voting as a separate class). REDEMPTION MANDATORY REDEMPTION. In the event the Trust does not timely cure a failure to maintain (1) a Discounted Value of its portfolio equal to the Municipal Preferred Basic Maintenance Amount or (2) the 1940 Act Municipal Preferred Asset Coverage, in each case in accordance with the requirements of the rating agency or agencies then rating the shares of Municipal Preferred, shares of Municipal Preferred will be subject to mandatory redemption on a date specified by the Board of Trustees, out of funds legally available therefor in accordance with the Declaration, the By-Laws and applicable law, at the redemption price of $25,000 per share plus an amount equal to accumulated but unpaid dividends thereon (whether or not earned or declared) to (but not including) the date fixed for redemption. Any such redemption will be limited to the number of shares of Municipal Preferred necessary to restore the required Discounted Value or the 1940 Act Municipal Preferred Asset Coverage, as the case may be. In determining the number of shares of Municipal Preferred required to be redeemed in accordance with the foregoing, the Trust will allocate the number of shares required to be redeemed to satisfy the Municipal Preferred Basic Maintenance Amount or the 1940 Act Municipal Preferred Asset Coverage, as the case may be, pro rata among shares of Municipal Preferred and other Preferred Shares of the Trust, subject to redemption or retirement. 28 34 OPTIONAL REDEMPTION. Shares of Municipal Preferred are redeemable, at the option of the Trust: (i) in whole or in part, on the second Business Day preceding any Dividend Payment Date for such shares, out of funds legally available therefor in accordance with the Declaration, the By-Laws and applicable law, at the redemption price of $25,000 per share plus an amount equal to accumulated but unpaid dividends thereon (whether or not earned or declared) to (but not including) the date fixed for redemption; provided, however, that (1) shares of Municipal Preferred may not be redeemed in part if after such partial redemption fewer than 500 shares remain outstanding and (2) the notice establishing a Special Rate Period of shares of Municipal Preferred, as delivered to the Auction Agent and filed with the Secretary of the Trust, may provide that such shares shall not be redeemable during the whole or any part of such Special Rate Period (except as provided in (ii) below) or shall be redeemable during the whole or any part of such Special Rate Period only upon payment of such redemption premium or premiums as shall be specified therein; and (ii) as a whole but not in part, out of funds legally available therefor in accordance with the Declaration, the By-Laws and applicable law, on the first day following any Dividend Period included in a Rate Period of more than 364 Rate Period Days if, on the date of determination of the Applicable Rate for such Rate Period, such Applicable Rate equaled or exceeded on such date of determination the Treasury Note Rate for such Rate Period, at a redemption price of $25,000 per share plus an amount equal to accumulated but unpaid dividends thereon (whether or not earned or declared) to (but not including) the date fixed for redemption. Notwithstanding the foregoing, if any dividends on shares of Municipal Preferred (whether or not earned or declared) are in arrears, no shares of Municipal Preferred shall be redeemed unless all outstanding shares of Municipal Preferred are simultaneously redeemed, and the Trust shall not purchase or otherwise acquire any shares of Municipal Preferred; provided, however, that the foregoing shall not prevent the purchase or acquisition of all outstanding shares of Municipal Preferred pursuant to the successful completion of an otherwise lawful purchase or exchange offer made on the same terms to, and accepted by, holders of all outstanding shares of Municipal Preferred. LIQUIDATION Subject to the rights of holders of any series or class or classes of shares ranking on a parity with shares of Municipal Preferred with respect to the distribution of assets upon liquidation of the Trust, upon a liquidation of the Trust, whether voluntary or involuntary, the holders of shares of Municipal Preferred then outstanding will be entitled to receive and to be paid out of the assets of the Trust available for distribution to its shareholders, before any payment or distribution shall be made on the Common Shares, an amount equal to the liquidation preference with respect to such shares ($25,000 per share), plus an amount equal to all dividends thereon (whether or not earned or declared) accumulated but unpaid to (but not including) the date of final distribution in same-day funds, together with any applicable Gross-up Payments in connection with the liquidation of the Trust. After the payment to the holders of the shares of Municipal Preferred of the full preferential amounts provided for as described herein, the holders of Municipal Preferred as such shall have no right or claim to any of the remaining assets of the Trust. Neither the sale of all or substantially all the property or business of the Trust, nor the merger or consolidation of the Trust into or with any Massachusetts business trust or corporation nor the merger or consolidation of any Massachusetts business trust or corporation into or with the Trust shall be a liquidation, whether voluntary or involuntary, for the purposes of the foregoing paragraph. RATING AGENCY GUIDELINES The Trust is required under Moody's and Standard & Poor's guidelines to maintain assets having in the aggregate a Discounted Value at least equal to the Municipal Preferred Basic Maintenance Amount. Moody's and Standard & Poor's have each established separate guidelines for determining Discounted Value. To the extent any particular portfolio holding does not satisfy the applicable rating agency's guidelines, all or a portion of such holding's value will not be included in the calculation of Discounted Value (as defined by such rating agency). The Moody's and Standard & Poor's guidelines do not impose 29 35 any limitations on the percentage of Trust assets that may be invested in holdings not eligible for inclusion in the calculation of the Discounted Value of the Trust's portfolio. The amount of such assets included in the portfolio at any time may vary depending upon the rating, diversification and other characteristics of the eligible assets included in the portfolio. The Municipal Preferred Basic Maintenance Amount includes the sum of (i) the aggregate liquidation preference of shares of Municipal Preferred then outstanding and (ii) certain accrued and projected payment obligations of the Trust. The Trust is also required under rating agency guidelines to maintain, with respect to the shares of Municipal Preferred, as of the last Business Day of each month in which any shares of Municipal Preferred are outstanding, asset coverage of at least 200% with respect to senior securities which are shares, including shares of Municipal Preferred (or such other asset coverage as may in the future be specified in or under the 1940 Act as the minimum asset coverage for senior securities which are shares of a closed-end investment company as a condition of declaring dividends on its common shares) ("1940 Act Municipal Preferred Asset Coverage"). Based on the composition of the Trust's portfolio and market conditions as of May 31, 1999, the 1940 Act Municipal Preferred Asset Coverage with respect to shares of Municipal Preferred, assuming the issuance on the date hereof of all shares of Municipal Preferred offered hereby and after giving effect to the deduction of the sales load and offering costs relating thereto estimated at $1,282,520, would be computed as follows: Value of Trust assets less liabilities not constituting senior securities $293,865,722 - ------------------------------------------- ------------ = = 327% Senior securities representing indebtedness plus $ 90,000,000 liquidation value of the shares of Municipal Preferred
In the event the Trust does not timely cure a failure to maintain (1) a Discounted Value of its portfolio equal to the Municipal Preferred Basic Maintenance Amount or (2) the 1940 Act Municipal Preferred Asset Coverage, in each case in accordance with the requirements of the rating agency or agencies then rating the shares of Municipal Preferred, the Trust will be required to redeem shares of Municipal Preferred as described above under "Description of Municipal Preferred -- Redemption." The Trust may, but is not required to, adopt any modifications to the guidelines that may hereafter be established by Moody's or Standard & Poor's. Failure to adopt any such modifications, however, may result in a change in the ratings described above or a withdrawal of ratings altogether. In addition, any rating agency providing a rating for the shares of Municipal Preferred may, at any time, change or withdraw any such rating. The Board of Trustees may, without shareholder approval, amend, alter or repeal any or all of the definitions and related provisions which have been adopted by the Trust pursuant to the rating agency guidelines in the event the Trust receives written confirmation from Moody's or Standard & Poor's, or both, as appropriate, that any such change would not impair the ratings then assigned by Moody's and Standard & Poor's to shares of Municipal Preferred. As described by Moody's and Standard & Poor's, a preferred share rating is an assessment of the capacity and willingness of an issuer to pay preferred share obligations. The ratings on the Municipal Preferred are not recommendations to purchase, hold or sell shares of Municipal Preferred, inasmuch as the ratings do not comment as to market price or suitability for a particular investor. The rating agency guidelines described above also do not address the likelihood that an owner of shares of Municipal Preferred will be able to sell such shares in an Auction or otherwise. The ratings are based on current information furnished to Moody's and Standard & Poor's by the Trust and the Advisor, and information obtained from other sources. The ratings may be changed, suspended or withdrawn as a result of changes in, or the unavailability of, such information. A rating agency's guidelines will apply to shares of Municipal Preferred only so long as such rating agency is rating such shares. The Trust will pay certain fees to Moody's or Standard & Poor's, or both, for rating shares of Municipal Preferred. 30 36 DESCRIPTION OF COMMON SHARES In addition to the shares of Municipal Preferred, the Declaration authorizes the issuance of an unlimited number of Common Shares, no par value. All Common Shares have equal noncumulative voting rights and equal rights with respect to dividends, assets and liquidation. Common Shares are fully paid and nonassessable when issued and have no preemptive, conversion or exchange rights. So long as any shares of Municipal Preferred are outstanding, the Trust is not permitted to declare dividends on, make any distributions with respect to, or purchase its Common Shares unless, at the time of such declaration, distribution or purchase, as applicable (and after giving effect thereto), all accumulated dividends on any preferred shares of the Trust have been paid. In the past, the Trust's Common Shares have traded at various times at either a premium or a discount in relation to net asset value. Shares of other closed-end investment companies frequently trade at a discount from net asset value. CERTAIN PROVISIONS IN THE AGREEMENT AND DECLARATION OF TRUST The Board of Trustees is divided into three classes, each having a term of three years. Each year the term of one class expires. This may make it more difficult to change the Trust's management and could have the effect of depriving shareholders of an opportunity to sell their Common Shares at a premium over prevailing market prices by discouraging a third party from seeking to obtain control of the Trust in a tender offer or similar transaction. In addition, the Declaration provides that the affirmative vote or consent of two-thirds of the outstanding Common Shares and any Preferred Shares of the Trust (including shares of Municipal Preferred), voting together as a single class, and of the Preferred Shares (including shares of Municipal Preferred) voting together as a single class, would be required to authorize the conversion of the Trust from a closed-end to an open-end investment company. This two-thirds vote requirement is higher than the vote required under the 1940 Act. Reference should be made to the Declaration on file with the Commission for the full text of these provisions. 31 37 REPURCHASE OF COMMON SHARES; CONVERSION TO OPEN-END FUND REPURCHASE OF SHARES Shares of closed-end investment companies frequently trade at a discount from net asset value. The Board of Trustees regularly monitors the relationship between the Trust's market price and net asset value. If shares of the Trust were to trade at a substantial discount to net asset value for an extended period of time, the Board may consider the repurchase of its Common Shares on the open market or the making of tender offers for such shares. Since commencement of the Trust's operations, no such open market purchases or tender offers have been made, and no assurances can be given that such actions will be taken in the future. Subject to its investment restrictions, the Trust may borrow money to finance the repurchase of shares, subject to compliance with the 1940 Act Municipal Preferred Asset Coverage, Section 18 of the 1940 Act and the other limitations described under "Rating Agency Guidelines." Shares may not be repurchased, however, (i) if applicable asset coverage requirements under the 1940 Act (i.e., 200% with respect to any preferred shares of the Trust, including shares of Municipal Preferred) are not met or would not be met following such repurchase or (ii) if otherwise prohibited by applicable law. There can be no assurance that repurchases or tenders, if they were to occur, would result in the shares trading at a price which is equal to their net asset value. The Trust anticipates that the market price of the shares will usually vary from net asset value. The market price of the shares will be determined, among other things, by the relative demand for and supply of the shares in the market, the Trust's investment performance, the Trust's dividends and yield and investor perception of the Trust's overall attractiveness as an investment as compared with other investment alternatives. It should be recognized that any such acquisitions of shares would decrease the total assets of the Trust and therefore have the effect of increasing the Trust's expense ratio. Furthermore, any interest on borrowings to finance share repurchase transactions would reduce the Trust's net income. CONVERSION TO OPEN-END STATUS The Trust's Board of Trustees may from time to time consider submitting to the holders of the shares of beneficial interest of the Trust at any time a proposal to convert the Trust to an open-end investment company. In determining whether to exercise its discretion to submit this issue to shareholders, the Board of Trustees would consider all factors then relevant, including the relationship of the market price of the Common Shares to net asset value, the extent to which the Trust's capital structure is leveraged and the possibility of re-leveraging, the spread, if any, between yields on lower rated securities in the Trust's portfolio and interest and dividend charges on senior securities and general market and economic conditions. In addition to any vote required by Massachusetts law, conversion of the Trust to an open-end investment company would require the affirmative vote of two-thirds of the Common Shares and any Preferred Shares of the Trust (including shares of Municipal Preferred), voting together as a single class, and of the Preferred Shares (including shares of Municipal Preferred) voting together as a single class, entitled to be voted on the matter. This two-thirds vote requirement is higher than the vote required under the 1940 Act. Shareholders of an open-end investment company may require the company to redeem their shares at any time (except in certain circumstances as authorized by or under the 1940 Act) at their net asset value, less such redemption charges, if any, as might be in effect at the time of redemption. If the Trust converted to an open-end investment company, it would be required to redeem all shares of Municipal Preferred then outstanding at the redemption price specified under "Description of Municipal Preferred -- Redemption -- Optional Redemption." In addition, the Trust could be required to liquidate portfolio securities to meet required and requested redemptions, and its Common Shares would no longer be listed on the Exchange. No assurance can be given that the Board will, at any time in the future, decide to submit a proposal to convert to open-end status to the shareholders of the Trust. 32 38 TAX MATTERS The following Federal tax discussion is based on the advice of Ropes & Gray, counsel to the Trust, and reflects provisions of the Code, existing Treasury regulations, rulings published by the Internal Revenue Service, and other applicable authority, as of the date of this Prospectus. These authorities are subject to change by legislative or administrative action. The following discussion is only a summary of some of the important tax considerations generally applicable to investments in the Trust. There may be other tax considerations applicable to particular investors. In addition, income earned through an investment in the Trust may be subject to foreign, state and local taxes. Prospective shareholders are therefore urged to consult their tax advisors with respect to the tax consequences to them of an investment in the Trust. For more information on Federal income tax considerations, see "Tax Matters" in the Statement of Additional Information. FEDERAL TAXATION OF THE TRUST The Trust intends to qualify each year for taxation as a regulated investment company under Subchapter M of the Code. If the Trust so qualifies, the Trust will not be subject to Federal income tax on income distributed in a timely manner to Trust shareholders in the form of dividends or capital gain distributions. The Trust's investments and hedging activities are subject to certain special Federal tax rules. Code rules governing the Trust's hedging transactions (including hedging transactions in futures and options) may alter the character of distributions to holders of shares of Municipal Preferred. Income earned as a result of the Trust's hedging transactions will not be eligible to be treated as "exempt-interest dividends" when distributed to shareholders. The Trust's investment in securities issued at a discount will (and investments in securities purchased at a discount may) require the Trust to accrue and distribute income not yet received. Therefore, in order to generate sufficient cash to make the requisite distributions, the Trust may be required to sell securities in its portfolio that it otherwise would have continued to hold. FEDERAL TAXATION OF SHAREHOLDERS DIVIDENDS AND OTHER DISTRIBUTIONS. Assuming that the Trust qualifies for taxation as a regulated investment company under Subchapter M of the Code and that, at the close of each quarter of the Trust's taxable year, at least 50% of the value of the Trust's total assets consists of obligations the interest on which is exempt from Federal income tax under Code section 103(a), the Trust will qualify to pay "exempt-interest dividends" to its shareholders to the extent of its tax-exempt interest income (less applicable expenses). Distributions of net tax-exempt interest income that the Trust properly designates as exempt-interest dividends are treated by shareholders as interest excludable from their gross income for Federal income tax purposes but may be taxable for Federal alternative minimum tax purposes (discussed below) and for foreign, state and local tax purposes. Under the Code, the interest on certain "private activity bonds" issued after August 7, 1986 is treated as a preference item and is (after reduction by applicable expenses) included in the Federal alternative minimum taxable income of both individuals and corporations. The Trust will furnish to shareholders annually a report indicating the percentage of Trust income treated as a preference item for alternative minimum tax purposes. In addition, for corporations, alternative minimum taxable income is increased by a percentage of the amount by which an alternative measure of income that includes interest on all tax-exempt securities exceeds the amount otherwise determined to be alternative minimum taxable income. Accordingly, the portion of the Trust's dividends that would otherwise be tax-exempt to shareholders may cause certain shareholders to be subject to the Federal alternative minimum tax or may increase the tax liability of a shareholder who is subject to such tax. Investors should thus consider the possible effect of an investment in the Trust on their Federal alternative minimum tax liability. Exempt-interest dividends attributable to interest received on certain private activity bonds and certain industrial development bonds will not be tax-exempt to any shareholders who are, within the meaning of 33 39 Section 147(a) of the Code, "substantial users" of the facilities financed by such obligations or bonds or who are "related persons" of such substantial users. The receipt of exempt-interest dividends may affect the portion, if any, of an individual shareholder's Social Security and Railroad Retirement benefits that will be includable in gross income subject to Federal income tax. Up to 85 percent of Social Security and Railroad Retirement benefits may be included in gross income in cases where the recipient's combined income, consisting of adjusted gross income (with certain adjustments), tax-exempt interest income and one-half of any Social Security and Railroad Retirement benefits, exceeds a base amount ($25,000 for a single individual and $32,000 for individuals filing a joint return). Individual shareholders receiving Social Security or Railroad Retirement benefits should consult their tax advisors. All or a portion of interest on indebtedness incurred or continued by a shareholder to purchase or carry Trust shares may not be deductible by the shareholder. See "Tax Matters -- Federal Income Tax Matters -- Federal Taxation of Shareholders" in the Statement of Additional Information. Distributions of net investment income that do not qualify as exempt-interest dividends (including the excess, if any, of net short-term capital gain over net long-term capital loss), will be taxable to shareholders as ordinary income, and will not qualify for the corporate dividends-received deduction. Distributions of net capital gain will be taxable to shareholders as long-term capital gain, without regard to how long a shareholder has held shares of the Trust, and will not qualify for the corporate dividends-received deduction. Due to certain of the Trust's hedging and other investment activities, the net investment income calculated for accounting purposes and distributed to shareholders may in certain circumstances exceed or be less than the Trust's net tax-exempt and taxable income. If the Trust distributes amounts in excess of the Trust's "earnings and profits" (which provides the measure of the Trust's dividend-paying capacity for tax purposes), such distributions to shareholders will be treated as a return of capital to the extent of a shareholder's basis in his or her shares of Municipal Preferred, and thereafter as gain from the sale or exchange of a capital asset. A return of capital is not taxable to a shareholder and has the effect of reducing a shareholder's basis in the relevant shares, which basis reduction would cause shareholders of Municipal Preferred to realize gain if their shares of Municipal Preferred were sold for an amount equal to the liquidation price. Conversely, because Trust expenses attributable to earning tax-exempt income do not reduce the Trust's current earnings and profits, a portion of any distribution in excess of the Trust's net tax-exempt and taxable income may be considered paid out of the Trust's earnings and profits and may therefore be treated as a taxable dividend (even though that portion economically represents a return of the Trust's capital). The Internal Revenue Service has taken the position in a published revenue ruling indicating that the Trust is required to designate distributions paid with respect to its Common Shares and its Preferred Shares as consisting of a portion of each type of income distributed by the Trust. The portion of each type of income deemed received by the holders of each class of shares will be equal to the portion of total Trust distributions received by such class. Thus, the Trust will designate dividends paid as exempt-interest dividends in a manner that allocates such dividends between the holders of the Common Shares and the holders of shares of Municipal Preferred, in proportion to the total dividends paid to each such class during or with respect to the taxable year, or otherwise as required by applicable law. Long-term capital gain distributions and other income subject to regular Federal income tax will similarly be allocated between the two classes. The amount of taxable income allocable to shares of Municipal Preferred will depend on the amount of such income realized by the Trust, but generally is not expected to be significant. No dividend that the Trust pays will be increased to compensate for the fact that it may be subject to foreign, state or local taxes. If for any reason it is determined after the payment of any dividend that a portion of that dividend was subject to Federal income tax, the Trust will not be required to pay any additional amount to compensate for any tax payable on the dividend (other than Gross-up Payments payable under the circumstances described in this Prospectus). See "Description of Municipal Preferred -- Dividends and 34 40 Dividend Periods -- Gross-up Payments." The Trust will generally designate Gross-up Payments as exempt-interest dividends to the extent it determines such designation is consistent with the allocation principles set forth above. The federal income tax consequences of Gross-up Payments under existing law are uncertain. For example, existing authorities, including the revenue ruling discussed in the above paragraph, do not specifically address whether dividends (including possibly Gross-up Payments) that are paid following the close of a taxable year, but that are treated for tax purposes as derived from the income of such prior taxable year, are treated as dividends "paid" during such prior taxable year for purposes of determining each class's proportionate share of a particular type of income. The Trust currently intends to treat such dividends as having been "paid" in the prior taxable year for purposes of determining each class's proportionate share of a particular type of income with respect to such prior taxable year. Existing authorities also do not specifically address the allocation of taxable income among the dividends paid to holders of a class of shares during or with respect to a taxable year. It is possible that the Internal Revenue Service could disagree with the Trust's position concerning the treatment of dividends paid after the close of a taxable year or with the Trust's method of allocation, in which case the Internal Revenue Service could attempt to recharacterize a portion of the dividends paid to the holders of shares of Municipal Preferred and designated by the Trust as exempt-interest dividends as consisting instead of capital gain or other taxable income. If the Internal Revenue Service were to prevail with respect to any such attempted recharacterization, holders of shares of Municipal Preferred could be subject to tax on amounts so recharacterized and the Trust could be subject to Federal income and excise tax. In such event, no additional amounts (including Gross-up Payments) would be paid by the Trust with respect to dividends so recharacterized to compensate for any additional tax owed by holders of shares of Municipal Preferred. Gross-up Payments will not include any amount to compensate for the fact that the Gross-up Payments or the Taxable Allocations (see "Description of Municipal Preferred -- Dividends and Dividend Periods -- Gross-up Payments") may themselves be subject to foreign, state or local taxes. No provision will be made to compensate holders of shares of Municipal Preferred for any alternative minimum tax liability in respect of distributions on such shares of Municipal Preferred. Ropes & Gray has advised the Trust that, should the Internal Revenue Service attempt to so recharacterize amounts allocated by the Trust to shares of Municipal Preferred, the Internal Revenue Service would be unlikely to prevail. However, such advice represents only Ropes & Gray's best legal judgment and is not binding on the Internal Revenue Service. Any dividend paid by the Trust during January of a given year generally is deemed to have been received by shareholders on December 31 of the preceding year, provided that the dividend actually was declared by the Trust in October, November or December of such preceding year and payable to shareholders of record on a date in such a month. The Trust will notify shareholders each year of the amount and tax status of dividends and other distributions, including the amount of any distribution of net capital gain. The Code provides that every shareholder 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 Trust) during the taxable year. SALE OR REDEMPTION OF SHARES. In certain circumstances, the sale or exchange of shares of Municipal Preferred may give rise to gain or loss. In general, any gain or loss realized upon a taxable disposition of shares of Municipal Preferred by a shareholder will be treated as long-term capital gain or loss if the shares have been held for more than twelve months, and otherwise as short-term capital gain or loss. However, if a shareholder buys shares of Municipal Preferred and sells them at a loss within six months, any loss will be disallowed for Federal income tax purposes to the extent of any exempt-interest dividends received on such shares. In addition, any loss (not already disallowed as provided in the preceding sentence) realized upon a taxable disposition of shares of Municipal Preferred held for six months or less will be treated as long-term, rather than short-term, capital loss to the extent of any net capital gain distributions received by the shareholder with respect to those shares. All or a portion of any loss realized upon a taxable disposition of shares of Municipal Preferred will be disallowed if other shares of Municipal 35 41 Preferred are purchased within 30 days before or after the disposition. In such a case, the basis of the newly purchased shares of Municipal Preferred will be adjusted to reflect the disallowed loss. Gain or loss, if any, resulting from a redemption of shares of Municipal Preferred generally will be treated as gain or loss from the sale or exchange of a capital asset under Code Section 302, rather than as a dividend, but only if the redemption distribution (i) is deemed not to be essentially equivalent to a dividend, (ii) is in complete redemption of an owner's interest in the Trust, (iii) is substantially disproportionate with respect to the owner, or (iv) with respect to non-corporate owners, is in partial liquidation of the Trust. For purposes of (i), (ii) and (iii) above, an owner's common share ownership will be taken into account. CUSTODIAN, TRANSFER AGENT, DIVIDEND DISBURSING AGENT AND REGISTRAR The Trust's securities and cash are held by The Chase Manhattan Bank, whose principal business address is 270 Park Avenue, New York, New York 10017-2070, as custodian (the "Custodian") under a custodian contract. Bankers Trust Company, whose principal business address is Four Albany Street, New York, New York 10006, serves as auction agent for the Trust in connection with the shares of Municipal Preferred. State Street Bank and Trust Company, whose principal business address is 225 Franklin Street, Boston, Massachusetts 02110, serves as dividend disbursing agent, as agent under the Trust's Dividend Reinvestment Plan and as transfer agent and registrar for the Trust's Common Shares. UNDERWRITING Subject to the terms and conditions of the Underwriting Agreement between Salomon Smith Barney Inc. (the "Underwriter") and the Trust (the "Underwriting Agreement") dated the date hereof, the Underwriter has agreed to purchase, and the Trust has agreed to sell, 3,600 shares of Series F Municipal Preferred offered hereby. The Underwriting Agreement provides that the obligations of the Underwriter are subject to the approval of certain legal matters by counsel and to certain conditions precedent, and that the Underwriter is obligated to purchase all of the shares of Municipal Preferred if any are purchased. In the Underwriting Agreement, the Trust and the Advisor have agreed to indemnify the Underwriter with respect to certain liabilities, including liabilities arising under the Securities Act of 1933, as amended, and to contribute in respect thereof. The Trust has been advised by the Underwriter that it proposes initially to offer the shares of Municipal Preferred offered hereby to the public at the price set forth on the cover page of this Prospectus and to selected dealers at such price less a concession not to exceed $ per share. The underwriting commission to be paid by the Trust of $ per share is equal to % of the initial offering price. After the initial public offering, the public offering price and the concession may be changed by the Underwriter. The Trust anticipates that the Underwriter may from time to time act as a broker or dealer in connection with the execution of its portfolio transactions after it has ceased to be an Underwriter. The Trust anticipates that the Underwriter or one of its affiliates may, from time to time, act in Auctions as Broker-Dealers as set forth under "The Auction -- General" and will receive the fees described under "The Auction -- Broker-Dealers" in the Statement of Additional Information in exchange for so acting. The Underwriter is an active underwriter of, and dealer in, securities and acts as a market maker in a number of such securities and therefore can be expected to engage in portfolio transactions with the Trust. The principal business address of Salomon Smith Barney Inc. is 388 Greenwich Street, New York, New York 10010. 36 42 LEGAL OPINIONS Certain legal matters in connection with the Series F Municipal Preferred offered hereby will be passed upon for the Trust by Ropes & Gray, Boston, Massachusetts, and for the Underwriters by Simpson Thacher & Bartlett, New York, New York. Simpson Thacher & Bartlett will rely, as to certain matters of Massachusetts law in its opinion, on the opinion of Ropes & Gray. REPORTS TO SHAREHOLDERS The Trust will send unaudited semiannual and audited annual reports to its shareholders, including, as currently required by regulations of the Securities and Exchange Commission, a list of investments held. EXPERTS The Financial Statements included in the Statement of Additional Information have been so included in the reliance on the report of PricewaterhouseCoopers LLP, independent accountants, given on the authority of said firm as experts in accounting and auditing. The address of PricewaterhouseCoopers LLP is 160 Federal Street, Boston, Massachusetts 02110. FURTHER INFORMATION The Trust has filed with the Securities and Exchange Commission (the "Commission"), Washington, DC 20549, a Registration Statement under the Securities Act with respect to the shares of Municipal Preferred offered hereby. Further information concerning these securities and the Trust may be found in the Registration Statement, of which this Prospectus constitutes a part, on file with the Commission. The Registration Statement may be inspected without charge at the Commission's office in Washington, DC, and copies of all or any part thereof may be obtained from such office after payment of the fees prescribed by the Commission. The Trust is subject to the informational requirements of the Securities Exchange Act of 1934, as amended, and the 1940 Act, and in accordance therewith files reports and other information with the Commission. Such reports, proxy and information statements and other information can be inspected and copied at the public reference facilities maintained by the Commission at 450 Fifth Street, N.W., Washington, DC 20549 and the Commission's regional offices, including offices at Seven World Trade Center, New York, New York 10048. Call 1-800-SEC-0330 for information about the public reference facilities. Copies of such material can be obtained from the Public Reference Section of the Commission at 450 Fifth Street, N.W., Washington, DC 20549 at prescribed rates. Such reports and other information concerning the Trust may also be inspected at the offices of the Exchange. The Commission maintains a Web site (http://www.sec.gov) that contains the Statement of Additional Information, material incorporated by reference into this Prospectus and the Statement of Additional Information, and reports, proxy and information statements and other information regarding registrants that file electronically with the Commission. In addition, reports, proxy and information statements and other information concerning the Trust can be inspected at the offices of the Exchange, 20 Broad Street, New York, New York 10005. 37 43 GLOSSARY " 'AA' Composite Commercial Paper Rate," on any date for any Rate Period, means: (i)(A) in the case of any Minimum Rate Period or any Special Rate Period of fewer than 49 Rate Period Days, the interest equivalent of the 30-day rate; provided, however, that if such Rate Period is a Minimum Rate Period and the "AA" Composite Commercial Paper Rate is being used to determine the Applicable Rate when all of the outstanding shares of Municipal Preferred are subject to Submitted Hold Orders, then the interest equivalent of the seven-day rate, and (B) in the case of any Special Rate Period of (1) 49 or more but fewer than 70 Rate Period Days, the interest equivalent of the 60-day rate; (2) 70 or more but fewer than 85 Rate Period Days, the arithmetic average of the interest equivalent of the 60-day and 90-day rates; (3) 85 or more but fewer than 99 Rate Period Days, the interest equivalent of the 90-day rate; (4) 99 or more but fewer than 120 Rate Period Days, the arithmetic average of the interest equivalent of the 90-day and 120-day rates; (5) 120 or more but fewer than 141 Rate Period Days, the interest equivalent of the 120-day rate; (6) 141 or more but fewer than 162 Rate Period Days, the arithmetic average of the 120-day and 180-day rates; and (7) 162 or more but fewer than 183 Rate Period Days, the interest equivalent of the 180-day rate, in each case on commercial paper placed on behalf of issuers whose corporate bonds are rated "AA" by Standard & Poor's or the equivalent of such rating by Standard & Poor's or another rating agency, as made available on a discount basis or otherwise by the Federal Reserve Bank of New York for the Business Day immediately preceding such date; or (ii) in the event that the Federal Reserve Bank of New York does not make available any such rate, then the arithmetic average of such rates, as quoted on a discount basis or otherwise, by certain commercial paper dealers to the Auction Agent for the close of business on the Business Day next preceding such date. "Agent Member" means a member of or participant in the Securities Depository that will act on behalf of a Bidder. "All Hold Order Rate," with respect to a Rate Period for which an Auction is held, means the lesser of the Kenny Index (if the Rate Period for which the Auction is held consists of fewer than 183 Rate Period Days) or the product of (i)(1) the "AA" Composite Commercial Paper Rate on the Auction Date for such Rate Period, if such Rate Period consists of fewer than 183 Rate Period Days, (2) the Treasury Bill Rate on such Auction Date for such Rate Period, if such Rate Period consists of more than 182 but fewer than 365 Rate Period Days or (3) the Treasury Note Rate on such Auction Date for such Rate Period, if such Rate Period is more than 364 Rate Period Days (the rate described in the foregoing clause (i)(1), (2) or (3), as applicable, being referred to herein as the "Benchmark Rate"), and (ii) 1 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income, whichever is greater; provided, however, that if the Trust has notified the Auction Agent of its intent to allocate to shares of Municipal Preferred in such Rate Period any net capital gains or other income taxable for Federal income tax purposes ("Taxable Income"), the Applicable Rate on shares of Municipal Preferred for such Rate Period will be (A) if the Taxable Yield Rate (as defined below) is greater than the Benchmark Rate, then the Benchmark Rate, or (B) if the Taxable Yield Rate is less than or equal to the Benchmark Rate, then the rate equal to the sum of (x) the lesser of the Kenny Index (if such Rate Period consists of fewer than 183 Rate Period Days) or the product of the Benchmark Rate multiplied by the factor set forth in the preceding clause (ii) and (y) the product of the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income, whichever is greater, multiplied by the Taxable Yield Rate. For purposes of the foregoing, Taxable Yield Rate means the rate determined by (a) dividing the amount of Taxable Income available for distribution per share of Municipal Preferred by the number of days in the Dividend Period in respect of which such Taxable Income is contemplated to be distributed, (b) multiplying the amount determined in (a) above by 365 (in the case of a Dividend Period of 7 Rate Period Days) or 360 (in the case of any other Dividend Period), and (c) dividing the amount determined in (b) above by $25,000. "Applicable Rate" means the rate per annum at which dividends are payable on shares of Municipal Preferred for any Rate Period thereof. 38 44 "Auction Agency Agreement" means an agreement between the Trust and the Auction Agent which provides, among other things, that the Auction Agent will follow the Auction Procedures for purposes of determining the Applicable Rate for shares of Municipal Preferred so long as the Applicable Rate for such shares is to be based on the results of an Auction. "Auction Agent" means the entity appointed as such by a resolution of the Board of Trustees. "Bidder" means a Beneficial Owner or a Potential Beneficial Owner placing an Order with its Broker-Dealer or an Existing Holder or Potential Holder placing an order with the Auction Agent or on whose behalf an Order is placed with an Auction Agent. "Board of Trustees" means the Board of Trustees of the Trust or any duly authorized committee thereof. "Broker-Dealer" means any broker-dealer, commercial bank or other entity permitted by law to perform the functions required of a Broker-Dealer, that is a member of, or a participant in, the Securities Depository or is an affiliate of such member or participant, has been selected by the Trust and has entered into a Broker-Dealer Agreement that remains effective. "Broker-Dealer Agreement" means an agreement among the Trust, the Auction Agent and a Broker-Dealer pursuant to which such Broker-Dealer agrees to follow the Auction Procedures. "Business Day" shall mean a day on which the New York Stock Exchange is open for trading, and which is neither a Saturday, Sunday nor any other day on which banks in The City of New York, New York are authorized by law to close. "Code" means the Internal Revenue Code of 1986, as amended. "Date of Original Issue" means the date on which the Trust initially issued shares of Municipal Preferred. "Dividend Payment Date" means any date on which dividends on shares of Municipal Preferred are payable as provided under "Description of Municipal Preferred -- Dividends and Dividend Periods." "Dividend Period" means the period from and including the Date of Original Issue of shares of Municipal Preferred to but excluding the initial Dividend Payment Date for such shares and any period thereafter from and including one Dividend Payment Date for such shares to but excluding the next succeeding Dividend Payment Date for such shares. "Existing Holder" means a Broker-Dealer (or any such other person as may be permitted by the Trust) that is listed on the records of the Auction Agent as a holder of shares of Municipal Preferred. "Initial Rate Period" means the period from and including the Date of Original Issue of shares of Municipal Preferred to but excluding , 1999. "Kenny Index" has the meaning specified under "Taxable Equivalent of the Short-Term Municipal Bond Rate." "Minimum Rate Period" means any Rate Period consisting of 7 Rate Period Days. "Potential Holder" means a Broker-Dealer (or any such other person as may be permitted by the Trust) that is not an Existing Holder of shares of Municipal Preferred or that is an Existing Holder of such shares that wishes to become the Existing Holder of additional shares. 39 45 "Rate Multiple" means a percentage, determined as set forth below, based on the prevailing rating of shares of Municipal Preferred in effect at the close of business on the Business Day next preceding the relevant Auction Date:
PREVAILING RATING PERCENTAGE - ----------------- ---------- "aa3"/AA- or higher......................................... 110% "a3"/A-..................................................... 125% "baa3"/BBB-................................................. 150% "ba3"/BB-................................................... 200% Below "ba3"/BB-............................................. 250%
provided, however, that in the event the Trust has notified the Auction Agent of its intent to allocate income taxable for Federal income tax purposes to shares of Municipal Preferred prior to the Auction establishing the Applicable Rate for such shares, the applicable percentage in the foregoing table shall be divided by the quantity 1 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income, whichever is greater. If the ratings for shares of Municipal Preferred are split between two of the foregoing categories, the lower rating will determine the prevailing rating. If the shares of Municipal Preferred are rated by only one rating agency, such rating will be the prevailing rating. "Rate Period" means the Initial Rate Period of shares of Municipal Preferred and any Subsequent Rate Period of such shares. "Rate Period Days," for any Rate Period or Dividend Period, means the number of days that would constitute such Rate Period or Dividend Period but for either (i) the shortening or lengthening, as the case may be, of such Rate Period or Dividend Period as set forth under "Description of Municipal Preferred -- Dividends and Dividend Periods" because the day on which dividends would otherwise be payable is not a Business Day or (ii) the shortening of such Rate Period pursuant to the provisions relating to the designation of Special Rate Periods as set forth in the Statement of Additional Information under "Description of Municipal Preferred -- Dividends -- Designation of Special Rate Periods." "Reference Rate" means (i) the higher of the Taxable Equivalent of the Short-Term Municipal Bond Rate and the "AA" Composite Commercial Paper Rate in the case of Minimum Rate Periods and Special Rate Periods of 28 Rate Period Days or fewer; (ii) the "AA" Composite Commercial Paper Rate in the case of Special Rate Periods of more than 28 Rate Period Days but fewer than 183 Rate Period Days; and (iii) the Treasury Bill Rate in the case of Special Rate Periods of more than 182 Rate Period Days but fewer than 365 Rate Period Days. "Securities Depository" means The Depository Trust Company and its successors and assigns or any other securities depository selected by the Trust which agrees to follow the procedures required to be followed by such securities depository in connection with shares of Municipal Preferred. "Special Rate Period" means any Subsequent Rate Period commencing on the date designated by the Trust, as set forth under "Description of Municipal Preferred -- Designation of Special Rate Periods," and ending on the last day of the last Dividend Period thereof. "Submission Deadline" means 1:30 P.M. Eastern time, on any Auction Date or such other time on any Auction Date by which Broker-Dealers are required to submit Orders to the Auction Agent as specified by the Auction Agent from time to time. "Submitted Bid" means a valid Bid submitted or deemed submitted to the Auction Agent by a Broker-Dealer by the Submission Deadline. "Submitted Hold Order" means a valid Hold Order submitted or deemed submitted to the Auction Agent by a Broker-Dealer by the Submission Deadline. "Subsequent Rate Period" means any period from and including the first day following the Initial Rate Period of shares of Municipal Preferred to but excluding the next Dividend Payment Date for such shares and any period thereafter from and including one Dividend Payment Date for such shares to but excluding the next succeeding Dividend Payment Date for such shares; provided, however, that if any 40 46 Subsequent Rate Period is also a Special Rate Period, such term shall mean the period commencing on the first day of such Special Rate Period and ending on the last day of the last Dividend Period thereof. "Taxable Equivalent of the Short-Term Municipal Bond Rate," on any date for any Minimum Rate Period or Special Rate Period of 28 Rate Period Days or fewer, means 90% of the quotient of (A) the per annum rate expressed on an interest equivalent basis equal to the Standard & Poor's Kenny 30-day High Grade Index or any successor index (the "Kenny Index") (provided, however, that any such successor index must be approved by Moody's (if Moody's is then rating the shares of Municipal Preferred) and Standard & Poor's (if Standard & Poor's is then rating the shares of Municipal Preferred)), made available for the Business Day immediately preceding such date but in any event not later than 8:30 A.M., Eastern time, on such date by Standard & Poor's J.J. Kenny Evaluation Services or any successor thereto, based upon 30-day yield evaluations at par of short-term bonds the interest on which is excludable for regular Federal income tax purposes under the Code, of "high grade" component issuers selected by Standard & Poor's J.J. Kenny Evaluation Services or any such successor from time to time in its discretion, which component issuers shall include, without limitation, issuers of general obligation bonds but shall exclude any bonds the interest on which constitutes an item of tax preference under Section 57(a)(5) of the Code, or successor provisions, for purposes of the "alternative minimum tax," divided by (B) 1.00 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income (in each case expressed as a decimal), whichever is greater; provided, however, that if the Kenny Index is not made so available by 8:30 A.M., Eastern time, on such date by Standard & Poor's J.J. Kenny Evaluation Services or any successor, the Taxable Equivalent of the Short-Term Municipal Bond Rate shall mean the quotient of (A) the per annum rate expressed on an interest equivalent basis equal to the most recent Kenny Index so made available for any preceding Business Day, divided by (B) 1.00 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income (in each case expressed as a decimal), whichever is greater. "Treasury Bill" means a direct obligation of the U.S. government having a maturity at the time of issuance of 364 days or less. "Treasury Bill Rate," on any date for any Rate Period, means: (i) the bond equivalent yield, calculated in accordance with prevailing industry convention, of the rate on the most recently auctioned Treasury Bill with a remaining maturity closest to the length of such Rate Period, as quoted in The Wall Street Journal on such date for the Business Day next preceding such date; or (ii) in the event that any such rate is not published in The Wall Street Journal, then the bond equivalent yield, calculated in accordance with prevailing industry convention, as calculated by reference to the arithmetic average of the bid price quotations of the most recently auctioned Treasury Bill with a remaining maturity closest to the length of such Rate Period, as determined by bid price quotations as of the close of business on the Business Day immediately preceding such date obtained from certain U.S. government securities dealers to the Auction Agent. "Treasury Note" means a direct obligation of the U.S. government having a maturity at the time of issuance of five years or less but more than 364 days. "Treasury Note Rate," on any date for any Rate Period, means: (i) the yield on the most recently auctioned Treasury Note with a remaining maturity closest to the length of such Rate Period, as quoted in The Wall Street Journal on such date for the Business Day next preceding such date; or (ii) in the event that any such rate is not published in The Wall Street Journal, then the yield as calculated by reference to the arithmetic average of the bid price quotations of the most recently auctioned Treasury Note with a remaining maturity closest to the length of such Rate Period, as determined by bid price quotations as of the close of business on the Business Day immediately preceding such date obtained from certain U.S. government securities dealers to the Auction Agent. 41 47 TABLE OF CONTENTS OF STATEMENT OF ADDITIONAL INFORMATION
PAGE ---- Use of Proceeds............................................. B-2 Investment Objectives and Policies.......................... B-2 Trust Charges and Expenses.................................. B-4 Management of the Trust..................................... B-5 Portfolio Transactions...................................... B-11 Net Asset Value............................................. B-12 The Auction................................................. B-13 Description of Municipal Preferred.......................... B-25 Repurchase of Common Shares................................. B-44 Miscellaneous Investment Practices.......................... B-46 Tax Matters................................................. B-56 Shareholder Liability....................................... B-59 Custodian................................................... B-59 Independent Accountants..................................... B-59 Glossary.................................................... B-60 Financial Statements........................................ F-1 Appendix A -- Ratings of Investments........................ A-1 Appendix B -- Auction Procedures............................ B-1 Appendix C -- Settlement Procedures......................... C-1 Appendix D -- Rating Agency Futures and Options Restrictions.............................................. D-1
42 48 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- $90,000,000 COLONIAL MUNICIPAL INCOME TRUST MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARES 3,600 SHARES, SERIES F --------------- PROSPECTUS , 1999 --------------- SALOMON SMITH BARNEY - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 49 THE INFORMATION IN THIS STATEMENT OF ADDITIONAL INFORMATION IS NOT COMPLETE AND MAY BE CHANGED. WE MAY NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS STATEMENT OF ADDITIONAL INFORMATION IS NOT AN OFFER TO SELL THESE SECURITIES AND IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED. SUBJECT TO COMPLETION, DATED JULY 15, 1999 COLONIAL MUNICIPAL INCOME TRUST STATEMENT OF ADDITIONAL INFORMATION This Statement of Additional Information ("SAI") relating to the Series F Municipal Auction Rate Cumulative Preferred Shares ("Municipal Preferred") offered by Colonial Municipal Income Trust (the "Trust") contains information which may be useful to investors but which is not included in the Prospectus of the Trust. This SAI is not a prospectus and is authorized for distribution only when accompanied or preceded by the Prospectus of the Trust dated , 1999, describing the Municipal Preferred (the "Prospectus"). This SAI should be read together with the Prospectus. Investors may obtain a free copy of the Prospectus by calling Colonial Management Associates, Inc. at 1-800-426-3750. Capitalized terms used but not defined in this SAI have the meanings ascribed to them in the Prospectus. TABLE OF CONTENTS USE OF PROCEEDS............................................. B-2 INVESTMENT OBJECTIVES AND POLICIES.......................... B-2 TRUST CHARGES AND EXPENSES.................................. B-4 MANAGEMENT OF THE TRUST..................................... B-5 PORTFOLIO TRANSACTIONS...................................... B-11 NET ASSET VALUE............................................. B-12 THE AUCTION................................................. B-13 DESCRIPTION OF MUNICIPAL PREFERRED.......................... B-25 REPURCHASE OF COMMON SHARES................................. B-44 MISCELLANEOUS INVESTMENT PRACTICES.......................... B-46 TAX MATTERS................................................. B-56 SHAREHOLDER LIABILITY....................................... B-59 CUSTODIAN................................................... B-59 INDEPENDENT ACCOUNTANTS..................................... B-59 GLOSSARY.................................................... B-60 FINANCIAL STATEMENTS........................................ F-1 APPENDIX A -- Ratings of Investments........................ A-1 APPENDIX B -- Auction Procedures............................ B-1 APPENDIX C -- Settlement Procedures......................... C-1 APPENDIX D -- Rating Agency Futures and Options Restrictions.............................................. D-1
50 USE OF PROCEEDS The net proceeds of the offering of shares of Municipal Preferred will be approximately $ after payment of the sales load to Salomon Smith Barney (the "Underwriter") and estimated offering costs. A portion of the offering costs has been advanced by the Trust's investment advisor, Colonial Management Associates, Inc. (the "Advisor"). The net proceeds of the offering will be invested in accordance with the Trust's investment objectives and policies. It is presently anticipated that the Trust will be able to invest substantially all of the net proceeds in Municipal Obligations that meet the Trust's investment objectives at or shortly (within six to eight weeks) after the completion of the offering. To the extent that all of the proceeds cannot be so invested, pending such investment, they will be invested initially in high-quality, short-term tax-exempt money market securities, the income on which will be exempt from Federal income taxes, or in high-quality Municipal Obligations with relatively low volatility (such as pre-refunded and intermediate-term securities), to the extent such securities are available. If necessary to invest fully the net proceeds of the offerings immediately, the Trust may also purchase, as temporary investments, short-term taxable investments of the type described under "Investment Objectives and Policies -- Temporary and Defensive Investments" in the Prospectus, the income on which is subject to Federal income taxes. INVESTMENT OBJECTIVES AND POLICIES The Trust's Prospectus describes its investment objectives and investment policies. This SAI includes additional information concerning, among other things, the investment policies of the Trust and information about certain securities and investment techniques that are described or referred to in the Prospectus or in which the Trust expects to engage. Except as indicated under "Fundamental Investment Policies," the Trust's investment policies are not fundamental and the Trustees may change the policies without shareholder approval. FUNDAMENTAL INVESTMENT POLICIES The following fundamental restrictions are for the protection of the Trust's shareholders and cannot be changed without the approval of the holders of a "majority of the outstanding" Common Shares and Preferred Shares, including shares of Municipal Preferred, voting together as a single class, and of the holders of a "majority of the outstanding" Preferred Shares, including shares of Municipal Preferred, voting as a separate class. A "majority of the outstanding" shares means the lesser of (i) 67% of the shares represented at a meeting at which more than 50% of the outstanding shares are represented or (ii) more than 50% of the outstanding shares. The Trust may: 1. Issue senior securities or borrow money to the extent permitted by the 1940 Act; 2. Only own real estate acquired as a result of owning securities; 3. Purchase and sell futures contracts and related options; 4. Underwrite securities issued by others only when disposing of portfolio securities; 5. Make loans through lending of securities, through the purchase of debt instruments or similar evidences of indebtedness typically sold to financial institutions and through repurchase agreements; 6. Not concentrate more than 25% of its total assets in any one industry, or with respect to 50% of total assets purchase any security (other than obligations of the U.S. Government and cash items including receivables) if as a result more than 5% of its total assets would then be invested in securities of a single issuer or purchase the voting securities of an issuer if, as a result of such purchase, the Trust would own more than 10% of the outstanding voting shares of such issuer. (The Trust will treat each state and each separate political subdivision, agency, authority or instrumentality of such state, each multistate agency or authority, and each guarantor, if any, as B-2 51 separate issuers. In the utilities category, gas, electric, water and telephone companies will be considered as separate industries); 7. And will, under normal circumstances, invest at least 80% of its assets in tax-exempt bonds and tax-exempt notes. For the purpose of applying the limitation set forth above in subparagraph (6), an issuer shall be deemed the sole issuer of a security when its assets and revenues are separate from other governmental entities and its securities are backed only by its assets and revenues. Similarly, in the case of a non- governmental issuer, such as an industrial corporation or a privately owned or operated hospital, if the security is backed only by the assets and revenues of the non-governmental issuer, then such non-governmental issuer would be deemed to be the sole issuer. Where a security is also backed by the enforceable obligation of a superior or unrelated governmental or other entity (other than a bond insurer), it shall also be included in the computation of securities owned that are issued by such governmental or other entity. Where a security is guaranteed by a governmental entity or some other facility, such as a bank guarantee or letter of credit, such a guarantee or letter of credit would be considered a separate security and would be treated as an issue of such government, other entity or bank. When a Municipal Obligation is insured by bond insurance, it shall not be considered a security that is issued or guaranteed by the insurer; instead, the issuer of such Municipal Obligation will be determined in accordance with the principles set forth above. The foregoing restrictions do not limit the percentage of the Trust's assets that may be invested in Municipal Obligations insured by any given insurer. The restrictions and other limitations set forth above will apply only at the time of purchase of securities and will not be considered violated unless an excess or deficiency occurs or exists immediately after and as a result of an acquisition of securities. OTHER INVESTMENT POLICIES As non-fundamental investment policies which may be changed by the Trust without a shareholder vote, the Trust may not: 1. Purchase securities on margin, but it may receive short-term credit to clear securities transactions and may make initial or maintenance margin deposits in connection with futures transactions; 2. Have a short securities position, unless the Trust owns, or owns rights (exercisable without payment) to acquire, an equal amount of such securities; 3. Purchase or sell commodities or commodity contracts, except that, consistent with its investment policies, the Trust may purchase and sell financial futures contracts and options and may enter into swap agreements, foreign exchange contracts and other financial transactions not requiring the delivery of physical commodities;* 4. Own securities of any company if the Trust knows that officers and Trustees of the Trust or officers and directors of the Advisor who individually own more than 0.5% of such securities together own more than 5% of such securities; and 5. Invest in interests in oil, gas or other mineral exploration or development programs, including leases. - --------------- * The Trust deems the investment policy regarding commodities and commodities contracts to be a fundamental investment policy of the Trust and will not change this policy without the vote of the shareholders necessary to change a fundamental investment policy of the Trust. Restrictions imposed by Moody's or Standard & Poor's, or both, on engaging in futures and options transactions as described under "Description of Municipal Preferred -- Asset Maintenance," are not fundamental policies and may be changed by the Trust from time to time without shareholder approval; provided, however, that if Moody's or Standard & Poor's, or both, are rating the shares of Municipal Preferred, the Trust must receive written confirmation from Moody's or Standard & Poor's, or both, as B-3 52 appropriate, that any such change would not impair the ratings then assigned by Moody's and Standard & Poor's to shares of Municipal Preferred. See also "Description of Municipal Preferred -- Rating Agency Guidelines" for a description of other rating agency restrictions, none of which is a fundamental policy of the Trust and which may be changed by the Trust from time to time without shareholder approval subject to the foregoing proviso. TRUST CHARGES AND EXPENSES Under the Trust's management agreement, the Trust pays the Advisor a monthly fee based on the average weekly net assets of the Trust, including the proceeds of the offering of the shares of Municipal Preferred, for such month at the annual rate of 0.65%. RECENT FEES PAID TO THE ADVISOR AND STATE STREET BANK AND TRUST COMPANY
YEAR ENDED NOVEMBER 30, -------------------------- 1998 1997 1996 ------ ------ ------ (DOLLARS IN THOUSANDS) Management fee.............................................. $1,353 $1,315 $1,311 Bookkeeping fee............................................. 55 54 53 Transfer agent fee.......................................... 65 91 105
BROKERAGE COMMISSIONS The Trust did not pay any brokerage commissions for the fiscal years ended November 30, 1998, 1997 and 1996. B-4 53 MANAGEMENT OF THE TRUST TRUSTEES AND OFFICERS The names and business addresses of the Trustees and officers of the Trust and their principal occupations and other affiliations during the past five years are set forth below.
NAME (AGE) POSITIONS AND PRINCIPAL OCCUPATIONS AND ADDRESS OFFICES WITH TRUST DURING PAST FIVE YEARS - ----------- ------------------ ---------------------- Robert J. Birnbaum (71).............. Trustee Consultant (formerly Special Counsel, 313 Bedford Road Dechert Price & Rhoads (law firm) from Ridgewood, NJ 07450 September, 1988 to December 1993; President, New York Stock Exchange from May, 1985 to June, 1988; President, American Stock Exchange, Inc. from 1977 to May, 1985). Tom Bleasdale (68)................... Trustee Retired (formerly Chairman of the Board 502 Woodlands Drive and Chief Executive Officer, Shore Bank & Linville, NC 28646 Trust Company from 1992 to 1993); Director of The Empire Company since June, 1995. John V. Carberry* (51)............... Trustee Senior Vice President of Liberty 56 Woodcliff Road Financial Companies, Inc. (formerly Wellesley Hills, MA 02481 Managing Director, Salomon Brothers (investment banking) from January, 1988 to January, 1998). Lora S. Collins (63)................. Trustee Attorney (formerly Attorney, Kramer, 1175 Hill Road Levin, Naftalis & Frankel (law firm) from Southold, NY 11971 September, 1986 to November, 1996). James E. Grinnell (69)............... Trustee Private Investor since November, 1988. 22 Harbor Avenue Marblehead, MA 01945 Richard W. Lowry* (62)............... Trustee Private Investor since August, 1987. Seven Winter Street Nantucket, MA 02554 Salvatore Macera (67)................ Trustee Private Investor (formerly Executive Vice 26 Little Neck Lane President and Director of Itek New Seabury, MA 02649 Corporation (electronics) from 1975 to 1981). William E. Mayer* (58)............... Trustee Partner, Development Capital, LLC 500 Park Avenue, 5th Floor (venture capital) (formerly Dean, College New York, NY 10022 of Business and Management, University of Maryland from October, 1992 to November, 1996; Dean, Simon Graduate School of Business, University of Rochester from October, 1991 to July, 1992). James L. Moody, Jr.* (67)............ Trustee Retired (formerly Chairman of the Board, 16 Running Tide Road Hannaford Bros. Co. (food retailer) from Cape Elizabeth, ME 04107 May, 1984 to May, 1997, and Chief Executive Officer, Hannaford Bros. Co. from May, 1973 to May, 1992). John J. Neuhauser (55)............... Trustee Dean, Boston College School of Management 140 Commonwealth Avenue since September, 1977. Chestnut Hill, MA 02167
B-5 54
NAME (AGE) POSITIONS AND PRINCIPAL OCCUPATIONS AND ADDRESS OFFICES WITH TRUST DURING PAST FIVE YEARS - ----------- ------------------ ---------------------- Thomas E. Stitzel* (63).............. Trustee Professor of Finance, College of 2208 Tawny Woods Place Business, Boise State University (higher Boise, ID 83706 education); Business consultant and author. Robert L. Sullivan (71).............. Trustee Retired (formerly Partner, KPMG Peat 45 Sankaty Avenue Marwick LLP, from July, 1966 to June, Siasconset, MA 02564 1985). Anne-Lee Verville (53)............... Trustee Consultant (formerly General Manager, 359 Stickney Hill Road Global Education Industry from 1994 to Hopkinton, NH 03229 1997, and President, Applications Solutions Division from 1991 to 1994, IBM Corporation (global education and global applications)). Stephen E. Gibson (45)............... President President of the Trust and the Liberty Funds since June, 1998, Chairman of the Board since July, 1998, Chief Executive Officer and President since December 1996, and Director since 1996 of the Advisor (formerly Executive Vice President from July, 1996 to December, 1996); Director, Chief Executive Officer and President of Liberty Funds Group LLC (formerly known as COGRA, LLC) ("LFG") since December, 1998 (formerly Director, Chief Executive Officer and President of The Colonial Group, Inc. ("TCG") from December, 1996 to December, 1998); Assistant Chairman of Stein Roe & Farnham Incorporated ("SR&F") since August, 1998 (formerly Managing Director of Marketing of Putnam Investments from June, 1992 to July, 1996). J. Kevin Connaughton (34)............ Controller and Chief Controller and Chief Accounting Officer Accounting Officer of the Trust and the Liberty Funds, except Liberty Funds Trust IX, since February, 1998; Controller, Liberty Funds Trust IX, since December, 1998; Vice President of the Advisor since February, 1998 (formerly Senior Tax Manager, Coopers & Lybrand, LLP from April, 1996 to January, 1998; Vice President, 440 Financial Group/First Data Investor Services Group from March, 1994 to April, 1996.
B-6 55
NAME (AGE) POSITIONS AND PRINCIPAL OCCUPATIONS AND ADDRESS OFFICES WITH TRUST DURING PAST FIVE YEARS - ----------- ------------------ ---------------------- Timothy J. Jacoby (46)............... Treasurer and Chief Treasurer and Chief Financial Officer of Financial Officer the Trust and the Liberty Funds, except Liberty Funds Trust IX, since October, 1996 (formerly Controller and Chief Accounting Officer from October, 1997 to February, 1998); Treasurer of Liberty Funds Trust IX since December, 1998; Senior Vice President of the Advisor since September, 1996; Vice President, Chief Financial Officer and Treasurer of LFG since December, 1998 (formerly Vice President, Chief Financial Officer and Treasurer of TCG from July, 1997 to December, 1998); Senior Vice President of SR&F since August, 1998 (formerly Senior Vice President, Fidelity Accounting and Custody Services from September, 1993 to September, 1996). Nancy L. Conlin (45)................. Secretary Secretary of the Trust and the Liberty Funds, except Liberty Funds Trust IX since April, 1998 (formerly Assistant Secretary from July, 1994 to April, 1998); Director, Senior Vice President, General Counsel, Clerk and Secretary of the Advisor since April, 1998 (formerly Vice President, Counsel, Assistant Secretary and Assistant Clerk from July, 1994 to April, 1998); Vice President, General Counsel and Secretary of LFG since December, 1998 (formerly Vice President, General Counsel and Clerk of TCG from April, 1998 to December, 1998; formerly Assistant Clerk from July, 1994 to April, 1998).
- --------------- * Denotes those Trustees who are "interested persons" (as defined in the Investment Company Act of 1940, as amended (the "1940 Act")) of the Trust, the Advisor or the Underwriter. Mr. Carberry is an "interested person" as defined in the 1940 Act because of his affiliation with Liberty Financial Companies, Inc., an indirect parent company of the Advisor. Mr. Mayer is an "interested person" as defined in the 1940 Act because he is a director of Hambrecht & Quist Incorporated, a registered broker-dealer. Messrs. Lowry, Moody and Stitzel are "interested persons" as defined in the 1940 Act because each has a direct or indirect beneficial interest in, or is designated as trustee, executor or guardian of a legal interest in, the Underwriter or a controlling person (as such term is defined in the 1940 Act) of the Underwriter. The business address of the officers of the Trust is One Financial Center, Boston, MA 02111. The Trustees of the Trust are also directors or trustees, as the case may be, of Liberty Funds Trust I, Liberty Funds Trust II, Liberty Funds Trust III, Liberty Funds Trust IV, Liberty Funds Trust V, Liberty Funds Trust VI, Liberty Funds Trust VII, Liberty Funds Trust VIII (formerly known as LFC Utilities Trust), Liberty Variable Investment Trust ("LVIT"), Colonial High Income Municipal Trust, Colonial Investment Grade Municipal Trust, Colonial Intermediate High Income Fund, and Colonial Intermarket Income Trust I, (collectively, each trust or any series thereof termed the "Liberty Funds"). At the next annual meeting of the Trust's shareholders, holders of outstanding shares of Municipal Preferred, voting together as one separate class, will elect two trustees, and holders of outstanding B-7 56 Common Shares and shares of Municipal Preferred, voting together as a single class, will elect five trustees. See "Description of Municipal Preferred -- Voting Rights." The Trustees serve as trustees of all Liberty Funds for which each Trustee (except Mr. Carberry) receives an annual retainer of $45,000 and attendance fees of $8,000 for each regular joint meeting and $1,000 for each special joint meeting. Committee chairs and the lead Trustee receive an annual retainer of $5,000, and Committee chairs receive $1,000 for each special meeting attended on a day other than a regular joint meeting day. Committee members receive an annual retainer of $1,000 and $1,000 for each special meeting attended on a day other than a regular joint meeting day. Two-thirds of the Trustee fees are allocated among the Liberty Funds based on each Liberty Fund's relative net assets, and one-third of the fees are divided equally among the Liberty Funds. TRUSTEES AND TRUSTEES' FEES For the fiscal year ended November 30, 1998 and the calendar year ended December 31, 1998 the Trustees received the following compensation for serving as Trustees(a):
TOTAL COMPENSATION FROM AGGREGATE COMPENSATION FROM THE FUND COMPLEX PAID TO THE THE TRUST FOR THE FISCAL YEAR TRUSTEES FOR THE CALENDAR YEAR TRUSTEE ENDED NOVEMBER 30, 1998 ENDED DECEMBER 31, 1998(B) - ------- ----------------------------- ------------------------------ Robert J. Birnbaum(c)..................... $1,564 $ 99,429 Tom Bleasdale(c).......................... 1,812(d) 115,000(e) John V. Carberry(f)(g).................... N/A N/A Lora S. Collins(c)........................ 1,534 97,429 James E. Grinnell(c)...................... 1,621(h) 103,071 William D. Ireland, Jr.(i)................ 683 35,333 Richard W. Lowry(c)....................... 1,545 98,214 Salvatore Macera(j)....................... 0 25,250 William E. Mayer(c)....................... 1,624 99,286 James L. Moody, Jr.(c).................... 1,665(k) 105,857(l) John J. Neuhauser(c)...................... 1,658 105,323 George L. Shinn(i)........................ 617 31,334 Thomas E. Stitzel(j)...................... 0 25,250 Robert L. Sullivan(c)..................... 1,654 104,100 Anne-Lee Verville(c)(f)................... 1,269(m) 23,445(n) Sinclair Weeks, Jr.(i).................... 668 34,333
- --------------- (a) The Trust does not currently provide pension or retirement plan benefits to the Trustees. (b) At December 31, 1998, the complex consisted of 47 open-end and 5 closed-end management investment portfolios in the Liberty Funds and 9 open-end management investment portfolios in LVIT (together, the "Fund Complex"). (c) Elected by the shareholders of LVIT on October 30, 1998. (d) Includes $795 payable in later years as deferred compensation. (e) Includes $52,000 payable in later years as deferred compensation. (f) Elected by the trustees of the closed-end Liberty Funds on June 18, 1998, and by the shareholders of the open-end Liberty Funds on October 30, 1998. (g) Does not receive compensation because he is an affiliated Trustee and employee of Liberty Financial Companies, Inc. ("Liberty Financial"). B-8 57 (h) Includes $12 payable in later years as deferred compensation. (i) Retired as a Trustee of the Trust on April 24, 1998. (j) Elected by the shareholders of the open-end Liberty Funds on October 30, 1998, and by the trustees of the closed-end Liberty Funds on December 17, 1998. (k) Total compensation of $1,665 for the fiscal year ended November 30, 1998, will be payable in later years as deferred compensation. (l) Total compensation of $105,857 for the calendar year ended December 31, 1998, will be payable in later years as deferred compensation. (m) Total compensation of $1,269 for the fiscal year ended November 30, 1998, will be payable in later years as deferred compensation. (n) Total compensation of $23,445 for the calendar year ended December 31, 1998, will be payable in later years as deferred compensation. For the fiscal year ended December 31, 1998, certain of the Trustees received the following compensation in their capacities as Trustees or Directors of Liberty All-Star Equity Fund, Liberty All-Star Growth Fund, Inc. and Liberty Funds Trust IX (formerly known as LAMCO Trust I) (together, the "Liberty All- Star Funds"):
TOTAL COMPENSATION FROM LIBERTY ALL-STAR FUNDS FOR THE CALENDAR TRUSTEE YEAR ENDED DECEMBER 31, 1998 (O) ------- --------------------------------------- Robert J. Birnbaum(p)................................. $25,000 John V. Carberry(p)(q)(r)............................. N/A James E. Grinnell(p).................................. $25,000 Richard W. Lowry(p)................................... $25,000 William E. Mayer(p)(s)................................ $14,000 John J. Neuhauser(p)(t)............................... $25,000
- --------------- (o) The Liberty All-Star Funds are advised by Liberty Asset Management Company ("LAMCO"). LAMCO is an indirect wholly-owned subsidiary of Liberty Financial (an intermediate parent of the Advisor). (p) Elected by the sole trustee of Liberty Funds Trust IX on December 17, 1998. (q) Does not receive compensation because he is an affiliated Trustee and employee of Liberty Financial. (r) Elected by the trustees of the Liberty All-Star Funds on June 30, 1998. (s) Elected by the shareholders of the Liberty All-Star Equity Fund on April 22, 1998, and by the trustees of the Liberty All-Star Growth Fund, Inc. on December 17, 1998. (t) Elected by the shareholders of the Liberty All-Star Funds on April 22, 1998. At May 31, 1999, the Trust's officers and Trustees as a group owned less than 1% of the outstanding Common Shares. At May 31, 1999, CEDE & CO. WT FAST, P.O. Box 20, Bowling Green Station, New York, New York 10274-0020, owned of record 21,247,905.0000 shares, representing 76.86%, of the Trust's outstanding shares. In addition to the provisions discussed in the Prospectus under "Certain Provisions in the Agreement and Declaration of Trust," the Declaration provides that the obligations of the Trust are not binding upon the Trustees of the Trust individually, but only upon the assets and property of the Trust. The Declaration also provides that the Trust will indemnify its Trustees and officers against liabilities and expenses incurred in connection with litigation in which they may be involved because of their offices with the Trust but that such indemnification will not relieve any officer or Trustee of any liability to the Trust or its shareholders B-9 58 by reason of willful misfeasance, bad faith, gross negligence or reckless disregard of his or her duties. The Trust, at its expense, provides liability insurance for the benefit of its Trustees and officers. INVESTMENT ADVISOR Colonial Management Associates, Inc. (the "Advisor"), and/or its affiliate, Colonial Advisory Services, Inc. ("CASI"), has rendered investment advisory services to investment company, institutional and other clients since 1931. The Advisor currently serves as investment advisor, sub-advisor or administrator for 64 open-end and 5 closed-end management investment company portfolios. Trustees and officers of the Trust, who are also officers of the Advisor or its affiliates, will benefit from the advisory fees, sales commissions and agency fees paid or allowed by the Trust. More than 30,000 financial advisors have recommended the Liberty Funds to over 800,000 clients worldwide, representing more than $16.3 billion in assets. The Advisor is a subsidiary of Liberty Funds Group LLC ("LFG"), One Financial Center, Boston, MA 02111. LFG is an indirect wholly owned subsidiary of Liberty Financial Companies, Inc. ("Liberty Financial"), which in turn is a direct majority-owned subsidiary of LFC Management Corporation, which in turn is a direct wholly-owned subsidiary of Liberty Corporate Holdings, Inc., which in turn is a direct wholly-owned subsidiary of LFC Holdings, Inc., which in turn is a direct wholly-owned subsidiary of Liberty Mutual Equity Corporation, which in turn is a direct wholly owned subsidiary of Liberty Mutual Insurance Company ("Liberty Mutual"). Liberty Mutual is an underwriter of workers' compensation insurance and a property and casualty insurer in the United States. Liberty Financial's address is 600 Atlantic Avenue, Boston, MA 02210. Liberty Mutual's address is 175 Berkeley Street, Boston, MA 02117. Under a Management Agreement (the "Agreement"), the Advisor has contracted to furnish the Trust with investment research and recommendations or trust management, respectively, and accounting and administrative personnel and services, and with office space, equipment and other facilities. For these services and facilities, the Trust pays a monthly fee based on the average weekly net assets of the Trust for such month. Under the Agreement, any liability of the Advisor to the Trust and/or its shareholders is limited to situations involving the Advisor's own willful misfeasance, bad faith, gross negligence or reckless disregard of its duties. The Agreement may be terminated with respect to the Trust at any time on 60 days' written notice by the Advisor or by the Trustees of the Trust or by a vote of a majority of the outstanding voting securities of the Trust. The Agreement will automatically terminate upon any assignment thereof and shall continue in effect from year to year only so long as such continuance is approved at least annually (i) by the Trustees of the Trust or by a vote of a majority of the outstanding voting securities of the Trust and (ii) by vote of a majority of the Trustees who are not interested persons (as such term is defined in the 1940 Act) of the Advisor or the Trust, cast in person at a meeting called for the purpose of voting on such approval. The Advisor pays all salaries of officers of the Trust. The Trust pays all expenses not assumed by the Advisor, including, but not limited to, auditing, legal, custodial, investor servicing and shareholder reporting expenses. The Trust pays the cost of printing and mailing any Prospectuses sent to shareholders. The Advisor also provides the Trust with bookkeeping and pricing services, and for these services, the Trust pays the Advisor a monthly fee of $1,500 for the first $50 million of Trust assets, plus a monthly percentage fee at the following annual rates: 0.0233% on the next $950 million; 0.0167% on the next $1 billion; 0.0100% on the next $1 billion; and 0.0007% on the excess over $3 billion of the average net assets of the Trust for such month. The Advisor also acts as investment advisor to the other Liberty Funds (described under "Fund Charges and Expenses -- Trustees' Fees"). The Advisor's affiliate, CASI, advises other institutional, corporate, fiduciary and individual clients for which CASI performs various services. Various officers and Trustees of the Trust also serve as officers, directors or trustees of other Liberty Funds and the other corporate or fiduciary clients of the Advisor. The other investment companies and clients advised by the B-10 59 Advisor may sometimes invest in securities and options in which the Trust will also invest. If the Trust, such other investment companies and such clients desire to buy or sell the same portfolio securities or options at about the same time, the purchases and sales will normally be made as nearly as practicable on a pro rata basis in proportion to the amounts desired to be purchased or sold by each. Although in some cases these practices may have a detrimental effect on the price or volume of the securities or options as far as the Trust is concerned, in most cases it is believed that these practices should produce better executions. It is the opinion of the Trustees that the desirability of retaining the Advisor as investment advisor to the Liberty Funds outweighs the disadvantages, if any, which might result from these practices. PORTFOLIO TRANSACTIONS The Advisor is responsible for decisions to buy and sell securities and other portfolio holdings for the Trust, the selection of brokers and dealers to effect the transactions and the negotiation of brokerage commissions, if any. Fixed-income securities are generally traded on a "net" basis with dealers acting as principals for their own accounts without a stated commission, although the price of the security will likely include a profit to the dealer. In underwritten offerings, securities are usually purchased at a fixed price which includes an amount of compensation to the underwriter, generally referred to as the underwriter's concession or discount. On occasion, certain money market instruments may be purchased directly from an issuer, in which case no commissions or discounts are paid. In placing orders for portfolio securities of the Trust, the Advisor is required to give primary consideration to obtaining the most favorable price and efficient execution. This means that the Advisor will seek to execute each transaction at a price and commission, if any, which provides the most favorable total cost or proceeds reasonably attainable under the circumstances. In seeking the most favorable price and execution, the Advisor, having in mind the Trust's best interests, will consider all factors it deems relevant, including, by way of illustration, price, the size of the transaction, the nature of the market for the security, the amount of commission, the timing of the transaction taking into account market prices and trends, the reputation, experience and financial stability of the broker-dealer involved and the quality of service rendered by the broker-dealer in other transactions. Though the Advisor generally seeks reasonably competitive spreads or commissions, the Trust will not necessarily be paying the lowest spread or commission available. Within the framework of the policy of obtaining the most favorable price and efficient execution, the Advisor will consider research and investment services provided by brokers and dealers who effect or are parties to portfolio transactions with the Trust, the Advisor or the Advisor's other clients. Such research and investment services are those which brokerage houses customarily provide to institutional investors and include statistical and economic data and research reports on particular issuers and industries. Such services are used by the Advisor in connection with all of its investment activities, and some of such services obtained in connection with the execution of transactions for the Trust may be used in managing other investment accounts. Conversely, brokers furnishing such services may be selected for the execution of transactions for such other accounts, and the services furnished by such brokers may be used by the Advisor in providing investment management for the Trust. Commission rates are established pursuant to negotiations based on the quality and quantity of execution services provided by the broker or dealer in light of generally prevailing rates. The management fee paid by the Trust will not be reduced because the Advisor and/or other clients receive such services. The allocation of orders and the commission rates paid by the Trust will be reviewed periodically by the Board of Trustees. As permitted by Section 28(e) of the Securities Exchange Act of 1934, as amended (the "1934 Act"), the Advisor may cause the Trust to pay a broker-dealer which provides "brokerage and research services" (as defined in the 1934 Act) to the Advisor, an amount of disclosed commission for effecting a securities transaction for the Trust in excess of the commission which another broker-dealer would have charged for effecting that transaction. For the fiscal years ended November 30, 1996, 1997 and 1998, the Trust paid no brokerage commissions for the execution of portfolio transactions. The rates of portfolio turnover for each of the fiscal years ended November 30, 1996, 1997 and 1998 were 22%, 15% and 34%, respectively. B-11 60 NET ASSET VALUE Net asset value of the Trust will be determined no less frequently than as of the close of regular trading on the New York Stock Exchange (the "Exchange") (generally 4:00 p.m. Eastern time) on the last Business Day of each week (generally Friday), and at such other times as the Trust may authorize. The net asset value of the Trust equals the value of the Trust's assets less the Trust's liabilities. Portfolio securities for which market quotations are readily available are valued at current market value. Short-term investments maturing in 60 days or less are valued at amortized cost when the Advisor determines, pursuant to procedures adopted by the Board of Trustees, that such cost approximates current market value. All other securities and assets are valued at their fair value following procedures adopted by the Board of Trustees. In determining net asset value for the Trust, the Trust's custodian utilizes the valuations of portfolio securities furnished by a pricing service approved by the Board of Trustees. Securities for which quotations are not readily available (which will constitute a majority of the securities held by the Trust) are valued at fair value as determined by the pricing service using methods which include consideration of the following: yields or prices of municipal bonds of comparable quality, type of issue, coupon, maturity and rating; indications as to value from dealers; and general market conditions. The pricing service may employ electronic data processing techniques or a matrix system, or both, to determine valuations. The procedures of the pricing service and its valuations are reviewed by the officers of the Trust under the general supervision of the Board of Trustees. B-12 61 THE AUCTION GENERAL The Amended and Restated By-Laws of Colonial Municipal Income Trust, adopted by the Board of Trustees (the "By-Laws"), provide that the Applicable Rate for each Rate Period of Municipal Preferred after the Initial Rate Period therefor shall be equal to the rate per annum that the Auction Agent advises has resulted on the Business Day preceding the first day of such Subsequent Rate Period (an "Auction Date") from implementation of the auction procedures (the "Auction Procedures") set forth in the By-Laws and summarized below, in which persons determine to hold or offer to sell or, based on dividend rates bid by them, offer to purchase or sell such shares. Each periodic implementation of the Auction Procedures is referred to herein as an "Auction." The following summary is qualified by reference to the Auction Procedures set forth in the By-Laws. As used herein with respect to shares of Municipal Preferred, (i) "Applicable Rate" means the rate per annum at which dividends are payable on such shares for any Rate Period thereof, (ii) "Beneficial Owner" means a customer of a Broker-Dealer who is listed on the records of that Broker-Dealer (or, if applicable, the Auction Agent) as a holder of such shares, (iii) "Business Day" means a day on which the New York Stock Exchange is open for trading and is not a Saturday, Sunday or other day on which banks in New York City are authorized by law to close, (iv) "Date of Original Issue" means the date on which the Trust initially issued such shares, (v) "Dividend Payment Date" means any date on which dividends on such shares are payable as provided under "Description of Municipal Preferred -- Dividends -- General," (vi) "Dividend Period" means the period from and including the Date of Original Issue of such shares to but excluding the initial Dividend Payment Date for such shares and any period thereafter from and including one Dividend Payment Date for such shares to but excluding the next succeeding Dividend Payment Date for such shares, (vii) "Existing Holder" means a Broker-Dealer (or any such other Person as may be permitted by the Trust) that is listed on the records of the Auction Agent as a holder of such shares, (viii) "Initial Rate Period" means the period from and including the Date of Original Issue of such shares to but excluding the initial Dividend Payment Date for such shares, (ix) "Potential Beneficial Owner" means a customer of a Broker-Dealer that is not a Beneficial Owner of such shares that wishes to purchase such shares, or that is a Beneficial Owner that wishes to purchase additional such shares, (x) "Potential Holder" means a Broker-Dealer (or any such other Person as may be permitted by the Trust) that is not an Existing Holder of such shares or that is an Existing Holder of such shares that wishes to become the Existing Holder of additional such shares, (xi) "Rate Period" means the Initial Rate Period of such shares and any Subsequent Rate Period, including any Special Rate Period, of such shares, (xii) "Subsequent Rate Period" means any period from and including the first day following the Initial Rate Period of such shares to but excluding the next Dividend Payment Date for such shares and any period thereafter from and including one Dividend Payment Date for such shares to but excluding the next succeeding Dividend Payment Date for such shares; provided, however, that if any Subsequent Rate Period is also a Special Rate Period, such term shall mean the period commencing on the first day of such Special Rate Period and ending on the last day of the last Dividend Period thereof, (xiii) "Minimum Rate Period" means any Rate Period consisting of 7 Rate Period Days and (xiv) "Special Rate Period" means any Subsequent Rate Period commencing on the date designated by the Trust, as set forth under "Description of Municipal Preferred -- Dividends -- Designation of Special Rate Periods," and ending on the last day of the last Dividend Period thereof. AUCTION AGENCY AGREEMENT. The Trust will enter into an agreement (the "Auction Agency Agreement") with Bankers Trust Company (together with any successor bank or trust company or other entity entering into a similar agreement with the Trust, the "Auction Agent") which provides, among other things, that the Auction Agent will follow the Auction Procedures for purposes of determining the Applicable Rate for shares of Municipal Preferred so long as the Applicable Rate for such shares is to be based on the results of an Auction. BROKER-DEALER AGREEMENTS. Each Auction requires the participation of one or more broker-dealers. The Auction Agent will enter into an agreement with Salomon Smith Barney Inc., and may enter into B-13 62 similar agreements (collectively, the "Broker-Dealer Agreements") with one or more additional broker-dealers (collectively, the "Broker-Dealers") selected by the Trust, which provide for the participation of Broker-Dealers in Auctions. See "Broker-Dealers" below. SECURITIES DEPOSITORY. The Depository Trust Company ("DTC," together with any successor securities depository selected by the Trust, the "Securities Depository") will act as the Securities Depository for the Agent Members with respect to shares of Municipal Preferred. One certificate for all of the shares of Municipal Preferred will be registered in the name of Cede & Co. ("Cede"), as nominee of the Securities Depository. Such certificate will bear a legend to the effect that such certificate is issued subject to the provisions restricting transfers of shares of Municipal Preferred contained in the By-Laws. The Trust will also issue stop-transfer instructions to the transfer agent for shares of Municipal Preferred. Prior to the commencement of the right of holders of Preferred Shares to elect a majority of the Trust's trustees, as described below under "Description of Municipal Preferred -- Voting Rights," Cede will be the holder of record of all shares of Municipal Preferred, and owners of shares of Municipal Preferred will not be entitled to receive certificates representing their ownership interest in such shares. DTC, a New York-chartered limited purpose trust company, performs services for its participants (including the Agent Members), some of whom (and/or their representatives) own DTC. DTC maintains lists of its participants and will maintain the positions (ownership interests) held by each such participant (the "Agent Member") in shares of Municipal Preferred, whether for its own account or as a nominee for another person. AUCTION DATES; ADVANCE NOTICE OF ALLOCATION OF TAXABLE INCOME The first Auction for shares of Series F Municipal Preferred will be held on Friday , 1999, the Business Day preceding the Dividend Payment Date for the Initial Rate Period of Municipal Preferred. See "Description of Municipal Preferred -- Dividends." Thereafter, Auctions will normally be held every Friday, and each Subsequent Rate Period will normally begin on the following Monday, unless the then-current Rate Period is a Special Rate Period or, in certain circumstances, the day that would normally be the Auction Date or the first day of such Subsequent Rate Period is not a Business Day. The Auction Date and the first day of the related Rate Period (also a Dividend Payment Date) must be Business Days but need not be consecutive days. See "Description of Municipal Preferred -- Dividends" for information concerning the circumstances under which the first day of a Rate Period or the Auction Date, or both, may be moved to a date other than such specified days. Whenever the Trust intends to include any net capital gain or other income taxable for Federal income tax purposes in any dividend on shares of Municipal Preferred, the Trust shall, in the case of Minimum Rate Periods or Special Rate Periods of 28 Rate Period Days or fewer, and may, in the case of any other Special Rate Period, notify the Auction Agent of the amount to be so included not later than the Dividend Payment Date next preceding the Auction Date on which the Applicable Rate for such dividend is to be established. Whenever the Auction Agent receives such notice from the Trust, it will be required in turn to notify each Broker-Dealer, who, on or prior to such Auction Date, in accordance with its Broker-Dealer Agreement, will be required to notify its customers who are Beneficial Owners and Potential Beneficial Owners believed by it to be interested in submitting an Order in the Auction to be held on such Auction Date. See also "Description of Municipal Preferred -- Dividends -- Gross-up Payments" below. B-14 63 ORDERS BY EXISTING HOLDERS AND POTENTIAL HOLDERS Prior to the Submission Deadline (as defined under "Submission of Orders by Broker-Dealers to Auction Agent" below) on each Auction Date for shares of Municipal Preferred: (a) each Beneficial Owner of such shares may submit to its Broker-Dealer by telephone or otherwise a: (i) "Hold Order" -- indicating the number of outstanding shares of Municipal Preferred, if any, that such Beneficial Owner desires to continue to hold without regard to the Applicable Rate for such shares for the next succeeding Rate Period; (ii) "Bid" -- indicating the number of outstanding shares of Municipal Preferred, if any, that such Beneficial Owner offers to sell if the Applicable Rate for such shares for the next succeeding Rate Period shall be less than the rate per annum specified by such Beneficial Owner in such bid; and/or (iii) "Sell Order" -- indicating the number of outstanding shares of Municipal Preferred, if any, that such Beneficial Owner offers to sell without regard to the Applicable Rate for such shares for the next succeeding Rate Period; and (b) Broker-Dealers shall contact customers who are Potential Beneficial Owners by telephone or otherwise to determine whether such customers desire to submit Bids, in which they will indicate the number of shares of Municipal Preferred that they offer to purchase if the Applicable Rate for such shares for the next succeeding Rate Period is not less than the rate per annum specified in such Bids. The communication to a Broker-Dealer of the foregoing information is herein referred to as an "Order" and collectively as "Orders." A Beneficial Owner or a Potential Beneficial Owner placing an Order with its Broker-Dealer is herein referred to as a "Bidder" and collectively as "Bidders." The submission by a Broker-Dealer of an Order to the Auction Agent shall likewise be referred to herein as an "Order" and collectively as "Orders," and an Existing Holder or Potential Holder who places an Order with the Auction Agent or on whose behalf an Order is placed with the Auction Agent shall likewise be referred to herein as a "Bidder" and collectively as "Bidders." A Beneficial Owner may submit different types of Orders to its Broker-Dealer with respect to shares of Municipal Preferred then held by such Beneficial Owner. A Bid placed by a Beneficial Owner specifying a rate higher than the Applicable Rate determined in the Auction shall constitute an irrevocable offer to sell the shares subject thereto. A Beneficial Owner that submits a Bid to its Broker-Dealer having a rate higher than the Maximum Rate on the Auction Date thereof will be treated as having submitted a Sell Order to its Broker-Dealer. A Beneficial Owner that fails to submit to its Broker-Dealer prior to the Submission Deadline for shares of Municipal Preferred an Order or Orders covering all the outstanding shares of Municipal Preferred held by such Beneficial Owner will be deemed to have submitted a Hold Order to its Broker-Dealer covering the number of outstanding shares of Municipal Preferred held by such Beneficial Owner and not subject to Orders submitted to its Broker-Dealer; provided, however, that if a Beneficial Owner fails to submit to its Broker-Dealer prior to the Submission Deadline for shares of Municipal Preferred an Order or Orders covering all of the outstanding shares of Municipal Preferred held by such Beneficial Owner for an Auction relating to a Special Rate Period consisting of more than 28 Rate Period Days, such Beneficial Owner will be deemed to have submitted a Sell Order to its Broker-Dealer covering the number of outstanding shares of Municipal Preferred held by such Beneficial Owner and not subject to Orders submitted to its Broker-Dealer. A Sell Order shall constitute an irrevocable offer to sell the shares of Municipal Preferred subject thereto at a price per share equal to $25,000. A Beneficial Owner of shares of Municipal Preferred that offers to become the Beneficial Owner of additional shares of Municipal Preferred is, for purposes of such offer, a Potential Beneficial Owner. A Potential Beneficial Owner of shares of Municipal Preferred may submit to its Broker-Dealer Bids in which it offers to purchase shares of Municipal Preferred if the Applicable Rate for the next Rate Period is not less than the rate specified in such Bid. A Bid placed by a Potential Beneficial Owner B-15 64 specifying a rate not higher than the Maximum Rate shall constitute an irrevocable offer to purchase the number of shares of Municipal Preferred specified in such Bid if the rate determined in the Auction is equal to or greater than the rate specified in such Bid. As described more fully below under "Submission of Orders by Broker-Dealers to Auction Agent," the Broker-Dealers will submit the Orders of their respective customers who are Beneficial Owners and Potential Beneficial Owners to the Auction Agent, designating themselves (unless otherwise permitted by the Trust) as Existing Holders in respect of shares subject to Orders submitted or deemed submitted to them by Beneficial Owners and as Potential Holders in respect of shares subject to Orders submitted to them by Potential Beneficial Owners. However, neither the Trust nor the Auction Agent will be responsible for a Broker-Dealer's failure to comply with the foregoing. Any Order placed with the Auction Agent by a Broker-Dealer as or on behalf of an Existing Holder or a Potential Holder will be treated in the same manner as an Order placed with a Broker-Dealer by a Beneficial Owner or a Potential Beneficial Owner, as described in the preceding paragraph. Similarly, any failure by a Broker-Dealer to submit to the Auction Agent an Order in respect of any shares of Municipal Preferred held by it or its customers who are Beneficial Owners will be treated in the same manner as a Beneficial Owner's failure to submit to its Broker-Dealer an Order in respect of shares of Municipal Preferred held by it, as described in the second preceding paragraph. For information concerning the priority given to different types of Orders placed by Existing Holders, see "Submission of Orders by Broker-Dealers to Auction Agent" below. Neither the Trust nor an affiliate may submit an Order in any Auction, except that any Broker-Dealer that is an affiliate of the Trust may submit Orders in an Auction, but only if such Orders are not for its own account. The Auction Procedures include a pro rata allocation of shares for purchase and sale, which may result in an Existing Holder continuing to hold or selling, or a Potential Holder purchasing, a number of shares of Municipal Preferred that is fewer than the number of shares of Municipal Preferred specified in its Order. See "Acceptance and Rejection of Submitted Bids and Submitted Sell Orders and Allocation of Shares" below. To the extent the allocation procedures have that result, Broker-Dealers that have designated themselves as Existing Holders or Potential Holders in respect of customer Orders will be required to make appropriate pro rata allocations among their respective customers. Each purchase or sale shall be made for settlement on the Business Day next succeeding the Auction Date at a price per share equal to $25,000. See "Notification of Results; Settlement" below. As described above, any Bid specifying a rate higher than the Maximum Rate (as defined below) will (i) be treated as a Sell Order if submitted by a Beneficial Owner or an Existing Holder and (ii) not be accepted if submitted by a Potential Beneficial Owner or a Potential Holder. Accordingly, the Auction Procedures establish the Maximum Rate as a maximum rate per annum that can result from an Auction. See "Determination of Sufficient Clearing Bids, Winning Bid Rate and Applicable Rate" and "Acceptance and Rejection of Submitted Bids and Submitted Sell Orders and Allocation of Shares" below. As used herein, "Maximum Rate," when used with respect to shares of Municipal Preferred on an Auction Date, means: (i) in the case of any Auction Date which is not the Auction Date immediately prior to the first day of any proposed Special Rate Period, the product of (1) the Reference Rate on such Auction Date for the next Rate Period and (2) the Rate Multiple on such Auction Date, unless such shares have or had a Special Rate Period (other than a Special Rate Period of 28 Rate Period Days or fewer) and an Auction at which Sufficient Clearing Bids existed has not yet occurred for a Minimum Rate Period after such Special Rate Period, in which case the higher of: (A) the dividend rate on such shares for the then-ending Rate Period; and (B) the product of (x) the higher of (I) the Reference Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period, if such then-ending Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period, if such then-ending Rate Period was more B-16 65 than 364 Rate Period Days, and (II) the Reference Rate on such Auction Date for a Rate Period equal in length to such Special Rate Period, if such Special Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to such Special Rate Period, if such Special Rate Period was more than 364 Rate Period Days and (y) the Rate Multiple on such Auction Date; or (ii) in the case of any Auction Date which is the Auction Date immediately prior to the first day of any proposed Special Rate Period, the product of (1) the highest of (x) the Reference Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period, if such then-ending Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period, if such then-ending Rate Period was more than 364 Rate Period Days, (y) the Reference Rate on such Auction Date for the Special Rate Period for which the Auction is being held if such Special Rate Period is 364 Rate Period Days or fewer or the Treasury Note Rate on such Auction Date for the Special Rate Period for which the Auction is being held if such Special Rate Period is more than 364 Rate Period Days, and (z) the Reference Rate on such Auction Date for Minimum Rate Periods and (2) the Rate Multiple on such Auction Date. As used herein, "Reference Rate" shall mean (i) the higher of the Taxable Equivalent of the Short-Term Municipal Bond Rate and the "AA" Composite Commercial Paper Rate in the case of Minimum Rate Periods and Special Rate Periods of 28 Rate Period Days or fewer; (ii) the "AA" Composite Commercial Paper Rate in the case of Special Rate Periods of more than 28 Rate Period Days but fewer than 183 Rate Period Days; and (iii) the Treasury Bill Rate in the case of Special Rate Periods of more than 182 Rate Period Days but fewer than 365 Rate Period Days. As used herein, "Taxable Equivalent of the Short-Term Municipal Bond Rate," on any date for any Minimum Rate Period or Special Rate Period of 28 Rate Period Days or fewer, shall mean 90% of the quotient of (A) the per annum rate expressed on an interest equivalent basis equal to the Standard & Poor's Kenny 30 day High Grade Index or any successor index (the "Kenny Index") (provided, however, that any such successor index must be approved by Moody's (if Moody's is then rating the shares of Municipal Preferred) and Standard & Poor's (if Standard & Poor's is then rating the shares of Municipal Preferred)), made available for the Business Day immediately preceding such date but in any event not later than 8:30 A.M., Eastern time, on such date by Standard & Poor's J.J. Kenny Evaluation Services or any successor thereto, based upon 30-day yield evaluations at par of short-term bonds, the interest on which is excludable for regular Federal income tax purposes under the Code, of "high grade" component issuers selected by Standard & Poor's J.J. Kenny Evaluation Services or any such successor from time to time in its discretion, which component issuers shall include, without limitation, issuers of general obligation bonds but shall exclude any bonds the interest on which constitutes an item of tax preference under Section 57(a)(5) of the Code, or successor provisions, for purposes of the "alternative minimum tax," divided by (B) 1.00 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income (in each case expressed as a decimal), whichever is greater; provided, however, that if the Kenny Index is not made so available by 8:30 A.M., Eastern time, on such date by Standard & Poor's J.J. Kenny Evaluation Services or any successor, the Taxable Equivalent of the Short-Term Municipal Bond Rate shall mean the quotient of (A) the per annum rate expressed on an interest equivalent basis equal to the most recent Kenny Index so made available for any preceding Business Day, divided by (B) 1.00 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income (in each case expressed as a decimal), whichever is greater. As used herein, " 'AA' Composite Commercial Paper Rate," on any date for any Rate Period, means: (i) (A) in the case of any Minimum Rate Period or any Special Rate Period of fewer than 49 Rate Period Days, the interest equivalent of the 30-day rate; provided, however, that if such Rate Period is a Minimum Rate Period and the "AA" Composite Commercial Paper Rate is being used to B-17 66 determine the Applicable Rate when all of the outstanding shares of Municipal Preferred are subject to Submitted Hold Orders, then the interest equivalent of the seven-day rate, and (B) in the case of any Special Rate Period of (1) 49 or more but fewer than 70 Rate Period Days, the interest equivalent of the 60-day rate; (2) 70 or more but fewer than 85 Rate Period Days, the arithmetic average of the interest equivalent of the 60-day and 90-day rates; (3) 85 or more but fewer than 99 Rate Period Days, the interest equivalent of the 90-day rate; (4) 99 or more but fewer than 120 Rate Period Days, the arithmetic average of the interest equivalent of the 90-day and 120-day rates; (5) 120 or more but fewer than 141 Rate Period Days, the interest equivalent of the 120-day rate; (6) 141 or more but fewer than 162 Rate Period Days, the arithmetic average of the 120-day and 180-day rates; and (7) 162 or more but fewer than 183 Rate Period Days, the interest equivalent of the 180-day rate, in each case on commercial paper placed on behalf of issuers whose corporate bonds are rated "AA" by Standard & Poor's or the equivalent of such rating by Standard & Poor's or another rating agency, as made available on a discount basis or otherwise by the Federal Reserve Bank of New York for the Business Day immediately preceding such date; or (ii) in the event that the Federal Reserve Bank of New York does not make available any such rate, then the arithmetic average of such rates, as quoted on a discount basis or otherwise, by the Commercial Paper Dealers to the Auction Agent for the close of business on the Business Day next preceding such date. If any Commercial Paper Dealer does not quote a rate required to determine the "AA" Composite Commercial Paper Rate, the "AA" Composite Commercial Paper Rate shall be determined on the basis of the quotation or quotations furnished by the remaining Commercial Paper Dealer or Commercial Paper Dealers and any Substitute Commercial Paper Dealer or Substitute Commercial Paper Dealers selected by the Trust to provide such rate or rates not being supplied by any Commercial Paper Dealer or Commercial Paper Dealers, as the case may be, or, if the Trust does not select any such Substitute Commercial Paper Dealer or Substitute Commercial Paper Dealers, by the remaining Commercial Paper Dealer or Commercial Paper Dealers. For purposes of this definition, the "interest equivalent" of a rate stated on a discount basis (a "discount rate") for commercial paper of a given days' maturity shall be equal to the quotient (rounded upwards to the next higher one-thousandth (0.001) of 1%) of (A) the discount rate divided by (B) the difference between (x) 1.00 and (y) a fraction the numerator of which shall be the product of the discount rate times the number of days in which such commercial paper matures and the denominator of which shall be 360. As used herein, "Commercial Paper Dealers" means Lehman Commercial Paper Incorporated, Goldman, Sachs & Co. and Merrill Lynch, Pierce, Fenner & Smith Incorporated and such other commercial paper dealer or dealers as the Trust may from time to time appoint, or, in lieu of any thereof, their respective affiliates or successors. As used herein, "Substitute Commercial Paper Dealer" means CS First Boston Corporation or Morgan Stanley & Co. Incorporated or their respective affiliates or successors, if such entity is a commercial paper dealer, provided that none of such entities shall be a Commercial Paper Dealer. As used herein, "Treasury Bill Rate," on any date for any Rate Period, means: (i) the bond equivalent yield, calculated in accordance with prevailing industry convention, of the rate on the most recently auctioned Treasury Bill with a remaining maturity closest to the length of such Rate Period, as quoted in The Wall Street Journal on such date for the Business Day next preceding such date; or (ii) in the event that any such rate is not published in The Wall Street Journal, then the bond equivalent yield, calculated in accordance with prevailing industry convention, as calculated by reference to the arithmetic average of the bid price quotations of the most recently auctioned Treasury Bill with a remaining maturity closest to the length of such Rate Period, as determined by bid price quotations as of the close of business on the Business Day immediately preceding such date obtained from the U.S. Government Securities Dealers to the Auction Agent. B-18 67 As used herein, "Treasury Note Rate," on any date for any Rate Period, means: (i) the yield on the most recently auctioned Treasury Note with a remaining maturity closest to the length of such Rate Period, as quoted in The Wall Street Journal on such date for the Business Day next preceding such date; or (ii) in the event that any such rate is not published in The Wall Street Journal, then the yield as calculated by reference to the arithmetic average of the bid price quotations of the most recently auctioned Treasury Note with a remaining maturity closest to the length of such Rate Period, as determined by bid price quotations as of the close of business on the Business Day immediately preceding such date obtained from the U.S. Government Securities Dealers to the Auction Agent. For purposes of the foregoing, "Treasury Bill" means a direct obligation of the U.S. government having a maturity at the time of issuance of 364 days or less, and "Treasury Note" means a direct obligation of the U.S. government having a maturity at the time of issuance of five years or less but more than 364 days. If any U.S. Government Securities Dealer does not quote a rate required to determine the Treasury Bill Rate or the Treasury Note Rate, such rate shall be determined on the basis of the quotation or quotations furnished by the remaining U.S. Government Securities Dealer or U.S. Government Securities Dealers and any Substitute U.S. Government Securities Dealers selected by the Trust to provide such rate or rates not being supplied by any U.S. Government Securities Dealer or U.S. Government Securities Dealers, as the case may be, or, if the Trust does not select any such Substitute U.S. Government Securities Dealer or Substitute U.S. Government Securities Dealers, by the remaining U.S. Government Securities Dealer or U.S. Government Securities Dealers. As used herein, "U.S. Government Securities Dealer" means Lehman Government Securities Incorporated, Goldman, Sachs & Co., Salomon Smith Barney Inc. and Morgan Guaranty Trust Company of New York or their respective affiliates or successors, if such entity is a U.S. government securities dealer. As used herein, "Substitute U.S. Government Securities Dealer" shall mean CS First Boston Corporation and Merrill Lynch, Pierce, Fenner & Smith Incorporated or their respective affiliates or successors, if such entity is a U.S. government securities dealer, provided that none of such entities shall be a U.S. Government Securities Dealer. The applicable "AA" Composite Commercial Paper Rates, Taxable Equivalent of the Short-Term Municipal Bond Rates, Treasury Bill Rates and Treasury Note Rates will be the rates announced on such Auction Date for the Business Day immediately prior to such Auction Date. The "Rate Multiple" will be a percentage, determined as set forth below, based on the prevailing rating of shares of Municipal Preferred in effect at the close of business on the Business Day next preceding such Auction Date:
PREVAILING RATING PERCENTAGE - ----------------- ---------- "aa3"/AA- or higher......................................... 110% "a3"/A-..................................................... 125% "baa3"/BBB-................................................. 150% "ba3"/BB-................................................... 200% Below "ba3"/BB-............................................. 250%
provided, however, that in the event the Trust has notified the Auction Agent of its intent to allocate income taxable for Federal income tax purposes to shares of Municipal Preferred prior to the Auction establishing the Applicable Rate for such shares, the applicable percentage in the foregoing table shall be divided by the quantity 1 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income, whichever is greater. If the shares of Municipal Preferred are rated by only one rating agency, such rating will be the prevailing rating. For purposes of this definition, the "prevailing rating" of shares of Municipal Preferred shall be (i) "aa3"/AA- or higher if such shares have a rating of "aa3" or better by Moody's and AA- or better by Standard & Poor's or the equivalent of such ratings by such agencies or a substitute rating agency or B-19 68 substitute rating agencies selected as provided below, (ii) if not "aa3"/AA- or higher, then "a3"/A- if such shares have a rating of "a3" or better by Moody's and A- or better by Standard & Poor's or the equivalent of such ratings by such agencies or a substitute rating agency or substitute rating agencies selected as provided below, (iii) if not "aa3"/AA- or higher or "a3"/A-, then "baa3"/BBB- if such shares have a rating of "baa3" or better by Moody's and BBB- or better by Standard & Poor's or the equivalent of such ratings by such agencies or a substitute rating agency or substitute rating agencies selected as provided below, (iv) if not "aa3"/AA- or higher, "a3"/A- or "baa3"/BBB-, then "ba3"/BB- if such shares have a rating of "ba3" or better by Moody's and BB- or better by Standard & Poor's or the equivalent of such ratings by such agencies or a substitute rating agency or substitute rating agencies selected as provided below, and (v) if not "aa3"/AA- or higher, "a3"/A-, "baa3"/BBB-, or "ba3"/BB-, then Below "ba3"/BB-; provided, however, that if such shares are rated by only one rating agency, the prevailing rating shall be determined without reference to the rating of any other rating agency. The Trust will take all reasonable action necessary to enable either Standard & Poor's or Moody's to provide a rating for shares of Municipal Preferred. If neither Standard & Poor's nor Moody's shall make such a rating available, Salomon Smith Barney Inc. or its successor shall select at least one nationally recognized statistical rating organization (as that term is used in the rules and regulations of the SEC under the Securities Exchange Act of 1934, as amended) to act as a substitute rating agency in respect of the shares of Municipal Preferred, and the Trust shall take all reasonable action to enable such rating agency to provide a rating for such shares. SUBMISSION OF ORDERS BY BROKER-DEALERS TO AUCTION AGENT Prior to 1:30 P.M., Eastern time, on each Auction Date, or such other time on the Auction Date specified by the Auction Agent (the "Submission Deadline"), each Broker-Dealer will submit to the Auction Agent in writing all Orders obtained by it for the Auction to be conducted on such Auction Date, designating itself (unless otherwise permitted by the Trust) as the Existing Holder or Potential Holder, as the case may be, in respect of the shares of Municipal Preferred subject to such Orders. Any Order submitted by a Beneficial Owner or a Potential Beneficial Owner to its Broker-Dealer, or by a Broker-Dealer to the Auction Agent, prior to the Submission Deadline on any Auction Date, shall be irrevocable. If any rate specified in any Bid contains more than three figures to the right of the decimal point, the Auction Agent will round such rate to the next highest one-thousandth (0.001) of 1%. If one or more Orders of an Existing Holder is submitted to the Auction Agent covering in the aggregate more than the number of outstanding shares of Municipal Preferred subject to an Auction held by such Existing Holder, such Orders will be considered valid in the following order of priority: (a) all Hold Orders will be considered valid, but only up to and including in the aggregate the number of shares of Municipal Preferred held by such Existing Holder, and, if the number of shares subject to such Hold Orders exceeds the number of shares held by such Existing Holder, the number of shares subject to each such Hold Order shall be reduced pro rata to cover the number of shares held by such Existing Holder; (b) (i) any Bid will be considered valid up to and including the excess of the number of shares of Municipal Preferred held by such Existing Holder over the number of shares of Municipal Preferred subject to any Hold Orders referred to in clause (a) above; (ii) subject to subclause (i), if more than one Bid of an Existing Holder is submitted to the Auction Agent with the same rate and the number of shares of Municipal Preferred subject to such Bids is greater than such excess, such Bids will be considered valid up to and including the amount of such excess, and the number of shares of Municipal Preferred subject to each Bid with the same rate will be reduced pro rata to cover the number of shares of Municipal Preferred equal to such excess; B-20 69 (iii) subject to subclauses (i) and (ii), if more than one Bid of an Existing Holder is submitted to the Auction Agent with different rates, such Bids shall be considered valid in the ascending order of their respective rates up to and including the amount of such excess; and (iv) in any such event, the number, if any, of such shares subject to any portion of Bids considered not valid in whole or in part under this clause (b) will be treated as the subject of a Bid by or on behalf of a Potential Holder at the rate specified therein; and (c) all Sell Orders will be considered valid up to and including the excess of the number of outstanding shares of Municipal Preferred held by such Existing Holder over the sum of shares of Municipal Preferred subject to valid Hold Orders referred to in clause (a) above and valid Bids referred to in clause (b) above. If more than one Bid of a Potential Holder for shares of Municipal Preferred is submitted to the Auction Agent by or on behalf of any Potential Holder, each Bid submitted will be a separate Bid with the rate and number of shares therein specified. DETERMINATION OF SUFFICIENT CLEARING BIDS, WINNING BID RATE AND APPLICABLE RATE Not earlier than the Submission Deadline on each Auction Date, the Auction Agent will assemble all valid Orders submitted or deemed submitted to it by the Broker-Dealers (each such Hold Order, Bid or Sell Order as submitted or deemed submitted by a Broker-Dealer being herein referred to as a "Submitted Hold Order," a "Submitted Bid" or a "Submitted Sell Order," as the case may be, or as a "Submitted Order" and collectively as "Submitted Hold Orders," "Submitted Bids" or "Submitted Sell Orders," as the case may be, or as "Submitted Orders") and will determine the excess of the number of outstanding shares of Municipal Preferred over the number of outstanding shares of Municipal Preferred subject to Submitted Hold Orders (such excess being herein referred to as the "Available Municipal Preferred") and whether Sufficient Clearing Bids have been made in the Auction. "Sufficient Clearing Bids" will have been made if the number of outstanding shares of Municipal Preferred that are the subject of Submitted Bids of Potential Holders specifying rates not higher than the Maximum Rate equals or exceeds the number of outstanding shares of Municipal Preferred that are the subject of Submitted Sell Orders (including the number of shares subject to Bids of Existing Holders specifying rates higher than the Maximum Rate). If Sufficient Clearing Bids have been made, the Auction Agent will determine the lowest rate specified in the Submitted Bids (the "Winning Bid Rate") which, taking into account the rates in the Submitted Bids of Existing Holders, would result in Existing Holders continuing to hold an aggregate number of outstanding shares of Municipal Preferred which, when added to the number of outstanding shares of Municipal Preferred to be purchased by Potential Holders, based on the rates in their Submitted Bids, would equal not less than the Available Municipal Preferred. In such event, the Winning Bid Rate will be the Applicable Rate for the next Rate Period for all shares of Municipal Preferred. If Sufficient Clearing Bids have not been made (other than because all of the outstanding shares of Municipal Preferred are subject to Submitted Hold Orders), the Applicable Rate for the next Rate Period for all shares of Municipal Preferred will be equal to the Maximum Rate. If Sufficient Clearing Bids have not been made, Beneficial Owners that have submitted or that are deemed to have submitted Sell Orders may not be able to sell in the Auction all shares of Municipal Preferred subject to such Sell Orders but will continue to own shares of Municipal Preferred for the next Rate Period, dividends for which may include income taxable to such Beneficial Owners. See "The Auction -- Auction Dates; Advance Notice of Allocation of Taxable Income" above and "Acceptance and Rejection of Submitted Bids and Submitted Sell Orders and Allocation of Shares" below. If all of the outstanding shares of Municipal Preferred are subject to Submitted Hold Orders, the Applicable Rate for the next Rate Period will be the lesser of the Kenny Index (if such Rate Period consists of fewer than 183 Rate Period Days) or the product of (i) (1) the "AA" Composite Commercial Paper Rate on the Auction Date for such Rate Period, if such Rate Period consists of fewer than 183 Rate Period Days; (2) the Treasury Bill Rate on such Auction Date for such Rate Period, if such Rate Period B-21 70 consists of more than 182 but fewer than 365 Rate Period Days; or (3) the Treasury Note Rate on such Auction Date for such Rate Period, if such Rate Period is more than 364 Rate Period Days (the rate described in the foregoing clause (i)(1), (2) or (3) as applicable, being referred to herein as the "Benchmark Rate") and (ii) 1 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income, whichever is greater; provided, however, that if the Trust has notified the Auction Agent of its intent to allocate to shares of Municipal Preferred in such Rate Period any net capital gain or other income taxable for Federal income tax purposes ("Taxable Income"), the Applicable Rate for shares of Municipal Preferred for such Rate Period will be (A) if the Taxable Yield Rate (as defined below) is greater than the Benchmark Rate, then the Benchmark Rate, or (B) if the Taxable Yield Rate is less than or equal to the Benchmark Rate, then the rate equal to the sum of (x) the lesser of the Kenny Index (if such Rate Period consists of fewer than 183 Rate Period Days) or the product of the Benchmark Rate multiplied by the factor set forth in the preceding clause (ii) and (y) the product of the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax applicable to ordinary income, whichever is greater, multiplied by the Taxable Yield Rate. For purposes of the foregoing, "Taxable Yield Rate" means the rate determined by (a) dividing the amount of Taxable Income available for distribution per share of Municipal Preferred by the number of days in the Dividend Period in respect of which such Taxable Income is contemplated to be distributed, (b) multiplying the amount determined in (a) above by 365 (in the case of a Dividend Period of 7 Rate Period Days) or 360 (in the case of any other Dividend Period), and (c) dividing the amount determined in (b) above by $25,000. In calculating the "AA" Composite Commercial Paper Rate, the Treasury Bill Rate and the Treasury Note Rate for such purpose, the rates used will be the rates or yields specified in the applicable definitions of "AA" Composite Commercial Paper Rate, Treasury Bill Rate and Treasury Note Rate set forth under "The Auction -- Orders by Existing Holders and Potential Holders." ACCEPTANCE AND REJECTION OF SUBMITTED BIDS AND SUBMITTED SELL ORDERS AND ALLOCATION OF SHARES Based on the determinations made under "Determination of Sufficient Clearing Bids, Winning Bid Rate and Applicable Rate" above and, subject to the discretion of the Auction Agent to round and allocate certain shares as described below, Submitted Bids and Submitted Sell Orders will be accepted or rejected in the order of priority set forth in the Auction Procedures, with the result that Existing Holders and Potential Holders of shares of Municipal Preferred will sell, continue to hold and/or purchase such shares as set forth below. Existing Holders that submitted or were deemed to have submitted Hold Orders (or on whose behalf Hold Orders were submitted or deemed to have been submitted) will continue to hold the shares of Municipal Preferred subject to such Hold Orders. If Sufficient Clearing Bids have been made: (a) Each Existing Holder that placed or on whose behalf was placed a Submitted Sell Order or Submitted Bid specifying any rate higher than the Winning Bid Rate will sell the outstanding shares of Municipal Preferred subject to such Submitted Sell Order or Submitted Bid; (b) Each Existing Holder that placed or on whose behalf was placed a Submitted Bid specifying a rate lower than the Winning Bid Rate will continue to hold the outstanding shares of Municipal Preferred subject to such Submitted Bid; (c) Each Potential Holder that placed or on whose behalf was placed a Submitted Bid specifying a rate lower than the Winning Bid Rate will purchase the number of outstanding shares of Municipal Preferred subject to such Submitted Bid; (d) Each Existing Holder that placed or on whose behalf was placed a Submitted Bid specifying a rate equal to the Winning Bid Rate will continue to hold the shares of Municipal Preferred subject to such Submitted Bid, unless the number of outstanding shares of Municipal Preferred subject to all such Submitted Bids is greater than the number of shares of Municipal Preferred in excess of the Available Municipal Preferred over the number of shares of Municipal Preferred accounted for in B-22 71 clauses (b) and (c) above, in which event each Existing Holder with such a Submitted Bid will continue to hold a number of outstanding shares of Municipal Preferred subject to such Submitted Bid determined on a pro rata basis based on the number of outstanding shares of Municipal Preferred subject to all such Submitted Bids of such Existing Holders; and (e) Each Potential Holder that placed or on whose behalf was placed a Submitted Bid specifying a rate equal to the Winning Bid Rate will purchase any shares of Available Municipal Preferred not accounted for in clauses (b) through (d) above on a pro rata basis based on the outstanding shares of Municipal Preferred subject to all such Submitted Bids. If Sufficient Clearing Bids have not been made (unless this results because all outstanding shares of Municipal Preferred are subject to Submitted Hold Orders): (a) Each Existing Holder that placed or on whose behalf was placed a Submitted Bid specifying a rate equal to or lower than the Maximum Rate will continue to hold the outstanding shares of Municipal Preferred subject to such Submitted Bid; (b) Each Potential Holder that placed or on whose behalf was placed a Submitted Bid specifying a rate equal to or lower than the Maximum Rate will purchase the number of outstanding shares of Municipal Preferred subject to such Submitted Bid; and (c) Each Existing Holder that placed or on whose behalf was placed a Submitted Bid specifying a rate higher than the Maximum Rate or a Submitted Sell Order will sell a number of shares of Municipal Preferred determined on a pro rata basis based on the number of outstanding shares of Municipal Preferred subject to all such Submitted Bids and Submitted Sell Orders. If, as a result of the pro rata allocation described in clauses (d) or (e) of the second preceding paragraph or clause (c) of the next preceding paragraph, any Existing Holder would be entitled or required to sell, or any Potential Holder would be entitled or required to purchase, a fraction of a share of Municipal Preferred, the Auction Agent will, in such manner as, in its sole discretion, it will determine, round up or down to the nearest whole share the number of shares of Municipal Preferred being sold or purchased on such Auction Date so that the number of shares sold or purchased by each Existing Holder or Potential Holder will be whole shares of Municipal Preferred. If as a result of the pro rata allocation described in clause (e) of the second preceding paragraph, any Potential Holder would be entitled or required to purchase less than a whole share of Municipal Preferred, the Auction Agent will, in such manner as, in its sole discretion, it will determine, allocate shares of Municipal Preferred for purchase among Potential Holders so that only whole shares of Municipal Preferred are purchased by any such Potential Holder, even if such allocation results in one or more of such Potential Holders not purchasing shares of Municipal Preferred. NOTIFICATION OF RESULTS; SETTLEMENT The Auction Agent will be required to advise each Broker-Dealer that submitted an Order of the Applicable Rate for the next Rate Period and, if the Order was a Bid or Sell Order, whether such Bid or Sell Order was accepted or rejected, in whole or in part, by telephone by approximately 3:00 P.M., Eastern time, on each Auction Date. Each Broker-Dealer that submitted an Order for the account of a customer will then be required to advise such customer of the Applicable Rate for the next Rate Period and, if such Order was a Bid or a Sell Order, whether such Bid or Sell Order was accepted or rejected, in whole or in part, will be required to confirm purchases and sales with each customer purchasing or selling shares of Municipal Preferred as a result of the Auction and will be required to advise each customer purchasing or selling shares of Municipal Preferred as a result of the Auction to give instructions to its Agent Member of the Securities Depository to pay the purchase price against delivery of such shares or to deliver such shares against payment therefor, as appropriate. The Auction Agent will be required to record each transfer of shares of Municipal Preferred on the registry of Existing Holders to be maintained by the Auction Agent. See "General" above. B-23 72 In accordance with the Securities Depository's normal procedures, on the Business Day after the Auction Date, the transactions described above will be executed through the Securities Depository and the accounts of the respective Agent Members at the Securities Depository will be debited and credited and shares delivered as necessary to effect the purchases and sales of shares of Municipal Preferred as determined in the Auction. Purchasers will make payment through their Agent Members in same-day funds to the Securities Depository against delivery through their Agent Members; the Securities Depository will make payment in accordance with its normal procedures, which now provide for payment against delivery by their Agent Members in same-day funds. The settlement procedures to be used with respect to Auctions for shares of Municipal Preferred are set forth in Appendix C hereto. If any Existing Holder selling shares of Municipal Preferred in an Auction fails to deliver such shares, the Broker-Dealer of any person that was to have purchased shares of Municipal Preferred in such Auction may deliver to such person a number of whole shares of Municipal Preferred that is less than the number of shares that otherwise was to be purchased by such person. In such event, the number of shares of Municipal Preferred to be so delivered shall be determined by such Broker-Dealer. Delivery of such lesser number of shares shall constitute good delivery. CONCERNING THE AUCTION AGENT The Auction Agent is acting as agent for the Trust in connection with Auctions. In the absence of bad faith or negligence on its part, the Auction Agent will not be liable for any action taken, suffered, or omitted or for any error of judgment made by it in the performance of its duties under the Auction Agency Agreement and will not be liable for any error of judgment made in good faith unless the Auction Agent will have been negligent in ascertaining the pertinent facts. The Auction Agent may rely upon, as evidence of the identities of the Existing Holders of shares of Municipal Preferred, a list of initial owners of such shares provided by the Trust, the results of Auctions, notices from any Broker-Dealer (or other Person, if permitted by the Trust) with respect to transfers described in the Prospectus under "The Auction -- Secondary Market Trading and Transfer of Municipal Preferred" and notices from the Trust. The Auction Agent is not required to accept any such notice for an Auction unless it is received by the Auction Agent by 3:00 P.M., Eastern time, on the Business Day preceding such Auction. The Auction Agent will be the transfer agent, registrar, dividend disbursing agent and redemption agent for shares of Municipal Preferred. The registrar for shares of Municipal Preferred will send notices to holders of shares of Municipal Preferred of any special meetings at which holders of Municipal Preferred have the right to elect trustees of the Trust. See "Description of Municipal Preferred -- Voting Rights" below. The Auction Agent may terminate the Auction Agency Agreement upon notice to the Trust on a date no earlier than 45 days after such notice. If the Auction Agent should resign, the Trust will use its best efforts to enter into an agreement with a successor Auction Agent containing substantially the same terms and conditions as the Auction Agency Agreement. The Trust may remove the Auction Agent provided that prior to such removal the Trust shall have entered into such an agreement with a successor Auction Agent. BROKER-DEALERS The Auction Agent after each Auction for shares of Municipal Preferred will pay to each Broker-Dealer, from funds provided by the Trust, a service charge at the annual rate of 1/4 of 1% in the case of any Auction immediately preceding a Rate Period of less than one year, or a percentage agreed to by the Trust and the Broker-Dealers in the case of any Auction immediately preceding a Rate Period of one year or longer, of the purchase price of shares of Municipal Preferred placed by such Broker-Dealer at such Auction. For the purposes of the preceding sentence, shares of Municipal Preferred will be placed by a Broker-Dealer if such shares were (i) the subject of Hold Orders deemed to have been submitted to the Auction Agent by the Broker-Dealer and were acquired by such Broker-Dealer for its own account or were B-24 73 acquired by such Broker-Dealer for its customers who are Beneficial Owners or (ii) the subject of an Order submitted by such Broker-Dealer that is (A) a Submitted Bid of an Existing Holder that resulted in such Existing Holder continuing to hold such shares as a result of the Auction or (B) a Submitted Bid of a Potential Holder that resulted in such Potential Holder purchasing such shares as a result of the Auction or (C) a valid Hold Order. The Trust may request the Auction Agent to terminate one or more Broker-Dealer Agreements at any time, provided that at least one Broker-Dealer Agreement is in effect after such termination. The Broker-Dealer Agreements provide that a Broker-Dealer (other than an affiliate of the Trust) may submit Orders in Auctions for its own account, unless the Trust notifies all Broker-Dealers that they may no longer do so, in which case Broker-Dealers may continue to submit Hold Orders and Sell Orders for their own accounts. Any Broker-Dealer that is an affiliate of the Trust may submit Orders in Auctions, but only if such Orders are not for its own account. If a Broker-Dealer submits an Order for its own account in any Auction, it might have an advantage over other Bidders because it would have knowledge of all Orders submitted by it in that Auction; such Broker-Dealer, however, would not have knowledge of Orders submitted by other Broker-Dealers in that Auction. The Broker-Dealers expect, but are not obligated, to maintain a secondary trading market in shares of Municipal Preferred outside of Auctions. There can be no assurance that a secondary trading market in shares of Municipal Preferred will develop or, if it does develop, that it will provide owners with liquidity of investment. The shares of Municipal Preferred will not be registered on any stock exchange or on the National Association of Securities Dealers Automated Quotations system. DESCRIPTION OF MUNICIPAL PREFERRED The descriptions of the shares of Municipal Preferred contained in the Prospectus and this Statement of Additional Information do not purport to be complete and are subject to and qualified in their entireties by reference to the Declaration and the By-Laws. Copies of the Declaration and the form of the By-Laws are filed as exhibits to the Registration Statement of which the Prospectus and this Statement of Additional Information are a part and may be inspected, and copies thereof may be obtained, as described under "Further Information" in the Prospectus. GENERAL The shares of Municipal Preferred will rank on a parity with each other, with shares of any other series of Municipal Preferred and with shares of any other series of Preferred Shares as to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust. DIVIDENDS GENERAL. The holders of shares of Municipal Preferred offered pursuant to the Prospectus will be entitled to receive, when, as and if declared by the Board of Trustees, out of funds legally available therefor in accordance with the Declaration, the By-Laws and applicable law, cumulative cash dividends at the Applicable Rate thereof, determined as set forth below under "Determination of Dividend Rate," and no more (except as otherwise provided below under "Gross-up Payments"), payable on the respective dates determined as set forth below. Holders of shares of Municipal Preferred shall not be entitled to any dividend, whether payable in cash, property or shares, in excess of full cumulative dividends on shares of Municipal Preferred. No interest, or sum of money in lieu of interest, will be payable in respect of any dividend payment or payments on shares of Municipal Preferred which may be in arrears, and, except as otherwise provided herein, no additional sum of money will be payable in respect of any such arrearage. Dividends on shares of Municipal Preferred shall accumulate at the Applicable Rate from the Date of Original Issue and, except as provided below, shall be payable on Monday, , 1999, and thereafter on each Monday; provided, however, that (1) if the Monday on which dividends would B-25 74 otherwise be payable as set forth above is not a Business Day, then dividends shall be payable instead on the first Business Day that falls after such Monday and (2) the Trust in its discretion may establish Dividend Payment Dates in respect of any Special Rate Period of such shares consisting of more than 28 Rate Period Days that differ from those set forth above; provided, however, that such dates shall be set forth in the Notice of Special Rate Period relating to such Special Rate Period, as delivered to the Auction Agent and filed with the Secretary of the Trust; and further provided that (1) any such Dividend Payment Date shall be a Business Day and (2) the last Dividend Payment Date in respect of such Special Rate Period shall be the Business Day immediately following the last day thereof, as such last day is determined as set forth below under "Designation of Special Rate Periods." The amount of dividends per share payable on shares of Municipal Preferred on any date on which dividends shall be payable on such shares shall be computed by multiplying the Applicable Rate in effect for such Dividend Period or Dividend Periods or part thereof for which dividends have not been paid by a fraction, the numerator of which shall be the number of days in such Dividend Period or Dividend Periods or part thereof and the denominator of which shall be 365 if such Dividend Period consists of 7 Rate Period Days and 360 for all other Dividend Periods, and applying the rate obtained against $25,000. Any dividend payment made on shares of Municipal Preferred shall first be credited against the earliest accumulated but unpaid dividends due with respect to such shares. Each dividend on shares of Municipal Preferred will be paid on the Dividend Payment Date therefor to the holders of record as their names appear on the record books of the Trust on the Business Day next preceding such Dividend Payment Date. Dividends in arrears for any past Dividend Period may be declared and paid at any time, without reference to any regular Dividend Payment Date, to the holders of record as their names appear on the record books of the Trust on such date, not exceeding 15 days preceding the payment date thereof, as may be fixed by the Board of Trustees. The Securities Depository, in accordance with its current procedures, is expected to credit on each Dividend Payment Date dividends received from the Trust to the accounts of the respective Agent Members in next-day funds. Each of the initial Broker-Dealers, however, has represented to the Trust that such Broker-Dealer (or if such Broker-Dealer does not act as Agent Member, the Agent Member designated by such Broker-Dealer) will make such dividend payments available in same-day funds on each Dividend Payment Date to Beneficial Owners that use such Broker-Dealer or its designee as Agent Member. A Beneficial Owner of shares of Municipal Preferred that does not use one of the initial Broker- Dealers or a designee thereof as its Agent Member should contact the Agent Member used by such Beneficial Owner to determine whether such Agent Member will make dividend payments available to such Beneficial Owner in next-day or same-day funds. If any Agent Member does not make such dividends available in same-day funds to a Beneficial Owner, such Beneficial Owner who uses such Agent Member would not have same-day funds available to it until the next Business Day, which, in the case of a Dividend Payment Date that is a Monday, would be the following Tuesday if it is a Business Day. DETERMINATION OF DIVIDEND RATE. The dividend rates on shares of Municipal Preferred offered pursuant to the Prospectus during the period from and after the Date of Original Issue thereof to and including the last day of the Initial Rate Period therefor will be equal to the rate per annum set forth with respect to such shares on the cover page of the Prospectus. For each Subsequent Rate Period thereafter, the dividend rate on such shares will be equal to the rate per annum that results from an Auction on the Auction Date next preceding such Subsequent Rate Period; provided, however, if: (i) an Auction for any Subsequent Rate Period is not held for any reason other than as described below, the dividend rate on such shares for such Subsequent Rate Period will be the Maximum Rate on the Auction Date therefor; (ii) any Failure to Deposit shall have occurred with respect to shares of Municipal Preferred during any Rate Period thereof (other than any Special Rate Period of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured), but, prior to 12:00 Noon, Eastern time, on the third Business Day next succeeding the date on which such Failure to Deposit B-26 75 occurred, such Failure to Deposit shall have been cured in accordance with the next succeeding paragraph and the Trust shall have paid to the Auction Agent a late charge ("Late Charge") equal to the sum of (1) if such Failure to Deposit consisted of the failure timely to pay to the Auction Agent the full amount of dividends with respect to any Dividend Period of such shares, an amount computed by multiplying (x) 200% of the Reference Rate for the Rate Period during which such Failure to Deposit occurs on the Dividend Payment Date for such Dividend Period by (y) a fraction, the numerator of which shall be the number of days for which such Failure to Deposit has not been cured in accordance with the next succeeding paragraph (including the day such Failure to Deposit occurs and excluding the day such Failure to Deposit is cured) and the denominator of which shall be 360, and applying the rate obtained against the aggregate Liquidation Preference of the outstanding shares of Municipal Preferred and (2) if such Failure to Deposit consisted of the failure timely to pay to the Auction Agent the Redemption Price of the shares of Municipal Preferred, if any, for which a Notice of Redemption has been mailed by the Trust, an amount computed by multiplying (x) 200% of the Reference Rate for the Rate Period during which such Failure to Deposit occurs on the redemption date by (y) a fraction, the numerator of which shall be the number of days for which such Failure to Deposit is not cured in accordance with the next succeeding paragraph (including the day such Failure to Deposit occurs and excluding the day such Failure to Deposit is cured) and the denominator of which shall be 360, and applying the rate obtained against the aggregate Liquidation Preference of the outstanding shares of Municipal Preferred to be redeemed, no Auction will be held in respect of shares of Municipal Preferred for the Subsequent Rate Period thereof and the dividend rate for such Subsequent Rate Period will be the Maximum Rate on the Auction Date for such Subsequent Rate Period; (iii) any Failure to Deposit shall have occurred with respect to shares of Municipal Preferred during any Rate Period thereof (other than any Special Rate Period of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured), and, prior to 12:00 Noon, Eastern time, on the third Business Day next succeeding the date on which such Failure to Deposit occurred, such Failure to Deposit shall not have been cured in accordance with the next succeeding paragraph or the Trust shall not have paid the applicable Late Charge to the Auction Agent, no Auction will be held in respect of Municipal Preferred for the first Subsequent Rate Period thereof thereafter (or for any Rate Period thereafter to and including the Rate Period during which (1) such Failure to Deposit is cured in accordance with the next succeeding paragraph and (2) the Trust pays the applicable Late Charge to the Auction Agent (the condition set forth in this clause (2) to apply only in the event Moody's is rating such shares at the time the Trust cures such Failure to Deposit), in each case no later than 12:00 Noon, Eastern time, on the fourth Business Day prior to the end of such Rate Period), and the dividend rate for shares of Municipal Preferred for each such Subsequent Rate Period will be a rate per annum equal to the Maximum Rate on the Auction Date for such Subsequent Rate Period (but with the prevailing rating for such shares, for purposes of determining such Maximum Rate, being deemed to be "Below 'ba3'/BB-"); or (iv) any Failure to Deposit shall have occurred with respect to shares of Municipal Preferred during a Special Rate Period thereof of more than 364 Rate Period Days, or during any Rate Period thereof succeeding any Special Rate Period of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured, and, prior to 12:00 Noon, Eastern time, on the fourth Business Day preceding the Auction Date for the Rate Period subsequent to such Rate Period, such Failure to Deposit shall not have been cured in accordance with the next succeeding paragraph or, in the event Moody's is then rating such shares, the Trust shall not have paid the applicable Late Charge to the Auction Agent (such Late Charge, for purposes of this subparagraph (iv), to be calculated by using, as the Reference Rate, the Reference Rate applicable to a Rate Period (x) consisting of more than 182 Rate Period Days but fewer than 365 Rate Period Days and (y) commencing on the date on which the Rate Period during which Failure to Deposit occurs commenced), no Auction will be held in respect of shares of Municipal Preferred for such Subsequent Rate Period (or for any Rate Period thereafter to and including the Rate Period during B-27 76 which (1) such Failure to Deposit is cured in accordance with the next succeeding paragraph and (2) the Trust pays the applicable Late Charge to the Auction Agent (the condition set forth in this clause (2) to apply only in the event Moody's is rating such shares at the time the Trust cures such Failure to Deposit), in each case no later than 12:00 Noon, Eastern time, on the fourth Business Day prior to the end of such Rate Period), and the dividend rate for shares of Municipal Preferred for each such Subsequent Rate Period shall be a rate per annum equal to the Maximum Rate on the Auction Date for such Subsequent Rate Period (but with the prevailing rating for such shares, for purposes of determining such Maximum Rate, being deemed to be "Below 'ba3'/BB-") (the rate per annum at which dividends are payable on shares of Municipal Preferred for any Rate Period being herein referred to as the "Applicable Rate" for such shares). A Failure to Deposit with respect to shares of Municipal Preferred shall have been cured (if such Failure to Deposit is not solely due to the willful failure of the Trust to make the required payments to the Auction Agent) with respect to any Rate Period if, within the respective time periods described immediately above, the Trust shall have paid to the Auction Agent (i) all accumulated and unpaid dividends on the shares of Municipal Preferred and (ii) without duplication, the Redemption Price for the shares of Municipal Preferred, if any, for which a Notice of Redemption has been mailed; provided, however, that the foregoing clause (ii) shall not apply to the Trust's failure to pay the Redemption Price in respect of shares of Municipal Preferred when the related Notice of Redemption provides that redemption of such shares is subject to one or more conditions precedent and any such condition precedent shall not have been satisfied at the time or times and in the manner specified in such Notice of Redemption. The Trust shall pay to the Auction Agent, not later than 12:00 noon, Eastern time, on the Business Day next preceding each Dividend Payment Date for shares of Municipal Preferred, an aggregate amount of funds available on the next Business Day in The City of New York, New York, equal to the dividends to be paid to all Holders of such shares on such Dividend Payment Date. All moneys paid to the Auction Agent for the payment of dividends (or for payment of any Late Charge) shall be held in trust for the payment of such dividends (and any such Late Charge) by the Auction Agent for the benefit of the Holders specified above. Any moneys paid to the Auction Agent in accordance with the foregoing but not applied by the Auction Agent to the payment of dividends (and any such Late Charge) will, to the extent permitted by law, be repaid to the Trust at the end of 90 days from the date on which such moneys were so to have been applied. GROSS-UP PAYMENTS. Holders of shares of Municipal Preferred shall be entitled to receive, when, as and if declared by the Board of Trustees, out of funds legally available therefor in accordance with the Declaration, the By-Laws and applicable law, dividends in an amount equal to the aggregate Gross-up Payment in accordance with the following: If, in the case of any Minimum Rate Period or any Special Rate Period of 28 Rate Period Days or fewer, the Trust allocates any net capital gain or other income taxable for Federal income tax purposes to a dividend paid on shares of Municipal Preferred without having given advance notice thereof to the Auction Agent as described above under "The Auction -- Auction Dates; Advance Notice of Allocation of Taxable Income" (such allocation is referred to herein as a "Taxable Allocation") solely by reason of the fact that such allocation is made retroactively as a result of the redemption of all or a portion of the outstanding shares of Municipal Preferred or the dissolution, liquidation or winding up of the affairs of the Trust, the Trust will, prior to the end of the calendar year in which such dividend was paid, provide notice thereof to the Auction Agent and direct the Trust's dividend disbursing agent to send such notice with a Gross-up Payment to each holder of shares (initially Cede & Co., as nominee of the Securities Depository) that was entitled to such dividend payment during such calendar year at such holder's address as the same appears or last appeared on the record books of the Trust. If, in the case of any Special Rate Period of more than 28 Rate Period Days, the Trust makes a Taxable Allocation to a dividend paid on shares of Municipal Preferred, the Trust shall, prior to the end of the calendar year in which such dividend was paid, provide notice thereof to the Auction Agent and direct B-28 77 the Trust's dividend disbursing agent to send such notice with a Gross-up Payment to each holder of shares that was entitled to such dividend payment during such calendar year at such holder's address as the same appears or last appeared on the record books of the Trust. The Trust shall not be required to make Gross-up Payments with respect to any net capital gain or other taxable income determined by the Internal Revenue Service to be allocable in a manner different from that allocated by the Trust. A "Gross-up Payment" in respect of any dividend means payment to a holder of shares of Municipal Preferred of an amount which, giving effect to the Taxable Allocations made with respect to such dividend, would cause such holder's after-tax returns (taking into account both the Taxable Allocations and the Gross-up Payment) to be equal to the after-tax return the holder would have received if no such Taxable Allocations had occurred. Such Gross-up Payment shall be calculated: (i) without consideration being given to the time value of money; (ii) assuming that no holder of shares of Municipal Preferred is subject to the Federal alternative minimum tax with respect to dividends received from the Trust; and (iii) assuming that each holder of shares of Municipal Preferred is taxable at the maximum marginal regular Federal individual income tax rate applicable to ordinary income or net capital gain, as applicable, or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income or net capital gain, as applicable, whichever is greater, in effect at the time such Gross-up Payment is made. RESTRICTIONS ON DIVIDENDS AND OTHER PAYMENTS. Under the 1940 Act, the Board of Trustees may not declare any dividend (except a dividend payable in Common Shares), or declare any other distribution, upon Common Shares, or purchase Common Shares, unless in every such case the Preferred Shares, including the shares of Municipal Preferred, have, at the time of any such declaration or purchase (and after giving effect thereto), an asset coverage (as defined in and determined pursuant to the 1940 Act) of at least 200% (or such other percentage as may in the future be required by law). In addition, for so long as any shares of Municipal Preferred are outstanding, except as set forth in the following paragraph or otherwise described herein, (A) the Trust may not declare, pay or set apart for payment any dividend or other distribution (other than a dividend or distribution paid in shares of, or in options, warrants or rights to subscribe for or purchase, Common Shares or other shares, if any, ranking junior to the shares of Municipal Preferred as to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust) in respect of Common Shares or any other shares of the Trust ranking junior to or on a parity with the shares of Municipal Preferred as to the payment of dividends or the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust, or call for redemption, redeem, purchase or otherwise acquire for consideration any Common Shares or any other such junior shares (except by conversion into or exchange for shares of the Trust ranking junior to the shares of Municipal Preferred as to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust), or any such parity shares (except by conversion into or exchange for shares of the Trust ranking junior to or on a parity with the shares of Municipal Preferred as to payment of dividends and the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust), unless (1) full cumulative dividends on shares of Municipal Preferred through their most recently ended Dividend Period shall have been paid or shall have been declared and sufficient funds for the payment thereof deposited with the Auction Agent and (2) the Trust has redeemed the full number of shares of Municipal Preferred required to be redeemed by any provision for mandatory redemption pertaining thereto and (B) if either Moody's or Standard & Poor's is rating the shares of Municipal Preferred, the Trust may not declare, pay or set apart for payment any dividend or other distribution (other than a dividend or distribution paid in shares of, or in options, warrants or rights to subscribe for or purchase, Common Shares or other shares, if any, ranking junior to shares of Municipal Preferred as to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust) in respect of Common Shares or any other shares of the Trust ranking junior to shares of Municipal Preferred as to the payment of dividends or the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust, or call for redemption, redeem, purchase or otherwise acquire for consideration any Common Shares or any other such junior shares (except by conversion into or exchange for shares of the Trust ranking junior B-29 78 to the shares of Municipal Preferred as to the payment of dividends or the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust), unless immediately after such transaction the Discounted Value of Moody's Eligible Assets or Standard & Poor's Eligible Assets, or both, as the case may be, would at least equal the Municipal Preferred Basic Maintenance Amount (see "Description of Municipal Preferred -- Rating Agency Guidelines" and "-- Redemption"). Except as set forth in the next sentence, no dividends shall be declared or paid or set apart for payment on any class or series of shares of beneficial interest of the Trust ranking, as to the payment of dividends, on a parity with shares of Municipal Preferred for any period unless full cumulative dividends have been or contemporaneously are declared and paid on the shares of Municipal Preferred through their most recent Dividend Payment Date. When dividends are not paid in full upon the shares of Municipal Preferred through their most recent Dividend Payment Date or upon any other class or series of shares ranking on a parity as to the payment of dividends with shares of Municipal Preferred through their most recent respective dividend payment dates, all dividends declared upon shares of Municipal Preferred and any other such class or series of shares ranking on a parity as to the payment of dividends with shares of Municipal Preferred shall be declared pro rata so that the amount of dividends declared per share on shares of Municipal Preferred and such other class or series of shares shall in all cases bear to each other the same ratio that accumulated dividends per share on the shares of Municipal Preferred and such other class or series of shares bear to each other (for purposes of this sentence, the amount of dividends declared per share of Municipal Preferred shall be based on the Applicable Rate for such share for the Dividend Periods during which dividends were not paid in full). Under the Code, the Trust must, among other things, distribute at least 90% of the sum of its net investment income (including the excess, if any, of net short-term capital gain over net long-term capital loss) and its net tax-exempt income each year in order to maintain its qualification for tax treatment as a regulated investment company. The foregoing limitations on dividends, distributions and purchases may under certain circumstances impair the Trust's ability to maintain such qualification. See "Tax Matters -- Federal Income Tax Matters." DESIGNATION OF SPECIAL RATE PERIODS. The Trust, at its option, may designate any succeeding Subsequent Rate Period of shares of Municipal Preferred as a Special Rate Period consisting of a specified number of Rate Period Days evenly divisible by seven and not more than 1,820 (approximately 5 years), subject to adjustment as described below. A designation of a Special Rate Period shall be effective only if (i) notice thereof shall have been given as provided herein, (ii) an Auction for such shares shall have been held on the Auction Date immediately preceding the first day of such proposed Special Rate Period and Sufficient Clearing Bids for such shares shall have existed in such Auction and (iii) if the Trust shall have mailed a Notice of Redemption with respect to any shares of Municipal Preferred, as described under "Redemption -- Notice of Redemption" below, the Redemption Price with respect to such shares shall have been deposited with the Auction Agent. In the event the Trust wishes to designate any succeeding Subsequent Rate Period for shares of Municipal Preferred as a Special Rate Period consisting of more than 28 Rate Period Days, the Trust shall notify Standard & Poor's (if Standard & Poor's is then rating such shares) and Moody's (if Moody's is then rating such shares) in advance of the commencement of such Subsequent Rate Period that the Trust wishes to designate such Subsequent Rate Period as a Special Rate Period and shall provide Standard & Poor's (if Standard & Poor's is then rating such shares) and Moody's (if Moody's is then rating such shares) with such documents as either may request. In the event the Trust wishes to designate a Subsequent Rate Period of shares of Municipal Preferred as a Special Rate Period, but the day following what would otherwise be the last day of such Special Rate Period is not a Monday that is a Business Day, then the Trust shall designate such Subsequent Rate Period as a Special Rate Period consisting of the period commencing on the first day following the end of the immediately preceding Rate Period and ending on the first Sunday that is followed by a Monday that is a Business Day preceding what would otherwise be such last day. If the Trust proposes to designate any succeeding Subsequent Rate Period of shares of Municipal Preferred as a Special Rate Period, not less than 20 (or such lesser number of days as may be agreed to B-30 79 from time to time by the Auction Agent) nor more than 30 days prior to the date the Trust proposes to designate as the first day of such Special Rate Period (which shall be such day that would otherwise be the first day of a Minimum Rate Period), notice shall be (i) published or caused to be published by the Trust in a newspaper of general circulation to the financial community in The City of New York, New York, which carries financial news, and (ii) mailed by the Trust by first-class mail, postage prepaid, to the holders of shares of Municipal Preferred. Each such notice shall state (A) that the Trust may exercise its option to designate a succeeding Subsequent Rate Period of shares of Municipal Preferred as a Special Rate Period, specifying the first day thereof and (B) that the Trust will, by 11:00 A.M., Eastern time, on the second Business Day next preceding such date (or by such later time or date, or both, as may be agreed to by the Auction Agent), notify the Auction Agent of either (x) its determination, subject to certain conditions, to exercise such option, in which case the Trust shall specify the Special Rate Period designated, or (y) its determination not to exercise such option. No later than 11:00 A.M., Eastern time, on the second Business Day next preceding the first day of any proposed Special Rate Period as to which notice has been given as set forth in the preceding paragraph (or such later time or date, or both, as may be agreed to by the Auction Agent), the Trust shall deliver to the Auction Agent either: (i) a notice ("Notice of Special Rate Period") stating (A) that the Trust has determined to designate the next succeeding Rate Period of shares of Municipal Preferred as a Special Rate Period, specifying the same and the first day thereof, (B) the Auction Date immediately prior to the first day of such Special Rate Period, (C) that such Special Rate Period shall not commence if (1) an Auction for such shares shall not be held on such Auction Date for any reason or (2) an Auction for such shares shall be held on such Auction Date but Sufficient Clearing Bids for such shares shall not exist in such Action, (D) the scheduled Dividend Payment Dates for such shares during such Special Rate Period and (E) the Special Redemption Provisions, if any, applicable to such shares in respect of such Special Rate Period; such notice to be accompanied by a Municipal Preferred Basic Maintenance Report showing that, as of the third Business Day next preceding such proposed Special Rate Period, Moody's Eligible Assets (if Moody's is then rating such shares) and Standard & Poor's Eligible Assets (if Standard & Poor's is then rating such shares) each have an aggregate Discounted Value at least equal to the Municipal Preferred Basic Maintenance Amount as of such Business Day (assuming for purposes of the foregoing calculation that (a) the Maximum Rate is the Maximum Rate on such Business Day as if such Business Day were the Auction Date for the proposed Special Rate Period, and (b) the Moody's Discount Factors applicable to Moody's Eligible Assets will be determined by reference to the first Moody's Exposure Period longer than the Moody's Exposure Period then applicable to the Trust); or (ii) a notice stating that the Trust has determined not to exercise its option to designate a Special Rate Period of shares of Municipal Preferred and that the next succeeding Rate Period shall be a Minimum Rate Period. If the Trust fails to deliver either such notice (and, in the case of the notice described in clause (i) above, a Municipal Preferred Basic Maintenance Report to the effect set forth in clause (i) (if either Moody's or Standard & Poor's is then rating the shares of Municipal Preferred)) with respect to any designation of any proposed Special Rate Period to the Auction Agent by 11:00 A.M., Eastern time, on the second Business Day next preceding the first day of such proposed Special Rate Period (or by such later time or date, or both, as may be agreed to by the Auction Agent), the Trust shall be deemed to have delivered a notice to the Auction Agent with respect to such Special Rate Period to the effect set forth in clause (ii) above. In the event the Trust delivers to the Auction Agent a notice described in clause (i) above, it shall file a copy of such notice with the Secretary of the Trust, and the contents of such notice shall be binding on the Trust. In the event the Trust delivers to the Auction Agent a notice described in clause (ii) above, the Trust will provide Moody's (if Moody's is then rating the shares of Municipal Preferred) and Standard & Poor's (if Standard & Poor's is then rating the shares of Municipal Preferred) a copy of such notice. B-31 80 VOTING RIGHTS Holders of shares of Municipal Preferred are entitled to vote on certain matters as described herein under "Investment Objectives and Policies -- Fundamental Investment Policies" and in the Prospectus under "Description of Municipal Preferred -- Voting Rights" and "Certain Provisions in the Agreement and Declaration of Trust." In connection with the election of the Trust's trustees, holders of outstanding Preferred Shares, including shares of Municipal Preferred, voting together as one separate class, shall be entitled to elect two of the Trust's trustees, and the remaining trustees will be elected by holders of Common Shares and Preferred Shares, including shares of Municipal Preferred, voting together as a single class. In addition, if at any time dividends (whether or not earned or declared) on outstanding Preferred Shares, including shares of Municipal Preferred, shall be due and unpaid in an amount equal to two full years' dividends thereon, and sufficient cash or specified securities shall not have been deposited with the Auction Agent for the payment of such dividends, then, as the sole remedy of holders of outstanding Preferred Shares, including shares of Municipal Preferred, the number of trustees constituting the Board of Trustees shall be automatically increased by the smallest number that, when added to the two trustees elected exclusively by the holders of Preferred Shares, including shares of Municipal Preferred, as described above, would constitute a majority of the Board of Trustees as so increased by such smallest number; and at a special meeting of shareholders which will be called and held as soon as practicable, and at all subsequent meetings at which trustees are to be elected, the holders of Preferred Shares, including shares of Municipal Preferred, voting as a separate class, will be entitled to elect the smallest number of additional trustees that, together with the two trustees which such holders will be in any event entitled to elect, constitutes a majority of the total number of trustees of the Trust as so increased. The terms of office of the persons who are trustees at the time of that election will continue. If the Trust thereafter shall pay, or declare and set apart for payment, in full all dividends payable on all outstanding Preferred Shares, including shares of Municipal Preferred, the voting rights stated in the preceding sentence shall cease, and the terms of office of all of the additional trustees elected by the holders of Preferred Shares, including shares of Municipal Preferred (but not of the trustees with respect to whose election the holders of Common Shares were entitled to vote or the two trustees the holders of Preferred Shares have the right to elect in any event), will terminate automatically. So long as any shares of Municipal Preferred are outstanding, the Trust may not, without the affirmative vote of the holders of at least a majority of the shares of Municipal Preferred outstanding at the time, voting together as one separate class: (a) authorize, create or issue additional shares of Municipal Preferred or classes or series of Preferred Shares ranking prior to or on a parity with shares of Municipal Preferred with respect to the payment of dividends or the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust (except that the Trust may, without the vote of the holders of shares of Municipal Preferred, authorize, create or issue additional shares of Municipal Preferred or classes or series of Preferred Shares ranking on a parity with shares of Municipal Preferred with respect to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust if the Trust obtains written confirmation from Moody's (if Moody's is then rating the shares of Municipal Preferred) and Standard & Poor's (if Standard & Poor's is then rating the shares of Municipal Preferred) that the issuance of any such additional shares or class or series of shares would not impair the rating then assigned by such rating agency to shares of Municipal Preferred; provided, however, that if Moody's or Standard & Poor's is not then rating the shares of Municipal Preferred the aggregate liquidation preference of all Preferred Shares of the Trust outstanding after any such issuance, exclusive of accumulated and unpaid dividends, may not exceed $90,000,000); or (b) amend, alter or repeal the provisions of the Declaration or the By-Laws, whether by merger, consolidation or otherwise, so as to materially affect any preference, right or power of the shares of Municipal Preferred or the holders thereof (provided, however, that a division of a share of Municipal B-32 81 Preferred shall be deemed to affect any such preference, right or power only if the terms of such division adversely affect the holders of any shares of Municipal Preferred); provided, however, that (i) none of the actions permitted by the exception to (a) above will be deemed to affect such preferences, rights or powers and (ii) the authorization, creation and issuance of classes or series of shares ranking junior to the Municipal Preferred with respect to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust will be deemed to affect such preferences, rights or powers only if at least one of Moody's or Standard & Poor's is then rating the shares of Municipal Preferred and such issuance would, at the time thereof, cause the Trust not to satisfy the 1940 Act Municipal Preferred Asset Coverage or the Municipal Preferred Basic Maintenance Amount. So long as any shares of Municipal Preferred are outstanding, the Trust may not, without the affirmative vote of the holders of at least 66 2/3% of the shares of Municipal Preferred outstanding at the time, voting as a separate class, file a voluntary application for relief under Federal bankruptcy law or any similar application under state law for so long as the Trust is solvent and does not foresee becoming insolvent. If any action set forth in this paragraph would adversely affect the rights of one or more series (the "Affected Series") of Municipal Preferred in a manner different from any other series of Municipal Preferred, the Trust will not approve any such action without the affirmative vote of the holders of at least a majority of the shares of each such Affected Series outstanding at the time (each such Affected Series voting as a separate class). Voting provisions will not apply with respect to shares of Municipal Preferred if, at or prior to the time when a vote is required, such shares shall have been (i) redeemed or (ii) called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. The Board of Trustees may, without shareholder approval, amend, alter or repeal any or all of the definitions and related provisions required to be contained in the By-Laws by the rating agencies in the event the Trust receives written confirmation from Moody's or Standard & Poor's, or both, as appropriate, that any such amendment, alteration or repeal would not impair the ratings then assigned by Moody's and Standard & Poor's to shares of Municipal Preferred. RATING AGENCY GUIDELINES The Trust intends that, so long as shares of Municipal Preferred are outstanding, the composition of its portfolio will reflect guidelines established by at least one of Moody's or Standard & Poor's in connection with the Trust's receipt on the Date of Original Issue of the shares of Municipal Preferred of ratings of "aaa" from Moody's or AAA from Standard & Poor's. Moody's and Standard & Poor's, nationally recognized independent rating agencies, issue ratings for various securities reflecting their perceived creditworthiness of such securities. The guidelines described below have been developed by Moody's and Standard & Poor's in connection with other issuances of asset-backed and similar securities, including debt obligations and adjustable rate preferred shares, generally on a case-by-case basis through discussions with the issuers of those securities. The guidelines are designed to ensure that assets underlying outstanding debt or preferred shares will be sufficiently varied and will be of sufficient quality and amount to justify investment grade ratings. The guidelines do not have the force of law, but have been adopted by the Trust in order to satisfy current requirements necessary for Moody's or Standard & Poor's, or both, to issue the above-described ratings for shares of Municipal Preferred, which ratings are generally relied upon by investors in purchasing such securities. In the context of a closed-end investment company such as the Trust, therefore, the guidelines provide a set of tests for portfolio composition and asset coverage that supplement (and in some cases are more restrictive than) the applicable requirements under the 1940 Act. A rating agency's guidelines will apply to shares of Municipal Preferred only so long as such rating agency is rating such shares. The Board of Trustees may, without shareholder approval, amend, alter or repeal any or all of the definitions and related provisions which have been adopted by the Trust pursuant to the rating agency guidelines in the event the Trust receives written confirmation from Moody's or Standard & Poor's, or both, as appropriate, that any such change would not impair the ratings then assigned by Moody's and Standard & Poor's to shares of Municipal Preferred. B-33 82 So long as either Standard & Poor's or Moody's, or both, are rating the shares of Municipal Preferred, the Trust may not, among other things, (1) buy or sell futures or write put or call options and similar securities and buy or sell Inverse Floaters, except to the extent set forth in the By-Laws, which include the restrictions set forth as Appendix D to this Statement of Additional Information, (2) borrow money, except that the Trust may, without obtaining the written confirmation described below, borrow money for the purpose of clearing securities transactions if (a) the Municipal Preferred Basic Maintenance Amount would continue to be satisfied after giving effect to such borrowing (which shall mean, for purposes of the calculation of the Municipal Preferred Basic Maintenance Amount, adding the amount of the liability for such borrowing to the calculation of the Municipal Preferred Basic Maintenance Amount) and (b) such borrowing (i) is privately arranged with a bank or other person and is evidenced by a promissory note or other evidence of indebtedness that is not intended to be publicly distributed or (ii) is for "temporary purposes," is evidenced by a promissory note or other evidence of indebtedness and is an amount not exceeding 5 per centum of the value of the total assets of the Trust at the time of the borrowing (for purposes of the foregoing, "temporary purpose" means that the borrowing is to be repaid within sixty days and is not to be extended or renewed), (3) issue additional shares of Municipal Preferred or any class or series of shares ranking prior to or on a parity with the shares of Municipal Preferred with respect to the payment of dividends or the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust, or reissue any shares of Municipal Preferred previously purchased or redeemed by the Trust, (4) engage in any short sales of securities, (5) lend any securities, (6) merge or consolidate into or with any corporation, (7) change the pricing service (currently the Trust uses both Muller Data Corporation and Standard & Poor's J.J. Kenny Evaluation Services) referred to in the definition of Market Value to a pricing service other than Muller Data Corporation or Standard & Poor's J.J. Kenny Evaluation Services, or (8) enter into reverse repurchase agreements, unless in each case (except as described above) it has received written confirmation from Standard & Poor's or Moody's, or both, as appropriate, that any such action would not impair the rating then assigned by such rating agency to shares of Municipal Preferred. While the Trust does not presently intend to borrow, and while the Trust is restricted under the 1940 Act from borrowing in excess of 33 1/3% of its total assets and is otherwise restricted from borrowing pursuant to rating agency guidelines, under certain circumstances and notwithstanding adverse interest rate or market conditions, the Trust is permitted to borrow for temporary or emergency purposes (e.g., to make required distributions or pay dividends) or to repurchase shares when such borrowing is deemed to be in the best interest of the common shareholders. See "Repurchase of Common Shares" herein and "Repurchase of Common Shares; Conversion to Open-End Fund" in the Prospectus for the circumstances under which the Trust may purchase Common Shares and incur indebtedness in connection therewith. Should the Trust borrow, the Trust would be required to pay when due the interest obligation on any debt incurred by the Trust before it would be able to pay dividends on shares of Municipal Preferred, and it is likely that the Trust would be required to pay the principal amount of any such debt prior to meeting the liquidation preference of the shares of Municipal Preferred. Because the interest expense on borrowings by the Trust will reduce the Trust's net investment earnings available to pay dividends on shares of Municipal Preferred, borrowing may impair the Trust's ability to pay such dividends on shares of Municipal Preferred. This risk is heightened in the event the Trust incurs variable rate debt, the interest rate on which may increase with increases in prevailing market rates. ASSET MAINTENANCE 1940 ACT MUNICIPAL PREFERRED ASSET COVERAGE. The Trust will be required under rating agency guidelines to maintain, as of the last Business Day of each month on which any shares of Municipal Preferred are outstanding, asset coverage of at least 200% with respect to such shares (or such other asset coverage as may in the future be specified in or under the 1940 Act as the minimum asset coverage for senior securities which are shares of a closed-end investment company as a condition of declaring dividends on its common shares). If the Trust fails to maintain such asset coverage in accordance with the requirements of the rating agency or agencies then rating the shares of Municipal Preferred ("1940 Act Municipal Preferred Asset Coverage") and such failure is not cured as of the last Business Day of the following month (the "1940 Act Cure Date"), the Trust will be required under certain circumstances to redeem certain of the shares of Municipal Preferred. See "Redemption" below. B-34 83 MUNICIPAL PREFERRED BASIC MAINTENANCE AMOUNT. The Trust will be required under rating agency guidelines to maintain, as of each Business Day (a "Valuation Date") on which shares of Municipal Preferred are outstanding, assets having in the aggregate a Discounted Value at least equal to the Municipal Preferred Basic Maintenance Amount established by the rating agency or agencies then rating the shares of Municipal Preferred. If the Trust fails to meet such requirement on any Valuation Date and such failure is not cured on or before the second Business Day after such Valuation Date (the "Municipal Preferred Basic Maintenance Cure Date"), the Trust will be required under certain circumstances to redeem certain of the shares of Municipal Preferred. See "Redemption" below. The "Municipal Preferred Basic Maintenance Amount" as of any Valuation Date is defined as the dollar amount equal to the sum of: (A) (i) the product of the number of shares of Municipal Preferred outstanding on such date multiplied by $25,000 (plus the product of the number of shares of any other series of Preferred Shares outstanding on such date multiplied by the liquidation preference of such shares), plus any redemption premium applicable to shares of Municipal Preferred (or other Preferred Shares) then subject to redemption; (ii) the aggregate amount of dividends that will have accumulated at the Applicable Rate (whether or not earned or declared) to (but not including) the first Dividend Payment Date for each share of Municipal Preferred outstanding that follows such Valuation Date (plus the aggregate amount of dividends, whether or not earned or declared, that will have accumulated in respect of other outstanding Preferred Shares to, but not including, the first respective dividend payment dates for such other shares that follow such Valuation Date); (iii) subject to certain exceptions, the aggregate amount of dividends that would accumulate on shares of Municipal Preferred outstanding from such first Dividend Payment Date through the 49th day after such Valuation Date, at the Maximum Rate (calculated as if such Valuation Date were the Auction Date for the Rate Period commencing on such Dividend Payment Date) for a Minimum Rate Period thereof to commence on such Dividend Payment Date, assuming, solely for purposes of the foregoing, that if on such Valuation Date the Trust shall have delivered a Notice of Special Rate Period to the Auction Agent with respect to such shares, such Maximum Rate shall be the higher of (a) the Maximum Rate for the Special Rate Period of such shares to commence on such Dividend Payment Date and (b) the Maximum Rate for a Minimum Rate Period of such shares to commence on such Dividend Payment Date, multiplied by the Volatility Factor applicable to a Minimum Rate Period, or, in the event the Trust shall have delivered a Notice of Special Rate Period to the Auction Agent with respect to such shares designating a Special Rate Period consisting of 49 Rate Period Days or more, the Volatility Factor applicable to a Special Rate Period of that length; (iv) the amount of anticipated Trust expenses for the 90 days subsequent to such Valuation Date; (v) the amount of the Trust's Maximum Potential Gross-up Payment Liability as of such Valuation Date; and (vi) any current liabilities as of such Valuation Date to the extent not reflected in any of (A)(i) through (A)(v) (including, without limitation, any payables for Municipal Obligations purchased as of such Valuation Date and any liabilities incurred for the purpose of clearing securities transactions) less (B) the value of any Trust assets irrevocably deposited by the Trust for the payment of any of (A)(i) through (A)(vi), all as calculated in accordance with the requirements of the rating agency or agencies then rating the shares of Municipal Preferred. For purposes of the foregoing, "Maximum Potential Gross-up Payment Liability," as of any Valuation Date, means the aggregate amount of Gross-up Payments that would be due if the Trust were to make B-35 84 Taxable Allocations, with respect to any taxable year, estimated based upon dividends paid and the amount of undistributed realized net capital gain and other taxable income earned by the Trust, as of the end of the calendar month immediately preceding such Valuation Date, and assuming such Gross-up Payments are fully taxable. In managing the Trust's portfolio, the Advisor will not alter the composition of the Trust's portfolio if, in the reasonable belief of the Advisor, the effect of any such alteration would be to cause the Trust to have Eligible Assets with an aggregate Discounted Value, as of the immediately preceding Valuation Date, less than the Municipal Preferred Basic Maintenance Amount as of such Valuation Date; provided, however, that in the event that, as of the immediately preceding Valuation Date, the aggregate Discounted Value of the Trust's Eligible Assets exceeded the Municipal Preferred Basic Maintenance Amount by 5% or less, the Advisor will not alter the composition of the Trust's portfolio in a manner reasonably expected to reduce the aggregate Discounted Value of the Trust's Eligible Assets unless the Trust shall have confirmed that, after giving effect to such alteration, the aggregate Discounted Value of the Trust's Eligible Assets would exceed the Municipal Preferred Basic Maintenance Amount. Upon any failure to maintain the required Discounted Value, the Trust will seek to alter the composition of its portfolio to reattain the Municipal Preferred Basic Maintenance Amount on or prior to the Municipal Preferred Basic Maintenance Cure Date, thereby incurring additional transaction costs and possible losses and/or gains on dispositions of portfolio securities. On or before the third Business Day after a Valuation Date on which the Trust fails to meet the Municipal Preferred Basic Maintenance Amount, and on the third Business Day after the Municipal Preferred Basic Maintenance Cure Date with respect to such Valuation Date, the Trust is required to deliver to the Auction Agent (so long as either Moody's or Standard & Poor's is rating the shares of Municipal Preferred) a report with respect to the calculation of the Municipal Preferred Basic Maintenance Amount and the value of its portfolio holdings as of the date of such failure or such cure date, as the case may be (a "Municipal Preferred Basic Maintenance Report"). The Trust will also deliver, as required, a Municipal Preferred Basic Maintenance Report as of (i) the fifteenth day of each month (or, if such day is not a Business Day, the next succeeding Business Day) and (ii) the last Business Day of each month, in each case on or before the third Business Day after such day. Within ten Business Days after delivery of such report relating to the last Business Day of each of February, May, August and November of each year, commencing August, 1999, the Trust will deliver a letter prepared by the Trust's independent accountants regarding the accuracy of the calculations made by the Trust in its most recent Municipal Preferred Basic Maintenance Report. If any such letter prepared by the Trust's independent accountants shows that an error was made in the most recent Municipal Preferred Basic Maintenance Report, the calculation or determination made by the Trust's independent accountants will be conclusive and binding on the Trust. The Discount Factors and guidelines for determining the market value of the Trust's portfolio holdings, described below, have been based by the rating agencies on criteria such as the sensitivity of the market value of the relevant asset to changes in interest rates, the liquidity and depth of the market for the relevant asset, the credit quality of the relevant asset (for example, the lower the rating of a debt obligation, the higher the related discount factor) and the frequency with which the relevant asset is marked to market. The ratings may be changed, suspended or withdrawn as a result of changes in, or the unavailability of, such information. STANDARD & POOR'S AAA RATING GUIDELINES. For purposes of calculating the Discounted Value of the Trust's portfolio under current Standard & Poor's guidelines, the fair market value of Municipal Obligations eligible for consideration under such guidelines ("Standard & Poor's Eligible Assets") must be discounted by certain discount factors set forth in the table below ("Standard & Poor's Discount Factors"). The Discounted Value of a Municipal Obligation under Standard & Poor's guidelines is the fair market value thereof divided by the Standard & Poor's Discount Factor. The Standard & Poor's Discount Factor used to discount a particular Municipal Obligation will be determined by reference to the "Standard & Poor's Exposure Period" (currently, three Business Days) and the Standard & Poor's rating B-36 85 on such Municipal Obligation. Standard & Poor's Discount Factors for a range of exposure periods are set forth below:
STANDARD & POOR'S DISCOUNT FACTORS RATING CATEGORY --------------------------------------- EXPOSURE PERIOD AAA* AA* A* BBB* UNRATED** - --------------- ---- --- --- ---- --------- 45 Business Days............................ 190% 195% 210% 250% 220% 25 Business Days............................ 170 175 190 230 220 10 Business Days............................ 155 160 175 215 220 7 Business Days............................. 150 155 170 210 220 3 Business Days............................. 130 135 150 190 220
- --------------- * Standard & Poor's rating. ** Standard & Poor's Eligible Assets not rated or rated less than BBB by Standard & Poor's and not rated at least the equivalent of an "A" rating by another nationally recognized credit rating agency. Since the Standard & Poor's Exposure Period currently applicable to the Trust is three Business Days, the Standard & Poor's Discount Factors currently applicable to Standard & Poor's Eligible Assets will be determined by reference to the factors set forth opposite the line entitled "3 Business Days." Notwithstanding the foregoing, (i) the Standard & Poor's Discount Factor for short-term Municipal Obligations will be 115%, so long as such Municipal Obligations are rated A-1+ or SP-1+ by Standard & Poor's and mature or have a demand feature exercisable within 30 days or less, 120% if such Municipal Obligations are rated A-1 or SP-1- by Standard & Poor's and mature or have a demand feature exercisable within 30 days or less, or 125% if such Municipal Obligations are not rated by Standard & Poor's but are rated VMIG-1, P-1 or MIG-1 by Moody's; provided, however, that any such Moody's-rated short-term Municipal Obligations which have demand features exercisable within 30 days or less must be backed by a letter of credit, liquidity facility or guarantee from a bank or other financial institution with a short-term rating of at least A-1+ from Standard & Poor's; and further provided that such Moody's-rated short-term Municipal Obligations may comprise no more than 50% of short-term Municipal Obligations that qualify as Standard & Poor's Eligible Assets; (ii) no Standard & Poor's Discount Factor will be applied to cash, futures, options, Inverse Floaters and similar instruments or to Receivables for Municipal Obligations Sold; and (iii) except as set forth in clause (i) above, in the case of any Municipal Obligation that is not rated by Standard & Poor's but qualifies as a Standard & Poor's Eligible Asset pursuant to clause (1)(c) of the following paragraph, such Municipal Obligation will be deemed to have a Standard & Poor's rating one full rating category lower than the Standard & Poor's rating category that is the equivalent of the rating category in which such Municipal Obligation is placed by another nationally recognized credit rating agency. For purposes of the foregoing, Anticipation Notes rated SP-1+ or, if not rated by Standard & Poor's, rated MIG-1 or VMIG-1 by Moody's, which do not mature or have a demand feature at par exercisable in 30 days and which do not have a long-term rating, will be considered to be short-term Municipal Obligations. "Receivables for Municipal Obligations Sold," for purposes of calculating Standard & Poor's Eligible Assets as of any Valuation Date, means the book value of receivables for Municipal Obligations sold as of or prior to such Valuation Date if such receivables are due within five business days of such Valuation Date. The Standard & Poor's guidelines impose certain minimum issue size, issuer, geographical diversification and other requirements for purposes of determining Standard & Poor's Eligible Assets. Solely for purposes of this definition, the term "Municipal Obligation" means any obligation the interest on which is exempt from regular Federal income taxation and which is issued by any of the fifty United States, the District of Columbia or any of the territories of the United States, their subdivisions, counties, cities, towns, villages, school districts and agencies (including authorities and special districts created by B-37 86 the states), and federally sponsored agencies such as local housing authorities. Notwithstanding the foregoing limitations: (1) In order to be considered Standard & Poor's Eligible Assets, Municipal Obligations owned by the Trust must: (a) be interest bearing and pay interest at least semi-annually; (b) be payable in U.S. dollars; (c) be publicly rated BBB or higher by Standard & Poor's or, except in the case of Anticipation Notes that are Grant Anticipation Notes or Bond Anticipation Notes which must be rated by Standard & Poor's to be included in Standard & Poor's Eligible Assets, if not rated by Standard & Poor's but rated by another nationally recognized credit rating agency, be publicly rated A or higher by such agency; (d) not be private placements (except in the case of Inverse Floaters); (e) be part of an issue with an original issue size of at least $20 million or, if of an issue with an original issue size below $20 million (but in no event lower than $10 million), be issued by an issuer with a total of at least $50 million of securities outstanding; and (f) is not subject to a covered call or covered put option written by the Trust. (2) Municipal Obligations (excluding Escrowed Bonds) of any one issuer or guarantor (excluding bond insurers) will be considered Standard & Poor's Eligible Assets only to the extent the Market Value of such Municipal Obligations does not exceed 10% of the aggregate Market Value of Standard & Poor's Eligible Assets, provided that 2% is added to the applicable Standard & Poor's Discount Factor for every 1% by which the Market Value of such Municipal Obligations exceeds 5% of the aggregate Market Value of Standard & Poor's Eligible Assets, and provided that Municipal Obligations (excluding Escrowed Bonds) not rated or rated less than BBB by Standard & Poor's and not rated at least A by another nationally recognized credit rating agency of any one issuer or guarantor (excluding bond insurers) shall constitute Standard & Poor's Eligible Assets only to the extent the Market Value of such Municipal Obligations does not exceed 5% of the aggregate Market Value of Standard & Poor's Eligible Assets. (3) Municipal Obligations not rated at least BBB or not rated by Standard & Poor's or not rated at least A by another nationally recognized credit rating agency will be considered Standard & Poor's Eligible Assets only to the extent the Market Value of such Municipal Obligations does not exceed 50% of the aggregate Market Value of Standard & Poor's Eligible Assets; provided, however, that if the Market Value of such Municipal Obligations exceeds 50% of the aggregate Market Value of Standard & Poor's Eligible Assets, a portion of such Municipal Obligations (selected by the Trust) shall not be considered Standard & Poor's Eligible Assets, so that the Market Value of such Municipal Obligations (excluding such portion) does not exceed 50% of the aggregate Market Value of Standard & Poor's Eligible Assets. (4) Long-term Municipal Obligations (excluding Escrowed Bonds) issued by issuers in any one state or territory will be considered Standard & Poor's Eligible Assets only to the extent the Market Value of such Municipal Obligations does not exceed 25% of the aggregate Market Value of Standard & Poor's Eligible Assets. (5) Municipal Obligations which are not interest bearing or do not pay interest at least semi-annually shall be considered Standard & Poor's Eligible Assets if rated AAA by Standard & Poor's. MOODY'S "AAA" RATING GUIDELINES. For purposes of calculating the Discounted Value of the Trust's portfolio under current Moody's guidelines, Municipal Obligations eligible for consideration under such guidelines ("Moody's Eligible Assets") must be discounted by certain discount factors set forth in the table below ("Moody's Discount Factors"). The Discounted Value of a Municipal Obligation under Moody's guidelines is, as of any Valuation Date, (i) with respect to a Moody's Eligible Asset that is not currently callable as of such Valuation Date at the option of the issuer thereof, the quotient of the market B-38 87 value thereof divided by the applicable Moody's Discount Factor, or (ii) with respect to a Moody's Eligible Asset that is currently callable as of such Valuation Date at the option of the issuer thereof, the quotient of (a) the lesser of the market value or call price thereof, including any call premium, divided by (b) the applicable Moody's Discount Factor. The Moody's Discount Factor used to discount a particular Municipal Obligation will be determined by reference to the "Moody's Exposure Period" (currently, the period commencing on a given Valuation Date and ending 49 days thereafter) and the Moody's rating on such Municipal Obligation. Moody's Discount Factors for a range of exposure periods are set forth below:
MOODY'S DISCOUNT FACTORS RATING CATEGORY ----------------------------------------------------- EXPOSURE PERIOD AAA* AA* A* BAA* OTHER** (V)MIG-1*** SP-1+**** UNRATED***** --------------- ---- --- --- ---- ------- ----------- ---------- ------------ 7 weeks........................ 151% 159% 166% 173% 187% 136% 148% 225% 8 weeks or less but greater than 7 weeks................. 154 161 168 176 190 137 149 231 9 weeks or less but greater than 8 weeks................. 156 163 170 177 192 138 150 240
- --------------- * Moody's rating. ** Municipal Obligations not rated by Moody's but rated BBB by Standard & Poor's. *** Municipal Obligations rated MIG-1 or VMIG-1, which do not mature or have a demand feature at par exercisable in 30 days and which do not have a long-term rating. **** Municipal Obligations not rated by Moody's but rated SP-1+ by Standard & Poor's, which do not mature or have a demand feature at par exercisable in 30 days and which do not have a long-term rating. ***** Municipal Obligations not rated or rated lower than Baa3 by Moody's and not rated or rated lower than BBB by Standard & Poor's. Since the Moody's Exposure Period currently applicable to the Trust is 49 days, the Moody's Discount Factors currently applicable to Moody's Eligible Assets will be determined by reference to the factors set forth opposite the line entitled "7 weeks." Notwithstanding the foregoing, (i) the Moody's Discount Factor for short-term Municipal Obligations will be 115%, so long as such Municipal Obligations are rated at least MIG-1, VMIG-1 or P-1 by Moody's and mature or have a demand feature at par exercisable in 30 days or less or 125% so long as such Municipal Obligations are rated at least A-1+/AA or SP-1+/AA by Standard & Poor's and mature or have a demand feature at par exercisable in 30 days or less and (ii) no Moody's Discount Factor will be applied to cash or to Receivables for Municipal Obligations Sold. "Receivables for Municipal Obligations Sold," for purposes of calculating Moody's Eligible Assets as of any Valuation Date, means no more than the aggregate of the following: (i) the book value of receivables for Municipal Obligations sold as of or prior to such Valuation Date if such receivables are due within five business days of such Valuation Date, and if the trades which generated such receivables are (x) settled through clearing house firms with respect to which the Trust has received prior written authorization from Moody's or (y) with counterparties having a Moody's long-term debt rating of at least Baa3; and (ii) the Moody's Discounted Value of Municipal Obligations sold as of or prior to such Valuation Date which generated receivables, if such receivables are due within five business days of such Valuation Date but do not comply with either of conditions (x) or (y). The Moody's guidelines impose certain minimum issue size, issuer, geographical diversification and other requirements for purposes of determining Moody's Eligible Assets, as set forth in the table below:
MINIMUM MAXIMUM MAXIMUM ISSUE SIZE UNDERLYING STATE OR TERRITORY RATING ($ MILLIONS) OBLIGOR (%) CONCENTRATION(%) ------ ------------ ----------- ------------------ Aaa........................................ 10 100 100 Aa......................................... 10 20 60 A.......................................... 10 10 40 Baa........................................ 10 6 20 Other*..................................... 10 4 12 Unrated**.................................. 10 4 12
B-39 88 - --------------- * Municipal Obligations not rated by Moody's but rated BBB by Standard & Poor's. ** Municipal Obligations not rated or rated lower than Baa3 by Moody's and not rated or rated lower than BBB by Standard & Poor's. For purposes of the foregoing table, the percentages provided, for a given rating, in the columns entitled "Maximum Underlying Obligor" and "Maximum State or Territory Concentration" shall apply to the aggregate total of the Municipal Obligations in the rating category indicated and all rated Municipal Obligations in lower rating categories, as well as unrated Municipal Obligations that are Moody's Eligible Assets. The percentages set forth in the preceding table are based upon Moody's Eligible Assets calculated excluding cash. Current Moody's guidelines also require that Municipal Obligations constituting Moody's Eligible Assets (i) pay interest in cash, (ii) if applicable, not have suspended ratings, and (iii) not be subject to a covered call or a covered put option written by the Trust. For purposes of determining the Moody's Discount Factors applicable to such Standard & Poor's-rated Municipal Obligations, any such Municipal Obligation (excluding short-term Municipal Obligations) will be deemed to have a Moody's rating which is one full rating category lower than its Standard & Poor's rating. For purposes of applying the foregoing requirements, Municipal Obligations rated MIG-1, VMIG-1, or P-1, or, if not rated by Moody's, rated A-1+/AA or SP-1+/AA by Standard & Poor's, will be considered to have a long-term rating of A. In general, Municipal Obligations which are rated less than Baa3 by Moody's or less than BBB by Standard & Poor's or not rated by Moody's or Standard & Poor's may comprise no more than 40% of the aggregate Market Value of Moody's Eligible Assets. The Trust will enter into futures and options transactions only for bona fide hedging purposes and not for leveraging or speculative purposes. So long as either Standard & Poor's or Moody's is rating the Municipal Preferred, the Trust will only engage in futures or options transactions in accordance with guidelines of such ratings agencies and, to the extent transactions would not be permitted by such guidelines, only after it has received written confirmation from Standard & Poor's or Moody's, as appropriate, that such transactions would not impair the ratings then assigned by such rating agency to shares of Municipal Preferred. The guidelines in effect with respect to futures and options transactions in which the Trust may engage are set forth in the By-Laws and are included as Appendix D to this Statement of Additional Information. REDEMPTION OPTIONAL REDEMPTION. Except as described below, (i) shares of Municipal Preferred are redeemable, at the option of the Trust, as a whole or from time to time in part, on the second Business Day preceding any Dividend Payment Date therefor, out of funds legally available therefor in accordance with the Declaration, the By-Laws and applicable law, at a redemption price per share equal to the sum of $25,000 plus an amount equal to accumulated but unpaid dividends thereon (whether or not earned or declared) to (but not including) the date fixed for redemption; provided, however, that (1) shares of Municipal Preferred may not be redeemed in part if after such partial redemption fewer than 500 shares remain outstanding; (2) unless otherwise provided in the By-laws, shares of Municipal Preferred are redeemable by the Trust during the Initial Rate Period thereof only on the second Business Day next preceding the last Dividend Payment Date for such Initial Rate Period; and (3) subject to the next succeeding sentence, the Notice of Special Rate Period relating to a Special Rate Period of shares of Municipal Preferred, as delivered to the Auction Agent and filed with the Secretary of the Trust, may provide that such shares shall not be redeemable during the whole or any part of such Special Rate Period (except as provided in (ii) below) or shall be redeemable during the whole or any part of such Special Rate Period only upon payment of such redemption premium or premiums as shall be specified therein ("Special Redemption Provisions"); and (ii) shares of Municipal Preferred are redeemable, at the option of the Trust, as a whole but not in part, out of funds legally available therefor in accordance with the Declaration, the By-Laws and applicable law, on the first day following any Dividend Period thereof included in a Rate Period of B-40 89 more than 364 Rate Period Days if, on the date of determination of the Applicable Rate for such shares for such Rate Period, such Applicable Rate equaled or exceeded on such date of determination the Treasury Note Rate for such Rate Period, at a redemption price of $25,000 per share plus an amount equal to accumulated but unpaid dividends thereon (whether or not earned or declared) to (but not including) the date fixed for redemption. A Notice of Special Rate Period relating to shares of Municipal Preferred for a Special Rate Period may contain Special Redemption Provisions only if the Board of Trustees, after consultation with the Broker-Dealer or Broker-Dealers for such Special Rate Period of such shares, determines that such Special Redemption Provisions are in the best interest of the Trust. If fewer than all of the outstanding shares of Municipal Preferred are to be redeemed as set forth above, the number of shares to be redeemed shall be determined by the Board of Trustees, and such shares shall be redeemed pro rata from the holders of record of shares of such series (initially Cede & Co. as nominee of the Securities Depository) in proportion to the number of such shares held by such holders. Since the nominee of the Securities Depository is the only record holder of shares of Municipal Preferred, the Securities Depository will determine the number of shares to be redeemed from the accounts of the Agent Members. The Agent Members, in turn, may determine to redeem shares from some persons listed on their records as beneficial owners (which may include an Agent Member holding shares for its own account) without redeeming shares from the accounts of other persons listed on their records as beneficial owners. The Trust may not mail a Notice of Redemption relating to an optional redemption as described above on any date unless on such date (a) the Trust has available certain Deposit Securities with maturity or tender dates not later than the day preceding the applicable redemption date and having a value not less than the amount (including any applicable premium) due to holders of shares of Municipal Preferred by reason of the redemption of such shares on such redemption date and (b) the Discounted Value of Moody's Eligible Assets (if Moody's is then rating the shares of Municipal Preferred) and the Discounted Value of Standard & Poor's Eligible Assets (if Standard & Poor's is then rating the shares of Municipal Preferred) each at least equal the Municipal Preferred Basic Maintenance Amount and would at least equal the Municipal Preferred Basic Maintenance Amount immediately subsequent to such redemption if such redemption were to occur on such date. For purposes of determining in clause (b) of the preceding sentence whether the Discounted Value of Moody's Eligible Assets at least equals the Municipal Preferred Basic Maintenance Amount, the Moody's Discount Factors applicable to Moody's Eligible Assets will be determined by reference to the first Moody's Exposure Period longer than the Moody's Exposure Period then applicable to the Trust. MANDATORY REDEMPTION. The Trust will be required to redeem, at a redemption price equal to $25,000 per share plus accumulated but unpaid dividends thereon (whether or not earned or declared) to (but not including) the date fixed by the Board of Trustees for redemption (such amount, together with the redemption prices described above under "Optional Redemption," being herein referred to as the "Redemption Price"), certain of the shares of Municipal Preferred to the extent permitted under the 1940 Act, the Declaration, the By-Laws and any applicable law, if the Trust fails to maintain the Municipal Preferred Basic Maintenance Amount or the 1940 Act Municipal Preferred Asset Coverage in accordance with the requirements of the rating agency or rating agencies then rating the shares of Municipal Preferred and such failure is not cured on or before the Municipal Preferred Basic Maintenance Cure Date or the 1940 Act Cure Date (herein respectively referred to as a "Cure Date"), as the case may be. The number of shares of Municipal Preferred to be redeemed will be equal to the lesser of (a) the minimum number of shares of Municipal Preferred, together with all other Preferred Shares subject to redemption or retirement, the redemption of which, if deemed to have occurred immediately prior to the opening of business on the Cure Date, would have resulted in the satisfaction of the Municipal Preferred Basic Maintenance Amount or the 1940 Act Municipal Preferred Asset Coverage, as the case may be, on such Cure Date (provided, however, that, if there is no such minimum number of shares of Municipal Preferred and other Preferred Shares the redemption or retirement of which would have had such result, all shares of Municipal Preferred and Preferred Shares then outstanding will be redeemed), and (b) the maximum B-41 90 number of shares of Municipal Preferred, together with all other Preferred Shares subject to redemption or retirement, that can be redeemed out of funds expected to be legally available therefor. In determining the shares of Municipal Preferred required to be redeemed in accordance with the foregoing, the Trust will allocate the number of shares required to be redeemed to satisfy the Municipal Preferred Basic Maintenance Amount or the 1940 Act Municipal Preferred Asset Coverage, as the case may be, pro rata among shares of Municipal Preferred and any other Preferred Shares subject to redemption or retirement. The Trust is required to effect such a mandatory redemption not earlier than 20 days and not later than 40 days after such Cure Date, except that if the Trust does not have funds legally available under the Declaration, the By-Laws and applicable law for the redemption of all of the required number of shares of Municipal Preferred and other Preferred Shares which are subject to mandatory redemption or retirement or the Trust otherwise is unable to effect such redemption on or prior to 40 days after such Cure Date, the Trust will redeem those shares of Municipal Preferred and other Preferred Shares which it was unable to redeem on the earliest practicable date on which it is able to effect such redemption. If fewer than all of the outstanding shares of Municipal Preferred are to be redeemed pursuant to a mandatory redemption, the number of shares to be redeemed shall be redeemed pro rata from the holders of such shares in proportion to the number of such shares held by such holders, in the same manner as described above in respect of optional redemptions of fewer than all outstanding shares of Municipal Preferred. NOTICE OF REDEMPTION. Notice of redemption shall be given by mailing the same to each holder of the shares to be redeemed (initially Cede & Co. as nominee of the Securities Depository), not less than 20 nor more than 45 days prior to the date fixed for redemption thereof, to the respective addresses of such holders as the same shall appear on the record books of the Trust ("Notice of Redemption"). Each such notice shall state (i) the redemption date; (ii) the number of shares of Municipal Preferred to be redeemed; (iii) the CUSIP number for such shares; (iv) the Redemption Price; (v) the place or places where certificate(s) for such shares (properly endorsed or assigned for transfer, if the Board of Trustees shall so require and the notice shall so state) are to be surrendered for payment of the Redemption Price; (vi) that dividends on the shares to be redeemed will cease to accumulate on such redemption date; and (vii) the provisions of the By-Laws under which such redemption is made. If fewer than all shares of Municipal Preferred held by any holder are to be redeemed, the notice mailed to such holder shall also specify the number of shares to be redeemed from such holder. The Trust may provide in any Notice of Redemption relating to an optional redemption that such redemption is subject to one or more conditions precedent and that the Trust shall not be required to effect such redemption unless each such condition shall have been satisfied at the time or times and in the manner specified in such Notice of Redemption. OTHER REDEMPTION PROCEDURES. To the extent that any redemption for which a Notice of Redemption has been mailed is not made by reason of the absence of legally available funds therefor, such redemption will be made as soon as practicable to the extent such funds become available. Failure to redeem shares of Municipal Preferred will be deemed to exist at any time after the date specified for redemption in a Notice of Redemption when the Trust shall have failed, for any reason whatsoever, to deposit with the Auction Agent the Redemption Price with respect to any shares for which such Notice of Redemption has been mailed. Notwithstanding the fact that the Trust may not have redeemed shares of Municipal Preferred for which a Notice of Redemption has been mailed, dividends may be declared and paid on shares of Municipal Preferred and will include those shares of Municipal Preferred for which a Notice of Redemption has been mailed. The first two sentences of this paragraph shall not apply in the event the Trust provides in any Notice of Redemption relating to an optional redemption that such redemption is subject to one or more conditions precedent and any such condition precedent shall not have been satisfied at the time or times and in the manner specified in such Notice of Redemption. Provided a Notice of Redemption has been mailed as described above, upon the deposit with the Auction Agent (on the Business Day next preceding the date fixed for redemption thereby, in funds available on the next Business Day in The City of New York, New York) of funds sufficient to redeem the shares of Municipal Preferred that are the subject of such notice, dividends on such shares will cease to accumulate and such shares will no longer be deemed outstanding for any purpose, and all rights of the holders of the shares so called for redemption will cease and terminate, except the right of the holders B-42 91 thereof to receive the Redemption Price, but without any interest or other additional amount, except as otherwise provided above under "Dividends -- Determination of Dividend Rate" and "-- Gross-up Payments." Upon surrender in accordance with the Notice of Redemption of the certificates for any shares so redeemed (properly endorsed or assigned for transfer, if the Board of Trustees shall so require and the notice shall so state), the Redemption Price shall be paid by the Auction Agent to the holders of shares of Municipal Preferred subject to redemption. In the case that fewer than all of the shares represented by any such certificate are redeemed, a new certificate shall be issued, representing the unredeemed shares, without cost to the holder thereof. The Trust will be entitled to receive from the Auction Agent, promptly after the date fixed for redemption, any cash deposited with the Auction Agent in excess of (i) the aggregate Redemption Price of the shares of Municipal Preferred called for redemption on such date and (ii) all other amounts to which holders of shares of Municipal Preferred called for redemption may be entitled. Any funds so deposited that are unclaimed at the end of 90 days from such redemption date will, to the extent permitted by law, be repaid to the Trust, after which time the holders of shares of Municipal Preferred so called for redemption may look only to the Trust for payment of the Redemption Price and all other amounts to which they may be entitled. The Trust will be entitled to receive, from time to time after the date fixed for redemption, any interest on the funds so deposited. Notwithstanding the foregoing, if any dividends on shares of Municipal Preferred (whether or not earned or declared) are in arrears, no shares of Municipal Preferred shall be redeemed unless all outstanding shares of Municipal Preferred are simultaneously redeemed, and the Trust shall not purchase or otherwise acquire any shares of Municipal Preferred; provided, however, that the foregoing shall not prevent the purchase or acquisition of all outstanding shares of Municipal Preferred pursuant to the successful completion of an otherwise lawful purchase or exchange offer made on the same terms to, and accepted by, holders of all outstanding shares of Municipal Preferred. Except as described above with respect to redemptions and under "The Auction -- Orders by Existing Holders and Potential Holders," the Declaration and the By-Laws do not prohibit the Trust or any affiliate of the Trust from purchasing or otherwise acquiring any shares of Municipal Preferred. The Trust has the right to arrange for third parties to purchase from the holders thereof shares of Municipal Preferred which are to be redeemed as described above. LIQUIDATION Upon a dissolution, liquidation or winding up of the affairs of the Trust, whether voluntary or involuntary, the holders of shares of Municipal Preferred then outstanding will be entitled to receive and to be paid out of the assets of the Trust available for distribution to its shareholders, before any payment or distribution shall be made on the Common Shares or on any other class of shares of the Trust ranking junior to the Municipal Preferred upon dissolution, liquidation or winding up of the affairs of the Trust, an amount equal to the liquidation preference with respect to such shares. The liquidation preference for shares of Municipal Preferred shall be $25,000 per share, plus an amount equal to all dividends thereon (whether or not earned or declared) accumulated but unpaid to (but not including) the date of final distribution in same-day funds, together with any applicable Gross-up Payments in connection with the dissolution, liquidation or winding up of the affairs of the Trust. After the payment to the holders of the shares of Municipal Preferred of the full preferential amounts provided for as described herein, the holders of Municipal Preferred as such shall have no right or claim to any of the remaining assets of the Trust. In the event the assets of the Trust available for distribution to the holders of shares of Municipal Preferred, upon any dissolution, liquidation or winding up of the affairs of the Trust, whether voluntary or involuntary, shall be insufficient to pay in full all amounts to which such holders are entitled, no such distribution shall be made on account of any other class or series of Preferred Shares ranking on a parity with the shares of Municipal Preferred upon such dissolution, liquidation or winding up unless proportionate distributive amounts shall be paid on account of the shares of Municipal Preferred, ratably, in proportion to the full distributable amounts for which holders of all such parity shares are respectively entitled upon such dissolution, liquidation or winding up. Subject to the rights of the holders of any series or class or classes of shares ranking on a parity with the shares of Municipal Preferred with respect to the B-43 92 distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust, after payment shall have been made in full to the holders of the shares of Municipal Preferred as described herein, but not prior thereto, any other series or class or classes of shares ranking junior to the shares of Municipal Preferred with respect to the distribution of assets upon dissolution, liquidation or winding up shall, subject to the respective terms and provisions (if any) applying thereto, be entitled to receive any and all assets remaining to be paid or distributed, and the holders of the shares of Municipal Preferred shall not be entitled to share therein. Neither the sale of all or substantially all the property or business of the Trust, nor the merger or consolidation of the Trust into or with any Massachusetts business trust or corporation nor the merger or consolidation of any Massachusetts business trust or corporation into or with the Trust shall be a dissolution, liquidation or winding up of the affairs of the Trust, whether voluntary or involuntary, for the purposes of the foregoing paragraph. REPURCHASE OF COMMON SHARES The Trust is a closed-end investment company and as such its shareholders will not have the right to cause the Trust to redeem their shares. Common Shares trade in the open market at a price that is a function of several factors, including net asset value and yield. Although the common shares of a closed-end investment company such as the Trust that invests substantially all of its assets in investment grade municipal obligations have generally traded at a premium to net asset value, such shares have occasionally traded at a discount to net asset value. The Board of Trustees has currently determined that, at least annually, it will consider action that might be taken to reduce or eliminate any material discount from net asset value in respect of Common Shares, which may include the repurchase of such shares in the open market or in private transactions, the making of a tender offer for such shares at net asset value, or the conversion of the Trust to an open-end investment company. There can be no assurance, however, that the Board of Trustees will decide to take any of these actions, or that share repurchases or tender offers, if undertaken, will reduce market discount. In addition, see "Description of Municipal Preferred -- Dividends -- Restrictions on Dividends and Other Payments" for a discussion of the limitations on the Trust's ability to engage in certain transactions. The staff of the SEC currently requires that any tender offer made by a closed-end investment company for its shares must be at a price equal to the net asset value of such shares on the close of business on the last day of the tender offer. Any service fees incurred in connection with any tender offer made by the Trust will be borne by the Trust and will not reduce the stated consideration to be paid to tendering shareholders. Subject to its investment limitations, the Trust may borrow to finance the repurchase of shares or to make a tender offer. Interest on any borrowings to finance share repurchase transactions or the accumulation of cash by the Trust in anticipation of share repurchases or tenders will reduce the Trust's net income. Any share repurchase, tender offer or borrowing that might be approved by the Board of Trustees would have to comply with the Securities Exchange Act of 1934, as amended, and the 1940 Act and the rules and regulations thereunder. Although the decision to take action in response to a discount from net asset value will be made by the Board of Trustees at the time it considers such issue, it is the Board's present policy, which may be changed by the Board, not to authorize repurchases of the Trust's Common Shares or a tender offer for such shares if (1) such transactions, if consummated, would (a) result in the delisting of the Common Shares from the New York Stock Exchange (the "Exchange"), or (b) impair the Trust's status as a regulated investment company under the Code (which would make the Trust a taxable entity, causing the Trust's income to be taxed at the corporate level in addition to the taxation of shareholders who receive dividends from the Trust) or as a registered closed-end investment company under the 1940 Act; (2) the Trust would not be able to liquidate portfolio securities in an orderly manner and consistent with the Trust's investment objectives and policies in order to repurchase shares; or (3) there is, in the Board's judgment, any (a) material legal action or proceeding instituted or threatened challenging such transactions or otherwise materially adversely affecting the Trust, (b) general suspension of or limitation B-44 93 on prices for trading securities on the Exchange, (c) declaration of a banking moratorium by Federal or state authorities or any suspension of payment by United States or New York State banks in which the Trust invests, (d) material limitation affecting the Trust or the issuers of its portfolio securities by Federal or state authorities on the extension of credit by lending institutions or on the exchange of foreign currency, (e) commencement of war, armed hostilities or other international or national calamity directly or indirectly involving the United States, or (f) other event or condition which would have a material adverse effect (including any adverse tax effect) on the Trust or its shareholders if shares were repurchased. The Board of Trustees may in the future modify these conditions in light of experience. Before deciding whether to take any action in response to a discount from net asset value, the Board of Trustees would consider all relevant factors, including the extent and duration of the discount, the liquidity of the Trust's portfolio, the impact of any action that might be taken on the Trust or its shareholders, and market considerations. Based on these considerations, even if the Trust's Common Shares should trade at a discount, the Board may determine that, in the interest of the Trust and its shareholders, no action should be taken. B-45 94 MISCELLANEOUS INVESTMENT PRACTICES SHORT-TERM TRADING In seeking the Trust's objective, the Advisor will buy or sell portfolio securities whenever the Advisor believes it appropriate to do so. In deciding whether to sell a portfolio security, the Advisor does not consider how long the Trust has owned the security. From time to time the Trust will buy securities intending to seek short-term trading profits. A change in the securities held by the Trust is known as "portfolio turnover" and generally involves some expense to the Trust. This expense may include brokerage commissions or dealer markups and other transaction costs on both the sale of securities and the reinvestment of the proceeds in other securities. If sales of portfolio securities cause the Trust to realize net short-term capital gain, such gain generally will be taxable as ordinary income. As a result of the Trust's investment policies, under certain market conditions the Trust's portfolio turnover rate may be higher than that of other investment companies. Portfolio turnover rate for a fiscal year is the ratio of the lesser of purchases or sales of portfolio securities to the monthly average of the value of portfolio securities -- excluding securities whose maturities at acquisition were one year or less. The Trust's portfolio turnover rate is not a limiting factor when the Advisor considers a change in the Trust's portfolio. LOWER-RATED SECURITIES The Trust may invest in lower-rated securities (commonly known as "high yield," high risk securities or "junk bonds"). The lower ratings of certain securities held by the Trust reflect a greater possibility that adverse changes in the financial condition of the issuer or in general economic conditions, or both, or an unanticipated rise in interest rates, may impair the ability of the issuer to make payments of interest and principal. The inability (or perceived inability) of issuers to make timely payments of interest and principal would likely make the values of securities held by the Trust more volatile and could limit the Trust's ability to sell its securities at prices approximating the values the Trust had placed on such securities. In the absence of a liquid trading market for securities held by it, the Trust at times may be unable to establish the fair value for such securities. Securities ratings are based largely on the issuer's historical financial condition and the rating agencies' analysis at the time of rating. Consequently, the rating assigned to any particular security is not necessarily a reflection of the issuer's current financial condition, which may be better or worse than the rating would indicate. In addition, the rating assigned to a security by Moody's or Standard & Poor's (or by any other nationally recognized securities rating organization) does not reflect an assessment of the volatility of the security's market value or the liquidity of an investment in the security. See Appendix A for a description of security ratings. Like those of other fixed-income securities, the values of lower-rated securities fluctuate in response to changes in interest rates. A decrease in interest rates will generally result in an increase in the value of the Trust's assets. Conversely, during periods of rising interest rates, the value of the Trust's assets will generally decline. The values of lower-rated securities may often be affected to a greater extent by changes in general economic conditions and business conditions affecting the issuers of such securities and their industries. Negative publicity or investor perceptions may also adversely affect the values of lower-rated securities. Changes by recognized rating services in their ratings of any fixed-income security and changes in the ability of an issuer to make payments of interest and principal may also affect the value of these investments. Changes in the value of portfolio securities generally will not affect income derived from these securities, but will affect the Trust's net asset value. The Trust will not necessarily dispose of a security when its rating is reduced below its rating at the time of purchase. However, the Advisor will monitor the investment to determine whether its retention will assist in meeting the Trust's investment objective. Issuers of lower-rated securities are often highly leveraged, so that their ability to service their debt obligations during an economic downturn or during sustained periods of rising interest rates may be impaired. Such issuers may not have more traditional methods of financing available to them and may be B-46 95 unable to repay outstanding obligations at maturity by refinancing. The risk of loss due to default in payment of interest or repayment of principal by such issuers is significantly greater because such securities frequently are unsecured and subordinated to the prior payment of senior indebtedness. At times, a substantial portion of the Trust's assets may be invested in securities as to which the Trust, by itself or together with other Trusts and accounts managed by the Advisor and its affiliates, holds all or a major portion of the securities outstanding. Although the Advisor generally considers such securities to be liquid because of the availability of an institutional market for such securities, it is possible that, under adverse market or economic conditions or in the event of adverse changes in the financial condition of the issuer, the Trust could find it more difficult to sell these securities when the Advisor believes it advisable to do so or may be able to sell the securities only at prices lower than if they were more widely held. Under these circumstances, it may also be more difficult to determine the fair value of such securities for purposes of computing the Trust's net asset value. In order to enforce its rights in the event of a default under such securities, the Trust may be required to participate in various legal proceedings or take possession of and manage assets securing the issuer's obligations on such securities. This could increase the Trust's operating expenses and adversely affect the Trust's net asset value. Certain securities held by the Trust may permit the issuer at its option to "call," or redeem, its securities. If an issuer were to redeem securities held by the Trust during a time of declining interest rates, the Trust might not be able to reinvest the proceeds in securities providing the same investment return as the securities redeemed. The Trust may invest without limit in such bonds. To the extent the Trust invests in securities in the lower rating categories, the achievement of the Trust's goals is more dependent on the Advisor's investment analysis than would be the case if the Trust were investing in securities in the higher rating categories. PRIVATE PLACEMENTS The Trust may invest in securities that are purchased in private placements and, accordingly, may be subject to restrictions on resale as a matter of contract or under federal securities laws. Because there may be relatively few potential purchasers for such investments, especially under adverse market or economic conditions or in the event of adverse changes in the financial condition of the issuer, the Trust could find it more difficult to sell such securities when the Advisor believes it advisable to do so or may be able to sell such securities only at prices lower than if such securities were more widely held. At times, it may also be more difficult to determine the fair value of such securities for purposes of computing the Trust's net asset value. STEP COUPON BONDS (STEPS) The Trust may invest in debt securities which do not pay interest for a stated period of time and then pay interest at a series of different rates for a series of periods. In addition to the risks associated with the credit rating of the issuers, these securities are subject to the volatility risk of zero coupon bonds for the period when no interest is paid. TENDER OPTION BONDS A tender option bond is a municipal security (generally held pursuant to a custodial arrangement) having a relatively long maturity and bearing interest at a fixed rate substantially higher than prevailing short-term tax-exempt rates that has been coupled with the agreement of a third party, such as a bank, broker-dealer or other financial institution, pursuant to which such institution grants the security holders the option, at periodic intervals, to tender their securities to the institution and receive the face value thereof. As consideration for providing the option, the financial institution receives periodic fees equal to the difference between the municipal security's fixed coupon rate and the rate, as determined by a remarketing or similar agent at or near the commencement of such period, that would cause the securities, coupled with the tender option, to trade at par on the date of such determination. Thus, after payment of this fee, the security holder effectively holds a demand obligation that bears interest at the prevailing B-47 96 short-term tax-exempt rate. The Advisor will consider on an ongoing basis the creditworthiness of the issuer of the underlying municipal securities, of any custodian, and of the third-party provider of the tender option. In certain instances and for certain tender option bonds, the option may be terminable in the event of a default in payment of principal or interest on the underlying municipal securities and for other reasons. PAY-IN-KIND (PIK) SECURITIES The Trust may invest in securities which pay interest either in cash or additional securities at the issuer's option. These securities are generally high yield securities and in addition to the other risks associated with investing in high yield securities are subject to the risks that the interest payments, which consist of additional securities, will also be subject to the risks of high yield securities. MONEY MARKET INSTRUMENTS The Trust may invest in short-term money market instruments as follows: Government obligations are issued by the U.S. or foreign governments, their subdivisions, agencies and instrumentalities. Supranational obligations are issued by supranational entities and are generally designed to promote economic improvements. Certificates of deposit are issued against deposits in a commercial bank with a defined return and maturity. Banker's acceptances are used to finance the import, export or storage of goods and are "accepted" when guaranteed at maturity by a bank. Commercial paper is promissory notes issued by businesses to finance short-term needs (including those with floating or variable interest rates, or including a frequent interval put feature). Short-term corporate obligations are bonds and notes (with one year or less to maturity at the time of purchase) issued by businesses to finance long-term needs. FORWARD COMMITMENTS The Trust may enter into contracts to purchase securities for a fixed price at a future date beyond customary settlement time ("forward commitments") if the Trust sets aside, on the books and records of its custodian, liquid assets in an amount sufficient to meet the purchase price, or if the Trust enters into offsetting contracts for the forward sale of other securities it owns. In the case of to-be-announced ("TBA") purchase commitments, the unit price and the estimated principal amount are established when the Trust enters into a contract, with the actual principal amount being within a specified range of the estimate. Forward commitments may be considered securities in themselves, and involve a risk of loss if the value of the security to be purchased declines prior to the settlement date, which risk is in addition to the risk of decline in the value of the Trust's other assets. Where such purchases are made through dealers, the Trust relies on the dealer to consummate the sale. The dealer's failure to do so may result in the loss to the Trust of an advantageous yield or price. Although the Trust will generally enter into forward commitments with the intention of acquiring securities for its portfolio or for delivery pursuant to options contracts it has entered into, the Trust may dispose of a commitment prior to settlement if the Advisor deems it appropriate to do so. The Trust may realize short-term profits or losses on the sale of forward commitments. The Trust may enter into TBA sale commitments to hedge its portfolio positions or to sell securities it owns under delayed delivery arrangements. Proceeds of TBA sale commitments are not received until the contractual settlement date. During the time a TBA sale commitment is outstanding, equivalent deliverable securities, or an offsetting TBA purchase commitment deliverable on or before the sale commitment date, are held as "cover" for the transaction. Unsettled TBA sale commitments are valued at current market value of the underlying securities. If the TBA sale commitment is closed through the acquisition of an offsetting purchase commitment, the Trust realizes a gain or loss on the commitment without regard to any unrealized gain or loss on the underlying security. If the Trust delivers securities under the commitment, the Trust realizes a gain or loss from the sale of the securities based upon the unit price established at the date the commitment was entered into. B-48 97 REPURCHASE AGREEMENTS The Trust may enter into repurchase agreements. A repurchase agreement is a contract under which the Trust acquires a security for a relatively short period (usually not more than one week), subject to the obligation of the seller to repurchase and the Trust to resell such security at a fixed time and price (representing the Trust's cost plus interest). It is the Trust's present intention to enter into repurchase agreements only with commercial banks and registered broker-dealers and only with respect to obligations of the U.S. government or its agencies or instrumentalities. Repurchase agreements may also be viewed as loans made by the Trust which are collateralized by the securities subject to repurchase. The Advisor will monitor such transactions to ensure that the value of the underlying securities will be at least equal at all times to the total amount of the repurchase obligation, including the interest factor. If the seller defaults, the Trust could realize a loss on the sale of the underlying security to the extent that the proceeds of sale, including accrued interest, are less than the resale price provided in the agreement, including interest. In addition, if the seller should be involved in bankruptcy or insolvency proceedings, the Trust may incur delay and costs in selling the underlying security or may suffer a loss of principal and interest if the Trust is treated as an unsecured creditor and required to return the underlying collateral to the seller's estate. Pursuant to an exemptive order issued by the Securities and Exchange Commission, the Trust may transfer uninvested cash balances into a joint account, along with cash of other Liberty Funds and certain other accounts. These balances may be invested in one or more repurchase agreements and/or short-term money market instruments. OPTIONS ON SECURITIES WRITING COVERED OPTIONS. The Trust may write covered call options and covered put options on optionable securities held in its portfolio, when in the opinion of the Advisor such transactions are consistent with the Trust's investment objective and policies. Call options written by the Trust give the purchaser the right to buy the underlying securities from the Trust at a stated exercise price; put options give the purchaser the right to sell the underlying securities to the Trust at a stated price. The Trust may write only covered options, which means that, so long as the Trust is obligated as the writer of a call option, it will own the underlying securities subject to the option (or comparable securities satisfying the cover requirements of securities exchanges). In the case of put options, the Trust will hold cash and/or high-grade short-term debt obligations equal to the price to be paid if the option is exercised. In addition, the Trust will be considered to have covered a put or call option if and to the extent that it holds an option that offsets some or all of the risk of the option it has written. The Trust may write combinations of covered puts and calls on the same underlying security. The Trust will receive a premium from writing a put or call option, which increases the Trust's return on the underlying security in the event the option expires unexercised or is closed out at a profit. The amount of the premium reflects, among other things, the relationship between the exercise price and the current market value of the underlying security, the volatility of the underlying security, the amount of time remaining until expiration, current interest rates and the effect of supply and demand in the options market and in the market for the underlying security. By writing a call option, the Trust limits its opportunity to profit from any increase in the market value of the underlying security above the exercise price of the option but continues to bear the risk of a decline in the value of the underlying security. By writing a put option, the Trust assumes the risk that it may be required to purchase the underlying security for an exercise price higher than its then-current market value, resulting in a potential capital loss unless the security subsequently appreciates in value. The Trust may terminate an option that it has written prior to its expiration by entering into a closing purchase transaction in which it purchases an offsetting option. The Trust realizes a profit or loss from a closing transaction if the cost of the transaction (option premium plus transaction costs) is less or more than the premium received from writing the option. If the Trust writes a call option but does not own the underlying security, and when it writes a put option, the Trust may be required to deposit cash or securities with its broker as "margin," or collateral, for its obligation to buy or sell the underlying security. B-49 98 As the value of the underlying security varies, the Trust may have to deposit additional margin with the broker. Margin requirements are complex and are fixed by individual brokers, subject to minimum requirements currently imposed by the Federal Reserve Board and by stock exchanges and other self-regulatory organizations. PURCHASING PUT OPTIONS. The Trust may purchase put options to protect its portfolio holdings in an underlying security against a decline in market value. Such protection is provided during the life of the put option since the Trust, as holder of the option, is able to sell the underlying security at the put exercise price regardless of any decline in the underlying security's market price. In order for a put option to be profitable, the market price of the underlying security must decline sufficiently below the exercise price to cover the premium and transaction costs. By using put options in this manner, the Trust will reduce any profit it might otherwise have realized from appreciation of the underlying security by the premium paid for the put option and by transaction costs. PURCHASING CALL OPTIONS. The Trust may purchase call options to hedge against an increase in the price of securities that the Trust wants ultimately to buy. Such hedge protection is provided during the life of the call option since the Trust, as holder of the call option, is able to buy the underlying security at the exercise price regardless of any increase in the underlying security's market price. In order for a call option to be profitable, the market price of the underlying security must rise sufficiently above the exercise price to cover the premium and transaction costs. RISK FACTORS IN OPTIONS TRANSACTIONS The successful use of the Trust's options strategies depends on the ability of the Advisor to forecast interest rate and market movements correctly. For example, if the Trust were to write a call option based on the Advisor's expectation that the price of the underlying security would fall, but the price were to rise instead, the Trust could be required to sell the security upon exercise at a price below the current market price. Similarly, if the Trust were to write a put option based on the Advisor's expectation that the price of the underlying security would rise, but the price were to fall instead, the Trust could be required to purchase the security upon exercise at a price higher than the current market price. When the Trust purchases an option, it runs the risk that it will lose its entire investment in the option in a relatively short period of time, unless the Trust exercises the option or enters into a closing sale transaction before the option's expiration. If the price of the underlying security does not rise (in the case of a call) or fall (in the case of a put) to an extent sufficient to cover the option premium and transaction costs, the Trust will lose part or all of its investment in the option. This contrasts with an investment by the Trust in the underlying security, since the Trust will not realize a loss if the security's price does not change. The effective use of options also depends on the Trust's ability to terminate option positions at times when the Advisor deems it desirable to do so. There is no assurance that the Trust will be able to effect closing transactions at any particular time or at an acceptable price. If a secondary market in options were to become unavailable, the Trust could no longer engage in closing transactions. Lack of investor interest might adversely affect the liquidity of the market for particular options or series of options. A market may discontinue trading of a particular option or options generally. In addition, a market could become temporarily unavailable if unusual events -- such as volume in excess of trading or clearing capability -- were to interrupt its normal operations. A market may at times find it necessary to impose restrictions on particular types of options transactions, such as opening transactions. For example, if an underlying security ceases to meet qualifications imposed by the market or the Options Clearing Corporation, new series of options on that security will no longer be opened to replace expiring series, and opening transactions in existing series may be prohibited. If an options market were to become unavailable, the Trust as a holder of an option would be able to realize profits or limit losses only by exercising the option, and the Trust, as option writer, would remain obligated under the option until expiration or exercise. B-50 99 Disruptions in the markets for the securities underlying options purchased or sold by the Trust could result in losses on the options. If trading is interrupted in an underlying security, the trading of options on that security is normally halted as well. As a result, the Trust as purchaser or writer of an option will be unable to close out its positions until options trading resumes, and it may be faced with considerable losses if trading in the security reopens at a substantially different price. In addition, the Options Clearing Corporation or other options markets may impose exercise restrictions. If a prohibition on exercise is imposed at the time when trading in the option has also been halted, the Trust as purchaser or writer of an option will be locked into its position until one of the two restrictions has been lifted. If the Options Clearing Corporation were to determine that the available supply of an underlying security appears insufficient to permit delivery by the writers of all outstanding calls in the event of exercise, it may prohibit indefinitely the exercise of put options. The Trust, as holder of such a put option, could lose its entire investment if the prohibition remained in effect until the put option's expiration. FUTURES CONTRACTS AND RELATED OPTIONS Subject to applicable law, the Trust may invest without limit in the types of futures contracts and related options identified in the Prospectus for hedging and non-hedging purposes, such as to manage the effective duration of the Trust's portfolio or as a substitute for direct investment. A financial futures contract sale creates an obligation by the seller to deliver the type of financial instrument called for in the contract in a specified delivery month for a stated price. A financial futures contract purchase creates an obligation by the purchaser to take delivery of the type of financial instrument called for in the contract in a specified delivery month at a stated price. The determination is made in accordance with the rules of the exchange on which the futures contract sale or purchase was made. Futures contracts are traded in the United States only on commodity exchanges or boards of trade -- known as "contract markets" -- approved for such trading by the Commodity Futures Trading Commission (the "CFTC"), and must be executed through a futures commission merchant or brokerage firm which is a member of the relevant contract market. Although futures contracts (other than index futures) by their terms call for actual delivery or acceptance of commodities or securities, in most cases the contracts are closed out before the settlement date without the making or taking of delivery. Closing out a futures contract sale is effected by purchasing a futures contract for the same aggregate amount of the specific type of financial instrument or commodity with the same delivery date. If the price of the initial sale of the futures contract exceeds the price of the offsetting purchase, the seller is paid the difference and realizes a gain. Conversely, if the price of the offsetting purchase exceeds the price of the initial sale, the seller realizes a loss. If the Trust is unable to enter into a closing transaction, the amount of the Trust's potential loss is unlimited. The closing out of a futures contract purchase is effected by the purchaser's entering into a futures contract sale. If the offsetting sale price exceeds the purchase price, the purchaser realizes a gain, and if the purchase price exceeds the offsetting sale price, the purchaser realizes a loss. In general, 40% of the gain or loss arising from the closing out of a futures contract traded on an exchange approved by the CFTC is treated as short-term gain or loss, and 60% is treated as long-term gain or loss. Unlike when the Trust purchases or sells a security, no price is paid or received by the Trust upon the purchase or sale of a futures contract. Upon entering into a contract, the Trust is required to deposit with its custodian in a segregated account in the name of the futures broker an amount of liquid assets. This amount is known as "initial margin." The nature of initial margin in futures transactions is different from that of margin in security transactions in that futures contract margin does not involve the borrowing of funds to finance the transactions. Rather, initial margin is similar to a performance bond or good faith deposit which is returned to the Trust upon termination of the futures contract, assuming all contractual obligations have been satisfied. Futures contracts also involve brokerage costs. Subsequent payments, called "variation margin" or "maintenance margin," to and from the broker (or the custodian) are made on a daily basis as the price of the underlying security or commodity fluctuates, making the long and short positions in the futures contract more or less valuable, a process known as "marking to the market." For example, when the Trust has purchased a futures contract on a security and B-51 100 the price of the underlying security has risen, that position will have increased in value and the Trust will receive from the broker a variation margin payment based on that increase in value. Conversely, when the Trust has purchased a security futures contract and the price of the underlying security has declined, the position would be less valuable and the Trust would be required to make a variation margin payment to the broker. The Trust may elect to close some or all of its futures positions at any time prior to their expiration in order to reduce or eliminate a position then currently held by the Trust. The Trust may close its positions by taking opposite positions which will operate to terminate the Trust's position in the futures contracts. Final determinations of variation margin are then made, additional cash is required to be paid by or released to the Trust, and the Trust realizes a loss or a gain. Such closing transactions involve additional commission costs. The Trust does not intend to purchase or sell futures or related options for other than hedging purposes if, as a result, the sum of the initial margin deposits on the Trust's existing futures and related options positions and premiums paid for outstanding options on futures contracts would exceed 5% of the Trust's net assets. OPTIONS ON FUTURES CONTRACTS. The Trust may purchase and write call and put options on futures contracts and it may buy or sell and enter into closing transactions with respect to such options to terminate existing positions. Options on futures contracts give the purchaser the right, in return for the premium paid, to assume a position in a futures contract at the specified option exercise price at any time during the period of the option. The Trust may use options on futures contracts in lieu of writing or buying options directly on the underlying securities or purchasing and selling the underlying futures contracts. For example, to hedge against a possible decrease in the value of its portfolio securities, the Trust may purchase put options or write call options on futures contracts rather than selling futures contracts. Similarly, the Trust may purchase call options or write put options on futures contracts as a substitute for the purchase of futures contracts to hedge against a possible increase in the price of securities which the Trust expects to purchase. Such options generally operate in the same manner as options purchased or written directly on the underlying investments. As with options on securities, the holder or writer of an option may terminate his position by selling or purchasing an offsetting option. There is no guarantee that such closing transactions can be effected. The Trust will be required to deposit initial margin and maintenance margin with respect to put and call options on futures contracts written by it pursuant to brokers' requirements, similar to those described above in connection with the discussion of futures contracts. RISKS OF TRANSACTIONS IN FUTURES CONTRACTS AND RELATED OPTIONS. Successful use of futures contracts by the Trust is subject to the Advisor's ability to predict movements in various factors affecting securities markets, including interest rates. Compared to the purchase or sale of futures contracts, the purchase of call or put options on futures contracts involves less potential risk to the Trust because the maximum amount at risk is the premium paid for the options (plus transaction costs). However, there may be circumstances when the purchase of a call or put option on a futures contract would result in a loss to the Trust when the purchase or sale of a futures contract would not, such as when there is no movement in the prices of the hedged investments. The writing of an option on a futures contract involves risks similar to those risks relating to the sale of futures contracts. The use of options and futures strategies also involves the risk of imperfect correlation among movements in the prices of the securities underlying the futures and options purchased and sold by the Trust, of the options and futures contracts themselves, and, in the case of hedging transactions, of the securities which are the subject of a hedge. There is no assurance that higher than normal trading activity or other unforeseen events might not, at times, render certain market clearing facilities inadequate, and thereby result in the institution by exchanges of special procedures which may interfere with the timely execution of customer orders. B-52 101 To reduce or eliminate a position held by the Trust, the Trust may seek to close out such position. The ability to establish and close out positions will be subject to the development and maintenance of a liquid secondary market. It is not certain that this market will develop or continue to exist for a particular futures contract or option. Reasons for the absence of a liquid secondary market on an exchange include the following: (i) there may be insufficient trading interest in certain contracts or options, (ii) restrictions may be imposed by an exchange on opening transactions or closing transactions or both, (iii) trading halts, suspensions or other restrictions may be imposed with respect to particular classes or series of contracts or options, or underlying securities, (iv) unusual or unforeseen circumstances may interrupt normal operations on an exchange, (v) the facilities of an exchange or a clearing corporation may not at all times be adequate to handle current trading volume, or (vi) one or more exchanges could, for economic or other reasons, decide or be compelled at some future date to discontinue the trading of contracts or options (or a particular class or series of contracts or options), in which event the secondary market on that exchange for such contracts or options (or in the class or series of contracts or options) would cease to exist, although outstanding contracts or options on the exchange that had been issued by a clearing corporation as a result of trades on that exchange would continue to be exercisable in accordance with their terms. U.S. TREASURY SECURITY FUTURES CONTRACTS AND OPTIONS. U.S. Treasury security futures contracts require the seller to deliver, or the purchaser to take delivery of, the type of U.S. Treasury security called for in the contract at a specified date and price. Options on U.S. Treasury security futures contracts give the purchaser the right, in return for the premium paid, to assume a position in a U.S. Treasury security futures contract at the specified option exercise price at any time during the period of the option. Successful use of U.S. Treasury security futures contracts by the Trust is subject to the Advisor's ability to predict movements in the direction of interest rates and other factors affecting markets for debt securities. For example, if the Trust has sold U.S. Treasury security futures contracts in order to hedge against the possibility of an increase in interest rates which would adversely affect securities held in its portfolio, and the prices of the Trust's securities increase instead as a result of a decline in interest rates, the Trust would be likely to lose part or all of the benefit of the increased value of its securities which it has hedged because it will have offsetting losses in its futures positions. In addition, in such situations, if the Trust has insufficient cash, it may have to sell securities to meet daily maintenance margin requirements at a time when it may be disadvantageous to do so. There is also a risk that price movements in U.S. Treasury security futures contracts and related options will not correlate closely with price movements in markets for particular securities. For example, if the Trust has hedged against a decline in the values of high yield corporate securities held by it by selling Treasury security futures and the values of Treasury securities subsequently increase while the values of its high yield corporate securities decrease, the Trust would incur losses on both the Treasury security futures contracts written by it and the high yield corporate securities held in its portfolio. INDEX FUTURES CONTRACTS. An index futures contract is a contract to buy or sell units of an index at a specified future date at a price agreed upon when the contract is made. Entering into a contract to buy units of an index is commonly referred to as buying or purchasing a contract or holding a long position in the index. Entering into a contract to sell units of an index is commonly referred to as selling a contract or holding a short position. A unit is the current value of the index. The Trust may enter into stock index futures contracts, debt index futures contracts, or other index futures contracts appropriate to its objective. The Trust may also purchase and sell options on index futures contracts. There are several risks in connection with the use by the Trust of index futures. One risk arises because of the imperfect correlation between movements in the prices of the index futures and movements in the prices of securities which are the subject of the hedge. The Advisor will, however, attempt to reduce this risk by buying or selling, to the extent possible, futures on indices the movements of which will, in its judgment, have a significant correlation with movements in the prices of the securities sought to be hedged. Successful use of index futures by the Trust is also subject to the Advisor's ability to predict movements in the direction of the market. For example, it is possible that, where the Trust has sold B-53 102 futures to hedge its portfolio against a decline in the market, the index on which the futures are written may advance and the value of securities held in the Trust's portfolio may decline. If this occurred, the Trust would lose money on the futures and also experience a decline in value in its portfolio securities. It is also possible that, if the Trust has hedged against the possibility of a decline in the market adversely affecting securities held in its portfolio and securities prices increase instead, the Trust will lose part or all of the benefit of the increased value of those securities it has hedged because it will have offsetting losses in its futures positions. In addition, in such situations, if the Trust has insufficient cash, it may have to sell securities to meet daily variation margin requirements at a time when it is disadvantageous to do so. In addition to the possibility that there may be an imperfect correlation, or no correlation at all, between movements in the index futures and the portion of the portfolio being hedged, the prices of index futures may not correlate perfectly with movements in the underlying index due to certain market distortions. First, all participants in the futures market are subject to margin deposit and maintenance requirements. Rather than meeting additional margin deposit requirements, investors may close futures contracts through offsetting transactions which could distort the normal relationship between the index and futures markets. Second, margin requirements in the futures market are less onerous than margin requirements in the securities market, and as a result the futures market may attract more speculators than the securities market does. Increased participation by speculators in the futures market may also cause temporary price distortions. Due to the possibility of price distortions in the futures market and also because of the imperfect correlation between movements in the index and movements in the prices of index futures, even a correct forecast of general market trends by the Advisor may still not result in a profitable position over a short time period. OPTIONS ON INDEX FUTURES. Options on index futures are similar to options on securities except that options on index futures give the purchaser the right, in return for the premium paid, to assume a position in an index futures contract (a long position if the option is a call and a short position if the option is a put) at a specified exercise price at any time during the period of the option. Upon exercise of the option, the delivery of the futures position by the writer of the option to the holder of the option will be accompanied by delivery of the accumulated balance in the writer's futures margin account which represents the amount by which the market price of the index futures contract, at exercise, exceeds (in the case of a call) or is less than (in the case of a put) the exercise price of the option on the index future. If an option is exercised on the last trading day prior to its expiration date, the settlement will be made entirely in cash equal to the difference between the exercise price of the option and the closing level of the index on which the future is based on the expiration date. Purchasers of options who fail to exercise their options prior to the exercise date suffer a loss of the premium paid. OPTIONS ON INDICES As an alternative to purchasing call and put options on index futures, the Trust may purchase and sell call and put options on the underlying indices themselves. Such options would be used in a manner identical to the use of options on index futures. INDEX WARRANTS The Trust may purchase put warrants and call warrants whose values vary depending on the change in the value of one or more specified securities indices ("index warrants"). Index warrants are generally issued by banks or other financial institutions and give the holder the right, at any time during the term of the warrant, to receive upon exercise of the warrant a cash payment from the issuer based on the value of the underlying index at the time of exercise. In general, if the value of the underlying index rises above the exercise price of the index warrant, the holder of a call warrant will be entitled to receive a cash payment from the issuer upon exercise based on the difference between the value of the index and the exercise price of the warrant. If the value of the underlying index falls, the holder of a put warrant will be entitled to receive a cash payment from the issuer upon exercise based on the difference between the exercise price of the warrant and the value of the index. The holder of a warrant would not be entitled to any payments from the issuer at any time when, in the case of a call warrant, the exercise price is greater than the value B-54 103 of the underlying index, or, in the case of a put warrant, the exercise price is less than the value of the underlying index. If the Trust were not to exercise an index warrant prior to its expiration, then the Trust would lose the amount of the purchase price paid by it for the warrant. The Trust will normally use index warrants in a manner similar to its use of options on securities indices. The risks of the Trust's use of index warrants are generally similar to those relating to its use of index options. Unlike most index options, however, index warrants are issued in limited amounts and are not obligations of a regulated clearing agency, but are backed only by the credit of the bank or other institution which issues the warrant. Also, index warrants generally have longer terms than index options. Although the Trust will normally invest only in exchange-listed warrants, index warrants are not likely to be as liquid as certain index options backed by a recognized clearing agency. In addition, the terms of index warrants may limit the Trust's ability to exercise the warrants at such time, or in such quantities, as the Trust would otherwise wish to do. ZERO COUPON SECURITIES (ZEROS) The Trust may invest in zero coupon securities, which are securities issued at a significant discount from face value and pay interest only at maturity rather than at intervals during the life of the security and in certificates representing undivided interests in the interest or principal of mortgage-backed securities (interest only/principal only), which tend to be more volatile than other types of securities. The Trust will accrue and distribute income from zero coupon and stripped securities and certificates on a current basis and may have to sell securities to generate cash for distributions. INVERSE FLOATERS Inverse floaters are derivative securities whose interest rates vary inversely to changes in short-term interest rates and whose values fluctuate inversely to changes in long-term interest rates. The value of certain inverse floaters will fluctuate substantially more in response to a given change in long-term rates than would a traditional debt security. These securities have investment characteristics similar to leverage, in that interest rate changes have a magnified effect on the value of inverse floaters. B-55 104 TAX MATTERS FEDERAL INCOME TAX MATTERS Federal Taxation of the Trust The ability of the Trust to qualify for taxation as a regulated investment company under Subchapter M of the Code requires, among other things, that the Trust distribute to its shareholders with respect to each year at least 90% of the sum of (1) its net tax-exempt interest income and (2) its taxable net investment income (including, generally, taxable interest, dividends and certain other income, less certain expenses, and the excess, if any, of net short-term capital gain over net long-term capital loss) (the "Distribution Requirement"). In addition to satisfying the Distribution Requirement for each taxable year, a regulated investment company must derive at least 90% of its gross income from dividends, interest, certain payments with respect to securities loans, gains from the sale or other disposition of stock or securities or foreign currencies (to the extent such currency gains are directly related to the regulated investment company's principal business of investing in stock or securities, or options and futures with respect to stock or securities) and other income (including but not limited to gains from options, futures or forward contracts) derived with respect to its business of investing in such stock, securities or currencies (the "Income Requirement"). Further, the Trust must satisfy an asset diversification test in order to qualify as a regulated investment company. Under this test, at the close of each quarter of the Trust's taxable year, at least 50% of the value of the Trust's assets must consist of cash and cash items (including receivables), U.S. Government securities, securities of other regulated investment companies, and securities of other issuers (as to which the Trust has not invested more than 5% of the value of the Trust's total assets in securities of such issuer and as to which the Trust does not hold more than 10% of the outstanding voting securities of such issuer), and no more than 25% of the value of its total assets may be invested in the securities of any one issuer (other than U.S. Government securities and securities of other regulated interment companies), or in two or more issuers which the Trust controls and which are engaged in the same or similar trades or businesses or related trades or businesses. A 4% non-deductible excise tax is imposed on a regulated investment company that fails to distribute in each calendar year an amount at least equal to the sum of 98% of ordinary taxable income for the calendar year and 98% of capital gain net income for the one-year period ended on October 31 of such calendar year (or, at the election of a regulated investment company having a taxable year ending November 30 or December 31, for its taxable year), plus 100% of any undistributed income from the preceding year. For the foregoing purposes, a regulated investment company is treated as having distributed any amount on which it is subject to income tax for any taxable year ending in such calendar year. The Trust generally intends to make sufficient distributions or deemed distributions of its ordinary taxable income and capital gain net income prior to the end of each calendar year to avoid liability for the excise tax. However, investors should note that the Trust may in certain circumstances be required to liquidate portfolio investments to make sufficient distributions to avoid excise tax liability. In addition, the Trust may elect to pay the excise tax liability if it determines that the costs of making an excise tax distribution are greater than the excise tax liability that would be due upon the failure to make such excise tax distribution. If the Trust does not qualify for taxation as a regulated investment company for any taxable year, the Trust's income will be subject to corporate income taxes imposed at the Trust level, and all distributions from earnings and profits, including distributions of net exempt-interest income and net capital gain (i.e., the excess, if any, of net long-term capital gain over net short-term capital loss), will be taxable to shareholders as ordinary income. In addition, in order to requalify for taxation as a regulated investment B-56 105 company, the Trust may be required to recognize unrealized gains, pay substantial taxes and interest, and make certain distributions. If at any time when shares of Municipal Preferred are outstanding the Trust does not meet applicable asset coverage requirements, the Trust will be required to suspend distributions to holders of Common Shares until the requisite asset coverage is restored. Any such suspension may cause the Trust to pay the 4% Federal excise tax described above and may prevent the Trust from satisfying the Distribution Requirement. The Trust may redeem shares of Municipal Preferred in an effort to comply with the Distribution Requirement and to avoid the excise tax. See "Description of Municipal Preferred -- Dividends." Federal Taxation of Shareholders DIVIDENDS AND OTHER DISTRIBUTIONS. In order for any distributions to holders of shares of Municipal Preferred to be eligible to be treated as exempt-interest dividends, the shares of Municipal Preferred must be treated as equity for Federal income tax purposes. Based in part on certain representations made by the Trust to Ropes & Gray relating to the lack of any present intention to redeem or purchase shares of Municipal Preferred at any time in the future, it is the opinion of Ropes & Gray that the shares of Municipal Preferred will constitute equity for Federal income tax purposes. This opinion relies in part on a published ruling of the Internal Revenue Service stating that certain auction rate preferred stock similar in many material respects to the Municipal Preferred represents equity. The opinion of Ropes & Gray represents only its best legal judgment and is not binding on the Internal Revenue Service or the courts. If the Internal Revenue Service were successfully to assert that variable rate preferred stock such as the Municipal Preferred should be treated as debt for Federal income tax purposes, dividends on shares of Municipal Preferred would be treated as taxable interest for Federal income tax purposes. In such event, dividends on shares of Municipal Preferred would not be increased by the Trust and holders of shares of Municipal Preferred would not be entitled to any additional distributions from the Trust (including any Gross-up Payments) to offset the effect of paying Federal income tax on Trust distributions so recharacterized as interest. Ropes & Gray has advised the Trust that, should the Internal Revenue Service pursue in court the position that the shares of Municipal Preferred should be treated as debt for Federal income tax purposes, the Internal Revenue Service would be unlikely to prevail. Prior proposed legislation that was ultimately not enacted would have reinstated a deductible tax (the "Environmental Tax"), imposed through tax years beginning before January 1, 1996, at a rate of 0.12% on a corporation's alternative minimum taxable income (computed without regard to the alternative minimum tax net operating loss deduction) in excess of $2 million. If the Environmental Tax is reinstated, exempt-interest dividends paid by the Trust that are included in a corporate shareholder's alternative minimum taxable income may subject such shareholder to the Environmental Tax. It is not possible for the Trust to predict whether similar legislation might be proposed and enacted in the future. Corporate shareholders should consult with their own tax advisors regarding the likelihood of such legislation and its effect on them. As discussed in the Prospectus, exempt-interest dividends attributable to interest received on certain private activity bonds and certain industrial development bonds will not be tax-exempt to any shareholders who are, within the meaning of Section 147(a) of the Code, "substantial users" of the facilities financed by such obligations or bonds or who are "related persons" of such substantial users. In general, a "substantial user" of a facility includes a "non-exempt person who regularly uses a part of such facility in his trade or business." "Related persons" are in general defined to include persons among whom there exists a relationship, either by family or business, which would result in a disallowance of losses in transactions among them under various provisions of the Code (or if they are members of the same controlled group of corporations under the Code), including a partnership and each of its partners (and their spouses and minor children), an S corporation and each of its shareholders (and their spouses and minor children) and various combinations of these relationships. The foregoing is not a complete statement of all of the provisions of the Code covering the definitions of "substantial user" and "related person." For additional information, investors should consult their tax advisors before investing in Municipal Preferred. B-57 106 All or a portion of interest on indebtedness incurred or continued by a shareholder to purchase or carry Trust shares may not be deductible by the shareholder. The portion of interest that is not deductible is equal to the total interest paid or accrued on the indebtedness multiplied by the percentage of the Trust's total distributions (not including distributions of net capital gain) paid to the shareholder that are exempt-interest dividends. Under rules used by the Internal Revenue Service for determining when borrowed funds are considered to have been used for the purpose of purchasing or carrying particular assets, the purchase of shares of Municipal Preferred may be considered to have been made with borrowed funds even though such funds are not directly traceable to the purchase of shares. Under Federal tax law in effect at the date of this Prospectus, a shareholder's interest deduction generally will not be disallowed if the average adjusted basis of the shareholder's tax-exempt obligations (including shares of Municipal Preferred) does not exceed two percent of the average adjusted basis of the shareholder's trade or business assets (in the case of most corporations and some individuals) and portfolio investments (in the case of individuals). Prior proposed legislation that was ultimately not enacted would have further limited or repealed this two-percent de minimis exception, which could reduce the total after-tax yield of the Municipal Preferred to investors to whom the de minimis exception would otherwise apply. It is not possible for the Trust to predict whether similar legislation might be proposed and enacted in the future. Shareholders should consult with their own tax advisors regarding the likelihood of such legislation and its effect on them. SALES OR REDEMPTIONS OF SHARES. From time to time the Trust may make a tender or repurchase offer for its Common Shares. It is expected that the terms of any such offer will require a tendering shareholder to tender all Common Shares, and dispose of all shares of Municipal Preferred, held or considered under Code rules to be held by such shareholder. Shareholders who tender all Common Shares and dispose of all shares of Municipal Preferred held, or considered held, by them will be treated as having sold such shares and generally will realize a capital gain or loss. If, however, a shareholder tenders fewer than all of its Common Shares, or retains a substantial portion of its Municipal Preferred, such shareholder may be treated as having received a taxable dividend upon the tender of its Common Shares. In such a case, there is a remote risk that non-tendering shareholders (including holders of Municipal Preferred) will be treated as having received taxable distributions from the Trust. Likewise, if the Trust redeems some but not all of the Municipal Preferred held by a holder of Municipal Preferred and such holder of Municipal Preferred is treated as having received a taxable dividend upon such redemption, there is a remote risk that holders of Common Shares and non-redeeming holders of Municipal Preferred will be treated as having received taxable distributions from the Trust. BACKUP WITHHOLDING. The Trust generally is required to withhold and remit to the U.S. Treasury 31% of the taxable dividends and other distributions paid to non-corporate shareholders who fail to furnish the Trust with a correct taxpayer identification number, who have underreported dividends or interest income, or who fail to certify to the Trust that they are not subject to such withholding. An individual's taxpayer identification number is his or her social security number. FOREIGN INVESTORS. Non-resident alien individuals, foreign corporations and certain other foreign entities generally will be subject to a U.S. withholding tax at a rate of 30% on the Trust's distributions from its ordinary income and the excess of its net short-term capital gain over its net long-term capital loss, unless the tax is reduced or eliminated by an applicable tax treaty. Distributions from the excess of the Trust's net capital gain received by such shareholders and any gain from the sale or other disposition of shares of the Trust generally will not be subject to U.S. Federal income taxation, provided that non-resident alien status has been certified by the shareholder. Different U.S. tax consequences may result if the shareholder is engaged in a trade or business in the United States, is present in the United States for a sufficient period of time during a taxable year to be treated as a U.S. resident, or fails to provide any required certifications regarding status as a non-resident alien investor. Foreign shareholders should consult their tax advisors regarding the U.S. and foreign tax consequences of an investment in the Trust. The Internal Revenue Service recently revised its regulations affecting the application to foreign investors of the back-up withholding and withholding tax rules described above. The new regulations will B-58 107 generally be effective for payments made after December 31, 2000. In some circumstances, the new rules will increase the certification and filing requirements imposed on foreign investors in order to qualify for exemption from the 31% back-up withholding tax and for reduced withholding tax rates under income tax treaties. Foreign investors in the Trust should consult their tax advisors with respect to the potential application of these new regulations. The foregoing is a general, abbreviated summary of the provisions of the Code and regulations thereunder presently in effect as they directly govern the taxation of the Trust and owners of shares of Municipal Preferred. These provisions are subject to change by legislative or administrative action, and any such change may be retroactive with respect to Trust transactions. Owners of shares of Municipal Preferred are advised to consult with their own tax advisors for more detailed information concerning Federal income tax matters. FOREIGN, STATE AND LOCAL TAX MATTERS The exemption from Federal income tax for exempt-interest dividends does not necessarily result in exemption for such dividends under the income or other tax laws of any foreign, state or local taxing authority. Some states exempt from state income tax that portion of any exempt-interest dividend that is derived from interest received by a regulated investment company on its holdings of securities of that state and its political subdivisions and instrumentalities. Therefore, the Trust will report annually to its shareholders the percentage of interest income earned by the Trust during the preceding year on tax-exempt obligations indicating, on a state-by-state basis, the source of such income. Holders of shares of Municipal Preferred are advised to consult with their own tax advisors about foreign, state and local tax matters. SHAREHOLDER LIABILITY Under Massachusetts law, shareholders could, under certain circumstances, be held personally liable for the obligations of the Trust. However, the Declaration disclaims shareholder liability for acts or obligations of the Trust and requires that a notice of such disclaimer be given in each agreement, obligation or instrument entered into or executed by the Trust or the Trustees. The Declaration provides for indemnification out of Trust property for all loss and expense of any shareholder held personally liable for the obligations of the Trust. Thus, the risk of a shareholder's incurring financial loss on account of shareholder liability is limited to circumstances (which are considered remote) in which the Trust would be unable to meet its obligations and the disclaimer was inoperative. CUSTODIAN The Chase Manhattan Bank, located at 270 Park Avenue, New York, New York 10017-2070, is the Trust's custodian. The custodian is responsible for safeguarding the Trust's cash and securities, receiving and delivering securities and collecting the Trust's interest and dividends. INDEPENDENT ACCOUNTANTS PricewaterhouseCoopers LLP are the Trust's independent accountants, providing audit and tax return preparation services and assistance and consultation in connection with the review of various Securities and Exchange Commission filings. The address of PricewaterhouseCoopers LLP is 160 Federal Street, Boston, Massachusetts 02110. The financial statements included in this SAI have been so included, and the financial highlights included in the Prospectus have been so included, in reliance upon the report of PricewaterhouseCoopers LLP given on the authority of said firm as experts in accounting and auditing. B-59 108 GLOSSARY " 'AA' Composite Commercial Paper Rate" has the meaning set forth on pages B-17 to B-18 of this Statement of Additional Information. "Advisor" means Colonial Management Associates, Inc. "Affected Series" has the meaning set forth on page B-33 of this Statement of Additional Information. "Affiliate" means, for purposes of the definition of "Outstanding," any Person known to the Auction Agent to be controlled by, in control of or under common control with the Trust; provided, however, that no Broker-Dealer controlled by, in control of or under common control with the Trust shall be deemed to be an Affiliate nor shall any corporation or any Person controlled by, in control of or under common control with such corporation, one of the directors, trustees or executive officers of which is a trustee of the Trust be deemed to be an Affiliate solely because such director, trustee or executive officer is also a trustee of the Trust. "Agent Member" means a member of or participant in the Securities Depository that will act on behalf of a Bidder. "Anticipation Notes" means Tax Anticipation Notes (TANs), Revenue Anticipation Notes (RANs), Tax and Revenue Anticipation Notes (TRANs), Grant Anticipation Notes (GANs) that are rated by Standard & Poor's and Bond Anticipation Notes (BANs). "Applicable Rate" has the meaning set forth on page B-13 of this Statement of Additional Information. "Auction" means each periodic implementation of the Auction Procedures. "Auction Agency Agreement" has the meaning set forth on page B-13 of this Statement of Additional Information. "Auction Agent" means the entity appointed as such by a resolution of the Board of Trustees. "Auction Date," with respect to any Rate Period, means the Business Day next preceding the first day of such Rate Period. "Auction Procedures" means the procedures for conducting Auctions as described in this Statement of Additional Information, including Appendix B hereto. "Available Municipal Preferred" has the meaning set forth on page B-21 of this Statement of Additional Information. "Benchmark Rate" has the meaning set forth on page B-22 of this Statement of Additional Information. "Beneficial Owner" has the meaning set forth on page B-13 of this Statement of Additional Information. "Bid" has the meaning set forth on page B-15 of this Statement of Additional Information. "Bidder" and "Bidders" have the respective meanings set forth on page B-15 of this Statement of Additional Information. "Board of Trustees" or "Board" means the Board of Trustees of the Trust or any duly authorized committee thereof. "Broker-Dealer" means any broker-dealer, commercial bank or other entity permitted by law to perform the functions required of a Broker-Dealer, that is a member of, or a participant in, the Securities Depository or is an affiliate of such member or participant, has been selected by the Trust and has entered into a Broker-Dealer Agreement that remains effective. B-60 109 "Broker-Dealer Agreement" means an agreement among the Trust, the Auction Agent and a Broker-Dealer pursuant to which such Broker-Dealer agrees to follow the procedures specified in the By-Laws, the Prospectus and this Statement of Additional Information. "Business Day" has the meaning set forth on page B-13 of this Statement of Additional Information. "By-Laws" means the Amended and Restated By-Laws of Colonial Municipal Income Trust on file with the Secretary of the Commonwealth of Massachusetts. "Cede" means Cede & Co., the nominee of DTC in whose name the shares of Municipal Preferred initially will be registered. "CFTC" has the meaning set forth on page B-51 of this Statement of Additional Information. "Code" means the Internal Revenue Code of 1986, as amended. "Commercial Paper Dealers" has the meaning set forth on page B-18 of this Statement of Additional Information. "Common Shares" means the common shares of beneficial interest, without par value, of the Trust. "Cure Date" means the Municipal Preferred Basic Maintenance Cure Date or the 1940 Act Cure Date, as the case may be. "Date of Original Issue" has the meaning set forth on page B-13 of this Statement of Additional Information. "Declaration" means the Agreement and Declaration of Trust of Colonial Municipal Income Trust, as amended, on file with the Secretary of the Commonwealth of Massachusetts. "Deposit Securities" means cash and Municipal Obligations rated at least A-1+ or SP-1+ by Standard & Poor's, except that, for purposes of determining whether the Trust may mail a Notice of Redemption, such Municipal Obligations shall be considered "Deposit Securities" only if they are also rated P-1, MIG-1 or VMIG-1 by Moody's. "Discount Factor" means a Moody's Discount Factor or a Standard & Poor's Discount Factor, as the case may be. "Discounted Value" means, as of any Valuation Date, (i) with respect to a Standard & Poor's Eligible Asset, the quotient of the Market Value thereof divided by the applicable Standard & Poor's Discount Factor and (ii)(a) with respect to a Moody's Eligible Asset that is not currently callable as of such Valuation Date at the option of the issuer thereof, the quotient of the Market Value thereof divided by the applicable Moody's Discount Factor, or (b) with respect to a Moody's Eligible Asset that is currently callable as of such Valuation Date at the option of the issuer thereof, the quotient of (1) the lesser of the Market Value or call price thereof, including any call premium, divided by (2) the applicable Moody's Discount Factor. "Dividend Payment Date" has the meaning set forth on page B-13 of this Statement of Additional Information. "Dividend Period" has the meaning set forth on page B-13 of this Statement of Additional Information. "DTC" has the meaning set forth on page B-14 of this Statement of Additional Information. "Eligible Assets" means Moody's Eligible Assets or Standard & Poor's Eligible Assets, as the case may be. "Escrowed Bonds" means Municipal Obligations that (i) have been determined to be legally defeased in accordance with Standard & Poor's legal defeasance criteria, (ii) have been determined to be economically defeased in accordance with Standard & Poor's economic defeasance criteria and assigned a rating of AAA by Standard & Poor's, (iii) are not rated by Standard & Poor's but have been determined B-61 110 to be legally defeased by Moody's, or (iv) have been determined to be economically defeased by Moody's and assigned a rating no lower than the rating that is Moody's equivalent of Standard & Poor's AAA rating. "Exchange" has the meaning set forth on page B-44 of this Statement of Additional Information. "Existing Holder" has the meaning set forth on page B-13 of this Statement of Additional Information. "Failure to Deposit," with respect to shares of Municipal Preferred, means a failure by the Trust to pay to the Auction Agent, not later than 12:00 noon, Eastern time, (A) on the Business Day next preceding any Dividend Payment Date for such shares, in funds available on such Dividend Payment Date in The City of New York, New York, the full amount of any dividend (whether or not earned or declared) to be paid on such Dividend Payment Date on any share or (B) on the Business Day next preceding any redemption date in funds available on such redemption date for such shares in The City of New York, New York, the Redemption Price to be paid on such redemption date for any share after notice of redemption is mailed as set forth in the By-Laws, the Prospectus or this Statement of Additional Information; provided, however, that the foregoing clause (B) shall not apply to the Trust's failure to pay the Redemption Price in respect of shares of Municipal Preferred when the related Notice of Redemption provides that redemption of such shares is subject to one or more conditions precedent and any such condition precedent shall not have been satisfied at the time or times and in the manner specified in such Notice of Redemption. "Gross-up Payment" has the meaning set forth on page B-29 of this Statement of Additional Information. "Hold Order" has the meaning set forth on page B-15 of this Statement of Additional Information. "Holder" means the registered holder of shares of Municipal Preferred as the same appears on the record books of the Trust. "Initial Rate Period" has the meaning set forth on page B-13 of this Statement of Additional Information. "IRS" means the Internal Revenue Service. "Inverse Floater" shall mean trust certificates or other instruments evidencing interests in one or more municipal securities that qualify as Standard & Poor's Eligible Assets (and are not part of a private placement of municipal securities and satisfy the issuer and size requirements of the definition of Standard & Poor's Eligible Assets) the interest rates on which are adjusted at short-term intervals on a basis that is inverse to the simultaneous readjustment of the interest rates on corresponding floating rate trust certificates or other instruments issued by the same issuer, provided that the ratio of the aggregate dollar amount of floating rate instruments to inverse floating rate instruments issued by the same issuer does not exceed one to one at their time or original issuance unless the floating rate instrument has only one reset remaining until maturity. "Kenny Index" has the meaning set forth on page B-17 of this Statement of Additional Information. "Late Charge" has the meaning set forth on page B-27 of this Statement of Additional Information. "Liquidation Preference," with respect to a given number of shares of Municipal Preferred, means $25,000 times that number. "Market Value" of any asset of the Trust means the market value thereof determined by the pricing service designated from time to time by the Board of Trustees. Market Value of any asset shall include any interest accrued thereon. The pricing service will use current industry standards to value portfolio securities. The pricing service may employ electronic data processing techniques or a matrix system, or both, to determine valuations. Securities for which quotations are not readily available shall be valued at fair value as determined by the pricing service using methods which include consideration of: yields or B-62 111 prices of municipal bonds of comparable quality, type of issue, coupon, maturity and rating; indications as to value from dealers; and general market conditions. In the event the pricing service is unable to value a security, the security shall be valued at the lower of two dealer bids obtained by the Trust from dealers who are members of the National Association of Securities Dealers, Inc. and make a market in the security, at least one of which shall be in writing. Futures contracts and options are valued at closing prices for such instruments established by the exchange or board of trade on which they are traded, or if market quotations are not readily available, are valued at fair value on a consistent basis using methods determined in good faith by the Trustees. "Maximum Potential Gross-up Payment Liability" has the meaning set forth on pages B-35 to B-36 of this Statement of Additional Information. "Maximum Rate" has the meaning set forth on pages B-16 to B-17 of this Statement of Additional Information. "Minimum Rate Period" means any Rate Period consisting of 7 Rate Period Days. "Moody's" means Moody's Investors Service, Inc. and its successors. "Moody's Discount Factors" has the meaning set forth on pages B-38 to B-39 of this Statement of Additional Information. "Moody's Eligible Assets" has the meaning set forth on page B-38 of this Statement of Additional Information. "Moody's Exposure Period" has the meaning set forth on page B-39 of this Statement of Additional Information. "Moody's Volatility Factor" means, as of any Valuation Date, (i) in the case of any Minimum Rate Period, any Special Rate Period of 28 Rate Period Days or fewer, or any Special Rate Period of 57 Rate Period Days or more, a multiplicative factor equal to 275%, except as otherwise provided in the last sentence of this definition; (ii) in the case of any Special Rate Period of more than 28 but fewer than 36 Rate Period Days, a multiplicative factor equal to 203%; (iii) in the case of any Special Rate Period of more than 35 but fewer than 43 Rate Period Days, a multiplicative factor equal to 217%; (iv) in the case of any Special Rate Period of more than 42 but fewer than 50 Rate Period Days, a multiplicative factor equal to 226%; and (v) in the case of any Special Rate Period of more than 49 but fewer than 57 Rate Period Days, a multiplicative factor equal to 235%. If, as a result of the enactment of changes to the Code, the greater of the maximum marginal Federal individual income tax rate applicable to ordinary income and the maximum marginal Federal corporate income tax rate applicable to ordinary income will increase, such increase being rounded up to the next five percentage points, until the effective date of such increase, the Moody's Volatility Factor in the case of any Rate Period described in (i) above in this definition instead shall be determined by reference to the following table:
FEDERAL VOLATILITY TAX RATE INCREASE FACTOR - ----------------- ---------- 5% 295% 10% 317% 15% 341% 20% 369% 25% 400% 30% 436% 35% 477% 40% 525%
"Municipal Obligations" shall mean "Municipal Obligations" as defined on page 10 of the prospectus filed as part of the Trust's registration statement on Form N-2 on file with the Securities and Exchange Commission, as such registration statement may be amended from time to time. B-63 112 "Municipal Preferred" means the Municipal Auction Rate Cumulative Preferred Shares, without par value, liquidation preference $25,000 per share, of the Trust. "Municipal Preferred Basic Maintenance Amount" has the meaning set forth on page B-35 of this Statement of Additional Information. "Municipal Preferred Basic Maintenance Cure Date" has the meaning set forth on page B-35 of this Statement of Additional Information. "Municipal Preferred Basic Maintenance Report" has the meaning set forth on page B-36 of this Statement of Additional Information. "1940 Act" means the Investment Company Act of 1940, as amended. "1940 Act Cure Date" has the meaning set forth on page B-34 of this Statement of Additional Information. "1940 Act Municipal Preferred Asset Coverage" has the meaning set forth on page B-34 of this Statement of Additional Information. "Notice of Redemption" has the meaning set forth on page B-42 of this Statement of Additional Information. "Notice of Special Rate Period" has the meaning set forth on page B-31 of this Statement of Additional Information. "Order" and "Orders" have the respective meanings set forth on page B-15 of this Statement of Additional Information. "Outstanding" means, as of any Auction Date with respect to shares of Municipal Preferred, the number of such shares theretofore issued by the Trust except, without duplication, (i) any shares of Municipal Preferred theretofore canceled or delivered to the Auction Agent for cancellation or redeemed by the Trust, (ii) any shares of Municipal Preferred as to which the Trust or any Affiliate thereof shall be an Existing Holder, and (iii) any shares of Municipal Preferred represented by any certificate in lieu of which a new certificate has been executed and delivered by the Trust. "Person" means and includes an individual, a partnership, a corporation, a trust, an unincorporated association, a joint venture or other entity or a government or any agency or political subdivision thereof. "Potential Beneficial Owner" has the meaning set forth on page B-13 of this Statement of Additional Information. "Potential Holder" has the meaning set forth on page B-13 of this Statement of Additional Information. "Preferred Shares" means the preferred shares of beneficial interest, without par value of the Trust, and includes the Municipal Preferred. "Rate Multiple" has the meaning set forth on page B-19 of this Statement of Additional Information. "Rate Period" has the meaning set forth on page B-13 of this Statement of Additional Information. "Rate Period Days," for any Rate Period or Dividend Period, means the number of days that would constitute such Rate Period or Dividend Period but for the application of the second paragraph under "Description of Municipal Preferred -- Dividends -- General" or the second paragraph under "Description of Municipal Preferred -- Dividends -- Designation of Special Rate Periods." "Receivables for Municipal Obligations Sold," for purposes of calculating Moody's Eligible Assets or Standard & Poor's Eligible Assets, as the case may be, has the meaning set forth on pages B-39 and B-37 of this Statement of Additional Information, respectively. B-64 113 "Redemption Price" has the meaning set forth on page B-41 of this Statement of Additional Information. "Reference Rate" has the meaning set forth on page B-17 of this Statement of Additional Information. "SEC" means the Securities and Exchange Commission. "Securities Depository" means The Depository Trust Company and its successors and assigns or any other securities depository selected by the Trust which agrees to follow the procedures required to be followed by such securities depository in connection with shares of Municipal Preferred. "Sell Order" has the meaning set forth on page B-15 of this Statement of Additional Information. "Special Rate Period" has the meaning set forth on page B-13 of this Statement of Additional Information. "Special Redemption Provisions" has the meaning set forth on page B-40 of this Statement of Additional Information. "Standard & Poor's" means Standard & Poor's Ratings Services, a division of The McGraw-Hill Companies, and its successors. "Standard & Poor's Discount Factors" has the meaning set forth on pages B-36 to B-37 of this Statement of Additional Information. "Standard & Poor's Eligible Assets" has the meaning set forth on page B-36 of this Statement of Additional Information. "Standard & Poor's Exposure Period" has the meaning set forth on pages B-36 to B-37 of this Statement of Additional Information. "Standard & Poor's Volatility Factor" means, as of any Valuation Date, a multiplicative factor equal to (i) 305% in the case of any Minimum Rate Period or any Special Rate Period of 28 Rate Period Days or fewer, (ii) 268% in the case of any Special Rate Period of more than 28 Rate Period Days but fewer than 183 Rate Period Days, and (iii) 204% in the case of any Special Rate Period of more than 182 Rate Period Days. "Submission Deadline" means 1:30 P.M., Eastern time, on any Auction Date or such other time on any Auction Date by which Broker-Dealers are required to submit Orders to the Auction Agent as specified by the Auction Agent from time to time. "Submitted Bid" and "Submitted Bids" have the respective meanings set forth on page B-21 of this Statement of Additional Information. "Submitted Hold Order" and "Submitted Hold Orders" have the respective meanings set forth on page B-21 of this Statement of Additional Information. "Submitted Order" and "Submitted Orders" have the respective meanings set forth on page B-21 of this Statement of Additional Information. "Submitted Sell Order" and "Submitted Sell Orders" have the respective meanings set forth on page B-21 of this Statement of Additional Information. "Subsequent Rate Period" has the meaning set forth on page B-13 of this Statement of Additional Information. "Substitute Commercial Paper Dealer" has the meaning set forth on page B-18 of this Statement of Additional Information. "Substitute U.S. Government Securities Dealer" has the meaning set forth on page B-19 of this Statement of Additional Information. B-65 114 "Sufficient Clearing Bids" has the meaning set forth on page B-21 of this Statement of Additional Information. "Taxable Allocation" has the meaning set forth on page B-28 of this Statement of Additional Information. "Taxable Equivalent of the Short-Term Municipal Bond Rate" has the meaning set forth on page B-17 of this Statement of Additional Information. "Taxable Income" has the meaning set forth on page B-22 of this Statement of Additional Information. "Taxable Yield Rate" has the meaning set forth on page B-22 of this Statement of Additional Information. "Treasury Bill" has the meaning set forth on page B-19 of this Statement of Additional Information. "Treasury Bill Rate" has the meaning set forth on page B-18 of this Statement of Additional Information. "Treasury Note" has the meaning set forth on page B-19 of this Statement of Additional Information. "Treasury Note Rate" has the meaning set forth on page B-19 of this Statement of Additional Information. "Trust" means Colonial Municipal Income Trust, a Massachusetts business trust, which is the issuer of the shares of Municipal Preferred. "U.S. Government Securities Dealer" has the meaning set forth on page B-19 of this Statement of Additional Information. "Valuation Date" has the meaning set forth on page B-35 of this Statement of Additional Information. "Volatility Factor" means, as of any Valuation Date, the greater of the Moody's Volatility Factor and the Standard & Poor's Volatility Factor. "Voting Period" means a period that shall commence (A) if at the close of business on any dividend payment date accumulated dividends (whether or not earned or declared) on any outstanding Preferred Share, including Municipal Preferred, equal to at least two full years' dividends shall be due and unpaid and sufficient cash or specified securities shall not have been deposited with the Auction Agent for the payment of such accumulated dividends; or (B) if at any time holders of Preferred Shares are entitled under the 1940 Act to elect a majority of the trustees of the Trust. "Winning Bid Rate" has the meaning set forth on page B-21 of this Statement of Additional Information. B-66 115 FINANCIAL STATEMENTS INVESTMENT PORTFOLIO NOVEMBER 30, 1998 (IN THOUSANDS) MUNICIPAL BONDS - 98.1% PAR VALUE - ------------------------------------------------------------------------------- EDUCATION - 3.1% EDUCATION - 2.1% CA Statewide Communities Development Authority, Crossroads School for Arts & Sciences, Series 1998, 6.000% 08/01/28 (a) $ 1,200 $ 1,215 IL State Development Finance Authority, Latin School of Chicago, Series 1998: 5.600% 08/01/18 250 254 5.650% 08/01/28 500 507 MA State Industrial Finance Agency, St. John's High School, Series 1998, 5.350% 06/01/28 300 299 MI Southfield Economic Development Corp., Lawrence University, Series 1998-A, 5.400% 02/01/18 1,000 1,003 VT State Educational & Health Buildings Finance Agency, Norwich University, Series 1998, 5.500% 07/01/21 1,000 1,011 -------- 4,289 -------- STUDENT LOAN - 1.0% SD State Student Loan Finance Corp., Series 1996-E, 6.550% 08/01/20 2,000 2,198 -------- - ------------------------------------------------------------------------------- HEALTHCARE - 31.7% HEALTH SERVICES - 0.1% IL State Health Facilities Authority, Midwest Physician Group, Ltd., Series 1998, 5.500% 11/15/19 325 319 -------- F-1 116 HOSPITALS - 9.9% AL Alabama Special Care Facilities Authority, Montgomery Healthcare, Series 1989, 11.000% 10/01/19 2,250 2,284 CO State Health Care Facilities Authority, National Jewish Medical & Research Center, Series 1998, 5.375% 01/01/23 840 837 GA Baldwin County Hospital Authority, Oconee Regional Medical Center, Series 1998, 5.250% 12/01/22 500 489 GA Clayton Hospital Authority, The Woodlands Foundation, Inc., Series 1991-A, 9.750% 05/01/21 (b) 1,500 975 GA Forsyth County Hospital Authority, Georgia Baptist Heathcare System, Series 1998, 6.000% 10/01/08 1,000 996 IL Health Facilities Authority, Thorek Hospital & Medical Center, 5.375% 08/15/28 500 497 LA State Public Facilities Authority, Pendleton Memorial Methodist Hospital, Series 1998, 5.250% 06/01/17 500 487 MA State Health & Educational Facilities Authority, Milford-Whitinsville Regional Hospital, Series C, 5.250% 07/15/18 500 494 MI Flint Hospital Building Authority, Hurley Medical Center, Series 1998-A, 5.375% 07/01/20 625 621 MN St. Paul Housing & Redevelopment Authority, Healtheast Project, Series A, 5.700% 11/01/15 2,000 2,046 MN Washington County Housing & Redevelopment Authority, Healtheast, Inc., Series 1998, 5.250% 11/15/12 1,250 1,229 MO State Housing Development Commission, Freeman Health Systems, Series 1998, 5.250% 02/15/18 750 740 F-2 117 MS State Business Finance Corp., Medical Foundation, Inc., Series 1998, 5.625% 07/01/23 1,150 1,156 NH State Higher Educational & Health Facilities Authority, Littleton Hospital Assoc., Inc.: Series 1998-A, 5.900% 05/01/28 675 670 6.000% 05/01/28 625 632 OH Belmont County, East Ohio Regional Hospital, Series 1998, 5.700% 01/01/13 1,500 1,481 OH Sandusky County, Memorial Hospital, Series 1998, 5.150% 01/01/08 270 276 PA Allegheny County Hospital Development, Ohio Valley General Hospital, Series 1998-A, 5.450% 01/01/28 1,050 1,050 PA Pottsville Hospital Authority, Pottsville Hospital & Warner Clinic, Series 1998, 5.625% 07/01/24 755 759 TX Lufkin Health Facilities Development Corp., Memorial Health Systems of East Texas, Series 1998, 5.700% 02/15/28 750 760 VT State Educational & Health Buildings Finance Agency, Springfield Hospital, Series A, 7.750% 01/01/13 1,040 1,172 VT State Educational & Health Buildings Finance Agency, Brattleboro Memorial Hospital, 5.375% 03/01/28 1,000 985 -------- 20,636 -------- INTERMEDIATE CARE FACILITIES - 1.4% MA State Health & Educational Facilities Authority, Corp. for Independent Living, 8.100% 07/01/18 680 761 PA State Economic Development Financing Authority, Northwestern Human Services, Inc., F-3 118 Series 1998-A, 5.250% 06/01/14 2,150 2,105 -------- 2,866 -------- LIFECARE - 3.7% CO Health Care Facilities Authority, National Benevolent Association: Series 1998-A, 5.250% 01/01/27 430 423 Series 1998-B, 5.250% 02/01/18 1,000 984 KY State Economic Development Finance Authority, Christian Church Homes of Kentucky, Inc., Series 1998, 5.500% 11/15/30 750 751 MI State Strategic Fund, Holland Home, Series 1998, 5.750% 11/15/18 1,250 1,234 MN Columbia Heights, Crest View Corp., Series 1998, 6.000% 03/01/33 745 746 NH State Higher Educational & Health Facilities Authority, Rivermead at Peterborough, Series 1998, 5.750% 07/01/28 500 496 PA Philadelphia Authority for Industrial Development, Baptist Home of Philadelphia, Series 1998-A: 5.500% 11/15/18 360 355 5.600% 11/15/28 570 554 TN Metropolitan Government, Nashville & Davidson County, Blakeford at Green Hills, Series 1998, 5.650% 07/01/24 575 563 TX Abilene Health Facilities Development Corp., Sears Methodist Retirement Obligation Group, Series 1998-A, 5.900% 11/15/25 750 742 WI State Health & Educational Facilities Authority, Attic Angel Obligated Group, 5.750% 11/15/27 875 853 F-4 119 -------- 7,701 -------- NURSING HOMES - 16.6% CO State Health Facilities Authority, American Housing Foundation, Inc., Series 1990-A, 10.250% 12/01/20 1,500 1,500 CO State Health Facilities Authority, Volunteers of America Care Facilities, Inc., Series 1998-A: 5.450% 07/01/08 250 250 5.750% 07/01/20 700 688 DE State Economic Development Authority, Georgetown Health Center, 12.000% 04/01/25 2,225 2,398 DE Sussex County, Healthcare Facility, Delaware Health Corp., Series 1994-A, 7.600% 01/01/24 1,000 1,059 IA State Finance Authority, Care Initiatives Project: Series 1996, 9.250% 07/01/25 1,000 1,335 Series 1998-B: 5.750% 07/01/18 550 549 5.750% 07/01/28 1,475 1,462 IN Gary Industrial Economic Development, West Side Health Care Center, Series 1987-A, 11.500% 10/01/17 2,435 2,516 IN Michigan City Health Facilities, Metro Health Foundation, Inc. Project, 10.000% 11/01/22 4,500 4,500 KS Halstead Industrial Kansas Health Care Project, 10.250% 08/01/13 (b) 1,330 452 KY Jefferson County First Mortgage AHF Kentucky Iowa, Inc. Project, Series 1990, 10.250% 01/01/20 960 1,001 KY Lexington-Fayette Urban County Government, First Mortgage, AHF Kentucky-Iowa, Inc. Project, Series 1990, 10.250% 01/01/20 960 1,001 F-5 120 MA Boston, St. Joseph Nursing Care Center, Inc., Series 1990, 10.000% 01/01/20 (c) 1,915 2,059 MA State Industrial Finance Agency: American Health Foundation, Inc., Series 1989, 10.125% 03/01/19 (b) 475 356 GF/Massachusetts, Inc., Series 1994, 8.300% 07/01/23 970 1,089 MI Cheboygan County Economic Development Corp., Metro Health Foundation Project, Series 1993, 10.000% 11/01/22 2,440 2,440 MN Duluth Economic Development Authority, BSM Properties, Series 1998-A, 5.875% 12/01/28 250 249 MN Minneapolis, Walker Methodist Senior Services Group, Series 1998-A, 6.000% 11/15/28 (d) 1,000 998 MO Springfield Industrial Development Authority, 10.250% 12/01/10 1,125 1,130 NJ Economic Development Authority Geriatric and Medical Service, Inc., Series A, 10.500% 05/01/04 650 689 NM State Hospital Equipment Loan Council, Memorial Medical Center, Series 1998, 5.500% 06/01/28 1,000 979 OH Montgomery County, Grafton Oaks Limited Partners, Series 1986, 9.750% 12/01/16 1,480 1,406 OK Muskogee County Economic Development Authority Health Facilities, Heartway Corp.: Series A, 9.500% 03/01/19 1,545 1,576 Series B, (e) 03/01/19 250 63 TN New Tazewell Health Education and Housing Facilities Board, New Tazewell, Series 1987, 10.000% 06/01/17 1,585 1,587 F-6 121 TX Kirbyville Health Facilities Development Corp., Heartway III Project: Series 1997-A, 10.000% 03/20/18 591 593 Series 1997-B, (e) 03/20/04 100 54 WA Kitsap County Housing Authority, Martha & Mary Nursing Home, 7.100% 02/20/36 643 764 -------- 34,743 -------- HOUSING - 13.5% ASSISTED LIVING/SENIOR - 4.8% IL Clarendon Hills Residential Facilities, Churchill Estate, Series 1998 A: 6.750% 03/01/24 1,050 1,067 6.750% 03/01/31 1,365 1,387 IL State Development Finance Authority, Care Institute, Inc., 8.250% 06/01/25 1,500 1,688 MA Boston Industrial Development Finance Authority, Springhouse, Inc., Series 1988, 5.875% 07/01/20 500 497 MN Roseville, Care Institute, Inc., Series 1993, 7.750% 11/01/23 1,610 1,626 PA Montgomery County Industrial Development Authority, Assisted Living Facility, Series 1993-A, 8.250% 05/01/23 800 887 TX Bell County Health Facilities Development Corp., Care Institute, Inc., 9.000% 11/01/24 1,500 1,719 WI State Health & Educational Facilities Authority, United Lutheran Program for Aging, Inc., 5.700% 03/01/28 750 740 WI State Health & Educational Facilities Authority, Clement Manor, Series 1998, 5.750% 08/15/24 450 435 -------- F-7 122 10,046 -------- MULTI-FAMILY - 7.9% DE Wilmington, Electra Arms Senior Association Project, 6.250% 06/01/28 1,000 977 FL State Housing Finance Agency, Windsong Apartments, Series 1993-C, 9.250% 01/01/19 830 747 IL Chicago, Michigan Boulevard Garden Apartment Rehabilitation Project, Series 1985, 12.000% 01/01/00 185 166 MN Washington County Housing & Redevelopment Authority, Cottages of Aspen, Series 1992, 9.250% 06/01/22 1,070 1,181 MN White Bear Lake, Birch Lake Townhomes Project: Series 1989-A, 10.250% 07/15/19 1,770 1,797 Series 1989-B, (e) 07/15/19 (f) 671 201 NC Eastern Carolina Regional Housing Authority, New River Apartments Jacksonville, Series 1994, 8.250% 09/01/14 1,850 2,000 Resolution Trust Corp., Pass Through Certificates, Series 1993-A, 9.500% 12/01/16 (g) 4,248 4,381 SC State Housing Finance and Development Multi-Family Housing Finance Revenue, Westbridge Apartments, Series A, 9.500% 09/01/20 2,143 2,202 TN Franklin Industrial Board, Landings Apartment Project, Series 1996-B, 8.750% 04/01/27 785 803 TX Galveston Health Facilities Center, Driftwood Apartments, 8.000% 08/01/23 1,000 1,074 VA Alexandria Redevelopment & Housing Authority, Courthouse Commons Apartments, Series 1990-A, 10.000% 01/01/21 1,000 1,020 F-8 123 -------- 16,549 -------- SINGLE FAMILY - 0.8% AK State Housing Finance Corp., Series 1996-A, 6.050% 12/01/17 800 857 KY Kentucky Counties Single-Family Mortgage Revenue, Class A, 9.000% 09/01/16 30 30 PA Allegheny County, Residential Financial Authority, Single Family Mortgage, Series 1987-G, 9.500% 12/01/18 660 667 -------- 1,554 -------- - ------------------------------------------------------------------------------- OTHER - 13.0% OTHER - 2.0% IN Hammond, American Maize Products Co., Series 1994, 8.000% 12/01/24 2,000 2,338 LA Port New Orleans Industrial Development, Continental Grain Co., Series 1993, 7.500% 07/01/13 1,000 1,061 MD Baltimore, Park Charles Project, Series 1986, 8.000% 01/01/10 755 812 -------- 4,211 -------- REFUNDED/ESCROWED (H) - 11.0% CA San Joaquin Hills Transportation Corridor Agency, Series 1993, (e) 01/01/25 (i) 10,000 2,705 FL Clearwater Housing Authority, Hampton Apartments, Series 1994, 8.250% 05/01/24 2,500 3,081 ID State Health Facilities Authority, IHC Hospitals, Inc., 8.700% 02/15/21 2,750 3,385 F-9 124 IL Health Facilities Authority, Edgewater Medical Center, Series A, 9.250% 07/01/24 2,235 2,840 MA State Industrial Finance Agency, Tunnel Revenue, Series 1990, 9.000% 10/01/20 920 1,026 MN Mille Lacs Capital Improvement Authority, Mille Lacs Band of Chippewa, Series 1992-A, 9.250% 11/01/12 1,015 1,241 NC Lincoln County, Lincoln County Hospital, 9.000% 05/01/07 470 568 NM City of Clovis, Retirement Ranches Project: 10.750% 04/01/19 1,920 2,024 10.750% 04/01/19 190 200 PA Delaware County Authority, Health Facility Mercy Health Corp. Project, Series 1996: 6.000% 12/15/16 1,400 1,568 6.000% 12/15/26 500 562 TN Shelby County, Health, Education, & Housing Facilities Board, Open Arms Development Center: Series 1992-A, 9.750% 08/01/19 505 716 Series 1992-C, 9.750% 08/01/19 515 730 WA State Health Care Facilities Authority, Grays Harbor Community Hospital, Series 1993: 7.200% 07/01/03 330 353 8.025% 07/01/20 1,770 1,956 -------- 22,955 -------- - ------------------------------------------------------------------------------- OTHER REVENUE - 10.4% CHEMICALS - 1.1% LA St. Charles Parish, Union Carbide Corp., Series 1992, F-10 125 7.350% 11/01/22 2,000 2,199 -------- INDUSTRIAL - 6.2% CO Mesa County Industrial Development Joy Technologies, Inc., Series 1992, 8.500% 09/15/06 1,500 1,671 IL State Development Finance Authority, Armstrong World Industries, Inc. Project, 5.950% 12/01/24 1,000 1,119 IL Will-Kankakee Regional Development Authority, Flanders Corp./Precisionaire Project, Series 1997, 6.500% 12/15/17 975 1,031 LA Southern Louisiana Port Commission, Cargill, Inc. Project, 5.850% 04/01/17 500 536 MA State Industrial Finance Agency, House of Bianchi, Inc., 8.750% 06/01/18 280 288 MI State Strategic Fund, Michigan Sugar Co., Sebewang Project, Series 1998-A, 6.250% 11/01/15 1,000 996 MN Brooklyn Park, TL Systems Corp., Series 1991, 10.000% 09/01/16 770 938 NV Henderson Public Improvement Trust, Dongsung America Co., Inc., Series 1998, 7.000% 11/01/10 500 501 OH Cuyahoga County, Joy Technologies, Inc., Series 1992, 8.750% 09/15/07 550 617 TX Trinity River Authority, Texas Instruments Project, Series 1996, 6.200% 03/01/20 750 818 VA Halifax County Industrial Development, Craddock-Terry, Inc., Series 1989, 10.000% 12/01/19 (b) 677 203 VA Pittsylvania County Industrial Development, Craddock-Terry, Inc., Series 1989, 10.000% 12/01/19 (b) 533 219 VA Prince Edward County Industrial F-11 126 Development, Craddock-Terry, Inc., Series 1989, 10.000% 12/01/19 (b) 1,610 966 WA Pilchuck Public Development Corp., Goodrich (B.F.) Co. Tramco Project, Series 1993, 6.000% 08/01/23 3,000 3,096 -------- 12,999 -------- OIL & GAS - 0.7% WA Pierce County Economic Development Corp., Occidental Petroleum Co., 5.800% 09/01/29 1,500 1,517 -------- PAPER PRODUCTS - 1.0% SC Darlington County, Industrial Development Authority, Sonoco Products Co. Project, 6.125% 06/01/25 2,000 2,140 -------- RECREATION - 0.5% NM Red River Sports, 6.450% 06/01/07 1,000 1,005 -------- RETAIL - 0.9% NJ State Economic Development Authority, Glimcher Properties L.P. Project, 6.000% 11/01/28 1,000 1,001 OH Lake County, North Madison Properties, Series 1993, 8.819% 09/01/11 710 815 -------- 1,816 -------- RESOURCE RECOVERY - 3.7% DISPOSAL - 2.7% CT State Development Authority, Sewer Sludge Disposal Facilities, Series 1996, 8.250% 12/01/06 1,250 1,417 GA Fulton County Development F-12 127 Authority, Very, Inc., 10.500% 12/01/07 1,120 1,185 MA Boston Industrial Development Finance Authority, Jet-A-Way, Inc., 10.500% 01/01/11 1,000 1,114 MA State Industrial Finance Agency: Massachusetts Environmental Services, Series 1994-A, 8.750% 11/01/21 (b) 975 780 Peabody Monofill Associates, Inc., Series 1995, 9.000% 09/01/05 1,025 1,134 -------- 5,630 -------- RESOURCE RECOVERY - 1.0% MA State Industrial Finance Agency, Ogden Haverhill Project, Series 1998-A, 5.500% 12/01/13 1,000 1,014 PA Delaware County Industrial Development Authority, Series A, 6.200% 07/01/19 1,000 1,071 -------- 2,085 -------- - ------------------------------------------------------------------------------- TAX-BACKED - 6.7% LOCAL APPROPRIATED - 0.5% CA Compton, Civic Center Project, 5.500% 09/01/15 1,000 1,023 -------- LOCAL GENERAL OBLIGATIONS - 1.3% LA New Orleans, Series 1991, (e) 09/01/15 4,000 1,720 TX Irving Independent School District, Series 1997: (e) 02/15/15 1,500 679 (e) 02/15/16 1,000 427 -------- 2,826 F-13 128 -------- SPECIAL NON-PROPERTY TAX - 3.4% IL Metropolitan Pier & Exposition Authority, Series 1996-A, (e) 12/15/13 (i) 5,000 2,407 IL Metropolitan Pier & Exposition Authority, McCormick Project: (e) 06/15/14 (i) 5,000 2,331 (e) 06/15/15 3,000 1,321 IL State Development Finance Authority, City of Marion Project, Series 1991, 9.625% 09/15/21 1,445 1,084 -------- 7,143 -------- SPECIAL PROPERTY TAX - 1.5% CA Poway Community Facilities District, No. 88-1 Parkway Business Center, Series 1998, 6.750% 08/15/15 575 629 CA Riverside County Public Financing Authority Redevelopment Projects, Series A, 5.500% 10/01/22 650 663 CA Yorba Linda Redevelopment Agency, Series 1998-A, (e) 09/01/24 1,325 356 FL Lexington Oaks Community Development District, Series 1998-A, 6.125% 05/01/19 800 805 FL Orlando, Conroy Road Interchange Project, Series 1998-A: 5.500% 05/01/10 (d) 125 124 5.800% 05/01/26 (d) 500 492 -------- 3,069 -------- - ------------------------------------------------------------------------------- TRANSPORTATION - 4.8% AIR TRANSPORTATION - 3.9% IN Indianapolis Airport Authority: Federal Express Corp., Series 1994, F-14 129 7.100% 01/15/17 2,000 2,227 United Airlines Project, Series A, 6.500% 11/15/31 2,000 2,142 KY Kenton County Airport Board, Delta Airlines, Inc., Series 1992-A, 7.500% 02/01/20 2,500 2,737 TX Alliance Airport Authority, Federal Express Corp., Series 1996, 6.375% 04/01/21 1,000 1,078 -------- 8,184 -------- AIRPORT - 0.3% OH Toledo-Lucas County Port Authority, Series 1998, 5.500% 05/15/20 585 573 ----------- TOLL FACILITIES - 0.6% CA San Joaquin Hills Transportation Corridor Agency, Series A, (e) 01/15/15 3,000 1,361 ----------- - ------------------------------------------------------------------------------ UTILITY - 11.2% INDIVIDUAL POWER PRODUCER - 3.9% FL Martin County Industrial Development Authority, Indiantown Cogeneration Project, Series 1994-A, 7.875% 12/15/25 1,000 1,153 NY Port Authority of New York & New Jersey, KIAC Partners, Series 1996-IV, 6.750% 10/01/11 2,000 2,242 PA Economic Development Finance Authority, Colver Project, Series D: 7.125% 12/01/15 500 555 7.150% 12/01/18 3,750 4,174 -------- 8,124 -------- F-15 130 INVESTOR OWNED - 2.9% AZ Pima County Industrial Development Authority, Tucson Electric Power Co., Series A, 6.100% 09/01/25 750 757 CT State Development Authority, Connecticut Light & Power Co., Series 1993-B, 5.950% 09/01/28 300 301 IL Bryant Pollution Control Revenue, Central Illinois Light Co., Series 1993, 5.900% 08/01/23 2,000 2,080 MS State Business Finance Corp., Systems Energy Resources Project, Series 1998, 5.875% 04/01/22 1,500 1,494 NM Farmington, San Juan Public Service Co. Project, Series D, 6.375% 04/01/22 1,250 1,342 -------- 5,974 -------- MUNICIPAL ELECTRIC - 2.1% TX Austin Utility System Revenue, Series 1994: (e) 05/15/17 (i) 6,600 2,629 (e) 05/15/18 (i) 5,000 1,884 -------- 4,513 -------- WATER & SEWER - 2.3% LA Public Facility Belmont Water Authority, 9.000% 03/15/24 (j) 730 657 MS Five Lakes Utility District, 8.250% 07/15/24 500 400 NJ State Economic Development Authority, Hills Development Co., 10.500% 09/01/08 2,100 2,155 TX Houston Water & Sewer System, Series C, (e) 12/01/12 (i) 3,000 1,555 -------- F-16 131 4,767 -------- TOTAL MUNICIPAL BONDS (cost of $196,856)(k) 205,015 -------- SHORT-TERM OBLIGATIONS - 1.0% - ------------------------------------------------------------------------------ VARIABLE RATE DEMAND NOTES (l) CA Irvine Improvement Bond Act of 1915: Series 1997, 3.250% 09/02/22 300 300 Series 1998, 3.250% 09/02/23 200 200 CA State Health Facilities Financing Authority, Sutter Health, Series A, 3.250% 03/01/20 700 700 MI Flint Hospital Building Authority, Hurley Medical Center, Series 1995-B, 3.400% 07/01/15 200 200 MS Perry County, Leaf River Forest Project, 3.250% 03/01/02 300 300 NM Farmington, Arizona Public Service Co., Four Corners Project, Series 1994-B, 3.250% 09/01/24 200 200 NY New York City Municipal Water Finance Authority, Series 1995-A, 3.750% 06/15/25 200 200 -------- TOTAL SHORT-TERM OBLIGATIONS 2,100 -------- OTHER ASSETS & LIABILITIES, NET - 0.9% 1,816 - ------------------------------------------------------------------------------ NET ASSETS - 100% $208,931 -------- NOTES TO INVESTMENT PORTFOLIO: - ------------------------------------------------------------------------------ F-17 132 (a) This is a restricted security which was acquired on August 21, 1998 and August 31, 1998 at an aggregate cost of $1,200. This security represents 0.6% of the Fund's net assets as of November 30, 1998. (b) This issuer is in default of certain debt covenants. Income is not being accrued. (c) This is a restricted security which was acquired on April 25, 1990 at a cost of $1,921. This security represents 1.0% of the Fund's net assets at November 30, 1998. (d) This security has been purchased on a delayed delivery basis for settlement at a future date beyond the customary settlement date. (e) Zero coupon bond. (f) Accrued interest accumulates in the value of the security and is payable at redemption. The value of this security represents fair value as determined under procedures approved by the Trustees. (g) Security is exempt from registration under Rule 144A of the Securities Act of 1933. This security may be resold in transactions exempt from registration, normally to qualified institutional buyers. At November 30, 1998, the value of this security amounted to $4,381 or 2.1% of net assets. (h) The Fund has been informed that each issuer has placed direct obligations of the U.S. Government in an irrevocable trust, solely for the payment of the interest and principal. (i) These securities, or a portion thereof, with a total market value of $12,192, are being used to collateralize the delayed delivery purchases indicated in note (d) above and open future contracts. (j) This is a restricted security which was acquired on March 22, 1994 at a cost of $730. This security represents 0.3% of the Fund's net assets as of November 30, 1998. (k) Cost for federal income tax purposes is $196,921. (l) Variable rate demand notes are considered short-term obligations. Interest rates change periodically on specified dates. These securities are payable on demand and are secured by either letters of credit or other credit support agreements from banks. The rates listed are as of November 30, 1998. Short futures contracts open at November 30, 1998:
Unrealized Par value Expiration depreciation Type covered by contracts month at 11/30/98
F-18 133 - -------------------------------------------------------------------------------- Treasury Bond $200 March $ 5
See notes to financial statements. STATEMENT OF ASSETS & LIABILITIES NOVEMBER 30, 1998
(in thousands except for per share amount) ASSETS Investments at value (cost $196,856) $205,015 Short-term obligations 2,100 -------- 207,115 Receivable for: Interest $ 4,262 Investments sold 330 Other 12 4,604 ------- -------- Total Assets 211,719 LIABILITIES Payable for: Investments purchased 1,615 Distributions 1,131 Payable due to custodian bank 18 Variation margin on futures 3 Accrued: Deferred Trustees fees 2 Other 19 ------- Total Liabilities 2,788 -------- NET ASSETS at value for 27,590 shares of beneficial interest outstanding $208,931 -------- Net asset value per share $ 7.57 -------- COMPOSITION OF NET ASSETS Capital paid in $244,568 Overdistributed net investment income (96) Accumulated net realized loss (43,695) Net unrealized appreciation (depreciation) on:
F-19 134 Investments 8,159 Open futures contracts (5) -------- $208,931 --------
See notes to financial statements. STATEMENT OF OPERATIONS FOR THE YEAR ENDED NOVEMBER 30, 1998
(in thousands) INVESTMENT INCOME Interest $ 14,607 EXPENSES Management fee $ 1,353 Transfer agent 65 Bookkeeping fee 55 Trustees fee 14 Custodian fee 4 Audit fee 32 Legal fee 100 Reports to shareholders 12 Other 65 1,700 ------- -------- Net Investment Income 12,907 -------- NET REALIZED & UNREALIZED GAIN (LOSS) ON PORTFOLIO POSITIONS Net realized gain 4,942 Net change in unrealized appreciation (depreciation) during the period on: Investments 64 Open futures contracts (38) ------- Net unrealized appreciation 26 -------- Net Gain 4,968 -------- Increase in Net Assets from Operations $ 17,875 --------
F-20 135 See notes to financial statements. STATEMENT OF CHANGES IN NET ASSETS
(in thousands) Year ended November 30 -------------------------- INCREASE (DECREASE) IN NET ASSETS 1998 1997 Operations: Net investment income $ 12,907 $ 13,806 Net realized gain (loss) 4,942 (7,104) Net unrealized appreciation 26 7,312 -------- -------- Net Increase from Operations 17,875 14,014 Distributions: From net investment income (13,417) (13,887) In excess of net investment income (124) -- -------- -------- 4,334 127 Fund Share Transactions: Value of distributions reinvested 1,064 613 -------- -------- Total Increase 5,398 740 NET ASSETS Beginning of period 203,533 202,793 -------- -------- End of period (net of overdistributed and including undistributed net investment income of $96 and $510, respectively) $208,931 $203,533 -------- -------- NUMBER OF FUND SHARES Issued for distributions reinvested 141 82 Outstanding at Beginning of period 27,449 27,367 -------- --------
F-21 136 End of period 27,590 27,449 -------- --------
See notes to financial statements. NOTES TO FINANCIAL STATEMENTS NOVEMBER 30, 1998 NOTE 1. ACCOUNTING POLICIES - -------------------------------------------------------------------------------- ORGANIZATION: Colonial Municipal Income Trust (the Trust) is a Massachusetts business trust, registered under the Investment Company Act of 1940, as amended, as a diversified closed-end, management investment company. The Trust's primary investment objective is to provide high current income, generally exempt from federal income taxes, by investing primarily in medium and lower quality municipal securities. The Trust's secondary objective is to preserve its capital. The trust authorized an unlimited number of shares. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The following is a summary of significant accounting policies that are consistently followed by the Trust in the preparation of its financial statements. SECURITY VALUATION AND TRANSACTIONS: Debt securities generally are valued by a pricing service based upon market transactions for normal, institutional-size trading units of similar securities. When management deems it appropriate, an over-the-counter or exchange bid quotation is used. Futures contracts are valued based on the difference between the last sale price and the opening price of the contract. Options are valued at the last reported sale price, or in the absence of a sale, the mean between the last quoted bid and asking price. Short-term obligations with a maturity of 60 days or less are valued at amortized cost. Portfolio positions for which market quotations are not readily available are valued at fair value under procedures approved by the Trustees. F-22 137 Security transactions are accounted for on the date the securities are purchased, sold or mature. Cost is determined and gains (losses) are based upon the specific identification method for both financial statement and federal income tax purposes. The Trust may trade securities on other than normal settlement terms. This may increase the risk if the other party to the transaction fails to deliver and causes the Trust to subsequently invest at less advantageous prices. FEDERAL INCOME TAXES: Consistent with the Trust's policy to qualify as a regulated investment company and to distribute all of its taxable and tax-exempt income, no federal income tax has been accrued. INTEREST INCOME, DEBT DISCOUNT AND PREMIUM: Interest income is recorded on the accrual basis. Original issue discount is accreted to interest income over the life of a security with a corresponding increase in the cost basis; market discount is not accreted. Premium is amortized against interest income with a corresponding decrease in the cost basis. DISTRIBUTIONS TO SHAREHOLDERS: Distributions to shareholders are recorded on the ex-date. The amount and character of income and gains to be distributed are determined in accordance with income tax regulations which may differ from generally accepted accounting principles. Reclassifications are made to the Trust's capital accounts to reflect income and gains available for distribution (or available capital loss carryforwards) under income tax regulations. NOTE 2. FEES AND COMPENSATION PAID TO AFFILIATES - -------------------------------------------------------------------------------- MANAGEMENT FEE: Colonial Management Associates, Inc. (the Advisor) is the investment Advisor of the Trust and furnishes accounting and other services and office facilities for a monthly fee equal to 0.65% annually of the Trust's average weekly net assets. BOOKKEEPING FEE: The Advisor provides bookkeeping and pricing services for $18,000 per year plus 0.0233% of the Trust's average net assets over $50 million. OTHER: The Trust pays no compensation to its officers, all of whom are employees F-23 138 of the Advisor. The Trust's Trustees may participate in a deferred compensation plan which may be terminated at any time. Obligations of the plan will be paid solely out of the Trust's assets. NOTE 3. PORTFOLIO INFORMATION - -------------------------------------------------------------------------------- INVESTMENT ACTIVITY: During the year ended November 30, 1998, purchases and sales of investments, other than short-term obligations, were $69,789,070 and $68,432,873, respectively. Unrealized appreciation (depreciation) at November 30, 1998, based on cost of investments for federal income tax purposes was approximately: Gross unrealized appreciation $13,775,000 Gross unrealized depreciation (5,681,000) ----------- Net unrealized appreciation $ 8,094,000 -----------
CAPITAL LOSS CARRYFORWARDS: At November 30, 1998, capital loss carryforwards available (to the extent provided in regulations) to offset future realized gains were approximately as follows:
Year of Capital loss expiration carryforward ---------- ------------ 1999 6,352,000 2000 9,103,000 2001 7,979,000 2002 5,301,000 2003 7,499,000 2004 4,000 2005 7,197,000 ----------- $43,435,000 -----------
Expired capital loss carryforwards, if any, are recorded as a reduction of capital paid in. To the extent loss carryforwards are used to offset any future realized gains, it is unlikely that such gains would be distributed since they may be taxable to shareholders as ordinary income. OTHER: There are certain risks arising from geographic concentration in F-24 139 any state. Certain revenue or tax related events in a state may impair the ability of certain issuers of municipal securities to pay principal and interest on their obligations. The Trust may focus its investments in certain industries, subjecting it to greater risk than a trust that is more diversified. The Trust may purchase or sell municipal and Treasury bond futures contracts and purchase and write options on futures. The Trust will invest in these instruments to hedge against the effects of changes in the value of portfolio securities due to anticipated changes in interest rates and/or market conditions, for duration management, or when the transactions are economically appropriate to the reduction of risk inherent in the management of the Trust and not for trading purposes. The use of futures contracts and options involves certain risks which include (1) imperfect correlation between the price movement of the instruments and the underlying securities, (2) inability to close out a position due to different trading hours, or the temporary absence of a liquid market for either the instrument or the underlying securities or (3) an inaccurate prediction by the Advisor of the future direction of interest rates. Any of these risks may involve amounts exceeding the variation margin recorded in the Trust's Statement of Assets and Liabilities at any given time. FINANCIAL HIGHLIGHTS Selected per share data, total return, ratios and supplemental data throughout each period are as follows:
Year ended November 30 ---------------------------------------- 1998 1997 1996 Net asset value - Beginning of period $ 7.410 $ 7.410 $ 7.480 ------- ------- ------- INCOME FROM INVESTMENT OPERATIONS: Net investment income 0.469 0.509 0.508 Net realized and unrealized gain (loss) 0.183 (0.002) (0.068) ------- ------- ------- Total from Investment Operations 0.652 0.507 0.440
F-25 140 ------- ------- ------- LESS DISTRIBUTIONS DECLARED TO SHAREHOLDERS: From net investment income (0.487) (0.507) (0.510) In excess of net investment income (0.005) - - ------- ------- ------- Total Distributions Declared to Shareholders (0.492) (0.507) (0.510) ------- ------- ------- Net asset value - End of period $ 7.570 $ 7.410 $ 7.410 ------- ------- ------- Market price per share - End of period $ 8.125 $ 7.560 $ 7.250 ------- ------- ------- Total return - based on net asset value (a) 8.99% 7.07% 6.38% ------- ------- ------- Total return - based on market value (b) 14.57% 11.67% 15.36% ------- ------- ------- RATIOS TO AVERAGE NET ASSETS Expenses 0.82% (c) 0.86% (c) 0.91% (c) Net investment income 6.20% (c) 6.83% (c) 6.87% (c) Portfolio turnover 34% 15% 22% Net assets at end of period (000) $208,931 $203,533 $202,793
(a) Total return at net asset value assuming all distributions reinvested. (b) Total return at market value assuming all distributions reinvested and excluding brokerage commissions. (c) The benefits derived from custody credits and directed brokerage arrangements had no impact. Prior years' ratios are net of benefits received, if any. FINANCIAL HIGHLIGHTS - CONT.
Year ended November 30
F-26 141
---------------------- 1995 1994 $ 7.150 $ 7.830 ------- ------- 0.547 0.609 0.335 (0.707) ------- ------- 0.882 (0.098) ------- ------- (0.552) (0.582) - - ------- ------- (0.552) (0.582) ------- ------- $ 7.480 $ 7.150 ------- ------- $ 6.750 $ 6.750 ------- ------- 12.96% (0.42)% ------- ------- 8.04% (10.06)% ------- ------- 0.98% (c) 0.90% 7.47% (c) 8.12% 24% 24% $204,666 $195,444
------------------------------------------------------------------- Federal income tax information (unaudited) All of the distributions will be treated as exempt income for federal income tax purposes. ------------------------------------------------------------------- F-27 142 REPORT OF INDEPENDENT ACCOUNTANTS TO THE SHAREHOLDERS AND THE TRUSTEES OF COLONIAL MUNICIPAL INCOME TRUST In our opinion, the accompanying statement of assets and liabilities, including the investment portfolio, and the related statements of operations and of changes in net assets and the financial highlights present fairly, in all material respects, the financial position of Colonial Municipal Income Trust at November 30, 1998, the results of its operations, the changes in its net assets and the financial highlights for the periods indicated, in conformity with generally accepted accounting principles. These financial statements and the financial highlights (hereafter referred to as 'financial statements') are the responsibility of the Trust's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these financial statements in accordance with generally accepted auditing standards which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits, which included confirmation of portfolio positions at November 30, 1998 by correspondence with the custodian and brokers, provide a reasonable basis for the opinion expressed above. PricewaterhouseCoopers LLP Boston, Massachusetts January 13, 1999 F-28 143 APPENDIX A RATINGS OF INVESTMENTS STANDARD & POOR'S RATINGS SERVICES -- A brief description of the applicable Standard & Poor's Ratings Services ("S&P") rating symbols and their meanings (as published by S&P) follows: LONG TERM DEBT An S&P corporate or 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 S&P from other sources it considers reliable. S&P 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 based on other circumstances. The ratings are based, in varying degrees, on the following considerations: 1. 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; 2. Nature of and provisions of the obligation; 3. 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. INVESTMENT GRADE 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 highest rated issues only in small degree. A Debt rated 'A' has a strong capacity to pay interest and repay principal although it is somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than debt in higher rated categories. BBB Debt rated 'BBB' is regarded as having 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. SPECULATIVE GRADE RATING Debt rated 'BB', 'B', 'CCC', 'CC' and 'C' is regarded as having predominantly speculative characteristics with respect to capacity to pay interest and repay principal. 'BB' indicates the least degree of speculation and 'C' the highest. While such debt will likely have some quality and protective characteristics, these are outweighed by major uncertainties or major exposures to adverse conditions. BB Debt rated 'BB' has less near-term vulnerability to default than other speculative issues. However, it faces major ongoing uncertainties or exposure to adverse business, financial, or economic conditions which could lead to inadequate capacity to meet timely interest and principal payments. A-1 144 The 'BB' rating category is also used for debt subordinated to senior debt that is assigned an actual or implied 'BBB-' rating. B Debt rated 'B' has a greater vulnerability to default but currently has the capacity to meet interest payments and principal repayments. Adverse business, financial, or economic conditions will likely impair capacity or willingness to pay interest and repay principal. The 'B' rating category is also used for debt subordinated to senior debt that is assigned an actual or implied 'BB' or 'BB-' rating. CCC Debt rated 'CCC' has a currently identifiable vulnerability to default, and is dependent upon favorable business, financial, and economic conditions to meet timely payment of interest and repayment of principal. In the event of adverse business, financial, or economic conditions, it is not likely to have the capacity to pay interest and repay principal. The 'CCC' rating category is also used for debt subordinated to senior debt that is assigned an actual or implied 'B' or 'B-' rating. CC The rating 'CC' typically is applied to debt subordinated to senior debt that is assigned an actual or implied 'CCC' debt rating. C The rating 'C' typically is applied to debt subordinated to senior debt which is assigned an actual or implied 'CCC-' debt rating. The 'C' rating may be used to cover a situation where a bankruptcy petition has been filed, but debt service payments are continued. 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 S&P believes that such payments will be made during such grace period. The 'D' rating also will be used upon the filing of a bankruptcy petition if debt service payments are jeopardized. PLUS (+) OR MINUS (-): The ratings from 'AA' to 'CCC' may be modified by the addition of a plus or minus sign to show relative standing within the major rating categories. PROVISIONAL RATINGS: The letter "p" indicates that the rating is provisional. A provisional rating assumes the successful completion of the project financed by the debt being rated and indicates that payment of debt service requirements is largely or entirely dependent upon the successful and timely completion of the project. This rating, however, while addressing credit quality subsequent to completion of the project, makes no comment on the likelihood of, or the risk of default upon failure of, such completion. The investor should exercise judgment with respect to such likelihood and risk. NR Indicates no rating has been requested, that there is insufficient information on which to base a rating, or that S&P does not rate a particular type of obligation as a matter of policy. MUNICIPAL NOTES An S&P 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). A-2 145 NOTE RATING SYMBOLS ARE AS FOLLOWS: SP-1 Very strong or strong capacity to pay principal and interest. Those issues determined to possess overwhelming safety characteristics will be given a plus (+) designation. SP-2 Satisfactory capacity to pay principal and interest. SP-3 Speculative capacity to pay principal and interest. A note 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 to S&P by the issuer or obtained by S&P from other sources it considers reliable. S&P 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 based on other circumstances. COMMERCIAL PAPER An S&P 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 several categories, ranging from "A-1" for the highest quality obligations to "D" for the lowest. These categories are as follows: A-1 This highest category indicates that the degree of safety regarding timely payment is 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 satisfactory. However, the relative degree of safety is not as high as for issues designated "A-l." A-3 Issues carrying this designation have adequate capacity for timely payment. They are, however, 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, 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 to S&P by the issuer or obtained by S&P from other sources it considers reliable. S&P 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 based on other circumstances. MOODY'S INVESTORS SERVICE, INC. -- A brief description of the applicable Moody's Investors Service, Inc. ("Moody's") rating symbols and their meanings (as published by Moody's) follows: MUNICIPAL BONDS 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. A-3 146 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 payments and principal security appear adequate for the present but certain protective elements may be lacking or may be characteristically unreliable over any great length of time. Such bonds lack outstanding investment characteristics and in fact have speculative characteristics as well. Ba Bonds which are rated Ba are judged to have speculative elements; their future cannot be considered as well assured. Often the protection of interest and principal payments may be very moderate and thereby not well safeguarded during both good and bad times over the future. Uncertainty of position characterizes bonds in this class. B Bonds which are rated B generally lack characteristics of the desirable investment. Assurance of interest and principal payments or of maintenance of other terms of the contract over any long period of time may be small. Caa Bonds which are rated Caa are of poor standing. Such issues may be in default or there may be present elements of danger with respect to principal or interest. Ca Bonds which are rated Ca represent obligations which are speculative in a high degree. Such issues are often in default or have other marked shortcomings. C Bonds which are rated C are the lowest rated class of bonds and issues so rated can be regarded as having extremely poor prospects of ever attaining any real investment standing. Bonds for which the security depends upon the completion of some act or the fulfillment of some condition are rated conditionally. These are bonds secured by (a) earnings of projects under construction, (b) earnings of projects unseasoned in operation experience, (c) rentals which begin when facilities are completed, or (d) payments to which some other limiting condition attaches. Parenthetical rating denotes probable credit stature upon completion of construction or elimination of basis of condition. 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 Aal, Al, Baal, Bal and Bl. SHORT-TERM LOANS MIG 1/VMIG 1 This designation denotes best quality. There is present strong protection by established cash flows, superior liquidity support or demonstrated broadbased access to the market for refinancing. MIG 2/VMIG 2 This designation denotes high quality. Margins of protection are ample although not so large as in the preceding group. MIG 3/VMIG 3 This designation denotes favorable quality. All security elements are accounted for but there is lacking the undeniable strength of the preceding grades. Liquidity and cash flow protection may be narrow and market access for refinancing is likely to be less well established. A-4 147 MIG 4/VMIG 4 This designation denotes adequate quality. Protection commonly regarded as required of an investment security is present and although not distinctly or predominantly speculative, there is specific risk. S.G. This designation denotes speculative quality. Debt instruments in this category lack margins of protection. COMMERCIAL PAPER 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 earnings coverage of fixed financial charges and high internal cash generation. - 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 effect of industry characteristics and market composition may be more pronounced. Variability in earnings and profitability may result in changes in the level of debt protection measurements and 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. A-5 148 APPENDIX B AUCTION PROCEDURES The following procedures will be set forth as Paragraphs 1 through 8 of Part II of Section 12.1 of the Amended and Restated By-Laws of the Trust. The terms not defined below are defined in the Glossary or in the Prospectus or this Statement of Additional Information. 1. ORDERS. (a) Prior to the Submission Deadline on each Auction Date for shares of a series of Municipal Preferred: (i) each Beneficial Owner of shares of such series may submit to its Broker-Dealer by telephone or otherwise information as to: (A) the number of Outstanding shares, if any, of such series held by such Beneficial Owner which such Beneficial Owners desires to continue to hold without regard to the Applicable Rate for shares of such series for the next succeeding Rate Period of such shares; (B) the number of Outstanding shares, if any, of such series held by such Beneficial Owner offers to sell if the Applicable Rate for shares of such series for the next succeeding Rate Period of shares of such series shall be less than the rate per annum specified by such Beneficial Owner; and/or (C) the number of Outstanding shares, if any, of such series held by such Beneficial Owners which such Beneficial Owner offers to sell without regard to the Applicable Rate for shares of such series for the next Rate Period of shares of such series; and (ii) one or more Broker-Dealers, using lists of Potential Beneficial Owners, shall in good faith for the purpose of conducting a competitive Auction in a commercially reasonable manner, contact Potential Beneficial Owners (by telephone or otherwise), including Persons that are not Beneficial Owners, on such lists to determine the number of shares, if any, of such series which each such Potential Beneficial Owner offers to purchase if the Applicable Rate for shares of such series for the next succeeding Rate Period of shares of such series shall not be less than the rate per annum specified by such Potential Beneficial Owner. For purposes hereof, the communication by a Beneficial Owner or Potential Beneficial Owner to a Broker-Dealer, or by a Broker-Dealer to the Auction Agent, of information referred to in clause (i)(a), (i)(B), (i)(C), or (ii) of this subparagraph (a) is hereinafter referred to as an "order" and collectively as "Orders" and each Beneficial Owner and each Potential Beneficial Owner placing an Order with a Broker-Dealer, and such Broker-Dealer placing an Order with the Auction Agent, is hereinafter referred to as a "Bidder" and collectively as "Bidders"; an Order containing the information referred to in clause (i)(A) of this subparagraph (a) is hereinafter referred to as a "Hold Order" and collectively as "Hold Orders"; an Order containing the information referred to in clause (i)(B) or (ii) of this subparagraph (a) is hereinafter referred to as a "Bid" and collectively as "Bids"; and an Order containing the information referred to in clause (i)(C) of this subparagraph (a) is hereinafter referred to as a "Sell Order" and collectively as "Sell Orders." (b)(i) A Bid by a Beneficial Owner or an Existing Holder of shares of a series of Municipal Preferred subject to an Auction on any Auction Date shall constitute an irrevocable offer to sell: (A) the number of Outstanding shares of such series specified in such Bid if the Applicable Rate for shares of such series determined on such Auction Date shall be less than the rate specified therein; B-1 149 (B) such number or a lesser number of Outstanding shares of such series to be determined as set forth in paragraph 4(a)(iv) herein if the Applicable Rate for shares of such series determined on such Auction Date shall be equal to the rate specified therein; or (C) the number of Outstanding shares of such series specified in such Bid if the rate specified therein shall be higher than the Maximum Rate for shares of such series, or such number or a lesser number of Outstanding shares of such series to be determined as set forth in paragraph 4(b)(iii) herein if the rate specified therein shall be higher than the Maximum Rate for shares of such series and Sufficient Clearing Bids for shares of such series do not exist. (ii) A Sell Order by a Beneficial Owner or an Existing Holder of shares of a series of Municipal Preferred subject to an Auction on any Auction Date shall constitute an irrevocable offer to sell: (A) the number of Outstanding shares of such series specified in such Sell Order; or (B) such number or a lesser number of Outstanding shares of such series as set forth in paragraph 4(b)(iii) herein if Sufficient Clearing Bids for shares of such series do not exist; provided, however, that a Broker-Dealer that is an Existing Holder with respect to shares of a series of Municipal Preferred shall not be liable to any Person for failing to sell such shares pursuant to a Sell Order described in the proviso to paragraph 2(c) herein if (1) such shares were transferred by the Beneficial Owner thereof without compliance by such Beneficial Owner or its transferee Broker-Dealer (or other transferee person, if permitted by the Trust) with the provisions of paragraph 7 herein or (2) such Broker-Dealer has informed the Auction Agent pursuant to the terms of its Broker-Dealer Agreement that, according to such Broker-Dealer's records, such Broker-Dealer believes it is not the Existing Holder of such shares. (iii) A Bid by a Potential Beneficial Holder or a Potential Holder of shares of a series of Municipal Preferred subject to an Auction on any Auction Date shall constitute an irrevocable offer to purchase: (A) the number of Outstanding shares of such series specified in such Bid if the Applicable Rate for shares of such series determined on such Auction Date shall be higher than the rate specified therein; or (B) such number or a lesser number of Outstanding shares of such series as set forth in paragraph 4(a)(v) herein if the Applicable Rate for shares of such series determined on such Auction Date shall be equal to the rate specified therein. (c) No Order for any number of shares of Municipal Preferred other than whole shares shall be valid. 2. SUBMISSION OF ORDERS BY BROKER-DEALERS TO AUCTION AGENT. (a) Each Broker-Dealer shall submit in writing to the Auction Agent prior to the Submission Deadline on each Auction Date all Orders for shares of Municipal Preferred of a series subject to an Auction on such Auction Date obtained by such Broker-Dealer, designating itself (unless otherwise permitted by the Trust) as an Existing Holder in respect of shares subject to Orders submitted or deemed submitted to it by Beneficial Owners and as a Potential Holder in respect of shares subject to Orders submitted to it by Potential Beneficial Owners, and shall specify with respect to each Order for such shares: (i) the name of the Bidder placing such Order (which shall be the Broker-Dealer unless otherwise permitted by the Trust); (ii) the aggregate number of shares of such series that are the subject of such Order; (iii) to the extent that such Bidder is an Existing Holder of shares of such series: (A) the number of shares, if any, of such series subject to any Hold Order of such Existing Holder; B-2 150 (B) the number of shares, if any, of such series subject to any Bid of such Existing Holder and the rate specified in such Bid; and (C) the number of shares, if any, of such series subject to any Sell Order of such Existing Holder; and (iv) to the extent such Bidder is a Potential Holder of shares of such series, the rate and number of shares of such series specified in such Potential Holder's Bid. (b) If any rate specified in any Bid contains more than three figures to the right of the decimal point, the Auction Agent shall round such rate up to the next highest one thousandth (.001) of 1%. (c) If an Order or Orders covering all of the Outstanding shares of Municipal Preferred of a series held by any Existing Holder is not submitted to the Auction Agent prior to the Submission Deadline, the Auction Agent shall deem a Hold Order to have been submitted by or on behalf of such Existing Holder covering the number of Outstanding shares of such series held by such Existing Holder and not subject to Orders submitted to the Auction Agent; provided, however, that if an Order or Orders covering all of the Outstanding shares of such series held by any Existing Holder is not submitted to the Auction Agent prior to the Submission Deadline for an Auction relating to a Special Rate Period consisting of more than 28 Rate Period Days, the Auction Agent shall deem a Sell Order to have been submitted by or on behalf of such Existing Holder covering the number of outstanding shares of such series held by such Existing Holder and not subject to Orders submitted to the Auction Agent. (d) If one or more Orders of an Existing Holder is submitted to the Auction Agent covering in the aggregate more than the number of Outstanding shares of Municipal Preferred of a series subject to an Auction held by such Existing Holder, such Orders shall be considered valid in the following order of priority: (i) all Hold Orders for shares of such series shall be considered valid, but only up to and including in the aggregate the number of Outstanding shares of such series held by such Existing Holder, and if the number of shares of such series subject to such Hold Orders exceeds the number of Outstanding shares of such series held by such Existing Holder, the number of shares subject to each such Hold Order shall be reduced pro rata to cover the number of Outstanding shares of such series held by such Existing Holder; (ii) (A) any Bid for shares of such series shall be considered valid up to and including the excess of the number of Outstanding shares of such series held by such Existing Holder over the number of shares of such series subject to any Hold Orders referred to in clause (i) above; (B) subject to subclause (A), if more than one Bid of an Existing Holder for shares of such series is submitted to the Auction Agent with the same rate and the number of Outstanding shares of such series subject to such Bids is greater than such excess, such Bids shall be considered valid up to and including the amount of such excess, and the number of shares of such series subject to each Bid with the same rate shall be reduced pro rata to cover the number of shares of such series equal to such excess; (C) subject to subclauses (A) and (B), if more than one Bid of an Existing Holder for shares of such series is submitted to the Auction Agent with different rates, such Bids shall be considered valid in the ascending order of their respective rates up to and including the amount of such excess; and (D) in any such event, the number, if any, of such Outstanding shares of such series subject to any portion of Bids considered not valid in whole or in part under this clause (ii) shall be treated as the subject of a Bid for shares of such series by or on behalf of a Potential Holder at the rate therein specified; and (iii) all Sell Orders for shares of such series shall be considered valid up to and including the excess of the number of Outstanding shares of such series held by such Existing Holder over the sum B-3 151 of shares of such series subject to valid Hold Orders referred to in clause (i) above and valid Bids referred to in clause (ii) above. (e) If more than one Bid for one or more shares of a series of Municipal Preferred is submitted to the Auction Agent by or on behalf of any Potential Holder, each such Bid submitted shall be a separate Bid with the rate and number of shares therein specified. (f) Any Order submitted by a Beneficial Owner or a Potential Beneficial Owner to its Broker-Dealer, or by a Broker-Dealer to the Auction Agent, prior to the Submission Deadline on any Auction Date, shall be irrevocable. 3. DETERMINATION OF SUFFICIENT CLEARING BIDS, WINNING BID RATE AND APPLICABLE RATE. (a) Not earlier than the Submission Deadline on each Auction Date for shares of a series of Municipal Preferred, the Auction Agent shall assemble all valid Orders submitted or deemed submitted to it by the Broker-Dealers in respect of shares of such series (each such Order as submitted or deemed submitted by a Broker-Dealer being hereinafter referred to individually as a "Submitted Holder Order," a "Submitted Bid" or a "Submitted Sell Order," as the case may be, or as a "Submitted Order" and collectively as "Submitted Hold Orders," "Submitted Bids" or "Submitted Sell Orders," as the case may be, or as "Submitted Orders") and shall determine for such series: (i) the excess of the number of Outstanding shares of such series over the number of Outstanding shares of such series subject to Submitted Hold Orders (such excess being hereinafter referred to as the "Available Municipal Preferred" of such series); (ii) from the Submitted Orders for shares of such series whether: (A) the number of Outstanding shares of such series subject to Submitted Bids of Potential Holders specifying one or more rates equal to or lower than the Maximum Rate for shares of such series; exceeds or is equal to the sum of: (B) the number of Outstanding shares of such series subject to Submitted Bids of Existing Holders specifying one or more rates higher than the Maximum Rate for shares of such series; and (C) the number of Outstanding shares of such series subject to Submitted Sell Orders (in the event such excess or such equality exists (other than because the number of shares of such series in subclauses (B) and (C) above is zero because all of the Outstanding shares of such series are subject to Submitted Hold Orders), such Submitted Bids in subclause (A) above being hereinafter referred to collectively as "Sufficient Clearing Bids" for shares of such series); and (iii) if Sufficient Clearing Bids for shares of such series exist, the lowest rate specified in such Submitted Bids (the "Winning Bid Rate" for shares of such series) which if: (A) (I) each such Submitted Bid of Existing Holders specifying such lowest rate and (II) all other such Submitted Bids of Existing Holders specifying lower rates were rejected, thus entitling such Existing Holders to continue to hold the shares of such series that are subject to such Submitted Bids; and (B) (I) each such Submitted Bid of Potential Holders specifying such lowest rate and (II) all other such Submitted Bids of Potential Holders specifying lower rates were accepted; would result in such Existing Holders described in subclause (A) above continuing to hold an aggregate number of Outstanding shares of such series which, when added to the number of Outstanding shares of such series to be purchased by such Potential Holders described in subclause (B) above, would equal not less than the Available Municipal Preferred of such series. B-4 152 (b) Promptly after the Auction Agent has made the determinations pursuant to subparagraph (a) of this paragraph 3, the Auction Agent shall advise the Trust of the Maximum Rate for shares of the series of Municipal Preferred for which an Auction is being held on the Auction Date and, based on such determination, the Applicable Rate for shares of such series for the next succeeding Rate Period thereof as follows: (i) if Sufficient Clearing Bids for shares of such series exist, that the Applicable Rate for all shares of such series for the next succeeding Rate Period thereof shall be equal to the Winning Bid Rate for shares of such series so determined; (ii) if Sufficient Clearing Bids for shares of such series do not exist (other than because all of the Outstanding shares of such series are subject to Submitted Hold Orders), that the Applicable Rate for all shares of such series for the next succeeding Rate Period thereof shall be equal to the Maximum Rate for shares of such series; or (iii) if all of the Outstanding shares of such series are subject to Submitted Hold Orders, that the Applicable Rate for all shares of such series for the next succeeding Rate Period thereof shall be as set forth in subparagraph (c) of this paragraph 3. (c) For purposes of subparagraph (b)(iii) of this paragraph 3, the Applicable Rate for shares of such series for the next succeeding Rate Period of shares of such series shall be equal to the lesser of the Kenny Index (if such Rate Period consists of fewer than 183 Rate Period Days) or the product of (A) (I) the "AA" Composite Commercial Paper Rate on such Auction Date for such Rate Period, if such Rate Period consists of fewer than 183 Rate Period Days; (II) the Treasury Bill Rate on such Auction Date for such Rate Period, if such Rate Period consists of more than 182 but fewer than 365 Rate Period Days; or (III) the Treasury Note Rate on such Auction Date for such Rate Period, if such Rate Period is more than 364 Rate Period Days (the rate described in the foregoing clause (A)(I), (II) or (III), as applicable, being referred to herein as the "Benchmark Rate") and (B) 1 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income, whichever is greater; provided, however, that if the Trust has notified the Auction Agent of its intent to allocate to shares of such series in such Rate Period any net capital gains or other income taxable for Federal income tax purposes ("Taxable Income"), the Applicable Rate for shares of such series for such Rate Period will be (i) if the Taxable Yield Rate (as defined below) is greater than the Benchmark Rate, then the Benchmark Rate, or (ii) if the Taxable Yield Rate is less than or equal to the Benchmark Rate, then the rate equal to the sum of (x) the lesser of the Kenny Index (if such Rate Period consists of fewer than 183 Rate Period Days) or the product of the Benchmark Rate multiplied by the factor set forth in the preceding clause (B) and (y) the product of the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax applicable to ordinary income, whichever is greater, multiplied by the Taxable Yield Rate. For purposes of the foregoing, Taxable Yield Rate means the rate determined by (a) dividing the amount of Taxable Income available for distribution per such share of Municipal Preferred by the number of days in the Dividend Period in respect of which such Taxable Income is contemplated to be distributed, (b) multiplying the amount determined in (a) above by 365 (in the case of a Dividend Period of 7 Rate Period Days) or 360 (in the case of any other Dividend Period), and (c) dividing the amount determined in (b) above by $25,000. 4. ACCEPTANCE AND REJECTION OF SUBMITTED BIDS AND SUBMITTED SELL ORDERS AND ALLOCATION OF SHARES. Existing Holders shall continue to hold the shares of Municipal Preferred that are subject to Submitted Hold Orders, and, based on the determinations made pursuant to paragraph 3(a) herein, the Submitted Bids and Submitted Sell Orders shall be accepted or rejected by the Auction Agent and the Auction Agent shall take such other action as set forth below: (a) If Sufficient Clearing Bids for shares of a series of Municipal Preferred have been made, all Submitted Sell Orders with respect to shares of such series shall be accepted and, subject to the provisions of subparagraphs (d) and (e) of this paragraph 4, Submitted Bids with respect to shares B-5 153 of such series shall be accepted or rejected as follows in the following order of priority and all other Submitted Bids with respect to shares of such series shall be rejected: (i) Existing Holders' Submitted Bids for shares of such series specifying any rate that is higher than the Winning Bid Rate for shares of such series shall be accepted, thus requiring each such Existing Holder to sell the shares of Municipal Preferred subject to such Submitted Bids; (ii) Existing Holders' Submitted Bids for shares of such series specifying any rate that is lower than the Winning Bid Rate for shares of such series shall be rejected, thus entitling each such Existing Holder to continue to hold the shares of Municipal Preferred subject to such Submitted Bids; (iii) Potential Holders' Submitted Bids for shares of such series specifying any rate that is lower than the Winning Bid Rate for shares of such series shall be accepted; (iv) each Existing Holders' Submitted Bid for shares of such series specifying a rate that is equal to the Winning Bid Rate for shares of such series shall be rejected, thus entitling such Existing Holder to continue to hold the share of Municipal Preferred subject to such Submitted Bid, unless the number of Outstanding shares of Municipal Preferred subject to all such Submitted Bids shall be greater than the number of shares of Municipal Preferred ("remaining shares") in the excess of the Available Municipal Preferred of such series over the number of shares of Municipal Preferred subject to Submitted Bids described in clauses (ii) and (iii) of this subparagraph (a), in which event such Submitted Bid of such Existing Holder shall be rejected in part, and such Existing Holder shall be entitled to continue to hold shares of Municipal Preferred subject to such Submitted Bid, but only in an amount equal to the number of shares of Municipal Preferred of such series obtained by multiplying the number of remaining shares by a fraction, the numerator of which shall be the number of Outstanding shares of Municipal Preferred held by such Existing Holder subject to such Submitted Bid and the denominator of which shall be the aggregate number of Outstanding shares of Municipal Preferred subject to such Submitted Bids may be all such Existing Holders that specified a rate equal to the Winning Bid Rate for shares of such series; and (v) each Potential Holder's Submitted Bid for shares of such series specifying a rate that is equal to the Winning Bid Rate of shares of such series shall be accepted but only in an amount equal to the number of shares of such series obtained by multiplying the number of shares in the excess of the Available Municipal Preferred of such series over the number of shares of Municipal Preferred subject to Submitted Bids described in clauses (ii) through (iv) of this subparagraph (a) by a fraction, the numerator of which shall be the number of Outstanding shares Municipal Preferred subject to such Submitted Bids made by all such Potential Holders that specified a rate equal to the Winning Bid Rate for shares of such series. (b) If Sufficient Clearing Bids for shares of a series of Municipal Preferred have not been made (other than because all of the Outstanding shares of such series are subject to Submitted Hold Orders), subject to the provisions of subparagraph (d) of this paragraph 4, Submitted Orders for shares of such series shall be accepted or rejected as follows in the following orders of priority and all other Submitted Bids for shares of such series shall be rejected: (i) Existing Holder's Submitted Bids for shares of such series specifying any rate that is equal to or lower than the Maximum Rate for shares of such series shall be rejected, thus entitling such Existing Holders to continue to hold the shares of Municipal Preferred subject to such Submitted Bids; (ii) Potential Holders' Submitted Bids for shares of such series specifying any rate that is equal to or lower than the Maximum Rate for shares of such series shall be accepted; and (iii) Each Existing Holder's Submitted Bid for shares of such series specifying any rate that is higher than the Maximum Rate for shares of such series and the Submitted Sell Orders for B-6 154 shares of such series of each Existing Holder shall be accepted, thus entitling each Existing Holder that submitted or on whose behalf was submitted any such Submitted Bid or Submitted Sell Order to sell the shares of such series subject to such Submitted Bid or Submitted Sell Order, but in both cases only in an amount equal to the number of shares of such series obtained by multiplying the number of shares of such series subject to Submitted Bids described in clause (ii) of this subparagraph (b) by a fraction, the numerator of which shall be the number of Outstanding shares of such series held by such Existing Holder subject to such Submitted Bid or Submitted Sell Order and the denominator of which shall be the aggregate number of Outstanding shares of such series subject to all such Submitted Bids and Submitted Sell Orders. (c) If all of the Outstanding shares of a series of Municipal Preferred are subject to Submitted Hold Orders, all Submitted Bids for shares of such series shall be rejected. (d) If, as a result of the procedures described in clause (iv) or (v) of subparagraph (a) or clause (iii) of subparagraph (b) of this paragraph 4, any Existing Holder would be entitled or required to sell, or any Potential Holder would be entitled or required to purchase, a fraction of a share of a series of Municipal Preferred on any Auction Date, the Auction Agent shall, in such manner as it shall determine in its sole discretion, round up or down the number of shares of Municipal Preferred of such series to be purchased or sold by any Existing Holder or Potential Holder on such Auction Date as a result of such procedures so that the number of shares so purchased or sold by each Existing Holder or Potential Holder on such Auction Date shall be whole shares of Municipal Preferred. (e) If, as a result of the procedures described in clause (v) of subparagraph (a) of this paragraph 4, any Potential Holder would be entitled or required to purchase less than a whole share of series of Municipal Preferred on any Auction Date, the Auction Agent shall, in such manner as it shall determine in its sole discretion, allocate shares of Municipal Preferred of such series for purchase among Potential Holders so that only whole shares of Municipal Preferred of such series are purchased on such Auction Date as a result of such procedures by any Potential Holder, even if such allocation results in one or more Potential Holders not purchasing shares of Municipal Preferred of such series on such Auction Date. (f) Based on the results of each Auction for shares of a series of Municipal Preferred, the Auction Agent shall determine the aggregate of shares of such series to be purchased and the aggregate number of shares of such series to be sold by Potential Holders and Existing Holders and, with respect to each Potential Holder and Existing Holder, to the extent that such aggregate number of shares to be purchased and such aggregate number of shares to be sold differ, determine to which other Potential Holder(s) or Existing Holder(s) they shall deliver, or from which other Potential Holder(s) or Existing Holder(s) they shall receive, as the case may be, shares of Municipal Preferred of such series. Notwithstanding any provision of the Auction procedures or the Settlement Procedures to the contrary, in the event an Existing Holder or Beneficial Owner of shares of a series of Municipal Preferred with respect to whom a Broker-Dealer submitted a Bid to the Auction Agent for such shares that was accepted in whole or in part, or submitted or is deemed to have submitted a Sell Order for such shares that was accepted in whole or in part, fails to instruct its Agent Member to deliver such shares against payment therefor, partial deliveries of shares of Municipal Preferred that have been made in respect of Potential Holders' or Potential Beneficial Owners' Submitted Bids for shares of such series that have been accepted in whole or in part shall constitute good delivery to such Potential Holders and Potential Beneficial Owners. (g) Neither the Trust nor the Auction Agent nor any affiliate of either shall have any responsibility or liability with respect to the failure of an Existing Holder, a Potential Holder, a Benefit Owner, a Potential Beneficial Owner or its respective Agent Member to deliver shares of Municipal Preferred of any series or to pay for shares of Municipal Preferred of any series sold or purchased pursuant to the Auction Procedures or otherwise. B-7 155 5. NOTIFICATION OF ALLOCATIONS. Whenever the Trust intends to include any net capital gain or other income taxable for Federal income tax purposes in any dividend on shares of Municipal Preferred, the Trust shall, in the case of a Minimum Rate Period or a Special Rate Period of 28 Rate Period Days or fewer, and may, in the case of any other Special Rate Period, notify the Auction Agent of the amount to be so included not later than the Dividend Payment Date next preceding the Auction Date on which the Applicable Rate for such dividend is to be established. Whenever the Auction Agent receives such notice from the Trust, it will be required in turn to notify each Broker-Dealer, who, on or prior to such Auction Date, in accordance with its Broker-Dealer Agreement, will be required to notify its Beneficial Owners and Potential Beneficial Owners of shares of Municipal Preferred believed by it to be interested in submitting an Order in the Auction to be held on such Auction Date. 6. AUCTION AGENT. For so long as any shares of Municipal Preferred are outstanding, the Auction Agent, duly appointed by the Trust to so act, shall be in each case a commercial bank, trust company or other financial institution independent of the Trust and its affiliates (which however, may engage or have engaged in business transactions with the Trust or its affiliates) and at no time shall the Trust or any of its affiliates act as the Auction Agent in connection with the Auction Procedures. If the Auction Agent resigns or for any reason its appointment is terminated during any period that any shares of Municipal Preferred are outstanding, the Board of Trustees shall use its best efforts promptly thereafter to appoint another qualified commercial bank, trust company or financial institution to act as the Auction Agent. The Auction Agent's registry of Existing Holders of shares of a series of Municipal Preferred shall be conclusive and binding on the Broker-Dealers. A Broker-Dealer may inquire of the Auction Agent between 3:00 p.m. on the Business Day preceding an Auction for shares of a series of Municipal Preferred and 9:30 a.m. on the Auction Date for such Auction to ascertain the number of shares of a series in respect of which the Auction Agent has determined such Broker-Dealer to be an Existing Holder. If such Broker-Dealer believes it is the Existing Holder of fewer shares of such series than specified by the Auction Agent in response to such Broker-Dealer's inquiry, such Broker-Dealer may so inform the Auction Agent of that belief. Such Broker-Dealer shall not, in its capacity as Existing Holder of shares of such series, submit Orders in such Auction in respect of shares of such series covering in the aggregate more than the number of shares of such series specified by the Auction Agent in response to such Broker-Dealer's inquiry. 7. TRANSFER OF SHARES OF MUNICIPAL PREFERRED. Unless otherwise permitted by the Trust, a Beneficial Owner or an Existing Holder may sell, transfer or otherwise dispose of shares of Municipal Preferred only in whole shares and only pursuant to a Bid or Sell Order placed with the Auction Agent in accordance with the procedures described herein or to a Broker-Dealer; provided, however, that (a) a sale, transfer or other disposition of shares of Municipal Preferred from a customer of a Broker-Dealer who is listed on the records of that Broker-Dealer as the holder of such shares to that Broker-Dealer or another customer of that Broker-Dealer shall not be deemed to be a sale, transfer or other disposition for purposes of this paragraph 7 if such Broker-Dealer remains the Existing Holder of the shares so sold, transferred or disposed of immediately after such sale, transfer or disposition and (b) in the case of all transfers other than pursuant to Auctions, the Broker-Dealer (or other Person, if permitted by the Trust) to whom such transfer is made shall advise the Auction Agent of such transfer. 8. GLOBAL CERTIFICATE. Prior to the commencement of a Voting Period, (i) all of the shares of a series of Municipal Preferred outstanding from time to time shall be represented by one global certificate registered in the name of the Securities Depository or its nominee and (ii) no registration of transfer of shares of a series of Municipal Preferred shall be made on the books of the Trust to any Person other than the Securities Depository or its nominee. B-8 156 APPENDIX C SETTLEMENT PROCEDURES Capitalized terms used herein have the respective meanings specified in the forepart of the Prospectus or the Glossary included in the Prospectus, as the case may be. (a) On each Auction Date for shares of Municipal Preferred, the Auction Agent shall notify by telephone the Broker-Dealers that participated in the Auction held on such Auction Date and submitted an Order to the Auction Agent as or on behalf of an Existing Holder or Potential Holder of: (i) the Applicable Rate fixed for the next Rate Period; (ii) whether Sufficient Clearing Bids existed for the determination of the Applicable Rate; (iii) if such Broker-Dealer submitted a Bid or a Sell Order to the Auction Agent as or on behalf of an Existing Holder, whether such Bid or Sell Order was accepted or rejected, in whole or in part, and the number of shares, if any, of Municipal Preferred then outstanding to be sold by such Existing Holder; (iv) if such Broker-Dealer submitted a Bid to the Auction Agent as or on behalf of a Potential Holder, whether such Bid was accepted or rejected, in whole or in part, and the number of shares, if any, of Municipal Preferred to be purchased by such Potential Holder; (v) if the aggregate number of shares of Municipal Preferred to be sold by all Existing Holders with respect to whom such Broker-Dealer submitted Bids or Sell Orders to the Auction Agent is different than the aggregate number of shares of Municipal Preferred to be purchased by all Potential Holders with respect to whom such Broker-Dealer submitted Bids to the Auction Agent, the name or names of one or more other Broker-Dealers (and the Agent Member, if any, of each such other Broker-Dealer) and the number of shares of Municipal Preferred to be (x) purchased from one or more Existing Holders with respect to whom such other Broker-Dealers submitted Bids or Sell Orders to the Auction Agent, or (y) sold to one or more Potential Holders with respect to whom such other Broker-Dealers submitted Bids to the Auction Agent; and (vi) the scheduled Auction Date of the next succeeding Auction for shares of Municipal Preferred. (b) On each Auction Date for shares of Municipal Preferred, each Broker-Dealer that submitted an Order to the Auction Agent as or on behalf of any Existing Holder or Potential Holder shall: (i) advise each Existing Holder and Potential Holder (and each Beneficial Owner and Potential Beneficial Owner) with respect to whom such Broker-Dealer submitted a Bid or Sell Order to the Auction Agent whether such Bid or Sell Order was accepted or rejected, in whole or in part; (ii) instruct each Potential Holder (and each Potential Beneficial Owner) with respect to whom such Broker-Dealer submitted a Bid to the Auction Agent that was accepted, in whole or in part, to instruct such Bidder's Agent Member to pay to such Broker-Dealer (or its Agent Member) through the Securities Depository the amount necessary to purchase the number of shares of Municipal Preferred to be purchased pursuant to such Bid against receipt of such shares; (iii) instruct each Existing Holder (and each Beneficial Owner) with respect to whom such Broker-Dealer submitted a Bid to the Auction Agent that was accepted, in whole or in part, or a Sell Order that was accepted, in whole or in part, to instruct such Bidder's Agent Member to deliver to such Broker-Dealer (or its Agent Member) through the Securities Depository the number of shares of Municipal Preferred to be sold pursuant to such Bid or Sell Order against payment therefor; (iv) advise each Existing Holder (and each Beneficial Owner) with respect to whom such Broker-Dealer submitted an Order to the Auction Agent and each Potential Holder (and each Potential Beneficial Owner) with respect to whom such Broker-Dealer submitted a Bid to the Auction Agent of the Applicable Rate for the next succeeding Rate Period; C-1 157 (v) advise each Existing Holder (and each Beneficial Owner) with respect to whom such Broker-Dealer submitted an Order to the Auction Agent of the Auction Date of the next succeeding Auction; and (vi) advise each Potential Holder (and each Potential Beneficial Owner) with respect to whom such Broker-Dealer submitted a Bid to the Auction Agent that was accepted, in whole or in part, of the Auction Date of the next succeeding Auction for Municipal Preferred. (c) On the basis of the information provided to it pursuant to paragraph (a) above, each Broker-Dealer that submitted a Bid or Sell Order to the Auction Agent for any shares of Municipal Preferred shall allocate any funds received by it (or its Agent Member) in respect of such shares pursuant to paragraph (b)(ii) above and any shares of Municipal Preferred received by it (or its Agent Member) pursuant to paragraph (b)(iii) above among the Potential Holders and Potential Beneficial Owners, if any, with respect to whom such Broker-Dealer submitted Bids to the Auction Agent for such shares, the Existing Holders and Beneficial Owners, if any, with respect to whom such Broker-Dealer submitted Bids or Sell Orders to the Auction Agent for such shares, and any Broker-Dealers identified to it by the Auction Agent pursuant to paragraph (a)(v) above. (d) On the Business Day after the Auction Date, the Securities Depository shall execute the transactions described above, debiting and crediting the accounts of the respective Agent Members as necessary to effect the purchases and sales of shares of Municipal Preferred as determined in the Auction for shares of Municipal Preferred. C-2 158 APPENDIX D RATING AGENCY FUTURES AND OPTIONS RESTRICTIONS The following restrictions will be set forth in Paragraph 10(a) of Part I of Section 12.1 of the Amended and Restated By-Laws (the "By-Laws") of the Trust. The terms not defined below are defined in the Glossary, the Prospectus, the Statement of Additional Information or the By-Laws, filed as an exhibit to the Registration Statement of the Trust. Reference is made to the By-Laws for the full text of the rating agency restrictions on futures and options transactions and certain other actions or investments by the Trust. (a) For so long as any Municipal Preferred are rated by Standard & Poor's or Moody's, the Trust will not purchase or sell futures contracts, write, purchase or sell options on futures contracts or write put options (except covered put options) or call options (except covered call options) on portfolio securities unless it receives written confirmation from Standard & Poor's or Moody's, or both, as the case may be, that engaging in such transactions will not impair the ratings then assigned to the Municipal Preferred by Standard & Poor's or Moody's, or both, except that the Trust may purchase or sell futures contracts based on the Bond Buyer Municipal Bond Index (the "Municipal Index") or United States Treasury Bonds or Notes ("Treasury Bonds") and write, purchase or sell put and call options on such contracts (collectively, "Hedging Transactions"), subject to the following limitations: (i) the Trust will not engage in any Hedging Transaction based on the Municipal Index (other than transactions which terminate a futures contract or option held by the Trust by the Trust's taking an opposite position thereto ("Closing Transactions")), which would cause the Trust at the time of such transaction to own or have sold the least of (A) more than 1,000 outstanding futures contracts based on the Municipal Index, (B) outstanding futures contracts based on the Municipal Index exceeding in number 25% of the quotient of the Market Value of the Trust's total assets divided by $1,000 or (C) outstanding futures contracts based on the Municipal Index exceeding in number 10% of the average number of daily open interest futures contracts based on the Municipal Index in the 30 days preceding the time of effecting such transaction as reported by The Wall Street Journal. (ii) the Trust will not engage in any Hedging Transaction based on Treasury Bonds (other than Closing Transactions) which would cause the Trust at the time of such transaction to own or have sold the lesser of (A) outstanding futures contracts based on Treasury Bonds exceeding in number 50% of the quotient of the Market Value of the Trust's total assets divided by $100,000 ($200,000 in the case of the two-year United States Treasury Note) or (B) outstanding futures contracts based on Treasury Bonds exceeding in number 10% of the average number of daily traded futures contracts based on Treasury Bonds in the 30 days preceding the time of effecting such transaction as reported by The Wall Street Journal; (iii) the Trust will engage in Closing Transactions to close out any outstanding futures contract which the Trust owns or has sold or any outstanding option thereon owned by the Trust in the event (A) the Trust does not have Standard & Poor's Eligible Assets or Moody's Eligible Assets, as the case may be, with an aggregate Discounted Value equal to or greater than the Municipal Preferred Basic Maintenance Amount on two consecutive Valuation Dates and (B) the Trust is required to pay Variation Margin on the second such Valuation Date; (iv) the Trust will engage in a Closing Transaction to close out any outstanding futures contract or option thereon in the month prior to the delivery month under the terms of such futures contract or option thereon unless the Trust holds the securities deliverable under such terms; and (v) when the Trust writes a futures contract or option thereon, it will either maintain an amount of cash, cash equivalents or high grade (rated A or better by Standard & Poor's or Moody's, as the case may be), fixed-income securities in a segregated account with the Trust's custodian, so that the amount so segregated plus the amount of Initial Margin and Variation Margin held in the account of or on behalf of the Trust's broker with respect to such futures contract or option equals the Market Value of the futures contract or option, or, in the event the Trust writes a futures contract or option D-1 159 thereon which requires delivery of an underlying security, it shall hold such underlying security in its portfolio. For purposes of determining whether the Trust has Standard & Poor's Eligible Assets or Moody's Eligible Assets, as the case may be, with a Discounted Value that equals or exceeds the Municipal Preferred Basic Maintenance Amount, the Discounted Value of cash or securities held for the payment of Initial Margin or Variation Margin shall be zero and the aggregate Discounted Value of Standard & Poor's Eligible Assets or Moody's Eligible Assets, as the case may be, shall be reduced by an amount equal to (I) 30% of the aggregate settlement value, as marked to market, of any outstanding futures contracts based on the Municipal Index which are owned by the Trust plus (II) 25% of the aggregate settlement value, as marked to market, of any outstanding futures contracts based on Treasury Bonds which contracts are owned by the Trust. D-2 160 PART C OTHER INFORMATION Item 24. Financial Statements and Exhibits (1) Financial Statements: Included in Part A Financial Highlights Included in Part B Included in Part B are the financial statements contained in the Registrant's Annual Report dated November 30, 1998 (which were previously filed electronically pursuant to Section 30(b)(2) of the Investment Company Act of 1940 - Accession Number: 0000950156-99-000076): The Financial Statements contained in Part B are as follows: Investment portfolio, November 30, 1998; Statement of assets and liabilities, November 30, 1998; Statement of operations, November 30, 1998; Statement of changes in net assets, Years ended November 30, 1997 & 1998; Notes to Financial Statements; Financial Highlights; Report of Independent Accountants (2) Exhibits (a)(1) Agreement and Declaration of Trust (1) (a)(2) Amendment No. 1 to Agreement and Declaration of Trust (1) (b) Form of Amended and Restated By-Laws (c) Not applicable (d)(1) Portions of the Agreement and Declaration of Trust as amended, included as Exhibit (a)(1) and (a)(2), and the Form of Amended and Restated By-Laws of the Registrant, included as Exhibit (b) (See Article III, Sections 1, 2, 4 and 5; Article V; Article VIII, Section 4; and Article IX, Sections 4 and 7 of the Agreement and Declaration of Trust, as amended, and Sections 2-3, 4(c), 5, and 9-12 of Part I of Section 12.1 and Sections 1-5 and 7 of Part II of Section 12.1 of the Form of Amended and Restated By-laws) (d)(2) Form of specimen certificate for the municipal auction rate cumulative preferred shares (e) Dividend Reinvestment Plan (2) (f) Not applicable (g) Management Agreement with Colonial Management 161 Associates, Inc. (1) (h) Form of Underwriting Agreement with Salomon Smith Barney Inc. (i) Not applicable (j)(1) Global Custody Agreement with The Chase Manhattan Bank (incorporated herein by reference to Item 24. Exhibit No. 8 to Post-Effective Amendment No. 13 to the Registration Statement of Liberty Funds Trust VI (formerly Colonial Trust VI), Registration Nos. 33-45117 & 811-6529, filed with the Commission on or about October 24, 1997) (j)(2) Amendment No. 5 to Schedule A of Global Custody Agreement with The Chase Manhattan Bank (incorporated herein by reference to Item 23. Exhibit (g)(1)(ii) to Post-Effective Amendment No. 18 to the Registration Statement of Liberty Variable Investment Trust, Registration Nos. 33-59216 & 811-7556, filed with the Commission on or about June 1, 1999) (k)(1) Form of Auction Agency Agreement (k)(2) Form of Broker-Dealer Agreement (k)(3) Registrar, Transfer Agency and Service Agreement between the Registrant and State Street Bank and Trust Company (2) (k)(4)(i) Service Contract with Colonial Management Associates, Inc. (2) (k)(4)(ii) Amendment to Service Contract with Colonial Management Associates, Inc. (2) (l) Opinion and consent of Ropes & Gray, counsel to Registrant (m) Not applicable (n) Consent of independent accountants (o) Not applicable (p) Not applicable (q) Not applicable (r) Not applicable - ------------------------------- A copy of the Power of Attorney for each of Robert J. Birnbaum, Tom Bleasdale, John V. Carberry, Lora S. Collins, James E. Grinnell, Richard W. Lowry, Salvatore Macera, William E. Mayer, James L. Moody, Jr., John J. Neuhauser, Robert L. Sullivan and Anne-Lee Verville is incorporated herein by reference to Post-Effective Amendment No. 50 to the Registration Statement of Colonial Trust IV, Registration Nos. 2-62492 and 811-2865, filed with the Commission on or about November 6, 1998. (1) Incorporated by reference to the Registration Statement filed with the Commission via EDGAR on or about April 28, 1999. (2) Incorporated by reference to the Registration Statement filed with the Commission via EDGAR on or about July 13, 1999. Item 25. Marketing Arrangements. See Sections 5(l), 5(m) and 6(s) of Exhibit (h) of Item 24(2) of this Registration Statement. Item 26. Other Expenses of Issuance and Distribution. 162 The following table sets forth the expenses to be incurred in connection with the Offer described in this Registration Statement: Registration fees $ 25,020 Printing $ 20,000 Accounting fees and expenses $ 7,500 Legal fees and expenses $ 90,000 Miscellaneous $ 15,000 -------- Total $157,520(*) ======== * Estimated Item 27. Persons Controlled by or under Common Control with Registrant. None. Item 28. Number of Holders of Securities Number of Record Holders Title of Class as of June 25, 1999 -------------- ------------------------ Shares of Beneficial Interest 3,492 Municipal Auction Rate Cumulative Preferred Shares -0- Item 29. Indemnification. The Agreement and Declaration of Trust, as amended, filed as Exhibit (a)(1) and (a)(2) to this Registration Statement provides for indemnification to each of the Registrant's Trustees and officers against all liabilities and expenses incurred in acting as Trustee or officer, except in the case of willful misfeasance, bad faith, gross negligence or reckless disregard of the duties involved in the conduct of such Trustees and officers. The Form of Underwriting Agreement filed as Exhibit (h) to this Registration Statement provides for indemnification by the Registrant and Colonial Management Associates, Inc. (the "Advisor") of Salomon Smith Barney Inc. (the "Underwriter") and its controlling persons and by the Underwriter of the Registrant, the Advisor and their respective Trustees, directors, officers and controlling persons against certain liabilities, including liabilities under the Securities Act of 1933, as amended, under certain circumstances. Insofar as indemnification for liability arising under the Securities Act of 1933, as amended, may be permitted to Trustees, officers and controlling persons of the Registrant pursuant to the foregoing provisions, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a Trustee, officer 163 or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such Trustee, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. The Registrant, Colonial Management Associates, Inc. and their respective Trustees, directors and officers are insured by a directors and officers/errors and omissions liability policy. Item 30. Business and Other Connections of Investment Adviser. The description of the business of Colonial Management Associates, Inc., the Registrant's Investment Advisor, is set forth under the caption "The Advisor" in the Prospectus forming part of this Registration Statement. The following sets forth business and other connections of each director and officer of Colonial Management Associates, Inc. Registrant's investment advisor/administrator, Colonial Management Associates, Inc. ("Colonial"), is registered as an investment advisor under the Investment Advisers Act of 1940 ("Advisers Act"). Colonial Advisory Services, Inc. ("CASI"), an affiliate of Colonial, is also registered as an investment advisor under the 1940 Act. As of the end of the fiscal year, December 31, 1998, CASI had four institutional, corporate or other accounts under management or supervision, the total market value of which was approximately $227 million. As of the end of the fiscal year, December 31, 1998, Colonial was the investment advisor, sub-advisor and/or administrator to 57 mutual funds, including funds sub-advised by Colonial, the total market value of which investment companies was approximately $18,950.90 million. The following sets forth the business and other connections of each director and officer of Colonial Management Associates, Inc.: (1) (2) (3) (4) Name and principal business addresses* Affiliation of officers and with Period is through 05/31/99. Other directors of investment business, profession, vocation or investment adviser adviser employment connection Affiliation - ------------------ ---------- -------------------------------- ----------- Allard, Laurie V.P. Archer, Joseph A. V.P. Ballou, William J. V.P., Liberty Trusts I through IX Asst. Sec. Asst. Colonial High Income Sec., Municipal Trust Asst. Sec. Counsel Colonial InterMarket Income Trust I Asst. Sec. Colonial Intermediate High Income Fund Asst. Sec. 164 Colonial Investment Grade Municipal Trust Asst. Sec. Colonial Municipal Income Trust Asst. Sec. AlphaTrade Inc. Asst. Clerk Liberty Funds Distributor, Inc. Asst. Clerk Liberty Financial Advisers, Inc. Asst. Sec. Liberty Funds Group LLC Asst. Sec. Liberty Variable Investment Trust Asst. Sec. Liberty All-Star Equity Fund Asst. Sec. Liberty All-Star Growth Fund, Inc. Asst. Sec. Barron, Suzan M. V.P., Liberty Trusts I through IX Asst. Sec. Asst. Colonial High Income Sec., Municipal Trust Asst. Sec. Counsel Colonial InterMarket Income Trust I Asst. Sec. Colonial Intermediate High Income Fund Asst. Sec. Colonial Investment Grade Municipal Trust Asst. Sec. Colonial Municipal Income Trust Asst. Sec. AlphaTrade Inc. Asst. Clerk Liberty Funds Distributor, Inc. Asst. Clerk Liberty Financial Advisers, Inc. Asst. Sec. Liberty Funds Group LLC Asst. Sec. Liberty Variable Investment Trust Asst. Sec. Liberty All-Star Equity Fund Asst. Sec. Liberty All-Star Growth Fund, Inc. Asst. Sec. Barsketis, Ophelia Sr.V.P. Stein Roe & Farnham Incorporated Snr. V.P. Berliant, Allan V.P. Boatman, Bonny E. Sr.V.P.; Colonial Advisory Services, Exec. V.P. IPC Mbr. Inc. Bunten, Walter V.P. Campbell, Kimberly V.P. Carnabucci, Dominick V.P. Carome, Kevin Sr.V.P.; Liberty Funds Distributor, IPC Mbr. Inc. Assistant Clerk Liberty Funds Group LLC Sr. V.P. Stein Roe & Farnham 165 Incorporated General Counsel Carroll, Sheila A. Sr.V.P. Citrone, Frank Sr.V.P. Conlin, Nancy L. Sr. V.P.; Liberty Trusts I through IX Secretary Sec.; Clerk Colonial High Income IPC Mbr.; Municipal Trust Secretary Dir; Gen. Colonial InterMarket Income Counsel Trust I Secretary Colonial Intermediate High Income Fund Secretary Colonial Investment Grade Municipal Trust Secretary Colonial Municipal Income Trust Secretary Liberty Funds Distributor, Inc. Dir.; Clerk Liberty Funds Services, Inc. Clerk; Dir. Liberty Funds Group LLC V.P.; Gen. Counsel and Secretary Liberty Variable Investment Trust Secretary Colonial Advisory Services, Inc. Dir.; Clerk AlphaTrade Inc. Dir.; Clerk Liberty Financial Advisors, Inc. Dir.; Sec. Liberty All-Star Equity Fund Secretary Liberty All-Star Growth Fund, Inc. Secretary Connaughton, V.P. Liberty Trust I through VIII CAO; Controller J. Kevin Liberty Variable Investment Trust CAO; Controller Colonial High Income Municipal Trust CAO; Controller Colonial Intermarket Income Trust I CAO; Controller Colonial Intermediate High Income Fund CAO; Controller Colonial Investment Grade Municipal Trust CAO; Controller Colonial Municipal Income Trust CAO; Controller Liberty All-Star Equity Fund Controller Liberty All-Star Growth Fund, Inc. Controller Liberty Trust IX Controller Daniszewski, V.P. Joseph J. Dearborn, James V.P. 166 Desilets, Marian H. V.P. Liberty Funds Distributor, Inc. V.P. Liberty Trust I through IX Asst. Sec. Colonial High Income Municipal Trust Asst. Sec. Colonial Intermarket Income Trust I Asst. Sec. Colonial Intermediate High Income Fund Asst. Sec. Colonial Investment Grade Municipal Trust Asst. Sec. Colonial Municipal Income Trust Asst. Sec. Liberty Variable Investment Trust Asst. Sec. Liberty All-Star Equity Fund Asst. Sec. Liberty All-Star Growth Fund, Inc. Asst. Sec. DiSilva-Begley, V.P. Colonial Advisory Services, Compliance Linda IPC Mbr. Inc. Officer Eckelman, Marilyn Sr.V.P. Ericson, Carl C. Sr.V.P. Colonial Intermediate High IPC Mbr. Income Fund V.P. Colonial Advisory Services, Pres.; CEO Inc. and CIO Evans, C. Frazier Sr.V.P. Liberty Funds Distributor, Inc. Mng. Director Feloney, Joseph L. V.P. Colonial Advisory Services, Asst. Treas. Inc. Asst. Treas. Liberty Funds Group LLC Asst. Treas. Finnemore, Sr.V.P. Colonial Advisory Services, Leslie W. Inc. Sr. V.P. Franklin, Sr. V.P. AlphaTrade Inc. President Fred J. IPC Mbr. Liberty Financial Companies, Chief Inc. Compliance Ofcr Garrison, William V.P. Stein Roe & Farnham Incorporated V.P. Gibson, Stephen E. Dir.; Pres.; Liberty Funds Group LLC Dir.; CEO; Pres.; CEO; Chairman of Exec. Cmte. the Board; Mbr.; Chm. IPC Mbr. Liberty Funds Distributor, Inc. Dir.; Chm. Colonial Advisory Services, Inc. Dir.; Chm. Liberty Funds Services, Inc. Dir.; Chm. AlphaTrade Inc. Dir. Liberty Trusts I through VIII President 167 Colonial High Income Municipal Trust President Colonial InterMarket Income Trust I President Colonial Intermediate High Income Fund President Colonial Investment Grade Municipal Trust President Colonial Municipal Income Trust President Liberty Financial Advisors, Inc. Director Stein Roe & Farnham Incorporated Asst. Chairman Liberty Variable Investment Trust President Grabowski, Neil V.P. Hanson, Loren Sr. V.P.; IPC Mbr. Harasimowicz, V.P. Stephen Harris, David V.P. Stein Roe Global Capital Mngmt Principal Hartford, Brian Sr.V.P. Haynie, James P. Sr.V.P. Colonial Advisory Services, Inc. Sr. V.P. Held, Dorothy V.P. Hernon, Mary V.P. Hill, William V.P. Colonial Advisory Services, V.P. Inc. Hounsell, Clare V.P. Stein Roe & Farnham Incorporated V.P. Iudice, Jr. V.P.; Liberty Funds Group LLC Controller, Philip J. Controller CAO, Asst. Asst. Treas. Treasurer Liberty Funds Distributor, CFO, Inc. Treasurer Colonial Advisory Services, Controller; Inc. Asst. Treas. AlphaTrade Inc. CFO, Treas. Liberty Financial Advisors, Inc. Asst. Treas. Jacoby, Timothy J. Sr. V.P.; Liberty Funds Group LLC V.P., Treasr., CFO; CFO Treasurer Liberty Trusts I through VIII Treasr.,CFO Colonial High Income 168 Municipal Trust Treasr.,CFO Colonial InterMarket Income Trust I Treasr.,CFO Colonial Intermediate High Income Fund Treasr.,CFO Colonial Investment Grade Municipal Trust Treasr.,CFO Colonial Municipal Income Trust Treasr.,CFO Colonial Advisory Services, Inc. CFO, Treasr. Liberty Financial Advisors, Inc. Treasurer Stein Roe & Farnham Incorporated Snr. V.P. Liberty Variable Investment Trust Treasurer, CFO Liberty All-Star Equity Fund Treasurer Liberty All-Star Growth Fund, Inc. Treasurer Liberty Trust IX Treasurer Jansen, Deborah Sr.V.P. Stein Roe & Farnham Incorporated Sr. V.P. Jersild, North V.P. Stein Roe & Farnham Incorporated V.P. Johnson, Gordon V.P. Knudsen, Gail E. V.P. Liberty Trusts I through IX Asst. Treas. Colonial High Income Municipal Trust Asst. Treas. Colonial InterMarket Income Trust I Asst. Treas. Colonial Intermediate High Income Fund Asst. Treas. Colonial Investment Grade Municipal Trust Asst. Treas. Colonial Municipal Income Trust Asst. Treas. Liberty Variable Investment Trust Asst. Treas. Liberty All-Star Equity Fund Asst. Treas. Liberty All-Star Growth Fund, Inc. Asst. Treas. Lapointe, Thomas V.P. Lasher, Bennett V.P. Lasman, Gary V.P. Lennon, John E. Sr.V.P. Colonial Advisory Services, Inc. V.P. Lenzi, Sharon V.P. 169 Lessard, Kristen V.P. Loring, William C., Jr. Sr.V.P. MacKinnon, Donald S. Sr.V.P. Marcus, Harold V.P. Muldoon, Robert V.P. Newman, Maureen Sr.V.P. O'Brien, David Sr.V.P. Ostrander, Laura Sr.V.P. Colonial Advisory Services, Inc. V.P. Palombo, Joseph R. Dir.; Colonial Advisory Services, Exe.V.P.; Inc. Dir. IPC Mbr.; Colonial High Income Municipal Trust V.P. Colonial InterMarket Income Trust I V.P. Colonial Intermediate High Income Fund V.P. Colonial Investment Grade Municipal Trust V.P. Colonial Municipal Income Trust V.P. Liberty Trusts I through IX V.P. Liberty Funds Services, Inc. Director Liberty Funds Group LLC CAO; Ex. V.P. Liberty Funds Distributor, Inc. Director AlphaTrade Inc. Director Liberty Financial Advisors, Inc. Director Stein Roe & Farnham Incorporated Exec. V.P. Liberty Variable Investment Trust V.P. Liberty All-Star Equity Fund V.P. Liberty All-Star Growth Fund, Inc. V.P. Peishoff, William V.P. Peterson, Ann T. V.P. Colonial Advisory Services, Inc. V.P. Pielech, Mitchell V.P. Pope, David V.P. 170 Rao, Gita Sr.V.P. Reading, John V.P.; Liberty Funds Services, Inc. Asst. Clerk Asst. Liberty Funds Group LLC Asst. Sec. Sec.; Colonial Advisory Services, Asst. Inc. Asst. Clerk Clerk and Liberty Funds Distributor, Counsel Inc. Asst. Clerk AlphaTrade Inc. Asst. Clerk Liberty Trusts I through IX Asst. Sec. Colonial High Income Municipal Trust Asst. Sec. Colonial InterMarket Income Trust I Asst. Sec. Colonial Intermediate High Income Fund Asst. Sec. Colonial Investment Grade Municipal Trust Asst. Sec. Colonial Municipal Income Trust Asst. Sec. Liberty Financial Advisors, Inc. Asst. Sec. Liberty Variable Investment Trust Asst. Sec. Liberty All-Star Equity Fund Asst. Sec. Liberty All-Star Growth Fund, Inc. Asst. Sec. Rega, Michael V.P. Colonial Advisory Services, Inc. V.P. Richards, Scott B. Sr. V.P. Salopek, Steven V.P. Stein Roe & Farnham Incorporated V.P. Schermerhorn, Scott Sr. V.P. Seibel, Sandra L. V.P. Colonial Advisory Services, Inc. V.P. Shields, Yvonne V.P. Stein Roe & Farnham Incorporated V.P. Smalley, Greg V.P. Spanos, Gregory J. Sr. V.P. Colonial Advisory Services, Inc. Exec. V.P. Stevens, Richard V.P. Colonial Advisory Services, Inc. V.P. Stoeckle, Mark Sr.V.P. Colonial Advisory Services, Inc. V.P. Swayze, Gary Sr.V.P. 171 Thomas, Ronald V.P. Wallace, John V.P. Colonial Advisory Services, Asst.Treas. Inc. Asst. Treas. Liberty Funds Group LLC Asst. Treas. Ware, Elizabeth M. V.P. Wiley, Christine V.P. Wiley, Peter V.P. - ------------------------------------------------ *The Principal address of all of the officers and directors of the investment advisor is One Financial Center, Boston, MA 02111. Item 31. Location of Accounts and Records: Registrant: Colonial Municipal Income Trust One Financial Center Boston, Massachusetts 02111-2621 Investment Advisor: Colonial Management Associates, Inc. One Financial Center Boston, Massachusetts 02111-2621 Custodian: The Chase Manhattan Bank 270 Park Avenue New York, New York 10017-2070 Transfer Agent: State Street Bank & Trust Company 225 Franklin Street Boston, Massachusetts 02110 Item 32. Management Services. Not applicable. Item 33. Undertakings. The undersigned Registrant hereby undertakes: (1) To suspend the offering of its preferred shares until it amends its prospectus contained herein if (i) subsequent to the effective date of this Registration Statement, its net asset value per share of beneficial interest declines more than 10 percent from its net asset value per share of beneficial interest as of the effective date of this Registration Statement, or (ii) its net asset value per share of beneficial interest increases to an amount greater than its net proceeds as stated in the prospectus contained herein. (2) Not applicable. (3) Not applicable. 172 (4) Not applicable. (5)(a) That, for the purpose of determining any liablility under the Securities Act of 1933, the information omitted from the form of prospectus filed as a part of this Registration Statement in reliance upon Rule 430A and contained in a form of prospectus filed by the Registrant under Rule 497(h) under the Securities Act of 1933 shall be deemed to be a part of this Registration Statement as of the time it was declared effective; and (b) That, for the purpose of determining any liability under the Securities Act of 1933, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of the securities at that time shall be deemed to be the initial bona fide offering thereof. (6) To send by first class mail or other means designed to ensure equally prompt delivery, within two business days of receipt of a written or oral request, the Statement of Additional Information. 173 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, as amended, and the Investment Company Act of 1940, as amended, the Registrant has duly caused this Registration Statement on Form N-2 to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Boston and the Commonwealth of Massachusetts on the 14th day of July, 1999. COLONIAL MUNICIPAL INCOME TRUST By: /s/ STEPHEN E. GIBSON ----------------------------- Stephen E. Gibson President Pursuant to the requirements of the Securities Act of 1933, this Registration Statement on Form N-2 has been signed below by the following persons in their capacities as officers and Trustees of the Registrant. SIGNATURES TITLE DATE - ----------- ----- ---- /s/ STEPHEN E. GIBSON President (chief July 14, 1999 - -------------------------- executive officer) Stephen E. Gibson /s/ J. KEVIN CONNAUGHTON Controller and Chief July 14, 1999 - -------------------------- Accounting Officer J. Kevin Connaughton /s/ TIMOTHY J. JACOBY Treasurer and Chief July 14, 1999 - -------------------------- Financial Officer Timothy J. Jacoby 174 /s/ ROBERT J. BIRNBAUM* - --------------------------- Trustee Robert J. Birnbaum /s/ TOM BLEASDALE* - --------------------------- Trustee Tom Bleasdale /s/ JOHN V. CARBERRY* - --------------------------- Trustee John V. Carberry /s/ LORA S. COLLINS* - --------------------------- Trustee Lora S. Collins /s/ JAMES E. GRINNELL* - --------------------------- Trustee James E. Grinnell /s/ RICHARD W. LOWRY* - --------------------------- Trustee Richard W. Lowry /s/ SALVATORE MACERA* - --------------------------- Trustee Salvatore Macera /s/ WILLIAM E. MAYER* - --------------------------- Trustee William E. Mayer 175 /s/ JAMES L. MOODY, JR. * - ----------------------- Trustee *WILLIAM J. BALLOU James L. Moody, Jr. ------------------- William J. Ballou Attorney-in-fact July 14, 1999 /s/ JOHN J. NEUHAUSER* - ----------------------- Trustee John J. Neuhauser /s/ THOMAS E. STITZEL* - ----------------------- Trustee Thomas E. Stitzel /s/ ROBERT L. SULLIVAN* - ----------------------- Trustee Robert L. Sullivan /s/ ANNE-LEE VERVILLE* - ----------------------- Trustee Anne-Lee Verville 176 INDEX OF EXHIBITS (b) Form of Amended and Restated By-Laws (d)(2) Form of Specimen Share Certificate (h) Form of Underwriting Agreement (k)(1) Form of Auction Agency Agreement (k)(2) Form of Broker-Dealer Agreement (l) Opinion and Consent of Ropes & Gray (n) Consent of independent accountants EX-99.(B) 2 FORM OF AMENDED & RESTATED BYLAWS 1 Exhibit (b) AMENDED AND RESTATED BY-LAWS OF COLONIAL MUNICIPAL INCOME TRUST Article 1. Agreement and Declaration of Trust and Principal Office 1.1. Agreement and Declaration of Trust. These By-Laws shall be subject to the Agreement and Declaration of Trust, as from time to time in effect (the "Declaration of Trust"), of Colonial Municipal Income Trust, a Massachusetts business Trust established by the Declaration of Trust (the "Trust.") 1.2. Principal Office of the Trust. The principal office of the Trust shall be located in Boston, Massachusetts. Article 2. Shareholders 2.1. Shareholders Meetings. The annual meeting of the shareholders of the Trust shall be held between April 1 and April 30 in each year, beginning in 1988, on a date and at a time within that period set by the Trustees. A special meeting of the shareholders of the Trust may be called at any time by the Trustees, by the president or, if the Trustees and the president shall fail to call any meeting of shareholders for a period of 30 days after written application of one or more shareholder who hold at least 10% of all outstanding shares of the Trust, the such shareholder may call such meeting. Each call of a meeting shall state the place, date, hour and purposes of the meeting. 2.2. Place of Meetings. All meetings of the shareholders shall be held at the principal office of the Trust, or, to the extent permitted by the Declaration of Trust, at such other place within the United States as shall be designated by the Trustees or the president of the Trust. 2.3. Notice of Meetings. A written notice of each meeting of shareholders, stating the place, date and hour and the purposes of the meeting, shall be given at least seven days before the meeting to each shareholder entitled to vote thereat by leaving such notice with him or at his residence or usual place of business or by mailing it, postage prepaid, and addressed to such shareholder at his address as it appears in the records of the Trust. Such notice shall be given by the secretary or an assistant secretary or by an officer designated by the Trustees. No notice of any meeting of shareholders need be given to a shareholder if a written waiver of notice, executed before or after the meeting by such shareholder or his attorney thereunto duly authorized, is filed with the records of the meeting. 2 2.4. Ballots. No ballots shall be required for any election unless requested by a shareholder present or represented at the meeting and entitled to vote in the election. Proxies. Shareholders entitled to vote may vote either in person or by proxy in writing dated not more than six months before the meeting named therein, which proxies shall be filed with the secretary or other person responsible to record the proceedings of the meeting before being voted. Unless otherwise specifically limited by their terms, such proxies shall entitle the holders thereof to vote at any adjournment of such meeting but shall not be valid after the final adjournment of such meeting. The placing of a shareholder's name on a proxy pursuant to telephonic or electronically transmitted instructions obtained pursuant to procedures reasonably designed to verify that such instruction have been authorized by such shareholder shall constitute execution of such proxy by or on behalf of such shareholder. Article 3. Trustees 3.1. Committees and Advisory Board. The Trustees may appoint from their number an executive committee and other committees. Except as the Trustees may otherwise determine, any such committee may make rules for conduct of its business. The Trustees may appoint an advisory board to consist of not less than two nor more than five members. The members of the advisory board shall be compensated in such manner as the Trustees may determine and shall confer with and advise the Trustees regarding the investments and other affairs of the Trust. Each member of the advisory board shall hold office until the first meeting of the Trustees following the next meeting of the shareholders and until his successor is elected and qualified, or until he sooner dies, resigns, is removed, or becomes disqualified, or until the advisory board is sooner abolished by the Trustees. In addition, the Trustees may appoint a Dividend Committee of not less than three persons, which shall be comprised of at least one Trustee of the Trust. No special compensation shall be payable to members of the Dividend Committee. Each member of the Dividend Committee will hold office until the successors are elected and qualified or until the member dies, resigns, is removed, becomes disqualified or until the Committee is abolished by the Trustees. 3.2. Regular Meetings. Regular meetings of the Trustees may be held without call or notice at such places and at such times as the Trustees may from time to time determine, provided that notice of the first regular meeting following any such determination shall be given to absent Trustees. 3.3. Special Meetings. Special meeting of the Trustees may be held at any time at any place designated in the call of the meeting, when called by the president or the treasurer or by -2- 3 two or more Trustees, sufficient notice thereof being given to each Trustee by the secretary or an assistant secretary or by the officer or one of the Trustees calling the meeting. 3.4. Notice. It shall be sufficient notice to a Trustee to send notice by mail at least forty-eight hours or by telegram at least twenty-four hours before the meeting addressed to the Trustee at his or her usual or last known business or residence address or to give notice to him or her in person or by telephone at least twenty-four hours before the meeting. Notice of a meeting need not be given to any Trustee if a written waiver of notice, executed by him or her before or after the meeting, is filed with the records of the meeting, or to any Trustee who attends the meeting without protesting prior thereto or at its commencement the lack of notice to him or her. Neither notice of a meeting nor a waiver of a notice need specify the purposes of the meeting. 3.5. Quorum. At any meeting of the Trustees one-third of the Trustees then in office shall constitute a quorum; provided, however, a quorum shall not be less than two. Any meeting may be adjourned from time to time by a majority of the votes cast upon the question, whether or not a quorum is present, and the meeting may be held as adjourned without further notice. Article 4. Officers and Agents 4.1. Enumeration; Qualification. The officers of the Trust shall be a president, a treasurer, a secretary and such other officers, if any, as the Trustees from time to time may in their discretion elect or appoint. The Trust may also have such agents, if any, as the Trustees from time to time may in their discretion appoint. Any officer may be but none need be a Trustee of shareholder. Any two or more offices may be held by the same person. 4.2. Powers. Subject to the other provisions of these By-Laws, each officer shall have, in addition to the duties and powers herein and in the Declaration of Trust set forth, such duties and powers as are commonly incident to his or her office as if the Trust were organized as a Massachusetts business corporation and such other duties and powers as the Trustees may from time to time designate, including without limitation the power to make purchases and sales of portfolio securities of the Trust pursuant to recommendations of the Trust's investment adviser in accordance with the policies and objective of the Trust set forth in its prospectus and with such general or specific instructions as the Trustees may from time to time have issued. 4.3. Election. The president, the treasurer and the secretary shall be elected annually by the Trustees at their first meeting following the annual meeting of the shareholders. Other elected officer are elected by the Trustees. Assistant officers are appointed by the elected officers. 4.4. Tenure. The president, the treasurer and the secretary shall hold office until their respective successors are chosen and qualified, or in each case until he or she sooner dies, -3- 4 resigns, is removed or becomes disqualified. Each other officer shall hold office at the pleasure of the Trustees. Each agent shall retain his or her authority at the pleasure of the Trustees. 4.5. President and Vice Presidents. The president shall be the chief executive officer of the Trust. The president shall preside at all meetings of the shareholders and of the Trustees at which he or she is present, except as otherwise voted by the Trustees. Any vice president shall have such duties and powers as shall be designated from time to time by the Trustees. 4.6. Treasurer and Controller. The treasurer shall be the chief financial officer of the Trust and subject to any arrangement made by the Trustees with a bank or trust company or other organization as custodian or transfer or shareholder services agent, shall be in charge of its valuable papers and shall have such duties and powers as shall be designated from time to time by the Trustees or by the president. Any assistant treasurer shall have such duties and powers as shall be designated from time to time by the Trustees. The Controller shall be the chief accounting officer of the Trust and shall be in charge of its books of account and accounting records. The Controller shall be responsible for preparation of financial statements of the Trust and shall have such other duties and powers as may be designated from time to time by the Trustees or the President. 4.7. Secretary and Assistant Secretaries. The secretary shall record all proceedings of the shareholders and the Trustees in books to be kept therefor, which books shall be kept at the principal office of the Trust. In the absence of the secretary from any meeting of shareholders or Trustees, an assistant secretary, or if there be none or he or she is absent, a temporary clerk chosen at the meeting shall record the proceedings thereof in the aforesaid books. Article 5. Resignations and Removals Any Trustee, officer or advisory board member may resign at any time by delivering his or her resignation in writing to the president, the treasurer or the secretary or to a meeting of the Trustees. The Trustees may remove any office elected by them with or without cause by the vote of a majority of the Trustee then in office. Except to the extent provided in a written agreement with the Trust, no Trustee, officer, or advisory board member resigning, and no officer or advisory board member shall have any right to any compensation for any period following his or her resignation or removal, or any right to damages on account of such removal. Article 6. Vacancies A vacancy in any office may be filled at any time. Each successor shall hold office for the unexpired term, and in the case of the president, the treasurer and the secretary, until his or -4- 5 her successor is chosen and qualified, or in each case until he or she sooner dies, resigns, is removed or becomes disqualified. Article 7. Shares of Beneficial Interest 7.1. Share Certificates. Except as provided in Section 12.1, each shareholder shall be entitled to a certificate stating the number of shares owned by him or her, in such form as shall be prescribed from time to time by the Trustees. Such certificate shall be signed by the president or a vice president and by the treasurer or an assistant treasurer. Such signatures may be facsimiles if the certificate is signed by a transfer agent or by a registrar, other than a Trustee, officer or employee of the Trust. In case any officer who has signed or whose facsimile signature has been placed on such certificate shall have ceased to be such officer before such certificate is issued, it may be issued by the Trustee with the same effect as if he or she were such officer at the time of its issue. In lieu of issuing certificates for shares, the Trustees or the transfer agent may either issue receipts therefor or may keep accounts upon the books of the Trust for the record holders of such shares, who shall in either case be deemed, for all purposes hereunder, to be the holder of certificates for such shares as if they had accepted such certificates and shall be held to have expressly assented and agreed to the terms hereof. 7.2. Loss of Certificates. In the case of the alleged loss or destruction or the mutilation of a share certificate, a duplicate certificate may be issued in place thereof, upon such terms as the Trustees may prescribe. 7.3. Discontinuance of Issuance of Certificates. The Trustees may at any time discontinue the issuance of share certificates and may, by written notice to each shareholder, require the surrender of share certificates of the Trust for cancellation. Such surrender and cancellation shall not affect the ownership of shares in the Trust. Article 8. Record Date and Closing Transfer Books The Trustees may fix in advance a time, which shall not be more than 60 days before the date of any meeting of shareholders or the date for the payment of any dividend or making of any other distribution to shareholders, as the record date for determining the shareholders having the right to notice and to vote at such meeting and any adjournment thereof or the right to receive such dividend or distribution, and in such case only shareholder of record on such record date shall have such right, notwithstanding any transfer of shares on the books of the Trust after the record date; or without fixing such record date the Trustees may for any such purposes close the transfer books for all or any part of such period. -5- 6 Article 9. Seal The seal of the Trust shall, subject to alteration by the Trustees, consist of a flat-faced circular die with the word "Massachusetts" together with the name of the Trust and the year of its organization, cut or engraved thereon; but, unless otherwise required by the Trustees, the seal shall not be necessary to be placed on, and its absence shall not impair the validity of, any document, instrument or other paper executed and delivered by or on behalf of the Trust. Article 10. Execution of Papers Except as the Trustees may generally or in particular cases authorize the execution thereof in some other manner, all deeds, leases, transfers, contracts, bonds, notes, checks, drafts and other obligations made, accepted or endorsed by the Trust shall be signed, and all transfers of securities standing in the name of the Trust shall be executed, by the president or by one of the vice presidents or by the treasurer or by whomsoever else shall be designated for that purpose by the vote of the Trustees and need not bear the seal of the Trust. Article 11. Fiscal Year Except as from time to time otherwise provided by the Trustees, the fiscal year of the Trust shall end on November 30. Article 12. Shares of Beneficial Interest The Trust has an unlimited number of common shares, without par value, which may be issued from time to time by the Trustees of the Trust. The Trust also has a class of 3,600 preferred shares, without par value, which may be issued by the Trustees from time to time in one or more series and with such designations, preferences and other rights, qualifications, limitations and restrictions as are determined by the Board of Trustees or a duly authorized committee thereof and set forth in this Article 12. 12.1. Statement Creating One Series of Municipal Auction Rate Cumulative Preferred Shares. There is one series of Municipal Auction Rate Cumulative Preferred Shares. -6- 7 PART I DESIGNATION SERIES F: A series of 3,600 preferred shares, without par value, liquidation preference $25,000 per share plus accumulated but unpaid dividends, if any, thereon (whether or not earned or declared), is hereby designated "Municipal Auction Rate Cumulative Preferred Shares, Series F" and is referred to below as "Series F Municipal Preferred." Each share of Series F Municipal Preferred shall be issued on ________, 1999; have an Applicable Rate for its Initial Rate Period equal to __% per annum; have an initial Dividend Payment Date of Monday, July __, 1999; and have such other preferences, limitations and relative voting and other rights, in addition to those required by applicable law or set forth in the Trust's Declaration of Trust, as are set forth in Part I and Part II of this Section 12.1. Series F Municipal Preferred shall constitute a separate series of Municipal Preferred of the Trust. The Board of Trustees of the Trust may, in their discretion, increase the number of shares of Municipal Preferred authorized under these Bylaws to authorize the issuance of another series of Municipal Preferred so long as such issuance is permitted by paragraph 5 of this Part I of this Section 12.1. 1. Definitions. Unless the context or use indicates another or different meaning or intent, in Part I and Part II of this Section 12.1 the following terms have the following meanings, whether used in the singular or plural: "'AA' Composite Commercial Paper Rate," on any date for any Rate Period of shares of a series of Municipal Preferred, shall mean (i) (A) in the case of any Minimum Rate Period or any Special Rate Period of fewer than 49 Rate Period Days, the interest equivalent of the 30-day rate; provided, however, that if such Rate Period is a Minimum Rate Period and the "AA" Composite Commercial Paper Rate is being used to determine the Applicable Rate for shares of such series when all of the Outstanding shares of such series are subject to Submitted Hold Orders, then the interest equivalent of the seven-day rate, and (B) in the case of any Special Rate Period of (1) 49 or more but fewer than 70 Rate Period Days, the interest equivalent of the 60-day rate; (2) 70 or more but fewer than 85 Rate Period Days, the arithmetic average of the interest equivalent of the 60-day and 90-day rates; (3) 85 or more but fewer than 99 Rate Period Days, the interest equivalent of the 90-day rate; (4) 99 or more but fewer than 120 Rate Period Days, the arithmetic average of the interest equivalent of the 90-day and 120-day rates; (5) 120 or more but fewer than 141 Rate Period Days, the interest equivalent of the 120-day rate; (6) 141 or more but fewer than 162 Rate Period Days, the arithmetic average of the 120-day and 180-day rates; and (7) 162 or more but fewer than 183 Rate Period Days, the interest equivalent of the 180-day rate, in each case on commercial paper placed on behalf of issuers whose corporate bonds are rate "AA" by S&P or the equivalent of such rating by S&P or another rating agency, as made available on a discount basis or otherwise by the Federal Reserve Bank of New York for the Business Day next preceding such date; or (ii) in the event that the Federal Reserve Bank of New York does not make available any such rate, then the arithmetic average of such rates, as quoted on a discount basis or otherwise, by the Commercial Paper Dealers to the Auction Agent for the close of business on the Business Day next preceding such date. If any Commercial Paper Dealer does -7- 8 not quote a rate required to determine the "AA" Composite Commercial Paper Rate, the "AA" Composite Commercial Paper Rate shall be determined on the basis of the quotation or quotations furnished by the remaining Commercial Paper Dealer or Commercial Paper Dealers and any Substitute Commercial Paper Dealer or Substitute Commercial Paper Dealers selected by the Trust to provide such rate or rates not being supplied by any Commercial Paper Dealer or Commercial Paper Dealers, as the case may be, or, if the Trust does not select any such Substitute Commercial Paper Dealer or Substitute Commercial Paper Dealers, by the remaining Commercial Paper Dealer or Commercial Paper Dealers. For purposes of this definition, the "interest equivalent" of a rate stated on a discount basis (a "discount rate") for commercial paper of a given days' maturity shall be equal to the quotient (rounded upwards to the next higher one-thousandth (.001) of 1% of (A) the discount rate divided by (B) the difference between (x) 1.00 and (y) a fraction the numerator of which shall be the product of the discount rate times the number of days in which such commercial paper matures and the denominator of which shall be 360. "Accountant's Confirmation" shall have the meaning specified in paragraph 7(c) of this Part I of Section 12.1. "Affiliate" shall mean, for purposes of the definition of "Outstanding," any Person known to the Auction Agent to be controlled by, in control of or under common control with the Trust; provided, however, that no Broker-Dealer controlled by, in control of or under common control with the Trust shall be deemed to be an Affiliate nor shall any corporation or any Person controlled by, in control of or under common control with such corporation, one of the trustees, directors or executive officers of which is a trustee of the Trust be deemed to be an Affiliate solely because such trustee, director or executive officer is also a trustee of the Trust. "Agent Member" shall mean a member of or participant in the Securities Depository that will act on behalf of a Bidder. "Anticipation Notes" shall mean Tax Anticipation Notes (TANs), Revenue Anticipation Notes (RANs), Tax and Revenue Anticipation Notes (TRANs), Grant Anticipation Notes (GANs) that are rated by S&P and Bond Anticipation Notes (BANs). "Applicable Rate" shall have the meaning specified in paragraph 2(e)(i) of this Part I of this Section 12.1. "Auction" shall mean each periodic implementation of the Auction Procedures. "Auction Agency Agreement" shall mean the agreement between the Trust and the Auction Agent which provides, among other things, that the Auction Agent will follow the Auction Procedures for purposes of determining the Applicable Rate for shares of a series of Municipal Preferred so long as the Applicable Rate for shares of such series is to be based on the results of an Auction. -8- 9 "Auction Agent" shall mean the entity appointed as such by a resolution of the Board of Trustees in accordance with paragraph 6 of Part II of this Section 12.1. "Auction Date," with respect to any Rate Period, shall mean the Business Day next preceding the first day of such Rate Period. "Auction Procedures" shall mean the procedures for conducting Auctions set forth in Part II of this Section 12.1. "Available Municipal Preferred" shall have the meaning specified in paragraph 3(a) of Part II of this Section 12.1. "Benchmark Rate" shall have the meaning specified in paragraph 3(c) of Part II of this Section 12.1. "Beneficial Owner" with respect to shares of a series of Municipal Preferred, means a customer of a Broker-Dealer who is listed on the records of that Broker-Dealer (or, if applicable, the Auction Agent) as a holder of shares of such series. "Bid" and "Bids" shall have the respective meanings specified in paragraph 1(a) of Part II of this Section 12.1. "Bidder" and "Bidders" shall have the respective meanings specified in paragraph 1(a) of Part II of this Section 12.1; provided, however, that neither the Trust nor any affiliate thereof shall be permitted to be a Bidder in an Auction, except that any Broker-Dealer that is an affiliate of the Trust may be a Bidder in an Auction, but only if the Orders placed by such Broker-Dealer are not for its own account. "Board of Trustees" shall mean the Board of Trustees of the Trust or any duly authorized committee thereof. "Broker-Dealer" shall mean any broker-dealer, commercial bank or other entity permitted by law to perform the functions required of a Broker-Dealer in Part II of this Section 12.1, that is a member of, or a participant in, the Securities Depository or is an affiliate of such member or participant, has been selected by the Trust and has entered into a Broker-Dealer Agreement that remains effective. "Broker-Dealer Agreement" shall mean an agreement among the Trust, the Auction Agent and a Broker-Dealer pursuant to which such Broker-Dealer agrees to follow the procedures specified in Part II of this Section 12.1. -9- 10 "Business Day" shall mean a day on which the New York Stock Exchange is open for trading, and which is neither a Saturday, Sunday nor any other day on which banks in The City of New York, New York are authorized by law to close. "By-laws" means these Amended and Restated By-laws of the Trust. "Code" means the Internal Revenue Code of 1986, as amended from time to time. "Commercial Paper Dealers" means Lehman Commercial Paper Incorporated, Goldman, Sachs & Co. and Merrill Lynch, Pierce, Fenner & Smith and such other commercial paper dealer or dealers as the Trust may from time to time appoint, or, in lieu of any thereof, their respective affiliates or successors. "Common Shares" means the common shares of beneficial interest, without par value, of the Trust. "Cure Date" shall have the meaning specified in of paragraph 11(b) of this Part I of this Section 12.1. "Date of Original Issue" with respect to shares of a series of Municipal Preferred, shall mean the date on which the Trust originally issued such shares. "Declaration" shall mean the Agreement and Declaration of Trust dated January 22, 1987 of the Trust, as amended by Amendment No. 1 dated August 4, 1989 to the Agreement and Declaration of Trust of the Trust, both on file with the Secretary of State of The Commonwealth of Massachusetts and as hereafter restated or amended from time to time. "Deposit Securities" shall mean cash and Municipal Obligations rated at least A-1+ or SP-1+ by S&P, except that, for purposes of subparagraph (a)(v) of paragraph 11 of Part I of this Section 12.1, such Municipal Obligations shall be considered "Deposit Securities" only if they are also rated P-1, MIG-1 or VMIG-1 by Moody's. "Discounted Value," as of any Valuation Date, shall mean, (i) with respect to an S&P Eligible Asset, the quotient of the Market Value thereof divided by the applicable S&P Discount Factor and (ii) (a) with respect to a Moody's Eligible Asset that is not currently callable as of such Valuation Date at the option of the issuer thereof, the quotient of the Market Value thereof divided by the applicable Moody's Discount Factor, or (b) with respect to a Moody's Eligible Asset that is currently callable as of such Valuation Date at the option of the issuer thereof, the quotient of (1) the lesser of the Market Value or call price thereof, including any call premium, divided by (2) the applicable Moody's Discount Factor. -10- 11 "Dividend Payment Date," with respect to shares of a series of Municipal Preferred, shall mean any date on which dividends are payable on shares of such series pursuant to the provisions of paragraph 2(d) of Part I of this Section 12.1. "Dividend Period," with respect to shares of a series of Municipal Preferred, shall mean the period from and including the Date of Original Issue of shares of such series to but excluding the initial Dividend Payment Date for shares of such series and any period thereafter from and including one Dividend Payment Date for shares of such series to but excluding the next succeeding Dividend Payment Date for shares of such series. "Escrowed Bonds" means Municipal Obligations that (i) have been determined to be legally defeased in accordance with S&P's legal defeasance criteria, (ii) have been determined to be economically defeased in accordance with S&P's economic defeasance criteria and assigned a rating of AAA by S&P, (iii) are not rated by S&P but have been determined to be legally defeased by Moody's, or (iv) have been determined to be economically defeased by Moody's and assigned a rating no lower than the rating that is Moody's equivalent of S&P's AAA rating. "Existing Holder," with respect to shares of a series of Municipal Preferred, shall mean a Broker-Dealer (or any such other Person as may be permitted by the Trust) that is listed on the records of the Auction Agent as a holder of shares of such series. "Failure to Deposit," with respect to shares of a series of Municipal Preferred, shall mean a failure by the Trust to pay to the Auction Agent, not later than 12:00 noon, New York City time, (A) on the Business Day next preceding any Dividend Payment Date for shares of such series, in funds available on such Dividend Payment Date in The City of New York, New York, the full amount of any dividend (whether or not earned or declared) to be paid on such Dividend Payment Date on any share of such series or (B) on the Business Day next preceding any redemption date in funds available on such redemption date for shares of such series in The City of New York, New York, the Redemption Price to be paid on such redemption date for any shares of such series after notice of redemption is mailed pursuant to paragraph 11(c) of Part I of this Section 12.1; provided, however, that the foregoing clause (B) shall not apply to the Trust's failure to pay the Redemption Price in respect of shares of Municipal Preferred when the related Notice of Redemption provides that redemption of such shares is subject to one or more conditions precedent and any such condition precedent shall not have been satisfied at the time or times and in the manner specified in such Notice of Redemption. "Federal Tax Rate Increase" shall have the meaning specified in the definition of "Moody's Volatility Factor." "Gross-up Payment" in respect of any dividend means payment to a Holder of shares of a series of Municipal Preferred of an amount which, giving effect to the Taxable Allocations made with respect to such dividend, would cause such Holder's after-tax returns (taking into account both the Taxable Allocations and the Gross-up Payment) to be equal to the after-tax -11- 12 return the Holder would have received if no such Taxable Allocations had occurred. Such Gross-up Payment shall be calculated: (i) without consideration being given to the time value of money; (ii) assuming that no Holder of shares of Municipal Preferred is subject to the Federal alternative minimum tax with respect to dividends received from the Trust; and (iii) assuming that each Holder of shares of Municipal Preferred is taxable at the maximum marginal regular Federal individual income tax rate applicable to ordinary income or net capital gain, as applicable, or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income or net capital gain, as applicable, whichever is greater, in effect at the time such Gross-up Payment is made. "Holder," with respect to shares of a series of Municipal Preferred, shall mean the Registered Holder of such shares as the same appears on the record books of the Trust. "Hold Order" and "Hold Orders" shall have the respective meanings specified in paragraph 1(a) of Part II of this Section 12.1. "Independent Accountant" shall mean a nationally recognized accountant, or firm of accountants, that is, with respect to the Trust, an independent public accountant or firm of independent public accountants under the Securities Act of 1933, as amended from time to time. "Initial Margin" means the amount of cash or securities deposited with a broker as a margin payment at the time of purchase or sale of a futures contract. "Initial Rate Period," with respect to shares of a series of Municipal Preferred, shall mean the period from and including the Date of Original Issue for such series to but excluding the initial Dividend Payment Date for such series. "Interest Equivalent" shall mean a yield on a 360-day basis of a discount basis security which is equal to the yield on an equivalent interest-bearing security. "Inverse Floater" shall mean trust certificates or other instruments evidencing interests in one or more municipal securities that qualify as S&P Eligible Assets (and satisfy the issuer and size requirements of the definition of S&P Eligible Assets) the interest rates on which are adjusted at short-term intervals on a basis that is inverse to the simultaneous readjustment of the interest rates on corresponding floating rate trust certificates or other instruments issued by the same issuer, provided that the ratio of the aggregate dollar amount of floating rate instruments to inverse floating rate instruments issued by the same issuer does not exceed one to one at their time or original issuance unless the floating rate instrument has only one reset remaining until maturity. "Kenny Index" shall have the meaning set forth under the definition of "Taxable Equivalent of the Short-Term Municipal Bond Rate." -12- 13 "Late Charge" shall have the meaning specified in paragraph 2(e)(i)(B) of Part I of this Section 12.1. "Liquidation Preference," with respect to a given number of shares of Municipal Preferred, means $25,000 times that number. "Market Value" of any asset of the Trust means the market value thereof determined by the pricing service designated from time to time by the Board of Trustees. Market Value of any asset shall include any interest accrued thereon. The pricing service will use current industry standards to value portfolio securities. The pricing service may employ electronic data processing techniques or a matrix system, or both, to determine valuations. Securities for which quotations are not readily available shall be valued at fair value as determined by the pricing service using methods which include consideration of: yields or prices of municipal bonds of comparable quality, type of issue, coupon, maturity and rating; indications as to value from dealers; and general market conditions. In the event the pricing service is unable to value a security, the security shall be valued at the lower of two dealer bids obtained by the Trust from dealers who are nationally recognized members of the National Association of Securities Dealers, Inc. who are independent of the investment advisor to the Trust and make a market in the security, at least one of which shall be in writing. Futures contracts and options are valued at closing prices for such instruments established by the exchange or board of trade on which they are traded, or if market quotations are not readily available, are valued at fair value on a consistent basis using methods determined in good faith by the Trustees. "Maximum Potential Gross-up Payment Liability," as of any Valuation Date, shall mean the aggregate amount of Gross-up Payments that would be due if the Trust were to make Taxable Allocations, with respect to any taxable year, estimated based upon dividends paid and the amount of undistributed realized net capital gains and other taxable income earned by the Trust, as of the end of the calendar month immediately preceding such Valuation Date, and assuming such Gross-up Payments are fully taxable. "Maximum Rate," for shares of a series of Municipal Preferred on any Auction Date for shares of such series, shall mean: (i) in the case of any Auction Date which is not the Auction Date immediately prior to the first day of any proposed Special Rate Period designated by the Trust pursuant to paragraph 4 of Part I of this Section 12.1, the product of (A) the Reference Rate on such Auction Date for the next Rate Period of shares of such series and (B) the Rate Multiple on such Auction Date, unless shares of such series have or had a Special Rate Period (other than a Special Rate Period of 28 Rate Period Days or fewer) and an Auction at which Sufficient Clearing Bids existed has not yet occurred for a Minimum Rate Period of shares of such series after such Special Rate Period, in which case the higher of: -13- 14 (A) the dividend rate on shares of such series for the then-ending Rate Period; and (B) the product of (1) the higher of (x) the Reference Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period of shares of such series, if such then-ending Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period of shares of such series, if such then-ending Rate Period was more than 364 Rate Period Days, and (y) the Reference Rate on such Auction Date for a Rate Period equal in length to such Special Rate Period of shares of such series, if such Special Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to such Special Rate Period, if such Special Rate Period was more than 364 Rate Period Days and (2) the Rate Multiple on such Auction Date; or (ii) in the case of any Auction Date which is the Auction Date immediately prior to the first day of any proposed Special Rate Period designated by the Trust pursuant to paragraph 4 of Part I of this Section 12.1, the product of (A) the highest of (1) the Reference Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period of shares of such series, if such then-ending Rate Period was 364 Rate Period Dates or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period of shares of such series, if such then-ending Rate Period was more than 364 Rate Period Days, (2) the Reference Rate on such Auction Date for the Special Rate Period for which the Auction is being held if such Special Rate Period is 364 Rate Period Days or fewer or the Treasury Note Rate on such Auction Date for the Special Rate Period for which the Auction is being held if such Special Rate Period is more than 364 Rate Period Days, and (3) the Reference Rate on such Auction Date for Minimum Rate Periods and (B) the Rate Multiple on such Auction Date. "Minimum Rate Period" shall mean any Rate Period consisting of 7 Rate Period Days. "Moody's" shall mean Moody's Investors Service, Inc., a Delaware corporation, and its successors. "Moody's Discount Factor" shall mean, for purposes of determining the Discounted Value of any Moody's Eligible Asset, the percentage determined by reference to the rating on such asset and the shortest Exposure Period set forth opposite such rating that is the same length as or is longer than the Moody's Exposure Period, in accordance with the table set forth below: -14- 15 Rating Category
Exposure Period Aaa* Aa* A* Baa* Other** (V)MIG-1*** SP-1+**** Unrated***** - --------------- ---- --- -- ---- ------- ----------- --------- ----------- 7 weeks.............. 151% 159% 166% 173% 187% 136% 148% 225% 8 weeks or less but greater than seven weeks................ 154 161 168 176 190 137 149 231 9 weeks or less but greater than eight weeks................ 156 163 170 177 192 138 150 240
* Moody's rating. ** Municipal Obligations not rated by Moody's but rated BBB by S&P. *** Municipal Obligations rated MIG-1 or VMIG-1, which do not mature or have a demand feature at par exercisable in 30 days and which do not have a long-term rating. **** Municipal Obligations not rated by Moody's but rated SP-1+ by S&P, which do not mature or have a demand feature at par exercisable in 30 days and which do not have a long-term rating. ***** Municipal Obligations rated less than Baa3 by Moody's or less than BBB by S&P or not rated by Moody's or S&P. Notwithstanding the foregoing, (i) the Moody's Discount Factor for short-term Municipal Obligations will be 115%, so long as such Municipal Obligations are rated at least MIG-1, VMIG-1 or P-1 by Moody's and mature or have a demand feature at par exercisable in 30 days or less or 125% so long as such Municipal Obligations are rated at least A-1+/AA or SP-1+/AA by S&P and mature or have a demand feature at par exercisable in 30 days or less and (ii) no Moody's Discount Factor will be applied to cash or to Receivables for Municipal Obligations Sold or futures, options and similar instruments (to the extent such securities are Moody's Eligible Assets); provided, however, that for purposes of determining the Moody's Discount Factor applicable to a Municipal Obligation, any Municipal Obligation (excluding any short-term Municipal Obligation) not rated by Moody's but rated by S&P shall be deemed to have a Moody's rating which is one full rating category lower than its S&P rating. "Moody's Eligible Asset" shall mean cash, Receivables for Municipal Obligations Sold, futures, options and similar instruments (other than Inverse Floaters and index warrants) or a Municipal Obligation that (i) pays interest in cash, (ii) does not have its Moody's rating, if applicable, suspended by Moody's, (iii) is part of an issue of Municipal Obligations of at least $10,000,000, and (iv) is not subject to a covered call or a covered put option written by the Trust. Municipal Obligations issued by any one issuer and not rated by Moody's or rated lower than Baa3 by Moody's and not rated by S&P or rated lower than BBB by S&P ("Unrated Moody's Municipal Obligations") may comprise no more than 4% of total Moody's Eligible Assets; such Unrated Moody's Municipal Obligations, if any, together with any Municipal Obligations issued by the same issuer and rated BBB by S&P may comprise no more than 4% of total Moody's -15- 16 Eligible Assets; such BBB-rated Municipal Obligations and Unrated Moody's Municipal Obligations, if any, together with any Municipal Obligations issued by the same issuer and rated Baa by Moody's or A by S&P may comprise no more than 6% of total Moody's Eligible Assets; such BBB, Baa and A-rated Municipal Obligations and Unrated Moody's Municipal Obligations, if any, together with any Municipal Obligations issued by the same issuer and rated A by Moody's or AA by S&P, may comprise no more than 10% of total Moody's Eligible Assets; and such BBB, Baa, A and AA-rated Municipal Obligations and Unrated Moody's Municipal Obligations, if any, together with any Municipal Obligations issued by the same issuer and rated Aa by Moody's or AAA by S&P, may comprise no more than 20% of total Moody's Eligible Assets. For purposes of the foregoing sentence, any Municipal Obligation backed by the guaranty, letter of credit or insurance issued by a third party shall be deemed to be issued by such third party if the issuance of such third-party credit is the sole determinant of the rating on such Municipal Obligations. Municipal Obligations issued by issuers located within a single state or territory and not rated by Moody's or rated lower than Baa3 by Moody's and not rated by S&P or rated lower than BBB by S&P may comprise no more than 12% of total Moody's Eligible Assets; such Unrated Moody's Municipal Obligations, if any, together with any Municipal Obligations issued by issuers located within the same state or territory and rated BBB by S&P may comprise no more than 12% of total Moody's Eligible Assets; such BBB-rated Municipal Obligations and Unrated Moody's Municipal Obligations, if any, together with any Municipal Obligations issued by issuers located within the same state or territory and rated Baa by Moody's or A by S&P, may comprise no more than 20% of total Moody's Eligible Assets; such BBB, Baa and A-rated Municipal Obligations and Unrated Moody's Municipal Obligations, if any, together with any Municipal Obligations issued by issuers located within the same state or territory and rated A by Moody's or AA by S&P, may comprise no more than 40% of total Moody's Eligible Assets; and such BBB, Baa, A and AA-rated Municipal Obligations and Unrated Moody's Municipal Obligations, if any, together with any Municipal Obligations issued by issuers located within the same state or territory and rated Aa by Moody's or AAA by S&P, may comprise no more than 60% of total Moody's Eligible Assets. Municipal Obligations which are not rated by Moody's or S&P may comprise no more than 40% of the aggregate Market Value of Moody's Eligible Assets; provided, however, that if the Market Value of such Municipal Obligations exceeds 40% of the aggregate Market Value of Moody's Eligible Assets, a portion of such Municipal Obligations (selected by the Trust) shall not be considered Moody's Eligible Assets, so that the Market Value of such Municipal Obligations (excluding such portion) does not exceed 40% of the aggregate Market Value of Moody's Eligible Assets; provided, however, that no such unrated Municipal Obligation shall be considered a Moody's Eligible Asset if such Municipal Obligation shall be in "default", which term shall mean for purposes of this definition, either (a) the nonpayment by the issuer of interest or principal when due or (b) the notification of the Trust by the trustee under the underlying indenture or other governing instrument for such Municipal Obligation that the issuer will fail to pay when due principal or interest on such Municipal Obligation. For purposes of applying the foregoing requirements, a Municipal Obligation shall be deemed to be rated BBB by S&P if rated BBB-, BBB or BBB+ by S&P, Moody's Eligible Assets shall be calculated without including cash, and Municipal Obligations rated MIG-1, VMIG-1 or P-1 or, if not rated by Moody's, rated A-1+/Aa or SP-1+/AA by S&P, shall be -16- 17 considered to have a long-term rating of A. When the Trust sells a Municipal Obligation and agrees to repurchase such Municipal Obligation at a future day, such Municipal Obligation shall be valued at its Discounted Value for purposes of determining Moody's Eligible Assets, and the amount of the repurchase price of such Municipal Obligation shall be included as a liability for purposes of calculating the Municipal Preferred Basic Maintenance Amount. When the Trust purchases a Moody's Eligible Asset and agrees to sell it at a future date, such Eligible Asset shall be valued at the amount of cash to be received by the Trust upon such future date, provided that the counterparty to the transaction has a long-term debt rating of at least A2 and a short-term debt rating of at least P-1 from Moody's and the transaction has a term of no more than 30 days; otherwise such Eligible Asset shall be valued at the Discounted Value of such Eligible Asset. For purposes of determining the aggregate Discounted Value of Moody's Eligible Assets, such aggregate amount shall be reduced with respect to any futures contracts as set forth in paragraph 10(a) of this Part I. Notwithstanding the foregoing, an asset will not be considered a Moody's Eligible Asset to the extent it is (i) subject to any material lien, mortgage, pledge, security interest or security agreement of any kind (collectively, "Liens"), except for (a) Liens which are being contested in good faith by appropriate proceedings and which Moody's has indicated to the Trust will not affect the status of such asset as a Moody's Eligible Asset, (b) Liens for taxes that are not then due and payable or that can be paid thereafter without penalty, (c) Liens to secure payment for services rendered or cash advanced to the Trust by Colonial Management Associates, Inc., The Chase Manhattan Bank or the Auction Agent and (d) Liens by virtue of any repurchase agreement or futures contract; or (ii) deposited irrevocably for the payment of any liabilities for purposes of determine the Municipal Preferred Basic Maintenance Amount. "Moody's Exposure Period" shall mean the period commencing on a given Valuation Date and ending 49 days thereafter. "Moody's Volatility Factor" shall mean, as of any Valuation Date, (i) in the case of any Minimum Rate Period, any Special Rate period of 28 Rate Period Days or fewer, or any Special Rate Period of 57 Rate Period Days or more, a multiplicative factor equal to 275%, except as otherwise provided in the last sentence of this definition; (ii) in the case of any Special Rate Period of more than 28 but fewer than 36 Rate Period Days, a multiplicative factor equal to 203%; (iii) in the case of any Special Rate Period of more than 35 but fewer than 43 Rate Period Days, a multiplicative factor equal to 217%; (iv) in the case of any Special Rate Period of more than 42 but fewer than 50 Rate Period Days, a multiplicative factor equal to 226%; and (v) in the case of any Special Rate Period of more than 49 but fewer than 57 Rate Period Days, a multiplicative factor equal to 235%. If, as a result of the enactment of changes to the Code, the greater of the maximum marginal Federal individual income tax rate applicable to ordinary income and the maximum marginal Federal corporate income tax rate applicable to ordinary income will increase, such increase being rounded up to the next five percentage points (the "Federal Tax Rate Increase"), until the effective date of such increase, the Moody's Volatility Factor in the case of any Rate Period described in (i) above in this definition instead shall be determined by reference to the following table: -17- 18
Federal Volatility Tax Rate Increase Factor ----------------- ---------- 5% 295% 10% 317% 15% 341% 20% 369% 25% 400% 30% 436% 35% 477% 40% 525%
"Municipal Obligations" shall mean "Municipal Obligations" as defined in the Trust's registration statement on Form N-2 as filed with the Securities and Exchange Commission on July __, 1999 (the "Registration Statement"). "Municipal Preferred" shall mean Municipal Auction Rate Cumulative Preferred Shares, without par value, liquidation preference $25,000 per share, of the Trust. "Municipal Preferred Basic Maintenance Amount," as of any Valuation Date, shall mean the dollar amount equal to the sum of (i) (A) the product of the number of shares of Municipal Preferred outstanding on such date multiplied by $25,000 (plus the product of the number of shares of any other series of Preferred Shares outstanding on such date multiplied by the liquidation preference of such shares), plus any redemption premium applicable to shares of Municipal Preferred (or other Preferred Shares) then subject to redemption; (B) the aggregate amount of dividends that will have accumulated at the respective Applicable Rates (whether or not earned or declared) to (but not including) the first respective Dividend Payment Dates for shares of Municipal Preferred outstanding that follow such Valuation Date (plus the aggregate amount of dividends, whether or not earned or declared, that will have accumulated in respect of other outstanding Preferred Shares to, but not including, the first respective dividend payment dates for such other shares that follow such Valuation Date); (C) the aggregate amount of dividends that would accumulate on shares of each series of Municipal Preferred outstanding from such first respective Dividend Payment Date therefor through the 49th day after such Valuation Date, at the Maximum Rate (calculated as if such Valuation Date were the Auction Date for the Rate Period commencing on such Dividend Payment Date) for a Minimum Rate Period of shares of such series to commence on such Dividend Payment Date, assuming, solely for purposes of the foregoing, that if on such Valuation Date the Trust shall have delivered a Notice of Special Rate Period to the Auction Agent pursuant to paragraph 4(d)(i) of this Part I with respect to shares of such series, such Maximum Rate shall be the higher of (a) the Maximum Rate for the Special Rate Period of shares of such series to commence on such Dividend Payment Date and (b) the Maximum Rate for a Minimum Rate Period of shares of such series to commence on such Dividend Payment Date, multiplied by the Volatility Factor applicable to a Minimum Rate Period, or, in the event the Trust shall have delivered a Notice of -18- 19 Special Rate Period to the Auction Agent pursuant to paragraph 4(d)(i) of this Part I with respect to shares of such series designating a Special Rate Period consisting of 49 Rate Period Days or more, the Volatility Factor applicable to a Special Rate Period of that length (plus the aggregate amount of dividends that would accumulate at the maximum dividend rate or rates on any other Preferred Shares outstanding from such respective dividend payment dates through 49th day after such Valuation Date, as established by or pursuant to the respective statements establishing and fixing the rights and preferences of such other Preferred Shares) (except that (1) if such Valuation Date occurs at a time when a Failure to Deposit (or, in the case of Preferred Shares other than Municipal Preferred, a failure similar to a Failure to Deposit) has occurred that has not been cured, the dividend for purposes of calculation would accumulate at the current dividend rate then applicable to the shares in respect of which such failure has occurred and (2) for those days during the period described in this subparagraph (C) in respect of which the Applicable Rate in effect immediately prior to such Dividend Payment Date will remain in effect (or, in the case of the Preferred Shares other than Municipal Preferred, in respect of which the dividend rate or rates in effect immediately prior to such respective dividend payment dates will remain in effect), the dividend for purposes of calculation would accumulate at such Applicable Rate (or other rate or rates, as the case may be) in respect of those days); (D) the amount of anticipated expenses of the Trust for the 90 days subsequent to such Valuation Date; (E) the amount of the Trust's Maximum Potential Gross-up Payment Liability in respect of shares of Municipal Preferred (and similar amounts payable in respect of other Preferred Shares pursuant to provisions similar to those contained in paragraph 3 of Part I of this Section 12.1) as of such Valuation Date; and (F) any current liabilities as of such Valuation Date to the extent not reflected in any of (i)(A) through (i)(E) (including, without limitation, any payables for Municipal Obligations purchased as of such Valuation Date and any liabilities incurred for the purpose of clearing securities transactions) less (ii) the value (i.e., for purposes of current Moody's guidelines, the face value of cash, short-term Municipal Obligations rated MIG-1, VMIG-1 or P-1, and short-term securities that are the direct obligation of the U.S. government, provided in each case that such securities mature on or prior to the date upon which any of (i)(A) through (i)(F) become payable, otherwise the Moody's Discounted Value or for purposes of current S&P guides, the face value of cash, short-term municipal securities rated "A-1+" or "SP-1+" and mature or have a demand feature exercisable in 30 days or less, and short-term securities that are the direct obligation of the U.S. government, provided in each case that such securities mature on or prior to the date upon which any of (i)(A) through (i)(F) become payable, otherwise S&P's Discounted Value) of any of the Trust's assets irrevocably deposited by the Trust for the payment of any of (i)(A) through (i)(F). "Municipal Preferred Basic Maintenance Cure Date," with respect to the failure by the Trust to satisfy the Municipal Preferred Basic Maintenance Amount (as required by paragraph 7(a) of Part I of this Section 12.1) as a given Valuation Date, shall mean the second Business Day following such Valuation Date. "Municipal Preferred Basic Maintenance Report" shall mean a report signed by the President, Treasurer, Controller, Secretary or any Senior Vice President or Vice President of the Trust which sets forth, as of the related Valuation Date, the assets of the Trust, the Market Value -19- 20 and the Discounted Value thereof (seriatim and in aggregate), and the Municipal Preferred Basic Maintenance Amount. "1940 Act" shall mean the Investment Company Act of 1940, as amended from time to time. "1940 Act Cure Date," with respect to the failure by the Trust to maintain the 1940 Act Municipal Preferred Asset Coverage (as required by paragraph 7 of this Part I of Section 12.1) as of the last Business Day of each month, shall mean the last Business Day of the following month. "1940 Act Municipal Preferred Asset Coverage" shall mean asset coverage, as defined in Section 18(h) of the 1940 Act, of at least 200% with respect to all outstanding senior securities of the Trust which are shares of beneficial interest, including all outstanding shares of Municipal Preferred (or such other asset coverage as may in the future be specified in or under the 1940 Act as the minimum asset coverage for senior securities which are shares or stock of a closed-end investment company as a condition of declaring dividends on its common shares or stock). "Notice of Redemption" shall mean any notice with respect to the redemption of shares of Municipal Preferred pursuant to paragraph 11(c) of this Part I of Section 12.1. "Notice of Special Rate Period" shall mean any notice with respect to a Special Rate Period of shares of Municipal Preferred pursuant to paragraph 4(d)(i) of this Part I of Section 12.1. "Order" and "Orders" shall have the respective meanings specified in paragraph 1(a) of Part II of this Section 12.1. "Outstanding" shall mean, as of any Auction Date with respect to shares of any series of Municipal Preferred, the number of shares of such series theretofore issued by the Trust except, without duplication, (i) any shares of such series theretofore canceled or delivered to the Auction Agent for cancellation or redeemed by the Trust, (ii) any shares of such series as to which the Trust or any Affiliate thereof shall be an Existing Holder and (iii) any shares of such series represented by any certificate in lieu of which a new certificate has been executed and delivered by the Trust. "Persons" shall mean and include an individual, a partnership, a corporation, a trust, an unincorporated association, a joint venture or other entity or a government or any agency or political subdivision thereof. "Potential Beneficial Owner," with respect to shares of a series of Municipal Preferred, shall mean a customer of a Broker-Dealer that is not a Beneficial Owner of shares of such series but that wishes to purchase shares of such series, or that is a Beneficial Owner of shares of such series that wishes to purchase additional shares of such series. -20- 21 "Potential Holder," with respect to shares of a series of Municipal Preferred, shall mean a Broker-Dealer (or any such other person as may be permitted by the Trust) that is not an Existing Holder of shares of such series or that is an Existing Holder of shares of such series that wishes to become the Existing Holder of additional shares of such series. "Preferred Shares" shall mean the preferred shares, without par value, of the Trust, and includes the shares of Municipal Preferred. "Quarterly Valuation Date" shall mean the last Business Day of each February, May, August, and November of each year, commencing on August, 1999 with respect to Series F Municipal Preferred. "Rate Multiple," for shares of a series of Municipal Preferred on any Auction Date for shares of such series, shall mean the percentage, determined as set forth below, based on the prevailing rating of shares of such series in effect at the close of business on the Business Day next preceding such Auction Date:
Prevailing Rating Percentage ----------------- ---------- "aa3"/AA- or higher........................................ 110% "a3"/A-.................................................... 125% "baa3"/BBB-................................................ 150% "ba3"/BB-.................................................. 200% Below "ba3"/BB-............................................ 250%
provided, however, that in the event the Trust has notified the Auction Agent of its intent to allocate income taxable for Federal income tax purposes to shares of such series prior to the Auction establishing the Applicable Rate for shares of such series, the applicable percentage in the foregoing table shall be divided by the quantity 1 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income, whichever is greater. For purposes of this definition, the "prevailing rating" of shares of a series of Municipal Preferred shall be (i) "aa3"/AA- or higher if such shares have a rating of "aa3" or better by Moody's and AA- or better by S&P or the equivalent of such ratings by such agencies or a substitute rating agency or substitute rating agencies selected as provided below, (ii) if not "aa3"/AA- or higher, then "a3"/A- if such shares have a rating of "a3" or better by Moody's and A- or better by S&P or the equivalent of such ratings by such agencies or a substitute rating agency or substitute rating agencies selected as provided below, (iii) if not "aa3"/AA- or higher or "a3"/A-, then "baa3"/BBB- if such shares have a rating of "baa3" or better by Moody's and BBB- or better by S&P or the equivalent of such ratings by such agencies or a substitute rating agency or substitute rating agencies selected as provided below, (iv) if not "aa3"/AA- or higher, "a3"/A- or "baa3"/BBB-, then "ba3"/BB- if such shares have a rating of "ba3" or better by Moody's and BB- or better by S&P or the equivalent of such ratings by such agencies or a -21- 22 substitute rating agency or substitute rating agencies selected as provided below, and (v) if not "aa3"/AA- or higher, "a3"/A-, "baa3"/BBB-, or "ba3"/BB-, then Below "ba3"/BB-; provided, however, that if such shares are rated by only one rating agency, the prevailing rating will be determined without reference to the rating of any other rating agency. The Trust shall take all reasonable action necessary to enable either S&P or Moody's to provide a rating for shares of Municipal Preferred. If neither S&P nor Moody's shall make such a rating available, Salomon Smith Barney, Inc. or its successor shall select at least one nationally recognized statistical rating organization (as that term is used in the rules and regulations of the Securities and Exchange Commission under the Securities Exchange Act of 1934, as amended from time to time) to act as a substitute rating agency in respect of shares of such series of Municipal Preferred, and the Trust shall take all reasonable action to enable such rating agency to provide a rating for such shares. "Rate Period," with respect to shares of a series of Municipal Preferred, shall mean the Initial Rate Period of shares of such series and any Subsequent Rate Period, including any Special Rate Period, of shares of such series. "Rate Period Days," for any Rate Period or Dividend Period, means the number of days that would constitute such Rate Period or Dividend Period but for the application of paragraph 2(d) of Part I of this Section 12.1 or paragraph 4(b) of Part I of this Section 12.1. "Receivables for Municipal Obligations Sold" shall mean (A) for purposes of calculating Moody's Eligible Assets as of any Valuation Date, no more than the aggregate of the following: (i) the book value of receivables for Municipal Obligations sold as of or prior to such Valuation Date if such receivables are due within five business days of such Valuation Date, and if the trades which generated such receivables are (x) settled through clearing house firms with respect to which the Trust has received prior written authorization from Moody's or (y) with counterparties having a Moody's long-term debt rating of at least Baa3; and (ii) the Moody's Discounted Value of Municipal Obligations sold as of or prior to such Valuation Date which generated receivables, if such receivables are due within five business days of such Valuation Date but do not comply with either of the conditions specified in (i) above, and (B) for purposes of calculating S&P Eligible Assets as of any Valuation Date, the book value of receivables for Municipal Obligations sold as of or prior to such Valuation Date if such receivables are due within five business days of such Valuation Date. "Redemption Price" shall mean the applicable redemption price specified in paragraph 11(a) or (b) of Part I of this Section 12.1. "Reference Rate" shall mean (i) the higher of the Taxable Equivalent of the Short-Term Municipal Bond Rate and the "AA" Composite Commercial Paper Rate in the case of Minimum Rate Periods and Special Rate Periods of 28 Rate Period Days or fewer; (ii) the "AA" Composite Commercial Paper Rate in the case of Special Rate Periods of more than 28 Rate Period Days but fewer than 183 Rate Period Days; and (iii) the Treasury Bill Rate in the case of Special Rate Periods of more than 182 Rate Period Days but fewer than 365 Rate Period Days. -22- 23 "Registration Statement" has the meaning specified in the definition of "Municipal Obligations." "S&P" means Standard & Poor's Ratings Services, a division of The McGraw-Hill Companies, Inc., and its successors. "S&P Discount Factor" shall mean, for purposes of determining the Discounted Value of any S&P Eligible Asset, the percentage determined by reference to the rating on such asset and the shortest S&P Exposure Period set forth opposite such rating that is the same length as or is longer than the S&P Exposure Period, in accordance with the table set forth below:
Rating Category ----------------------------------- Exposure Period AAA* AA* A* BBB* Unrated** - --------------- ---- --- -- ---- --------- 45 Business Days.................................... 190% 195% 210% 250% 220% 25 Business Days.................................... 170 175 190 230 220 10 Business Days.................................... 155 160 175 215 220 7 Business Days................................... 150 155 170 210 220 3 Business Days................................... 130 135 150 190 220
- -------------- * S&P rating. ** S&P Eligible Assets not rated by S&P or rated less than BBB by S&P and not rated at least the equivalent of an "A" rating by another nationally recognized credit rating agency. Notwithstanding the foregoing, (i) the S&P Discount Factor for short-term Municipal Obligations will be 115%, so long as such Municipal Obligations are rated A-1+ or SP-1+ by S&P and mature or have a demand feature exercisable within 30 days or less, 120% if such Municipal Obligations are rated A-1 or SP-1- by S&P and mature or have a demand feature exercisable within 30 days or less, or 125% if such Municipal Obligations are not rated by S&P but are rated VMIG-1, P-1 or MIG-1 by Moody's; provided, however, that any such Moody's-rated short-term Municipal Obligations which have demand features exercisable within 30 days or less must be backed by a letter of credit, liquidity facility or guarantee from a bank or other financial institution with a short-term rating of at least A-1+ from S&P; and further provided that such Moody's-rated short-term Municipal Obligations may comprise no more than 50% of short-term Municipal Obligations that qualify as S&P Eligible Assets; (ii) no S&P Discount Factor will be applied to cash, futures, options, Inverse Floaters and similar instruments or to Receivables for Municipal Obligations Sold; and (iii) except as set forth in clause (i) above, in the case of any Municipal Obligation that is not rated by S&P but qualifies as an S&P Eligible Asset pursuant to clause (iii) of that definition, such Municipal Obligation will be deemed to have an S&P rating one full rating category lower than the S&P rating category that is the equivalent of the rating category in which such Municipal Obligation is placed by such other nationally recognized credit rating agency. For purposes of the foregoing, Anticipation Notes rated SP-1+ or, if not rated by S&P, rated MIG-1 or VMIG-1 by Moody's, which do not mature or have a demand feature at par exercisable in 30 days and -23- 24 which do not have a long-term rating, shall be considered to be short-term Municipal Obligations. "S&P Eligible Asset" shall mean cash (excluding any cash irrevocably deposited by the Trust for the payment of any liabilities within the meaning of Municipal Preferred Basic Maintenance Amount), Receivables for Municipal Obligations Sold, futures, options, Inverse Floaters and similar instruments or a Municipal Obligation owned by the Trust that (i) is interest bearing and pays interest at least semi-annually; (ii) is payable with respect to principal and interest in U.S. Dollars; (iii) is publicly rated BBB or higher by S&P or, except in the case of Anticipation Notes that are Grant Anticipation Notes or Bond Anticipation Notes which must be rated by S&P to be included in S&P Eligible Assets, if not rated by S&P but rated by another nationally recognized credit rating agency, is rated at least A by such agency; (iv) is not part of a private placement of Municipal Obligations (except in the case of Inverse Floaters); (v) is part of an issue of Municipal Obligations with an original issue size of at least $20 million or, if of an issue with an original issue size below $20 million (but in no event below $10 million), is issued by an issuer with a total of at least $50 million of securities outstanding; and (vi) is not subject to a covered call or covered put option written by the Trust. Solely for purposes of this definition, the term "Municipal Obligation" means any obligation the interest on which is exempt from regular Federal income taxation and which is issued by any of the fifty United States, the District of Columbia or any of the territories of the United States, their subdivisions, counties, cities, towns, villages, school districts and agencies (including authorities and special districts created by the states), and federally sponsored agencies such as local housing authorities. Notwithstanding the foregoing limitations: (1) Municipal Obligations (excluding Escrowed Bonds) of any one issuer or guarantor (excluding bond insurers) shall be considered S&P Eligible Assets only to the extent the Market Value of such Municipal Obligations does not exceed 10% of the aggregate Market Value of S&P Eligible Assets, provided that 2% is added to the applicable S&P Discount Factor for every 1% by which the Market Value of such Municipal Obligations exceeds 5% of the aggregate Market Value of S&P Eligible Assets, and provided that Municipal Obligations (excluding Escrowed Bonds) not rated by S&P or rated less than BBB by S&P and not rated at least A by another nationally recognized credit rating agency of any one issuer or guarantor (excluding bond insurers) shall constitute S&P Eligible Assets only to the extent the Market Value of such Municipal Obligations does not exceed 5% of the aggregate Market Value of S&P Eligible Assets; (2) Municipal Obligations not rated at least BBB or not rated by S&P or not rated at least A by another nationally recognized credit rating agency shall be considered S&P Eligible Assets only to the extent the Market Value of such Municipal Obligations does not exceed 50% of the aggregate Market Value of S&P Eligible Assets; provided, however, that if the Market Value of such Municipal Obligations exceeds 50% of the aggregate Market Value of S&P Eligible Assets, a portion of such Municipal Obligations -24- 25 (selected by the Trust) shall not be considered S&P Eligible Assets, so that the Market Value of such Municipal Obligations (excluding such portion) does not exceed 50% of the aggregate Market Value of S&P Eligible Assets; (3) Long-term Municipal Obligations (excluding Escrowed Bonds) issued by issuers in any one state or territory shall be considered S&P Eligible Assets only to the extent that the Market Value of such Municipal Obligations does not exceed 25% of the aggregate Market Value of S&P Eligible Assets; and (4) Municipal Obligations which are not interest bearing or do not pay interest at least semi-annually shall be considered S&P Eligible Assets if rated AAA by S&P. For purposes of determining the aggregate Discounted Value of S&P's Eligible Assets, such aggregate amount shall be reduced with respect to any futures contracts as set forth in paragraph 10(a) of this Part I. "S&P Exposure Period" shall mean the period commencing on a given Valuation Date and ending three business days thereafter. "S&P Volatility Factor" shall mean, as of any Valuation Date, a multiplicative factor equal to (i) 305% in the case of any Minimum Rate Period or any Special Rate Period of 28 Rate Period Days or fewer; (ii) 268% in the case of any Special Rate Period of more than 28 Rate Period Days but fewer than 183 Rate Period Days; and (iii) 204% in the case of any Special Rate Period of more than 182 Rate Period Days. "Securities Depository" shall mean The Depository Trust Company and its successors and assigns or any other securities depository selected by the Trust which agrees to follow the procedures required to be followed by such securities depository in connection with shares of Municipal Preferred. "Sell Order" and "Sell Orders" shall have the respective meanings specified in paragraph 1(a) of Part II of this Section 12.1. "Special Rate Period," with respect to shares of a series of Municipal Preferred, shall have the meaning specified in paragraph 4(a) of Part I of this Section 12.1. "Special Redemption Provisions" shall have the meaning specified in paragraph 11(a)(i) of Part I of this Section 12.1. "Submission Deadline" shall mean 1:30 P.M., New York City time, on any Auction Date or such other time on any Auction Date by which Broker-Dealers are required to submit Orders to the Auction Agent as specified by the Auction Agent from time to time. -25- 26 "Submitted Bid" and "Submitted Bids" shall have the respective meanings specified in paragraph 3(a) of Part II of this Section 12.1. "Submitted Hold Order" and "Submitted Hold Orders" shall have the respective meanings specified in paragraph 3(a) of Part II of this Section 12.1. "Submitted Order" and "Submitted Orders" shall have the respective meanings specified in paragraph 3(a) of Part II of this Section 12.1. "Submitted Sell Order" and "Submitted Sell Orders" shall have the respective meanings specified in paragraph 3(a) of Part II of this Section 12.1. "Subsequent Rate Period," with respect to shares of a series of Municipal Preferred, shall mean the period from and including the first day following the Initial Rate Period of shares of such series to but excluding the next Dividend Payment Date for shares of such series and any period thereafter from and including one Dividend Payment Date for shares of such series to but excluding the next succeeding Dividend Payment Date for shares of such series; provided, however, that if any Subsequent Rate Period is also a Special Rate Period, such term shall mean the period commencing on the first day of such Special Rate Period and ending on the last day of the last Dividend Period thereof. "Substitute Commercial Paper Dealer" shall mean CS First Boston or Morgan Stanley & Co. Incorporated or their respective affiliates or successors, if such entity is a commercial paper dealer; provided, however, that none of such entities shall be a Commercial Paper Dealer. "Substitute U.S. Government Securities Dealer" shall mean CS First Boston and Merrill Lynch, Pierce, Fenner & Smith Incorporated or their respective affiliates or successors, if such entity is a U.S. Government securities dealer; provided, however, that none of such entities shall be a U.S. Government Securities Dealer. "Sufficient Clearing Bids" shall have the meaning specified in paragraph 3(a) of Part II of this Section 12.1. "Taxable Allocation" shall have the meaning specified in paragraph 3 of Part I of this Section 12.1. "Taxable Equivalent of the Short-Term Municipal Bond Rate," on any date for any Minimum Rate Period or Special Rate Period of 28 Rate Period Days or fewer, shall mean 90% of the quotient of (A) the per annum rate expressed on an interest equivalent basis equal to the S&P Kenny 30 day High Grade Index or any successor index (the "Kenny Index") (provided, however, that any such successor index must be approved by Moody's (if Moody's is then rating the shares of Municipal Preferred) and S&P (if S&P is then rating the shares of Municipal Preferred)), made available for the Business Day immediately preceding such date but in any -26- 27 event not later than 8:30 A.M., New York City time, on such date by S&P J.J. Kenny Evaluation Services or any successor thereto, based upon 30-day yield evaluations at par of short-term bonds the interest on which is excludable for regular Federal Income tax purposes under the Code, of "high grade" component issuers selected by S&P J.J. Kenny Evaluation Services or any such successor from time to time in its discretion, which component issuers shall include, without limitation, issuers of general obligation bonds, but shall exclude any bonds the interest on which constitutes an item of tax preference under Section 57(a)(5) of the Code, or successor provisions, for purposes of the "alternative minimum tax," divided by (B) 1.00 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income (in each case expressed as a decimal), whichever is greater; provided, however, that if the Kenny Index is not made so available by 8:30 A.M., New York City time, on such date by S&P J.J. Kenny Evaluation Services or any successor, the Taxable Equivalent of the Short-Term Municipal Bond Rate shall mean the quotient of (A) the per annum rate expressed on an interest equivalent basis equal to the most recent Kenny Index so made available for any preceding Business Day, divided by (B) 1.00 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income (in each case expressed as a decimal), whichever is greater. "Taxable Income" shall have the meaning specified in paragraph 3(c) of Part II of this Section 12.1. "Treasury Bill" shall mean a direct obligation of the U.S. Government having a maturity at the time of issuance of 364 days or less. "Treasury Bill Rate," on any date for any Rate Period, shall mean (i) the bond equivalent yield, calculated in accordance with prevailing industry convention, of the rate on the most recently auctioned Treasury Bill with a remaining maturity closest to the length of such Rate Period, as quoted in The Wall Street Journal on such date for the Business Day next preceding such date; or (ii) in the event that any such rate is not published in The Wall Street Journal, then the bond equivalent yield, calculated in accordance with prevailing industry convention, as calculated by reference to the arithmetic average of the bid price quotations of the most recently auctioned Treasury Bill with a remaining maturity closest to the length of such Rate Period, as determined by bid price quotations as of the close of business on the Business Day immediately preceding such date obtained from the U.S. Government Securities Dealers to the Auction Agent. "Treasury Note" shall mean a direct obligation of the U.S. Government having a maturity at the time of issuance of five years or less but more than 364 days. "Treasury Note Rate," on any date for any Rate Period, shall mean (i) the yield on the most recently auctioned Treasury Note with a remaining maturity closest to the length of such Rate Period, as quoted in The Wall Street Journal on such date for the Business Day next preceding such date; or (ii) in the event that any such rate is not published in The Wall Street -27- 28 Journal, then the yield as calculated by reference to the arithmetic average of the bid price quotations of the most recently auctioned Treasury Note with a remaining maturity closest to the length of such Rate Period, as determined by bid price quotations as of the close of business on the Business Day immediately preceding such date obtained from the U.S. Government Securities Dealers to the Auction Agent. If any U.S. Government Securities Dealer does not quote a rate required to determine the Treasury Bill Rate of the Treasury Note Rate, the Treasury Bill Rate or the Treasury Note Rate shall be determined on the basis of the quotation or quotations furnished by the remaining U.S. Government Securities Dealer or U.S. Government Securities Dealers and any Substitute U.S. Government Securities Dealers selected by the Trust to provide such rate or rates not being supplied by any U.S. Government Securities Dealer or U.S. Government Securities Dealers, as the case may be, or, if the Trust does not select any such Substitute U.S. Government Securities Dealer or Substitute U.S. Government Securities Dealers, by the remaining U.S. Government Securities Dealer or U.S. Government Securities Dealers. "U.S. Government Securities Dealer" shall mean Lehman Government Securities Incorporated, Goldman, Sachs & Co., Salomon Smith Barney Inc. and Morgan Guaranty Trust Company of New York or their respective affiliates or successors, if such entity is a U.S. government securities dealer. "Valuation Date" shall mean, for purposes of determining whether the Trust is maintaining the Municipal Preferred Basic Maintenance Amount, each Business Day. "Variation Margin" means, in connection with an outstanding futures contract owned or sold by the Trust, the amount of cash or securities paid to or received from a broker (subsequent to the Initial Margin payment) from time to time as the price of such futures contract fluctuates. "Volatility Factor" shall mean, as of any Valuation Date, the greater of the Moody's Volatility Factor and the S&P Volatility Factor. "Voting Period" shall have the meaning specified in paragraph 5(b) of this Part I of Section 12.1. "Winning Bid Rate" shall have the meaning specified in paragraph 3(a) of Part II of this Section 12.1. 2. Dividends. (a) Ranking. The shares of a series of Municipal Preferred shall rank on a parity with each other, with shares of any other series of Municipal Preferred and with shares of any other series of Preferred Shares as to the payment of dividends by the Trust. -28- 29 (b) Cumulative Cash Dividends. The Holders of shares of Municipal Preferred of any series shall be entitled to receive, when, as and if declared by the Board of Trustees, out of funds legally available therefor in accordance with the Declaration, these By-laws and applicable law, cumulative cash dividends at the Applicable Rate for shares of such series, determined as set forth in subparagraph (e) of this paragraph 2, and no more (except to the extent set forth in paragraph 3 of this Part I), payable on the Dividend Payment Dates with respect to shares of such series determined pursuant to subparagraph (d) of this paragraph 2. Holders of shares of Municipal Preferred shall not be entitled to any dividend, whether payable in cash, property or shares, in excess of full cumulative dividends, as herein provided, on shares of Municipal Preferred. No interest, or sum of money in lieu of interest, shall be payable in respect of any dividend payment or payments on shares of Municipal Preferred which may be in arrears, and, except to the extent set forth in subparagraph (e)(i) of this paragraph 2, no additional sum of money shall be payable in respect of any such arrearage. (c) Dividends Cumulative From Date of Original Issue. Dividends on shares of Municipal Preferred of any series shall accumulate at the Applicable Rate for shares of such series from the Date of Original Issue thereof. (d) Dividend Payment Dates and Adjustments Thereof. The Dividend Payment Dates with respect to shares of a series of Municipal Preferred shall be Monday, ________, 1999 and each Monday thereafter with respect to shares of Series F Municipal Preferred; provided, however, that (i)(A) if the Monday on which dividends would otherwise be payable is not a Business Day, then such dividends shall be payable on such shares on the first Business Day that falls after such Monday; and (ii) notwithstanding the foregoing provisions of this paragraph 2(d), the Trust in its discretion may establish the Dividend Payment Dates in respect of any Special Rate Period of shares of a series of Municipal Preferred consisting of more than 28 Rate Period Days; provided, however, that such dates shall be set forth in the Notice of Special Rate Period relating to such Special Rate Period, as delivered to the Auction Agent, which Notice of Special Rate Period shall be filed with the Secretary of the Trust; and further provided that (1) any such Dividend Payment Date shall be a Business Day and (2) the last Dividend Payment Date in respect of such Special Rate Period shall be the Business Day immediately following the last day thereof, as such last day is determined in accordance with subparagraph (b) of paragraph 4 of this Part I. (e) Dividend Rates and Calculation of Dividends. (i) Dividend Rates. The dividend rate on shares of Municipal Preferred of any series during the period from and after the Date of Original Issue of shares of such series to and including the last day of the Initial Rate Period of shares of such series shall be -29- 30 equal to the rate per annum set forth with respect to shares of such series under "Designation" in this Part I. For each Subsequent Rate Period of shares of such series thereafter, the dividend rate on shares of such series shall be equal to the rate per annum that results from an Auction for shares of such series on the Auction Date next preceding such Subsequent Rate Period; provided, however, that if: (A) an Auction for any such Subsequent Rate Period is not held for any reason other than as described below, the dividend rate on shares of such series for such Subsequent Rate Period will be the Maximum Rate for shares of such series on the Auction Date therefor; (B) any Failure to Deposit shall have occurred with respect to shares of such series during any Rate Period thereof (other than any Special Rate Period consisting of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period consisting of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured), but, prior to 12:00 Noon, New York City time, on the third Business Day next succeeding the date on which such Failure to Deposit occurred, such Failure to Deposit shall have been cured in accordance with subparagraph (f) of this paragraph 2 and the Trust shall have paid to the Auction Agent a late charge ("Late Charge") equal to the sum of (1) if such Failure to Deposit consisted of the failure timely to pay to the Auction Agent the full amount of dividends with respect to any Dividend Period of the shares of such series, an amount computed by multiplying (x) 200% of the Reference Rate for the Rate Period during which such Failure to Deposit occurs on the Dividend Payment Date for such Dividend Period by (y) a fraction, the numerator of which shall be the number of days for which such Failure to Deposit has not been cured in accordance with subparagraph (f) of this paragraph 2 (including the day such Failure to Deposit occurs and excluding the day such Failure to Deposit is cured) and the denominator of which shall be 360, and applying the rate obtained against the aggregate Liquidation Preference of the outstanding shares of such series and (2) if such Failure to Deposit consisted of the failure timely to pay to the Auction Agent the Redemption Price of the shares, if any, of such series for which Notice of Redemption has been mailed by the Trust pursuant to paragraph 11(c) of this Part I, an amount computed by multiplying (x) 200% of the Reference Rate for the Rate Period during which such Failure to Deposit occurs on the redemption date by (y) a fraction, the numerator of which shall be the number of days for which such Failure to Deposit is not cured in accordance with subparagraph (f) of this paragraph 2 (including the day such Failure to Deposit occurs and excluding the day such Failure to Deposit is cured) and the denominator of which shall be 360, and applying the rate obtained against the aggregate Liquidation Preference of the outstanding shares of such series to be redeemed, no Auction will be held in respect of shares of such series for the Subsequent Rate Period thereof and the dividend rate for shares of such series for such Subsequent Rate Period will be the -30- 31 Maximum Rate for shares of such series on the Auction Date for such Subsequent Rate Period; (C) any Failure to Deposit shall have occurred with respect to shares of such series during any Rate Period thereof (other than any Special Rate Period consisting of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period consisting of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured), and, prior to 12:00 Noon, New York City time, on the third Business Day next succeeding the date on which such Failure to Deposit occurred, such Failure to Deposit shall not have been cured in accordance with subparagraph (f) of this paragraph 2 or the Trust shall not have paid the applicable Late Charge to the Auction Agent, no Auction will be held in respect of shares of such series for the first Subsequent Rate Period thereof thereafter (or for any Rate Period thereof thereafter to and including the Rate Period during which (1) such Failure to Deposit is cured in accordance with subparagraph (f) of this paragraph 2 and (2) the Trust pays the applicable Late Charge to the Auction Agent (the condition set forth in this clause (2) to apply only in the event Moody's is rating such shares at the time the Trust cures such Failure to Deposit), in each case no later than 12:00 Noon, New York City time, on the fourth Business Day prior to the end of such Rate Period), and the dividend rate for shares of such series for each such Subsequent Rate Period shall be a rate per annum equal to the Maximum Rate for shares of such series on the Auction Date for such Subsequent Rate Period (but with the prevailing rating for shares of such series, for purposes of determining such Maximum Rate, being deemed to be "Below 'ba3'/BB-"); or (D) any Failure to Deposit shall have occurred with respect to shares of such series during a Special Rate Period thereof consisting of more than 364 Rate Period Days, or during any Rate Period thereof succeeding any Special Rate Period consisting of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured, and, prior to 12:00 Noon, New York City time, on the fourth Business Day preceding the Auction Date for the Rate Period subsequent to such Rate Period, such Failure to Deposit shall not have been cured in accordance with subparagraph (f) of this paragraph 2 or, in the event Moody's is then rating such shares, the Trust shall not have paid the applicable Late Charge to the Auction Agent (such Late Charge, for purposes of this subparagraph (D), to be calculated by using, as the Reference Rate, the Reference Rate applicable to a Rate Period (x) consisting of more than 182 Rate Period Days but fewer than 365 Rate Period Days and (y) commencing on the date on which the Rate Period during which Failure to Deposit occurs commenced), no Auction will be held in respect of shares of such series for such Subsequent Rate Period (or for any Rate Period thereof thereafter to and including the Rate Period during which (1) such Failure to Deposit is cured in accordance with subparagraph (f) of -31- 32 this paragraph 2 and (2) the Trust pays the applicable Late Charge to the Auction Agent (the condition set forth in this clause (2) to apply only in the event Moody's is rating such shares at the time the Trust cures such Failure to Deposit), in each case no later than 12:00 Noon, New York City time, on the fourth Business Day prior to the end of such Rate Period), and the dividend rate for shares of such series for each such Subsequent Rate Period shall be a rate per annum equal to the Maximum Rate for shares of such series on the Auction Date for such Subsequent Rate Period (but with the prevailing rating for shares of such series, for purposes of determining such Maximum Rate, being deemed to be "Below 'ba3'/BB-") (the rate per annum of which dividends are payable on shares of a series of Municipal Preferred for any Rate Period thereof being herein referred to as the "Applicable Rate" for shares of such series). (ii) Calculation of Dividends. The amount of dividends per share payable on shares of a series of Municipal Preferred on any date on which dividends shall be payable on shares of such series shall be computed by multiplying the Applicable Rate for shares of such series in effect for such Dividend Period or Dividend Periods or part thereof for which dividends have not been paid by a fraction, the numerator of which shall be the number of days in such Dividend Period or Dividend Periods or part thereof and the denominator of which shall be 365 if such Dividend Period consists of 7 Rate Period Days and 360 for all other Dividend Periods, and applying the rate obtained against $25,000. (f) Curing a Failure to Deposit. A Failure to Deposit with respect to shares of a series of Municipal Preferred shall have been cured (if such Failure to Deposit is not solely due to the willful failure of the Trust to make the required payments to the Auction Agent) with respect to any Rate Period of shares of such series if, within the respective time periods described in subparagraph (e)(i) of this paragraph 2, the Trust shall have paid to the Auction Agent (A) all accumulated and unpaid dividends on shares of such series and (B) without duplication, the Redemption Price for shares, if any, of such series for which Notice of Redemption has been mailed by the Trust pursuant to paragraph 11(c) of Part I of this Section 12.1 of the By-laws; provided, however, that the foregoing clause (B) shall not apply to the Trust's failure to pay the Redemption Price in respect of shares of Municipal Preferred when the related Redemption Notice provides that redemption of such shares is subject to one or more conditions precedent and any such condition precedent shall not have been satisfied at the time or times and in the manner specified in such Notice of Redemption. (g) Dividend Payments by Trust to Auction Agent. The Trust shall pay to the Auction Agent, not later than 12:00 Noon, New York City time, on the Business Day next preceding each Dividend Payment Date for shares of a series of Municipal Preferred, an aggregate amount of funds available on the next Business Day in The City of New York, New York, equal to the dividends to be paid to all Holders of shares of such series on such Dividend Payment Date. -32- 33 (h) Auction Agent as Trustee of Dividend Payments by Trust. All moneys paid to the Auction Agent for the payment of dividends (or for the payment of any Late Charge) shall be held in trust for the payment of such dividends (and any such Late Charge) by the Auction Agent for the benefit of the Holders specified in subparagraph (i) of this paragraph 2. Any moneys paid to the Auction Agent in accordance with the foregoing but not applied by the Auction Agent to the payment of dividends (and any such Late Charge) will, to the extent permitted by law, be repaid to the Trust at the end of 90 days from the date on which such moneys were so to have been applied. (i) Dividends Paid to Holders. Each dividend on shares of Municipal Preferred shall be paid on the Dividend Payment Date therefor to the Holders thereof as their names appear on the record books of the Trust on the Business Day next preceding such Dividend Payment Date. (j) Dividends Credited Against Earliest Accumulated But Unpaid Dividends. Any dividend payment made on shares of Municipal Preferred shall first be credited against the earliest accumulated but unpaid dividends due with respect to such shares. Dividends in arrears for any past Dividend Period may be declared and paid at any time, without reference to any regular Dividend Payment Date, to the Holders as their names appear on the record books of the Trust on such date, not exceeding 15 days preceding the payment date thereof, as may be fixed by the Board of Trustees. (k) Dividends Designated as Exempt-Interest Dividends. Dividends on shares of Municipal Preferred shall be designated as exempt-interest dividends up to the amount of tax-exempt income of the Trust, to the extent permitted by, and for purposes of, Section 852 of the Code. 3. Gross-up Payments. Holders of shares of Municipal Preferred shall be entitled to receive, when, as and if declared by the Board of Trustees, out of funds legally available therefor in accordance with the Declaration, these By-laws and applicable law, dividends in an amount equal to the aggregate Gross-up Payments as follows: (a) Minimum Rate Periods and Special Rate Periods of 28 Rate Period Days or Fewer. If, in the case of any Minimum Rate Period or any Special Rate Period of 28 Rate Period Days or fewer, the Trust allocates any net capital gain or other income taxable for Federal income tax purposes to a dividend paid on shares of Municipal Preferred without having given advance notice thereof to the Auction Agent as provided in paragraph 5 of Part II of this Section of the By-laws (such allocation being referred to herein as a "Taxable Allocation") solely by reason of the fact that such allocation is made retroactively as a result of the redemption of all or a portion of the outstanding shares of Municipal Preferred or the liquidation of the Trust, the Trust shall, prior to the end of the calendar year in which such dividend was paid, provide notice thereof to the Auction Agent and direct the Trust's dividend disbursing agent to send such notice with a -33- 34 Gross-up Payment to each Holder of such shares that was entitled to such dividend payment during such calendar year at such Holder's address as the same appears or last appeared on the record books of the Trust. (b) Special Rate Periods of More Than 28 Rate Period Days. If, in the case of any Special Rate Period of more than 28 Rate Period Days, the Trust makes a Taxable Allocation to a dividend paid on shares of Municipal Preferred, the Trust shall, prior to the end of the calendar year in which such dividend was paid, provide notice thereof to the Auction Agent and direct the Trust's dividend disbursing agent to send such notice with a Gross-up Payment to each Holder of shares that was entitled to such dividend payment during such calendar year at such Holder's address as the same appears or last appeared on the record books of the Trust. (c) No Gross-up Payments In the Event of a Reallocation. The Trust shall not be required to make Gross-up Payments with respect to any net capital gain or other taxable income determined by the Internal Revenue Service to be allocable in a manner different from that allocated by the Trust. 4. Designation of Special Rate Periods. (a) Length of and Preconditions for Special Rate Period. The Trust, at its option, may designate any succeeding Subsequent Rate Period of shares of a series of Municipal Preferred as a Special Rate Period consisting of a specified number of Rate Period Days evenly divisible by seven and not more than 1,820, subject to adjustment as provided in subparagraph (b) of this paragraph 4. A designation of a Special Rate Period shall be effective only if (A) notice thereof shall have been given in accordance with subparagraphs (c) and (d)(i) of this paragraph 4, (B) an Auction for shares of such series shall have been held on the Auction Date immediately preceding the first day of such proposed Special Rate Period and Sufficient Clearing Bids for shares of such series shall have existed in such Auction, and (C) if any Notice of Redemption shall have been mailed by the Trust pursuant to paragraph 11(c) of this Part I with respect to any shares of such series, the Redemption Price with respect to such shares shall have been deposited with the Auction Agent. In the event the Trust wishes to designate any succeeding Subsequent Rate Period for shares of a series of Municipal Preferred as a Special Rate Period consisting of more than 28 Rate Period Days, the Trust shall notify S&P (if S&P is then rating such series) and Moody's (if Moody's is then rating such series) in advance of the commencement of such Subsequent Rate Period that the Trust wishes to designate such Subsequent Rate Period as a Special Rate Period and shall provide S&P (if S&P is then rating such series) and Moody's (if Moody's is then rating such series) with such documents as either may request. (b) Adjustment of Length of Special Rate Period. In the event the Trust wishes to designate a Subsequent Rate Period as a Special Rate Period, but the day following what would otherwise be the last day of such Special Rate Period is not (a) a Monday that is a Business Day in the case of a series of Municipal Preferred designated as "Series F Municipal Preferred" in this Part I, then the Trust shall designate such Subsequent Rate Period as a Special Rate Period -34- 35 consisting of the period commencing on the first day following the end of the immediately preceding Rate Period and ending on the first Sunday that is followed by a Monday that is a Business Day preceding what would otherwise be such last day, in the case of Series F Municipal Preferred. (c) Notice of Proposed Special Rate Period. If the Trust proposes to designate any succeeding Subsequent Rate Period of shares of a series of Municipal Preferred as a Special Rate Period pursuant to subparagraph (a) of this paragraph 4, not less than 20 (or such lesser number of days as may be agreed to from time to time by the Auction Agent) nor more than 30 days prior to the date the Trust proposes to designate as the first day of such Special Rate Period (which shall be such day that would otherwise be the first day of a Minimum Rate Period), notice shall be (i) published or caused to be published by the Trust in a newspaper of general circulation to the financial community in The City of New York, New York, which carries financial news, and (ii) mailed by the Trust by first-class mail, postage prepaid, to the Holders of shares of such series. Each such notice shall state (A) that the Trust may exercise its option to designate a succeeding Subsequent Rate Period of shares of such series as a Special Rate Period, specifying the first day thereof and (B) that the Trust will, by 11:00 A.M., New York City time, on the second Business Day next preceding such date (or by such later time or date, or both, as may be agreed to by the Auction Agent) notify the Auction Agent of either (x) its determination, subject to certain conditions, to exercise such option, in which case the Trust shall specify the Special Rate Period designated, or (y) its determination not to exercise such option. (d) Notice of Special Rate Period. No later than 11:00 A.M., New York City time, on the second Business Day next preceding the first day of any proposed Special Rate Period of shares of a series of Municipal Preferred as to which notice has been given as set forth in subparagraph (c) of this paragraph 4 (or such later time or date, or both, as may be agreed to by the Auction Agent), the Trust shall deliver to the Auction Agent either: (i) a notice ("Notice of Special Rate Period") stating (A) that the Trust has determined to designate the next succeeding Rate Period of shares of such series as a Special Rate Period, specifying the same and the first day thereof, (B) the Auction Date immediately prior to the first day of such Special Rate Period, (C) that such Special Rate Period shall not commence if (1) an Auction for shares of such series shall not be held on such Auction Date for any reason or (2) an Auction for shares of such series shall be held on such Auction Date but Sufficient Clearing Bids for shares of such series shall not exist in such Auction, (D) the scheduled Dividend Payment Dates for shares of such series during such Special Rate Period and (E) the Special Redemption Provisions, if any, applicable to shares of such series in respect of such Special Rate Period; such notice to be accompanied by a Municipal Preferred Basic Maintenance Report showing that, as of the third Business Day next preceding such proposed Special Rate Period, Moody's Eligible Assets (if Moody's is then rating such series) and S&P Eligible Assets (if S&P is then rating such series) each have an aggregate Discounted Value at least equal to the Municipal Preferred Basic Maintenance Amount as of such Business Day (assuming for -35- 36 purposes of the foregoing calculation that (a) the Maximum Rate is the Maximum Rate on such Business Day as if such Business Day were the Auction Date for the proposed Special Rate Period, and (b) the Moody's Discount Factors applicable to Moody's Eligible Assets are determined by reference to the first Exposure Period longer than the Exposure Period then applicable to the Trust, as described in the definition of Moody's Discount Factor herein); or (ii) a notice stating that the Trust has determined not to exercise its option to designate a Special Rate Period of shares of such series and that the next succeeding Rate Period of shares of such series shall be a Minimum Rate Period. (e) Failure to Deliver Notice of Special Rate Period. If the Trust fails to deliver either of the notices described in subparagraphs (d)(i) or (d)(ii) of this paragraph 4 (and, in the case of the notice described in subparagraph (d)(i) of this paragraph 4, a Municipal Preferred Basic Maintenance Report to the effect set forth in such subparagraph (if either Moody's or S&P is then rating the series in question)) with respect to any designation of any proposed Special Rate Period to the Auction Agent by 11:00 A.M., New York City time, on the second Business Day next preceding the first day of such proposed Special Rate Period (or by such later time or date, or both, as may be agreed to by the Auction Agent), the Trust shall be deemed to have delivered a notice to the Auction Agent with respect to such Special Rate Period to the effect set forth in subparagraph (d)(ii) of this paragraph 4. In the event the Trust delivers to the Auction Agent a notice described in subparagraph (d)(i) of this paragraph 4, it shall file a copy of such notice with the Secretary of the Trust, and the contents of such notice shall be binding on the Trust. In the event the Trust delivers to the Auction Agent a notice described in subparagraph (d)(ii) of this paragraph 4, the Trust will provide Moody's (if Moody's is then rating the series in question) and S&P (if S&P is then rating the series in question) a copy of such notice. 5. Voting Rights. (a) One Vote Per Share of Municipal Preferred. Except as otherwise provided in the Declaration, this paragraph 5 or as otherwise required by law, (i) each Holder of shares of Municipal Preferred shall be entitled to one vote for each share of Municipal Preferred held by such Holder on each matter submitted to a vote of shareholders of the Trust, and (ii) the holders of outstanding Preferred Shares, including each share of Municipal Preferred, and of Common Shares shall vote together as a single class; provided, however, that, at any meeting of the shareholders of the Trust held for the election of trustees, the holders of outstanding Preferred Shares, including Municipal Preferred, represented in person or by proxy at said meeting, shall be entitled, as a class, to the exclusion of the holders of all other securities and classes of shares of beneficial interest of the Trust, to elect two trustees of the Trust, each Preferred Share, including each share of Municipal Preferred, entitling the holder thereof to one vote. Subject to subparagraph (b) of this paragraph 5, the holders of outstanding Common Shares and Preferred Shares, including Municipal Preferred, voting together as a single class, shall elect the balance of the trustees. -36- 37 (b) Voting For Additional Trustees. (i) Voting Period. During any period in which any one or more of the conditions described in subparagraphs (A) or (B) of this subparagraph (b)(i) shall exist (such period being referred to herein as a "Voting Period"), the number of trustees constituting the Board of Trustees shall be automatically increased by the smallest number that, when added to the two trustees elected exclusively by the holders of Preferred Shares, including shares of Municipal Preferred, would constitute a majority of the Board of Trustees as so increased by such smallest number; and the holders of Preferred Shares, including Municipal Preferred, shall be entitled, voting as a class on a one-vote-per-share basis (to the exclusion of the holders of all other securities and classes of shares of beneficial interest of the Trust), to elect such smallest number of additional trustees, together with the two trustees that such holders are in any event entitled to elect. A Voting Period shall commence: (A) if at the close of business on any dividend payment date accumulated dividends (whether or not earned or declared) on any outstanding Preferred Share, including Municipal Preferred, equal to at least two full years' dividends shall be due and unpaid and sufficient cash or specified securities shall not have been deposited with the Auction Agent for the payment of such accumulated dividends; or (B) if at any time holders of Preferred Shares are entitled under the 1940 Act to elect a majority of the trustees of the Trust. Upon the termination of a Voting Period, the voting rights described in this subparagraph (b)(i) shall cease, subject always, however, to the revesting of such voting rights in the Holders upon the further occurrence of any of the events described in this subparagraph (b)(i). (ii) Notice of Special Meeting. As soon as practicable after the accrual of any right of the holders of Preferred Shares to elect additional trustees as described in subparagraph (b)(i) of this paragraph 5, the Trust shall notify the Auction Agent and the Auction Agent shall call a special meeting of such holders, by mailing a notice of such special meeting to such holders, such meeting to be held not less than 10 nor more than 20 days after the date of mailing of such notice. If the Trust fails to send such notice to the Auction Agent or if the Auction Agent does not call such a special meeting, it may be called by any such holder on like notice. The record date for determining the holders entitled to notice of and to vote at such special meeting shall be the close of business on the fifth Business Day preceding the day on which such notice is mailed. At any such special meeting and at each meeting of holders of Preferred Shares held during a Voting Period at which trustees are to be elected, such holders, voting together as a class (to the exclusion of the holders of all other securities and classes of shares of beneficial interest -37- 38 of the Trust), shall be entitled to elected the number of trustees prescribed in subparagraph (b)(i) of this paragraph 5 on a one-vote-per-share basis. (iii) Terms of Office of Existing Trustees. The terms of office of all persons who are trustees of the Trust at the time of a special meeting of Holders and holders of other Preferred Shares to elect trustees shall continue, notwithstanding the election at such meeting by the Holders and such other holders of the number of trustees that they are entitled to elect, and the persons so elected by the Holders and such other holders, together with the two incumbent trustees elected by the Holders and such other holders of Preferred Shares and the remaining incumbent trustees elected by the Holders of the Common Shares and Preferred Shares, shall constitute the duly elected trustees of the Trust. (iv) Terms of Office of Certain Trustees to Terminate Upon Termination of Voting Period. Simultaneously with the termination of a Voting Period, the term of office of the additional trustees elected by the Holders and holders of other Preferred Shares pursuant to subparagraph (b)(i) of this paragraph 5 shall terminate, the remaining trustees shall constitute the trustees of the Trust and the voting rights of the Holders and such other holders to elect additional trustees pursuant to subparagraph (b)(i) of this paragraph 5 shall cease, subject to the provisions of the last sentence of subparagraph (b)(i) of this paragraph 5. (c) Holders of Municipal Preferred To Vote on Certain Other Matters. (i) Increases in Capitalization. So long as any shares of Municipal Preferred are outstanding, the Trust shall not, without the affirmative vote or consent of the Holders of at least a majority of the shares of Municipal Preferred outstanding at the time, in person or by proxy, either in writing or at a meeting, voting as a separate class: (a) authorize, create or issue any class or series of shares ranking prior to or on a parity with shares of Municipal Preferred with respect to the payment of dividends or the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust, or authorize, create or issue additional shares of any series of Municipal Preferred (except that, notwithstanding the foregoing, but subject to the provisions of paragraph 10(c) of this Part I, the Board of Trustees, without the vote or consent of the Holders of Municipal Preferred, may from time to time authorize and create, and the Trust may from time to time issue, additional shares of any series of Municipal Preferred or classes or series of Preferred Shares ranking on a parity with shares of Municipal Preferred with respect to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust; provided, however, that if Moody's or S&P is not then rating the shares of Municipal Preferred, the aggregate liquidation preference of all Preferred Shares of the Trust outstanding after any such issuance, exclusive of accumulated and unpaid dividends, may not exceed $90,000,000) or (b) amend, alter or repeal the provisions of the Declaration or the By-Laws, including this Section 12.1, -38- 39 whether by merger, consolidation or otherwise, so as to materially affect any preference, right or power of such shares of Municipal Preferred to the Holders thereof; provided, however, that (i) none of the actions permitted by the exception to (a) above will be deemed to affect such preferences, rights or powers, (ii) a division of a share of Municipal Preferred will be deemed to affect such preferences, rights or powers only if the terms of such division adversely affect the Holders of shares of Municipal Preferred and (iii) the authorization, creation and issuance of classes or series of shares ranking junior to shares of Municipal Preferred with respect to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust, will be deemed to affect such preferences, rights or powers only if Moody's or S&P is then rating shares of Municipal Preferred and such issuance would, at the time thereof, cause the Trust not to satisfy the 1940 Act Municipal Preferred Asset Coverage or the Municipal Preferred Basic Maintenance Amount. So long as any shares of Municipal Preferred are outstanding, the Trust shall not, without the affirmative vote or consent of the Holders of at least 66 2/3% of the shares of Municipal Preferred outstanding at the time, in person or by proxy, either in writing or at a meeting, voting as a separate class, file a voluntary application for relief under Federal bankruptcy law or any similar application under state law for so long as the Trust is solvent and does not foresee becoming insolvent. If any action set forth above would adversely affect the rights of one ore more series (the "Affected Series") of Municipal Preferred in a manner different from any other series of Municipal Preferred, the Trust will not approve any such action without the affirmative vote or consent of the Holders of at least a majority of the shares of each such Affected Series outstanding at the time, in person or by proxy, either in writing or at a meeting (each such Affected Series voting at a separate class). (ii) 1940 Act Matters. Unless a higher percentage is provided for in the Declaration or these By-laws, (A) the affirmative vote of the Holders of at least a majority of the Preferred Shares, including Municipal Preferred, outstanding at the time, voting as a separate class, shall be required to approve any conversion of the Trust from a closed-end to an open-end investment company and (B) the affirmative vote of the Holders of a "majority of the outstanding Preferred Shares," including Municipal Preferred, voting as a separate class, shall be required to approve any plan of reorganization (as such term is used in the 1940 Act) adversely affecting such shares. The affirmative vote of the Holders of a "majority of the outstanding Preferred Shares," including Municipal Preferred, voting as a separate class, shall be required to approve any action not described in the first sentence of this paragraph 5(c)(ii) requiring a vote of security holders of the Trust under Section 13(a) of the 1940 Act. For purposes of the foregoing, "majority of the outstanding Preferred Shares" means (i) 67% or more of such shares present at a meeting, if the Holders of more than 50% of such shares are present or represented by proxy, or (ii) more than 50% of such shares, whichever is less. In the event a vote of Holders of Municipal Preferred is required pursuant to the provisions of Section 13(a) of the 1940 Act, the Trust shall, not later than ten business Days prior to the date on which such vote is to be taken, notify Moody's (if Moody's is then rating the shares of Municipal -39- 40 Preferred) and S&P (if S&P is then rating the shares of Municipal Preferred) that such vote is to be taken and the nature of the action with respect to which such vote is to be taken. The Trust shall, not later than ten Business Days after the date on which such vote is taken, notify Moody's (if Moody's is then rating the shares of Municipal Preferred) of the results of such vote. (d) Board May Take Certain Actions Without Shareholder Approval. The Board of Trustees, without the vote or consent of the shareholders of the Trust, may from time to time amend, alter or repeal any or all of the definitions of the terms listed below, or any provision of this Section 12.1 of the By-laws viewed by Moody's or S&P as a predicate for any such definition, and any such amendment, alteration or repeal will not be deemed to affect the preferences, rights or powers of shares of Municipal Preferred or the Holders thereof; provided, however, that the Board of Trustees receives written confirmation from Moody's (such confirmation being required to be obtained only in the event Moody's is rating the shares of Municipal Preferred and in no event being required to be obtained in the case of the definitions of (x) Deposit Securities, Discounted Value, Receivables for Municipal Obligations Sold and Other Issues as such terms apply to S&P Eligible Asset and (y) S&P Discount Factor, S&P Eligible Asset, S&P Exposure Period, S&P Volatility Factor) and S&P (such confirmation being required to be obtained only in the event S&P is rating the shares of Municipal Preferred and in no event being required to be obtained in the case of the definitions of (x) Discounted Value, Receivables for Municipal Obligations Sold and Other Issues as such terms apply to Moody's Eligible Asset, and (y) Moody's Discount Factor, Moody's Eligible Asset, Moody's Exposure Period and Moody's Volatility Factor) that any such amendment, alteration or repeal would not impair the ratings then assigned by Moody's or S&P, as the case may be, to shares of Municipal Preferred: Deposit Securities Moody's Exposure Period Discounted Value Moody's Volatility Factor Escrowed Bonds 1940 Act Cure Date Market Value 1940 Act Municipal Preferred Asset Maximum Potential Gross-up Coverage Payment Liability Other Issues Municipal Preferred Basic Quarterly Valuation Date Maintenance Amount Receivables for Municipal Municipal Preferred Basic Obligations Sold Maintenance Cure Date S&P Discount Factor Municipal Preferred Basic S&P Eligible Asset Maintenance Report S&P Exposure Period Moody's Discount Factor S&P Volatility Factor Moody's Eligible Asset Valuation Date Volatility Factor
(e) Voting Rights Set Forth Herein Are Sole Voting Rights. Unless otherwise required by law, these By-laws or by the Declaration, the Holders of shares of Municipal Preferred shall -40- 41 not have any relative rights or preferences or other special rights other than those specifically set forth herein. (f) No Preemptive Rights or Cumulative Voting. The Holders of shares of Municipal Preferred shall have no preemptive rights or rights to cumulative voting. (g) Voting for Trustees Sole Remedy for Trust's Failure to Pay Dividends. In the event that the Trust fails to pay any dividends on the shares of Municipal Preferred, the exclusive remedy of the Holders shall be the right to vote for Trustees pursuant to the provisions of this paragraph 5. (h) Holders Entitled to Vote. For purposes of determining any rights of the Holders to vote on any matter, whether such right is created by this Section 12.1, by the other provisions of these By-laws or the Declaration, by statute or otherwise, no Holder shall be entitled to vote any share of Municipal Preferred and no share of Municipal Preferred shall be deemed to be "outstanding" for the purpose of voting or determining the number of shares required to constitute a quorum if, prior to or concurrently with the time of determination of shares entitled to vote or shares deemed outstanding for quorum purposes, as the case may be, the requisite Notice of Redemption with respect to such shares shall have been mailed as provided in paragraph 11(c) of this Part I and the Redemption Price for the redemption of such shares shall have been deposited in trust with the Auction Agent for that purpose. No shares of Municipal Preferred held by the Trust or any affiliate of the Trust (except for shares held by a Broker-Dealer that is an affiliate of the Trust for the account of its customers) shall have any voting rights or be deemed to be outstanding for voting or other purposes. 6. 1940 Act Municipal Preferred Asset Coverage. The Trust shall maintain, as of the last Business Day of each month in which any share of Municipal Preferred is outstanding, the 1940 Act Municipal Preferred Asset Coverage. 7. Municipal Preferred Basic Maintenance Amount. (a) So long as shares of Municipal Preferred are outstanding, the Trust shall maintain, on each Valuation Date, and shall verify to its satisfaction that it is maintaining on such Valuation Date, (i) S&P Eligible Assets having an aggregate Discounted Value equal to or greater than the Municipal Preferred Basic Maintenance Amount (if S&P is then rating the shares of Municipal Preferred) and (ii) Moody's Eligible Assets having an aggregate Discounted Value equal to or greater than the Municipal Preferred Basic Maintenance Amount (if Moody's is then rating the shares of Municipal Preferred). (b) On or before 5:00 P.M., New York City time, on the third Business Day after a Valuation Date on which the Trust fails to satisfy the Municipal Preferred Basic Maintenance Amount, and on the third Business Day after the Municipal Preferred Basic Maintenance Cure -41- 42 Date with respect to such Valuation Date, the Trust shall complete and deliver to S&P (if S&P is then rating the shares of Municipal Preferred), Moody's (if Moody's is then rating the shares of Municipal Preferred) and the Auction Agent (if either S&P or Moody's is then rating the shares of Municipal Preferred) a Municipal Preferred Basic Maintenance Report as of the date of such failure or such Municipal Preferred Basic Maintenance Cure Date, as the case may be, which will be deemed to have been delivered to the Auction Agent if the Auction Agent receives a copy of telecopy, telex or other electronic transcription thereof and on the same day the Trust mails to the Auction Agent for delivery on the next Business Day the full Municipal Preferred Basic Maintenance Report. The Trust shall also deliver a Municipal Preferred Basic Maintenance Report to (i) the Auction Agent (if either Moody's or S&P is then rating the shares of Municipal Preferred) as of (A) the fifteenth day of each month (or, if such day is not a Business Day, the next succeeding Business Day) and (B) the last Business Day of each month, (ii) Moody's (if Moody's is then rating the shares of Municipal Preferred) and S&P (if S&P is then rating the shares of Municipal Preferred) as of any Quarterly Valuation Date, in each case on or before the third Business Day after such day, and (iii) S&P, if and when requested for any Valuation Date, on or before the third Business Day after such request. A failure by the Trust to deliver a Municipal Preferred Basic Maintenance Report pursuant to the preceding sentence shall be deemed to be delivery of a Municipal Preferred Basic Maintenance Report indicating the Discounted Value for all assets of the Trust is less than the Municipal Preferred Basic Maintenance Amount, as of the relevant Valuation Date. (c) Within ten Business Days after the date of delivery of a Municipal Preferred Basic Maintenance Report in accordance with subparagraph (b) of this paragraph 7 relating to a Quarterly Valuation Date, the Trust shall cause the Independent Accountant to confirm in writing to S&P (if S&P is then rating the shares of Municipal Preferred), Moody's (if Moody's is then rating the shares of Municipal Preferred) and the Auction Agent (if either S&P or Moody's is then rating the shares of Municipal Preferred) (i) the mathematical accuracy of the calculations reflected in such Report (and in any other Municipal Preferred Basic Maintenance Report, randomly selected by the Independent Accountant, that was delivered by the Trust during the quarter ending on such Quarterly Valuation Date) and (ii) that, in such Report (and in such randomly selected Report), the Trust determined in accordance with this paragraph whether the Trust had, at such Quarterly Valuation Date (and at the Valuation Date addressed in such randomly-selected Report), S&P Eligible Assets (if S&P is then rating the shares of Municipal Preferred) of an aggregate Discounted Value at least equal to the Municipal Preferred Basic Maintenance Amount and Moody's Eligible Assets (if Moody's is then rating the shares of Municipal Preferred) of an aggregate Discounted Value at least equal to the Municipal Preferred Basic Maintenance Amount (such confirmation being herein called the "Accountant's Confirmation"). (d) Within ten Business Days after the date of delivery of a Municipal Preferred Basic Maintenance Report in accordance with subparagraph (b) of this paragraph 7 relating to any -42- 43 Valuation Date on which the Trust failed to satisfy the Municipal Preferred Basic Maintenance Amount, and relating to the Municipal Preferred Basic Maintenance Cure Date with respect to such failure to satisfy the Municipal Preferred Basic Maintenance Amount, the Trust shall cause the Independent Accountant to provide to S&P (if S&P is then rating the shares of Municipal Preferred), Moody's (if Moody's is then rating the shares of Municipal Preferred) and the Auction Agent (if either S&P or Moody's is then rating the shares of Municipal Preferred) an Accountant's Confirmation as to such Municipal Preferred Basic Maintenance Report. (e) If any Accountant's Confirmation delivered pursuant to subparagraph (c) or (d) of this paragraph 7 shows that an error was made in the Municipal Preferred Basic Maintenance Report for a particular Valuation Date for which such Accountant's Confirmation was required to be delivered, or shows that a lower aggregate Discounted Value for the aggregate of all S&P Eligible Assets (if S&P is then rating the shares of Municipal Preferred) or Moody's Eligible Assets (if Moody's is then rating the shares of Municipal Preferred), as the case may be, of the Trust was determined by the Independent Accountant, the calculation or determination made by such Independent Accountant shall be final and conclusive and shall be binding on the Trust, and the Trust shall accordingly amend and deliver the Municipal Preferred Basic Maintenance Report to S&P (if S&P is then rating the shares of Municipal Preferred), Moody's (if Moody's is then rating the shares of Municipal Preferred) and the Auction Agent (if either S&P or Moody's is then rating the shares of Municipal Preferred) promptly following receipt by the Trust of such Accountant's Confirmation. (f) On or before 5:00 p.m., New York City time, on the first Business Day after the Date of Original Issue of any shares of Municipal Preferred, the Trust shall complete and deliver to S&P (if S&P is then rating the shares of Municipal Preferred) and Moody's (if Moody's is then rating the shares of Municipal Preferred) a Municipal Preferred Basic Maintenance Report as of the close of business on such Date of Original Issue. Within five Business Days of such Date of Original Issue, the Trust shall cause the Independent Accountant to confirm in writing to S&P (if S&P is then rating the shares of Municipal Preferred) (i) the mathematical accuracy of the calculations reflected in such Report and (ii) that the Discounted Value of S&P Eligible Assets reflected thereon equals or exceeds the Municipal Preferred Basic Maintenance Amount reflected thereon. (g) On or before 5:00 p.m., New York City time, on the third Business Day after either (i) the Trust shall have redeemed Common Shares or (ii) the ratio of the Discounted Value of S&P Eligible Assets or the Discounted Value of Moody's Eligible Assets to the Municipal Preferred Basic Maintenance Amount is less than or equal to 105%, the Trust shall complete and deliver to S&P (if S&P is then rating the shares of Municipal Preferred) or Moody's (if Moody's is then rating the shares of Municipal Preferred), as the case may be, a Municipal Preferred Basic Maintenance Report as of the date of either such event. -43- 44 8. [Reserved]. 9. Restrictions on Dividends and Other Distributions. (a) Dividends on Preferred Shares Other Than Municipal Preferred. Except as set forth in the next sentence, no dividends shall be declared or paid or set apart for payment on the shares of any class or series of shares of beneficial interest of the Trust ranking, as to the payment of dividends, on a parity with shares of Municipal Preferred for any period unless full cumulative dividends have been or contemporaneously are declared and paid on the shares of each series of Municipal Preferred through its most recent Dividend Payment Date. When dividends are not paid in full upon the shares of each series of Municipal Preferred through its most recent Dividend Payment Date or upon the shares of any other class or series of shares of beneficial interest of the Trust ranking on a parity as to the payment of dividends with shares of Municipal Preferred through their most recent respective dividend payment dates, all dividends declared upon shares of Municipal Preferred and any other such class or series of shares of beneficial interest ranking on a parity as to the payment of dividends with shares of Municipal Preferred shall be declared pro rata so that the amount of dividends declared per share on shares of Municipal Preferred and such other class or series of shares of beneficial interest shall in all cases bear to each other the same ratio that accumulated dividends per share on the shares of Municipal Preferred and such other class or series of shares of beneficial interest bear to each other (for purposes of this sentence, the amount of dividends declared per share of Municipal Preferred shall be based on the Applicable Rate for such shares for the Dividend Periods during which dividends were not paid in full). (b) Dividends and Other Distributions With Respect to Common Shares Under the 1940 Act. The Board of Trustees shall not declare any dividend (except a dividend payable in Common Shares), or declare any other distribution, upon the Common Shares, or purchase Common Shares, unless in every such case the Preferred Shares have, at the time of any such declaration or purchase, an asset coverage (as defined in and determined pursuant to the 1940 Act) of at least 200% (or such other asset coverage as may in the future be specified in or under the 1940 Act as the minimum asset coverage for senior securities which are shares or stock of a closed-end investment company as a condition of declaring dividends on its common shares or stock) after deducting the amount of such dividend, distribution or purchase price, as the case may be. (c) Other Restrictions on Dividends and Other Distributions. For so long as any share of Municipal Preferred is outstanding, and except as set forth in subparagraph (a) of this paragraph 9 and paragraph 12(c) of this Part I, (A) the Trust shall not declare, pay or set apart for payment any dividend or other distribution (other than a dividend or distribution paid in shares of, or in options, warrants or rights to subscribe for or purchase, Common Shares or other shares, if any, ranking junior to the shares of Municipal Preferred as to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up) in respect of the Common Shares or any other shares of the Trust ranking junior to or on a parity with the shares of -44- 45 Municipal Preferred as to the payment of dividends or the distribution of assets upon dissolution, liquidation or winding up, or call for redemption, redeem, purchase or otherwise acquire for consideration any Common Shares or any other such junior shares (except by conversion into or exchange for shares of the Trust ranking junior to the shares of Municipal Preferred as to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up), or any such parity shares (except by conversion into or exchange for shares of the Trust ranking junior to or on a parity with Municipal Preferred as to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up), unless (i) full cumulative dividends on shares of each series of Municipal Preferred through its most recently ended Dividend Period shall have been paid or shall have been declared and sufficient funds for the payment thereof deposited with the Auction Agent and (ii) the Trust has redeemed the full number of shares of Municipal Preferred required to be redeemed by any provision for mandatory redemption pertaining thereto, and (B) the Trust shall not declare, pay or set apart for payment any dividend or other distribution (other than a dividend or distribution paid in shares of, or in options, warrants or rights to subscribe for or purchase, Common Shares or other shares, if any, ranking junior to shares of Municipal Preferred as to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up) in respect of Common Shares or any other shares of the Trust ranking junior to shares of Municipal Preferred as to the payment of dividends or the distribution of assets upon dissolution, liquidation or winding up, or call for redemption, redeem, purchase or otherwise acquire for consideration any Common Shares or any other such junior shares (except by conversion into or exchange for shares of the Trust ranking junior to shares of Municipal Preferred as to the payment of dividends and the distribution of assets upon dissolution, liquidation or winding up), unless immediately after such transaction the Discounted Value of Moody's Eligible Assets (if Moody's is then rating the shares of Municipal Preferred) and S&P Eligible Assets (if S&P is then rating the shares of Municipal Preferred) would each at least equal the Municipal Preferred Basic Maintenance Amount. 10. Rating Agency Restrictions. For so long as any shares of Municipal Preferred are outstanding and Moody's or S&P, or both, are rating such shares, the Trust will not, unless it has received written confirmation from Moody's or S&P, or both, as appropriate, that any such action would not impair the ratings then assigned by such rating agency to such shares, engage in any one or more of the following transactions: (a) purchase or sell futures contracts, write, purchase or sell options on futures contracts or write put options (except covered put options) or call options (except covered call options) on portfolio securities except that the Trust may purchase or sell futures contracts based on the Bond Buyer Municipal Bond Index (the "Municipal Index") or United States Treasury Bonds or Notes ("Treasury Bonds") and write, purchase or sell put and call options on such contracts (collectively, "Hedging Transactions"), subject to the following limitations: -45- 46 (i) the Trust will not engage in any Hedging Transaction based on the Municipal Index (other than transactions which terminate a futures contract or option held by the Trust by the Trust's taking an opposite position thereto ("Closing Transactions")), which would cause the Trust at the time of such transaction to own or have sold the least of (A) more than 1,000 outstanding futures contracts based on the Municipal Index, (B) outstanding futures contracts based on the Municipal Index exceeding in number 25% of the quotient of the Market Value of the Trust's total assets divided by $1,000 or (C) outstanding futures contracts based on the Municipal Index exceeding in number 10% of the average number of daily open interest futures contracts based on the Municipal Index in the 30 days preceding the time of effecting such transaction as reported by The Wall Street Journal. (ii) the Trust will not engage in any Hedging Transaction based on Treasury Bonds (other than Closing Transactions) which would cause the Trust at the time of such transaction to own or have sold the lesser of (A) outstanding futures contracts based on Treasury Bonds exceeding in number 50% of the quotient of the Market Value of the Trust's total assets divided by $100,000 ($200,000 in the case of the two-year United States Treasury Note) or (B) outstanding futures contracts based on Treasury Bonds exceeding in number 10% of the average number of daily traded futures contracts based on Treasury Bonds in the 30 days preceding the time of effecting such transaction as reported by The Wall Street Journal; (iii) the Trust will engage in Closing Transactions to close out any outstanding futures contract which the Trust owns or has sold or any outstanding option thereon owned by the Trust in the event (A) the Trust does not have S&P Eligible Assets or Moody's Eligible Assets, as the case may be, with an aggregate Discounted Value equal to or greater than the Municipal Preferred Basic Maintenance Amount on two consecutive Valuation Dates and (B) the Trust is required to pay Variation Margin on the second such Valuation Date; (iv) the Trust will engage in a Closing Transaction to close out any outstanding futures contract or option thereon in the month prior to the delivery month under the terms of such futures contract or option thereon unless the Trust holds the securities deliverable under such terms; and (v) when the Trust writes a futures contract or option thereon, it will either maintain an amount of cash, cash equivalents or high grade (rated A or better by S&P or Moody's, as the case may be), fixed-income securities in a segregated account with the Trust's custodian, so that the amount so segregated plus the amount of Initial Margin and Variation Margin held in the account of or on behalf of the Trust's broker with respect to such futures contract or option equals the Market Value of the futures contract or option, or, in the event the Trust writes a futures contract or option thereon -46- 47 which requires delivery of an underlying security, it shall hold such underlying security in its portfolio. For purposes of determining whether the Trust has S&P Eligible Assets or Moody's Eligible Assets, as the case may be, with a Discounted Value that equals or exceeds the Municipal Preferred Basic Maintenance Amount, the Discounted Value of cash or securities held for the payment of Initial Margin or Variation Margin shall be zero and the aggregate Discounted Value of S&P Eligible Assets or Moody's Eligible Assets, as the case may be, shall be reduced by an amount equal to (I) 30% of the aggregate settlement value, as marked to market, of any outstanding futures contracts based on the Municipal Index which are owned by the Trust plus (II) 25% of the aggregate settlement value, as marked to market, of any outstanding futures contracts based on Treasury Bonds which contracts are owned by the Trust. (b) borrow money, except that the Trust may, without obtaining the written confirmation described above, borrow money for the purpose of clearing securities transactions if (i) the Municipal Preferred Basic Maintenance Amount would continue to be satisfied after giving effect to such borrowing (which shall mean, for purposes of the calculation of the Municipal Preferred Basic Maintenance Amount, adding the amount of the liability for such borrowing to the calculation of the Municipal Preferred Basic Maintenance Amount under subparagraph (F) under the definition of that term in Part I of this Section 12.1) and (ii) such borrowing (A) is privately arranged with a bank or other person and is evidenced by a promissory note or other evidence of indebtedness that is not intended to be publicly distributed or (B) is for "temporary purposes," is evidenced by a promissory note or other evidence of indebtedness and is an amount not exceeding 5 per centum of the value of the total assets of the Trust at the time of the borrowing; for purposes of the foregoing, "temporary purpose" means that the borrowing is to be repaid within sixty days and is not to be extended or renewed; (c) issue additional shares of any series of Municipal Preferred or any class or series of shares ranking prior to or on a parity with shares of Municipal Preferred with respect to the payment of dividends or the distribution of assets upon dissolution, liquidation or winding up of the Trust, or reissue any shares of Municipal Preferred previously purchased or redeemed by the Trust; (d) engage in any short sales of securities; (e) lend securities; (f) merge or consolidate into or with any corporation; (g) change the pricing service (currently both Muller Data Corporation and Standard & Poor's J.J. Kenny Evaluation Services are used by the Trust) referred to in the definition of -47- 48 Market Value to a pricing service other than Muller Data Corporation or Standard & Poor's J.J. Kenny Evaluation Services; or (h) enter into reverse repurchase agreements. 11. Redemption. (a) Optional Redemption. (i) Subject to the provisions of subparagraph (v) of this subparagraph (a), shares of Municipal Preferred of any series may be redeemed, at the option of the Trust, as a whole or from time to time in part, on the second Business Day preceding any Dividend Payment Date for shares of such series, out of funds legally available therefor, at a redemption price per share equal to the sum of $25,000 plus an amount equal to accumulated but unpaid dividends thereon (whether or not earned or declared) to (but not including) the date fixed for redemption; provided, however, that (1) shares of a series of Municipal Preferred may not be redeemed in part if after such partial redemption fewer than 500 shares of such series remain outstanding; (2) unless otherwise provided herein, shares of a series of Municipal Preferred are redeemable by the Trust during the Initial Rate Period thereof only on the second Business Day next preceding the last Dividend Payment Date for such Initial Rate Period; and (3) subject to subparagraph (ii) of this paragraph, (a) the Notice of Special Rate Period relating to a Special Rate Period of shares of a series of Municipal Preferred, as delivered to the Auction Agent and filed with the Secretary of the Trust, may provide that shares of such series shall not be redeemable during the whole or any part of such Special Rate Period (except as provided in subparagraph (iv) of this subparagraph (a)) or shall be redeemable during the whole or any part of such Special Rate Period only upon payment of such redemption premium or premiums as shall be specified therein ("Special Redemption Provisions"). (ii) A Notice of Special Rate Period relating to shares of a series of Municipal Preferred for a Special Rate Period thereof may contain Special Redemption Provisions only if the Trust's Board of Trustees, after consultation with the Broker-Dealer or Broker-Dealers for such Special Rate Period of shares of such series, determines that such Special Redemption Provisions are in the best interest of the Trust. (iii) If fewer than all of the outstanding shares of a series of Municipal Preferred are to be redeemed pursuant to subparagraph (i) of this subparagraph (a), the number of shares of such series to be redeemed shall be determined by the Board of Trustees, and such shares shall be redeemed pro rata from the Holders of shares of such series in proportion to the number of shares of such series held by such Holders. (iv) Subject to the provisions of subparagraph (v) of this subparagraph (a), shares of any series of Municipal Preferred may be redeemed, at the option of the Trust, as a -48- 49 whole but not in part, out of funds legally available therefor, on the first day following any Dividend Period thereof included in a Rate Period consisting of more than 364 Rate Period Days if, on the date of determination of the Applicable Rate for shares of such series for such Rate Period, such Applicable Rate equaled or exceeded on such date of determination the Treasury Note Rate for such Rate Period, at a redemption price per share equal to the sum of $25,000 plus an amount equal to accumulated but unpaid dividends thereon (whether or not earned or declared) to (but not including) to the date fixed for redemption. (v) The Trust may not on any date mail a Notice of Redemption pursuant to subparagraph (c) of this paragraph 11 in respect of a redemption contemplated to be effected pursuant to this subparagraph (a) unless on such date (a) the Trust has available Deposit Securities with maturity or tender dates not later than the day preceding the applicable redemption date and having a value not less than the amount (including any applicable premium) due to Holders of shares of Municipal Preferred by reason of the redemption of such shares on such redemption date and (b) the Discounted Value of Moody's Eligible Assets (if Moody's is then rating the shares of Municipal Preferred) and the Discounted Value of S&P Eligible Assets (if S&P is then rating the shares of Municipal Preferred) each at least equal the Municipal Preferred Basic Maintenance Amount, and would at least equal the Municipal Preferred Basic Maintenance Amount immediately subsequent to such redemption if such redemption were to occur on such date. For purposes of determining in clause (b) of the preceding sentence whether the Discounted Value of Moody's Eligible Assets at least equals the Municipal Preferred Basic Maintenance Amount, the Moody's Discount Factors applicable to Moody's Eligible Assets shall be determined by reference to the first Exposure Period longer than the Exposure Period then applicable to the Trust, as described in the definition of Moody's Discount Factor herein. (b) Mandatory Redemption. The Trust shall redeem, at a redemption price equal to $25,000 per share plus accumulated but unpaid dividends thereon (whether or not earned or declared) to (but not including) the date fixed by the Board of Trustees for redemption, certain of the shares of Municipal Preferred, if the Trust fails to have either Moody's Eligible Assets with a Discounted Value, or S&P Eligible Assets with a Discounted Value, greater than or equal to the Municipal Preferred Basic Maintenance Amount or fails to maintain the 1940 Act Municipal Preferred Asset Coverage, in accordance with the requirements of the rating agency or agencies then rating the shares of Municipal Preferred, and such failure is not cured on or before the Municipal Preferred Basic Maintenance Cure Date or the 1940 Act Cure Date, as the case may be (the "Cure Date"). The number of shares of Municipal Preferred to be redeemed shall be equal to the lesser of (i) the minimum number of shares of Municipal Preferred, together with all other Preferred Shares subject to redemption or retirement, the redemption of which, if deemed to have occurred immediately prior to the opening of business on the Cure Date, would have resulted in the Trust's having both Moody's Eligible Assets with a Discounted Value, and S&P Eligible Assets with a Discounted Value, greater than or equal to the Municipal Preferred Basic -49- 50 Maintenance Amount or maintaining the 1940 Act Municipal Preferred Asset Coverage, as the case may be, on such Cure Date (provided, however, that if there is no such minimum number of shares of Municipal Preferred and other Preferred Shares the redemption or retirement of which would have had such result, all shares of Municipal Preferred and Preferred Shares then outstanding shall be redeemed), and (ii) the maximum number of shares of Municipal Preferred, together with all other Preferred Shares subject to redemption or retirement, that can be redeemed out of funds expected to be legally available therefor in accordance with the Declaration, these By-laws and applicable law. In determining the shares of Municipal Preferred required to be redeemed in accordance with the foregoing, the Trust shall allocate the number required to be redeemed to satisfy the Municipal Preferred Basic Maintenance Amount or the 1940 Act Municipal Preferred Asset Coverage, as the case may be, pro rata among shares of Municipal Preferred and other Preferred Shares (and, then pro rata among each series of Municipal Preferred) subject to redemption or retirement. The Trust shall effect such redemption on the date fixed by the Trust therefor, which date shall not be earlier than 20 days nor later than 40 days after such Cure Date, except that if the Trust does not have funds legally available for the redemption of all of the required number of shares of Municipal Preferred and other Preferred Shares which are subject to redemption or retirement or the Trust otherwise is unable to effect such redemption on or prior to 40 days after such Cure Date, the Trust shall redeem those shares of Municipal Preferred and other Preferred Shares which it was unable to redeem on the earliest practicable date on which it is able to effect such redemption. If fewer than all of the outstanding shares of a series of Municipal Preferred are to be redeemed pursuant to this subparagraph (b), the number of shares of such series to be redeemed shall be redeemed pro rata from the Holders of shares of such series in proportion to the number of shares of such series held by such Holders. (c) Notice of Redemption. If the Trust shall determine or be required to redeem shares of a series of Municipal Preferred pursuant to subparagraph (a) or (b) of this paragraph 11, it shall mail a Notice of Redemption with respect to such redemption by first class mail, postage prepaid, to each Holder of the shares of such series to be redeemed, at such Holder's address as the same appears on the record books of the Trust on the record date established by the Board of Trustees. Such Notice of Redemption shall be so mailed not less than 20 nor more than 45 days prior to the date fixed for redemption. Each such Notice of Redemption shall state: (i) the redemption date; (ii) the number of shares of Municipal Preferred to be redeemed and the series thereof; (iii) the CUSIP number for shares of such series; (iv) the Redemption Price; (v) the place or places where the certificate(s) for such shares (properly endorsed or assigned for transfer, if the Board of Trustees shall so require and the Notice of Redemption shall so state) are to be surrendered for payment of the Redemption Price; (vi) that dividends on the shares to be redeemed will cease to accumulate on such redemption date; and (vii) the provisions of this paragraph 11 under which such redemption is made. If fewer than all shares of a series of Municipal Preferred held by any Holder are to be redeemed, the Notice of Redemption mailed to such Holder shall also specify the number of shares of such series to be redeemed from such Holder. The Trust may provide in any Notice of Redemption relating to an optional redemption contemplated to be effected pursuant to subparagraph (a) of this paragraph 11 that such redemption is subject to one or more conditions precedent and that the Trust shall not be required such redemption unless each such -50- 51 condition shall have been satisfied at the time or times and in the manner specified in such Notice of Redemption. (d) No Redemption Under Certain Circumstances. Notwithstanding the provisions of subparagraphs (a) or (b) of this paragraph 11, if any dividends on shares of a series of Municipal Preferred (whether or not earned or declared) are in arrears, no shares of such series shall be redeemed unless all outstanding shares of such series are simultaneously redeemed, and the Trust shall not purchase or otherwise acquire any shares of such series; provided, however, that the foregoing shall not prevent the purchase or acquisition of all outstanding shares of such series pursuant to the successful completion of an otherwise lawful purchase or exchange offer made on the same terms to, and accepted by, Holders of all outstanding shares of such series. (e) Absence of Funds Available for Redemption. To the extent that any redemption for which Notice of Redemption has been mailed is not made by reason of the absence of legally available funds therefor in accordance with the Declaration, these By-laws and applicable law, such redemption shall be made as soon as practicable to the extent such funds become available. Failure to redeem shares of Municipal Preferred shall be deemed to exist at any time after the date specified for redemption in a Notice of Redemption when the Trust shall have failed, for any reason whatsoever, to deposit in trust with the Auction Agent the Redemption Price with respect to any shares of which such Notice of Redemption has been mailed; provided, however, that the foregoing shall not apply in the case of the Trust's failure to deposit in trust with the Auction Agent the Redemption Price with respect to any shares where (1) the Notice of Redemption relating to such redemption provided that such redemption was subject to one or more conditions precedent and (2) any such condition precedent shall not have been satisfied at the time or times and in the manner specified in such Notice of Redemption. Notwithstanding the fact that the Trust may not have redeemed shares of Municipal Preferred for which a Notice of Redemption has been mailed, dividends may be declared and paid on shares of Municipal Preferred and shall include those shares of Municipal Preferred for which a Notice of Redemption has been mailed. (f) Auction Agent as Trustee of Redemption Payments by Trust. All moneys paid to the Auction Agent for payment of the Redemption Price of shares of Municipal Preferred called for redemption shall be held in trust by the Auction Agent for the benefit of Holders of shares so to be redeemed. (g) Shares for Which Notice of Redemption Has Been Given Are No Longer Outstanding. Provided a Notice of Redemption has been mailed pursuant to subparagraph (c) of this paragraph 11, upon the deposit with the Auction Agent (on the Business Day next preceding the date fixed for redemption thereby, in funds available on the next Business Day in The City of New York, New York) of funds sufficient to redeem the shares of Municipal Preferred that are the subject of such notice, dividends on such shares shall cease to accumulate and such shares shall no longer be deemed to be outstanding for any purpose, and all rights of the Holders of the shares so called for redemption shall cease and terminate, except the right of such Holders to receive the Redemption Price, but without any interest or other additional amount, except as -51- 52 provided in paragraphs 2(e)(i) and 3 of this Part I. Upon surrender in accordance with the Notice of Redemption of the certificates for any shares so redeemed (property endorsed or assigned for transfer, if the Board of Trustees shall so require and the Notice of Redemption shall so state), the Redemption Price shall be paid by the Auction Agent to the Holders of shares of Municipal Preferred subject to redemption. In the case that fewer than all of the shares represented by any such certificate are redeemed, a new certificate shall be issued, representing the unredeemed shares, without cost to the Holder thereof. The Trust shall be entitled to receive from the Auction Agent, promptly after the date fixed for redemption, any cash deposited with the Auction Agent in excess of (i) the aggregate Redemption Price of the shares of Municipal Preferred called for redemption on such date and (ii) all other amounts to which Holders of shares of Municipal Preferred called for redemption may be entitled. Any funds so deposited that are unclaimed at the end of 90 days from such redemption date shall, to the extent permitted by law, be repaid to the Trust, after which time the Holders of shares of Municipal Preferred so called for redemption may look only to the Trust for payment of the Redemption Price and all other amounts to which they may be entitled. The Trust shall be entitled to receive, from time to time after the date fixed for redemption, any interest on the funds so deposited. (h) Compliance With Applicable Law. In effecting any redemption pursuant to this paragraph 11, the Trust shall use its best efforts to comply with all applicable conditions precedent to effecting such redemption under the 1940 Act and any applicable Massachusetts law, but shall effect no redemption except in accordance with the 1940 Act and any applicable Massachusetts law. (i) Only Whole Shares of Municipal Preferred May Be Redeemed. In the case of any redemption pursuant to this paragraph 11, only whole shares of Municipal Preferred shall be redeemed, and in the event that any provision of the Declaration or these By-laws would require redemption of a fractional shares, the Auction Agent shall be authorized to round up so that only whole shares are redeemed. 12. Liquidation Rights. (a) Ranking. The shares of a series of Municipal Preferred shall rank on a parity with each other, with shares of any other series of Municipal Preferred and with shares of any other series of Preferred Shares as to the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust. (b) Distributions Upon Liquidation. Upon the dissolution, liquidation or winding up of the affairs of the Trust, whether voluntary or involuntary, the Holders of shares of Municipal Preferred then outstanding shall be entitled to receive and to be paid out of the assets of the Trust available for distribution to its shareholders, before any payment or distribution shall be made on the Common Shares or on any other class of shares of the Trust ranking junior to the Municipal Preferred upon dissolution, liquidation or winding up, an amount equal to the Liquidation Preference with respect to such shares plus an amount equal to all dividends thereon (whether or -52- 53 not earned or declared) accumulated but unpaid to (but not including) the date of final distributions in same-day funds, together with any payments required to be made pursuant to paragraph 3 of this Part I in connection with the liquidation of the Trust. After the payment to the Holders of the shares of Municipal Preferred of the full preferential amounts provided for in this subparagraph (b), the holders of Municipal Preferred as such shall have no right or claim to any of the remaining assets of the Trust. (c) Pro Rata Distributions. In the event the assets of the Trust available for distribution to the Holders of shares of Municipal Preferred upon any dissolution, liquidation, or winding up of the affairs of the Trust, whether voluntary or involuntary, shall be insufficient to pay in full all amounts to which such Holders are entitled pursuant to subparagraph (b) of this paragraph 12, no such distribution shall be made on account of any shares of any other class or series of Preferred Shares ranking on a parity with the shares of Municipal Preferred with respect to the distribution of assets upon such dissolution, liquidation or winding up unless proportionate distributive amounts shall be paid on account of the shares of Municipal Preferred, ratably, in proportion to the full distributable amounts for which holders of all such parity shares are respectively entitled upon such dissolution, liquidation or winding up. (d) Rights of Junior Shares. Subject to the rights of the holders of shares of any series or class or classes of shares ranking on a parity with the shares of Municipal Preferred with respect to the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust, after payment shall have been made in full to the Holders of the shares of Municipal Preferred as provided in subparagraph (b) of this paragraph 12, but not prior thereto, any other series or class or classes of shares ranking junior to the shares of Municipal Preferred with respect to the distribution of assets upon dissolution, liquidation or winding up of the affairs of the Trust shall, subject to the respective terms and provisions (if any) applying thereto, be entitled to receive any and all assets remaining to be paid or distributed, and the Holders of the shares of Municipal Preferred shall not be entitled to share therein. (e) Certain Events Not Constituting Liquidation. Neither the sale of all or substantially all of the property or business of the Trust, nor the merger or consolidation of the Trust into or with any Massachusetts business trust or corporation nor the merger or consolidation of any Massachusetts business trust or corporation into or with the Trust shall be a dissolution, liquidation or winding up, whether voluntary or involuntary, for the purposes of this paragraph 12. 13. Miscellaneous. (a) Amendment of this Section 12.1 to Add Additional Series. Subject to the provisions of subparagraph (c) of paragraph 10 of this Part I, the Board of Trustees may, by resolution duly adopted, without shareholder approval (except as otherwise provided by this Section 12.1 or required by applicable law), amend Section 12.1 to (1) reflect any amendment hereto which the Board of Trustees is entitled to adopt pursuant to the terms of this Section 12.1 without -53- 54 shareholder approval or (2) add additional series of Municipal Preferred or additional shares of a series of Municipal Preferred (and terms relating thereto) to the series and shares of Municipal Preferred theretofore described thereon. Each such additional series and all such additional shares shall be governed by the terms of this Section 12.1. (b) [Reserved] (c) No Fractional Shares. No fractional shares of Municipal Preferred shall be issued. (d) Status of Shares of Municipal Preferred Redeemed, Exchanged or Otherwise Acquired by the Trust. Shares of Municipal Preferred which are redeemed, exchanged or otherwise acquired by the Trust shall return to the status of authorized and unissued Preferred Shares without designation as to series. (e) Board May Resolve Ambiguities. To the extent permitted by applicable law, the Board of Trustees may interpret or adjust the provisions of this Section 12.1 to resolve any inconsistency or ambiguity or to remedy any formal defect, and may amend this Section 12.1 with respect to any series of Municipal Preferred prior to this issuance of shares of such series. (f) Headings Not Determinative. The headings contained in this Section 12.1 are for convenience of reference only and shall not affect the meaning or interpretation of this Section 12.1. (g) Notices. All notices or communications, unless otherwise specified in the By-Laws of the Trust or this Section 12.1, shall be sufficiently given if in writing and delivered in person or mailed by first-class mail, postage prepaid. PART II 1. Orders. (a) Prior to the Submission Deadline on each Auction Date for shares of a series of Municipal Preferred: (i) each Beneficial Owner of shares of such series may submit to its Broker-Dealer by telephone or otherwise information as to: (A) the number of Outstanding shares, if any, of such series held by such Beneficial Owner which such Beneficial Owners desires to continue to hold without regard to the Applicable Rate for shares of such series for the next succeeding Rate Period of such shares; -54- 55 (B) the number of Outstanding shares, if any, of such series held by such Beneficial Owner which such Beneficial Owner offers to sell if the Applicable Rate for shares of such series for the next succeeding Rate Period of shares of such series shall be less than the rate per annum specified by such Beneficial Owner; and/or (C) the number of Outstanding shares, if any, of such series held by such Beneficial Owner which such Beneficial Owner offers to sell without regard to the Applicable Rate for shares of such series for the next succeeding Rate Period of shares of such series; and (ii) one or more Broker-Dealers, using lists of Potential Beneficial Owners, shall in good faith for the purpose of conducting a competitive Auction in a commercially reasonable manner, contact Potential Beneficial Owners (by telephone or otherwise), including Persons that are not Beneficial Owners, on such lists to determine the number of shares, if any, of such series which each such Potential Beneficial Owner offers to purchase if the Applicable Rate for shares of such series for the next succeeding Rate Period of shares of such series shall not be less than the rate per annum specified by such Potential Beneficial Owner. For purposes hereof, the communication by a Beneficial Owner or Potential Beneficial Owner to a Broker-Dealer, or by a Broker-Dealer to the Auction Agent, of information referred to in clause (i)(a), (i)(B), (i)(C), or (ii) of this subparagraph (a) is hereinafter referred to as an "Order" and collectively as "Orders" and each Beneficial Owner and each Potential Beneficial Owner placing an Order with a Broker-Dealer, and such Broker-Dealer placing an Order with the Auction Agent, is hereinafter referred to as a "Bidder" and collectively as "Bidders"; an Order containing the information referred to in clause (i)(A) of this subparagraph (a) is hereinafter referred to as a "Hold Order" and collectively as "Hold Orders"; an Order containing the information referred to in clause (i)(B) or (ii) of this subparagraph (a) is hereinafter referred to as a "Bid" and collectively as "Bids"; and an Order containing the information referred to in clause (i)(C) of this subparagraph (a) is hereinafter referred to as a "Sell Order" and collectively as "Sell Orders." (b) (i) A Bid by a Beneficial Owner or an Existing Holder of shares of a series of Municipal Preferred subject to an Auction on any Auction Date shall constitute an irrevocable offer to sell: (A) the number of Outstanding shares of such series specified in such Bid if the Applicable Rate for shares of such series determined on such Auction Date shall be less than the rate specified therein; -55- 56 (B) such number or a lesser number of Outstanding shares of such series to be determined as set forth in paragraph 4(a)(iv) of this Part II if the Applicable Rate for shares of such series determined on such Auction Date shall be equal to the rate specified therein; or (C) the number of Outstanding shares of such series specified in such Bid if the rate specified therein shall be higher than the Maximum Rate for shares of such series, or such number or a lesser number of Outstanding shares of such series to be determined as set forth in paragraph 4(b)(iii) of this Part II if the rate specified therein shall be higher than the Maximum Rate for shares of such series and Sufficient Clearing Bids for shares of such series do not exist. (ii) A Sell Order by a Beneficial Owner or an Existing Holder of shares of a series of Municipal Preferred subject to an Auction on any Auction Date shall constitute an irrevocable offer to sell: (A) the number of Outstanding shares of such series specified in such Sell Order; or (B) such number or a lesser number of Outstanding shares of such series as set forth in paragraph 4(b)(iii) of this Part II if Sufficient Clearing Bids for shares of such series do not exist; provided, however, that a Broker-Dealer that is an Existing Holder with respect to shares of a series of Municipal Preferred shall not be liable to any Person for failing to sell such shares pursuant to a Sell Order described in the proviso to paragraph 2(c) of this Part II if (1) such shares were transferred by the Beneficial Owner thereof without compliance by such Beneficial Owner or its transferee Broker-Dealer (or other transferee person, if permitted by the Trust) with the provisions of paragraph 7 of this Part II or (2) such Broker-Dealer has informed the Auction Agent pursuant to the terms of its Broker-Dealer Agreement that, according to such Broker-Dealer's records, such Broker-Dealer believes it is not the Existing Holder of such shares. (iii) A Bid by a Potential Beneficial Holder or a Potential Holder of shares of a series of Municipal Preferred subject to an Auction on any Auction Date shall constitute an irrevocable offer to purchase: (A) the number of Outstanding shares of such series specified in such Bid if the Applicable Rate for shares of such series determined on such Auction Date shall be higher than the rate specified therein; or (B) such number or a lesser number of Outstanding shares of such series as set forth in paragraph 4(a)(v) of this Part II if the Applicable Rate for shares of -56- 57 such series determined on such Auction Date shall be equal to the rate specified therein. (c) No Order for any number of shares of Municipal Preferred other than whole shares shall be valid. 2. Submission of Orders by Broker-Dealers to Auction Agent. (a) Each Broker-Dealer shall submit in writing to the Auction Agent prior to the Submission Deadline on each Auction Date all Orders for shares of Municipal Preferred of a series subject to an Auction on such Auction Date obtained by such Broker-Dealer, designating itself (unless otherwise permitted by the Trust) as an Existing Holder in respect of shares subject to Orders submitted or deemed submitted to it by Beneficial Owners and as a Potential Holder in respect of shares subject to Orders submitted to it by Potential Beneficial Owners, and shall specify with respect to each Order for such shares: (i) the name of the Bidder placing such Order (which shall be the Broker-Dealer unless otherwise permitted by the Trust); (ii) the aggregate number of shares of such series that are the subject of such Order; (iii) to the extent that such Bidder is an Existing Holder of shares of such series: (A) the number of shares, if any, of such series subject to any Hold Order of such Existing Holder; (B) the number of shares, if any, of such series subject to any Bid of such Existing Holder and the rate specified in such Bid; and (C) the number of shares, if any, of such series subject to any Sell Order of such Existing Holder; and (iv) to the extent such Bidder is a Potential Holder of shares of such series, the rate and number of shares of such series specified in such Potential Holder's Bid. (b) If any rate specified in any Bid contains more than three figures to the right of the decimal point, the Auction Agent shall round such rate up to the next highest one thousandth (.001) of 1%. (c) If an Order or Orders covering all of the Outstanding shares of Municipal Preferred of a series held by any Existing Holder is not submitted to the Auction Agent prior to the Submission Deadline, the Auction Agent shall deem a Hold Order to have been submitted by or -57- 58 on behalf of such Existing Holder covering the number of Outstanding shares of such series held by such Existing Holder and not subject to Orders submitted to the Auction Agent; provided, however, that if an Order or Orders covering all of the Outstanding shares of such series held by any Existing Holder is not submitted to the Auction Agent prior to the Submission Deadline for an Auction relating to a Special Rate Period consisting of more than 28 Rate Period Days, the Auction Agent shall deem a Sell Order to have been submitted by or on behalf of such Existing Holder covering the number of outstanding shares of such series held by such Existing Holder and not subject to Orders submitted to the Auction Agent. (d) If one or more Orders of an Existing Holder is submitted to the Auction Agent covering in the aggregate more than the number of Outstanding shares of Municipal Preferred of a series subject to an Auction held by such Existing Holder, such Orders shall be considered valid in the following order of priority: (i) all Hold Orders for shares of such series shall be considered valid, but only up to and including in the aggregate the number of Outstanding shares of such series held by such Existing Holder, and if the number of shares of such series subject to such Hold Orders exceeds the number of Outstanding shares of such series held by such Existing Holder, the number of shares subject to each such Hold Order shall be reduced pro rata to cover the number of Outstanding shares of such series held by such Existing Holder; (ii) (A) any Bid for shares of such series shall be considered valid up to and including the excess of the number of Outstanding shares of such series held by such Existing Holder over the number of shares of such series subject to any Hold Orders referred to in clause (i) above; (B) subject to subclause (A), if more than one Bid of an Existing Holder for shares of such series is submitted to the Auction Agent with the same rate and the number of Outstanding shares of such series subject to such Bids is greater than such excess, such Bids shall be considered valid up to and including the amount of such excess, and the number of shares of such series subject to each Bid with the same rate shall be reduced pro rata to cover the number of shares of such series equal to such excess; (C) subject to subclauses (A) and (B), if more than one Bid of an Existing Holder for shares of such series is submitted to the Auction Agent with different rates, such Bids shall be considered valid in the ascending order of their respective rates up to and including the amount of such excess; and (D) in any such event, the number, if any, of such Outstanding shares of such series subject to any portion of Bids considered not valid in whole or in part under this clause (ii) shall be treated as the subject of a Bid for shares of such series by or on behalf of a Potential Holder at the rate therein specified; and -58- 59 (iii) all Sell Orders for shares of such series shall be considered valid up to and including the excess of the number of Outstanding shares of such series held by such Existing Holder over the sum of shares of such series subject to valid Hold Orders referred to in clause (i) above and valid Bids referred to in clause (ii) above. (e) If more than one Bid for one or more shares of a series of Municipal Preferred is submitted to the Auction Agent by or on behalf of any Potential Holder, each such Bid submitted shall be a separate Bid with the rate and number of shares therein specified. (f) Any Order submitted by a Beneficial Owner or a Potential Beneficial Owner to its Broker-Dealer, or by a Broker-Dealer to the Auction Agent, prior to the Submission Deadline on any Auction Date, shall be irrevocable. 3. Determination of Sufficient Clearing Bids, Winning Bid Rate and Applicable Rate. (a) Not earlier than the Submission Deadline on each Auction Date for shares of a series of Municipal Preferred, the Auction Agent shall assemble all valid Orders submitted or deemed submitted to it by the Broker-Dealers in respect of shares of such series (each such Order as submitted or deemed submitted by a Broker-Dealer being hereinafter referred to individually as a "Submitted Hold Order," a "Submitted Bid" or a "Submitted Sell Order," as the case may be, or as a "Submitted Order," and collectively as "Submitted Hold Orders," "Submitted Bids" or "Submitted Sell Orders," as the case may be, or as "Submitted Orders") and shall determine for such series: (i) the excess of the number of Outstanding shares of such series over the number of Outstanding shares of such series subject to Submitted Hold Orders (such excess being hereinafter referred to as the "Available Municipal Preferred" of such series); (ii) from the Submitted Orders for shares of such series whether: (A) the number of Outstanding shares of such series subject to Submitted Bids of Potential Holders specifying one or more rates equal to or lower than the Maximum Rate for shares of such series; exceeds or is equal to the sum of: (B) the number of Outstanding shares of such series subject to Submitted Bids of Existing Holders specifying one or more rates higher than the Maximum Rate for shares of such series; and (C) the number of Outstanding shares of such series subject to Submitted Sell Orders -59- 60 (in the event such excess or such equality exists (other than because the number of shares of such series in subclauses (B) and (C) above is zero because all of the Outstanding shares of such series are subject to Submitted Hold Orders), such Submitted Bids in subclause (A) above being hereinafter referred to collectively as "Sufficient Clearing Bids" for shares of such series); and (iii) if Sufficient Clearing Bids for shares of such series exist, the lowest rate specified in such Submitted Bids (the "Winning Bid Rate" for shares of such series) which if: (A) (I) each such Submitted Bid of Existing Holders specifying such lowest rate and (II) all other such Submitted Bids of Existing Holders specifying lower rates were rejected, thus entitling such Existing Holders to continue to hold the shares of such series that are subject to such Submitted Bids; and (B) (I) each such Submitted Bid of Potential Holders specifying such lowest rate and (II) all other such Submitted Bids of Potential Holders specifying lower rates were accepted; would result in such Existing Holders described in subclause (A) above continuing to hold an aggregate number of Outstanding shares of such series which, when added to the number of Outstanding shares of such series to be purchased by such Potential Holders described in subclause (B) above, would equal not less than the Available Municipal Preferred of such series. (b) Promptly after the Auction Agent has made the determinations pursuant to subparagraph (a) of this paragraph 3, the Auction Agent shall advise the Trust of the Maximum Rate for shares of the series of Municipal Preferred for which an Auction is being held on the Auction Date and, based on such determination, the Applicable Rate for shares of such series for the next succeeding Rate Period thereof as follows: (i) if Sufficient Clearing Bids for shares of such series exist, that the Applicable Rate for all shares of such series for the next succeeding Rate Period thereof shall be equal to the Winning Bid Rate for shares of such series so determined; (ii) if Sufficient Clearing Bids for shares of such series do not exist (other than because all of the Outstanding shares of such series are subject to Submitted Hold Orders), that the Applicable Rate for all shares of such series for the next succeeding Rate Period thereof shall be equal to the Maximum Rate for shares of such series; or (iii) if all of the Outstanding shares of such series are subject to Submitted Hold Orders, that the Applicable Rate for all shares of such series for the next succeeding Rate Period thereof shall be as set forth in subparagraph (c) of this paragraph 3. -60- 61 (c) For purposes of subparagraph (b)(iii) of this paragraph 3, the Applicable Rate for shares of such series for the next succeeding Rate Period of shares of such series shall be equal to the lesser of the Kenny Index (if such Rate Period consists of fewer than 183 Rate Period Days) or the product of (A) (I) the "AA" Composite Commercial Paper Rate on such Auction Date for such Rate Period, if such Rate Period consists of fewer than 183 Rate Period Days; (II) the Treasury Bill Rate on such Auction Date for such Rate Period, if such Rate Period consists of more than 182 but fewer than 365 Rate Period Days; or (III) the Treasury Note Rate on such Auction Date for such Rate Period, if such Rate Period is more than 364 Rate Period Days (the rate described in the foregoing clause (A)(I), (II) or (III), as applicable, being referred to herein as the "Benchmark Rate") and (B) 1 minus the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax rate applicable to ordinary income, whichever is greater; provided, however, that if the Trust has notified the Auction Agent of its intent to allocate to shares of such series in such Rate Period any net capital gains or other income taxable for Federal income tax purposes ("Taxable Income"), the Applicable Rate for shares of such series for such Rate Period will be (i) if the Taxable Yield Rate (as defined below) is greater than the Benchmark Rate, then the Benchmark Rate, or (ii) if the Taxable Yield Rate is less than or equal to the Benchmark Rate, then the rate equal to the sum of (x) the lesser of the Kenny Index (if such Rate Period consists of fewer than 183 Rate Period Days) or the product of the Benchmark Rate multiplied by the factor set forth in the preceding clause (B) and (y) the product of the maximum marginal regular Federal individual income tax rate applicable to ordinary income or the maximum marginal regular Federal corporate income tax applicable to ordinary income, whichever is greater, multiplied by the Taxable Yield Rate. For purposes of the foregoing, "Taxable Yield Rate" means the rate determined by (a) dividing the amount of Taxable Income available for distribution per such share of Municipal Preferred by the number of days in the Dividend Period in respect of which such Taxable Income is contemplated to be distributed, (b) multiplying the amount determined in (a) above by 365 (in the case of a Dividend Period of 7 Rate Period Days) or 360 (in the case of any other Dividend Period), and (c) dividing the amount determined in (b) above by $25,000. 4. Acceptance and Rejection of Submitted Bids and Submitted Sell Orders and Allocation of Shares. Existing Holders shall continue to hold the shares of Municipal Preferred that are subject to Submitted Hold Orders, and, based on the determinations made pursuant to subparagraph (a) of paragraph 3 of this Part II, the Submitted Bids and Submitted Sell Orders shall be accepted or rejected by the Auction Agent and the Auction Agent shall take such other action as set forth below: (a) If Sufficient Clearing Bids for shares of a series of Municipal Preferred have been made, all Submitted Sell Orders with respect to shares of such series shall be accepted and, subject to the provisions of subparagraphs (d) and (e) of this paragraph 4, Submitted Bids with respect to shares of such series shall be accepted or rejected as follows in the following order of priority and all other Submitted Bids with respect to shares of such series shall be rejected: -61- 62 (i) Existing Holders' Submitted Bids for shares of such series specifying any rate that is higher than the Winning Bid Rate for shares of such series shall be accepted, thus requiring each such Existing Holder to sell the shares of Municipal Preferred subject to such Submitted Bids; (ii) Existing Holders' Submitted Bids for shares of such series specifying any rate that is lower than the Winning Bid Rate for shares of such series shall be rejected, thus entitling each such Existing Holder to continue to hold the shares of Municipal Preferred subject to such Submitted Bids; (iii) Potential Holders' Submitted Bids for shares of such series specifying any rate that is lower than the Winning Bid Rate for shares of such series shall be accepted; (iv) each Existing Holders' Submitted Bid for shares of such series specifying a rate that is equal to the Winning Bid Rate for shares of such series shall be rejected, thus entitling such Existing Holder to continue to hold the share of Municipal Preferred subject to such Submitted Bid, unless the number of Outstanding shares of Municipal Preferred subject to all such Submitted Bids shall be greater than the number of shares of Municipal Preferred ("remaining shares") in the excess of the Available Municipal Preferred of such series over the number of shares of Municipal Preferred subject to Submitted Bids described in clauses (ii) and (iii) of this subparagraph (a), in which event such Submitted Bid of such Existing Holder shall be rejected in part, and such Existing Holder shall be entitled to continue to hold shares of Municipal Preferred subject to such Submitted Bid, but only in an amount equal to the number of shares of Municipal Preferred of such series obtained by multiplying the number of remaining shares by a fraction, the numerator of which shall be the number of Outstanding shares of Municipal Preferred held by such Existing Holder subject to such Submitted Bid and the denominator of which shall be the aggregate number of Outstanding shares of Municipal Preferred subject to such Submitted Bids made by all such Existing Holders that specified a rate equal to the Winning Bid Rate for shares of such series; and (v) each Potential Holder's Submitted Bid for shares of such series specifying a rate that is equal to the Winning Bid Rate of shares of such series shall be accepted but only in an amount equal to the number of shares of such series obtained by multiplying the number of shares in the excess of the Available Municipal Preferred of such series over the number of shares of Municipal Preferred subject to Submitted Bids described in clauses (ii) through (iv) of this subparagraph (a) by a fraction, the numerator of which shall be the number of Outstanding shares of Municipal Preferred subject to such Submitted Bids and the denominator of which shall be the aggregate number of Outstanding shares of Municipal Preferred subject to such Submitted Bids made by all such Potential Holders that specified a rate equal to the Winning Bid Rate for shares of such series. -62- 63 (b) If Sufficient Clearing Bids for shares of a series of Municipal Preferred have not been made (other than because all of the Outstanding shares of such series are subject to Submitted Hold Orders), subject to the provisions of subparagraph (d) of this paragraph 4, Submitted Orders for shares of such series shall be accepted or rejected as follows in the following order of priority and all other Submitted Bids for shares of such series shall be rejected: (i) Existing Holders' Submitted Bids for shares of such series specifying any rate that is equal to or lower than the Maximum Rate for shares of such series shall be rejected, thus entitling such Existing Holders to continue to hold the shares of Municipal Preferred subject to such Submitted Bids; (ii) Potential Holders' Submitted Bids for shares of such series specifying any rate that is equal to or lower than the Maximum Rate for shares of such series shall be accepted; and (iii) Each Existing Holder's Submitted Bid for shares of such series specifying any rate that is higher than the Maximum Rate for shares of such series and the Submitted Sell Orders for shares of such series of each Existing Holder shall be accepted, thus entitling each Existing Holder that submitted or on whose behalf was submitted any such Submitted Bid or Submitted Sell Order to sell the shares of such series subject to such Submitted Bid or Submitted Sell Order, but in both cases only in an amount equal to the number of shares of such series obtained by multiplying the number of shares of such series subject to Submitted Bids described in clause (ii) of this subparagraph (b) by a fraction, the numerator of which shall be the number of Outstanding shares of such series held by such Existing Holder subject to such Submitted Bid or Submitted Sell Order and the denominator of which shall be the aggregate number of Outstanding shares of such series subject to all such Submitted Bids and Submitted Sell Orders. (c) If all of the Outstanding shares of a series of Municipal Preferred are subject to Submitted Hold Orders, all Submitted Bids for shares of such series shall be rejected. (d) If, as a result of the procedures described in clause (iv) or (v) of subparagraph (a) or clause (iii) of subparagraph (b) of this paragraph 4, any Existing Holder would be entitled or required to sell, or any Potential Holder would be entitled or required to purchase, a fraction of a share of a series of Municipal Preferred on any Auction Date, the Auction Agent shall, in such manner as it shall determine in its sole discretion, round up or down the number of shares of Municipal Preferred of such series to be purchased or sold by any Existing Holder or Potential Holder on such Auction Date as a result of such procedures so that the number of shares so purchased or sold by each Existing Holder or Potential Holder on such Auction Date shall be whole shares of Municipal Preferred. -63- 64 (e) If, as a result of the procedures described in clause (v) of paragraph (a) of this paragraph 4, any Potential Holder would be entitled or required to purchase less than a whole share of series of Municipal Preferred on any Auction Date, the Auction Agent shall, in such manner as it shall determine in its sole discretion, allocate shares of Municipal Preferred of such series for purchase among Potential Holders so that only whole shares of Municipal Preferred of such series are purchased on such Auction Date as a result of such procedures by any Potential Holder, even if such allocation results in one or more Potential Holders not purchasing shares of Municipal Preferred of such series on such Auction Date. (f) Based on the results of each Auction for shares of a series of Municipal Preferred, the Auction Agent shall determine the aggregate number of shares of such series to be purchased and the aggregate number of shares of such series to be sold by Potential Holders and Existing Holders and, with respect to each Potential Holder and Existing Holder, to the extent that such aggregate number of shares to be purchased and such aggregate number of shares to be sold differ, determine to which other Potential Holder(s) or Existing Holder(s) they shall deliver, or from which other Potential Holder(s) or Existing Holder(s) they shall receive, as the case may be, shares of Municipal Preferred of such series. Notwithstanding any provision of the Auction Procedures or the Settlement Procedures to the contrary, in the event an Existing Holder or Beneficial Owner of shares of a series of Municipal Preferred with respect to whom a Broker-Dealer submitted a Bid to the Auction Agent for such shares that was accepted in whole or in part, or submitted or is deemed to have submitted a Sell Order for such shares that was accepted in whole or in part, fails to instruct its Agent Member to deliver such shares against payment therefor, partial deliveries of shares of Municipal Preferred that have been made in respect of Potential Holders' or Potential Beneficial Owners' Submitted Bids for shares of such series that have been accepted in whole or in part shall constitute good delivery to such Potential Holders and Potential Beneficial Owners. (g) Neither the Trust nor the Auction Agent nor any affiliate of either shall have any responsibility or liability with respect to the failure of an Existing Holder, a Potential Holder, a Benefit Owner, a Potential Beneficial Owner or its respective Agent Member to deliver shares of Municipal Preferred of any series or to pay for shares of Municipal Preferred of any series sold or purchased pursuant to the Auction Procedures or otherwise. 5. Notification of Allocations. Whenever the Trust intends to include any net capital gain or other income taxable for Federal income tax purposes in any dividend on shares of Municipal Preferred, the Trust shall, in the case of a Minimum Rate Period or a Special Rate Period of 28 Rate Period Days or fewer, and may, in the case of any other Special Rate Period, notify the Auction Agent of the amount to be so included not later than the Dividend Payment Date next preceding the Auction Date on which the Applicable Rate for such dividend is to be established. Whenever the Auction Agent receives such notice from the Trust, it will be required in turn to notify each Broker-Dealer, who, on or prior to such Auction Date, in accordance with its Broker-Dealer Agreement, will be required to notify its Beneficial Owners and Potential -64- 65 Beneficial Owners of shares of Municipal Preferred believed by it to be interested in submitting an Order in the Auction to be held on such Auction Date. 6. Auction Agent. For so long as any shares of Municipal Preferred are outstanding, the Auction Agent, duly appointed by the Trust to so act, shall be in each case a commercial bank, trust company or other financial institution independent of the Trust and its affiliates (which however, may engage or have engaged in business transactions with the Trust or its affiliates) and at no time shall the Trust or any of its affiliates act as the Auction Agent in connection with the Auction Procedures. If the Auction Agent resigns or for any reason its appointment is terminated during any period that any shares of Municipal Preferred are outstanding, the Board of Trustees shall use its best efforts promptly thereafter to appoint another qualified commercial bank, trust company or financial institution to act as the Auction Agent. The Auction Agent's registry of Existing Holders of shares of a series of Municipal Preferred shall be conclusive and binding on the Broker-Dealers. A Broker-Dealer may inquire of the Auction Agent between 3:00 p.m. on the Business Day preceding an Auction for shares of a series of Municipal Preferred and 9:30 a.m. on the Auction Date for such Auction to ascertain the number of shares of a series in respect of which the Auction Agent has determined such Broker-Dealer to be an Existing Holder. If such Broker-Dealer believes it is the Existing Holder of fewer shares of such series than specified by the Auction Agent in response to such Broker-Dealer's inquiry, such Broker-Dealer may so inform the Auction Agent of that belief. Such Broker-Dealer shall not, in its capacity as Existing Holder of shares of such series, submit Orders in such Auction in respect of shares of such series covering in the aggregate more than the number of shares of such series specified by the Auction Agent in response to such Broker-Dealer's inquiry. 7. Transfer of Shares of Municipal Preferred. Unless otherwise permitted by the Trust, a Beneficial Owner or an Existing Holder may sell, transfer or otherwise dispose of shares of Municipal Preferred only in whole shares and only pursuant to a Bid or Sell Order placed with the Auction Agent in accordance with the procedures described in this Part II or to a Broker-Dealer; provided, however, that (a) a sale, transfer or other disposition of shares of Municipal Preferred from a customer of a Broker-Dealer who is listed on the records of that Broker-Dealer as the holder of such shares to that Broker-Dealer or another customer of that Broker-Dealer shall not be deemed to be a sale, transfer or other disposition for purposes of this paragraph 7 if such Broker-Dealer remains the Existing Holder of the shares so sold, transferred or disposed of immediately after such sale, transfer or disposition and (b) in the case of all transfers other than pursuant to Auctions, the Broker-Dealer (or other Person, if permitted by the Trust) to whom such transfer is made shall advise the Auction Agent of such transfer. 8. Global Certificate. Prior to the commencement of a Voting Period, (i) all of the shares of a series of Municipal Preferred outstanding from time to time shall be represented by one global certificate registered in the name of the Securities Depository or its nominee and (ii) no registration of transfer of shares of a series of Municipal Preferred shall be made on the books of the Trust to any Person other than the Securities Depository or its nominee. -65- 66 Article 13. Amendments Except as otherwise expressly stated herein, these By-Laws may be amended or repealed, in whole or in part, by a majority of the Trustees then in office at any meeting of the Trustees, or by one or more writings signed by such a majority. EX-99.(D)(2) 3 FORM OF SPECIMEN SHARE CERTIFICATE 1 Exhibit (d)(2) MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARE(S) OF BENEFICIAL INTEREST, SERIES F Number U NO PAR VALUE $25,000 Liquidation Preference per Share THIS CERTIFICATE IS TRANSFERABLE IN BOSTON OR IN NEW YORK CITY CUSIP 195799 20 0 SEE REVERSE FOR CERTAIN DEFINITIONS COLONIAL MUNICIPAL INCOME TRUST SHARE CERTIFICATE S P E C I M E N THIS CERTIFIES THAT Cede & Co. IS THE OWNER OF *Three Thousand Six Hundred* (3,600) FULLY PAID AND NON-ASSESSABLE MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARES OF BENEFICIAL INTEREST, SERIES F, NO PAR VALUE, $25,000 LIQUIDATION PREFERENCE PER SHARE, OF Colonial Municipal Income Trust, the said shares being issued, received and held under and subject to the terms and provisions of the Agreement and Declaration of Trust dated as of January 22, 1987, establishing Colonial Municipal Income Trust, and all amendments thereto, copies of which are on file with the Secretary of the Commonwealth of Massachusetts, and to the terms and provisions of the Amended and Restated By-Laws of Colonial Municipal Income Trust, copies of which are on file with the Secretary of the Trust. The said owner by accepting this certificate agrees to and is bound by all of the said terms and provisions. The shares represented hereby are only transferable in writing by the owner thereof in person or by attorney upon surrender of this certificate to the Trustees properly endorsed for transfer. This certificate is executed on behalf of the Trustees of the Trust as Trustees and not individually and the obligations hereof are not binding upon any of the Trustees, officers or shareholders of the Trust individually but are binding only upon the assets and property of the Trust. This certificate is not valid until countersigned and registered by the Transfer Agent and Registrar. Witness the facsimile seal of the Trust and the facsimile signatures of its duly authorized officers. Dated: Countersigned and Registered: 2 BANKERS TRUST COMPANY (Boston, Massachusetts) Transfer Agent and Registrar BY Authorized Signature. TREASURER PRESIDENT EXPLANATION OF ABBREVIATIONS The following abbreviations when used in the form of ownership on the face of this certificate shall be construed as though they were written out in full according to applicable laws or regulations. Abbreviations in addition to those appearing below, may be used. Abbreviation Equivalent Abbreviation Equivalent - ------------ ---------- ------------ ---------- JT TEN As joint tenants, TEN IN COM As tenants in common with right of TEN BY ENT As tenants by the survivorship and entireties not as tenants UNIF TRANSFERS Uniform Transfers to in common MIN ACT Minors Abbreviation Equivalent Abbreviation Equivalent - ------------ ----------- ------------ ----------- ADM Administrator(s) FDN Foundation Administratrix PL Public Law AGMT Agreement TR (As) trustees(s), for, of CUST Custodian for UA Under Agreement EST Estate, Of estate of UW Under will of, Of will of, EX Executor(s), Executrix Under last will & FBO For the benefit of Testament Additional abbreviations may also be used though not in the above list. --------------------------------------------------------------------------- TRANSFER FORM FOR VALUE RECEIVED, _________________________________ hereby sell, assign and transfer unto (I/We) PLEASE INSERT SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER OF ASSIGNEE - ------------------------------------------- - ------------------------------------------- - ------------------------------------------------------------------ Please print or typewrite name and address (including postal zip code of assignee) ___________________________________________________________________Shares represented by this Certificate and do hereby irrevocably constitute and appoint _____________________________________________________________________Attorney, to transfer said shares on the books of the Trust with full 3 power of substitution in the premises. Dated: SIGNATURE GUARANTEED BY Signature(s)_________________________________ (The signature to this assignment must correspond with the name as written upon the face of this Certificate in every particular, without alteration or enlargement or any change whatsoever. If more than one owner, all must sign.) - ------------------------------------------------------------------------- (Signature must be guaranteed by a commercial bank or trust company or member firm of any national stock exchange.) IMPORTANT NOTICE: When you sign your name to the Transfer Form without filling in the name of your "Assignee" this certificate becomes fully negotiable, similar to a check endorsed in blank. Therefore, to safeguard a signed certificate, it is recommended that you fill in the name of the new owner in the "Assignee" space. Alternatively, instead of using this Transfer Form, you may sign a separate "stock power" form and then mail the unsigned certificate and the signed "stock power" in separate envelopes. For added protection, use registered mail for a certificate. EX-99.(H) 4 FORM OF UNDERWRITING AGREEMENT 1 Municipal Auction Rate Cumulative Preferred Shares COLONIAL MUNICIPAL INCOME TRUST 3,600 Shares, Series F Liquidation Preference $25,000 Per Share UNDERWRITING AGREEMENT July __, 1999 SALOMON SMITH BARNEY INC. 388 Greenwich Street New York, New York 10013 Ladies and Gentlemen: Colonial Municipal Income Trust, a Massachusetts business trust (the "Trust"), proposes, upon the terms and conditions set forth herein, to issue and sell an aggregate of 3,600 shares of its Municipal Auction Rate Cumulative Preferred Shares, Series F (the "Municipal Preferred"), each with a liquidation preference of $25,000 per share (the shares of Municipal Preferred to be sold hereby are referred to herein, collectively, as the "Shares"). The Shares will be authorized by, and subject to the terms and conditions of, the By-Laws of the Trust in the form filed as an exhibit to the Registration Statement referred to in Section 1 of this agreement. The Trust and its investment adviser, Colonial Management Associates, Inc., (the "Advisor"), wish to confirm as follows their agreement with Salomon Smith Barney Inc. (the "Underwriter") in connection with the purchase of the Shares by the Underwriter. Collectively, (i) the Management Agreement, dated as of March 27, 1995, between the Trust and the Advisor (the "Management Agreement"), (ii) the Custodian Agreement, dated as of August 17, 1997, between the Trust and The Chase Manhattan Bank, as amended, (iii) the Auction Agent Agreement, to be dated as of ____, between the Trust and Bankers Trust Company and (iv) the Broker-Dealer Agreement, to be dated as of ____, between the Trust and Salomon Smith Barney Inc. are hereinafter referred to as the "Trust Agreements". This Underwriting Agreement is hereinafter referred to as the "Agreement". 1. Registration Statement and Prospectus. The Trust has prepared in conformity with the provisions of the Securities Act of 1933, as amended (the "1933 Act"), the Investment Company Act of 1940, as amended (the "1940 Act"), and the rules and regulations of the Securities and Exchange Commission (the "Commission") promulgated under the 1933 Act (the "1933 Act Rules and Regulations") and the 1940 Act (the "1940 Act Rules and Regulations" and, together with the 1933 Act Rules and Regulations, the "Rules and Regulations") a registration 2 2 statement on Form N-2, as amended (File No. 333-77261 and 811-4992), under the 1933 Act and the 1940 Act (the "registration statement"), including a prospectus relating to the Shares, and has filed the registration statement and prospectus in accordance with the 1933 Act and 1940 Act. The Trust also has filed a notification of registration of the Trust as an investment company under the 1940 Act on Form N-8A (the "1940 Act Notification"). The term "Registration Statement" as used in this Agreement means the registration statement (including all financial schedules and exhibits), as amended at the time it becomes effective under the 1933 Act or, if the registration statement became effective under the 1933 Act prior to the execution of this Agreement, as amended or supplemented at the time it became effective, prior to the execution of this Agreement. If it is contemplated, at the time this Agreement is executed, that a post-effective amendment to the registration statement will be filed under the 1933 Act and must be declared effective before the offering of the Shares may commence, the term "Registration Statement" as used in this Agreement means the registration statement as amended by said post-effective amendment. If the Trust has filed an abbreviated registration statement to register an additional amount of Shares pursuant to Rule 462(b) under the 1933 Act (the "Rule 462 Registration Statement"), then any reference herein to the term "Registration Statement" shall include such Rule 462 Registration Statement. The term "Prospectus" as used in this Agreement means the prospectus and statement of additional information in the forms included in the Registration Statement or, if the prospectus and statement of additional information included in the Registration Statement omit information in reliance on Rule 430A under the 1933 Act Rules and Regulations and such information is included in a prospectus and statement of additional information filed with the Commission pursuant to Rule 497 under the 1933 Act, the term "Prospectus" as used in this Agreement means the prospectus and statement of additional information in the forms included in the Registration Statement as supplemented by the addition of the information contained in the prospectus filed with the Commission pursuant to Rule 497. The term "Prepricing Prospectus" as used in this Agreement means the prospectus and statement of additional information subject to completion in the forms included in the registration statement at the time of filing of amendment no.1 to the registration statement with the Commission on July 13, 1999, and as such prospectus and statement of additional information shall have been amended from time to time prior to the date of the Prospectus, together with any other prospectus and statement of additional information relating to the Trust other than the Prospectus approved in writing by or directly or indirectly prepared by the Trust or the Adviser; it being understood that the definition of Prepricing Prospectus above shall not include any Prepricing Prospectus prepared by the Underwriter unless approved in writing by the Trust or Advisor. The terms "Registration Statement", "Prospectus" and "Prepricing Prospectus" shall also include any financial statements incorporated by reference therein. The Trust has furnished the Underwriter with copies of such registration statement, each amendment to such registration statement filed with the Commission and each Prepricing Prospectus. 2. Agreements to Sell and Purchase. The Trust hereby agrees, subject to all the terms and conditions set forth herein, to issue and sell to the Underwriter and, upon the basis of the representations, warranties and agreements of the Trust and the Advisor herein contained and subject to all the terms and conditions set forth herein, the Underwriter agrees to purchase from 3 3 the Trust, at a purchase price of $_______ per Share, the number of shares of Municipal Preferred set forth opposite the name of the Underwriter in Schedule I hereto. 3. Terms of Public Offering. The Trust and the Advisor have been advised by the Underwriter that the Underwriter proposes to make a public offering of the Shares as soon after the Registration Statement and this Agreement have become effective as in the Underwriter's judgment is advisable and initially to offer the Shares upon the terms set forth in the Prospectus. 4. Delivery of the Shares and Payment Therefor. Delivery to the Underwriter of and payment for the Shares shall be made at the office of Simpson Thacher & Bartlett, 425 Lexington Avenue, New York, NY 10017, at 9:30 A.M., New York City time, on July __, 1999 (the "Closing Date"). The place of closing for the Shares and the Closing Date may be varied by agreement between the Underwriter and the Trust. Certificates for the Shares shall be registered in such names and in such denominations as the Underwriter shall request prior to 9:30 A.M., New York City time, on the second business day preceding the Closing Date. Such certificates shall be made available to the Underwriter in New York City for inspection not later than 9:30 A.M., New York City time, on the business day next preceding the Closing Date. The certificates evidencing the Shares shall be delivered to the Underwriter on the Closing Date, through the facilities of The Depository Trust Company, against payment of the purchase price therefor in immediately available funds. 5. Agreements of the Trust and the Advisor. The Trust and the Advisor, jointly and severally, agree with the Underwriter as follows: (a) If, at the time this Agreement is executed and delivered, it is necessary for the Registration Statement or a post-effective amendment thereto to be declared effective under the 1933 Act before the offering of the Shares may commence, the Trust will endeavor to cause the Registration Statement or such post-effective amendment to become effective under the 1933 Act as soon as possible and will advise the Underwriter promptly and, if requested by the Underwriter, will confirm such advice in writing when the Registration Statement or such post-effective amendment has become effective. (b) The Trust will advise the Underwriter promptly and, if requested by the Underwriter, will confirm such advice in writing: (i) of any request made by the Commission for amendment of or a supplement to the Registration Statement, any Prepricing Prospectus or the Prospectus (or any amendment or supplement to any of the foregoing) or for additional information, (ii) of the issuance by the Commission, the National Association of Securities Dealers, Inc. (the "NASD"), any state securities commission, any national securities exchange, any arbitrator, any court or any other governmental, regulatory, self-regulatory or administrative agency or any official of any order suspending the effectiveness of the Registration Statement, prohibiting or suspending the use of the Prospectus or any Prepricing Prospectus, or any sales material, of any notice pursuant to Section 8(e) of the 1940 Act, of the suspension of qualification of the Shares for offering or sale in any jurisdiction, or the initiation of any proceeding for any such purposes, (iii) of receipt by the Trust, the Advisor, any affiliate of the Trust or the Advisor or any representative or attorney of the Trust or the Advisor of any other 4 4 material communication from the Commission, the NASD, any state securities commission, any national securities exchange, any arbitrator, any court or any other governmental, regulatory, self-regulatory or administrative agency or any official relating to the Trust (if such communication relating to the Trust is received by such person within three years after the date of this Agreement), the Registration Statement, the 1940 Act Notification, the Prospectus, any Prepricing Prospectus, any sales material (or any amendment or supplement to any of the foregoing) or this Agreement or any of the Trust Agreements and (iv) within the period of time referred to in paragraph (f) below, of any material adverse change in the condition (financial or other), business, prospects, properties, net assets or results of operations of the Trust or the Advisor or of the happening of any other event which makes any statement of a material fact made in the Registration Statement or the Prospectus or any sales material (or any amendment or supplement to any of the foregoing) untrue or which requires the making of any additions to or changes in the Registration Statement or the Prospectus, or any Prepricing Prospectus or any sales materials (as herein defined) (or any amendment or supplement to any of the foregoing) in order to state a material fact required by the 1933 Act, the 1940 Act or the Rules and Regulations to be stated therein or necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading or of the necessity to amend or supplement the Registration Statement, the Prospectus, or any Prepricing Prospectus or any sales material (as herein defined) (or any amendment or supplement to any of the foregoing) to comply with the 1933 Act, the 1940 Act, the Rules and Regulations or any other law or order of any court or regulatory body. If at any time the Commission, the NASD, any state securities commission, any national securities exchange, any arbitrator, any court or any other governmental, regulatory, self-regulatory or administrative agency or any official shall issue any order suspending the effectiveness of the Registration Statement, prohibiting or suspending the use of the Prospectus or any sales material (as herein defined) (or any amendment or supplement to any of the foregoing) or suspending the qualification of the Shares for offering or sale in any jurisdiction, the Trust will make every reasonable effort to obtain the withdrawal of such order at the earliest possible time. (c) The Trust will furnish to the Underwriter, without charge, three signed copies of the Registration Statement as originally filed with the Commission and of each amendment thereto, including financial statements and all exhibits thereto, and will also furnish to the Underwriter, without charge, such number of conformed copies of the Registration Statement as originally filed and of each amendment thereto, but without exhibits, as the Underwriter may request. (d) The Trust will not (i) file any amendment to the Registration Statement or make any amendment or supplement to the Prospectus, or any sales material (as herein defined), of which the Underwriter shall not previously have been advised or to which the Underwriter shall reasonably object after being so advised or (ii) so long as, in the opinion of counsel for the Underwriter, a Prospectus is required by the 1933 Act to be delivered in connection with sales by the Underwriter or any dealer, file any information, documents or reports pursuant to the Securities Exchange Act of 1934, as amended (the "1934 Act"), without delivering a copy of such information, documents or reports to the Underwriter prior to or concurrently with such filing. 5 5 (e) Prior to the execution and delivery of this Agreement, the Trust has delivered to the Underwriter, without charge, in such quantities as the Underwriter has requested, copies of each form of the Prepricing Prospectus. The Trust consents to the use, in accordance with the provisions of the 1933 Act and with the state securities or blue sky laws of the jurisdictions in which the Shares are offered by the Underwriter and by dealers, prior to the date of the Prospectus, of each Prepricing Prospectus so furnished by the Trust. (f) As soon after the execution and delivery of this Agreement as possible and thereafter from time to time for such period as in the opinion of counsel for the Underwriter a prospectus is required by the 1933 Act to be delivered in connection with sales by the Underwriter or any dealer, the Trust will expeditiously deliver to the Underwriter and each dealer, without charge, as many copies of the Prospectus (and of any amendment or supplement thereto) as the Underwriter may reasonably request. The Trust consents to the use of the Prospectus (and of any amendment or supplement thereto) in accordance with the provisions of the 1933 Act and with the state securities or blue sky laws of the jurisdictions in which the Shares are offered by the Underwriter and by all dealers to whom Shares may be sold, both in connection with the offering and sale of the Shares and for such period of time thereafter as the Prospectus is required by the 1933 Act to be delivered in connection with sales by the Underwriter or any dealer. If during such period of time any event shall occur that in the judgment of the Trust or in the opinion of counsel for the Underwriter is required to be set forth in the Registration Statement or the Prospectus (as then amended or supplemented) or should be set forth therein in order to make the statements therein, in the light of the circumstances under which they were made, not misleading, or if it is necessary to supplement or amend the Registration Statement or the Prospectus to comply with the 1933 Act, the 1940 Act, the Rules and Regulations or any other federal law, rule or regulation, or any state securities or blue sky disclosure laws, rules or regulations, the Trust will forthwith prepare and, subject to the provisions of paragraph (d) above, promptly file with the Commission an appropriate supplement or amendment thereto, and will expeditiously furnish to the Underwriter and dealers, without charge, a reasonable number of copies thereof. In the event that the Trust and the Underwriter agree that the Registration Statement or the Prospectus should be amended or supplemented, the Trust, if requested by the Underwriter, will promptly issue a press release announcing or disclosing the matters to be covered by the proposed amendment or supplement. (g) The Trust will make generally available to its security holders an earnings statement, which need not be audited, covering a twelve-month period ending not later than 15 months after the effective date of the Registration Statement as soon as practicable after the end of such period, which earnings statement shall satisfy the provisions of Section 11(a) of the 1933 Act and Rule 158 of the 1933 Act Rules and Regulations. (h) During the period of five years hereafter, the Trust will furnish to the Underwriter (i) as soon as available, a copy of each report of the Trust mailed to stockholders or filed with the Commission or furnished to the New York Stock Exchange (the "NYSE") other than reports on Form N-SAR, and (ii) from time to time such other information concerning the Trust as the Underwriter may reasonably request. 6 6 (i) If this Agreement shall terminate or shall be terminated after execution pursuant to any provisions hereof (otherwise than by notice given by the Underwriter terminating this Agreement pursuant to Section 12 hereof) or if this Agreement shall be terminated by the Underwriter because of any failure or refusal on the part of the Trust or the Advisor to comply with the terms or fulfill any of the conditions of this Agreement, the Trust and the Advisor, jointly and severally, agree to reimburse the Underwriter for all out-of-pocket expenses (including reasonable fees and expenses of counsel for the Underwriter) incurred by the Underwriter in connection herewith. (j) The Trust will apply the net proceeds from the sale of the Shares substantially in accordance with the description set forth in the Prospectus and in such a manner as to comply with the investment objectives, policies and restrictions of the Trust as described in the Prospectus. (k) The Trust will timely file the requisite copies of the Prospectus with the Commission pursuant to Rule 497(c) or Rule 497(h) of the 1933 Act Rules and Regulations, whichever is applicable or, if applicable, will timely file the certification permitted by Rule 497(j) of the 1933 Act Rules and Regulations and will advise the Underwriter of the time and manner of such filing. (l) Except as provided in this Agreement, the Trust will not sell, contract to sell, or otherwise dispose of any senior securities (as defined in the 1940 Act) of the Trust, or grant any options or warrants to purchase senior securities of the Trust, for a period of 120 days after the date of the Prospectus, without the prior written consent of the Underwriter. (m) Except as stated in this Agreement and in the Prepricing Prospectus and Prospectus, neither the Trust nor the Advisor has taken, nor will it take, directly or indirectly, any action designed to or that might reasonably be expected to cause or result in stabilization or manipulation of the price of any securities issued by the Trust to facilitate the sale or resale of the Shares. (n) The Trust will use its best efforts to cause the Municipal Preferred, prior to the Closing Date, to be assigned a rating of 'aaa' by Moody's Investors Service, Inc. ("Moody's") and AAA by Standard & Poor's Ratings Services ("S&P" and, together with Moody's, the "Rating Agencies"). (o) The Trust and the Advisor will use their best efforts to perform all of the agreements required of them and discharge all conditions to closing as set forth in this Agreement. 6. Representations and Warranties of the Trust and the Advisor. The Trust and the Advisor, jointly and severally, represent and warrant to the Underwriter that: (a) Each Prepricing Prospectus included as part of the registration statement as originally filed or as part of any amendment or supplement thereto, or filed pursuant to Rule 497 of the 1933 Act Rules and Regulations, complied when so filed in all material respects with the 7 7 provisions of the 1933 Act, the 1940 Act and the Rules and Regulations. The Commission has not issued any order preventing or suspending the use of any Prepricing Prospectus. (b) The registration statement in the form in which it became or becomes effective and also in such form as it may be when any post-effective amendment thereto shall become effective and the Prospectus and any supplement or amendment thereto when filed with the Commission under Rule 497 of the 1933 Act Rules and Regulations and the 1940 Act Notification when originally filed with the Commission and any amendment or supplement thereto when filed with the Commission, complied or will comply in all material respects with the provisions of the 1933 Act, the 1940 Act and the Rules and Regulations and did not or will not at any such times contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein not misleading, except that this representation and warranty does not apply to statements in or omissions from the registration statement or the Prospectus made in reliance upon and in conformity with information relating to the Underwriter furnished to the Trust in writing by or on behalf of the Underwriter expressly for use therein. (c) All the outstanding Common Shares (as defined in the Prospectus) of the Trust have been duly authorized and validly issued, are fully paid and nonassessable and are free of any preemptive or similar rights; the Shares have been duly authorized and, when issued and delivered to the Underwriter against payment therefor in accordance with the terms hereof, will be validly issued, fully paid and nonassessable and free of any preemptive or similar rights and will conform to the description thereof in the Registration Statement and the Prospectus (and any amendment or supplement to either of them); and the capitalization of the Trust conforms to the description thereof in the Registration Statement and the Prospectus (and any amendment or supplement to either of them). (d) The Trust is a business trust duly organized and validly existing in good standing under the laws of the Commonwealth of Massachusetts with full business trust power and authority to own, lease and operate its properties and to conduct its business as described in the Registration Statement and the Prospectus (and any amendment or supplement to either of them), and is duly registered and qualified to conduct its business and is in good standing in each jurisdiction or place where the nature of its properties or the conduct of its business requires such registration or qualification, except where the failure so to register or qualify does not have a material adverse effect on the condition (financial or other), business, prospects, properties, net assets or results of operations of the Trust; and the Trust has no subsidiaries. (e) There are no legal or governmental proceedings pending or, to the knowledge of the Trust, threatened, against the Trust, or to which the Trust or any of its properties is subject, that are required to be described in the Registration Statement or the Prospectus (and any amendment or supplement to either of them) but are not described as required, and there are no agreements, contracts, indentures, leases or other instruments that are required to be described in the Registration Statement or the Prospectus (and any amendment or supplement to either of them) or to be filed as an exhibit to the Registration Statement that are not described or filed as required by the 1933 Act, the 1940 Act or the Rules and Regulations. 8 8 (f) The Trust is not in violation of its Declaration of Trust (the "Declaration") or its amended and restated bylaws (the "Bylaws") or other organizational documents (together with the Declaration and Bylaws, the "Organizational Documents"), or of any law, ordinance, administrative or governmental rule or regulation applicable to the Trust or of any decree of the Commission, the NASD, any state securities commission, any national securities exchange, any arbitrator, any court or governmental agency, body or official having jurisdiction over the Trust, or in default in any material respect in the performance of any obligation, agreement or condition contained in any bond, debenture, note or any other evidence of indebtedness or in any material agreement, indenture, lease or other instrument to which the Trust is a party or by which it or any of its properties may be bound. (g) Neither the issuance and sale of the Shares, the execution, delivery or performance of this Agreement or any of the Trust Agreements by the Trust, nor the consummation by the Trust of the transactions contemplated hereby or thereby (A) requires any consent, approval, authorization or other order of or registration or filing with, the Commission, the NASD, any state securities commission, any national securities exchange, any arbitrator, any court, regulatory body, administrative agency or other governmental body, agency or official (except such as may have been obtained prior to the date hereof and such as may be required for compliance with the state securities or blue sky laws of various jurisdictions which have been or will be effected in accordance with this Agreement) or conflicts or will conflict with or constitutes or will constitute a breach of, or a default under, the Organizational Documents of the Trust or (B) conflicts or will conflict with or constitutes or will constitute a breach of, or a default under, any agreement, indenture, lease or other instrument to which the Trust is a party or by which it or any of its properties may be bound, or violates or will violate any statute, law, regulation or judgment, injunction, order or decree applicable to the Trust or any of its properties, or will result in the creation or imposition of any lien, charge or encumbrance upon any property or assets of the Trust pursuant to the terms of any agreement or instrument to which it is a party or by which it may be bound or to which any of its property or assets is subject. The Trust is not subject to any order of any court or of any arbitrator, governmental authority or administrative agency. (h) The accountants, PricewaterhouseCoopers LLP, who have certified or shall certify the financial statements included or incorporated by reference in the Registration Statement and the Prospectus (or any amendment or supplement to either of them) are independent public accountants as required by the 1933 Act, the 1940 Act and the Rules and Regulations. (i) The financial statements, together with related schedules and notes, included or incorporated by reference in the Registration Statement and the Prospectus (and any amendment or supplement to either of them), present fairly the financial position, results of operations and changes in financial position of the Trust on the basis stated or incorporated by reference in the Registration Statement at the respective dates or for the respective periods to which they apply; such statements and related schedules and notes have been prepared in accordance with generally accepted accounting principles consistently applied throughout the periods involved, except as disclosed therein; and the other financial and statistical information and data included in the Registration Statement and the Prospectus (and any amendment or 9 9 supplement to either of them) are accurately presented and prepared on a basis consistent with such financial statements and the books and records of the Trust. (j) The execution and delivery of, and the performance by the Trust of its obligations under, this Agreement and the Trust Agreements have been duly and validly authorized by the Trust, and this Agreement and the Trust Agreements have been duly executed and delivered by the Trust and assuming due authorization, execution and delivery by the other parties thereto, constitute the valid and legally binding agreements of the Trust, enforceable against the Trust in accordance with their terms (subject to the qualification that the enforceability of the Trust's obligations thereunder may be limited by bankruptcy, insolvency, reorganization, moratorium, and similar laws of general applicability relating to or affecting creditors' rights, and to general principles of equity regardless of whether enforceability is considered in a proceeding in equity or at law), except as rights to indemnity and contribution hereunder and thereunder may be limited by federal or state securities laws. (k) Except as disclosed in the Registration Statement and the Prospectus (or any amendment or supplement to either of them), subsequent to the respective dates as of which such information is given in the Registration Statement and the Prospectus (or any amendment or supplement to either of them), the Trust has not incurred any liability or obligation, direct or contingent, or entered into any transaction, not in the ordinary course of business, that is material to the Trust, and there has not been any change in the capitalization, or material increase in the short-term debt or long-term debt, of the Trust, or any material adverse change, or any development involving or which may reasonably be expected to involve, a prospective material adverse change, in the condition (financial or other), business, prospects, properties, net assets or results of operations of the Trust, whether or not arising in the ordinary course of business (a "Material Adverse Effect"). (l) The Trust has not distributed and, prior to the later to occur of (i) the Closing Date and (ii) completion of the distribution of the Shares, will not distribute any offering material in connection with the offering and sale of the Shares other than the Registration Statement, the Prepricing Prospectus, the Prospectus or other materials, if any, permitted by the 1933 Act, the 1940 Act or the Rules and Regulations. (m) (i) The Trust has such permits, licenses, franchises and authorizations of governmental or regulatory authorities ("permits") as are necessary to own its properties and to conduct its business in the manner described in the Prospectus (and any amendment or supplement thereto), subject to such qualifications as may be set forth in the Prospectus; (ii) the Trust has fulfilled and performed all its material obligations with respect to such permits and no event has occurred which allows, or after notice or lapse of time would allow, revocation or termination thereof or results in any other material impairment of the rights of the Trust under any such permit, subject in each case to such qualification as may be set forth in the Prospectus (and any amendment or supplement thereto); and (iii) except as described in the Prospectus (and any amendment or supplement thereto), none of such permits contains any restriction that is materially burdensome to the Trust, except where the failure of (i), (ii) or (iii) to be accurate would not, individually or in the aggregate, have a Material Adverse Effect on the Trust. 10 10 (n) The Trust maintains a system of internal accounting controls sufficient to provide reasonable assurances that (i) transactions are executed in accordance with management's general or specific authorization and with the applicable requirements of the 1940 Act, the 1940 Act Rules and Regulations and the Internal Revenue Code of 1986, as amended (the "Code"); (ii) transactions are recorded as necessary to permit preparation of financial statements in conformity with generally accepted accounting principles and to maintain accountability for assets and to maintain compliance with the books and records requirements under the 1940 Act and the 1940 Act Rules and Regulations; (iii) access to assets is permitted only in accordance with management's general or specific authorization; and (iv) the recorded accountability for assets is compared with existing assets at reasonable intervals and appropriate action is taken with respect to any differences. (o) The Trust has filed all tax returns required to be filed, which returns are complete and correct in all material respects, and the Trust is not in material default in the payment of any taxes which were payable pursuant to said returns or any assessments with respect thereto. (p) No holder of any security of the Trust has any right to require registration of shares of beneficial interest, shares of Municipal Preferred or any other security of the Trust because of the filing of the registration statement or consummation of the transactions contemplated by this Agreement. (q) The conduct by the Trust of its business (as described in the Prospectus) does not require it to be the owner, possessor or licensee of any patents, patent licenses, trademarks, service marks or trade names which it does not own, possess or license. (r) The Trust is registered under the 1940 Act as a closed-end non-diversified management investment company and the 1940 Act Notification has been duly filed with the Commission and, at the time of filing thereof and any amendment or supplement thereto, conformed in all material respects with all applicable provisions of the 1940 Act and the Rules and Regulations. The Trust is, and at all times through the completion of the transactions contemplated hereby, will be, in compliance in all material respects with the terms and conditions of the 1933 Act and the 1940 Act. No person is serving or acting as an officer, director or investment Advisor of the Trust except in accordance with the provisions of the 1940 Act and the 1940 Act Rules and Regulations and the Investment Advisers Act of 1940, as amended (the "Advisers Act"), and the rules and regulations of the Commission promulgated under the Advisers Act (the "Advisers Act Rules and Regulations"). (s) Except as stated in this Agreement and in the Prospectus (and any amendment or supplement thereto), the Trust has not taken, nor will it take, directly or indirectly, any action designed to or which might reasonably be expected to cause or result in stabilization or manipulation of the price of any securities issued by the Trust to facilitate the sale or resale of the Shares, and the Trust is not aware of any such action taken or to be taken by any affiliates of the Trust. 11 11 (t) The Trust has filed in a timely manner each document or report required to be filed by it pursuant to the 1934 Act and the rules and regulations of the Commission promulgated thereunder (the "1934 Act Rules and Regulations"); each such document or report at the time it was filed conformed to the requirements of the 1934 Act and the 1934 Act Rules and Regulations; and none of such documents or reports contained an untrue statement of any material fact or omitted to state any material fact required to be stated therein or necessary to make the statements therein not misleading. (u) All advertising, sales literature or other promotional material (including "prospectus wrappers," "broker kits," "road show slides" and "road show scripts") authorized in writing by or prepared by the Trust or the Advisor for use in connection with the offering and sale of the Shares (collectively "sales material") complied and comply in all material respects with the applicable requirements of the 1933 Act, the 1940 Act, the Rules and Regulations and the rules and interpretations of the NASD and no such sales material contained or contains an untrue statement of a material fact or omitted or omits to state a material fact required to be stated therein or necessary to make the statements therein, in light of the circumstances under which they were made, not misleading. (v) Each of the Trust Agreements and the Trust's and the Advisor's obligations under this Agreement and each of the Trust Agreements comply in all material respects with all applicable provisions of the 1940 Act, the 1940 Act Rules and Regulations, the Advisors Act and the Advisers Act Rules and Regulations. (w) The Trust currently complies with all requirements under the Code to qualify as a regulated investment company under Subchapter M of the Code. (x) Except as disclosed in the Registration Statement and the Prospectus (or any amendment or supplement to either of them), no director of the Trust is an "interested person" (as defined in the 1940 Act) of the Trust or an "affiliated person" (as defined in the 1940 Act) of the Underwriter. (y) The Trust's Common Shares are duly listed on the New York Stock Exchange. (z) The Trust has implemented a comprehensive, detailed program to analyze and address the risk that its computer hardware and software may be unable to recognize and properly execute date-sensitive functions involving certain dates prior to and any dates after December 31, 1999 (the "Year 2000 Problem") and has determined that its computer hardware and software are and will be able to process all date information prior to and after December 31, 1999 without any errors, aborts, delays or other interruptions in operations associated with the Year 2000 Problem; and the Trust believes, after reasonable inquiry, that each supplier, vendor, customer or financial service organization used by the Trust has remedied or will remedy on a timely basis the Year 2000 Problem, except to the extent that a failure to remedy by any such supplier, vendor, customer or financial service organization would not have a material adverse effect on the Trust. The Trust is in compliance with the Commission's staff legal bulletin No. 5 dated January 12, 1998 related to Year 2000 compliance, as amended to date. 12 12 7. Representations and Warranties of the Advisor. The Advisor represents and warrants to the Underwriter as follows: (a) The Advisor is a corporation duly incorporated and validly existing in good standing under the laws of the Commonwealth of Massachusetts, with full corporate power and authority to own, lease and operate its properties and to conduct its business as described in the Registration Statement and the Prospectus (and any amendment or supplement to either of them), and is duly registered and qualified to conduct its business and is in good standing in each jurisdiction or place where the nature of its properties or the conduct of its business requires such registration or qualification, except where the failure so to register or to qualify does not have a material adverse effect on the condition (financial or other), business, prospects, properties, net assets or results of operations of the Advisor or on the ability of the Advisor to perform its obligations under this Agreement and the Management Agreement. (b) The Advisor is duly registered with the Commission as an investment Advisor under the Advisers Act and is not prohibited by the Advisers Act, the Advisers Act Rules and Regulations, the 1940 Act or the 1940 Act Rules and Regulations from acting under the Management Agreement for the Trust as contemplated by the Prospectus (or any amendment or supplement thereto). There does not exist any proceeding or any facts or circumstances the existence of which could lead to any proceeding which might adversely affect the registration of the Advisor with the Commission. (c) There are no legal or governmental proceedings pending or, to the knowledge of the Advisor, threatened against the Advisor, or to which the Advisor or any of its properties is subject, that are required to be described in the Registration Statement or the Prospectus (or any amendment or supplement to either of them) but are not described as required or that may reasonably be expected to involve a prospective material adverse change, in the condition (financial or other), business, prospects, properties, net assets or results of operations of the Advisor or on the ability of the Advisor to perform its obligations under this Agreement and the Management Agreement. (d) Neither the execution, delivery or performance of this Agreement or the performance of the Management Agreement by the Advisor, nor the consummation by the Advisor of the transactions contemplated hereby or thereby (A) requires the Advisor to obtain any consent, approval, authorization or other order of or registration or filing with, the Commission, the NASD, any state securities commission, any national securities exchange, any arbitrator, any court, regulatory body, administrative agency or other governmental body, agency or official or conflicts or will conflict with or constitutes or will constitute a breach of or a default under, the certificate of incorporation or by-laws, or other organizational documents, of the Advisor or (B) conflicts or will conflict with or constitutes or will constitute a breach of or a default under, any agreement, indenture, lease or other instrument to which the Advisor is a party or by which it or any of its properties may be bound, or violates or will violate any statute, law, regulation or filing or judgment, injunction, order or decree applicable to the Advisor or any of its properties or will result in the creation or imposition of any lien, charge or encumbrance upon any property or assets of the Advisor pursuant to the terms of any agreement or instrument to which it is a party or by which it may be bound or to which any of the property or assets of the 13 Advisor is subject. The Advisor is not subject to any order of any court or of any arbitrator, governmental authority or administrative agency. (e) The execution and delivery of, and the performance by the Advisor of its obligations under, this Agreement and the Management Agreement have been duly and validly authorized by the Advisor, and this Agreement and the Management Agreement have been duly executed and delivered by the Advisor and each constitutes the valid and legally binding agreement of the Advisor, enforceable against the Advisor in accordance with its terms (subject to the qualification that the enforceability of the Advisor's obligations thereunder may be limited by bankruptcy, insolvency, reorganization, moratorium and similar laws of general applicability relating to or affecting creditors' rights, and to general principles of equity regardless of whether enforceability is considered in a proceeding in equity or at law), except as rights to indemnity and contribution hereunder may be limited by federal or state securities laws. (f) The description of the Advisor in the Registration Statement and the Prospectus (and any amendment or supplement thereto) complied and comply in all material respects with the provisions of the 1933 Act, the 1940 Act, the Advisers Act, the Rules and Regulations and the Advisers Act Rules and Regulations and did not and will not contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein, in light of the circumstances under which they were made, not misleading. (g) Except as disclosed in the Registration Statement and the Prospectus (or any amendment or supplement to either of them), subsequent to the respective dates as of which such information is given in the Registration Statement and the Prospectus (or any amendment or supplement to either of them), the Advisor has not incurred any liability or obligation, direct or contingent, or entered into any transaction, not in the ordinary course of business, that is material to the Advisor or the Trust and that is required to be disclosed in the Registration Statement or the Prospectus and there has not been any material adverse change, or any development involving or which may reasonably be expected to involve, a prospective material adverse change, in the condition (financial or other), business, prospects, properties, net assets or results of operations of the Advisor, whether or not arising in the ordinary course of business, or which, in each case, could have a material adverse effect on the ability of the Advisor to perform its obligations under this Agreement and the Management Agreement. (h) (i) The Advisor has such permits, licenses, franchises and authorizations of governmental or regulatory authorities ("permits") as are necessary to own its properties and to conduct its business in the manner described in the Prospectus (and any amendment thereto); (ii) the Advisor has fulfilled and performed all its material obligations with respect to such permits and no event has occurred which allows, or after notice or lapse of time would allow, revocation or termination thereof or results in any other material impairment of the rights of the Advisor under any such permit; and (iii) except as described in the Prospectus (and any amendment or supplement thereto), none of such permits contains any restriction that is materially burdensome to the Advisor, except where the failure of (i), (ii), or (iii) to be accurate would not, individually or in the aggregate, have a Material Adverse Effect on the Advisor. 14 14 8. Indemnification and Contribution. (a) The Trust and the Advisor, jointly and severally, agree to indemnify and hold harmless each of the Underwriter and each person, if any, who controls the Underwriter within the meaning of Section 15 of the 1933 Act or Section 20 of the 1934 Act from and against any and all losses, claims, damages, liabilities and expenses (including reasonable costs of investigation), joint or several, arising out of or based upon any untrue statement or alleged untrue statement of a material fact contained in any Prepricing Prospectus or in the Registration Statement or the Prospectus or in any amendment or supplement thereto, or arising out of or based upon any omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, except insofar as such losses, claims, damages, liabilities or expenses arise out of or are based upon any untrue statement or omission or alleged untrue statement or omission which has been made therein or omitted therefrom in reliance upon and in conformity with the information relating to the Underwriter furnished in writing to the Trust by or on behalf of the Underwriter expressly for use in connection therewith; provided, however, that the indemnification contained in this paragraph (a) with respect to any Prepricing Prospectus shall not inure to the benefit of the Underwriter (or to the benefit of any person controlling the Underwriter) on account of any such loss, claim, damage, liability or expense arising from the sale of the Shares by the Underwriter to any person if a copy of the Prospectus shall not have been delivered or sent to such person within the time required by the 1933 Act and the 1933 Act Rules and Regulations, and the untrue statement or alleged untrue statement or omission or alleged omission of a material fact contained in such Prepricing Prospectus was corrected in the Prospectus, provided that the Trust has delivered the Prospectus to the Underwriter in requisite quantity on a timely basis to permit such delivery or sending. The foregoing indemnity agreement shall be in addition to any liability which the Trust or the Advisor may otherwise have. (b) Any party that proposes to assert the right to be indemnified under this Section 8 will, promptly after receipt of notice of commencement of any action against such party in respect of which a claim is to be made against an indemnifying party or parties under this Section 8, notify each such indemnifying party of the commencement of such action, enclosing a copy of all papers served, but the omission to so notify such indemnifying party (i) will not relieve it from any liability that it may have to any indemnified party under the foregoing provision of this Section 8 unless, and only to the extent that, such omission results in the forfeiture of substantive rights or defenses by the indemnifying party and (ii) will not, in any event, relieve such indemnifying party from any other obligation (other than pursuant to the foregoing provision of this Section 8) it may have under this Agreement. If any action, suit or proceeding shall be brought against the Underwriter or any person controlling the Underwriter in respect of which indemnity may be sought against the Trust or the Advisor, the Underwriter or such controlling person shall promptly notify the Trust or the Advisor, and the Trust or the Advisor may, at its option and upon notice to the Underwriter assume the defense thereof, including the employment of counsel and payment of all fees and expenses. The Underwriter or any such controlling person shall have the right to employ separate counsel in any such action, suit or proceeding and to participate in the defense thereof, but the fees and expenses of such counsel shall be at the expense of the Underwriter or such controlling person unless (i) the Trust or the Advisor has agreed in writing to pay such fees and expenses, (ii) the Trust and the Advisor have failed to assume the defense and employ counsel, or (iii) the named parties to any such 15 15 action, suit or proceeding (including any impleaded parties) include both the Underwriter or such controlling person and the Trust or the Advisor and the Underwriter or such controlling person shall have been advised by its counsel that representation of such indemnified party and the Trust or the Advisor by the same counsel would be inappropriate under applicable standards of professional conduct (whether or not such representation by the same counsel has been proposed) due to actual or potential differing interests between them (in which case the Trust and the Advisor shall not have the right to assume the defense of such action, suit or proceeding on behalf of the Underwriter or such controlling person). It is understood, however, that the Trust and the Advisor shall, in connection with any one such action, suit or proceeding or separate but substantially similar or related actions, suits or proceedings in the same jurisdiction arising out of the same general allegations or circumstances, be liable for the reasonable fees and expenses of only one separate firm of attorneys (in addition to any local counsel) at any time for the Underwriter and controlling persons not having actual or potential differing interests with you or among themselves, which firm shall be designated in writing by the Underwriter, and that all such fees and expenses shall be reimbursed as they are incurred. The Trust and the Advisor shall not be liable for any settlement of any such action, suit or proceeding effected without its written consent (which shall not be unreasonably withheld), but if settled with such written consent, or if there be a final judgment for the plaintiff in any such action, suit or proceeding, the Trust and the Advisor agree to indemnify and hold harmless the Underwriter, to the extent provided in the preceding paragraph, and any such controlling person from and against any loss, claim, damage, liability or reasonable expense by reason of such settlement or judgment. (c) The Underwriter agrees to indemnify and hold harmless the Trust and the Advisor, their directors, trustees and officers who sign the Registration Statement, and any person who controls the Trust or the Advisor within the meaning of Section 15 of the 1933 Act or Section 20 of the 1934 Act, to the same extent as the foregoing indemnity from the Trust and the Advisor to the Underwriter, but only with respect to information relating to the Underwriter furnished in writing by or on behalf of the Underwriter expressly for use in the Registration Statement, the Prospectus or any Prepricing Prospectus, or any amendment or supplement thereto. If any action, suit or proceeding shall be brought against the Trust or the Advisor, any of their directors, any such officer, or any such controlling person based on the Registration Statement, the Prospectus or any Prepricing Prospectus, or any amendment or supplement thereto, and in respect of which indemnity may be sought against the Underwriter pursuant to this paragraph (c), the Underwriter shall have the rights and duties given to the Trust and the Advisor by paragraph (b) above (except that if the Trust or the Advisor shall have assumed the defense thereof the Underwriter shall not be required to do so, but may employ separate counsel therein and participate in the defense thereof, but the fees and expenses of such counsel shall be at the Underwriter's expense), and the Trust and the Advisor, their directors, trustees and any such officer, and any such controlling person shall have the rights and duties given to the Underwriter by paragraph (b) above. The foregoing indemnity agreement shall be in addition to any liability which the Underwriter may otherwise have. (d) If the indemnification provided for in this Section 8 is unavailable to an indemnified party under paragraphs (a) or (c) hereof in respect of any losses, claims, damages, liabilities or expenses referred to therein, then an indemnifying party, in lieu of indemnifying such indemnified party, shall contribute to the amount paid or payable by such indemnified party 16 16 as a result of such losses, claims, damages, liabilities or reasonable expenses (i) in such proportion as is appropriate to reflect the relative benefits received by the Trust and the Advisor on the one hand (treated jointly for this purpose as one person) and the Underwriter on the other hand from the offering of the Shares, or (ii) if the allocation provided by clause (i) above is not permitted by applicable law, in such proportion as is appropriate to reflect not only the relative benefits referred to in clause (i) above but also the relative fault of the Trust and the Advisor on the one hand (treated jointly for this purpose as one person) and the Underwriter on the other in connection with the statements or omissions that resulted in such losses, claims, damages, liabilities or expenses, as well as any other relevant equitable considerations with respect to the offering of the Shares. The relative benefits received by the Trust and the Advisor on the one hand (treated jointly for this purpose as one person) and the Underwriter on the other shall be deemed to be in the same proportion as the total net proceeds from the offering (before deducting expenses) received by the Trust bear to the total underwriting discounts and commissions received by the Underwriter, in each case as set forth in the table on the cover page of the Prospectus. The relative fault of the Trust and the Advisor on the one hand (treated jointly for this purpose as one person) and the Underwriter on the other hand shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or the omission or alleged omission to state a material fact relates to information supplied by the Trust and the Advisor on the one hand (treated jointly for this purpose as one person) or by the Underwriter on the other hand and the parties' relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. Any party entitled to contribution will, promptly after receipt of notice of commencement of any action against such party in respect of which a claim for contribution may be made under this Section 8(d), notify such party or parties from whom contribution may be sought, but the omission so to notify (i) will not relieve the party or parties from whom contribution may be sought from any other obligation it or they may have under this Section 8(d), unless such omission results in the forfeiture of substantive rights or defenses by the party or parties from whom contribution is being sought and (ii) will not, in any event, relieve the party or parties from whom contribution may be sought from any other obligation (other than pursuant to this Section 8(d)) it or they may have under this Agreement. Except for a settlement entered into pursuant to the last sentence of Section 8(b) hereof, no party will be liable for contribution with respect to any action or claim settled without its written consent (which consent shall not be unreasonably withheld). (e) The Trust, the Advisor and the Underwriter agree that it would not be just and equitable if contribution pursuant to this Section 8 were determined by a pro rata allocation or by any other method of allocation that does not take account of the equitable considerations referred to in paragraph (d) above. The amount paid or payable by an indemnified party as a result of the losses, claims, damages, liabilities and expenses referred to in paragraph (d) above shall be deemed to include, subject to the limitations set forth above, any legal or other expenses reasonably incurred by such indemnified party in connection with investigating any claim or defending any such action, suit or proceeding. Notwithstanding the provisions of this Section 8, the Underwriter shall not be required to contribute any amount in excess of the amount by which the total price of the Shares underwritten by it and distributed to the public exceeds the amount of any damages which the Underwriter has otherwise been required to pay by reason of such untrue or alleged untrue statement or omission or alleged omission. No person guilty of 17 17 fraudulent misrepresentation (within the meaning of Section 11(f) of the 1933 Act) shall be entitled to contribution from any person who was not guilty of such fraudulent misrepresentation. (f) No indemnifying party shall, without the prior written consent of the indemnified party, effect any settlement of any pending or threatened action, suit or proceeding in respect of which any indemnified party is or could have been a party and indemnity could have been sought hereunder by such indemnified party, unless such settlement includes an unconditional release of such indemnified party from all liability on claims that are the subject matter of such action, suit or proceeding. (g) Notwithstanding any other provisions in this Section 8, no party shall be entitled to the benefit of any provision under this Agreement which protects or purports to protect such person against any liability to the Trust or its security holders to which such person would otherwise be subject by reason of such person's willful misfeasance, bad faith, or gross negligence, in the performance of such person's duties hereunder, or by reason of such person's reckless disregard of such person's obligations and duties hereunder. (h) Any losses, claims, damages, liabilities or expenses for which an indemnified party is entitled to indemnification or contribution under this Section 8 shall be paid by the indemnifying party to the indemnified party as such losses, claims, damages, liabilities or expenses are incurred. The indemnity and contribution agreements contained in this Section 8 and the representations and warranties of the Trust and the Advisor set forth in this Agreement shall remain operative and in full force and effect, regardless of (i) any investigation made by or on behalf of the Underwriter or any person controlling the Underwriter, the Trust, the Advisor, their directors or officers, or any person controlling the Trust or the Advisor, (ii) acceptance of any Shares and payment therefor hereunder, and (iii) any termination of this Agreement. A successor to the Underwriter or any person controlling the Underwriter, or to the Trust, the Advisor, their directors or officers, or any person controlling the Trust or the Advisor, shall be entitled to the benefits of the indemnity, contribution, and reimbursement agreements contained in this Section 8. 9. Conditions of Underwriter's Obligations. The obligation of the Underwriter to purchase the Shares hereunder are subject to the following conditions: (a) If, at the time this Agreement is executed and delivered, it is necessary for the registration statement or a post-effective amendment thereto to be declared effective before the offering of the Shares may commence, the registration statement or such post-effective amendment shall have become effective not later than 5:30 P.M., New York City time, on the date hereof, or at such later date and time as shall be consented to in writing by the Underwriter, and all filings, if any, required by Rules 497 and 430A under the 1933 Act and the 1933 Act Rules and Regulations shall have been timely made; no stop order suspending the effectiveness of the Registration Statement or order pursuant to Section 8(e) of the 1940 Act shall have been issued and no proceeding for those purposes shall have been instituted or, to the knowledge of the Trust, the Advisor or the Underwriter, threatened by the Commission, and any request of the Commission for additional information (to be included in the Registration Statement or the Prospectus or otherwise) shall have been complied with to the Underwriter's reasonable satisfaction. (b) Subsequent to the effective date of this Agreement, there shall not have occurred (i) any change or any development involving a prospective change in or affecting the condition (financial or other), business, prospects, properties, net assets, or results of operations of the Trust or the Advisor not contemplated by the Prospectus, which in the Underwriter's reasonable opinion would materially and adversely affect the market for the Shares, or (ii) any 18 18 event or development relating to or involving the Trust or the Advisor or any officer or director of the Trust or the Advisor which makes any statement made in the Prospectus untrue or which, in the reasonable opinion of the Trust and its counsel or the Underwriter and its counsel, requires the making of any addition to or change in the Prospectus in order to state a material fact required by the 1933 Act, the 1940 Act or the Rules and Regulations or any other law to be stated therein or necessary in order to make the statements therein not misleading, if amending or supplementing the Prospectus to reflect such event or development would, in the Underwriter's opinion, materially adversely affect the market for the Shares. (c) The Trust shall have furnished to the Underwriter a report showing compliance with the asset coverage requirements of the 1940 Act and a Basic Maintenance Report (as defined in the By-laws), each dated the Closing Date and in form and substance satisfactory to you. Each such report may use portfolio holdings and valuations as of the close of business of any day not more than six business days preceding the Closing Date, provided, however, that the Trust represents in such report that its total net assets as of the Closing Date have not declined by 5% or more from such valuation date. (d) You shall have received on the Closing Date, an opinion of Ropes & Gray, counsel for the Trust, dated the Closing Date and addressed to you, as Underwriter, in form and substance satisfactory to you and to the effect set forth in Exhibit A hereto. (e) The Underwriter shall have received on the Closing Date an opinion of the General Counsel for the Advisor, dated the Closing Date and addressed to the Underwriter, in form and substance satisfactory to you and to the effect set forth in Exhibit B hereto. (f) The Underwriter shall have received on the Closing Date an opinion of Simpson Thacher & Bartlett, counsel for the Underwriter, dated the Closing Date and addressed to the Underwriter, with respect to such matters as the Underwriter may reasonably request. (g) The Underwriter shall have received letters addressed to the Underwriter and dated the date hereof and the Closing Date from PricewaterhouseCoopers LLP, independent certified public accountants, substantially in the forms heretofore approved by the Underwriter. (h) (i) No order suspending the effectiveness of the Registration Statement or prohibiting or suspending the use of the Prospectus (or any amendment or supplement thereto) or any Prepricing Prospectus or any sales material shall have been issued and no proceedings for such purpose or for the purpose of commencing an enforcement action against the Trust, the Advisor or, with respect to the transactions contemplated by the Prospectus (or any amendment or supplement thereto) and this Agreement, the Underwriter, may be pending before or, to the knowledge of the Trust, the Advisor or the Underwriter or in the reasonable view of counsel to the Underwriter, shall be threatened or contemplated by the Commission at or prior to the Closing Date and that any request for additional information on the part of the Commission (to be included in the Registration Statement, the Prospectus or otherwise) be complied with to the satisfaction of the Underwriter; (ii) there shall not have been any change in the shares of beneficial interest of the Trust nor any material increase in the short-term or long-term debt of the Trust (other than in the ordinary course of business) from that set forth or contemplated in the 19 19 Registration Statement or the Prospectus (or any amendment or supplement thereto); (iii) there shall not have been, subsequent to the respective dates as of which information is given in the Registration Statement and the Prospectus (or any amendment or supplement thereto), except as may otherwise be stated in the Registration Statement and Prospectus (or any amendment or supplement thereto), any material adverse change in the condition (financial or other), business, prospects, properties, net assets or results of operations of the Trust or the Advisor; (iv) the Trust shall not have any liabilities or obligations, direct or contingent (whether or not in the ordinary course of business), that are material to the Trust, other than those reflected in the Registration Statement or the Prospectus (or any amendment or supplement to either of them); and (v) all the representations and warranties of the Trust and the Advisor contained in this Agreement shall be true and correct on and as of the date hereof and on and as of the Closing Date as if made on and as of the Closing Date, and the Underwriter shall have received a certificate of the Trust and the Advisor, dated the Closing Date and signed by the chief executive officer and the chief financial officer of each of the Trust and the Advisor (or such other officers as are acceptable to the Underwriter), to the effect set forth in this Section 9(h) and in Section 9(i) hereof. (i) Neither the Trust nor the Advisor shall have failed at or prior to the Closing Date to have performed or complied in all material respects with any of its agreements herein contained and required to be performed or complied with by it hereunder at or prior to the Closing Date. (j) The Trust shall have delivered and the Underwriter shall have received evidence satisfactory to the Underwriter that the shares of Municipal Preferred are rated 'aaa' by Moody's and AAA by S&P as of the Closing Date, and there shall not have been given any notice of any intended or potential downgrading, or of any review for a potential downgrading, in the rating accorded to the shares of of Municipal Preferred by any Rating Agency. (k) The Trust and the Advisor shall have furnished or caused to be furnished to the Underwriter such further certificates and documents as the Underwriter shall have reasonably requested. All such opinions, certificates, letters and other documents will be in compliance with the provisions hereof only if they are reasonably satisfactory in form and substance to the Underwriter and the Underwriter's counsel. Any certificate or document signed by any officer of the Trust or the Advisor and delivered to the Underwriter, or to counsel for the Underwriter, shall be deemed a representation and warranty by the Trust or the Advisor to the Underwriter as to the statements made therein. 10. Expenses. The Trust agrees to pay the following costs and expenses and all other costs and expenses incident to the performance by it of its obligations hereunder: (i) the preparation, printing or reproduction, and filing with the Commission of the registration statement (including financial statements and exhibits thereto), each Prepricing Prospectus, the 1940 Act Notification, the Prospectus and each amendment or supplement to any of them (including, without limitation, the filing fees prescribed by the 1933 Act, the 1940 Act and the Rules and Regulations); (ii) the printing (or reproduction) and delivery (including postage, air 20 20 freight charges and charges for counting and packaging) of such copies of the Registration Statement, each Prepricing Prospectus, the Prospectus, any sales material and all amendments or supplements to any of them as may be reasonably requested for use in connection with the offering and sale of the Shares; (iii) the preparation, printing, authentication, issuance and delivery of certificates for the Shares, including any stamp taxes in connection with the original issuance and sale of the Shares; (iv) the reproduction and delivery of this Agreement, any dealer agreements, the preliminary blue sky memorandum, if any, and all other agreements or documents reproduced and delivered in connection with the offering of the Shares; (v) the registration of the Shares under the 1934 Act; (vi) the reasonable fees, expenses and disbursements of counsel for the Underwriter relating to the preparation, reproduction, and delivery of any preliminary blue sky memorandum; (vii) fees paid to the Rating Agencies; (viii) the transportation and other expenses incurred by or on behalf of Trust representatives in connection with presentations to prospective purchasers of the Shares; and (ix) the fees and expenses of the Trust's accountants and the fees and expenses of counsel (including local and special counsel) for the Trust; provided that (a) the Trust, the Advisor and the Underwriter shall pay its own costs and expenses in attending any information meeting relating to the Trust, (b) the Underwriter shall pay the costs and expenses of any sales material prepared by it in connection with the public offering of the Shares, (c) the Underwriter shall pay the costs and expenses of any "tombstone" advertisements, and (d) except as provided in this Section and in Section 5 hereof, the Underwriter shall pay its own costs and expenses, including the fees and expenses of their counsel. 11. Effective Date of Agreement. This Agreement shall become effective: (i) upon the execution and delivery hereof by the parties hereto; or (ii) if, at the time this Agreement is executed and delivered, it is necessary for the registration statement or a post-effective amendment thereto to be declared effective before the offering of the Shares may commence, when notification of the effectiveness of the registration statement or such post-effective amendment has been released by the Commission. Until such time as this Agreement shall have become effective, it may be terminated by the Trust, by notifying the Underwriter, or by the Underwriter, by notifying the Trust. Any notice under this Section 11 may be given by telegram, telecopy or telephone but shall be subsequently confirmed by letter. 12. Termination of Agreement. This Agreement shall be subject to termination in the Underwriter's absolute discretion, without liability on the part of the Underwriter to the Trust or the Advisor, by notice to the Trust, if prior to the Closing Date (i) trading in securities generally on the New York Stock Exchange shall have been suspended or materially limited, (ii) a general moratorium on commercial banking activities in New York shall have been declared by either federal or state authorities, or (iii) there shall have occurred any outbreak or escalation of hostilities or other international or domestic calamity, crisis or change in political, financial or economic conditions, the effect of which on the financial markets of the United States is to make it, in the Underwriter's judgment, impracticable or inadvisable to commence or continue the offering of the Shares at the offering price to the public set forth on the cover page of the Prospectus or to enforce contracts for the resale of the Shares by the Underwriter. Notice of such termination may be given to the Trust by telegram, telecopy or telephone and shall be subsequently confirmed by letter. 21 21 13. Information Furnished by the Underwriter. The statements set forth in the last paragraph on the cover page and the statements in the first and third sentences of the third paragraph and in the fifth paragraph under the caption "Underwriting" in any Prepricing Prospectus and in the Prospectus, constitute the only information furnished by or on behalf of the Underwriter as such information is referred to in Sections 6(b) and 8 hereof. 14. Miscellaneous. Except as otherwise provided in Sections 5, 11 and 12 hereof, notice given pursuant to any provision of this Agreement shall be in writing and shall be delivered (i) if to the Trust or the Advisor, at the office of the Trust at One Financial Center, Boston, MA 02111, Attention: Secretary; or (ii) if to the Underwriter, to Salomon Smith Barney Inc., 388 Greenwich Street, New York, New York 10013, Attention: Manager, Investment Banking Division. 15. Disclaimer. A copy of the document establishing the Trust is filed with the Secretary of the Commonwealth of Massachusetts. This Agreement is executed by officers not as individuals and is not binding upon any of the Trustees, officers, or shareholders of the Trust individually but only upon the assets of the Trust. This Agreement has been and is made solely for the benefit of the Underwriter, the Trust, the Advisor, their directors and officers, and the other controlling persons referred to in Section 8 hereof and their respective successors and assigns, to the extent provided herein, and no other person shall acquire or have any right under or by virtue of this Agreement. Neither the term "successor" nor the term "successors and assigns" as used in this Agreement shall include a purchaser from the Underwriter of any of the Shares in his status as such purchaser. 16. Applicable Law; Counterparts. This Agreement shall be governed by and construed in accordance with the laws of the State of New York. This Agreement may be signed in various counterparts which together constitute one and the same instrument. If signed in counterparts, this Agreement shall not become effective unless at least one counterpart hereof shall have been executed and delivered on behalf of each party hereto. [End of Text] 22 Please confirm that the foregoing correctly sets forth the agreement among the Trust, the Advisor and the Underwriter. Very truly yours, COLONIAL MUNICIPAL INCOME TRUST By:____________________________________ COLONIAL MANAGEMENT ASSOCIATES, INC. By:____________________________________ Confirmed as of the date first above mentioned. SALOMON SMITH BARNEY INC. By:______________________ Managing Director 23 SCHEDULE I COLONIAL MUNICIPAL INCOME TRUST
Number of Shares of Municipal Underwriter Preferred ----------- --------- Salomon Smith Barney Inc..................... 3,600 ----- ----- Total........................................ 3,600 -----
24 EXHIBIT A FORM OF OPINION OF ROPES & GRAY The Underwriter shall have received on the Closing Date an opinion of Ropes & Gray, counsel for the Trust, dated the Closing Date and addressed to the Underwriter, in form and substance satisfactory to the Underwriter and to the effect that: a. The Trust is a business trust duly organized and validly existing in good standing under the laws of the Commonwealth of Massachusetts with full power and authority to own, lease and operate its properties and to conduct its business as described in the Registration Statement and the Prospectus and to issue and sell the Shares as contemplated by the Underwriting Agreement; b. The Shares have been duly authorized and, when issued and delivered to the Underwriter against payment therefor in accordance with the terms of the Underwriting Agreement, will be validly issued, fully paid and nonassessable and free of any preemptive or similar rights and will conform to the description thereof in the Registration Statement and the Prospectus; the Certificate evidencing the Shares complies with all requirements of Massachusetts law; and the relative rights, interests, powers and preferences of the Shares, and the obligation of the Trust to redeem such Shares upon the terms and conditions set forth in the By-Laws, are legal, valid, binding and enforceable under Massachusetts law; c. The Shares conform in all material respects with the statements concerning them contained in the Prospectus, and the authorized and outstanding shares of beneficial interest of the Trust are as set forth in the Prospectus; d. The Registration Statement is effective under the 1933 Act and the 1940 Act; any required filing of the Prospectus pursuant to Rule 497 of the 1933 Act Rules and Regulations has been made within the time periods required by Rule 497(b) or (h), as the case may be; to the best knowledge of such counsel, no stop order suspending its effectiveness or order pursuant to Section 8(e) of the 1940 Act relating to the Trust has been issued and no proceeding for any such purpose is pending or threatened by the Commission; e. The Registration Statement and the Prospectus comply as to form in all material respects with the provisions of the 1933 Act, the 1940 Act and the Rules and Regulations (except that no opinion need be expressed as to the financial statements or other financial data contained therein); f. The statements made in the Prospectus (including the bStatement of Additional Information) under the captions "The Auction" and "Description of Municipal Preferred", insofar as they purport to summarize the provisions of the Bylaws or other documents or agreements specifically referred to therein, constitute accurate summaries of the terms of any such documents; 25 2 g. The statements made in the Prospectus (including the Statement of Additional Information) under the captions "Tax Matters", insofar as they constitute matters of law or legal conclusions, have been reviewed by such counsel and constitute accurate statements of any such matters of law or legal conclusions in all material respects, and fairly present the information called for with respect thereto by Form N-2 under the 1940 Act; h. To such counsel's knowledge (but without a search of the dockets of any court, administrative body or filing office in any jurisdiction), there are no legal or governmental proceedings pending or threatened against the Trust, or to which the Trust or any of its properties is subject, that are required to be described in the Registration Statement or the Prospectus but are not described as required; i. To the best of such counsel's knowledge after reasonable inquiry, there are no agreements, contracts, indentures, leases or other instruments that are required to be described in the Registration Statement or the Prospectus or to be filed as an exhibit to the Registration Statement that are not described or filed as required by the 1933 Act, the 1940 Act or the Rules and Regulations; j. Neither the issuance and sale of the Shares, the execution, delivery or performance of the Underwriting Agreement or any of the Trust Agreements by the Trust, nor the consummation by the Trust of the transactions contemplated thereby (A) requires any consent, approval, authorization or other order of or registration or filing by the Trust with, the Commission, the NASD, any national securities exchange, any arbitrator, any court, regulatory body, administrative agency or other governmental body, agency or official (except such as may have been obtained prior to the date hereof and such as may be required for compliance with state securities and blue sky laws) or conflicts or will conflict with or constitutes or will constitute a breach of, or a default under, the Declaration, the By-Laws or other organizational documents of the Trust or (B) (i) conflicts or will conflict with or constitutes or will constitute a breach of, or a default under, any agreement, indenture, lease or other instrument to which the Trust is a party or by which it or any of its properties may be bound and that is identified, in an officer's certificate of the Trust, as material to the business, financial condition, operations, properties or prospects of the Trust (the "Agreements and Instruments"), (ii) violates or will violate any statute, law or regulation (assuming compliance with state securities and blue sky laws), (iii) violates or will violate any judgment, injunction, order or decree that is applicable to the Trust or any of its properties and that is known to such counsel, or (iv) will result in the creation or imposition of any lien, charge or encumbrance upon any property or assets of the Trust pursuant to the terms of the Agreements and Instruments; k. The Underwriting Agreement and the Trust Agreements have been duly authorized, executed and delivered by the Trust and each complies with all applicable provisions of the 1940 Act; assuming due authorization, execution and delivery by the other parties 26 3 thereto, each Trust Agreement constitutes the valid and binding obligation of the Trust enforceable in accordance with its terms, except as rights to indemnity and contribution in the Underwriting Agreements and Trust Agreements may be limited by Federal or state securities laws, subject as to enforcement to bankruptcy, insolvency, reorganization and other laws of general applicability relating to or affecting creditors' rights and to general equity principles; l. The Trust is duly registered under the 1940 Act as a closed-end non-diversified management investment company; m. The provisions of the Declaration and By-Laws of the Trust and the investment policies and restrictions described in the Prospectus (including the Statement of Additional Information) under the captions "Investment Objectives and Policies" and "Miscellaneous Investment Practices" comply with the requirements of the 1940 Act and the 1940 Act Rules and Regulations; and Such counsel shall also have furnished to the Underwriter a statement, addressed to the Underwriter, dated the Closing Date, to the effect that such counsel has acted for the Trust in connection with the preparation of the Registration Statement, and based on the foregoing, while such counsel has not themselves independently verified the accuracy or completeness of or otherwise verified and is not passing upon and assumes no responsibility for the Registration Statement or the Prospectus (other than as set forth in (f), (g) and (m) above) in the course of their review of the Registration Statement and Prospectus and discussion of the contents of the Registration Statement and Prospectus with certain officers and employees of the Trust and its independent accountants, no facts have come to the attention of such counsel which would lead them to believe that the Registration Statement (excluding the financial statements, including the notes and schedules thereto, or other financial data contained or referred to therein, as to which such counsel need express no belief), as of its effective date, contained any untrue statement of a material fact or omitted to state any material fact required to be stated therein or necessary in order to make the statements therein not misleading or that the Prospectus (except for the financial statements, including the notes and schedules thereto, or other financial data contained or referred to therein, as to which such counsel need express no belief) contains any untrue statement of a material fact or omits to state any material fact required to be stated therein or necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading. Such counsel may also state that they do not express any opinion concerning any law other than the law of the Commonwealth of Massachusetts and the federal law of the United States. 27 EXHIBIT B FORM OF OPINION OF GENERAL COUNSEL OF ADVISER The Underwriter shall have received on the Closing Date an opinion of the General Counsel of the Advisor, addressed to the Underwriter and dated the Closing Date, in form and substance satisfactory to the Underwriter and to the effect that: a. The Adviser is a corporation duly incorporated and validly existing and in good standing under the laws of The Commonwealth of Massachusetts, with full corporate power and authority to own, lease and operate its properties and to conduct its business as described in the Registration Statement and the Prospectus; b. The Underwriting Agreement and the Management Agreement have been duly authorized, executed and delivered by the Advisor and each complies with all applicable provisions of the Advisers Act and the Management Agreement constitutes the valid and binding obligation of the Advisor enforceable in accordance with its terms, subject as to enforcement to bankruptcy, insolvency, reorganization and other laws of general applicability relating to or affecting creditors' rights and to general equity principles; c. The Adviser is duly registered with the Commission as an investment adviser under the Advisers Act and is not prohibited by the Advisers Act, the Advisers Act Rules and Regulations, the 1940 Act or the 1940 Act Rules and Regulations from acting under the Management Agreement for the Trust as contemplated by the Prospectus; d. To the best of such counsel's knowledge after reasonable inquiry, there are no legal or governmental proceedings pending or threatened against the Adviser, or to which the Adviser or any of its properties is subject, that are required to be described in the Registration Statement or the Prospectus but are not described as required; e. To the best of such counsel's knowledge after reasonable inquiry, the Adviser is not in violation of its corporate charter or by-laws, nor is the Adviser in default under any material agreement, indenture or instrument or in breach or violation of any judgment, decree, order, rule or regulation of any court or governmental or self-regulatory agency or body; f. Neither the execution, delivery or performance of the Underwriting Agreement nor the consummation by the Adviser of the transactions contemplated hereby or thereby (A) requires the Adviser to obtain any consent, approval, authorization or other order of or registration or filing with, the Commission, the NASD, any national securities exchange, any arbitrator, any court, regulatory body, administrative agency or other governmental body, agency or official (except such as may have been obtained prior to the date hereof and such as may be required for compliance with state securities or blue sky laws) or conflicts or will conflict with or constitutes or will constitute a breach of, or a default under, the certificate of incorporation or by-laws, or other organizational 28 2 documents, of the Adviser or (B) (i) conflicts or will conflict with or constitutes or will constitute a breach of, or a default under, any material agreement, indenture, lease or other instrument to which the Trust is a party or by which it or any of its properties may be bound (the "Agreements and Instruments") or any other Agreements and Instruments known to such counsel after due inquiry, (ii) violates or will violate any statute, law or regulation (assuming compliance with state securities and blue sky laws), (iii) violates or will violate any judgment, injunction, order or decree that is applicable to the Advisor or any of its properties and that is known to such counsel, or (iv) will result in the creation or imposition of any lien, charge or encumbrance upon any property or assets of the Advisor pursuant to the terms of the Agreements and Instruments; and g. The description of the Adviser in the Registration Statement and the Prospectus does not contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein, in light of the circumstances under which they were made, not misleading. EX-99.(K)(1) 5 FORM OF AUCTION AGENCY AGREEMENT 1 Exhibit (K)(1) COLONIAL AUCTION AGENCY AGREEMENT Basic Terms for Acting as Auction Agent July __, 1999 These basic terms ("Basic Terms") set forth the general terms and conditions pursuant to which a bank or trust company identified in a Request and Acceptance Letter will act as auction agent (an "Auction Agent") for Municipal Auction Rate Cumulative Preferred Shares ("Municipal Preferred") issued by an investment company registered under the Investment Company Act of 1940, as amended, as further identified by such Request and Acceptance Letter (a "Trust"), for which Colonial Management Associates, Inc. is the investment adviser. - -------------------------------------------------------------------------------- The Trust proposes to issue shares of Municipal Preferred pursuant to its Agreement, Declaration of Trust and Bylaws. The Trust desires that the Auction Agent perform certain duties in connection with the Municipal Preferred upon the terms and subject to the conditions of the Agreement. 1. Definitions and Rules of Construction. 1.1 Terms Defined By Reference to Bylaws. Capitalized terms not defined herein shall have the respective meanings specified in the Bylaws. 1.2 Terms Defined Herein. As used herein and in the Settlement Procedures, the following terms shall have the following meanings, unless the context otherwise requires: (a) "Agent Member" of any Person shall mean the member of, or participant in, the Securities Depository that will act on behalf of a Bidder. (b) "Agreement" shall mean the Basic Terms, together with the Request and Acceptance Letter relating to one or more series of Municipal Preferred. (c) "Auction" shall have the meaning specified in Section 2.1 hereof. (d) "Auction Procedures" shall mean the auction procedures constituting Part II of Section 12.1 of the Bylaws of any Trust as of the adoption thereof. (e) "Authorized Officer" of the Auction Agent shall mean each Senior Vice President, Vice President, Assistant Vice President and Associate 2 2 of the Auction Agent assigned to its Corporate Trust and Agency Group and every other officer or employee of the Auction Agent designated as an "Authorized Officer" for purposes hereof in a communication to the Trust. (f) "Broker-Dealer Agreement" shall mean each agreement among the Trust, the Auction Agent and a Broker-Dealer substantially in the form attached hereto as Exhibit A. (g) "By-Laws," with respect to any Trust, shall mean the By-Laws, as amended and restated, of such Trust, a copy of which will be attached to the Request and Acceptance Letter of such Trust. (h) "Declaration" means the Agreement and Declaration of Trust of any Trust, as the same may be amended, supplemented or modified. (i) "Municipal Preferred" shall mean the preferred shares, no par value, of any Trust designated as its "Municipal Auction Rate Cumulative Preferred Shares" and bearing such further designation as to series as the Board of Trustees of such Trust or any committee thereof shall specify, as set forth in the Request Letter. (j) "Request and Acceptance Letter" shall mean the letter from the Trust to the Auction Agent pursuant to which the Trust appoints the Auction Agent and the Auction Agent accepts its appointment as auction agent for the Municipal Preferred. (k) "Settlement Procedures" shall mean the Settlement Procedures attached hereto as Exhibit B. (l) "Trust Officer" shall mean the Chairman of the Board of Trustees, each Vice Chairman of the Board of Trustees (whether or not designated by a number or word or words added before or after the title "Vice Chairman"), the President, each Vice President (whether or not designated by a number or word or words added before or after the title "Vice President"), the Secretary, the Treasurer, each Assistant Vice President and each Associate of the Trust and every other officer or employee of the Trust designated as a "Trust Officer" for purposes hereof in a notice to the Auction Agent. 1.3 Rules of Construction. Unless the context or use indicates another or different meaning or intent, the following rules shall apply to the construction of the Agreement: (a) Words importing the singular number shall include the plural number and vice versa. 3 3 (b) The captions and headings herein are solely for convenience of reference and shall not constitute a part of the Agreement nor shall they affect its meaning, construction or effect. (c) The words "hereof", "herein", "hereto" and other words of similar import refer to the Agreement as a whole. (d) All references herein to a particular time of day shall be to New York City time. 2. The Auction. 2.1 Purpose; Incorporation by Reference of Auction Procedures and Settlement Procedures. (a) The Bylaws for each series of Municipal Preferred will provide that the Applicable Rate for such series for each Subsequent Rate Period thereof shall, except under certain conditions, be the rate per annum that a bank or trust company appointed by the Trust advises results from implementation of the Auction Procedures for such series. The Board of Directors or Board of Trustees, as the case may be, of the Trust has adopted a resolution appointing the Auction Agent as auction agent for purposes of the Auction Procedures for each series of Municipal Preferred. The Auction Agent accepts such appointment and agrees to follow the procedures set forth in this Section 2 and the Auction Procedures for the purpose of determining the Applicable Rate for each series of Municipal Preferred for each Subsequent Rate Period thereof for which the Applicable Rate is to be determined by an Auction. Each periodic implementation of such procedures is hereinafter referred to as an "Auction." (b) All of the provisions contained in the Auction Procedures and the Settlement Procedures are incorporated herein by reference in their entirety and shall be deemed to be a part hereof to the same extent as if such provisions were fully set forth herein. 2.2 Preparation for Each Auction; Maintenance of Registry of Beneficial Owners. (a) Not later than seven days prior to the first Auction Date for the first series of Municipal Preferred subject to an Auction, the Trust shall provide the Auction Agent with a list of the Broker-Dealers. Not later than seven days prior to any Auction Date for any series of Municipal Preferred for which any change in such list of Broker-Dealers is to be effective, the Trust will notify the Auction Agent in writing of such change and, if any such change involves the addition of a Broker-Dealer to such list, shall cause to be delivered to the Auction Agent for execution by the Auction Agent a Broker-Dealer Agreement signed by such Broker-Dealer; 4 4 provided, however, that if the Trust proposes to designate any Special Rate Period of any series of Municipal Preferred pursuant to Section 4 of Part I of Section 12.1 of the Bylaws, not later than 11:00 A.M., New York City time, on the Business Day next preceding the Auction next preceding the first day of such Rate Period or by such later time or date, or both, as may be agreed to by the Auction Agent, the Trust shall provide the Auction Agent with a list of the Broker-Dealers for such series and a manually signed copy of each Broker-Dealer Agreement or a new Schedule A to a Broker-Dealer Agreement (which Schedule A shall replace and supersede any previous Schedule A to such Broker-Dealer Agreement) with each Broker-Dealer for such series. The Auction Agent and the Trust shall have entered into a Broker-Dealer Agreement with each Broker-Dealer prior to the participation of any such Broker-Dealer in any Auction. (b) In the event that any Auction Date for any series of Municipal Preferred shall be changed after the Auction Agent shall have given the notice referred to in clause (vi) of paragraph (a) of the Settlement Procedures, or after the notice referred to in Section 2.5(a) hereof, if applicable, the Auction Agent, by such means as the Auction Agent deems practicable, shall give notice of such change to the Broker-Dealers for such series not later than the earlier of 9:15 A.M., New York City time, on the new Auction Date or 9:15 A.M., New York City time, on the old Auction Date. (c) (i) The Auction Agent shall maintain a registry of the beneficial owners of the shares of Municipal Preferred of each series who shall constitute Existing Holders of shares of Municipal Preferred of such series for purposes of Auctions and shall indicate thereon the identity of the respective Broker-Dealer of each Existing Holder, if any, on whose behalf such Broker-Dealer submitted the most recent Order in any Auction which resulted in such Existing Holder continuing to hold or purchasing shares of Municipal Preferred of such series. The Auction Agent shall keep such registry current and accurate. The Trust shall provide or cause to be provided to the Auction Agent at or prior to the Date of Original Issue of the shares of Municipal Preferred of each series a list of the initial Existing Holders of the shares of each such series of Municipal Preferred, the number of shares purchased by each such Existing Holder and the respective Broker-Dealer of each such Existing Holder or the affiliate thereof through which each such Existing Holder purchased such shares. The Auction Agent shall advise the Trust in writing whenever the number of Existing Holders is 500 or more. The Auction Agent may rely upon, as conclusive evidence of the identities of the Existing Holders of shares of Municipal Preferred of any series (A) such list, (B) the results of Auctions, (C) notices from any Broker-Dealer as described in the first sentence of Section 2.2(c)(iii) hereof and (D) the results of any procedures approved by the Trust that have been devised for the purpose of determining the identities of Existing Holders in situations where shares of Municipal Preferred may have been transferred without compliance with any restriction on the transfer thereof set forth in the Auction Procedures. 5 5 (ii) In the event of any partial redemption of any series of Municipal Preferred, the Auction Agent shall, at least two Business Days prior to the next Auction for such series, request each Broker-Dealer to provide the Auction Agent with a list of Persons who such Broker-Dealer believes should remain Existing Holders after such redemption based upon inquiries of those Persons such Broker-Dealer believes are Beneficial Owners as a result of the most recent Auction and with respect to each such Person, the number of shares of Municipal Preferred of such series such Broker-Dealer believes are owned by such Person after such redemption. In the absence of receiving any such information from any Broker-Dealer, the Auction Agent may continue to treat the Persons listed in its registry of Existing Holders as the beneficial owner of the number of shares of Municipal Preferred of such series shown in such registry. (iii) The Auction Agent shall be required to register a transfer of shares of Municipal Preferred of any series from an Existing Holder of such shares of Municipal Preferred only if such transfer is to another Existing Holder, or other Person if permitted by the Trust, and only if such transfer is made (A) pursuant to an Auction, (B) the Auction Agent has been notified in writing (I) in a notice substantially in the form of Exhibit C to the Broker-Dealer Agreements by a Broker-Dealer of such transfer or (II) in a notice substantially in the form of Exhibit D to the Broker-Dealer Agreements by the Broker-Dealer of any Existing Holder, or other Person if permitted by the Trust, that purchased or sold such shares of Municipal Preferred in an Auction of the failure of such shares of Municipal Preferred to be transferred as a result of such Auction or (C) pursuant to procedures approved by the Trust that have been devised for the purpose of determining the identities of Existing Holders in situations where shares of Municipal Preferred may have been transferred without compliance with any restriction on the transfer thereof set forth in the Auction Procedures. The Auction Agent is not required to accept any such notice for an Auction unless it is received by the Auction Agent by 3:00 P.M., New York City time, on the Business Day preceding such Auction. (d) The Auction Agent may request the Broker-Dealers, as set forth in the Broker-Dealer Agreements, to provide the Auction Agent with a list of Persons who such Broker-Dealer believes should be Existing Holders based upon inquiries of those Persons such Broker-Dealer believes are Beneficial Owners as a result of the most recent Auction and with respect to each such Person, the number of shares of such series of Municipal Preferred such Broker-Dealer believes to be owned by such Person. The Auction Agent shall keep confidential such registry of Existing Holders and shall not disclose the identities of the Existing Holders of such shares of Municipal Preferred to any Person other than the Trust and the Broker-Dealer that provided such information. 6 6 2.3 Information Concerning Rates. (a) The Rate Multiple on the date of the Agreement is set forth in the Request and Acceptance Letter. If there is any change in the credit rating of Municipal Preferred by either of the rating agencies (or substitute or successor rating agencies) referred to in the definition of "Rate Multiple" resulting in any change in the Rate Multiple for Municipal Preferred after the date of the Request and Acceptance Letter, the Trust shall notify the Auction Agent in writing of such change in the Rate Multiple prior to 12:00 Noon, New York City time, on the Business Day prior to the next Auction Date for any series of Municipal Preferred succeeding such change. If the Trust designates all or a portion of any dividend on shares of any series of Municipal Preferred to consist of net capital gains or other income taxable for Federal income tax purposes, it will indicate, in its notice in the form of Exhibit I hereto to the Auction Agent pursuant to Section 2.6 hereof, the Rate Multiple for such series to be in effect for the Auction Date on which the dividend rate for such dividend is to be fixed. In determining the Maximum Rate for any series of Municipal Preferred on any Auction Date as set forth in Section 2.3(b)(i) hereof, the Auction Agent shall be entitled to rely on the last Rate Multiple for Municipal Preferred of which it has most recently received notice from the Trust (or, in the absence of such notice, the percentage set forth in the Request and Acceptance Letter), except that if the Trust shall have notified the Auction Agent of a Rate Multiple to be in effect for an Auction Date in accordance with the preceding sentence, the Rate Multiple in effect for the next succeeding Auction Date of any series of Municipal Preferred shall be, unless the Trust notifies the Auction Agent of a change in the Rate Multiple for such succeeding Auction Date pursuant to this Section 2.3(a), the Rate Multiple that was in effect on the first preceding Auction Date for Municipal Preferred with respect to which the dividend, the rate for which was fixed on such Auction Date, did not include any net capital gains or other income taxable for Federal income tax purposes. (b) (i) On each Auction Date for any series of Municipal Preferred, the Auction Agent shall determine the Maximum Rate for such series. The Maximum Rate for any series of Municipal Preferred on any Auction Date shall be: (A) in the case of any Auction Date which is not the Auction Date immediately prior to the first day of any proposed Special Rate Period designated by the Trust pursuant to Section 4 of Part I of Section 12.1 of the Bylaws, the product of (1) the Reference Rate on such Auction Date for the next Rate Period of such series and (2) the Rate Multiple on such Auction Date, unless such series has or had a Special Rate Period (other than a Special Rate Period of 28 Rate Period Days or fewer) and an Auction at which Sufficient Clearing Bids existed has not yet occurred for a Minimum Rate Period of such series after such Special Rate Period, in which case the higher of: 7 7 (1) the dividend rate on shares of such series for the then-ending Rate Period; and (2) the product of (x) the higher of (I) the Reference Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period of such series, if such then ending Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period of such series, if such then ending Rate Period was more than 364 Rate Period Days, and (II) the Reference Rate on such Auction Date for a Rate Period equal in length to such Special Rate Period of such series, if such Special Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to such Special Rate Period, if such Special Rate Period was more than 364 Rate Period Days and (y) the Rate Multiple on such Auction Date; or (B) in the case of any Auction Date which is the Auction Date immediately prior to the first day of any proposed Special Rate Period designated by the Trust pursuant to Section 4 of Part I of Section 12.1 of the Bylaws, the product of (1) the highest of (x) the Reference Rate on such Auction Date for a Rate-Period equal in length to the then-ending Rate Period of such series, if such then-ending Rate Period was 364 Rate Period Days or fewer, or the Treasury Note Rate on such Auction Date for a Rate Period equal in length to the then-ending Rate Period of such Rate Period, if such then-ending Rate Period was more than 364 Rate Period Days, (y) the Reference Rate on such Auction Date for the Special Rate Period for which the Auction is being held if such Special Rate Period is 364 Rate Period Days or fewer or the Treasury Note Rate on such Auction Date for the Special Rate Period for which the Auction is being held if such Special Rate Period is more than 364 Rate Period Days, and (z) the Reference Rate on such Auction Date for Minimum Rate Periods and (2) the Rate Multiple on such Auction Date. Not later than 9:30 A.M. on each Auction Date the Auction Agent shall notify the Trust and the Broker-Dealers of the Maximum Rate so determined and the "AA" Composite Commercial Paper Rate(s), the Taxable Equivalent of the Short-Term Municipal Bond Rate(s), Treasury Note Rate(s) and Treasury Bill Rate(s), as the case may be, used to make such determination. (ii) From and after a Failure to Deposit by the Trust during any Rate Period of any series of Municipal Preferred, until such failure is cured and a Late Charge (as defined in paragraph (a) of Section 2.7), is paid, in accordance with subparagraph (e)(i) of Section 2 of Part I of Section 12.1 of the Bylaws, on the first day of each Rate Period of such series the Auction Agent shall determine the Treasury Note Rate for such Rate Period of more than 364 Rate Period Days and the Reference Rate for Rate Periods of 364 Rate Period Days or fewer. Not later 8 8 than 9:30 A.M. on each such first day, the Auction Agent shall notify the Trust of the applicable Reference Rate and Treasury Note Rate. (iii) If any "AA" Composite Commercial Paper Rate, Taxable Equivalent of the Short-Term Municipal Bond Rate, Treasury Note Rate or Treasury Bill Rate, as the case may be, is not quoted on an interest or bond equivalent, as the case may be, basis, the Auction Agent shall convert the quoted rate to the interest or bond equivalent thereof as set forth in the definition of such rate in the Bylaws if the rate obtained by the Auction Agent is quoted on a discount basis, or if such rate is quoted on a basis other than an interest or bond equivalent or discount basis the Auction Agent shall convert the quoted rate to an interest or bond equivalent rate after consultation with the Trust as to the method of such conversion. (iv) If any "AA" Composite Commercial Paper Rate is to be based on rates supplied by Commercial Paper Dealers and one or more of the Commercial Paper Dealers shall not provide a quotation for the determination of such "AA" Composite Commercial Paper Rate, the Auction Agent shall immediately notify the Trust so that the Trust can determine whether to select a Substitute Commercial Paper Dealer or Substitute Commercial Paper Dealers to provide the quotation or quotations not being supplied by any Commercial Paper Dealer or Commercial Paper Dealers. The Trust shall promptly advise the Auction Agent of any such selection. (v) If any Treasury Note Rate or Treasury Bill Rate is to be based on rates supplied by U.S. Government Securities Dealers and one or more of the U.S. Government Securities Dealers shall not provide a quotation for the determination of such Treasury Rate, the Auction Agent shall immediately notify the Trust so that the Trust can determine whether to select a Substitute U.S. Government Securities Dealer or Substitute U.S. Government Securities Dealers to provide the quotation or quotations not being supplied by any U.S. Government Securities Dealer or U.S. Government Securities Dealers. The Trust shall promptly advise the Auction Agent of any such selection. (c) The maximum marginal tax rate referred to in the definition of "Rate Multiple" in the Bylaws is referred to in this Agreement as the "Highest Marginal Rate." The Highest Marginal Rate on the date of the Agreement is set forth in the Request and Acceptance Letter. If there is any change in the Highest Marginal Rate, the Trust shall notify the Auction Agent in writing of such change prior to 12:00 Noon, New York City time, on the Business Day prior to the next Auction Date for Municipal Preferred succeeding such change. In determining the Maximum Rate for any series of Municipal Preferred on any Auction Date, the Auction Agent shall be entitled to rely on the Highest Marginal Rate of which it has most recently received notice from the Trust (or, in the absence of such notice, the percentage set forth in the Request and Acceptance Letter). 9 9 2.4 Auction Schedule. The Auction Agent shall conduct Auctions in accordance with the schedule set forth below. Such schedule may be changed by the Auction Agent with the consent of the Trust, which consent shall not be unreasonably withheld. The Auction Agent shall give written notice of any such change to each Broker-Dealer. Such notice shall be given prior to the close of business on the Business Day next preceding the first Auction Date on which any such change shall be effective. Time Event By 9:30 A.M. Auction Agent advises the Trust and Broker- Dealers of the applicable Maximum Rate and the Reference Rate(s) and Treasury Note Rate(s), as the case may be, used in determining such Maximum Rate as set forth in Section 2.3(b)(i) hereof. 9:30 A.M. - 1:30 P.M. Auction Agent assembles information communicated to it by Broker-Dealers as provided in Section 2(a) of the Auction Procedures. Submission Deadline is 1:30 P.M. Not earlier than 1:30 P.M. Auction Agent makes determinations pursuant to Section 3(a) of the Auction Procedures. By approximately 3:00 P.M. Auction Agent advises Trust of results of Auction as provided in Section 3(b) of the Auction Procedures. Submitted Bids and Submitted Sell Orders are accepted and rejected and shares of Municipal Preferred are allocated as provided in Section 4 of the Auction Procedures. The Auction Agent gives notice of the Auction results as set forth in paragraph (a) of the Settlement Procedures. The Auction Agent shall follow the notification procedures set forth in paragraph (a) of the Settlement Procedures. 2.5 Designation of Special Rate Period. (a) The Bylaws will provide that, subject to the Trust's option to designate a Special Rate Period as referred to in paragraph (b) of this Section 2.5, (i) each Rate Period of any series of Municipal Preferred will be a Minimum Rate 10 10 Period (a duration of seven days, subject to certain exceptions) and (ii) each Rate Period following a Rate Period of any series of Municipal Preferred that is other than a Minimum Rate Period will be a Minimum Rate Period. Not less than 10 nor more than 20 days prior to the last day of any such Rate Period that is not a Minimum Rate Period, (i) the Trust shall deliver to the Auction Agent a notice of the Auction Date of the next succeeding Auction for such series in the form of Exhibit C hereto and (ii) the Auction Agent shall deliver such notice by first-class mail, postage prepaid, to each Existing Holder of shares of such series at the address set forth for such Existing Holder in the records of the Auction Agent and to the Broker-Dealers for such series as promptly as practicable after its receipt of such notice from the Trust. (b) Pursuant to the Bylaws, the Trust may, at its option, designate a Special Rate Period for any series of Municipal Preferred in the manner described in Section 4 of Part I of Section 12.1 of the Bylaws. (i) If the Board of Trustees proposes to designate any succeeding Subsequent Rate Period of any series of Municipal Preferred as a Special Rate Period, (A) the Trust shall deliver to the Auction Agent a notice of such proposed Special Rate Period in the form of Exhibit D hereto not less than 20 (or such lesser number of days as may be agreed to from time to time by the Auction Agent) nor more than 30 days prior to the first day of such proposed Special Rate Period and (B) the Auction Agent on behalf of the Trust shall deliver such notice by first-class mail, postage prepaid, to each Existing Holder of shares of such series of Municipal Preferred at the address set forth for such Existing Holder in the records of the Auction Agent and to the Broker-Dealers for such series as promptly as practicable after its receipt of such notice from the Trust. (ii) If the Board of Trustees determines to designate such succeeding Subsequent Rate Period as a Special Rate Period, (A) the Trust shall deliver to the Auction Agent a notice of such determination in the form of Exhibit E hereto not later than 11:00 A.M., New York City time, on the second Business Day next preceding the first day of such proposed Special Rate Period (or such later time or date, or both, as may be agreed to by the Auction Agent) and (B) the Auction Agent shall deliver such notice to the Broker-Dealers for such series not later than 3:00 P.M., New York City time, on such second Business Day (or, if the Auction Agent has agreed to a later time or date, as promptly as practicable thereafter). (iii) If the Trust shall deliver to the Auction Agent a notice not later than 11:00 A.M., New York City time, on the second Business Day next preceding the first day of such proposed Special Rate Period (or such later time or date, or both, as may be agreed to by the Auction Agent) stating that the Trust has determined not to exercise its option to designate such succeeding Subsequent Rate Period as a Special Rate Period, in the form of Exhibit F hereto, or shall fail to timely deliver either such notice or a notice in the form of Exhibit E hereto, the 11 11 Auction Agent shall deliver a notice in the form of Exhibit F hereto to the Broker-Dealers for such series not later than 3:00 P.M., New York City time, on such second Business Day (or, if the Auction Agent has agreed to a later time or date, as promptly as practicable thereafter). Such change in the length of any Rate Period shall not occur if (1) an Auction for shares of such series shall not be held on such Auction Date for any reason or (2) an Auction for shares of such series shall be held on such Auction Date but Sufficient Clearing Bids for shares of such series shall not exist in such Auction. 2.6 Allocation of Taxable Income. The Trust shall, in the case of a Minimum Rate Period or a Special Rate Period of 28 Rate Period Days or fewer, and may, in the case of any other Special Rate Period, designate all or a portion of any dividend on shares of any series of Municipal Preferred to consist of net capital gains or other income taxable for Federal income tax purposes by delivering to the Auction Agent a notice in the form of Exhibit I hereto of such designation not later than the Dividend Payment Date for such series next preceding the Auction Date on which the dividend rate for such dividend is to be fixed. The Auction Agent will deliver such notice to the Broker-Dealers for such series on the Business Day following its receipt of such notice from the Trust. Within two Business Days after any Auction Date involving the allocation of income taxable for Federal income tax purposes, the Auction Agent shall notify each Broker-Dealer for the related series as to the dollar amount per share of such taxable income and income exempt from Federal income taxation included in the related dividend. 2.7 Failure to Deposit. (a) If: (i) any Failure to Deposit shall have occurred with respect to shares of Municipal Preferred during any Rate Period thereof (other than any Special Rate Period of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured), but, prior to 12:00 Noon, New York City time, on the third Business Day next succeeding the date on which such Failure to Deposit occurred, such Failure to Deposit shall have been cured in accordance with Section 2.7(c) hereof and the Trust shall have paid to the Auction Agent a late charge (a "Late Charge") equal to the sum of (1) if such Failure to Deposit consisted of the failure timely to pay to the Auction Agent the full amount of dividends with respect to any Dividend Period on such shares, an amount computed by multiplying (x) 200% of the Reference Rate for the Rate Period during which such Failure to Deposit occurs on the Dividend Payment Date for such Dividend Period by (y) a fraction, the numerator of which shall be the number of days for which such Failure to Deposit has not been cured in accordance with 12 12 Section 2.7(c) hereof (including the day such Failure to Deposit occurs and excluding the day such Failure to Deposit is cured) and the denominator of which shall be 360, and applying the rate obtained against the aggregate liquidation preference of the outstanding shares of Municipal Preferred and (2) if such Failure to Deposit consisted of the failure timely to pay to the Auction Agent the Redemption Price of the shares of Municipal Preferred, if any, for which Notice of Redemption has been given by the Trust, an amount computed by multiplying (x) 200% of the Reference Rate for the Rate Period during which such Failure to Deposit occurs on the redemption date by (y) a fraction, the numerator of which shall be the number of days for which such Failure to Deposit is not cured in accordance with Section 2.7(c) hereof (including the day such Failure to Deposit occurs and excluding the day such Failure to Deposit is cured) and the denominator of which shall be 360, and applying the rate obtained against the aggregate liquidation preference of the outstanding shares of Municipal Preferred to be redeemed, then the Auction Agent shall deliver a notice in the form of Exhibit G hereto by first-class mail, postage prepaid, to the Broker-Dealers for such series not later than one Business Day after its receipt of the payment from the Trust curing such Failure to Deposit and such Late Charge. (b) If: (i) any Failure to Deposit shall have occurred with respect to shares of Municipal Preferred during any Rate Period thereof (other than any Special Rate Period of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period of more than 364 Rate Period Days during which a Failure to Deposit occurred but has not been cured), and, prior to 12:00 Noon, New York City time, on the third Business Day next succeeding the date on which such Failure to Deposit occurred, such Failure to Deposit shall not have been cured in accordance with Section 2.7(c) hereof or the Trust shall not have paid the applicable Late Charge to the Auction Agent; or (ii) any Failure to Deposit shall have occurred with respect to shares of Municipal Preferred during a Special Rate Period thereof of more than 364 Rate Period Days, or during any Rate Period thereof succeeding any Special Rate Period of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured, and, prior to 12:00 Noon, New York City time, on the fourth Business Day preceding the Auction Date for the Rate Period subsequent to such Rate Period, such Failure to Deposit shall not have been cured in accordance with Section 2.7(c) hereof or the Trust shall not have paid the applicable Late Charge to the Auction Agent in accordance with Section 2(e)(i)(D) of Section 12.1 of the Bylaws (such Late Charge, for purposes of this clause (b)(ii) of this Section 2.7, to be calculated by using, as the Reference Rate, the Reference Rate applicable to a Rate Period (x) consisting of more than 182 Rate Period Days and 13 13 (y) commencing on the date on which the Rate Period during which Failure to Deposit occurs commenced); then the Auction Agent shall deliver a notice in the form of Exhibit H hereto to the Broker-Dealers for such series not later than one Business Day after the receipt of the payment from the Trust curing such Failure to Deposit and such Late Charge. (c) A Failure to Deposit with respect to shares of Municipal Preferred shall have been cured (if such Failure to Deposit is not solely due to the willful failure to the Trust to make the required payment to the Auction Agent) with respect to any Rate Period if, within the respective time periods described immediately above, the Trust shall have paid to the Auction Agent (i) all accumulated and unpaid dividends on the shares of Municipal Preferred and (ii) without duplication, the Redemption Price for the shares of Municipal Preferred, if any, for which Notice of Redemption has been mailed; provided, however, that the foregoing clause (ii) shall not apply to the Trust's failure to pay the Redemption Price in respect of shares of Municipal Preferred when the related Notice of Redemption provides that redemption of such shares is subject to one or more conditions precedent and each such condition precedent shall not have been satisfied at the time or times and in the manner specified in such Notice of Redemption. 2.8 Broker-Dealers. (a) Not later than 12:00 Noon, New York City time, on each Auction Date for any series of Municipal Preferred, the Trust shall pay to the Auction Agent an amount in cash equal to the aggregate fees payable to the Broker-Dealers for such series pursuant to Section 2.8 of the Broker-Dealer Agreements for such series. The Auction Agent shall apply such moneys as set forth in Section 2.8 of each such Broker-Dealer Agreement. (b) The Trust shall obtain the consent of the Auction Agent prior to selecting any Person to act as a Broker-Dealer, which consent shall not be unreasonably withheld. (c) The Auction Agent shall terminate any Broker-Dealer Agreement as set forth therein if so directed by the Trust, provided that at least one Broker-Dealer Agreement would be in effect for each series of Municipal Preferred after such termination. (d) Subject to the Auction Agent's having consented to the selection of the relevant Broker-Dealer pursuant to Section 2.8(b) hereof, the Auction Agent shall from time to time enter into such Broker-Dealer Agreements with one or more Broker-Dealers as the Trust shall request, and shall enter into such schedules to any such Broker-Dealer Agreements as the Trust shall request, which schedules, among 14 14 other things, shall set forth the series of Municipal Preferred to which such Broker-Dealer Agreement relates. 2.9 Ownership of Shares of Municipal Preferred. The Trust shall notify the Auction Agent if the Trust or any affiliate of the Trust acquires any shares of Municipal Preferred of any series. Neither the Trust nor any affiliate of the Trust shall submit any Order in any Auction for Municipal Preferred, except as set forth in the next sentence. Any Broker-Dealer that is an affiliate of the Trust may submit Orders in Auctions, but only if such Orders are not for its own account. For purposes of this Section 2.9, a Broker-Dealer shall not be deemed to be an affiliate of the Trust solely because one or more of the directors or executive officers of such Broker-Dealer or of any Person controlled by, in control of or under common control with such Broker-Dealer is also a director of the Trust. The Auction Agent shall have no duty or liability with respect to enforcement of this Section 2.9. 2.10 Access to and Maintenance of Auction Records. The Auction Agent shall, upon the receipt of prior written notice from the Trust, afford to the Trust access at reasonable times during normal business hours to all books, records, documents and other information concerning the conduct and results of Auctions. The Auction Agent shall maintain records relating to any Auction for a period of six years after such Auction, and such records shall, in reasonable detail, accurately and fairly reflect the actions taken by the Auction Agent hereunder. 3. The Auction Agent as Dividend and Redemption Price Disbursing Agent. The Auction Agent, as dividend and redemption price disbursing agent, shall pay to the Holders of shares of Municipal Preferred of any series (i) on each Dividend Payment Date for such series, dividends on the shares of Municipal Preferred of such series, (ii) on any date fixed for redemption of shares of Municipal Preferred of any series, the Redemption Price of any shares of such series called for redemption and (iii) any Late Charge related to any payment of dividends or Redemption Price, in each case after receipt of the necessary Trusts from the Trust with which to pay such dividends, Redemption Price or Late Charge. The amount of dividends for any Rate Period for any series of Municipal Preferred to be paid by the Auction Agent to the Holders of such shares of such series will be determined by the Trust as set forth in Section 2 of Part I of Section 12.1 of the Bylaws with respect to such series. The Redemption Price of any shares to be paid by the Auction Agent to the Holders will be determined by the Trust as set forth in Section 11 of Part I of Section 12.1 of the Bylaws with respect to such series. The Trust shall notify the Auction Agent in writing of a decision to redeem shares of any series of Municipal Preferred at least five days prior to the date a Notice of Redemption is required to be mailed to the Holders of the shares to be redeemed by paragraph (c) of Section 11 of Part I of Section 12.1 of the 15 15 Bylaws. Such notice by the Trust to the Auction Agent shall contain the information required by paragraph (c) of Section 11 of Part I of Section 12.1 of the Bylaws to be stated in the Notice of Redemption required to be mailed by the Trust to such Holders. 4. The Auction Agent as Transfer Agent and Registrar. 4.1 Issue of Stock or Shares Certificates. Upon the Date of Original Issue of each series of Municipal Preferred, one or more certificates representing all of the shares of such series issued on such date shall be issued by the Trust and, at the request of the Trust, registered in the name of Cede & Co. and countersigned by the Auction Agent. 4.2 Registration of Transfer of Shares. Shares of each series of Municipal Preferred shall be registered solely in the name of the Securities Depository or its nominee. 4.3 Removal of Legend on Restricted Shares. All requests for removal of legends on shares of Municipal Preferred of any series indicating restrictions on transfer shall be accompanied by an opinion of counsel stating that such legends may be removed and such shares freely transferred, such opinion to be delivered under cover of a letter from a Trust Officer authorizing the Auction Agent to remove the legend on the basis of said opinion. 4.4 Lost Stock or Share Certificates. The Auction Agent shall issue and register replacement certificates for certificates represented to have been lost, stolen or destroyed upon the fulfillment of such requirements as shall be deemed appropriate by the Trust and the Auction Agent, subject at all times to provisions of law, the Bylaws of the Trust governing such matters and resolutions adopted by the Trust with respect to lost securities. The Auction Agent may issue new certificates in exchange for and upon the cancellation of mutilated certificates. Any request by the Trust to the Auction Agent to issue a replacement or new certificate pursuant to this Section 4.4 shall be deemed to be a representation and warranty by the Trust to the Auction Agent that such issuance will comply with such provisions of law and the Bylaws and resolutions of the Trust. 16 16 4.5 Disposition of Cancelled Certificates; Record Retention. The Auction Agent shall retain all stock or share certificates which have been cancelled in transfer or exchange and all accompanying documentation in accordance with applicable rules and regulations of the Securities and Exchange Commission for two calendar years. Upon the expiration of this two-year period, the Auction Agent shall deliver to the Trust the cancelled certificates and accompanying documentation. The Trust shall also undertake to furnish to the Securities and Exchange Commission and to the Board of Governors of the Federal Reserve System, upon demand, at either the principal office or at any regional office, complete, correct and current hard copies of any and all such records. Thereafter such records shall not be destroyed by the Trust without the concurrence of the Auction Agent. 4.6 Stock or Record Books. For so long as the Auction Agent is acting as the transfer agent for any series of Municipal Preferred pursuant to the Agreement, it shall maintain a stock or record book containing a list of the Holders of the shares of Municipal Preferred of each such series. In case of any request or demand for the inspection of the stock or record books of the Trust or any other books in the possession of the Auction Agent, the Auction Agent will notify the Trust and secure instructions as to permitting or refusing such inspection. The Auction Agent reserves the right, however, to exhibit the stock or record books or other books to any Person in case it is advised by its counsel that its failure to do so would be unlawful. 4.7 Return of Funds. Any funds deposited with the Auction Agent hereunder by the Trust for any reason, including but not limited to redemption of shares of Municipal Preferred of any series, that remain unpaid after ninety days shall be repaid to the Trust upon the written request of the Trust, together with interest, if any, earned thereon. 5. Representations and Warranties of the Trust. The Trust represents and warrants to the Auction Agent that: (a) the Trust is a duly organized and existing business trust in good standing under the laws of the State of its incorporation or organization and has full corporate power or all requisite power to execute and deliver the Agreement and to authorize, create and issue the shares of Municipal Preferred of each series, and the shares of Municipal Preferred of each series when issued, will be duly authorized, validly issued, fully paid and nonassessable; (b) the Agreement has been duly and validly authorized, executed and delivered by the Trust and constitutes the legal, valid and binding obligation of the Trust; 17 17 (c) the form of the certificate evidencing the shares of Municipal Preferred of each series complies or will comply with all applicable laws of the State of its incorporation or organization; (d) when issued, the shares of Municipal Preferred of each series will have been duly registered under the Securities Act of 1933, as amended, and no further action by or before any governmental body or authority of the United States or of any state thereof is required in connection with the execution and delivery of the Agreement or will have been required in connection with the issuance of the shares of Municipal Preferred of each series; (e) the execution and delivery of the Agreement and the issuance and delivery of the shares of Municipal Preferred of each series do not and will not conflict with, violate or result in a breach of the terms, conditions or provisions of, or constitute a default under, the Agreement and Declaration of Trust (as amended to date) or the Bylaws of the Trust, any law or regulation, any order or decree of any court or public authority having jurisdiction, or any mortgage, indenture, contract, agreement or undertaking to which the Trust is a party or by which it is bound the effect of which conflict, violation, default or breach would be material to the Trust or the Trust and its subsidiaries taken as a whole; and (f) no taxes are payable upon or in respect of the execution of the Agreement or the issuance of the shares of Municipal Preferred of any series. 6. The Auction Agent. 6.1 Duties and Responsibilities. (a) The Auction Agent is acting solely as agent for the Trust hereunder and owes no fiduciary duties to any Person, other than the Trust, by reason of the Agreement. (b) The Auction Agent undertakes to perform such duties and only such duties as are specifically set forth in the Agreement, and no implied covenants or obligations shall be read into the Agreement against the Auction Agent. (c) In the absence of bad faith or negligence on its part, the Auction Agent shall not be liable for any action taken, suffered, or omitted or for any error of judgment made by it in the performance of its duties under the Agreement. The Auction Agent shall not be liable for any error of judgment made in good faith unless the Auction Agent shall have been negligent in ascertaining the pertinent facts. 18 18 6.2 Rights of the Auction Agent. (a) The Auction Agent may rely and shall be protected in acting or refraining from acting upon any communication authorized hereby and upon any written instruction, notice, request, direction, consent, report, certificate, share certificate or other instrument, paper or document believed in good faith by it to be genuine. The Auction Agent shall not be liable for acting upon any telephone communication authorized hereby which the Auction Agent believes in good faith to have been given by the Trust or by a Broker-Dealer. The Auction Agent may record telephone communications with the Trust or with the Broker-Dealers or both. (b) The Auction Agent may consult with counsel of its choice and the advice of such counsel shall be full and complete authorization and protection in respect of any action taken, suffered or omitted by it hereunder in good faith and in reliance thereon. (c) The Auction Agent shall not be required to advance, expend or risk its own funds or otherwise incur or become exposed to financial liability in the performance of its duties hereunder. (d) The Auction Agent may perform its duties and exercise its rights hereunder either directly or by or through agents or attorneys and shall not be responsible for any misconduct or negligence on the part of any agent or attorney appointed by it with due care hereunder. 6.3 Auction Agent's Disclaimer. The Auction Agent makes no representation as to the validity or adequacy of the Agreement, the Broker-Dealer Agreements or the shares of Municipal Preferred of any series except that the Auction Agent hereby represents that the Agreement has been duly authorized, executed and delivered by the Auction Agent and constitutes a legal and binding obligation of the Auction Agent. 6.4 Compensation, Expenses and Indemnification. (a) The Trust shall pay the Auction Agent from time to time reasonable compensation for all services rendered by it under the Agreement and the Broker-Dealer Agreements. (b) The Trust shall reimburse the Auction Agent upon its request for all reasonable out-of-pocket expenses, disbursements and advances incurred or made by the Auction Agent in accordance with any provision of the Agreement and the Broker-Dealer Agreements (including the reasonable compensation and the 19 19 expenses and disbursements of its agents and counsel), except any expense or disbursement attributable to its negligence or bad faith. (c) The Trust shall indemnify the Auction Agent for and hold it harmless against any loss, liability or expense incurred without negligence or bad faith on its part, arising out of or in connection with its agency under the Agreement and the Broker-Dealer Agreements, including the costs and expenses of defending itself against any such claim or liability in connection with its exercise or performance of any of its duties hereunder and thereunder. 7. Miscellaneous. 7.1 Term of Agreement. (a) The term of the Agreement is unlimited unless it shall be terminated as provided in this Section 7.1. The Trust may terminate the Agreement at any time by so notifying the Auction Agent, provided that the Trust has entered into an agreement in substantially the form of the Agreement with a successor Auction Agent. The Auction Agent may terminate the Agreement upon written notice to the Trust on the date specified in such notice, which date shall be no earlier than 45 days after the date of delivery of such notice. (b) Except as otherwise provided in this paragraph (b), the respective rights and duties of the Trust and the Auction Agent under the Agreement with respect to any series of Municipal Preferred shall cease upon termination of the Agreement with respect to such series. The Trust's representations, warranties, covenants and obligations to the Auction Agent under Sections 5 and 6.4 hereof shall survive the termination of the Agreement with respect to any series of Municipal Preferred. Upon termination of the Agreement with respect to any series of Municipal Preferred, the Auction Agent shall, at the Trust's request, promptly deliver to the Trust copies of all books and records maintained by it with respect to Municipal Preferred in connection with its duties hereunder. 7.2 Communications. Except for (i) communications authorized to be by telephone pursuant to the Agreement or the Auction Procedures and (ii) communications in connection with Auctions (other than those expressly required to be in writing), all notices, requests and other communications to any party hereunder shall be in writing (including telecopy or similar writing) and shall be given to such party, addressed to it, at its address or telecopy number set forth below: If to the Trust, [Name of Trust] One Financial Center 20 20 Boston, MA 02111 Attention: Telecopier No.: (617) 345-0919 Telephone No.: (617) 426-3750 If to the Auction Agent, to the address or telecopy number set forth in the Request and Acceptance Letter, or such other address or telecopy number as such party may hereafter specify for such purpose by notice to the other party. Each such notice, request or communication shall be effective when delivered at the address specified herein. Communications shall be given on behalf of the Trust by a Trust Officer and on behalf of the Auction Agent by telephone (confirmed by telecopy or in writing) by an Authorized Officer. 7.3 Entire Agreement. The Agreement contains the entire agreement between the parties relating to, and superseding any prior agreement between the parties relating to, the subject matter hereof, and there are no other representations, endorsements, promises, agreements or understandings, oral, written or implied, between the parties relating to the subject matter hereof except for agreements relating to the compensation of the Auction Agent. 7.4 Benefits. Nothing herein, express or implied, shall give to any Person, other than the Trust, the Auction Agent and their respective successors and assigns, any benefit of any legal or equitable right, remedy or claim hereunder. 7.5 Amendment; Waiver. (a) The Agreement shall not be deemed or construed to be modified, amended, rescinded, cancelled or waived, in whole or in part, except by a written instrument signed by a duly authorized representative of the party to be charged. (b) Failure of either party hereto to exercise any right or remedy hereunder in the event of a breach hereof by the other party shall not constitute a waiver of any such right or remedy with respect to any subsequent breach. 7.6 Successors and Assigns. The Agreement shall be binding upon, inure to the benefit of, and be enforceable by, the respective successors and assigns of each of the Trust and the Auction Agent. 21 21 7.7 Severability. If any clause, provision or section hereof shall be ruled invalid or unenforceable by any court of competent jurisdiction, the invalidity or unenforceability of such clause, provision or section shall not affect any of the remaining clauses, provisions or sections hereof. 7.8 Governing Law. The Agreement shall be governed by and construed in accordance with the laws of the State of New York. If the Trust is a Massachusetts business trust, the following provision is deemed to be included in the Basic Terms: 7.9 Declaration of Trust. The Trust's Agreement and Declaration of Trust (as amended) is on file with the Secretary of the Commonwealth of Massachusetts. This Agreement has been executed on behalf of the Trust by the Vice President and Treasurer of the Trust acting in such capacity and not individually, and the obligations of the Trust set forth in this Agreement are not binding upon any of the Trust's trustees, officers or shareholders individually, but are binding only upon the assets and property of the Trust. 22 EXHIBIT A FORM OF BROKER-DEALER AGREEMENT 23 EXHIBIT B SETTLEMENT PROCEDURES 24 EXHIBIT C [NAME OF TRUST] NOTICE OF AUCTION DATE FOR MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARES ("Municipal Preferred") NOTICE IS HEREBY GIVEN that the Auction Date of the next Auction for Series __ of the Trust's Municipal Preferred is scheduled to be ____________, 19__ and the next Dividend Payment Date for Series __ of the Trust's Municipal Preferred will be _____________, 19__. [A Failure to Deposit in respect of the Series __ Municipal Preferred currently exists. If, prior to 12:00 noon, New York City time, on the fourth Business Day preceding the next scheduled Auction Date of the Series __ Municipal Preferred, such Failure to Deposit is not cured or the applicable Late Charge is not paid, the next Auction will not be held. Notice of the next Auction for the Series __ Municipal Preferred will be delivered when such Failure to Deposit is cured and the applicable Late Charge is paid.(1)] [NAME OF TRUST] - -------- (1) Include this language if a Failure to Deposit exists. 25 EXHIBIT D [NAME OF TRUST] NOTICE OF PROPOSED CHANGE OF LENGTH OF RATE PERIOD OF MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED STOCK [SHARES] ("Municipal Preferred") [Name of Trust] (the "Trust") may exercise its option to designate the Rate Period of its Series __ Municipal Preferred commencing [the first day of the Special Rate Period] as a Special Rate Period. By 11:00 A.M., New York City time, on the second Business Day preceding the first day of such proposed Special Rate Period, the Trust will notify of either (a) its determination to exercise such option, designating the length of such Special Rate Period for such series or (b) its determination not to exercise such option. [NAME OF TRUST] Dated: _____ , 19__ 26 EXHIBIT E [NAME OF TRUST] NOTICE OF CHANGE OF LENGTH OF RATE PERIOD MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARES ("Municipal Preferred") NOTICE IS HEREBY GIVEN that [NAME OF TRUST] (the "Trust") has determined to designate the Rate Period of its Series __ Municipal Preferred commencing on [the first day of the Special Rate Period] as a Special Rate Period. The Special Rate Period will be __________ [Rate Period Days]. The Auction Date for the Special Rate Period is [the Business Day next preceding the first day of such Special Rate Period]. As a result of the Special Rate Period designation, the amount of dividends payable on Series __ Municipal Preferred during the Special Rate Period will be based on a 360-day year. The Special Rate Period shall not commence if (a) an Auction for shares of Municipal Preferred shall not be held on such Auction Date for any reason or (b) an Auction for shares of Municipal Preferred shall be held on such Auction Date but Sufficient Clearing Bids for such shares shall not exist in such Auction. The scheduled Dividend Payment Dates for such series of Municipal Preferred during such Special Rate Period will be ____________ . [Special Redemption Provisions, if any] Attached hereto is a Municipal Preferred Basic Maintenance Report showing that, as of the third Business Day next preceding such proposed Special Rate Period, Moody's Eligible Assets (if Moody's is rating such shares of Municipal Preferred) and S&P Eligible Assets (if S&P is rating such shares of Municipal Preferred) each have an aggregate Discounted Value at least equal to the Municipal Preferred Basic Maintenance Amount as of such Business Day (assuming for purposes of the foregoing calculation that (i) the Maximum Rate is the Maximum Rate on such Business Day as if such Business Day were the Auction Date for the proposed Special Rate Period, and (ii) the Moody's Discount 27 2 Factors applicable to Moody's Eligible Assets are determined by reference to the first Moody's Exposure Period longer than the Moody's Exposure Period then applicable to the Trust.) [NAME OF TRUST] Dated: ______ , 19__ 28 EXHIBIT F [NAME OF TRUST] NOTICE OF DETERMINATION NOT TO CHANGE LENGTH OF RATE PERIOD OF MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARES ("Municipal Preferred") NOTICE IS HEREBY GIVEN that [NAME OF TRUST] (the "Trust") has determined not to exercise its option to designate a Special Rate Period of its Series __ Municipal Preferred and the next succeeding Rate Period of such series will be a Minimum Rate Period of ___ Rate Period Days. [NAME OF TRUST] Dated: ______ , 19__ 29 EXHIBIT G [NAME OF TRUST] NOTICE OF CURE OF FAILURE TO DEPOSIT ON MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARES ("Municipal Preferred") NOTICE IS HEREBY GIVEN that [NAME OF TRUST] (the "Trust") has cured its Failure to Deposit and paid the applicable Late Charge with respect to its Series __ Municipal Preferred. The dividend rate on the shares of Series __ Municipal Preferred for the current Dividend Period is % per annum, the Dividend Payment Date for the current Dividend Period is scheduled to be_________, 19__ and the next Auction Date is scheduled to be __________, 19__. [NAME OF TRUST] Dated: _______ , 19__ 30 EXHIBIT H [NAME OF TRUST] NOTICE OF CURE OF FAILURE TO DEPOSIT ON MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARES ("Municipal Preferred") NOTICE IS HEREBY GIVEN that [NAME OF TRUST] (the "Trust") has cured its Failure to Deposit and paid the applicable Late Charge with respect to its Series __ Municipal Preferred. The next Auction Date for the Series __ Municipal Preferred is scheduled to be _________ on 19__. [NAME OF TRUST] Dated: ________, 19__ 31 EXHIBIT I [NAME OF TRUST] NOTICE OF [CAPITAL GAINS] [AND] [TAXABLE ORDINARY INCOME](1) DIVIDEND FOR MUNICIPAL AUCTION RATE CUMULATIVE PREFERRED SHARES ("Municipal Preferred") NOTICE IS HEREBY GIVEN that the amount of the dividend payable on _______________, 19__ for Series __ of the Trust's Municipal Preferred will be determined by the Auction to be held on _____________, 19__. Up to [$ A ](2) [$ B ](3) per share of the dividend payable on such date as determined by such Auction will consist of [capital gains](2) [ordinary income taxable for Federal income tax purposes](3). If the dividend amount payable on such date as determined by such Auction is less than [$ A ](2) [$ B ](3) per share, the entire amount of the dividend will consist of [capital gains](2) [ordinary income taxable for Federal income tax purposes](3). [To the extent such dividend amount exceeds [$ A ] per share, any excess up to [$ B ] per share will consist of ordinary income taxable for Federal income tax purposes.](4)/ Accordingly, the aforementioned composition of the dividend payable on _______________, 19__ should be considered in determining Orders to be submitted with respect to the Auction to be held on _______________, 19___. The Rate Multiple in effect for such Auction will be %. [NAME OF TRUST] - -------- (1) Include language with respect to capital gains, taxable ordinary income or both, depending on the character of the designation to be made with respect to the dividend(s). (2) Include bracketed material if a portion of the dividend will be designated capital gains. (3) Include bracketed material if a portion of the dividend will be designated ordinary income taxable for Federal income tax purposes and no portion of the dividend will be designated capital gains. (4) Include bracketed material if a portion of the dividend will be designated capital gains and a portion will be designated ordinary income taxable for Federal income tax purposes. 32 2 (Footnotes continued) A = the maximum amount of capital gains allocated to such series of Municipal Preferred to be included in such dividend, divided by the number of shares of Municipal Preferred. B = the maximum amount of ordinary income taxable for Federal income tax purposes allocated to such series of Municipal Preferred to be included in such dividend, divided by the number of shares in such series. EX-99.(K)(2) 6 FORM OF BROKER DEALER AGREEMENT 1 Exhibit (k)(2) COLONIAL Broker-Dealer Agreement Basic Terms for Acting as a Broker-Dealer ----------------------------------- July __, 1999 These basic terms ("Basic Terms") set forth the general terms and conditions pursuant to which a broker-dealer identified in an Acceptance Letter (together with its successors and assigns, a "BD") will act as a broker-dealer for Municipal Auction Rate Cumulative Preferred ("Municipal Preferred") shares issued by investment companies, now or hereafter organized, registered under the Investment Company Act of 1940, as amended, as further identified by the Request Letters (the "Trusts"), for which Colonial Management Associates, Inc. ("Adviser") is the investment adviser. - -------------------------------------------------------------------------------- Each Trust has issued or may issue shares of Municipal Preferred, pursuant to its Declaration of Trust and By-Laws. A bank or trust company specified in the Request Letter will act as the auction agent (the "Auction Agent") of such Trust pursuant to authority granted it in the Auction Agency Agreement. The By-Laws of each Trust shall provide that, for each Subsequent Rate Period of any series of Municipal Preferred of such Trust then outstanding, the Applicable Rate for such series for such Subsequent Rate Period shall, except under certain conditions, be the rate per annum that the Auction Agent of such Trust advises results from implementation of the Auction Procedures for such series. The Board of Trustees of each Trust shall adopt a resolution appointing the Auction Agent as auction agent for purposes of the Auction Procedures for each series of Municipal Preferred of such Trust. The Auction Procedures of each Trust will require the participation of one or more Broker-Dealers for each series of Municipal Preferred of such Trust. BD will act as a Broker-Dealer for each series of Municipal Preferred of each Trust identified in a Request Letter. 1. Definitions and Rules of Construction. 1.1. Terms Defined by Reference to By-Laws. Capitalized terms not defined herein shall have the respective meanings specified in the By-Laws of the relevant Trust. 2 2 1.2. Terms Defined Herein. As used herein and in the Settlement Procedures, the following terms shall have the following meanings, unless the context otherwise requires: (a) "Acceptance Letter" shall mean the letter from Adviser to BD pursuant to which the Adviser appoints BD as a Broker Dealer for each series of Municipal Preferred issued by any Trust that has executed a Request Letter. (b) "Agreement", with respect to any Trust, shall mean the Basic Terms, together with the Acceptance Letter and the Request Letter relating to one or more series of Municipal Preferred of such Trust and any other substantially similar agreement among such Trust, the Adviser, any Auction Agent for such Trust and/or BD. (c) "Auction" shall have the meaning specified in Section 2.1 hereof. (d) "Auction Agency Agreement", with respect to any Trust, shall mean the Auction Agency Agreement between such Trust and the Auction Agent relating to one or more series of Municipal Preferred of such Trust. (e) "Auction Procedures", with respect to any Trust, shall mean the auction procedures constituting Part II of Section 12.1 of the By-Laws of such Trust as of the date of issuance of the Municipal Preferred shares of such Trust. (f) "Authorized Officer" of an Auction Agent shall mean each Senior Vice President, Vice President, Assistant Vice President, Assistant Treasurer and Assistant Secretary of such Auction Agent assigned to its Corporate Trust and Agency Group and every other officer or employee of such Auction Agent designated as an "Authorized Officer" for purposes of the Agreement in a communication to BD. (g) "BD Officer" shall mean each officer or employee of BD designated as a "BD Officer" for purposes of the Agreement in a communication to any Auction Agent. (h) "By-Laws", with respect to any Trust, shall mean the By-Laws, as amended and restated, of such Trust, a copy of which will be attached to the Request Letter of such Trust. (i) "Municipal Preferred" shall mean the preferred shares, no par value, of any Trust designated as its "Municipal Auction Rate Cumulative Preferred Shares" and bearing such further designation as to series as the Board of Trustees of such Trust or any committee thereof shall specify, as set forth in a Request Letter. 3 3 (j) "Request Letter", with respect to any Trust, shall mean the letter from such Trust to the Adviser and the Auction Agent for such Trust pursuant to which such Trust appoints BD as a Broker-Dealer for each series of Municipal Preferred of such Trust. (k) "Settlement Procedures" shall mean the Settlement Procedures attached hereto as Exhibit A. 1.3. Rules of Construction. Unless the context or use indicates another or different meaning or intent, the following rules shall apply to the construction of each Agreement: (a) Words importing the singular number shall include the plural number and vice versa. (b) The captions and headings herein are solely for convenience of reference and shall not constitute a part of such Agreement nor shall they affect its meaning, construction or effect. (c) The words "hereof", "herein", "hereto", and other words of similar import refer to such Agreement as a whole. (d) All references herein to a particular time of day shall be to New York City time. 2. The Auction. 2.1. Purpose; Incorporation by Reference of Auction Procedures and Settlement Procedures. (a) The provisions of the Auction Procedures of any Trust will be followed by the Auction Agent of such Trust for the purpose of determining the Applicable Rate for any Subsequent Rate Period of any series of Municipal Preferred of such Trust for which the Applicable Rate is to be determined by an Auction. Each periodic operation of such procedures is hereinafter referred to as an "Auction." (b) All of the provisions contained in the Auction Procedures and the Settlement Procedures are incorporated herein by reference in their entirety and shall be deemed to be a part hereof to the same extent as if such provisions were fully set forth herein. (c) BD agrees to act as, and assumes the obligations of, and limitations and restrictions placed upon, a Broker-Dealer under each Agreement for each series of Municipal Preferred. BD understands that other Persons meeting the requirements specified in the definition of "Broker-Dealer" contained in the Auction Procedures may execute Agreements and participate as Broker-Dealers in Auctions. 4 4 2.2. Preparation for Each Auction. (a) Not later than 9:30 A.M. on each Auction Date for any series of Municipal Preferred, the Auction Agent for such series shall advise the Broker-Dealers for such series by telephone of the Maximum Rate therefor and the Reference Rate(s) and Treasury Note Rate(s), as the case may be, used in determining such Maximum Rate. (b) In the event that any Auction Date for any series of Municipal Preferred shall be changed after the Auction Agent for such series has given the notice referred to in clause (vi) of paragraph (a) of the Settlement Procedures, or after the notice referred to in Section 2.5(a) hereof, if applicable, such Auction Agent, by such means as such Auction Agent deems practicable, shall give notice of such change to BD, if it is a Broker-Dealer for such series, not later than the earlier of 9:15 A.M. on the new Auction Date or 9:15 A.M. on the old Auction Date. (c) For purposes of maintaining its list of Existing Holders, the Auction Agent for any series of Municipal Preferred from time to time may request any Broker-Dealer to provide such Auction Agent with a list of Persons who such Broker-Dealer believes should be Existing Holders based upon inquiries of those Persons such Broker-Dealer believes are Beneficial Owners as a result of the most recent Auction and with respect to each such Person, the number of shares of such series of Municipal Preferred such Broker-Dealer believes are owned by such Person. BD shall comply with any such request relating to a series of Municipal Preferred in respect of which BD was named a Broker-Dealer, and the Auction Agent shall keep confidential any such information so provided by BD and shall not disclose any information so provided by BD to any Person other than the Trust and BD. (d) BD agrees to maintain a list of customers relating to a series of Municipal Preferred and to use its best efforts, subject to existing laws and regulations, to contact the customers on such list whom BD believes may be interested in participating in the Auction on each Auction Date, as a Potential Holder or a Potential Beneficial Owner, for the purposes set forth in the Auction Procedures. Nothing herein shall require BD to submit an Order for any customer in any Auction. (e) The Auction Agent's registry of Existing Holders of shares of a series of Municipal Preferred shall be conclusive and binding on BD. BD may inquire of the Auction Agent between 3:00 P.M. on the Business Day preceding an Auction for shares of a series of Municipal Preferred and 9:30 A.M. on the Auction Date for such Auction to ascertain the number of shares of such series in respect of which the Auction Agent has determined BD to be an Existing Holder. If BD believes it is the Existing Holder of fewer shares of such series than specified by the Auction Agent in response to BD's inquiry, BD may so inform the Auction Agent of that belief. BD shall not, in its capacity as Existing Holder of shares of such series, submit Orders in such Auction in respect of shares of such series covering in the aggregate more than the number of shares of such series specified by the Auction Agent in response to BD's inquiry. 5 5 2.3. Auction Schedule; Method of Submission of Orders. (a) Each Trust and the Auction Agent for such Trust shall conduct Auctions for Municipal Preferred in accordance with the schedule set forth below. Such schedule with respect to any series of Municipal Preferred of any Trust may be changed by the Auction Agent for such series with the consent of such Trust, which consent shall not be unreasonably withheld. Such Auction Agent shall give written notice of any such change to each Broker-Dealer of such series. Such notice shall be given prior to the close of business on the Business Day next preceding the first Auction Date on which such change shall be effective.
Time Event ---- ----- By 9:30 A.M. Auction Agent for such series advises such Trust and the Broker-Dealers for such series of the applicable Maximum Rate and the Reference Rate(s) and Treasury Note Rate(s), as the case may be, used in determining such Maximum Rate as set forth in Section 2.2(a) hereof. 9:30 A.M. - 1:30 P.M. Auction Agent assembles information communicated to it by Broker-Dealers as provided in Section 2(a) of the Auction Procedures of such Trust. Submission Deadline is 1:30 P.M. Not earlier than 1:30 P.M. Auction Agent makes determinations pursuant to Section 3(a) of the Auction Procedures of such Trust. By approximately 3:00 P.M. Auction Agent advises Trust of results of Auction as provided in Section 3(b) of the Auction Procedures of such Trust. Submitted Bids and Submitted Sell Orders are accepted and rejected and shares of such series of Municipal Preferred allocated as provided in Section 4 of the Auction Procedures of such Trust. Auction Agent gives notice of Auction results as set forth in Section 2.4(a) hereof.
(b) BD shall submit Orders to the appropriate Auction Agent in writing substantially in the form attached hereto as Exhibit B. BD shall submit a separate Order to such Auction Agent for each Potential Holder or Existing Holder with respect to whom BD is submitting an Order and shall not otherwise net or aggregate such Orders prior to their submission to such Auction Agent. (c) BD shall deliver to the appropriate Auction Agent (i) a written notice in substantially the form attached hereto as Exhibit C of transfers of shares of Municipal Preferred to 6 6 BD from another Person other than pursuant to an Auction and (ii) a written notice substantially in the form attached hereto as Exhibit D, of the failure of any shares of Municipal Preferred to be transferred to or by any Person that purchased or sold shares of Municipal Preferred through BD pursuant to an Auction. Such Auction Agent is not required to accept any such notice described in clause (i) for an Auction unless it is received by the Auction Agent by 3:00 P.M. on the Business Day preceding such Auction. (d) BD and other Broker-Dealers may submit Orders in Auctions for their own accounts (including Orders for their own accounts where the Order is placed beneficially for a customer) unless the relevant Trust shall have notified BD and all other Broker-Dealers that they may no longer do so, in which case Broker-Dealers may continue to submit Hold Orders and Sell Orders for their own accounts. (e) BD agrees to handle its customers' orders in accordance with its duties under applicable securities laws and rules. (f) To the extent that pursuant to Section 4 of the Auction Procedures of any Trust, BD continues to hold, sells, or purchases a number of shares that is fewer than the number of shares in an Order submitted by BD to the Auction Agent in which BD designated itself as an Existing Holder or Potential Holder in respect of customer Orders, BD shall make appropriate pro rata allocations among its customers for which it submitted Orders of similar tenor. If as a result of such allocations, any Beneficial Owner would be entitled or required to sell, or any Potential Beneficial Owner would be entitled or required to purchase, a fraction of a share of Municipal Preferred on any Auction Date, BD shall, in such manner as it shall determine in its sole discretion, round up or down the number of shares of Municipal Preferred to be purchased or sold on such Auction Date by any Beneficial Owner or Potential Beneficial Owner on whose behalf BD submitted an Order so that the number of shares so purchased or sold by each such Beneficial Owner or Potential Beneficial Owner on such Auction Date shall be whole shares of Municipal Preferred. 2.4. Notices. (a) On each Auction Date for any series of Municipal Preferred, the Auction Agent for such series shall notify BD, if BD is a Broker-Dealer of such series, by telephone of the results of the Auction as set forth in paragraph (a) of the Settlement Procedures. By approximately 11:30 A.M. on the Business Day next succeeding such Auction Date, the relevant Auction Agent shall confirm to BD in writing the disposition of all Orders submitted by BD in such Auction. (b) BD shall notify each Existing Holder, Potential Holder, Beneficial Owner or Potential Beneficial Owner of shares of Municipal Preferred with respect to whom BD has submitted an Order as set forth in paragraph (b) of the Settlement Procedures and take such other action as is required of BD pursuant to the Settlement Procedures. 7 7 2.5. Designation of Special Rate Period. (a) If any Trust delivers to its Auction Agent a notice of the Auction Date for any series of Municipal Preferred of such Trust for a Rate Period thereof that next succeeds a Rate Period that is not a Minimum Rate Period in the form of Exhibit C to the Auction Agency Agreement, and BD is a Broker-Dealer of such series, the Auction Agent shall deliver such notice to BD as promptly as practicable after its receipt of such notice from such Trust. (b) If the Board of Trustees of any Trust proposes to designate any succeeding Subsequent Rate Period of any series of Municipal Preferred of such Trust as a Special Rate Period and such Trust delivers to its Auction Agent a notice of such proposed Special Rate Period in the form of Exhibit D to the Auction Agency Agreement, and BD is a Broker-Dealer for such series, such Auction Agent shall deliver such notice to BD as promptly as practicable after its receipt of such notice from the Trust. (c) If the Board of Trustees of any Trust determines to designate such succeeding Subsequent Rate Period as a Special Rate Period, and such Trust delivers to its Auction Agent a notice of such Special Rate Period in the form of Exhibit E to the Auction Agency Agreement not later than 11:00 A.M. on the second Business Day next preceding the first day of such Rate Period (or by such later time or date, or both, as may be agreed to by such Auction Agent), and BD is a Broker-Dealer for such series, such Auction Agent shall deliver such notice to BD not later than 3:00 P.M. on such second Business Day (or, if such Auction Agent has agreed to a later time or date, as promptly as practicable thereafter). (d) If any Trust shall deliver to its Auction Agent a notice not later than 11:00 A.M. on the second Business Day next preceding the first day of any Rate Period (or by such later time or date, or both, as may be agreed to by such Auction Agent) stating that such Trust has determined not to exercise its option to designate such succeeding Subsequent Rate Period as a Special Rate Period, in the form of Exhibit F to the Auction Agency Agreement, or shall fail to timely deliver either such notice or a notice in the form of Exhibit E to the Auction Agency Agreement], and BD is a Broker-Dealer for such series, such Auction Agent shall deliver a notice in the form of Exhibit F to the Auction Agency Agreement to BD not later than 3:00 P.M. on such second Business Day (or, if such Auction Agent has agreed to a later time or date, as promptly as practicable thereafter). 2.6. Allocation of Taxable Income. If any Trust delivers to its Auction Agent a notice in the form of Exhibit I to the Auction Agency Agreement designating all or a portion of any dividend on shares of any series of Municipal Preferred of such Trust to consist of net capital gains or other income taxable for Federal income tax purposes, and BD is a Broker-Dealer for such series, such Auction Agent shall deliver such notice to BD on the Business Day following its receipt of such notice from such Trust. On or prior to the Auction Date referred to in such notice, BD will contact each of its customers that is a Beneficial Owner of shares of such series of Municipal Preferred or a Potential Beneficial Owner of shares of such series of Municipal Preferred interested in submitting an Order in the Auction to be held on such Auction Date, and BD will notify such Beneficial Owners and 8 8 Potential Beneficial Owners of the contents of such notice. BD will be deemed to have notified such Beneficial Owners and Potential Beneficial Owners if, for each of them, (i) BD makes a reasonable effort to contact such Beneficial Owner or Potential Beneficial Owner by telephone, and (ii) upon failing to contact such Beneficial Owner or Potential Beneficial Owner by telephone BD mails written notification to such Beneficial Owner or Potential Beneficial Owner at the mailing address indicated in the account records of BD. The Auction Agent for any series of Municipal Preferred shall be required to notify BD if it is a Broker-Dealer for such series within two Business Days after each Auction of such series that involves an allocation of income taxable for Federal income tax purposes as to the dollar amount per share of such taxable income and income exempt from Federal income taxation included in the related dividend. 2.7. Failure to Deposit. (a) If: (i) any Failure to Deposit shall have occurred with respect to shares of any series of Municipal Preferred of any Trust during any Rate Period thereof (other than any Special Rate Period of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured), but, prior to 12:00 Noon, New York City time, on the third Business Day next succeeding the date on which such Failure to Deposit occurred, such Failure to Deposit shall have been cured in accordance with Section 2.7 of the Auction Agency Agreement and such Trust shall have paid to the Auction Agent for such series the applicable Late Charge as described in Section 2.7 of the Auction Agency Agreement, then, if BD is a Broker-Dealer for such series, such Auction Agent shall deliver a notice in the form of Exhibit G to the Auction Agency Agreement by first-class mail, postage prepaid, to BD not later than one Business Day after its receipt of the payment from such Trust curing such Failure to Deposit and such Late Charge. (b) If: (i) any Failure to Deposit shall have occurred with respect to shares of any series of Municipal Preferred of any Trust during any Rate Period thereof (other than any Special Rate Period of more than 364 Rate Period Days or any Rate Period succeeding any Special Rate Period of more than 364 Rate Period Days during which a Failure to Deposit occurred but has not been cured), and, prior to 12:00 Noon, New York City time, on the third Business Day next succeeding the date on which such Failure to Deposit occurred, such Failure to Deposit shall not have been cured as described in Section 2.7 of the Auction Agency Agreement or such Trust shall not have paid to the Auction Agent for such series the applicable Late Charge described in Section 2.7 of the Auction Agency Agreement; or 9 9 (ii) any Failure to Deposit shall have occurred with respect to shares of any series of Municipal Preferred of any Trust during a Special Rate Period thereof of more than 364 Rate Period Days, or during any Rate Period thereof succeeding any Special Rate Period of more than 364 Rate Period Days during which a Failure to Deposit occurred that has not been cured, and, prior to 12:00 noon, New York City time, on the fourth Business Day preceding the Auction Date for the Rate Period subsequent to such Rate Period, such Failure to Deposit shall not have been cured as described in Section 2.7 of the Auction Agency Agreement or such Trust shall not have paid to the Auction Agent for such series the applicable Late Charge described in Section 2.7 of the Auction Agency Agreement; then such Auction Agent shall deliver a notice in the form of Exhibit H to the Auction Agency Agreement to the Broker-Dealers for such series not later than one Business Day after the receipt of the payment from such Trust curing such Failure to Deposit and such Late Charge. 2.8. Service Charge to be Paid to BD. On the Business Day next succeeding each Auction Date for any series of Municipal Preferred specified in, or on Exhibit A to, the Request Letter of any Trust, the Auction Agent for such series shall pay to BD from moneys received from such Trust an amount equal to the product of (a) (i) in the case of any Auction Date immediately preceding a Rate Period of such series consisting of 364 Rate Period Days or fewer, 1/4 of 1%, or (ii) in the case of any Auction Date immediately preceding a Rate Period of such series consisting of more than 364 Rate Period Days, such percentage as may be agreed upon by such Trust and BD with respect to such Rate Period, times (b) a fraction, the numerator of which is the number of Rate Period Days in the Rate Period therefor beginning on such Business Day and the denominator of which is 365 if such Rate Period consists of 7 Rate Period Days and 360 for all other Rate Periods, times (c) $25,000 times (d) the sum of (i) the aggregate number of shares of such series placed by BD in such Auction that were (A) the subject of Submitted Bids of Existing Holders submitted by BD and continued to be held as a result of such submission and (B) the subject of Submitted Bids of Potential Holders submitted by BD and purchased as a result of such submission plus (ii) the aggregate number of shares of such series subject to valid Hold Orders (determined in accordance with paragraph (d) of Section 2 of the Auction Procedures) submitted to the Auction Agent by BD plus (iii) the number of shares of Municipal Preferred deemed to be subject to Hold Orders of Existing Holders pursuant to paragraph (c) of Section 2 of the Auction Procedures of such Trust that were acquired by BD for its own account or were acquired by BD for its customers who are Beneficial Owners. For purposes of subclause (d)(iii) of the foregoing paragraph, if any Existing Holder or Beneficial Owner who acquired shares of any series of Municipal Preferred through BD transfers those shares to another Person other than pursuant to an Auction, then the Broker-Dealer for the shares so transferred shall continue to be BD; provided, however, that if the transfer was effected by, or if the transferee is, a Broker-Dealer other than BD, then such Broker-Dealer shall be the Broker-Dealer for such shares. 10 10 2.9. Settlement. (a) If any Existing Holder or Beneficial Owner with respect to whom BD has submitted a Bid or Sell Order for shares of Municipal Preferred of any series that was accepted in whole or in part fails to instruct its Agent Member to deliver the shares of Municipal Preferred subject to such Bid or Sell Order against payment therefor, BD, if it knows the identity of such Agent Member, shall instruct such Agent Member to deliver such shares against payment therefor and, if such Agent Member fails to comply with such instructions, BD may deliver to the Potential Holder or Potential Beneficial Owner with respect to whom BD submitted a Bid for shares of Municipal Preferred of such series that was accepted in whole or in part a number of shares of Municipal Preferred of such series that is less than the number of shares of Municipal Preferred of such series specified in such Bid to be purchased by such Potential Holder or Potential Beneficial Owner. (b) Neither the Auction Agent nor the Trust shall have any responsibility or liability with respect to the failure of an Existing Holder, Beneficial Owner, Potential Holder or Potential Beneficial Owner or its respective Agent Member to deliver shares of Municipal Preferred of any series or to pay for shares of Municipal Preferred of any series sold or purchased pursuant to the Auction Procedures or otherwise. (c) Notwithstanding any provision of the Auction Procedures or the Settlement Procedures to the contrary, in the event BD is an Existing Holder with respect to shares of a series of Municipal Preferred and the Auction Procedures provide that BD shall be deemed to have submitted a Sell Order in an Auction with respect to such shares if BD fails to submit an Order in that Auction with respect to such shares, BD shall have no liability to any Person for failing to sell such shares pursuant to such a deemed Sell Order if (i) such shares were transferred by the beneficial owner thereof without notification of such transfer in compliance with the Auction Procedures or (ii) BD has indicated to the Auction Agent pursuant to Section 2.2(e) of this Agreement that, according BD's records, BD is not the Existing Holder of such shares. (d) Notwithstanding any provision of the Auction Procedures or the Settlement Procedures to the contrary, in the event an Existing Holder or Beneficial Owner of shares of a series of Municipal Preferred with respect to whom a Broker-Dealer submitted a Bid to the Auction Agent for such shares that was accepted in whole or in part, or submitted or is deemed to have submitted a Sell Order for such shares that was accepted in whole or in part, fails to instruct its Agent Member to deliver such shares against payment therefor, partial deliveries of shares of Municipal Preferred that have been made in respect of Potential Holders' or Potential Beneficial Owners' Submitted Bids for shares of such series that have been accepted in whole or in part shall constitute good delivery to such Potential Holders and Potential Beneficial Owners. (e) Notwithstanding the foregoing terms of this Section, any delivery or non-delivery of shares of Municipal Preferred of any series which represents any departure from the results of an Auction for shares of such series, as determined by the Auction Agent, shall be of no effect for purposes of the registry of Existing Holders maintained by the Auction Agent pursuant to the Auction Agency Agreement unless and until the Auction Agent shall have been notified of such delivery or non-delivery. 11 11 (f) The Auction Agent shall have no duty or liability with respect to enforcement of this Section 2.9. 3. The Auction Agent. 3.1. Duties and Responsibilities. (a) Each Auction Agent is acting solely as agent for the Trusts with whom such Auction Agent has entered into Request Letters and owes no fiduciary duties to any other Person, other than such Trusts, by reason of the Agreements to which such Auction Agent is a party. (b) Each Auction Agent undertakes to perform such duties and only such duties as are specifically set forth in the Agreements to which it is a party, and no implied covenants or obligations shall be read into such Agreements against such Auction Agent. (c) In the absence of bad faith or negligence on its part, each Auction Agent shall not be liable for any action taken, suffered, or omitted or for any error of judgment made by it in the performance of its duties under the Agreements to which it is a party. Each Auction Agent shall not be liable for any error of judgment made in good faith unless such Auction Agent shall have been negligent in ascertaining the pertinent facts. 3.2. Rights of the Auction Agents. (a) Each Auction Agent may rely and shall be protected in acting or refraining from acting upon any communication authorized hereby and upon any written instruction, notice, request, direction, consent, report, certificate, share certificate or other instrument, paper or document believed in good faith by it to be genuine. Each Auction Agent shall not be liable for acting upon any telephone communication authorized by the Agreements to which it is a party that such Auction Agent believes in good faith to have been given by the appropriate Trust, by the Adviser or by a Broker-Dealer. Each Auction Agent may record telephone communications with the Broker-Dealers. (b) Each Auction Agent may consult with counsel of its choice and the advice of such counsel shall be full and complete authorization and protection in respect of any action taken, suffered or omitted by it hereunder in good faith and in reliance thereon. (c) Each Auction Agent shall not be required to advance, expend or risk its own funds or otherwise incur or become exposed to financial liability in the performance of its duties hereunder. 3.3. Auction Agents' Disclaimers. Each Auction Agent makes no representation as to the validity or adequacy of the Agreements to which it is a party, the Auction Agency Agreements to which it is a party or the shares of Municipal Preferred of any series. 12 12 4. Miscellaneous. 4.1. Termination. Any party to any Agreement may terminate such Agreement at any time on five days' notice to the other parties to such Agreement, provided that the Trust party to such Agreement shall not terminate the Agreement unless at least one Broker-Dealer Agreement would be in effect for each series of Municipal Preferred of such Trust after such termination. Each Agreement shall automatically terminate with respect to any series of Municipal Preferred with respect to which the relevant Auction Agency Agreement has terminated. 4.2. Participant in Securities Depository; Payment of Dividends in Same-Day Funds. (a) BD is, and shall remain for the term of the Agreements, a member of, or participant in, the Securities Depository (or an affiliate of such a member or participant). (b) BD represents that it (or if BD does not act as Agent Member, one of its affiliates) shall make all dividend payments on the Municipal Preferred available in same-day funds on each Dividend Payment Date to customers that use BD or affiliate as Agent Member. 4.3. Communications. Except for (i) communications authorized to be by telephone by the Agreement of any Trust or the Auction Procedures of such Trust and (ii) communications in connection with Auctions (other than those expressly required to be in writing), all notices, requests and other communications to any party under such Agreement shall be in writing (including telecopy or similar writing) and shall be given to such party, addressed to it, at its address or telecopy number set forth below: If to a Trust, [Name of Trust] addressed: One Financial Center Boston, MA 02111 Attention: Secretary Telecopier No.: (617) 345-0919 Telephone No.: (617) 426-3750 If to the Adviser, Colonial Management Associates, Inc. addressed: One Financial Center Boston, MA 02111 Attention: Secretary If to BD, to the address or telecopy number as set forth in the Acceptance Letter. 13 13 If to an Auction Agent, to the address or telecopy number as set forth in the Request Letter, or such other address or telecopy number as such party may hereafter specify for such purpose by notice to the other parties. Each such notice, request or communication shall be effective when delivered at the address specified herein. Communications shall be given on behalf of BD by a BD Officer and on behalf of an Auction Agent by an Authorized Officer of such Auction Agent. BD may record telephone communications with any Auction Agent. 4.4. Entire Agreement. Each Agreement contains the entire agreement among the parties thereto relating to the subject matter thereof, and there are no other representations, endorsements, promises, agreements or understandings, oral, written or implied, among the parties thereto relating to the subject matter thereof. Each Agreement supersedes any prior agreement to which BD was a party in respect of any Trust. 4.5. Benefits. Nothing in any Agreement, express or implied, shall give to any person, other than the Trust party to such Agreement, the Adviser, the Auction Agent party to such Agreement and BD and their respective successors and assigns, any benefit or any legal or equitable right, remedy or claim under such Agreement. 4.6. Amendment; Waiver. (a) Each Agreement shall not be deemed or construed to be modified, amended, rescinded, canceled or waived, in whole or in part, except by a written instrument signed by a duly authorized representative of the party to be charged. (b) Failure of any party to any Agreement to exercise any right or remedy thereunder in the event of a breach thereof by any other party shall not constitute a waiver of any such right or remedy with respect to any subsequent breach. 4.7. Successors and Assigns. Each Agreement shall be binding upon, inure to the benefit of, and be enforceable by, the respective successors and assigns of the Trust party to such Agreement, the Adviser, the Auction Agent party to such Agreement and BD. 4.8. Severability. If any clause, provision or section hereof shall be ruled invalid or unenforceable by any court of competent jurisdiction, the invalidity or unenforceability of such clause, provision or section shall not affect any of the remaining clauses, provisions or sections hereof. 4.9. GOVERNING LAW. 14 14 EACH AGREEMENT SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK. 4.10. Declaration of Trust. The Declaration of each Trust is on file with the Secretary of State of the Commonwealth of Massachusetts. Each Agreement to which a Trust that is a Massachusetts business trust is a party has been duly executed on behalf of such Trust by an officer of such Trust acting in such capacity and not individually, and the obligations of such Trust set forth in such Agreement are not binding upon any of such Trust's trustees, officers or shareholders individually, but are binding only upon the assets and property of such Trust. 15 EXHIBIT A SETTLEMENT PROCEDURES EX-99.(L) 7 OPINION & CONSENT OF ROPES & GRAY 1 Exhibit (L) July 14, 1999 Colonial Municipal Income Trust One Financial Center Boston, Massachusetts 02111 Ladies and Gentlemen: We have acted as counsel to Colonial Municipal Income Trust (the "Trust") in connection with the Registration Statement of the Trust on Form N-2 (File No. 333-77261) under the Securities Act of 1933 and the Investment Company Act of 1940 (File No. 811-04992) (the "Registration Statement") as amended (the "Acts"), relating to the proposed sale of an aggregate of 3,600 Municipal Auction Rate Cumulative Preferred Shares, Series F, each with a liquidation preference of $25,000 per share plus accumulated but unpaid dividends, if any, thereon (whether or not earned or declared) (the "Preferred Shares"). The Preferred Shares are to be sold pursuant to the Underwriting Agreement substantially in the form being filed as an exhibit to the Registration Statement (the "Underwriting Agreement") among the Trust, Colonial Management Associates, Inc. and Salomon Smith Barney Inc. We have examined the Trust's Agreement and Declaration of Trust on file in the office of the Secretary of State of the Commonwealth of Massachusetts, as amended (the "Declaration of Trust"), and the proposed form of the Trust's Amended and Restated By-Laws (the "Amended By-Laws") and are familiar with the actions taken by the Trust in connection with the issuance and sale of the Preferred Shares. We have also examined such other documents and records as we have deemed necessary for the purposes of this opinion. Based upon the foregoing, we are of the opinion that: 1. The Trust is a duly organized and validly existing unincorporated association under the laws of the Commonwealth of Massachusetts. 2. Upon approval by the Trustees of the Trust (or by a duly constituted committee thereof) of the Amended By-Laws, the Preferred Shares will have been duly authorized and, when issued and paid for in accordance with the Underwriting Agreement, will be validly issued, fully paid and nonassessable by the Trust. 2 Colonial Municipal Income Trust -2- July 14, 1999 The Trust is an entity of the type commonly known as a "Massachusetts business trust." Under Massachusetts law, shareholders could, under certain circumstances, be held personally liable for the obligations of the Trust. However, the Declaration of Trust disclaims shareholder liability for acts or obligations of the Trust and requires that a notice of such disclaimer be given in each note, bond, contract, instrument, certificate or undertaking entered into or executed by the Trust or its Trustees. The Declaration of Trust provides for indemnification out of the property of the Trust for all loss and expense of any shareholder of the Trust held personally liable solely by reason of his being or having been a shareholder. Thus, the risk of a shareholder's incurring financial loss on account of being a shareholder is limited to circumstances in which the Trust itself would be unable to meet its obligations. We understand that this opinion is to be used in connection with the registration of the Preferred Shares for offering and sale pursuant to the Act. We consent to the filing of this opinion with and as part of the Registration Statement and to the references to our firm in the related prospectus under the captions "Taxation" and "Legal Matters" in the Prospectus contained in the Registration Statement. Very truly yours, /s/ Ropes & Gray Ropes & Gray EX-99.(N) 8 CONSENT OF PRICEWATERHOUSECOOPERS LLP 1 Exhibit (n) CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the use in the Statement of Additional Information constituting part of this Pre-Effective Amendment No. 2 to the registration statement on Form N-2 (the "Registration Statement") of our report dated January 13, 1999, relating to the financial statements and financial highlights of Colonial Municipal Income Trust, which appears in such Statement of Additional Information, and to the incorporation by reference of our report into the Prospectus which constitutes part of this Registration Statement. We also consent to the references to us under the heading "Independent Accountants" in such Statement of Additional Information and to the references to us under the headings "Financial Highlights" and "Experts" in such Prospectus. /s/ PricewaterhouseCoopers LLP PricewaterhouseCoopers LLP Boston, Massachusetts July 14, 1999 -----END PRIVACY-ENHANCED MESSAGE-----