485APOS 1 file001.txt JOHN HANCOCK TAX-EXEMPT SERIES FILE NO. 33-12947 FILE NO. 811-5079 ================================================================================ SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM N-1A --------- REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 (X) Pre-Effective Amendment No. ( ) Post-Effective Amendment No. 24 (X) REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 (X) Amendment No. 25 (X) --------- JOHN HANCOCK TAX-EXEMPT SERIES FUND (Exact Name of Registrant as Specified in Charter) 101 Huntington Avenue Boston, Massachusetts 02199-7603 (Address of Principal Executive Offices) (Zip Code) Registrant's Telephone Number, (617) 375-1702 --------- SUSAN S. NEWTON Senior Vice President and Secretary John Hancock Advisers, Inc. 101 Huntington Avenue Boston, Massachusetts 02199 (Name and Address of Agent for Service) --------- It is proposed that this filing will become effective: ( ) immediately upon filing pursuant to paragraph (b) of Rule 485 ( ) on (date) pursuant to paragraph (b) of Rule 485 ( ) 75 days after filing pursuant to paragraph (a) of Rule 485 (X) on (January 1, 2005) pursuant to paragraph (a) of Rule 485 If appropriate, check the following box: ( ) This post-effective amendment designates a new effective date for a previously filed post-effective amendment. TXFPN 1/05 DRAFT 10/21/04 JOHN HANCOCK Tax-Free Income Funds PROSPECTUS 1.1.2005 California Tax-Free Income Fund High Yield Municipal Bond Fund Massachusetts Tax-Free Income Fund New York Tax-Free Income Fund Tax-Free Bond Fund [JOHN HANCOCK LOGO](R) ---------------------- JOHN HANCOCK FUNDS As with all mutual funds, the Securities and Exchange Commission has not approved or disapproved these funds or determined whether the information in this prospectus is adequate and accurate. Anyone who indicates otherwise is committing a federal crime. CONTENTS -------------------------------------------------------------------------------- JOHN HANCOCK TAX-FREE FUNDS -------------------------------------------------------- CALIFORNIA TAX-FREE INCOME FUND 4 HIGH YIELD MUNICIPAL BOND FUND 6 MASSACHUSETTS TAX-FREE INCOME FUND 8 NEW YORK TAX-FREE INCOME FUND 10 TAX-FREE BOND FUND 12 YOUR ACCOUNT -------------------------------------------------------- CHOOSING A SHARE CLASS 14 HOW SALES CHARGES ARE CALCULATED 14 SALES CHARGE REDUCTIONS AND WAIVERS 15 OPENING AN ACCOUNT 16 BUYING SHARES 17 SELLING SHARES 18 TRANSACTION POLICIES 20 DIVIDENDS AND ACCOUNT POLICIES 20 ADDITIONAL INVESTOR SERVICES 21 FUND DETAILS -------------------------------------------------------- BUSINESS STRUCTURE 22 MANAGEMENT BIOGRAPHIES 23 FINANCIAL HIGHLIGHTS 24 FOR MORE INFORMATION BACK COVER -------------------------------------------------------- OVERVIEW ---------------------------------------------------------------------- JOHN HANCOCK TAX-FREE INCOME FUNDS These funds seek to offer income that is exempt from federal and, in some cases, state and local income tax. Each fund has its own strategy and its own risk profile. Each fund invests primarily in municipal securities exempt from federal (and in some funds, state) income tax. However, a portion of a tax-free fund's income may be subject to these taxes, as well as the federal alternative minimum tax. WHO MAY WANT TO INVEST THESE FUNDS MAY BE APPROPRIATE FOR INVESTORS WHO: o are in higher income brackets o want regular monthly income o are interested in lowering their income tax burden o pay California, Massachusetts or New York income tax (state-specific funds) TAX-FREE INCOME FUNDS MAY NOT BE APPROPRIATE IF YOU: o are not subject to a high level of state or federal income tax o are seeking an investment for a tax-deferred retirement account o are investing for maximum return over a long time horizon o require absolute stability of your principal RISKS OF MUTUAL FUNDS Mutual funds are not bank deposits and are not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Because you could lose money by investing in these funds, be sure to read all risk disclosure carefully before investing. THE MANAGEMENT FIRM All John Hancock tax-free income funds are managed by John Hancock Advisers, LLC. Founded in 1968, John Hancock Advisers is a wholly owned subsidiary of John Hancock Financial Services, Inc. (a subsidiary of Manulife Financial Corporation) and as of September 30, 2004 managed approximately $____ billion in assets. -------------------------------------------------------------------------------- FUND INFORMATION KEY Concise fund-by-fund descriptions begin on the next page. Each description provides the following information: [GRAPHIC] GOAL AND STRATEGY The fund's particular investment goals and the strategies it intends to use in pursuing those goals. [GRAPHIC] PAST PERFORMANCE The fund's total return, measured year-by-year and over time. [GRAPHIC] MAIN RISKS The major risk factors associated with the fund. [GRAPHIC] YOUR EXPENSES The overall costs borne by an investor in the fund, including sales charges and annual expenses. 3 CALIFORNIA TAX-FREE INCOME FUND [GRAPHIC] GOAL AND STRATEGY The fund seeks a high level of current income, consistent with preservation of capital, that is exempt from federal and California personal income taxes. In pursuing this goal, the fund normally invests at least 80% of its assets in securities of any maturity exempt from federal and California personal income taxes. Most of these securities are investment-grade when purchased, but the fund may invest up to 20% of assets in junk bonds rated BB/Ba and their unrated equivalents. In managing the portfolio, the management team utilizes a strategy designed to find undervalued bonds, based on research into specific municipal issuers, their creditwor-thiness and the structure of their bonds. The team also assesses general credit trends and identifies promising market sectors to assist in the selection of such securities for long-term investment. Further, the team employs detailed analysis of an appropriate index to model portfolio performance and composition, then blends the macro assessment with the security analysis in a comprehensive disciplined process. The management team seeks an appropriate blend of general obligation and revenue bonds for the fund. Revenue bonds, which are repaid from income tied to specific facilities such as power plants, carry higher yields and may represent a larger percentage of the fund. The team also favors bonds with limitations on whether they can be called, or redeemed, by the issuer before maturity. This enables the team to minimize the effect of declining interest rates on the fund's income. The fund is non-diversified and may invest more than 5% of assets in securities of a single issuer. The fund may make limited use of certain derivatives (investments whose value is based on indexes or other securities), especially in managing its exposure to interest rate risk. In abnormal circumstances, the fund may temporarily invest more than 20% of its assets in taxable investment-grade short-term securities. In these and other cases, the fund might not achieve its goal. -------------------------------------------------------------------------------- [GRAPHIC] PAST PERFORMANCE The graph shows how the fund's total return has varied from year to year, while the table shows performance over time (along with a broad-based market index for reference). This information may help provide an indication of the fund's risks. The average annual figures reflect sales charges; the year-by-year and index figures do not, and would be lower if they did. The average annual total returns for Class C have been adjusted to reflect the elimination of the front-end sales charge effective July 15, 2004. All figures assume dividend reinvestment. Past performance before and after taxes does not indicate future results. CLASS A, TOTAL RETURNS 2004 RETURN AS OF 9-30-04: ______% BEST QUARTER: Q1 '95, 9.23% WORST QUARTER: Q1 `94, -6.58% CLASS A CALENDAR YEAR TOTAL RETURNS (WITHOUT SALES CHARGES) -------------------------------------------------------------------------------- (THE FOLLOWING TABLE WAS REPRESENTED BY A GRAPH IN THE PRINTED MATERIAL). 1994 -9.29% 1995 21.91% 1996 4.48% 1997 10.13% 1998 6.65% 1999 -2.84% 2000 11.26% 2001 3.87% 2002 7.99% 2003 3.94% AFTER-TAX RETURNS After-tax returns are shown for Class A shares only and would be different for the other classes. They are calculated using the historical highest individual federal marginal income-tax rates and do not reflect the impact of state and local taxes. Actual after-tax returns depend on the investor's tax situation and may differ from those shown. The after-tax returns shown are not relevant to investors who hold their fund shares through tax-deferred arrangements such as 401(k) plans or individual retirement accounts. INDEX (reflects no fees or taxes) LEHMAN BROTHERS MUNICIPAL BOND INDEX, an unmanaged index of municipal bonds. Average annual total returns (including sales charge) for periods ending 12-31-03 --------------------------------------------------------------------------------
1 YEAR 5 YEAR 10 YEAR LIFE OF CLASS C ------ ------ ------- ------- Class A before tax -0.71% 3.77% 5.03% -- Class A after tax on distributions -0.71% 3.77% 5.03% -- Class A after tax on distributions, with sale 1.11% 3.92% 5.04% -- Class B before tax -1.89% 3.58% 4.88% -- Class C before tax (began 4-1-99) 2.07% -- -- 3.92% ----- ---- ---- ---- Lehman Brothers Municipal Bond Index 5.31% 5.83% 6.03% 5.95%
4 [GRAPHIC] MAIN RISKS The major factors in this fund's performance are interest rates and credit risk. When interest rates rise, bond prices generally fall. Generally, an increase in the fund's average maturity will make it more sensitive to interest rate risk. There is no limit on the fund's average maturity. Because the fund invests primarily in California issuers, its performance is affected by local, state and regional factors. These may include economic or policy changes, erosion of the tax base, state legislative changes (especially those regarding taxes) and the possibility of credit problems. California has experienced dramatic declines in tax revenues since mid 2001, and the state has lost fiscal stability. As a result, the state has spent down fiscal reserves, increased bond financing and incurred significant short-term debt obligations. In 2003, the state experienced multiple rating downgrades. The fund could lose money if any bonds it owns are downgraded in credit rating or go into default. In general, lower-rated bonds have higher credit risks. If certain sectors or investments do not perform as the fund expects, it could underperform its peers or lose money. To the extent that the fund makes investments with additional risks, these risks could increase volatility or reduce performance: o Revenue bonds could be downgraded or go into default if revenues from their underlying facilities decline, causing the fund to lose money. o If the fund invests heavily in a single issuer, its performance could suffer significantly from adverse events affecting that issuer. o Junk bonds could make the fund more sensitive to market or economic shifts. o Certain derivatives could produce disproportionate losses. o In a down market, certain securities and derivatives could become harder to value or to sell at a fair price. -------------------------------------------------------------------------------- [GRAPHIC] YOUR EXPENSES Transaction expenses are charged directly to your account. Operating expenses are paid from the fund's assets, and therefore are paid by shareholders indirectly.
SHAREHOLDER TRANSACTION EXPENSES(1) CLASS A CLASS B CLASS C --------------------------------------------------- ------- ------- ------ Maximum front-end sales charge (load) on purchases as a % of purchase price 4.50% none none Maximum deferred sales charge (load) as a % of purchase or sale price, whichever is less none(2) 5.00% 1.00%
ANNUAL OPERATING EXPENSES CLASS A CLASS B CLASS C --------------------------------------------------- ------- ------- ------ Management fee 0.55% 0.55% 0.55% Distribution and service (12b-1) fees 0.15% 1.00% 1.00% Other expenses % % % Total fund operating expenses % % %
The hypothetical example below shows what your expenses would be if you invested $10,000 over the time frames indicated, assuming you reinvested all distributions and that the average annual return was 5%. The example is for comparison only, and does not represent the fund's actual expenses and returns, either past or future. EXPENSES YEAR 1 YEAR 3 YEAR 5 YEAR 10 -------------------------- ------ ------ ------ ------- Class A $ $ $ $ Class B with redemption $ $ $ $ Class B without redemption $ $ $ $ Class C with redemption $ $ $ $ Class C without redemption $ $ $ $ (1) A $4.00 FEE WILL BE CHARGED FOR WIRE REDEMPTIONS. (2) EXCEPT FOR INVESTMENTS OF $1 MILLION OR MORE; SEE "HOW SALES CHARGES ARE CALCULATED." -------------------------------------------------------------------------------- PORTFOLIO MANAGERS DIANNE SALES, CFA Joined fund team in 1995 JAMES T. COLBY, III Joined fund team in 2003 SEE PAGE 23 FOR THE MANAGEMENT BIOGRAPHIES. FUND CODES CLASS A Ticker TACAX CUSIP 41014R108 Newspaper CATxFA SEC number 811-5979 JH fund number 53 CLASS B Ticker TSCAX CUSIP 41014R207 Newspaper CATxFB SEC number 811-5979 JH fund number 153 CLASS C Ticker TCCAX CUSIP 41014R306 Newspaper -- SEC number 811-5979 JH fund number 553 5 HIGH YIELD MUNICIPAL BOND FUND [GRAPHIC] GOAL AND STRATEGY The fund seeks a high level of current income that is largely exempt from federal income tax consistent with preservation of capital. In pursuing this goal, the fund normally invests at least 80% of its assets in municipal bonds of any maturity with credit ratings from A to BB/Ba and their unrated equivalents. The fund may also invest up to 5% of assets in bonds rated as low as CC/Ca and their unrated equivalents. Bonds that are in or below the BB/Ba category are considered junk bonds. Municipal bonds may be subject to alternative minimum tax and income may not be entirely tax free to all investors. In managing the portfolio, the management team utilizes a strategy designed to find undervalued bonds, based on research into specific municipal issuers, their creditwor-thiness and the structure of their bonds. The team also assesses general credit trends and identifies promising market sectors to assist in the selection of such securities for long-term investment. Further, the team employs detailed analysis of an appropriate index to model portfolio performance and composition, then blends the macro assessment with the security analysis in a comprehensive disciplined process. The management team seeks an appropriate blend of general obligation and revenue bonds for the fund. Revenue bonds, which are repaid from income tied to specific facilities such as power plants, carry higher yields and may represent a larger percentage of the fund. The team also favors bonds with limitations on whether they can be called, or redeemed, by the issuer before maturity. This enables the team to minimize the effect of declining interest rates on the fund's income. The fund is non-diversified and may invest more than 5% of assets in securities of a single issuer. The fund may make limited use of certain derivatives (investments whose value is based on indexes or other securities), especially in managing its exposure to interest rate risk. In abnormal circumstances, the fund may temporarily invest more than 20% of its assets in taxable investment-grade short-term securities. In these and other cases, the fund might not achieve its goal. -------------------------------------------------------------------------------- [GRAPHIC] PAST PERFORMANCE The graph shows how the fund's total return has varied from year to year, while the table shows performance over time (along with a broad-based market index for reference). This information may help provide an indication of the fund's risks. The average annual figures reflect sales charges; the year-by-year and index figures do not, and would be lower if they did. The average annual total returns for Class C have been adjusted to reflect the elimination of the front-end sales charge effective July 15, 2004. All figures assume dividend reinvestment. Past performance before and after taxes does not indicate future results. Disclosure of Class A total returns has replaced prior Class B disclosure because as of December 31, 2003, Class A shares have 10 years of operating history and larger net assets. CLASS A, TOTAL RETURNS 2004 RETURN AS OF 9-30-04: _______% BEST QUARTER: Q1 '95, 7.83% WORST QUARTER: Q1 `94, -4.02% CLASS A CALENDAR YEAR TOTAL RETURNS (WITHOUT SALES CHARGES) -------------------------------------------------------------------------------- [THE FOLLOWING TABLE WAS REPRESENTED BY A GRAPH IN THE PRINTED MATERIAL.] 1994 -4.98% 1995 19.76% 1996 1.33% 1997 9.61% 1998 5.45% 1999 -4.13% 2000 5.35% 2001 4.46% 2002 5.07% 2003 5.47% AFTER-TAX RETURNS After-tax returns are shown for Class A shares only and would be different for the other classes. They are calculated using the historical highest individual federal marginal income-tax rates and do not reflect the impact of state and local taxes. Actual after-tax returns depend on the investor's tax situation and may differ from those shown. The after-tax returns shown are not relevant to investors who hold their fund shares through tax-deferred arrangements such as 401(k) plans or individual retirement accounts. INDEX (reflects no fees or taxes) LEHMAN BROTHERS MUNICIPAL BOND INDEX, an unmanaged index of municipal bonds. AVERAGE ANNUAL TOTAL RETURNS (INCLUDING SALES CHARGE) FOR PERIODS ENDING 12-31-03 --------------------------------------------------------------------------------
LIFE OF 1 YEAR 5 YEAR 10 YEAR CLASS C ------ ------ ------- ------- Class A before tax 0.76% 2.23% 4.06% -- Class A after tax on distributions 0.76% 2.23% 4.06% -- Class A after tax on distributions, with sale 2.51% 2.73% 4.32% -- Class B before tax -0.29% 2.10% 3.92% -- Class C before tax (began 4-1-99) 3.69% -- -- 2.48% ----- ---- ---- ---- Lehman Brothers Municipal Bond Index 5.31% 5.83% 6.03% 5.95%
6 [GRAPHIC] MAIN RISKS The major factors in this fund's performance are credit risk and interest rates. When interest rates rise, bond prices generally fall. Generally, an increase in the fund's average maturity will make it more sensitive to interest rate risk. There is no limit on the fund's average maturity. Because their issuers are often in relatively weak financial health, junk bonds could make the fund more sensitive to market or economic shifts, and to the risk of default of a particular bond. In general, investors should expect fluctuations in share price, yield and total return that are above average for bond funds. The fund could lose money if any bonds it owns are downgraded in credit rating or go into default. If certain sectors or investments do not perform as the fund expects, it could underperform its peers or lose money. To the extent that the fund invests in securities with additional risks, these risks could increase volatility or reduce performance: o Revenue bonds could be downgraded or go into default if revenues from their underlying facilities decline, causing the fund to lose money. o If the fund invests heavily in a single issuer, its performance could suffer significantly from adverse events affecting that issuer. o If the fund invests heavily in securities from a given state or region, its performance could be disproportionately affected by political or demographic factors in that state or region. o Certain derivatives could produce disproportionate losses. o In a down market, certain securities and derivatives could become harder to value or to sell at a fair price. -------------------------------------------------------------------------------- [GRAPHIC] YOUR EXPENSES Transaction expenses are charged directly to your account. Operating expenses are paid from the fund's assets, and therefore are paid by shareholders indirectly.
SHAREHOLDER TRANSACTION EXPENSES(1) CLASS A CLASS B CLASS C --------------------------------------------------- ------- ------- ------- Maximum front-end sales charge (load) on purchases as a % of purchase price 4.50% none none Maximum deferred sales charge (load) as a % of purchase or sale price, whichever is less none(2) 5.00% 1.00%
ANNUAL OPERATING EXPENSES CLASS A CLASS B CLASS C --------------------------------------------------- ------- ------- ------- Management fee 0.60% 0.60% 0.60% Distribution and service (12b-1) fees 0.25% 1.00% 1.00% Other expenses % % % Total fund operating expenses % % %
The hypothetical example below shows what your expenses would be if you invested $10,000 over the time frames indicated, assuming you reinvested all distributions and that the average annual return was 5%. The example is for comparison only, and does not represent the fund's actual expenses and returns, either past or future. EXPENSES YEAR 1 YEAR 3 YEAR 5 YEAR 10 -------------------------- ------ ------ ------ ------- Class A $ -- $ -- $ -- $ -- Class B with redemption $ -- $ -- $ -- $ -- Class B without redemption $ -- $ -- $ -- $ -- Class C with redemption $ -- $ -- $ -- $ -- Class C without redemption $ -- $ -- $ -- $ -- (1) A $4.00 FEE WILL BE CHARGED FOR WIRE REDEMPTIONS. (2) EXCEPT FOR INVESTMENTS OF $1 MILLION OR MORE; SEE "HOW SALES CHARGES ARE CALCULATED." -------------------------------------------------------------------------------- PORTFOLIO MANAGERS JAMES T. COLBY, III Joined fund team in 2003 DIANNE SALES, CFA Joined fund team in 1995 SEE PAGE 23 FOR THE MANAGEMENT BIOGRAPHIES. FUND CODES CLASS A Ticker JHTFX CUSIP 41013Y302 Newspaper HiYMuBdA SEC number 811-5968 JH fund number 59 CLASS B Ticker TSHTX CUSIP 41013Y401 Newspaper HiYMuBdB SEC number 811-5968 JH fund number 159 CLASS C Ticker JCTFX CUSIP 41013Y500 Newspaper -- SEC number 811-5968 JH fund number 559 7 MASSACHUSETTS TAX-FREE INCOME FUND [GRAPHIC] GOAL AND STRATEGY The fund seeks a high level of current income, consistent with preservation of capital, that is exempt from federal and Massachusetts personal income taxes. In pursuing this goal, the fund normally invests at least 80% of its assets in securities of any maturity exempt from federal and Massachusetts personal income taxes. Most of these securities have credit ratings of A or higher when purchased, but the fund may invest up to 33.3% of assets in securities rated as low as BB/Ba and their unrated equivalents. Bonds that are in or below the BB/Ba category are considered junk bonds. In managing the portfolio, the management team utilizes a strategy designed to find undervalued bonds, based on research into specific municipal issuers, their creditwor-thiness and the structure of their bonds. The team also assesses general credit trends and identifies promising market sectors to assist in the selection of such securities for long-term investment. Further, the team employs detailed analysis of an appropriate index to model portfolio performance and composition, then blends the macro assessment with the security analysis in a comprehensive disciplined process. The management team seeks an appropriate blend of general obligation and revenue bonds for the fund. Revenue bonds, which are repaid from income tied to specific facilities such as power plants, carry higher yields and may represent a larger percentage of the fund. The team also favors bonds with limitations on whether they can be called, or redeemed, by the issuer before maturity. This enables the team to minimize the effect of declining interest rates on the fund's income. The fund is non-diversified and may invest more than 5% of assets in securities of a single issuer. The fund may make limited use of certain derivatives (investments whose value is based on indexes or other securities), especially in managing its exposure to interest rate risk. In abnormal circumstances, the fund may temporarily invest more than 20% of its assets in taxable investment-grade short-term securities. In these and other cases, the fund might not achieve its goal. -------------------------------------------------------------------------------- [GRAPHIC] PAST PERFORMANCE The graph shows how the fund's total return has varied from year to year, while the table shows performance over time (along with a broad-based market index for reference). This information may help provide an indication of the fund's risks. The average annual figures reflect sales charges; the year-by-year and index figures do not, and would be lower if they did. The average annual total returns for Class C have been adjusted to reflect the elimination of the front-end sales charge effective July 15, 2004. All figures assume dividend reinvestment. Past performance before and after taxes does not indicate future results. CLASS A, TOTAL RETURNS 2004 RETURN AS OF 9-30-04: ______% BEST QUARTER: Q1 '95, 6.68% WORST QUARTER: Q1 `94, -6.07% CLASS A CALENDAR YEAR TOTAL RETURNS (WITHOUT SALES CHARGES) -------------------------------------------------------------------------------- [THE FOLLOWING TABLE WAS REPRESENTED BY A GRAPH IN THE PRINTED MATERIAL.] 1994 -5.51% 1995 16.36% 1996 4.27% 1997 9.34% 1998 7.06% 1999 -4.24% 2000 11.74% 2001 4.35% 2002 9.56% 2003 6.18% AFTER-TAX RETURNS After-tax returns are shown for Class A shares only and would be different for the other classes. They are calculated using the historical highest individual federal marginal income-tax rates and do not reflect the impact of state and local taxes. Actual after-tax returns depend on the investor's tax situation and may differ from those shown. The after-tax returns shown are not relevant to investors who hold their fund shares through tax-deferred arrangements such as 401(k) plans or individual retirement accounts. INDEX (reflects no fees or taxes) LEHMAN BROTHERS MUNICIPAL BOND INDEX, an unmanaged index of municipal bonds. AVERAGE ANNUAL TOTAL RETURNS (INCLUDING SALES CHARGE) FOR PERIODS ENDING 12-31-03 --------------------------------------------------------------------------------
LIFE OF LIFE OF 1 YEAR 5 YEAR 10 YEAR CLASS B CLASS C ------ ------ ------- ------- ------- Class A before tax 1.43% 4.41% 5.23% -- -- Class A after tax on distributions 1.43% 4.40% 5.22% -- -- Class A after tax on distributions, with sale 2.44% 4.44% 5.19% -- -- Class B before tax (began 10-3-96) 0.44% 4.30% -- 5.59% -- Class C before tax (began 4-1-99) 4.44% -- -- -- 4.84% ---- ---- ---- ---- ---- Lehman Brothers Municipal Bond Index 5.31% 5.83% 6.03% 6.53%* 5.95%
*AS OF 9-30-96. 8 [GRAPHIC] MAIN RISKS The major factors in this fund's performance are interest rates and credit risk. When interest rates rise, bond prices generally fall. Generally, an increase in the fund's average maturity will make it more sensitive to interest rate risk. There is no limit on the fund's average maturity. Because the fund invests primarily in Massachusetts issuers, its performance is affected by local, state and regional factors. These may include economic or policy changes, erosion of the tax base, state legislative changes (especially those affecting taxes) and the possibility of credit problems. The fund could lose money if any bonds it owns are downgraded in credit rating or go into default. In general, lower-rated bonds have higher credit risks. If certain sectors or investments do not perform as the fund expects, it could underperform its peers or lose money. To the extent that the fund invests in securities with additional risks, these risks could increase volatility or reduce performance: o Revenue bonds could be downgraded or go into default if revenues from their underlying facilities decline, causing the fund to lose money. o If the fund invests heavily in a single issuer, its performance could suffer significantly from adverse events affecting that issuer. o Junk bonds could make the fund more sensitive to market or economic shifts. o Certain derivatives could produce disproportionate losses. o In a down market, certain securities and derivatives could become harder to value or to sell at a fair price. -------------------------------------------------------------------------------- [GRAPHIC] YOUR EXPENSES Transaction expenses are charged directly to your account. Operating expenses are paid from the fund's assets, and therefore are paid by shareholders indirectly.
SHAREHOLDER TRANSACTION EXPENSES(1) CLASS A CLASS B CLASS C --------------------------------------------------- ------- ------- ------- Maximum front-end sales charge (load) on purchases as a % of purchase price 4.50% none none Maximum deferred sales charge (load) as a % of purchase or sale price, whichever is less none(2) 5.00% 1.00%
ANNUAL OPERATING EXPENSES CLASS A CLASS B CLASS C ------------------------------------- ------- ------- ------- Management fee 0.50% 0.50% 0.50% Distribution and service (12b-1) fees 0.30% 1.00% 1.00% Other expenses % % % Total fund operating expenses % % %
The hypothetical example below shows what your expenses would be if you invested $10,000 over the time frames indicated, assuming you reinvested all distributions and that the average annual return was 5%. The example is for comparison only, and does not represent the fund's actual expenses and returns, either past or future.
EXPENSES YEAR 1 YEAR 3 YEAR 5 YEAR 10 -------------------------- ------ ------ ------- ------- Class A $ $ $ 988 $ Class B with redemption $ $ $ 1,133 $ Class B without redemption $ $ $ 933 $ Class C with redemption $ $ $ 933 $ Class C without redemption $ $ $ 933 $
(1) A $4.00 FEE WILL BE CHARGED FOR WIRE REDEMPTIONS. (2) EXCEPT FOR INVESTMENTS OF $1 MILLION OR MORE; SEE "HOW SALES CHARGES ARE CALCULATED." -------------------------------------------------------------------------------- PORTFOLIO MANAGERS JAMES T. COLBY, III Joined fund team in 2003 DIANNE SALES, CFA Joined fund team in 1995 SEE PAGE 23 FOR THE MANAGEMENT BIOGRAPHIES. FUND CODES CLASS A Ticker JHMAX CUSIP 410229207 Newspaper MATxFA SEC number 811-5079 JH fund number 77 CLASS B Ticker JHMBX CUSIP 410229405 Newspaper -- SEC number 811-5079 JH fund number 177 CLASS C Ticker JMACX CUSIP 410229603 Newspaper -- SEC number 811-5079 JH fund number 577 9 NEW YORK TAX-FREE INCOME FUND [GRAPHIC] GOAL AND STRATEGY The fund seeks a high level of current income consistent with preservation of capital that is exempt from federal, New York State and New York City personal income taxes. In pursuing this goal, the fund normally invests at least 80% of its assets in securities of any maturity exempt from federal and New York personal income taxes. Most of these securities have credit ratings of A or higher when purchased, but the fund may invest up to 33.3% of assets in bonds rated as low as BB/Ba and their unrated equivalents. Bonds that are in or below the BB/Ba category are considered junk bonds. In managing the portfolio, the management team utilizes a strategy designed to find undervalued bonds, based on research into specific municipal issuers, their creditwor-thiness and the structure of their bonds. The team also assesses general credit trends and identifies promising market sectors to assist in the selection of such securities for long-term investment. Further, the team employs detailed analysis of an appropriate index to model portfolio performance and composition, then blends the macro assessment with the security analysis in a comprehensive disciplined process. The management team seeks an appropriate blend of general obligation and revenue bonds for the fund. Revenue bonds, which are repaid from income tied to specific facilities such as power plants, carry higher yields and may represent a larger percentage of the fund. The team also favors bonds with limitations on whether they can be called, or redeemed, by the issuer before maturity. This enables the team to minimize the effect of declining interest rates on the fund's income. The fund is non-diversified and may invest more than 5% of assets in securities of a single issuer. The fund may make limited use of certain derivatives (investments whose value is based on indexes or other securities), especially in managing its exposure to interest rate risk. In abnormal circumstances, the fund may temporarily invest more than 20% of its assets in taxable investment-grade short-term securities. In these and other cases, the fund might not achieve its goal. -------------------------------------------------------------------------------- [GRAPHIC] PAST PERFORMANCE The graph shows how the fund's total return has varied from year to year, while the table shows performance over time (along with a broad-based market index for reference). This information may help provide an indication of the fund's risks. The average annual figures reflect sales charges; the year-by-year and index figures do not, and would be lower if they did. The average annual total returns for Class C have been adjusted to reflect the elimination of the front-end sales charge effective July 15, 2004. All figures assume dividend reinvestment. Past performance before and after taxes does not indicate future results. CLASS A, TOTAL RETURNS 2004 RETURN AS OF 9-30-04: _______% BEST QUARTER: Q1 '95, 6.64% WORST QUARTER: Q1 `94, -5.54% CLASS A CALENDAR YEAR TOTAL RETURNS (WITHOUT SALES CHARGES) -------------------------------------------------------------------------------- [THE FOLLOWING TABLE WAS REPRESENTED BY A GRAPH IN THE PRINTED MATERIAL.] 1994 -6.48% 1995 17.09% 1996 3.65% 1997 9.50% 1998 6.28% 1999 -4.39% 2000 13.10% 2001 3.80% 2002 8.60% 2003 4.39% AFTER-TAX RETURNS After-tax returns are shown for Class A shares only and would be different for the other classes. They are calculated using the historical highest individual federal marginal income-tax rates and do not reflect the impact of state and local taxes. Actual after-tax returns depend on the investor's tax situation and may differ from those shown. The after-tax returns shown are not relevant to investors who hold their fund shares through tax-deferred arrangements such as 401(k) plans or individual retirement accounts. INDEX (reflects no fees or taxes) LEHMAN BROTHERS MUNICIPAL BOND INDEX, an unmanaged index of municipal bonds. AVERAGE ANNUAL TOTAL RETURNS (INCLUDING SALES CHARGE) FOR PERIODS ENDING 12-31-03 --------------------------------------------------------------------------------
LIFE OF LIFE OF 1 YEAR 5 YEAR 10 YEAR CLASS B CLASS C ------ ------ ------- ------- ------- Class A before tax -0.31% 3.97% 4.85% -- -- Class A after tax on distributions -0.31% 3.97% 4.82% -- -- Class A after tax on distributions, with sale 1.31% 4.07% 4.85% -- -- Class B before tax (began 10-3-96) -1.33% 3.87% -- 5.12% -- Class C before tax (began 4-1-99) 2.67% -- -- -- 4.41% ----- ---- ---- ---- ---- Lehman Brothers Municipal Bond Index 5.31% 5.83% 6.03% 6.53%* 5.95%
*AS OF 9-30-96. 10 [GRAPHIC] MAIN RISKS The major factors in this fund's performance are interest rates and credit risk. When interest rates rise, bond prices generally fall. Generally, an increase in the fund's average maturity will make it more sensitive to interest rate risk. There is no limit on the fund's average maturity. Because the fund invests primarily in New York issuers, its performance is affected by local, state and regional factors. These may include economic or policy changes, erosion of the tax base, state legislative changes (especially those affecting taxes) and the legacy of past credit problems of New York City and other issuers. The fund could lose money if any bonds it owns are downgraded in credit rating or go into default. In general, lower-rated bonds have higher credit risks. If certain sectors or investments do not perform as the fund expects, it could underperform its peers or lose money. To the extent that the fund invests in securities with additional risks, these risks could increase volatility or reduce performance: o Revenue bonds could be downgraded or go into default if revenues from their underlying facilities decline, causing the fund to lose money. o Junk bonds could make the fund more sensitive to market or economic shifts. o If the fund invests heavily in a single issuer, its performance could suffer sig-nificantly from adverse events affecting that issuer. o Certain derivatives could produce disproportionate losses. o In a down market, certain securities and derivatives could become harder to value or to sell at a fair price. -------------------------------------------------------------------------------- [GRAPHIC] YOUR EXPENSES Transaction expenses are charged directly to your account. Operating expenses are paid from the fund's assets, and therefore are paid by shareholders indirectly.
SHAREHOLDER TRANSACTION EXPENSES(1) CLASS A CLASS B CLASS C --------------------------------------------------- ------- ------- ------- Maximum front-end sales charge (load) on purchases as a % of purchase price 4.50% none none Maximum deferred sales charge (load) as a % of purchase or sale price, whichever is less none(2) 5.00% 1.00%
ANNUAL OPERATING EXPENSES CLASS A CLASS B CLASS C --------------------------------------------------- ------- ------- ------- Management fee 0.50% 0.50% 0.50% Distribution and service (12b-1) fees 0.30% 1.00% 1.00% Other expenses % % % Total fund operating expenses % % %
The hypothetical example below shows what your expenses would be if you invested $10,000 over the time frames indicated, assuming you reinvested all distributions and that the average annual return was 5%. The example is for comparison only, and does not represent the fund's actual expenses and returns, either past or future. EXPENSES YEAR 1 YEAR 3 YEAR 5 YEAR 10 --------------------------------- ------ ------ ------ ------- Class A $ $ $ $ Class B with redemption $ $ $ $ Class B without redemption $ $ $ $ Class C with redemption $ $ $ $ Class C without redemption $ $ $ $ (1) A $4.00 FEE WILL BE CHARGED FOR WIRE REDEMPTIONS. (2) EXCEPT FOR INVESTMENTS OF $1 MILLION OR MORE; SEE "HOW SALES CHARGES ARE CALCULATED." -------------------------------------------------------------------------------- PORTFOLIO MANAGERS JAMES T. COLBY, III Joined fund team in 2003 DIANNE SALES, CFA Joined fund team in 1995 SEE PAGE 23 FOR THE MANAGEMENT BIOGRAPHIES. FUND CODES CLASS A Ticker JHNYX CUSIP 410229306 Newspaper NYTxFA SEC number 811-5079 JH fund number 76 CLASS B Ticker JNTRX CUSIP 410229504 Newspaper -- SEC number 811-5079 JH fund number 176 CLASS C Ticker JNYCX CUSIP 410229702 Newspaper -- SEC number 811-5079 JH fund number 576 11 TAX-FREE BOND FUND [GRAPHIC] GOAL AND STRATEGY The fund seeks as high a level of interest income exempt from federal income tax as is consistent with preservation of capital. In pursuing this goal, the fund normally invests at least 80% of its assets in tax-exempt bonds of any maturity. Most of these bonds are investment-grade when purchased, but the fund may also invest up to 35% of assets in junk bonds rated BB/Ba or B and their unrated equivalents. In managing the portfolio, the management team utilizes a strategy designed to find undervalued bonds, based on research into specific municipal issuers, their creditwor-thiness and the structure of their bonds. The team also assesses general credit trends and identifies promising market sectors to assist in the selection of such securities for long-term investment. Further, the team employs detailed analysis of an appropriate index to model portfolio performance and composition, then blends the macro assessment with the security analysis in a comprehensive disciplined process. The management team seeks an appropriate blend of general obligation and revenue bonds for the fund. Revenue bonds, which are repaid from income tied to specific facilities such as power plants, carry higher yields and may represent a larger percentage of the fund. The fund may invest up to 25% of assets in private activity bonds. The management team also favors bonds with limitations on whether they can be called, or redeemed by the issuer before maturity. This enables the team to minimize the effect of declining interest rates on the fund's income. The fund may make limited use of certain derivatives (investments whose value is based on indexes or other securities), especially in managing its exposure to interest rate risk. In abnormal circumstances, the fund may temporarily invest more than 20% of its assets in taxable investment-grade short-term securities. In these and other cases, the fund might not achieve its goal. -------------------------------------------------------------------------------- [GRAPHIC] PAST PERFORMANCE The graph shows how the fund's total return has varied from year to year, while the table shows performance over time (along with a broad-based market index for reference). This information may help provide an indication of the fund's risks. The average annual figures reflect sales charges; the year-by-year and index figures do not, and would be lower if they did. The average annual total returns for Class C have been adjusted to reflect the elimination of the front-end sales charge effective July 15, 2004. All figures assume dividend reinvestment. Past performance before and after taxes does not indicate future results. CLASS A, TOTAL RETURNS 2004 RETURN AS OF 9-30-04: _______% BEST QUARTER: Q1 '95, 8.82% WORST QUARTER: Q1 `94, -7.06% CLASS A CALENDAR YEAR TOTAL RETURNS (WITHOUT SALES CHARGES) -------------------------------------------------------------------------------- [THE FOLLOWING TABLE WAS REPRESENTED BY A GRAPH IN THE PRINTED MATERIAL.] 1994 -9.26% 1995 20.22% 1996 4.15% 1997 9.81% 1998 5.50% 1999 -3.50% 2000 10.40% 2001 2.54% 2002 7.17% 2003 4.75% AFTER-TAX RETURNS After-tax returns are shown for Class A shares only and would be different for the other classes. They are calculated using the historical highest individual federal marginal income-tax rates and do not reflect the impact of state and local taxes. Actual after-tax returns depend on the investor's tax situation and may differ from those shown. The after-tax returns shown are not relevant to investors who hold their fund shares through tax-deferred arrangements such as 401(k) plans or individual retirement accounts. INDEX (REFLECTS NO FEES OR TAXES) LEHMAN BROTHERS MUNICIPAL BOND INDEX, an unmanaged index of municipal bonds. AVERAGE ANNUAL TOTAL RETURNS (INCLUDING SALES CHARGE) FOR PERIODS ENDING 12-31-03 --------------------------------------------------------------------------------
LIFE OF 1 YEAR 5 YEAR 10 YEAR CLASS C ------ ------ ------- ------- Class A before tax 0.01% 3.20% 4.42% -- Class A after tax on distributions 0.01% 3.19% 4.41% -- Class A after tax on distributions, with sale 1.68% 3.45% 4.52% -- Class B before tax -1.02% 3.06% 4.28% -- Class C before tax (began 4-1-99) 2.97% -- -- 3.44% ----- ---- ---- ---- Lehman Brothers Municipal Bond Index 5.31% 5.83% 6.03% 5.95%
12 MAIN RISKS The major factors in this fund's performance are interest rates and credit risk. When interest rates rise, bond prices generally fall. Generally, an increase in the fund's average maturity will make it more sensitive to interest rate risk. There is no limit on the fund's average maturity. Junk bonds may make the fund more sensitive to market or economic shifts. The fund could lose money if any bonds it owns are downgraded in credit rating or go into default. If certain sectors or investments do not perform as the fund expects, it could underperform its peers or lose money. To the extent that the fund invests in other securities with additional risks, these risks could increase volatility or reduce performance: o If the fund invests heavily in securities from a given state or region, its performance could be disproportionately affected by political or demographic factors in that state or region. o Revenue bonds could be downgraded or go into default if revenues from their underlying facilities decline, causing the fund to lose money. o Certain derivatives could produce disproportionate losses. o In a down market, certain securities and derivatives could become harder to value or to sell at a fair price. -------------------------------------------------------------------------------- [GRAPHIC] YOUR EXPENSES Transaction expenses are charged directly to your account. Operating expenses are paid from the fund's assets, and therefore are paid by shareholders indirectly.
SHAREHOLDER TRANSACTION EXPENSES(1) CLASS A CLASS B CLASS C --------------------------------------------------- ------- ------- ------- Maximum front-end sales charge (load) on purchases as a % of purchase price 4.50% none none Maximum deferred sales charge (load) as a % of purchase or sale price, whichever is less none(2) 5.00% 1.00%
ANNUAL OPERATING EXPENSES CLASS A CLASS B CLASS C --------------------------------------------------- ------- ------- ------- Management fee 0.54% 0.54% 0.54% Distribution and service (12b-1) fees 0.25% 1.00% 1.00% Other expenses % % % Total fund operating expenses % % %
The hypothetical example below shows what your expenses would be if you invested $10,000 over the time frames indicated, assuming you reinvested all distributions and that the average annual return was 5%. The example is for comparison only, and does not represent the fund's actual expenses and returns, either past or future. EXPENSES YEAR 1 YEAR 3 YEAR 5 YEAR 10 -------------------------- ------ ------ ------ ------- Class A $ $ $ $ Class B with redemption $ $ $ $ Class B without redemption $ $ $ $ Class C with redemption $ $ $ $ Class C without redemption $ $ $ $ (1) A $4.00 FEE WILL BE CHARGED FOR WIRE REDEMPTIONS. (2) EXCEPT FOR INVESTMENTS OF $1 MILLION OR MORE; SEE "HOW SALES CHARGES ARE CALCULATED." -------------------------------------------------------------------------------- PORTFOLIO MANAGERS JAMES T. COLBY, III Joined fund team in 2003 DIANNE SALES, CFA Joined fund team in 1995 SEE PAGE 23 FOR THE MANAGEMENT BIOGRAPHIES. FUND CODES CLASS A Ticker TAMBX CUSIP 41013Y104 Newspaper TFBdA SEC number 811-5968 JH fund number 52 CLASS B Ticker TSMBX CUSIP 41013Y203 Newspaper TFBdB SEC number 811-5968 JH fund number 152 CLASS C Ticker TBMBX CUSIP 41013Y609 Newspaper -- SEC number 811-5968 JH fund number 552 13 YOUR ACCOUNT -------------------------------------------------------------------------------- CHOOSING A SHARE CLASS Each share class has its own cost structure, including a Rule 12b-1 plan that allows it to pay fees for the sale, distribution and service of its shares. Your financial representative can help you decide which share class is best for you. CLASS A -------------------------------------------------------------------------------- o A front-end sales charge, as described below. o Distribution and service (12b-1) fees of 0.15% for California Tax-Free Income, 0.25% for High Yield Municipal Bond and Tax-Free Bond, and 0.30% for Massachusetts Tax-Free Income and New York Tax-Free Income. CLASS B -------------------------------------------------------------------------------- o No front-end sales charge; all your money goes to work for you right away. o Distribution and service (12b-1) fees of 1.00%. o A deferred sales charge, as described at right. o Automatic conversion to Class A shares after eight years, thus reducing future annual expenses. CLASS C -------------------------------------------------------------------------------- o No front-end sales charge; all your money goes to work for you right away. o Distribution and service (12b-1) fees of 1.00%. o A 1.00% contingent deferred sales charge on shares sold within one year of purchase. o No automatic conversion to Class A shares, so annual expenses continue at the Class C level throughout the life of your investment. INVESTORS PURCHASING $1 MILLION OR MORE OF CLASS B OR CLASS C SHARES MAY WANT TO CONSIDER THE LOWER OPERATING EXPENSES OF CLASS A SHARES. FOR ACTUAL PAST EXPENSES OF EACH SHARE CLASS, SEE THE FUND-BY-FUND INFORMATION EARLIER IN THIS PROSPECTUS. BECAUSE 12B-1 FEES ARE PAID ON AN ONGOING BASIS, THEY MAY COST SHAREHOLDERS MORE THAN OTHER TYPES OF SALES CHARGES. YOUR BROKER/DEALER RECEIVES A PERCENTAGE OF THESE SALES CHARGES AND FEES. IN ADDITION, JOHN HANCOCK FUNDS MAY PAY SIGNIFICANT COMPENSATION OUT OF ITS OWN RESOURCES TO YOUR BROKER/DEALER. YOUR BROKER/DEALER OR AGENT MAY CHARGE YOU A FEE TO EFFECT TRANSACTIONS IN FUND SHARES. -------------------------------------------------------------------------------- HOW SALES CHARGES ARE CALCULATED CLASS A Sales charges are as follows: CLASS A SALES CHARGES -------------------------------------------------------------------------------- AS A % OF AS A % OF YOUR YOUR INVESTMENT OFFERING PRICE(*) INVESTMENT ------------------- ----------------- -------------- Up to $99,999 4.50% 4.71% $100,000 - $249,999 3.75% 3.90% $250,000 - $499,999 3.00% 3.09% $500,000 - $999,999 2.00% 2.04% $1,000,000 and over See next column (*)OFFERING PRICE IS THE NET ASSET VALUE PER SHARE PLUS ANY INITIAL SALES CHARGE. You may qualify for a reduced Class A sales charge if you own or are purchasing Class A, Class B, Class C, Class I or Class R shares of John Hancock mutual funds. TO RECEIVE THE REDUCED SALES CHARGE, YOU MUST TELL YOUR BROKER OR FINANCIAL ADVISER AT THE TIME YOU PURCHASE A FUND'S CLASS A SHARES ABOUT ANY OTHER JOHN HANCOCK MUTUAL FUNDS HELD BY YOU, YOUR SPOUSE OR YOUR CHILDREN UNDER THE AGE OF 21. This includes investments held in a retirement account, an employee benefit plan or at a broker or finan-cial adviser other than the one handling your current purchase. John Hancock will credit the combined value, at the current offering price, of all eligible accounts to determine whether you qualify for a reduced sales charge on your current purchase. You may need to provide documentation for these accounts, such as an account statement. For more information about these reduced sales charges, you may visit the funds' Web site at www.jhfunds.com. You may also consult your broker or financial adviser, or refer to the section entitled "Initial Sales Charge on Class A Shares" in the funds' Statement of Additional Information. You may request a Statement of Additional Information from your broker or financial adviser, access the funds' Web site at www.jhfunds.com, or call 1-800-225-5291. INVESTMENTS OF $1 MILLION OR MORE Class A shares are available with no front-end sales charge. There is a contingent deferred sales charge (CDSC) on any Class A shares upon which a commission or finder's fee was paid that are sold within one year of purchase, as follows: CLASS A DEFERRED CHARGES ON $1 MILLION+ INVESTMENTS -------------------------------------------------------------------------------- CDSC ON SHARES YOUR INVESTMENT BEING SOLD -------------------------- -------------- First $1M - $4,999,999 1.00% Next $1 - $5M above that 0.50% Next $1 or more above that 0.25% FOR PURPOSES OF THIS CDSC, ALL PURCHASES MADE DURING A CALENDAR MONTH ARE COUNTED AS HAVING BEEN MADE ON THE FIRST DAY OF THAT MONTH. The CDSC is based on the lesser of the original purchase cost or the current market value of the shares being sold, and is not charged on shares you acquired by reinvesting your dividends. To keep your CDSC as low as possible, each time you place a request to sell shares, we will first sell any shares in your account that are not subject to a CDSC. CLASS B AND CLASS C Shares are offered at their net asset value per share, without any initial sales charge. A CDSC may be charged if a commission has been paid and you sell Class B or Class C shares within a certain time after you bought them, as described in the tables below. There is no CDSC on shares acquired through reinvestment of dividends. The CDSC is based on the original purchase cost or the current market value of the shares being sold, whichever is less. The CDSCs are as follows: 14 YOUR ACCOUNT CLASS B DEFERRED CHARGES -------------------------------------------------------------------------------- YEARS AFTER CDSC ON SHARES PURCHASE BEING SOLD -------------- -------------- 1st year 5.00% 2nd year 4.00% 3rd year 3.00% 4th year 3.00% 5th year 2.00% 6th year 1.00% After 6th year none CLASS C DEFERRED CHARGES -------------------------------------------------------------------------------- YEARS AFTER PURCHASE CDSC -------------------- ---- 1st year 1.00% After 1st year none FOR PURPOSES OF THESE CDSCS, ALL PURCHASES MADE DURING A CALENDAR MONTH ARE COUNTED AS HAVING BEEN MADE ON THE FIRST DAY OF THAT MONTH. To keep your CDSC as low as possible, each time you place a request to sell shares we will first sell any shares in your account that carry no CDSC. If there are not enough of these to meet your request, we will sell those shares that have the lowest CDSC. -------------------------------------------------------------------------------- SALES CHARGE REDUCTIONS AND WAIVERS REDUCING YOUR CLASS A SALES CHARGES There are several ways you can combine multiple purchases of Class A shares of John Hancock funds to take advantage of the breakpoints in the sales charge schedule. The first three ways can be combined in any manner. o Accumulation Privilege -- lets you add the value of any class of shares of any John Hancock funds you already own to the amount of your next Class A investment for the purpose of calculating the sales charge. However, Class A shares of money market funds will not qualify unless you have already paid a sales charge on those shares. o Letter of Intention -- lets you purchase Class A shares of a fund over a 13-month period and receive the same sales charge as if all shares had been purchased at once. You can use a Letter of Intention to qualify for reduced sales charges if you plan to invest at least $100,000 in a fund's Class A shares during the next 13 months. The calculation of this amount would include Accumulations and Combinations as well as your current holdings of all classes of John Hancock funds, which includes any reinvestment of dividends and capital gains distributions. However, Class A shares of money market funds will be excluded unless you have already paid a sales charge. When you sign this letter, the funds agree to charge you the reduced sales charges listed above. Completing a Letter of Intention does not obligate you to purchase additional shares. However, if you do not buy enough shares to qualify for the lower sales charges by the earlier of the end of the 13-month period or when you sell your shares, your sales charges will be recalculated to reflect your actual purchase level. Also available for retirement plan investors is a 48-month Letter of Intention, described in the SAI. o Combination Privilege -- lets you combine shares of all funds for purposes of calculating the Class A sales charge. TO UTILIZE ANY REDUCTION YOU MUST: COMPLETE THE APPROPRIATE SECTION OF YOUR APPLICATION, OR CONTACT YOUR FINANCIAL REPRESENTATIVE OR SIGNATURE SERVICES. CONSULT THE SAI FOR ADDITIONAL DETAILS (SEE THE BACK COVER OF THIS PROSPECTUS). GROUP INVESTMENT PROGRAM A group may be treated as a single purchaser under the accumulation and combination privileges. Each investor has an individual account, but the group's investments are lumped together for sales charge purposes, making the investors potentially eligible for reduced sales charges. There is no charge or obligation to invest (although initial investments must total at least $250), and individual investors may close their accounts at any time. TO UTILIZE THIS PROGRAM YOU MUST: CONTACT YOUR FINANCIAL REPRESENTATIVE OR SIGNATURE SERVICES TO FIND OUT HOW TO QUALIFY. CONSULT THE SAI FOR ADDITIONAL DETAILS (SEE THE BACK COVER OF THIS PROSPECTUS). CDSC WAIVERS As long as Signature Services is notified at the time you sell, the CDSC for each share class will generally be waived in the following cases: o to make payments through certain systematic withdrawal plans o certain retirement plans participating in Merrill Lynch or PruArray programs o redemptions pursuant to the fund's right to liquidate an account less than $1,000 o redemptions of Class A shares made after one year from the inception of a retirement plan at John Hancock o to make certain distributions from a retirement plan o because of shareholder death or disability TO UTILIZE THIS WAIVER YOU MUST: CONTACT YOUR FINANCIAL REPRESENTATIVE OR SIGNATURE SERVICES. CONSULT THE SAI FOR ADDITIONAL DETAILS (SEE THE BACK COVER OF THIS PROSPECTUS). REINSTATEMENT PRIVILEGE If you sell shares of a John Hancock fund, you may reinvest some or all of the proceeds in the same share class of any John Hancock fund within 120 days without a sales charge, as long as Signature Services is notified before you reinvest. If you paid a CDSC when you sold your shares, you will be credited with the amount of the CDSC. All accounts involved must have the same registration. TO UTILIZE THIS PRIVILEGE YOU MUST: CONTACT YOUR FINANCIAL REPRESENTATIVE OR SIGNATURE SERVICES. YOUR ACCOUNT 15 WAIVERS FOR CERTAIN INVESTORS Class A shares may be offered without front-end sales charges or CDSCs to various individuals and institutions, including: o selling brokers and their employees and sales representatives (and their Immediate Family, as defined in the SAI) o financial representatives utilizing fund shares in fee-based investment products under signed agreement with John Hancock Funds o fund trustees and other individuals who are affiliated with these or other John Hancock funds (and their Immediate Family, as defined in the SAI) o individuals transferring assets from an employee benefit plan into a John Hancock fund o participants in certain retirement plans with at least 100 eligible employees (one-year CDSC applies) o certain retirement plans participating in Merrill Lynch or PruArray programs TO UTILIZE A WAIVER YOU MUST: CONTACT YOUR FINANCIAL REPRESENTATIVE OR SIGNATURE SERVICES. CONSULT THE SAI FOR ADDITIONAL DETAILS (SEE THE BACK COVER OF THIS PROSPECTUS). OTHER WAIVERS Front-end sales charges and CDSCs are generally not imposed in connection with the following transactions: o exchanges from one John Hancock fund to the same class of any other John Hancock fund (see "Transactions Policies" in this prospectus for additional details) o dividend reinvestments (see "Dividends and Account Policies" in this prospectus for additional details) -------------------------------------------------------------------------------- OPENING AN ACCOUNT 1 Read this prospectus carefully. 2 Determine how much you want to invest. The minimum initial investments for the John Hancock funds are as follows: o non-retirement account: $1,000 o group investments: $250 o Monthly Automatic Accumulation Plan (MAAP): $25 to open; you must invest at least $25 a month 3 All shareholders must complete the account application, carefully following the instructions. When opening a CORPORATE ACCOUNT, you must submit: (1) a new account application; (2) a corporate business/organization resolution certified within the past 12 months or a John Hancock Funds business/organization certification form; and (3) articles of incorporation or a government-issued business license. When opening a TRUST ACCOUNT, you must submit: (1) a new account application and (2) a copy of the trust document certified within the past 12 months. You must notify your financial representative or Signature Services if this information changes. Signature Services reserves the right to require additional documentation prior to opening any account. For more details, please contact your financial representative or call Signature Services at 1-800-225-5291. 4 Complete the appropriate parts of the account privileges application. By applying for privileges now, you can avoid the delay and inconvenience of having to file an additional application if you want to add privileges later. 5 Make your initial investment using the table on the next page. You and your financial representative can initiate any purchase, exchange or sale of shares. 16 YOUR ACCOUNT BUYING SHARES --------------------------------------------------------------------------------
OPENING AN ACCOUNT ADDING TO AN ACCOUNT ------------------------------------------------------- -------------------------------------------------------- BY CHECK [GRAPHIC] o Make out a check for the investment amount, payable o Make out a check for the investment amount payable to "John Hancock Signature Services, Inc." to "John Hancock Signature Services, Inc." o Deliver the check and your completed application to o Fill out the detachable investment slip from an your financial representative, or mail them to account statement. If no slip is available, include Signature Services (address below). a note specifying the fund name, your share class, your account number and the name(s) in which the account is registered. o Deliver the check and your investment slip or note to your financial representative, or mail them to Signature Services (address below). BY EXCHANGE [GRAPHIC] o Call your financial representative or Signature o Log on to www.jhfunds.com to process exchanges Services to request an exchange. between funds. o Call EASI-Line for automated service 24 hours a day using your touch tone phone at 1-800-338-8080. o Call your financial representative or Signature Services to request an exchange. BY WIRE [GRAPHIC] o Deliver your completed application to your o Instruct your bank to wire the amount of your financial representative, or mail it to Signature investment to: Services. First Signature Bank & Trust Account # 900000260 o Obtain your account number by calling your Routing # 211475000 financial representative or Signature Services. o Instruct your bank to wire the amount of your Specify the fund name, your share class, your account investment to: number and the name(s) in which the account is First Signature Bank & Trust registered. Your bank may charge a fee to wire funds. Account # 900000260 Routing # 211475000 Specify the fund name, your choice of share class, the new account number and the name(s) in which the account is registered. Your bank may charge a fee to wire funds. BY INTERNET [GRAPHIC] See "By exchange" and "By wire." o Verify that your bank or credit union is a member of the Automated Clearing House (ACH) system. o Complete the "Bank Information" section on your account application. o Log on to www.jhfunds.com to initiate purchases using your authorized bank account. BY PHONE [GRAPHIC] See "By exchange" and "By wire." o Verify that your bank or credit union is a member of the Automated Clearing House (ACH) system. o Complete the "Bank Information" section on your account application. o Call EASI-Line for automated service 24 hours a day using your touch-tone phone at 1-800-338-8080. o Call your financial representative or call Signature Services between 8 A.M. and 7 P.M. Eastern Time on most business days. TO OPEN OR ADD TO AN ACCOUNT USING THE MONTHLY AUTOMATIC ACCUMULATION PROGRAM, SEE "ADDITIONAL INVESTOR SERVICES."
ADDRESS: John Hancock Signature Services, Inc. 1 John Hancock Way, Suite 1000 Boston, MA 02217-1000 PHONE NUMBER: 1-800-225-5291 Or contact your financial representative for instructions and assistance. YOUR ACCOUNT 17 SELLING SHARES --------------------------------------------------------------------------------
TO SELL SOME OR ALL OF YOUR SHARES -------------------------------------------------------- BY LETTER [GRAPHIC] o Accounts of any type. o Write a letter of instruction or complete a stock power indicating the fund name, your share class, o Sales of any amount. your account number, the name(s) in which the account is registered and the dollar value or number of shares you wish to sell. o Include all signatures and any additional documents that may be required (see next page). o Mail the materials to Signature Services. o A check will be mailed to the name(s) and address in which the account is registered, or otherwise according to your letter of instruction. BY INTERNET [GRAPHIC] o Most accounts. o Log on to www.jhfunds.com to initiate redemptions from your funds. o Sales of up to $100,000. BY PHONE [GRAPHIC] o Most accounts. o Call EASI-Line for automated service 24 hours a day using your touch-tone phone at 1-800-338-8080. o Sales of up to $100,000. o Call your financial representative or call Signature Services between 8 A.M. and 7 P .M. Eastern Time on most business days. BY WIRE OR ELECTRONIC FUNDS TRANSFER (EFT) [GRAPHIC] o Requests by letter to sell any amount. o To verify that the Internet or telephone redemption privilege is in place on an account, or o Requests by Internet or phone to sell up to to request the form to add it to an existing $100,000. account, call Signature Services. o Amounts of $1,000 or more will be wired on the next business day. A $4 fee will be deducted from your account. o Amounts of less than $1,000 may be sent by EFT or by check. Funds from EFT transactions are generally available by the second business day. Your bank may charge a fee for this service. BY EXCHANGE [GRAPHIC] o Accounts of any type. o Obtain a current prospectus for the fund into which you are exchanging by Internet or by calling your o Sales of any amount. financial representative or Signature Services. o Log on to www.jhfunds.com to process exchanges between your funds. o Call EASI-Line for automated service 24 hours a day using your touch-tone phone at 1-800-338-8080. o Call your financial representative or Signature Services to request an exchange.
TO SELL SHARES THROUGH A SYSTEMATIC WITHDRAWAL PLAN, SEE "ADDITIONAL INVESTOR SERVICES." 18 YOUR ACCOUNT SELLING SHARES IN WRITING In certain circumstances, you will need to make your request to sell shares in writing. You may need to include additional items with your request, unless they were previously provided to Signature Services and are still accurate. These items are shown in the table below. You may also need to include a signature guarantee, which protects you against fraudulent orders. You will need a signature guarantee if: o your address of record has changed within the past 30 days o you are selling more than $100,000 worth of shares o you are requesting payment other than by a check mailed to the address of record and payable to the registered owner(s) You will need to obtain your signature guarantee from a member of the Signature Guarantee Medallion Program. Most brokers and securities dealers are members of this program. A notary public CANNOT provide a signature guarantee.
SELLER REQUIREMENTS FOR WRITTEN REQUESTS ------------------------------------------------------------ ----------------------------------------------------------- Owners of individual, joint or UGMA/UTMA accounts (custodial o Letter of instruction. accounts for minors). o On the letter, the signatures of all persons authorized to sign for the account, exactly as the account is registered. o Signature guarantee if applicable (see above). Owners of corporate, sole proprietorship, general partner or o Letter of instruction. association accounts. o Corporate business/organization resolution, certified within the past 12 months, or a John Hancock Funds business/ organization certification form. o On the letter and the resolution, the signature of the person(s) authorized to sign for the account. o Signature guarantee if applicable (see above). Owners or trustees of trust accounts. o Letter of instruction. o On the letter, the signature(s) of the trustee(s). o Copy of the trust document certified within the past 12 months, or a John Hancock Funds trust certification form. o Signature guarantee if applicable (see above). Joint tenancy shareholders with rights of survivorship whose o Letter of instruction signed by surviving tenant. co-tenants are deceased. o Copy of death certificate. o Signature guarantee if applicable (see above). Executors of shareholder estates. o Letter of instruction signed by executor. o Copy of order appointing executor, certified within the past 12 months. o Signature guarantee if applicable (see above). Administrators, conservators, guardians and other sellers or o Call 1-800-225-5291 for instructions. account types not listed above.
ADDRESS: John Hancock Signature Services, Inc. 1 John Hancock Way, Suite 1000 Boston, MA 02217-1000 PHONE NUMBER: 1-800-225-5291 Or contact your financial representative for instructions and assistance. YOUR ACCOUNT 19 -------------------------------------------------------------------------------- TRANSACTION POLICIES VALUATION OF SHARES The net asset value (NAV) per share for each fund and class is determined each business day at the close of regular trading on the New York Stock Exchange (typically 4 P.M. Eastern Time). The funds use market prices in valuing portfolio securities, but may use fair-value estimates if reliable market prices are unavailable. BUY AND SELL PRICES When you buy shares, you pay the NAV plus any applicable sales charges, as described earlier. When you sell shares, you receive the NAV minus any applicable deferred sales charges. EXECUTION OF REQUESTS Each fund is open on those days when the New York Stock Exchange is open, typically Monday through Friday. Buy and sell requests are executed at the next NAV to be calculated after Signature Services receives your request in good order. At times of peak activity, it may be difficult to place requests by phone. During these times, consider using EASI-Line, accessing www.jhfunds.com, or sending your request in writing. In unusual circumstances, any fund may temporarily suspend the processing of sell requests, or may postpone payment of proceeds for up to three business days or longer, as allowed by federal securities laws. TELEPHONE TRANSACTIONS For your protection, telephone requests may be recorded in order to verify their accuracy. Also for your protection, telephone redemption transactions are not permitted on accounts whose names or addresses have changed within the past 30 days. Proceeds from telephone transactions can only be mailed to the address of record. EXCHANGES You may exchange shares of one John Hancock fund for shares of the same class of any other, generally without paying any additional sales charges. The registration for both accounts involved must be identical. Class B and Class C shares will continue to age from the original date and will retain the same CDSC rate. A CDSC rate that has increased will drop again with a future exchange into a fund with a lower rate. A fund may change or cancel its exchange policies at any time, upon 60 days' notice to its shareholders. For further details, see "Additional Services and Programs" in the SAI (see the back cover of this prospectus). EXCESSIVE TRADING The funds are intended for long-term investment purposes only and do not knowingly accept shareholders who engage in "market timing" or other types of excessive short-term trading. Short-term trading into and out of a fund can disrupt portfolio investment strategies and may increase fund expenses for all shareholders, including long-term shareholders who do not generate these costs. The funds reserve the right to reject any purchase request by any investor or group of investors for any reason without prior notice, including, in particular, if a fund reasonably believes that the trading activity in the account(s) would be disruptive to the fund. For example, a fund may refuse a purchase order if the fund's adviser believes that it would be unable to invest the money effectively in accordance with the fund's investment policies or the fund would otherwise be adversely affected due to the size of the transaction, frequency of trading or other factors. A fund and/or its service providers currently undertake a variety of measures designed to help detect market timing activity including monitoring shareholder transaction activity and cash flows. The trading history of accounts under common ownership or control may be considered in enforcing these policies. Despite these measures, however, the fund and/or its service providers may not be able to detect or prevent all instances of short-term trading. For example, a fund may not have sufficient information regarding the beneficial ownership of shares owned through financial intermediaries or other omnibus-type account arrangements to enforce these policies. ACCOUNT INFORMATION John Hancock Funds is required by law to obtain information for verifying an account holder's identity. For example, an individual will be required to supply name, address, date of birth and social security number. If you do not provide the required information, we may not be able to open your account. If verification is unsuccessful, John Hancock Funds may close your account, redeem your shares at the next NAV minus any applicable sales charges and take other steps that it deems reasonable. CERTIFICATED SHARES The funds no longer issue share certifi-cates. Shares are electronically recorded. Any existing certificated shares can only be sold by returning the certificated shares to Signature Services, along with a letter of instruction or a stock power and a signature guarantee. SALES IN ADVANCE OF PURCHASE PAYMENTS When you place a request to sell shares for which the purchase money has not yet been collected, the request will be executed in a timely fashion, but the fund will not release the proceeds to you until your purchase payment clears. This may take up to ten business days after the purchase. ELIGIBILITY BY STATE You may only invest in, or exchange into, fund shares legally available in your state. -------------------------------------------------------------------------------- DIVIDENDS AND ACCOUNT POLICIES ACCOUNT STATEMENTS In general, you will receive account statements as follows: o after every transaction (except a dividend reinvestment, automatic investment or systematic withdrawal) that affects your account balance o after any changes of name or address of the registered owner(s) o in all other circumstances, every quarter Every year you should also receive, if applicable, a Form 1099 tax information statement, mailed by January 31. 20 YOUR ACCOUNT DIVIDENDS The funds generally declare dividends daily and pay them monthly. Capital gains, if any, are distributed annually, typically after the end of a fund's fiscal year. Most of these funds' dividends are income dividends. Your dividends begin accruing the day after payment is received by the fund and continue through the day your shares are actually sold. DIVIDEND REINVESTMENTS Most investors have their dividends reinvested in additional shares of the same fund and class. If you choose this option, or if you do not indicate any choice, your dividends will be reinvested on the dividend record date. Alternatively, you can choose to have a check for your dividends and capital gains in the amount of more than $10 mailed to you. However, if the check is not deliverable or the combined dividend and capital gains amount is $10 or less, your proceeds will be reinvested. If five or more of your dividend or capital gains checks remain uncashed after 180 days, all subsequent dividends and capital gains will be reinvested. No front-end sales charge or CDSC will be imposed on shares derived from reinvestment of dividends or capital gains distributions. TAXABILITY OF DIVIDENDS Each fund intends to meet certain federal tax requirements so that distributions of the tax-exempt interest it earns may be treated as "exempt-interest dividends." However, any portion of exempt-interest dividends attributable to interest on private activity bonds may increase certain shareholders' alternative minimum tax. Dividends from a fund's short-term capital gains are taxable as ordinary income. Dividends from a fund's long-term capital gains are taxable at a lower rate. Whether gains are short-term or long-term depends on the fund's holding period. Taxable dividends paid in January may be taxable as if they had been paid the previous December. The state tax-free income funds intend to comply with certain state tax requirements so that their income dividends will generally be exempt from state and local personal income taxes in the applicable state. Dividends of the other tax-free income funds are generally not exempt from state and local income taxes. The tax information that is mailed to you every January details your dividends and their federal tax category, although you should verify your tax liability with your tax professional. TAXABILITY OF TRANSACTIONS Any time you sell or exchange shares, it is considered a taxable event for you. Depending on the purchase price and the sale price of the shares you sell or exchange, you may have a gain or a loss on the transaction. You are responsible for any tax liabilities generated by your transactions. SMALL ACCOUNTS (NON-RETIREMENT ONLY) If you draw down a non-retirement account so that its total value is less than $1,000, you may be asked to purchase more shares within 30 days. If you do not take action, your fund may close out your account and mail you the proceeds. Alternatively, your fund may charge you $20 a year to maintain your account. You will not be charged a CDSC if your account is closed for this reason. Your account will not be closed or charged this fee if its drop in value is due to fund performance or the effects of sales charges. If your account balance is $100 or less and no action is taken, the account will be liquidated. -------------------------------------------------------------------------------- ADDITIONAL INVESTOR SERVICES MONTHLY AUTOMATIC ACCUMULATION PROGRAM (MAAP) MAAP lets you set up regular investments from your paycheck or bank account to the John Hancock fund(s) of your choice. You determine the frequency and amount of your investments, and you can terminate your program at any time. To establish: o Complete the appropriate parts of your account application. o If you are using MAAP to open an account, make out a check ($25 minimum) for your first investment amount payable to "John Hancock Signature Services, Inc." Deliver your check and application to your financial representative or Signature Services. SYSTEMATIC WITHDRAWAL PLAN This plan may be used for routine bill payments or periodic withdrawals from your account. To establish: o Make sure you have at least $5,000 worth of shares in your account. o Make sure you are not planning to invest more money in this account (buying shares during a period when you are also selling shares of the same fund is not advantageous to you, because of sales charges). o Specify the payee(s). The payee may be yourself or any other party, and there is no limit to the number of payees you may have, as long as they are all on the same payment schedule. o Determine the schedule: monthly, quarterly, semiannually, annually or in certain selected months. o Fill out the relevant part of the account application. To add a systematic withdrawal plan to an existing account, contact your financial representative or Signature Services. RETIREMENT PLANS John Hancock Funds offers a range of retirement plans, including traditional, Roth IRAs, Coverdell ESAs, SIMPLE plans and SEPs. Using these plans, you can invest in any John Hancock fund (except tax-free income funds) with a low minimum investment of $250 or, for some group plans, no minimum investment at all. Because of certain tax implications, tax-free income funds are not appropriate investments for quali-fied retirement plans. To find out more, call Signature Services at 1-800-225-5291. FUND SECURITIES The funds' portfolio securities disclosure policy can be found in the Statement of Additional Information and on the funds' Web site, www.jhfunds.com. The funds' Web site also lists fund holdings. YOUR ACCOUNT 21 FUND DETAILS -------------------------------------------------------------------------------- BUSINESS STRUCTURE The diagram below shows the basic business structure used by the John Hancock tax-free income funds. Each fund's board of trustees oversees the fund's business activities and retains the services of the various firms that carry out the fund's operations. The trustees of the Massachusetts Tax-Free Income and New York Tax-Free Income funds have the power to change these funds' respective investment goals without shareholder approval. MANAGEMENT FEES The management fees paid to the investment adviser by the John Hancock tax-free income funds last fiscal year are as follows: FUND % OF NET ASSETS ---------------------------------- --------------- California Tax-Free Income Fund 0.55% High Yield Municipal Bond Fund 0.60% Massachusetts Tax-Free Income Fund 0.50% New York Tax-Free Income Fund 0.50% Tax-Free Bond Fund 0.54% [GRAPHIC] 22 FUND DETAILS -------------------------------------------------------------------------------- MANAGEMENT BIOGRAPHIES Below is an alphabetical list of the portfolio managers for the John Hancock tax-free income funds. It is a brief summary of their business careers over the past five years. JAMES T. COLBY, III ------------------------------------------ Joined John Hancock Advisers in 2003 Vice president Old Harbor Capital Management, LLC (2000-2003) Evergreen Investment Management (1992-2000) Began business career in 1980 DIANNE SALES, CFA ------------------------------------------ Joined John Hancock Advisers in 1989 Vice president Began business career in 1984 YOUR ACCOUNT 23 -------------------------------------------------------------------------------- FINANCIAL HIGHLIGHTS These tables detail the performance of each fund's share classes, including total return information showing how much an investment in the fund has increased or decreased each year. CALIFORNIA TAX-FREE INCOME FUND FIGURES AUDITED BY
CLASS A SHARES PERIOD ENDED: 8-31-00 8-31-01 8-31-02(1),(2) 8-31-03 8-31-04 -------------------------------------------------------- ------- ------- -------------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 10.65 $ 10.69 $ 11.11 $ 11.06 Net investment income(3) 0.56 0.54 0.54 0.53 Net realized and unrealized gain (loss) on investments 0.04 0.42 (0.06) (0.47) TOTAL FROM INVESTMENT OPERATIONS 0.60 0.96 0.48 0.06 LESS DISTRIBUTIONS From net investment income (0.56) (0.54) (0.53) (0.52) NET ASSET VALUE, END OF PERIOD $ 10.69 $ 11.11 $ 11.06 $ 10.60 TOTAL RETURN(4)(%) 5.93(5) 9.26(5) 4.52(5) 0.48 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 306 $ 331 $ 347 $ 308 Ratio of expenses to average net assets (%) 0.75 0.80 0.84 0.84 Ratio of adjusted expenses to average net assets(6)(%) 0.84 0.82 0.84 -- Ratio of net investment income to average net assets (%) 5.39 5.01 4.95 4.79 Portfolio turnover (%) 11 14 15 18
CLASS B SHARES PERIOD ENDED: 8-31-00(1) 8-31-01(1) 8-31-02(1),(2) 8-31-03 8-31-04 -------------------------------------------------------- ---------- ---------- -------------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 10.65 $ 10.69 $ 11.11 $ 11.06 Net investment income(3) 0.48 0.46 0.45 0.44 Net realized and unrealized gain (loss) on investments 0.04 0.42 (0.06) (0.47) TOTAL FROM INVESTMENT OPERATIONS 0.52 0.88 0.39 (0.03) LESS DISTRIBUTIONS From net investment income (0.48) (0.46) (0.44) (0.43) NET ASSET VALUE, END OF PERIOD $ 10.69 $ 11.11 $ 11.06 $ 10.60 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- TOTAL RETURN(4)(%) 5.14(5) 8.45(5) 3.67(5) (0.37) Net assets, end of period (in millions) $ 81 $ 80 $ 65 $ 55 Ratio of expenses to average net assets (%) 1.50 1.55 1.65 1.69 Ratio of adjusted expenses to average net assets(6)(%) 1.69 1.67 1.69 -- Ratio of net investment income to average net assets (%) 4.64 4.26 4.14 3.95 Portfolio turnover (%) 11 14 15 18
24 FUND DETAILS
CLASS C SHARES PERIOD ENDED: 8-31-00 8-31-01 8-31-02(2) 8-31-03(2) 8-31-04 -------------------------------------------------------- ------- ------- ---------- ---------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 10.65 $ 10.69 $ 11.11 $ 11.06 Net investment income(3) 0.47 0.45 0.45 0.43 Net realized and unrealized gain (loss) on investments 0.04 0.42 (0.06) (0.47) TOTAL FROM INVESTMENT OPERATIONS 0.51 0.87 0.39 (0.04) LESS DISTRIBUTIONS From net investment income (0.47) (0.45) (0.44) (0.42) NET ASSET VALUE, END OF PERIOD $ 10.69 $ 11.11 $ 11.06 $ 10.60 TOTAL RETURN(4)(%) 5.03(5) 8.34(5) 3.64(5) (0.37) RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 3 $ 4 $ 8 $ 9 Ratio of expenses to average net assets (%) 1.60 1.65 1.69 1.69 Ratio of adjusted expenses to average net assets(6)(%) 1.69 1.67 1.69 -- Ratio of net investment income to average net assets (%) 4.54 4.16 4.10 3.93 Portfolio turnover (%) 11 14 15 18
(1) AUDITED BY PREVIOUS AUDITOR, ERNST & YOUNG LLP. (2) AS REQUIRED, EFFECTIVE 9-1-01 THE FUND HAS ADOPTED THE PROVISIONS OF THE AICPA AUDIT AND ACCOUNTING GUIDE FOR INVESTMENT COMPANIES, AS REVISED, RELATING TO THE AMORTIZATION OF PREMIUMS AND ACCRETION OF DISCOUNTS ON DEBT SECURITIES. THE EFFECT OF THIS CHANGE FOR THE YEAR ENDED 8-31-02 WAS TO INCREASE NET INVESTMENT INCOME PER SHARE BY $0.01, INCREASE NET REALIZED AND UNREALIZED LOSSES PER SHARE BY $0.01 AND, HAD THE FUND NOT MADE THESE CHANGES TO AMORTIZATION AND ACCRETION, THE RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS WOULD HAVE BEEN 4.88%, 4.07% AND 4.03% FOR CLASS A, CLASS B AND CLASS C SHARES, RESPECTIVELY. PER SHARE RATIOS AND SUPPLEMENTAL DATA FOR PERIODS PRIOR TO 9-1-01 HAVE NOT BEEN RESTATED TO REFLECT THIS CHANGE IN PRESENTATION. (3) BASED ON THE AVERAGE OF THE SHARES OUTSTANDING. (4) ASSUMES DIVIDEND REINVESTMENT AND DOES NOT REFLECT THE EFFECT OF SALES CHARGES. (5) TOTAL RETURNS WOULD HAVE BEEN LOWER HAD CERTAIN EXPENSES NOT BEEN REDUCED DURING THE PERIODS SHOWN. (6) DOES NOT TAKE INTO CONSIDERATION EXPENSE REDUCTIONS DURING THE PERIODS SHOWN. (7) CLASS C SHARES BEGAN OPERATIONS ON 4-1-99. -------------------------------------------------------------------------------- THE FOLLOWING RETURNS ARE NOT AUDITED AND ARE NOT PART OF THE AUDITED FINANCIAL HIGHLIGHTS PRESENTED ABOVE: WITHOUT THE EXPENSE REDUCTIONS, RETURNS FOR THE PERIODS OR YEARS ENDED AUGUST 31, 2000, 2001, 2002 AND 2003 FOR CLASS A SHARES WOULD HAVE BEEN 5.84%, 9.24%, 4.52% AND ___%, FOR CLASS B SHARES WOULD HAVE BEEN 4.95%, 8.33%, 3.63% AND ___%, AND FOR CLASS C SHARES WOULD HAVE BEEN 4.94%, 8.32%, 3.64% AND ___%, RESPECTIVELY. FUND DETAILS 25 HIGH YIELD MUNICIPAL BOND FUND FIGURES AUDITED BY
CLASS A SHARES PERIOD ENDED: 8-31-00(1) 8-31-01(1) 8-31-02(1),(2) 8-31-03 8-31-04 -------------------------------------------------------- ---------- ---------- -------------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 9.03 $ 8.60 $ 8.82 $ 8.43 Net investment income(3) 0.53 0.52 0.53 0.51 Net realized and unrealized gain (loss) on investments (0.43) 0.22 (0.40) (0.29) TOTAL FROM INVESTMENT OPERATIONS 0.10 0.74 0.13 0.22 LESS DISTRIBUTIONS From net investment income (0.53) (0.52) (0.52) (0.51) NET ASSET VALUE, END OF PERIOD $ 8.60 $ 8.82 $ 8.43 $ 8.14 TOTAL RETURN(4),(5)(%) 1.24 8.88 1.56 2.63 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 47 $ 59 $ 74 $ 71 Ratio of expenses to average net assets (%) 1.05 1.05 1.08 1.09 Ratio of adjusted expenses to average net assets(6)(%) 1.08 1.08 1.09 1.11 Ratio of net investment income to average net assets (%) 6.08 6.00 6.26 6.16 Portfolio turnover (%) 31 49 52 35
CLASS B SHARES PERIOD ENDED: 8-31-00(1) 8-31-01(1) 8-31-02(1) 8-31-03(1),(2) 8-31-04 -------------------------------------------------------- ---------- ---------- ---------- -------------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 9.03 $ 8.60 $ 8.82 $ 8.43 Net investment income(3) 0.46 0.46 0.46 0.45 Net realized and unrealized gain (loss) on investments (0.43) 0.22 (0.40) (0.30) TOTAL FROM INVESTMENT OPERATIONS 0.03 0.68 0.06 0.15 LESS DISTRIBUTIONS From net investment income (0.46) (0.46) (0.45) (0.44) NET ASSET VALUE, END OF PERIOD $ 8.60 $ 8.82 $ 8.43 $ 8.14 TOTAL RETURN(4),(5)(%) 0.49 8.12 0.81 1.87 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 81 $ 65 $ 46 $ 37 Ratio of expenses to average net assets (%) 1.79 1.76 1.83 1.84 Ratio of adjusted expenses to average net assets(6)(%) 1.82 1.79 1.84 1.86 Ratio of net investment income to average net assets (%) 5.34 5.30 5.51 5.41 Portfolio turnover (%) 31 49 52 35
26 FUND DETAILS
CLASS C SHARES PERIOD ENDED: 8-31-00(1) 8-31-01(1) 8-31-02(1),(2) 8-31-03 8-31-04 -------------------------------------------------------- ---------- ---------- -------------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 9.03 $ 8.60 $ 8.82 $ 8.43 Net investment income(3) 0.46 0.45 0.46 0.44 Net realized and unrealized gain (loss) on investments (0.43) 0.22 (0.40) (0.29) TOTAL FROM INVESTMENT OPERATIONS 0.03 0.67 0.06 0.15 LESS DISTRIBUTIONS From net investment income (0.46) (0.45) (0.45) (0.44) NET ASSET VALUE, END OF PERIOD $ 8.60 $ 8.82 $ 8.43 $ 8.14 TOTAL RETURN(4),(5)(%) 0.48 8.07 0.81 1.87 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 1 $ 2 $ 4 $ 6 Ratio of expenses to average net assets (%) 1.80 1.80 1.83 1.84 Ratio of adjusted expenses to average net assets(6)(%) 1.83 1.83 1.84 1.86 Ratio of net investment income to average net assets (%) 5.33 5.25 5.51 5.38 Portfolio turnover (%) 31 49 52 35
(1) AUDITED BY PREVIOUS AUDITOR, ERNST & YOUNG LLP. (2) AS REQUIRED, EFFECTIVE 9-1-01 THE FUND HAS ADOPTED THE PROVISIONS OF THE AICPA AUDIT AND ACCOUNTING GUIDE FOR INVESTMENT COMPANIES, AS REVISED, RELATING TO THE AMORTIZATION OF PREMIUMS AND ACCRETION DISCOUNTS ON DEBT SECURITIES. THE EFFECT OF THIS CHANGE ON PER SHARE AMOUNTS FOR THE YEAR ENDED 8-31-02 WAS TO INCREASE NET INVESTMENT INCOME PER SHARE BY $0.01, INCREASE NET REALIZED AND UNREALIZED LOSSES PER SHARE BY $0.01 AND, HAD THE FUND NOT MADE THESE CHANGES TO AMORTIZATION AND ACCRETION, THE RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS WOULD HAVE BEEN 6.17%, 5.42% AND 5.42% FOR CLASS A, CLASS B AND CLASS C SHARES, RESPECTIVELY. PER SHARE RATIOS AND SUPPLEMENTAL DATA FOR PERIODS PRIOR TO 9-1-01 HAVE NOT BEEN RESTATED TO REFLECT THIS CHANGE IN PRESENTATION. (3) BASED ON THE AVERAGE OF THE SHARES OUTSTANDING. (4) ASSUMES DIVIDEND REINVESTMENT AND DOES NOT REFLECT THE EFFECT OF SALES CHARGES. (5) TOTAL RETURNS WOULD HAVE BEEN LOWER HAD CERTAIN EXPENSES NOT BEEN REDUCED DURING THE PERIODS SHOWN. (6) DOES NOT TAKE INTO CONSIDERATION EXPENSE REDUCTIONS DURING THE PERIODS SHOWN. (7) CLASS C SHARES BEGAN OPERATIONS ON 4-1-99. (8) NOT ANNUALIZED. -------------------------------------------------------------------------------- THE FOLLOWING RETURNS ARE NOT AUDITED AND ARE NOT PART OF THE AUDITED FINANCIAL HIGHLIGHTS PRESENTED ABOVE: WITHOUT THE EXPENSE REDUCTIONS, RETURNS FOR THE PERIODS OR YEARS ENDED AUGUST 31, 2000, 2001, 2002, 2003 AND 2004 FOR CLASS A SHARES WOULD HAVE BEEN 1.21% , 8.85%, 1.55%, 2.61% AND ___%, FOR CLASS B SHARES WOULD HAVE BEEN 0.46%, 8.09%, 0.80%, 1.85% AND ___%, AND FOR CLASS C SHARES WOULD HAVE BEEN 0.45%, 8.04%, 0.80%, 1.85% AND ___%, RESPECTIVELY. FUND DETAILS 27 MASSACHUSETTS TAX-FREE INCOME FUND FIGURES AUDITED BY
CLASS A SHARES PERIOD ENDED: 8-31-00 8-31-01 8-31-02 8-31-03 8-31-04 -------------------------------------------------------- ------- ------- ------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 11.85 $ 11.80 $ 12.41 $ 12.50 Net investment income(2) 0.64 0.59 0.58 0.57 Net realized and unrealized gain (loss) on investments (0.05) 0.61 0.08 (0.13) TOTAL FROM INVESTMENT OPERATIONS 0.59 1.20 0.66 0.44 LESS DISTRIBUTIONS From net investment income (0.64) (0.59) (0.57) (0.56) NET ASSET VALUE, END OF PERIOD $ 11.80 $ 12.41 $ 12.50 $ 12.38 TOTAL RETURN(3),(4)(%) 5.16 10.44 5.54 3.57 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 60 $ 63 $ 65 $ 66 Ratio of expenses to average net assets (%) 0.77 0.97 1.03 1.02 Ratio of adjusted expenses to average net assets(5)(%) 1.09 1.05 1.03 1.02 Ratio of net investment income to average net assets (%) 5.54 4.90 4.72 4.54 Portfolio turnover (%) 19 17 15 13
CLASS B SHARES PERIOD ENDED: 8-31-00 8-31-01 8-31-02 8-31-03 8-31-04 -------------------------------------------------------- ------- ------- ------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 11.85 $ 11.80 $ 12.41 $ 12.50 Net investment income(2) 0.56 0.51 0.50 0.49 Net realized and unrealized gain (loss) on investments (0.05) 0.61 0.08 (0.13) TOTAL FROM INVESTMENT OPERATIONS 0.51 1.12 0.58 0.36 LESS DISTRIBUTIONS From net investment income (0.56) (0.51) (0.49) (0.48) NET ASSET VALUE, END OF PERIOD $ 11.80 $ 12.41 $ 12.50 $ 12.38 TOTAL RETURN(3),(4)(%) 4.43 9.67 4.80 2.85 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 14 $ 19 $ 23 $ 23 Ratio of expenses to average net assets (%) 1.47 1.67 1.73 1.72 Ratio of adjusted expenses to average net assets(5)(%) 1.79 1.75 1.73 1.72 Ratio of net investment income to average net assets (%) 4.84 4.20 4.02 3.83 Portfolio turnover (%) 19 17 15 13
28 FUND DETAILS
CLASS C SHARES PERIOD ENDED: 8-31-00 8-31-01 8-31-02 8-31-03 8-31-04 -------------------------------------------------------- ------- ------- ------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 11.85 $ 11.80 $ 12.41 $ 12.50 Net investment income(2) 0.56 0.51 0.50 0.48 Net realized and unrealized gain (loss) on investments (0.05) 0.61 0.08 (0.12) TOTAL FROM INVESTMENT OPERATIONS 0.51 1.12 0.58 0.36 LESS DISTRIBUTIONS From net investment income (0.56) (0.51) (0.49) (0.48) NET ASSET VALUE, END OF PERIOD $ 11.80 $ 12.41 $ 12.50 $ 12.38 TOTAL RETURN(3),(4)(%) 4.43 9.67 4.80 2.85 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 1 $ 2 $ 4 $ 7 Ratio of expenses to average net assets (%) 1.47 1.67 1.73 1.72 Ratio of adjusted expenses to average net assets(5)(%) 1.79 1.75 1.73 1.72 Ratio of net investment income to average net assets (%) 4.84 4.20 4.02 3.81 Portfolio turnover (%) 19 17 15 13
(1) AS REQUIRED, EFFECTIVE 9-1-01 THE FUND HAS ADOPTED THE PROVISIONS OF THE AICPA AUDIT AND ACCOUNTING GUIDE FOR INVESTMENT COMPANIES, AS REVISED, RELATING TO THE AMORTIZATION OF PREMIUMS AND ACCRETION OF DISCOUNTS ON DEBT SECURITIES. THE EFFECT OF THIS CHANGE FOR THE YEAR ENDED 8-31-02 WAS TO INCREASE NET INVESTMENT INCOME PER SHARE BY $0.01, DECREASE NET REALIZED AND UNREALIZED GAIN PER SHARE BY $0.01, AND, HAD THE FUND NOT MADE THESE CHANGES TO AMORTIZATION AND ACCRETION, THE RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS WOULD HAVE BEEN 4.68%, 3.98% AND 3.98% FOR CLASS A, CLASS B AND CLASS C SHARES, RESPECTIVELY. PER SHARE RATIOS AND SUPPLEMENTAL DATA FOR PERIODS PRIOR TO 9-1-01 HAVE NOT BEEN RESTATED TO REFLECT THIS CHANGE IN PRESENTATION. (2) BASED ON THE AVERAGE OF THE SHARES OUTSTANDING. (3) ASSUMES DIVIDEND REINVESTMENT AND DOES NOT REFLECT THE EFFECT OF SALES CHARGES. (4) TOTAL RETURNS WOULD HAVE BEEN LOWER HAD CERTAIN EXPENSES NOT BEEN REDUCED DURING THE PERIODS SHOWN. (5) DOES NOT TAKE INTO CONSIDERATION EXPENSE REDUCTIONS DURING THE PERIODS SHOWN. (6) CLASS C SHARES BEGAN OPERATIONS ON 4-1-99. (7) NOT ANNUALIZED. -------------------------------------------------------------------------------- THE FOLLOWING RETURNS ARE NOT AUDITED AND ARE NOT PART OF THE AUDITED FINANCIAL HIGHLIGHTS PRESENTED ABOVE: WITHOUT THE EXPENSE REDUCTIONS, RETURNS FOR THE PERIODS OR YEARS ENDED AUGUST 31, 2000, 2001, 2002, 2003 AND 2004 FOR CLASS A SHARES WOULD HAVE BEEN 4.84%, 10.36%, 5.54%, 3.57% AND ___%, FOR CLASS B SHARES WOULD HAVE BEEN 4.11%, 9.59%, 4.80%, 2.85% AND ___%, AND FOR CLASS C SHARES WOULD HAVE BEEN 4.11%, 9.59%, 4.80%, 2.85% AND ___%, RESPECTIVELY. FUND DETAILS 29 NEW YORK TAX-FREE INCOME FUND FIGURES AUDITED BY
CLASS A SHARES PERIOD ENDED: 8-31-00 8-31-01 8-31-02(1) 8-31-03 8-31-04 -------------------------------------------------------- ------- ------- ---------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 11.76 $ 11.82 $ 12.57 $ 12.48 Net investment income(2) 0.61 0.58 0.58 0.56 Net realized and unrealized gain (loss) on investments 0.06 0.75 (0.09) (0.38) TOTAL FROM INVESTMENT OPERATIONS 0.67 1.33 0.49 0.18 LESS DISTRIBUTIONS From net investment income (0.61) (0.58) (0.58) (0.56) From net realized gain -- -- -- -- In excess of net realized gain -- -- -- -- (0.61) (0.58) (0.58) (0.56) NET ASSET VALUE, END OF PERIOD $ 11.82 $ 12.57 $ 12.48 $ 12.10 TOTAL RETURN(4),(5)(%) 5.95 11.54 4.04 1.43 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 43 $ 48 $ 49 $ 46 Ratio of expenses to average net assets (%) 0.77 0.97 1.05 1.00 Ratio of adjusted expenses to average net assets(6)(%) 1.13 1.12 1.06 1.02 Ratio of net investment income to average net assets (%) 5.28 4.77 4.71 4.55 Portfolio turnover (%) 63 54 36 17
CLASS B SHARES PERIOD ENDED: 8-31-00 8-31-01 8-31-02(1) 8-31-03 8-31-04 -------------------------------------------------------- ------- ------- ---------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 11.76 $ 11.82 $ 12.57 $ 12.48 Net investment income(2) 0.53 0.49 0.49 0.47 Net realized and unrealized gain (loss) on investments 0.06 0.75 (0.09) (0.38) TOTAL FROM INVESTMENT OPERATIONS 0.59 1.24 0.40 0.09 LESS DISTRIBUTIONS From net investment income (0.53) (0.49) (0.49) (0.47) From net realized gain -- -- -- -- In excess of net realized gain -- -- -- -- (0.53) (0.49) (0.49) (0.47) NET ASSET VALUE, END OF PERIOD $ 11.82 $ 12.57 $ 12.48 $ 12.10 TOTAL RETURN(4),(5)(%) 5.21 10.76 3.31 0.72 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 8 $ 17 $ 23 $ 22 Ratio of expenses to average net assets (%) 1.47 1.67 1.75 1.70 Ratio of adjusted expenses to average net assets(6)(%) 1.83 1.82 1.76 1.72 Ratio of net investment income to average net assets (%) 4.58 4.07 4.01 3.85 Portfolio turnover (%) 63 54 36 17
30 FUND DETAILS
CLASS C SHARES PERIOD ENDED: 8-31-00 8-31-01 8-31-02(1) 8-31-03 8-31-04 -------------------------------------------------------- ------- ------- ---------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 11.76 $ 11.82 $ 12.57 $ 12.48 Net investment income(2) 0.53 0.50 0.49 0.47 Net realized and unrealized gain (loss) on investments 0.06 0.75 (0.09) (0.38) TOTAL FROM INVESTMENT OPERATIONS 0.59 1.25 0.40 0.09 LESS DISTRIBUTIONS From net investment income (0.53) (0.50) (0.49) (0.47) NET ASSET VALUE, END OF PERIOD $ 11.82 $ 12.57 $ 12.48 $ 12.10 TOTAL RETURN(4),(5)(%) 5.21 10.77 3.31 0.72 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) --(9) $ 1 $ 3 $ 5 Ratio of expenses to average net assets (%) 1.47 1.67 1.75 1.70 Ratio of adjusted expenses to average net assets(6)(%) 1.83 1.82 1.76 1.72 Ratio of net investment income to average net assets (%) 4.58 4.07 4.01 3.81 Portfolio turnover (%) 63 54 36 17
(1) AS REQUIRED, EFFECTIVE 9-1-01 THE FUND HAS ADOPTED THE PROVISIONS OF THE AICPA AUDIT AND ACCOUNTING GUIDE FOR INVESTMENT COMPANIES, AS REVISED, RELATING TO THE AMORTIZATION OF PREMIUMS AND ACCRETION OF DISCOUNTS ON DEBT SECURITIES. THE CHANGE HAD NO EFFECT ON PER SHARE AMOUNTS FOR THE YEAR ENDED 8-31-02 AND, HAD THE FUND NOT MADE THESE CHANGES TO AMORTIZATION AND ACCRETION, THE RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS WOULD HAVE BEEN 4.69%, 3.99% AND 3.99% FOR CLASS A, CLASS B AND CLASS C SHARES, RESPECTIVELY. PER SHARE RATIOS AND SUPPLEMENTAL DATA FOR PERIODS PRIOR TO 9-1-01 HAVE NOT BEEN RESTATED TO REFLECT THIS CHANGE IN PRESENTATION. (2) BASED ON THE AVERAGE OF THE SHARES OUTSTANDING. (3) LESS THAN $0.01 PER SHARE. (4) ASSUMES DIVIDEND REINVESTMENT AND DOES NOT REFLECT THE EFFECT OF SALES CHARGES. (5) TOTAL RETURNS WOULD HAVE BEEN LOWER HAD CERTAIN EXPENSES NOT BEEN REDUCED DURING THE PERIODS SHOWN. (6) DOES NOT TAKE INTO CONSIDERATION EXPENSE REDUCTIONS DURING THE PERIODS SHOWN. (7) CLASS C SHARES BEGAN OPERATIONS ON 4-1-99. (8) NOT ANNUALIZED. (9) LESS THAN $500,000. -------------------------------------------------------------------------------- THE FOLLOWING RETURNS ARE NOT AUDITED AND ARE NOT PART OF THE AUDITED FINANCIAL HIGHLIGHTS PRESENTED ABOVE: WITHOUT THE EXPENSE REDUCTIONS, RETURNS FOR THE PERIODS OR YEARS ENDED AUGUST 31, 2000, 2001, 2002, 2003 AND 2004 FOR CLASS A SHARES WOULD HAVE BEEN 5.59%, 11.39%, 4.03%, 1.41% AND ___%, FOR CLASS B SHARES WOULD HAVE BEEN 4.85%, 10.61%, 3.30%, 0.70% AND ___%, AND FOR CLASS C SHARES WOULD HAVE BEEN 4.85%, 10.62%, 3.30%, 0.70% AND ___%, RESPECTIVELY. FUND DETAILS 31 TAX-FREE BOND FUND FIGURES AUDITED BY
CLASS A SHARES PERIOD ENDED: 8-31-00(1) 8-31-01(1) 8-31-02(1),(2) 8-31-03 8-31-04 -------------------------------------------------------- ---------- ---------- -------------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 10.36 $ 10.30 $ 10.72 $ 10.40 Net investment income(3) 0.56 0.54 0.55 0.53 Net realized and unrealized gain (loss) on investments (0.06) 0.44 (0.32) (0.45) TOTAL FROM INVESTMENT OPERATIONS 0.50 0.98 0.23 0.08 LESS DISTRIBUTIONS From net investment income (0.56) (0.54) (0.54) (0.52) From net realized gain --(4) (0.02) (0.01) -- (0.56) (0.56) (0.55) (0.52) NET ASSET VALUE, END OF PERIOD $ 10.30 $ 10.72 $ 10.40 $ 9.96 TOTAL RETURN(5),(6)(%) 5.09 9.89 2.33 0.70 RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 522 $ 548 $ 550 $ 507 Ratio of expenses to average net assets (%) 0.85 0.86 0.96 0.97 Ratio of adjusted expenses to average net assets(7)(%) 1.00 0.98 0.99 0.98 Ratio of net investment income to average net assets (%) 5.53 5.22 5.34 5.11 Portfolio turnover (%) 12 24 22 23
CLASS B SHARES PERIOD ENDED: 8-31-00(1) 8-31-01(1) 8-31-02(1),(2) 8-31-03 8-31-04 -------------------------------------------------------- ---------- ---------- -------------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 10.36 $ 10.30 $ 10.72 $ 10.40 Net investment income(3) 0.48 0.47 0.47 0.45 Net realized and unrealized gain (loss) on investments (0.06) 0.44 (0.32) (0.45) TOTAL FROM INVESTMENT OPERATIONS 0.42 0.91 0.15 -- LESS DISTRIBUTIONS From net investment income (0.48) (0.47) (0.46) (0.44) From net realized gain --(4) (0.02) (0.01) -- (0.48) (0.49) (0.47) (0.44) NET ASSET VALUE, END OF PERIOD $ 10.30 $ 10.72 $ 10.40 $ 9.96 TOTAL RETURN(5),(6)(%) 4.31 9.07 1.57 (0.05) RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 97 $ 85 $ 60 $ 49 Ratio of expenses to average net assets (%) 1.60 1.61 1.71 1.72 Ratio of adjusted expenses to average net assets(7)(%) 1.75 1.73 1.75 1.73 Ratio of net investment income to average net assets (%) 4.78 4.47 4.59 4.36 Portfolio turnover (%) 12 24 22 23
32 FUND DETAILS
CLASS C SHARES PERIOD ENDED: 8-31-00(1) 8-31-01(1) 8-31-02(1),(2) 8-31-03 8-31-04 -------------------------------------------------------- ---------- ---------- -------------- ------- ------- PER SHARE OPERATING PERFORMANCE -------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 10.36 $ 10.30 $ 10.72 $ 10.40 Net investment income(3) 0.47 0.45 0.47 0.45 Net realized and unrealized gain (loss) on investments (0.06) 0.44 (0.32) (0.45) TOTAL FROM INVESTMENT OPERATIONS 0.41 0.89 0.15 -- LESS DISTRIBUTIONS From net investment income (0.47) (0.45) (0.46) (0.44) From net realized gain --(4) (0.02) (0.01) -- (0.47) (0.47) (0.47) (0.44) NET ASSET VALUE, END OF PERIOD $ 10.30 $ 10.72 $ 10.40 $ 9.96 TOTAL RETURN(5),(6)(%) 4.19 8.96 1.53 (0.05) RATIOS AND SUPPLEMENTAL DATA -------------------------------------------------------- Net assets, end of period (in millions) $ 1 $ 3 $ 7 $ 8 Ratio of expenses to average net assets (%) 1.70 1.71 1.75 1.72 Ratio of adjusted expenses to average net assets(7)(%) 1.75 1.73 1.75 1.73 Ratio of net investment income to average net assets (%) 4.60 4.37 4.55 4.35 Portfolio turnover (%) 12 24 22 23
(1) AUDITED BY PREVIOUS AUDITOR, ERNST & YOUNG LLP. (2) AS REQUIRED, EFFECTIVE 9-1-01 THE FUND HAS ADOPTED THE PROVISIONS OF THE AICPA AUDIT AND ACCOUNTING GUIDE FOR INVESTMENT COMPANIES, AS REVISED, RELATING TO THE AMORTIZATION OF PREMIUMS AND ACCRETION DISCOUNTS ON DEBT SECURITIES. THE EFFECT OF THIS CHANGE ON PER SHARE AMOUNTS FOR THE YEAR ENDED 8-31-02 WAS TO INCREASE NET INVESTMENT INCOME PER SHARE BY $0.01, INCREASE NET REALIZED AND UNREALIZED LOSSES PER SHARE BY $0.01 AND, HAD THE FUND NOT MADE THESE CHANGES TO AMORTIZATION AND ACCRETION, THE RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS WOULD HAVE BEEN 5.23%, 4.48% AND 4.44% FOR CLASS A, CLASS B, AND CLASS C SHARES, RESPECTIVELY. PER SHARE RATIOS AND SUPPLEMENTAL DATA FOR PERIODS PRIOR TO 9-1-01 HAVE NOT BEEN RESTATED TO REFLECT THIS CHANGE IN PRESENTATION. (3) BASED ON THE AVERAGE OF THE SHARES OUTSTANDING. (4) LESS THAN $0.01 PER SHARE. (5) ASSUMES DIVIDEND REINVESTMENT AND DOES NOT REFLECT THE EFFECT OF SALES CHARGES. (6) TOTAL RETURNS WOULD HAVE BEEN LOWER HAD CERTAIN EXPENSES NOT BEEN REDUCED DURING THE PERIODS SHOWN. (7) DOES NOT TAKE INTO CONSIDERATION EXPENSE REDUCTIONS DURING THE PERIODS SHOWN. (8) CLASS C SHARES BEGAN OPERATIONS ON 4-1-99. (9) NOT ANNUALIZED. -------------------------------------------------------------------------------- THE FOLLOWING RETURNS ARE NOT AUDITED AND ARE NOT PART OF THE AUDITED FINANCIAL HIGHLIGHTS PRESENTED ABOVE: WITHOUT THE EXPENSE REDUCTIONS, RETURNS FOR THE PERIODS OR YEARS ENDED AUGUST 31, 2000, 2001, 2002, 2003 AND 2004 FOR CLASS A SHARES WOULD HAVE BEEN 4.94%, 9.77%, 2.30%, 0.69% AND ___%, FOR CLASS B SHARES WOULD HAVE BEEN 4.16%, 8.95%, 1.53%, (0.06%) AND ___%, AND FOR CLASS C SHARES WOULD HAVE BEEN 4.14%, 8.94%, 1.53%, (0.06%) AND ___%, RESPECTIVELY. FUND DETAILS 33 For more information Two documents are available that offer further information on John Hancock tax-free income funds: ANNUAL/SEMIANNUAL REPORT TO SHAREHOLDERS Includes financial statements, a discussion of the market conditions and investment strategies that significantly affected performance, as well as the auditors' report (in annual report only). STATEMENT OF ADDITIONAL INFORMATION (SAI) The SAI contains more detailed information on all aspects of the funds. The current annual report is included in the SAI. A current SAI has been filed with the Securities and Exchange Commission and is incorporated by reference into (is legally a part of) this prospectus. TO REQUEST A FREE COPY OF THE CURRENT ANNUAL/SEMIANNUAL REPORT OR THE SAI, PLEASE CONTACT JOHN HANCOCK: By mail: John Hancock Signature Services, Inc. 1 John Hancock Way, Suite 1000 Boston, MA 02217-1000 By phone: 1-800-225-5291 By EASI-Line: 1-800-338-8080 By TDD: 1-800-554-6713 On the Internet: www.jhfunds.com OR YOU MAY VIEW OR OBTAIN THESE DOCUMENTS FROM THE SEC: By mail: Public Reference Section Securities and Exchange Commission Washington, DC 20549-0102 (duplicating fee required) In person: at the SEC's Public Reference Room in Washington, DC. For access to the Reference Room call 1-202-942-8090 By electronic request: publicinfo@sec.gov (duplicating fee required) On the Internet: www.sec.gov (C)2004 JOHN HANCOCK FUNDS, LLC TXFPN 1/05 [JOHN HANCOCK FUNDS, LLC LOGO (R)] JOHN HANCOCK FUNDS, LLC MEMBER NASD 101 Huntington Avenue Boston, MA 02199-7603 www.jhfunds.com NOW AVAILABLE: ELECTRONIC DELIVERY WWW.JHANCOCK.COM/FUNDS/EDELIVERY JOHN HANCOCK MASSACHUSETTS TAX-FREE INCOME FUND Class A, Class B and Class C Shares Statement of Additional Information January 1, 2005 This Statement of Additional Information provides information about John Hancock Massachusetts Tax-Free Income Fund (the "Fund"), in addition to the information that is contained in the combined Tax-Free Income Funds' current Prospectus (the "Prospectus"). The Fund is a non-diversified series of the John Hancock Tax-Exempt Series Fund (the "Trust"). This Statement of Additional Information is not a prospectus. It should be read in conjunction with the Prospectus. This Statement of Additional Information incorporates by reference the Fund's Annual Report. A copy of the Prospectus or Annual Report can be obtained free of charge by writing or telephoning: John Hancock Signature Services, Inc. 1 John Hancock Way, Suite 1000 Boston, Massachusetts 02217-1000 1-800-225-5291 TABLE OF CONTENTS Page Organization of the Fund...................................................... 2 Investment Objective and Policies............................................. 2 Special Risks..................................................................5 Investment Restrictions.......................................................17 Those Responsible for Management..............................................19 Investment Advisory and Other Services........................................28 Distribution Contracts........................................................31 Sales Compensation............................................................33 Net Asset Value...............................................................35 Initial Sales Charge on Class A Shares........................................37 Deferred Sales Charge on Class B and Class C..................................40 Special Redemptions...........................................................44 Additional Services and Programs..............................................44 Purchases and Redemptions Through Third Parties...............................45 Description of the Fund's Shares..............................................46 Tax Status....................................................................47 State Income Tax Information..................................................52 Calculation of Performance....................................................53 Brokerage Allocation..........................................................56 Transfer Agent Services.......................................................59 Custody of Portfolio..........................................................60 Independent Registered Public Accounting Firm.................................60 Fund Securities...............................................................60 Appendix A-Description of Investment Risk....................................A-1 Appendix B-Description of Bond Ratings.......................................B-1 Appendix C-Proxy Voting Summary..............................................C-1 Financial Statements.........................................................F-1 1 ORGANIZATION OF THE FUND The Fund is a series of the Trust, an open-end investment management company organized as a Massachusetts business trust in March 1987 under the laws of The Commonwealth of Massachusetts. John Hancock Advisers, LLC (prior to February 1, 2002, John Hancock Advisers, Inc.) (the "Adviser") is the Fund's investment adviser. The Adviser is a wholly owned subsidiary of John Hancock Financial Services, Inc., a subsidiary of Manulife Financial Corporation ("Manulife Financial"). Founded in 1862, John Hancock Financial Services and its subsidiaries today offer a broad range of financial products and services, including whole, term, variable, and universal life insurance, as well as college savings products, mutual funds, fixed and variable annuities, long-term care insurance and various forms of business insurance. Manulife Financial is a leading Canadian-based financial services group serving millions of customers in 19 countries and territories worldwide. Operating as Manulife Financial in Canada and most of Asia, and primarily through John Hancock in the United States, the Company offers clients a diverse range of financial protection products and wealth management services through its extensive network of employees, agents and distribution partners. Funds under management by Manulife Financial and its subsidiaries were Cdn$ billion (US$ billion) as at September 30, 2004. Manulife Financial Corporation trades as 'MFC' on the TSX, NYSE and PSE, and under '0945' on the SEHK. Manulife Financial can be found on the Internet at www.manulife.com. INVESTMENT OBJECTIVE AND POLICIES The following information supplements the discussion of the Fund's investment objective and policies discussed in the Prospectus. Appendix A contains further information describing investment risks. The investment objective of the Fund is not fundamental and may be changed by the Trustees without shareholder approval. There is no assurance that the Fund will achieve its investment objective. The Fund's objective is to provide investors with current income excludable from gross income for Federal income tax purposes and exempt from the personal income tax of Massachusetts. The Fund seeks to provide the maximum level of tax-exempt income that is consistent with preservation of capital. The policy of the Fund requiring that under normal circumstances at least 80% of the Fund's net assets consist of Tax-Exempt Bonds is fundamental and may not be changed by the Trustees without shareholder approval. As required by SEC Rule 35d-1, the following fundamental investment policy has been added: The Fund normally invests at least 80% of its Assets in securities of any maturity exempt from federal and Massachusetts personal income taxes. "Assets" is defined as net assets plus the amount of any borrowings for investment purposes. Non-Diversification. -------------------- The Fund is registered as a "non-diversified" investment company, permitting the Adviser to invest more than 5% of the assets of the Fund in the obligations of any one issuer. Since a relatively high percentage of the Fund's assets may be invested in the obligations of a limited number of issuers, the value of Fund shares may be more susceptible to any single economic, political or regulatory event than the shares of a diversified investment company. 2 Additional Risks. ----------------- Securities in which the Fund may invest are subject to the provisions of bankruptcy, insolvency and other laws affecting the rights and remedies of creditors, such as the Federal Bankruptcy Code, and laws, if any, which may be enacted by Congress or, as the case may be, the Massachusetts legislature extending the time for payment of principal or interest, or both, or imposing 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 any one or more issuers to pay when due principal of and interest on their tax-exempt securities may be materially affected. From time to time, proposals have been introduced before Congress which would adversely affect the Federal income tax consequences of holding tax-exempt securities. Federal tax legislation enacted primarily during the 1980's limits the types and amounts of tax-exempt securities issuable for certain purposes, especially industrial development bonds and other types of "private activity" bonds. Such limits may affect the future supply and yields of these types of tax-exempt securities. Further proposals limiting the issuance of tax-exempt securities may well be introduced in the future. If it appeared that the availability of tax-exempt securities for investment by the Fund and the value of the Fund's investments could be materially affected by such changes in law, the Trustees would reevaluate the Fund's investment objective and policies and consider changes in the structure of the Fund or its dissolution. All of the investments of the Fund will be made in: (1) tax-exempt securities which at the time of purchase are rated BB or better by Standard & Poor's Ratings Group ("S&P"), or Fitch Investors Services, Inc. ("Fitch") or Ba by Moody's Investors Service, Inc. ("Moody's"). Alternatively, the bonds may be unrated but considered by the Adviser to be of comparable quality. Not more than one-third of the Fund's total assets will be invested in Tax-Exempt Bonds rated lower than A or determined to be of comparable quality. (2) Notes of issuers having an issue of outstanding tax-exempt securities rated at least A by S&P, Moody's or by Fitch, or notes which are guaranteed by the U.S. Government or rated MIG-1 or MIG-2 by Moody's, or unrated notes which are determined to be of comparable quality by the Adviser. (3) Obligations issued or guaranteed by the U.S. Government, its agencies or instrumentalities. Some obligations issued by an agency or instrumentality may be supported by the full faith and credit of the U.S. Treasury, while others may be supported only by the credit of the particular Federal agency or instrumentality. (4) Commercial paper which is rated A-1 or A-2 by S&P, P-1 or P-2 by Moody's, or at least F-1 by Fitch, or which is not rated, but is considered by the Adviser to be of comparable quality; obligations of banks with $1 billion of assets and cash equivalents, including certificates of deposit, bankers acceptances and repurchase agreements. Ratings of A-2 or P-2 on commercial paper indicate a strong capacity for timely payment, although the relative degree of safety is not as high as for issuers designated A-1 or P-1. Appendix B contains further information about ratings. Tax-Exempt Securities. ---------------------- These are debt securities issued by or on behalf of states, territories and possessions of the United States and the District of Columbia and their political subdivisions, agencies or instrumentalities, the interest on which is excludable from gross income for Federal 3 income tax purposes, without regard to whether the interest income thereon is exempt from the personal income tax of any state. Tax-exempt securities are issued to obtain funds for various public purposes, including the construction of a wide range of public facilities such as bridges, highways, housing, hospitals, mass transportation, schools, streets and water and sewer works. Other public purposes for which tax-exempt securities may be issued include the refunding of outstanding obligations or obtaining funds for general operating expenses. In addition, certain types of "private activity bonds" may be issued by public authorities to finance privately operated housing facilities and certain local facilities for water supply, gas, electricity, sewage or solid waste disposal or student loans, or to obtain funds to lend to public or private institutions for the construction of facilities such as educational, hospital and housing facilities. Such private activity bonds are included within the term tax-exempt securities if the interest paid thereon is excluded from gross income for Federal income tax purposes. The interest income on certain private activity bonds (including the Fund's distributions to its shareholders attributable to such interest) may be treated as a tax preference item under the Federal alternative minimum tax. The Fund will not include tax-exempt securities generating this income for purposes of measuring compliance with the 80% fundamental investment policy described in the Prospectus. Other types of private activity bonds, the proceeds of which are used for the construction, equipment, repair or improvement of privately operated industrial or commercial facilities, may also constitute tax-exempt securities, but current Federal tax law places substantial limitations on the size of such issues. Yields. The yields or returns on tax-exempt bonds depend on a variety of factors, including general money market conditions, effective marginal tax rates, the financial condition of the issuer, general conditions of the tax-exempt securities market, the size of a particular offering, the maturity of the obligation and the rating (if any) of the issue. The ratings of Moody's, Fitch and S&P represent their opinions as to the quality of various tax-exempt securities which they undertake to rate. It should be emphasized, however, that ratings are not absolute standards of quality. Consequently, tax-exempt securities with the same maturity and interest rate with different ratings may have the same yield. Yield disparities may occur for reasons not directly related to the investment quality of particular issues or the general movement of interest rates, due to such factors as changes in the overall demand or supply of various types of tax-exempt securities or changes in the investment objectives of investors. The market value of debt securities which carry no equity participation usually reflects yields generally available on securities of similar quality and type. When such yields decline, the market value of a portfolio already invested at higher yields can be expected to rise if such securities are protected against early call. In general, in selecting securities, the portfolio manager of the Fund intends to seek protection against early call. Similarly, when such yields increase, the market value of a portfolio already invested at lower yields can be expected to decline. The Fund may invest in debt securities which sell at substantial discounts from par. These securities are low coupon bonds which, during periods of high interest rates, because of their lower acquisition cost tend to sell on a yield basis approximating current interest rates. Municipal Bonds. Municipal bonds generally are classified as either general obligation bonds or revenue bonds. General obligation bonds are backed by the credit of an issuer having taxing 4 power and are payable from the issuer's general unrestricted revenues. Their payment may depend on an appropriation of the issuer's legislative body. Revenue bonds, by contrast, are payable only from the revenues derived from a particular project, facility or a specific revenue source. They are not generally payable from the unrestricted revenues of the issuer. "Moral Obligation" Bonds. With "moral obligation" bonds, the Fund does not currently intend to invest in so-called "moral obligation" bonds, where repayment is backed by a moral commitment of an entity other than the issuer, unless the credit of the issuer itself, without regard to the "moral obligation," meets the investment criteria established for investments by the Fund. Tax-Exempt Notes. ----------------- Tax-exempt notes generally are used to provide for short-term capital needs and generally have maturities of one year or less. Tax-exempt notes include: Project Notes. Project notes are backed by an agreement between a local issuing agency and the Federal Department of Housing and Urban Development ("HUD") and carry a United States Government guarantee. These notes provide financing for a wide range of financial assistance programs for housing, redevelopment, and related needs (such as low-income housing programs and urban renewal programs). Although they are the primary obligations of the local public housing agencies or local urban renewal agencies, the HUD agreement provides for the additional security of the full faith and credit of the United States Government. Payment by the United States pursuant to its full faith and credit obligation does not impair the tax-exempt character of the income from Project Notes. Tax-Anticipation Notes. Tax anticipation notes are issued to finance working capital needs of municipalities. Generally, they are issued in anticipation of various tax revenues, such as income, sales, use and business taxes, and are specifically payable from these particular future tax revenues. Revenue Anticipation Notes. Revenue anticipation notes are issued in expectation of receipt of specific types of revenue, other than taxes, such as federal revenues available under Federal Revenue Sharing Programs. Bond Anticipation Notes. Bond anticipation notes are issued to provide interim financing until long-term bond financing can be arranged. In most cases, the long-term bonds then provide the funds for the repayment of the notes. Construction Loan Notes. Construction loan notes are sold to provide construction financing. Permanent financing, the proceeds of which are applied to the payment of construction loan notes, is sometimes provided by a commitment by the Government National Mortgage Association to purchase the loan, accompanied by a commitment by the Federal Housing Administration to insure mortgage advances thereunder. In other instances, permanent financing is provided by the commitments of banks to purchase the loan. Commercial Paper. ----------------- Issues of commercial paper typically represent short-term, unsecured, negotiable promissory notes. These obligations are issued by agencies of state and local governments to finance seasonal working capital needs of municipalities or to provide interim construction financing and are paid from general revenues of municipalities or are refinanced with long-term debt. In most cases, tax- exempt commercial paper is backed by letters of credit, lending agreements, note repurchase agreements or other credit facility agreements offered by banks or other institutions. 5 Ratings As Investment Criteria. ------------------------------- Lower Rated High Yield "High Risk" Debt Obligations. The Fund may invest in high yielding, fixed income securities rated below Baa by Moody's or BBB by S&P or Fitch or which are unrated but are considered by the Adviser to be of comparable quality. Ratings are based largely on the historical financial condition of the issuer. 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. Bonds rated BB or Ba are generally referred to as junk bonds. See "Appendix B" attached hereto. The values of lower-rated securities and those which are unrated but which are considered by the Adviser to be of comparable quality generally fluctuate more than those of high-rated securities. These securities involve greater price volatility and risk of loss of principal and income. In addition, the lower rating reflects a greater possibility of an adverse change in financial condition affecting the ability of the issuer to make payments of interest and principal. The market price and liquidity of lower-rated securities generally respond to short-term market developments to a greater extent than for higher rated securities, because these developments are perceived to have a more direct relationship to the issuer's ability to meet its ongoing debt obligations. Although the Adviser seeks to minimize these risks through diversification, investment analysis and attention to current developments in interest rates and economic conditions, there can be no assurance that the Adviser will be successful in limiting the Fund's exposure to the risks associated with lower rated securities. Because the Fund invests in securities in the lower rated categories, the achievement of the Fund's goals is more dependent on the Adviser's ability than would be the case if the Fund was investing in securities in the higher rated categories. Ratings. Ratings for Bonds issued by various jurisdictions are noted herein. Such ratings reflect only the respective views of such organizations, and an explanation of the significance of such ratings may be obtained from the rating agency furnishing the same. There is no assurance that a rating will continue for any given period of time or that a rating will not be revised or withdrawn entirely by any or all of such rating agencies, if, in its or their judgment, circumstances so warrant. Any downward revision or withdrawal of a rating could have an adverse effect on the market prices of any of the bonds described herein. Restricted Securities. ---------------------- The Fund may purchase securities that are not registered ("restricted securities") under the Securities Act of 1933 ("1933 Act"), including commercial paper issued in reliance on Section 4(2) of the 1933 Act and securities offered and sold to "qualified institutional buyers" under Rule 144A under the 1933 Act. The Fund will not invest more than 15% of its net assets in illiquid investments. If the Trustees determine, based upon a continuing review of the trading markets for specific Section 4(2) paper or Rule 144A securities, that they are liquid, they will not be subject to the 15% limit on illiquid securities. The Trustees have adopted guidelines and delegated to the Adviser the daily function of determining the monitoring and liquidity of restricted securities. The Trustees, however, will retain sufficient oversight and be ultimately responsible for the determinations. The Trustees will carefully monitor the Fund's investments in these securities, focusing on such important factors, among others, as valuation, liquidity and availability of information. This investment practice could have the effect of increasing the level of illiquidity in the Fund if qualified institutional buyers become for a time uninterested in purchasing these restricted securities. Participation Interests. ------------------------ The Fund may invest in Certificates of Participation (COP's which provide participation interests in lease revenues. Each COP represents a proportionate interest in or right to the lease-purchase payment made under municipal lease obligations or installment 6 sales contracts. Typically municipal lease obligations are issued by a state or municipal financing authority to provide funds for the construction of facilities (e.g., schools, dormitories, office buildings or prisons) or the acquisition of equipment. The facilities are typically used by the state or municipality pursuant to a lease with a financing authority. Certain municipal lease obligations may trade infrequently. Participation interests in municipal lease obligations will not be considered illiquid for purposes of the Fund's 15% limitation on illiquid securities provided the Adviser determines that there is a readily available market for such securities. In reaching liquidity decisions, the Adviser will consider, among others, the following factors: (1) the frequency of trades and quotes for the security; (2) the number of dealers wishing to purchase or sell the security and the number of other potential purchasers; (3) dealer undertakings to make a market in the security and (4) the nature of the security and the nature of the marketplace trades (e.g., the time needed to dispose of the security, the method of soliciting offers and the mechanics of the transfer.) With respect to municipal lease obligations, the Adviser also considers: (1) the willingness of the municipality to continue, annually or biannually, to appropriate funds for payment of the lease; (2) the general credit quality of the municipality and the essentiality to the municipality of the property covered by the lease; (3) an analysis of factors similar to that performed by nationally recognized statistical rating organizations in evaluating the credit quality of a municipal lease obligation, including (i) whether the lease can be canceled; (ii) if applicable, what assurance there is that the assets represented by the lease can be sold; (iii) the strength of the lessee's general credit (e.g., its debt, administrative, economic and financial characteristics); (iv) the likelihood that the municipality will discontinue appropriating funding for the leased property because the property is no longer deemed essential to the operations of the municipality (e.g., the potential for an event of nonappropriation); and (v) the legal recourse in the event of failure to appropriate; and (4) any other factors unique to municipal lease obligations as determined by the Adviser. Repurchase Agreements. ---------------------- The Fund may enter into repurchase agreements for the purpose of realizing additional (taxable) income. In a repurchase agreement the Fund buys a security for a relatively short period (usually not more than 7 days) subject to the obligation to sell it back to the issuer at a fixed time and price plus accrued interest. The Fund will enter into repurchase agreements only with member banks of the Federal Reserve System and with "primary dealers" in U.S. Government securities. The Adviser will continuously monitor the creditworthiness of the parties with whom the Fund enters into repurchase agreements. The Fund has established a procedure providing that the securities serving as collateral for each repurchase agreement must be delivered to the Fund's custodian either physically or in book-entry form and that the collateral must be marked to market daily to ensure that each repurchase agreement is fully collateralized at all times. In the event of bankruptcy or other default by a seller of a repurchase agreement, the Fund could experience delays in liquidating the underlying securities during the period in which the Fund seeks to enforce its rights thereto, possible subnormal levels of income, a decline in value of the underlying securities or lack of access to income during this period and the expense of enforcing its rights. 7 Reverse Repurchase Agreements. ------------------------------ The Fund may also enter into reverse repurchase agreements which involve the sale of U.S. Government securities held in its portfolio to a bank with an agreement that the Fund will buy back the securities at a fixed future date at a fixed price plus an agreed amount of "interest" which may be reflected in the repurchase price. Reverse repurchase agreements are considered to be borrowings by the Fund. Reverse repurchase agreements involve the risk that the market value of securities purchased by the Fund with proceeds of the transaction may decline below the repurchase price of the securities sold by the Fund which it is obligated to repurchase. The Fund will also continue to be subject to the risk of a decline in the market value of the securities sold under the agreements because it will reacquire those securities upon effecting their repurchase. The Fund will not enter into reverse repurchase agreements and other borrowings exceeding in the aggregate 33 1/3% of the market value of its total assets. To minimize various risks associates with reverse repurchase agreements, the Fund will establish a separate account consisting of highly liquid, marketable securities in an amount at least equal to the repurchase prices of these securities (plus accrued interest thereon) under such agreements. In addition, the Fund will not purchase additional securities while all borrowings are outstanding. The Funds will enter into reverse repurchase agreements only with federally insured banks or savings and loan associations which are approved in advance as being creditworthy by the Trustees. Under procedures established by the Trustees, the Adviser will monitor the creditworthiness of the banks involved. Options on Securities and Securities Indices. --------------------------------------------- The Fund may purchase and write (sell) call and put options on any securities in which it may invest on any securities index based on securities in which it may invest. These options may be listed on national domestic securities exchanges or traded in the over-the-counter market. The Fund may write covered put and call options and purchase put and call options to enhance total return, as a substitute for the purchase or sale of securities, or to protect against declines in the value of portfolio securities and against increases in the cost of securities to be acquired. Writing Covered Options. A call option on securities written by the Fund obligates the Fund to sell specified securities to the holder of the option at a specified price if the option is exercised at any time before the expiration date. A put option on securities written by the Fund obligates the Fund to purchase specified securities from the option holder at a specified price if the option is exercised at any time before the expiration date. Options on securities indices are similar to options on securities, except that the exercise of securities index options requires cash settlement payments and does not involve the actual purchase or sale of securities. In addition, securities index options are designed to reflect price fluctuations in a group of securities or segment of the securities market rather than price fluctuations in a single security. Writing covered call options may deprive the Fund of the opportunity to profit from an increase in the market price of the securities in its portfolio. Writing covered put options may deprive the Fund of the opportunity to profit from a decrease in the market price of the securities to be acquired for its portfolio. All call and put options written by the Fund are covered. A written call option or put option may be covered by (i) maintaining cash or liquid securities in a segregated account with a value at least equal to the Fund's obligation under the option, (ii) entering into an offsetting forward commitment and/or (iii) purchasing an offsetting option or any other option which, by virtue of its exercise price or otherwise, reduces the Fund's net exposure on its written option position. A written call option on securities is typically covered by maintaining the securities that are subject to the option in a segregated account. The Fund may cover call options on a securities index by owning securities whose price changes are expected to be similar to those of the underlying index. 8 The Fund may terminate its obligations under an exchange traded call or put option by purchasing an option identical to the one it has written. Obligations under over-the-counter options may be terminated only by entering into an offsetting transaction with the counterparty to such option. Such purchases are referred to as "closing purchase transactions." Purchasing Options. The Fund would normally purchase call options in anticipation of an increase, or put options in anticipation of a decrease ("protective puts") in the market value of securities of the type in which it may invest. The Fund may also sell call and put options to close out its purchased options. The purchase of a call option would entitle the Fund, in return for the premium paid, to purchase specified securities at a specified price during the option period. The Fund would ordinarily realize a gain on the purchase of a call option if, during the option period, the value of such securities or currency exceeded the sum of the exercise price, the premium paid and transaction costs; otherwise the Fund would realize either no gain or a loss on the purchase of the call option. The purchase of a put option would entitle the Fund, in exchange for the premium paid, to sell specified securities at a specified price during the option period. The purchase of protective puts is designed to offset or hedge against a decline in the market value of the Fund's portfolio securities. Put options may also be purchased by the Fund for the purpose of affirmatively benefiting from a decline in the price of securities which it does not own. The Fund would ordinarily realize a gain if, during the option period, the value of the underlying securities decreased below the exercise price sufficiently to cover the premium and transaction costs; otherwise the Fund would realize either no gain or a loss on the purchase of the put option. Gains and losses on the purchase of put options may be offset by countervailing changes in the value of the Fund's portfolio securities. Under certain circumstances, the Fund may not be treated as the tax owner of a security if the Fund has purchased a put option on the same security. If this occurred, the interest on the security would be taxable. The Fund's options transactions will be subject to limitations established by each of the exchanges, boards of trade or other trading facilities on which such options are traded. These limitations govern the maximum number of options in each class which may be written or purchased by a single investor or group of investors acting in concert, regardless of whether the options are written or purchased on the same or different exchanges, boards of trade or other trading facilities or are held or written in one or more accounts or through one or more brokers. Thus, the number of options which the Fund may write or purchase may be affected by options written or purchased by other investment advisory clients of the Adviser. An exchange, board of trade or other trading facility may order the liquidation of positions found to be in excess of these limits, and it may impose certain other sanctions. Risks Associated with Options Transactions. There is no assurance that a liquid secondary market on an options exchange will exist for any particular exchange-traded option or at any particular time. If the Fund is unable to effect a closing purchase transaction with respect to covered options it has written, the Fund will not be able to sell the underlying securities or dispose of assets held in a segregated account until the options expire or are exercised. Similarly, if the Fund is unable to effect a closing sale transaction with respect to options it has purchased, it would have to exercise the options in order to realize any profit and will incur transaction costs upon the purchase or sale of underlying securities. Reasons for the absence of a liquid secondary market on an exchange include the following: (i) there may be insufficient trading interest in certain options; (ii) restrictions may be imposed by an 9 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 options; (iv) unusual or unforeseen circumstances may interrupt normal operations on an exchange; (v) the facilities of an exchange or the Options 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 options (or a particular class or series of options). If trading were discontinued, the secondary market on that exchange (or in that class or series of options) would cease to exist. However, outstanding options on that exchange that had been issued by the Options Clearing Corporation as a result of trades on that exchange would continue to be exercisable in accordance with their terms. The Fund's ability to terminate over-the-counter options is more limited than with exchange-traded options and may involve the risk that broker-dealers participating in such transactions will not fulfill their obligations. The Adviser will determine the liquidity of each over-the-counter option in accordance with guidelines adopted by the Trustees. The writing and purchase of options is a highly specialized activity which involves investment techniques and risks different from those associated with ordinary portfolio securities transactions. The successful use of options depends in part on the Adviser's ability to predict future price fluctuations and, for hedging transactions, the degree of correlation between the options and securities markets. Futures Contracts and Options on Futures Contracts. --------------------------------------------------- To seek to increase total return or hedge against changes in interest rates and securities prices, the Fund may purchase and sell various kinds of futures contracts, and purchase and write call and put options on these futures contracts. The Fund may also enter into closing purchase and sale transactions with respect to any of these contracts and options. The futures contracts may be based on various securities, securities indices, and any other financial instruments and indices. All futures contracts entered into by the Fund are traded on U.S. exchanges or boards of trade that are licensed, regulated or approved by the Commodity Futures Trading Commission ("CFTC"). Futures Contracts. A futures contract may generally be described as an agreement between two parties to buy and sell particular financial instruments for an agreed price during a designated month (or to deliver the final cash settlement price, in the case of a contract relating to an index or otherwise not calling for physical delivery at the end of trading in the contract). Positions taken in the futures markets are not normally held to maturity but are instead liquidated through offsetting transactions which may result in a profit or a loss. While futures contracts on securities will usually be liquidated in this manner, the Fund may instead make, or take, delivery of the underlying securities whenever it appears economically advantageous to do so. A clearing corporation associated with the exchange on which futures contracts are traded guarantees that, if still open, the sale or purchase will be performed on the settlement date. Hedging and Other Strategies With Future Contracts. Hedging is an attempt to establish with more certainty than would otherwise be possible the effective price or rate of return on portfolio securities or securities that the Fund proposes to acquire. When securities prices are falling, the Fund can seek to offset a decline in the value of its current portfolio securities through the sale of futures contracts. When securities prices are rising, the Fund, through the purchase of futures contracts, can attempt to secure better rates or prices than might later be available in the market when it effects anticipated purchases. 10 The Fund may, for example, take a "short" position in the futures market by selling futures contracts in an attempt to hedge against an anticipated decline in market prices that would adversely affect the value of the Fund's portfolio securities. Such futures contracts may include contracts for the future delivery of securities held by the Fund or securities with characteristics similar to those of the Fund's portfolio securities. If, in the opinion of the Adviser, there is a sufficient degree of correlation between price trends for the Fund's portfolio securities and futures contracts based on other financial instruments, securities indices or other indices, the Fund may also enter into such futures contracts as part of its hedging strategy. Although under some circumstances prices of securities in the Fund's portfolio may be more or less volatile than prices of such futures contracts, the Adviser will attempt to estimate the extent of this volatility difference based on historical patterns and compensate for any differential by having the Fund enter into a greater or lesser number of futures contracts or by attempting to achieve only a partial hedge against price changes affecting the Fund's portfolio securities. When a short hedging position is successful, any depreciation in the value of portfolio securities will be substantially offset by appreciation in the value of the futures position. On the other hand, any unanticipated appreciation in the value of the Fund's portfolio securities would be substantially offset by a decline in the value of the futures position. On other occasions, the Fund may take a "long" position by purchasing futures contracts. This would be done, for example, when the Fund anticipates the subsequent purchase of particular securities when it has the necessary cash, but expects the prices then available in the applicable market to be less favorable than prices that are currently available. The Fund may also purchase futures contracts as a substitute for transactions in securities to alter the investment characteristics of portfolio securities or to gain or increase its exposure to a particular securities market. Options on Futures Contracts. The Fund may purchase and write options on futures for the same purposes as its transactions in futures contracts. The purchase of put and call options on futures contracts will give the Fund the right (but not the obligation) for a specified price to sell or to purchase, respectively, the underlying futures contract at any time during the option period. As the purchaser of an option on a futures contract, the Fund obtains the benefit of the futures position if prices move in a favorable direction but limits its risk of loss in the event of an unfavorable price movement to the loss of the premium and transaction costs. The writing of a call option on a futures contract generates a premium which may partially offset a decline in the value of the Fund's assets. By writing a call option, the Fund becomes obligated, in exchange for the premium (upon exercise of the option) to sell a futures contract if the option is exercised, which may have a value higher than the exercise price. Conversely, the writing of a put option on a futures contract generates a premium which may partially offset an increase in the price of securities that the Fund intends to purchase. However, the Fund becomes obligated (upon exercise of the option) to purchase a futures contract if the option is exercised, which may have a value lower than the exercise price. The loss incurred by the Fund in writing options on futures is potentially unlimited and may exceed the amount of the premium received. The holder or writer of an option on a futures contract may terminate its position by selling or purchasing an offsetting option of the same series. There is no guarantee that such closing transactions can be effected. The Fund's ability to establish and close out positions on such options will be subject to the development and maintenance of a liquid market. 11 Other Considerations. The Fund will engage in futures and related options transactions either for bona fide hedging purposes or to seek to increase total return as permitted by the CFTC. To the extent that the Fund is using futures and related options for hedging purposes, futures contracts will be sold to protect against a decline in the price of securities that the Fund owns or futures contracts will be purchased to protect the Fund against an increase in the price of securities it intends to purchase. The Fund will determine that the price fluctuations in the futures contracts and options on futures used for hedging purposes are substantially related to price fluctuations in securities held by the Fund or securities or instruments which it expects to purchase. As evidence of its hedging intent, the Fund expects that on 75% or more of the occasions on which it takes a long futures or option position (involving the purchase of futures contracts), the Fund will have purchased, or will be in the process of purchasing, equivalent amounts of related securities in the cash market at the time when the futures or option position is closed out. However, in particular cases, when it is economically advantageous for the Fund to do so, a long futures position may be terminated or an option may expire without the corresponding purchase of securities or other assets. To the extent that the Fund engages in nonhedging transactions in futures contracts and options on futures, the aggregate initial margin and premiums required to establish these nonhedging positions will not exceed 5% of the net asset value of the Fund's portfolio, after taking into account unrealized profits and losses on any such positions and excluding the amount by which such options were in-the-money at the time of purchase. Transactions in futures contracts and options on futures involve brokerage costs, require margin deposits and, in the case of contracts and options obligating the Fund to purchase securities, require the Fund to establish a segregated account consisting of cash or liquid securities in an amount equal to the underlying value of such contracts and options. While transactions in futures contracts and options on futures may reduce certain risks, these transactions themselves entail certain other risks. For example, unanticipated changes in interest rates or securities prices may result in a poorer overall performance for the Fund than if it had not entered into any futures contracts or options transactions. Perfect correlation between the Fund's futures positions and portfolio positions will be impossible to achieve. In the event of an imperfect correlation between a futures position and a portfolio position which is intended to be protected, the desired protection may not be obtained and the Fund may be exposed to risk of loss. Some futures contracts or options on futures may become illiquid under adverse market conditions. In addition, during periods of market volatility, a commodity exchange may suspend or limit trading in a futures contract or related option, which may make the instrument temporarily illiquid and difficult to price. Commodity exchanges may also establish daily limits on the amount that the price of a futures contract or related option can vary from the previous day's settlement price. Once the daily limit is reached, no trades may be made that day at a price beyond the limit. This may prevent the Fund from closing out positions and limiting its losses. Structured or Hybrid Notes. --------------------------- The Fund may invest in "structured" or "hybrid" notes. The distinguishing feature of a structured or hybrid note is that the amount of interest and/or principal payable on the note is based on the performance of a benchmark asset or market other than fixed income securities or interest rates. Examples of these benchmarks include stock prices, currency exchange rates and physical commodity prices. Investing in a structured note allows the Fund to gain exposure to the benchmark market while fixing the maximum loss that the Fund may 12 experience in the event that market does not perform as expected. Depending on the terms of the note, the Fund may forego all or part of the interest and principal that would be payable on a comparable conventional note; the Fund's loss cannot exceed this foregone interest and/or principal. An investment in structured or hybrid notes involves risks similar to those associated with a direct investment in the benchmark asset. Indexed Securities. ------------------- The Fund may invest in indexed securities, including floating rate securities that are subject to a maximum interest rate ("capped floaters") and leveraged inverse floating rate securities ("inverse floaters") (up to 10% of the Fund's total assets). The interest rate or, in some cases, the principal payable at the maturity of an indexed security may change positively or inversely in a relation to one or more interest rates, financial indices, or other financial indicators ("reference prices"). An indexed security may be leveraged to the extent that the magnitude of any change in the interest rate or principal payable on an indexed security is a multiple of the change in the reference price. Thus, indexed securities may decline in value due to adverse market charges in interest rates or other reference prices. Risk Associated With Specific Types of Derivative Debt Securities. ------------------------------------------------------------------ Different types of derivative debt securities are subject to different combinations of prepayment, extension and/or interest rate risk. The risk of early prepayments is the primary risk associated with interest only debt securities ("IOs"), super floaters and other leveraged floating rate instruments. In some instances, early prepayments may result in a complete loss of investment in certain of these securities. The primary risks associated with certain other derivative debt securities are the potential extension of average life and/or depreciation due to rising interest rates. Derivative debt securities include floating rate securities based on the Cost of Funds Index ("COFI floaters"), other "lagging rate" floating rate securities, floating rate securities that are subject to a maximum interest rate ("capped floaters"), leveraged inverse floating rate securities ("inverse floaters"), principal only debt securities ("POs") and certain residual or support branches of index amortizing notes. Index amortizing notes are subject to extension risk resulting from the issuer's failure to exercise its option to call or redeem the notes before their stated maturity date. Leveraged inverse IOs present an especially intense combination of prepayment, extension and interest rate risks. Other types of floating rate derivative debt securities present more complex types of interest rate risks. For example, range floaters are subject to the risk that the coupon will be reduced to below market rates if a designated interest rate floats outside of a specified interest rate band or collar. Dual index or yield curve floaters are subject to depreciation in the event of an unfavorable change in the spread between two designated interest rates. X- reset floaters have a coupon that remains fixed for more than one accrual period. Thus, the type of risk involved in these securities depends on the terms of each individual X-reset floater. Forward Commitment and When-Issued Securities. ---------------------------------------------- The Fund may purchase securities on a when-issued or forward commitment basis. "When-issued" refers to securities whose terms are available and for which a market exists, but which have not been issued. The Fund will engage in when-issued transactions with respect to securities purchased for its portfolio in order to obtain what is considered to be an advantageous price and yield at the time of the transaction. For when-issued transactions, no payment is made until delivery is due, often a month or more after the purchase. In a forward commitment transaction, the Fund contracts to purchase securities for a fixed price at a future date beyond customary settlement time. 13 When the Fund engages in forward commitment and when-issued transactions, it relies on the seller to consummate the transaction. The failure of the issuer or seller to consummate the transaction may result in the Fund's losing the opportunity to obtain a price and yield considered to be advantageous. The purchase of securities on a when-issued or forward commitment basis also involves a risk of loss if the value of the security to be purchased declines prior to the settlement date. On the date the Fund enters into an agreement to purchase securities on a when-issued or forward commitment basis, the Fund will segregate in a separate account cash or liquid securities equal in value to the Fund's commitment. These assets will be valued daily at market, and additional cash or securities will be segregated in a separate account to the extent that the total value of the assets in the account declines below the amount of the when-issued commitments. Alternatively, the Fund may enter into offsetting contracts for the forward sale of other securities that it owns. Swaps, Caps, Floors and Collars. -------------------------------- As one way of managing its exposure to different types of investments, the Fund may enter into interest rate swaps, and other types of swap agreements such as caps, collars and floors. In a typical interest rate swap, one party agrees to make regular payments equal to a floating interest rate times a "notional principal amount," in return for payments equal to a fixed rate times the same amount, for a specified period of time. Swaps may also depend on other prices or rates, such as the value of an index or mortgage prepayment rates. In a typical cap or floor agreement, one party agrees to make payments only under specified circumstances, usually in return for payment of a fee by the other party. For example, the buyer of an interest rate cap obtains the right to receive payments to the extent that a specified interest rate exceeds an agreed-upon level, while the seller of an interest rate floor is obligated to make payments to the extent that a specified interest rate falls below an agreed upon level. An interest rate collar combines elements of buying a cap and selling a floor. Swap agreements will tend to shift the Fund's investment exposure from one type of investment to another. Caps and floors have an effect similar to buying or writing options. Depending on how they are used, swap agreements may increase or decrease the overall volatility of the Fund's investments and its share price and yield. Swap agreements are sophisticated hedging instruments that typically involve a small investment of cash relative to the magnitude of risks assumed. As a result, swaps can be highly volatile and may have a considerable impact on the Fund's performance. Swap agreements are subject to risks related to the counterpart's ability to perform, and may decline in value if the counterpart's credit worthiness deteriorates. The Fund may also suffer losses if it is unable to terminate outstanding swap agreements or reduce its exposure through offsetting transactions. The Fund will maintain in a segregated account with its custodian, cash or liquid, high grade debt securities equal to the net amount, if any, of the excess of the Fund's obligations over its entitlement with respect to swap, cap, collar or floor transactions. Lending of Securities. ---------------------- For purposes of realizing additional (taxable) income, the Fund may lend portfolio securities to brokers, dealers, and financial institutions if the loan is collateralized by cash or U.S. Government securities according to applicable regulatory requirements. The Fund may reinvest any cash collateral in short-term securities and money market funds. When the Fund lends portfolio securities, there is a risk that the borrower may fail to return the securities involved in the transaction. As a result, the Fund may incur a loss or, in the event of the borrower's bankruptcy, the Fund may be delayed in or prevented from liquidating the collateral. 14 It is a fundamental policy of the Fund not to lend portfolio securities having a total value exceeding 33 1/3% of its total assets. Short-Term Trading and Portfolio Turnover. ------------------------------------------ The Fund may attempt to maximize current income through short-term portfolio trading. This will involve selling portfolio instruments and purchasing different instruments to take advantage of yield disparities in different segments of the market for government obligations. Short- term trading may have the effect of increasing portfolio turnover rate. The portfolio turnover rate for the Fund is calculated by dividing the lower of that Fund's annual sales or purchases of portfolio securities (exclusive of purchases or sales of all securities whose maturities at the time of acquisition were 1 year or less) by the monthly average value of the securities in the Fund during the year. A high rate of portfolio turnover (100% or greater) involves correspondingly higher brokerage expenses. The Fund's portfolio turnover rate is set forth in the table under the caption "Financial Highlights" in the Prospectus. Special Risks The following information as to certain special risks associated with investing in Massachusetts constitutes only a brief summary and does not purport to be a complete description of the considerations associated with such investments. The information is based in part on information from official statements related to securities offerings of Massachusetts issuers and is believed to be accurate. MASSACHUSETTS TAX-EXEMPT BONDS Economic expansion in Massachusetts has slowed considerably over the past three years, and although the economy has begun to show signs of an upturn, it is expecting to be hesitant and modest in 2004. These trends are similar to those of the national economy, although by some measures job losses have been more severe in Massachusetts due to the consolidation recently seen in the financial and high tech sectors of the economy. The recent slowdown follows what was a prolonged and robust expansion for the Massachusetts economy that lasted well into calendar 2000. However, beginning in 2001, the nation as a whole has experienced slower growth, and Massachusetts has followed suit. As of August 2002, the MA unemployment rate had risen to 5.2%; however it remained below the national average of 5.7%. While overall growth is down, the State has maintained its competitive position versus the U.S. and New England Economies. Household incomes remain among the highest in the nation, and Massachusetts has accounted for a steadily increasing percentage of the overall New England Wage and Salary disbursements in every year since 1991. As of August, 2002 hourly earnings were up 1.75% from the prior year. Despite slower growth in recent months, the Massachusetts economy is now well diversified, with lower employment concentration than during previous periods of expansion. Massachusetts remains well positioned in the knowledge and information-based economies, and despite exposure to high technology-based industries, real estate, and finance, the state remains one of the faster growing economies in the nation. The continued diversification does not make the economy immune from potential overheating, particularly in the volatile mutual fund industry and information technology sector, as evidenced by large layoffs in recent months at large employers such as Lucent and Cisco. 15 The Commonwealth is currently rated Aa2 by Moody's Investor Services; AA- by Standard & Poors' and AA- by Fitch Ratings. Current Fiscal Year The 2004 budget was the first since 1997 to be passed on a timely basis. The budget of $22.29 billion represents a less than 0.5% increase over FY 03, reflecting the expectation for modest economic growth and a need to return the commonwealth to a more stable financial footing. The final budget closed a gap that had been projected at $2.5 billion from additional expenditure cuts, fee increases, and one time revenues. One time revenue usage declined significantly in FY 04, representing less than 1/3 of the FY03 amount. Overall tax revenues are anticipated to decline slightly, and as of the end of the 1st FY quarter, were tracking slightly above projections. Expenditure cuts included aid to local cities and town, higher education funding and health and human services cutbacks. Prior Fiscal Years Fiscal 2003 The financial difficulties that began for the commonwealth in fiscal 2002, continued in 2003. Tax revenues increased modestly by 4.8% after dropping 15.2% in FY 02. The economy continued to stumble, with unemployment hovering between 5.2% and 5.7% for the year, modestly better than the national average. The Commonwealth closed FY03 with a consolidated net surplus of $150.9 million, with $75.7 million of this amount set aside in the budget stabilization fund. The stabilization fund represents a very minimal reserve, and the commonwealth has passed legislation designed to gradually increase the funding of the stabilization reserve back to a more reasonable 10 - 15% of the general funds budget. The FY'03 budget was balanced by a combination of spending cuts, draw downs on reserve funds, debt issuance, additional Federal Medicaid assistance, a tax amnesty program and a freeze on anticipated income tax decreases put in place in FY02. Fiscal 2002 The State's economic downturn accelerated in FY 02, and the state experienced increased job losses, slower personal income growth, and poor stock market performance. As a result, tax revenues underperformed in FY 2002, while expenditures rose unexpectedly. The Acting Governor's bill to transfer $102 million of pay as you go capital expenditures into long term bonding was enacted on April 23, 2002. Additional supplemental appropriations were filed in May, 2002 and August 2002 to ensure sufficient funding for FY 2002 expenditures. Overall, tax revenue collections declined by some 15.2%. The budget shortfall of some $1.6 billion was balanced by a combination of budget cuts and the use of reserve funds. General fund balances were reduced by $700 million, and the Stabilization Fund was reduced by $833 million. At Fiscal year end the Commonwealth's ending fund balance totaled only $1.388 billion, down $1.6 billion from FY 2001's balance of $3.0 billion. Credit Factors Massachusetts has an above average debt load, with debt service in 2004 estimated at 7.2% of operating expenses. This debt burden will remain high, given continued large capital commitments and construction risks associated with the Central Artery Tunnel project. While overall debt is high, debt per capita is a more moderate $2,460. Financing of the $14.6 billion 16 Central Artery Tunnel Project remains a concern. Forty-five percent (45%) of the funding is to come from federal aid (with a cap of $8.5 billion) with the remainder from bondings and contributions from the Commonwealth, the Turnpike Authority and the Port Authority. Ultimately, the Commonwealth is responsible for any shortfalls in federal funding or increased costs. In April 2002, the commonwealth determined a new funding schedule for pension liabilities of approximately $7.4 billion. In March 2003, the unfunded liability was estimated at $12.6 billion. The commonwealth will be challenged by the need to fund pension costs over the foreseeable future. Total personal income in Massachusetts grew by more than 1.4% in 2002, down from the peak of 11.5% in 2000. Unemployment has risen, with 2002 showing 5.3% unemployment and June 2003 showing 5.7% unemployment. Despite the increase, the state's rate is lower than the US Average of 6.1%. However, Massachusetts remains one of the wealthiest states, with per capita income at some 128% of the U.S. level in 2001, and per capita income gained relative to the nation in each of the last five years. The investment objectives and policies described above under the caption "Investment Objective and Policies" are not fundamental and may be changed by the Trustees without shareholder approval. Investment Restrictions Fundamental Investment Restrictions. ------------------------------------ The fundamental investment restrictions will not be changed for the Fund without the approval of a majority of the Fund's outstanding voting securities which, as used in the Prospectus and this Statement of Additional Information, means the approval by the lesser of (1) the holders of 67% or more of the Fund's shares represented at a meeting if more than 50% of the Fund's outstanding shares are present in person or by proxy at that meeting or (2) more than 50% of the Fund's outstanding shares. The Fund may not: (1) Issue senior securities, except as permitted by paragraphs (2) and (7) below. For purposes of this restriction, the issuance of shares of beneficial interest in multiple classes or series, the purchase or sale of options, futures contracts and options on futures contracts, forward commitments, and repurchase agreements entered into in accordance with the Fund's investment policies, and the pledge, mortgage or hypothecation of the Fund's assets within the meaning of paragraph (3) below are not deemed to be senior securities. (2) Borrow money, except from banks as a temporary measure for extraordinary emergency purposes in amounts not to exceed 33 1/3% of the Fund's total assets (including the amount borrowed) taken at market value. The Fund will not purchase securities while borrowings are outstanding. (3) Pledge, mortgage or hypothecate its assets, except to secure indebtedness permitted by paragraph (2) above and then only if such pledging, mortgaging or hypothecating does not exceed 10% of the Fund's total assets taken at market value. 17 (4) Act as an underwriter, except to the extent that in connection with the disposition of Fund securities, the Fund may be deemed to be an underwriter for purposes of the Securities Act of 1933. The Fund may also participate as part of a group in bidding for the purchase of Tax- Exempt Bonds directly from an issuer in order to take advantage of the lower purchase price available to members of such groups. (5) Purchase or sell real estate or any interest therein, but this restriction shall not prevent the Fund from investing in Tax-Exempt Bonds secured by real estate or interests therein. (6) Make loans, except that the Fund (1) may lend portfolio securities in accordance with the Fund's investment policies in an amount up to 33 1/3% of the Fund's total assets taken at market value, (2) enter into repurchase agreements, and (3) purchase all or a portion of an issue of debt securities, bank loan participation interests, bank certificates of deposit, bankers' acceptances, debentures or other securities, whether or not the purchase is made upon the original issuance of the securities. (7) Purchase or sell commodities or commodity contracts or puts, calls or combinations of both, except options on securities, securities indices, currency and other financial instruments, futures contracts on securities, securities indices, currency and other financial instruments and options on such futures contracts, forward commitments, interest rate swaps, caps and floors, securities index put or call warrants and repurchase agreements entered into in accordance with the Fund's investment policies. (8) Purchase the securities of issuers conducting their principal business activity in the same industry if, immediately after such purchase, the value of its investments in such industry would exceed 25% of its total assets taken at market value at the time of each investment. (Tax- Exempt Bonds and securities issued or guaranteed by the United States Government and its agencies and instrumentalities are not subject to this limitation.) (9) Purchase securities of an issuer (other than the U.S. Government, its agencies or instrumentalities), if such purchase would cause more than 10% of the outstanding voting securities of such issuer to be held by the Fund. Non-fundamental Investment Restrictions. ------------------------------------------ The following investment restrictions are designated as non-fundamental and may be changed by the Trustees without shareholder approval: The Fund may not: (1) Except as permitted by fundamental investment restriction (4) above, participate on a joint or joint-and-several basis in any securities trading account. The "bunching" of orders for the sale or purchase of marketable Fund securities with other accounts under the management of the Adviser to save commissions or to average prices among them is not deemed to result in a joint securities trading account. (2) Purchase securities on margin or make short sales unless by virtue of its ownership of other securities, the Fund has the right to obtain securities equivalent 18 in kind and amount to the securities sold short and, if the right is conditional, the sale is made upon the same conditions, except that the Fund may obtain such short-term credits as may be necessary for the clearance of purchases and sales of securities. (3) Purchase a security if, as a result, (i) more than 10% of the Fund's total assets would be invested in the securities of other investment companies, (ii) the Fund would hold more than 3% of the total outstanding voting securities of any one investment company, or (iii) more than 5% of the Fund's total assets would be invested in the securities of any one investment company. These limitations do not apply to (a) the investment of cash collateral, received by the Fund in connection with lending the Fund's portfolio securities, in the securities of open-end investment companies or (b) the purchase of shares of any investment company in connection with a merger, consolidation, reorganization or purchase of substantially all of the assets of another investment company. Subject to the above percentage limitations, the Fund may, in connection with the John Hancock Group of Funds Deferred Compensation Plan for Independent Trustees/Directors, purchase securities of other investment companies within the John Hancock Group of Funds. (4) invest more than 15% of its net assets in illiquid securities. Except with respect to borrowing money, if a percentage restriction on investment or utilization of assets as set forth above is adhered to at the time an investment is made, a later change in percentage resulting from changes in the value of the Fund's assets will not be considered a violation of the restriction. THOSE RESPONSIBLE FOR MANAGEMENT The business of the Fund is managed by its Trustees, including certain Trustees who are not "interested persons" of the Fund or Trust (as defined by the Investment Company Act of 1940) (the "Independent Trustees"), who elect officers who are responsible for the day-to-day operations of the Fund and who execute policies formulated by the Trustees. Several of the officers and Trustees of the Fund are also officers or Directors of the Adviser, or officers and Director's of the Fund's principal distributor, John Hancock Funds, LLC (prior to February 1, 2002, John Hancock Funds, Inc.) ("John Hancock Funds"). 19 ---------------------------- ------------- ----------- -------------------------------------------------------- ------------------ Number of John Position(s) Trustee/ Hancock Funds Name, Address (1) Held with Officer Principal Occupation(s) and other Directorships During Overseen by And Age Fund since(2) Past 5 Years Trustee ---------------------------- ------------- ----------- -------------------------------------------------------- ------------------ Independent Trustees ---------------------------- ------------- ----------- -------------------------------------------------------- ------------------ Charles L. Ladner Chairman 2004 Chairman and Trustee, Dunwoody Village, Inc. 49 Born: 1938 and Trustee (retirement services) (until 2003); Senior Vice President and Chief Financial Officer, UGI Corporation (public utility holding company) (retired 1998); Vice President and Director for AmeriGas, Inc. (retired 1998); Director of AmeriGas Partners, L.P. (until 1997)(gas distribution); Director, EnergyNorth, Inc. (until 1995); Director, Parks and History Association (since 2001). ---------------------------- ------------- ----------- -------------------------------------------------------- ------------------ James F. Carlin Trustee Chairman and CEO, Alpha Analytical Laboratories 49 Born: 1940 (chemical analysis); Part Owner and Treasurer, Lawrence Carlin Insurance Agency, Inc. (since 1995); Part Owner and Vice President, Mone Lawrence Carlin Insurance Agency, Inc. (since 1996); Director/Treasurer, Rizzo Associates (until 2000); Chairman and CEO, Carlin Consolidated, Inc. (management/investments); Director/Partner, Proctor Carlin & Co., Inc. (until 1999); Trustee, Massachusetts Health and Education Tax Exempt Trust; Director of the following: Uno Restaurant Corp. (until 2001), Arbella Mutual (insurance) (until 2000), HealthPlan Services, Inc. (until 1999), Flagship Healthcare, Inc. (until 1999), Carlin Insurance Agency, Inc. (until 1999); Chairman, Massachusetts Board of Higher Education (until 1999). ---------------------------- ------------- ----------- -------------------------------------------------------- ------------------ Richard P. Chapman, Jr. Trustee 1987 President and Chief Executive Officer, Brookline 49 Born: 1935 Bancorp., Inc. (lending) (since 1972); Chairman and Director, Lumber Insurance Co. (insurance) (until 2000); Chairman and Director, Northeast Retirement Services, Inc. (retirement administration) (since 1998). ---------------------------- ------------- ----------- -------------------------------------------------------- ------------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser, underwriter, and or certain other affiliates. 20 ---------------------------- ------------- ----------- ----------------------------------------------------- ------------------- Number of John Position(s) Trustee/ Hancock Funds Name, Address (1) Held with Officer Principal Occupation(s) and other Overseen by And Age Fund since(2) Directorships During Past 5 Years Trustee ---------------------------- ------------- ----------- ----------------------------------------------------- ------------------- William J. Cosgrove Trustee 1991 Vice President, Senior Banker and Senior Credit 20 Born: 1933 Officer, Citibank, N.A. (banking) (retired 1991); Executive Vice President, Citadel Group Representatives, Inc.; (financial reinsurance); Director, Hudson City Savings Bank (since 1995); Director, Hudson City Bancorp (banking); Trustee, Scholarship Fund for Inner City Children (since 1986). ---------------------------- ------------- ----------- ----------------------------------------------------- ------------------- William H. Cunningham Trustee 2005 Former Chancellor, University of Texas System and 49 Born: 1944 former President of the University of Texas, Austin, Texas; Chairman and CEO, IBT Technologies (until 2001); Director of the following: The University of Texas Investment Management Company (until 2000), Hire.com (until 2004), STC Broadcasting, Inc. and Sunrise Television Corp. (until 2001), Symtx, Inc. (electronic manufacturing) (since 2001), Adorno/Rogers Technology, Inc. (until 2004), Pinnacle Foods Corporation (until 2003),rateGenius (since 2001), Jefferson-Pilot Corporation (diversified life insurance company), New Century Equity Holdings (formerly Billing Concepts) (until 2001), eCertain (until 2001), ClassMap.com (until 2001), Agile Ventures (until 2001), LBJ Foundation (until 2000), Golfsmith International, Inc.(until 2000), Metamor Worldwide (until 2000), AskRed.com (until 2001), Southwest Airlines (since 2000) and Introgen (since 2000); Advisory Director,Q Investments (until 2003); Advisory Director, Chase Bank (formerly Texas Commerce Bank - Austin) (since 1988), LIN Television (since 2002) and WilTel Communications (until 2003) and Hayes Lemmerz International, Inc. (diversified automobile parts supply company) (since 2003). ---------------------------- ------------- ----------- ----------------------------------------------------- -------------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser underwriter, and or certain other affiliates. 21 ---------------------------- ------------- ----------- ----------------------------------------------------- ------------------- Number of John Position(s) Trustee/ Hancock Funds Name, Address (1) Held with Officer Principal Occupation(s) and other Overseen by And Age Fund since(2) Directorships During Past 5 Years Trustee ---------------------------- ------------- ----------- ----------------------------------------------------- ------------------- ---------------------------- ------------- ----------- ----------------------------------------------------- ------------------- Ronald R. Dion Trustee 2005 Chairman and Chief Executive Officer, R.M. Bradley 49 Born: 1946 & Co., Inc.; Director, The New England Council and Massachusetts Roundtable; Director, Boston Stock Exchange; Trustee, North Shore Medical Center; Director, BJ's Wholesale Club, Inc. and a corporator of the Eastern Bank; Trustee, Emmanuel College. ---------------------------- ------------- ----------- ----------------------------------------------------- ------------------- John A. Moore Trustee 1996 President and Chief Executive Officer, Institute 49 Born: 1939 for Evaluating Health Risks, (nonprofit institution) (until 2001); Chief Scientist, Sciences International (health research)(since 1998); Principal, Hollyhouse (consulting)(since 2000); Director, CIIT(nonprofit research) (since 2002). ---------------------------- ------------- ----------- ----------------------------------------------------- ------------------- Patti McGill Peterson Trustee 1996 Executive Director, Council for International 49 Born: 1943 Exchange of Scholars and Vice President, Institute of International Education (since 1998); Senior Fellow, Cornell Institute of Public Affairs, Cornell University (until 1998); Former President of Wells College and St. Lawrence University; Director, Niagara Mohawk Power Corporation (until 2003); Director, Ford Foundation, International Fellowships Program (since 2002); Director, Lois Roth Endowment (since 2002); Director, Council for International Educational Exchange (since 2003). ---------------------------- ------------- ----------- ----------------------------------------------------- ------------------- Steven Pruchansky Trustee 2005 Chairman and Chief Executive Officer, Mast 49 Born: 1944 Holdings, Inc. (since 2000); Director and President, Mast Holdings, Inc. (until 2000);Managing Director, JonJames, LLC (real estate)(since 2001); Director, First Signature Bank & Trust Company (until 1991); Director, Mast Realty Trust (until 1994); President, Maxwell Building Corp. (until 1991). ---------------------------- ------------- ----------- ----------------------------------------------------- -------------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser, underwriter, and or certain other affiliates. 22 ------------------------------- -------------- ----------- ----------------------------------------------- ------------ Number of John Hancock Position(s) Trustee/ Funds Name, Address (1) Held with Officer Principal Occupation(s) and other Overseen And Age Fund since(2) Directorships During Past 5 Years by Trustee ------------------------------- -------------- ----------- ----------------------------------------------- ------------ ------------------------------- -------------- ----------- ----------------------------------------------- ------------ Non-Independent Trustee ------------------------------- -------------- ----------- ----------------------------------------------- ------------ James A. Shepherdson (3) Trustee, 2004 Executive Vice President, Manulife Financial 49 Born: 1952 President Corporation (since 2004); Chairman, Director, and Chief President and Chief Executive Officer, John Executive Hancock Advisers, LLC (the "Adviser") and The Officer Berkeley Group, LLC ("The Berkeley Group"); Chairman, Director, President and Chief Executive Officer, John Hancock Funds, LLC. ("John Hancock Funds"); Chairman, Director, President and Chief Executive Officer, Sovereign Asset Management Corporation ("SAMCorp."); Director, Chairman and President, NM Capital Management, Inc. ("NM Capital"); President, John Hancock Retirement Services, John Hancock Life Insurance Company (until 2004); Chairman, Essex Corporation (until 2004); Co-Chief Executive Officer MetLife Investors Group (until 2003); Senior Vice President, AXA/Equitable Insurance Company (until 2000). ------------------------------- -------------- ----------- ----------------------------------------------- ------------ Principal Officers who are not Trustees ------------------------------- -------------- ----------- ----------------------------------------------- ------------ William H. King Vice 1988 Vice President and Assistant Treasurer, the N/A Born: 1952 President Adviser; Vice President and Treasurer of each and Treasurer of the John Hancock funds; Assistant Treasurer of each of the John Hancock funds (until 2001). ------------------------------- -------------- ----------- ----------------------------------------------- ------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser, underwriter, and or certain other affiliates. 23 ------------------------------- -------------- ----------- --------------------------------------------- -------------- Number of John Hancock Position(s) Trustee/ Funds Name, Address (1) Held with Officer Principal Occupation(s) and other Overseen by And Age Fund since(2) Directorships During Past 5 Years Trustee ------------------------------- -------------- ----------- --------------------------------------------- -------------- ------------------------------- -------------- ----------- --------------------------------------------- -------------- Susan S. Newton Senior Vice 1987 Senior Vice President, Secretary and Chief N/A Born: 1950 President, Legal Officer, SAMCorp., the Adviser and Secretary each of the John Hancock funds, John and Chief Hancock Funds and The Berkeley Group; Vice Legal Officer President, Signature Services (until 2000), Director, Senior Vice President and Secretary, NM Capital. ------------------------------- -------------- ----------- --------------------------------------------- --------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser underwriter, and or certain other affiliates. The Fund's Board of Trustees currently has four standing Committees: the Audit Committee, the Administration Committee, the Contracts/Operations Committee and the Investment Performance Committee. Each Committee is comprised of Independent Trustees, who are not "interested persons". The Audit Committee members are Messrs. Chapman, Ladner, Pruchansky and Ms. McGill Peterson. All of the members of the Audit Committee are independent under the New York Stock Exchange's Revised Listing Rules, and each member is financially literate with at least one having accounting or financial management expertise. The Board has adopted a written charter for the Audit Committee. The Audit Committee recommends to the full board auditors for the Fund, monitors and oversees the audits of the Fund, communicates with both independent auditors and internal auditors on a regular basis and provides a forum for the auditors to report and discuss any matters they deem appropriate at any time. The Audit Committee held four meetings during the fiscal year ended August 31, 2004. The Administration Committee members are all of the independent Trustees. The Administration Committee reviews the activities of the other four standing committees and makes the final selection and nomination of candidates to serve as Independent Trustees. All members of the Administration Committee are independent under the New York Stock Exchange's Revised Listing Rules and are not interested persons, as defined in the 1940 Act, of John Hancock or the Fund (the "Independent Trustees"). Among other things, the Administration Committee acts as a nominating committee of the Board. The Trustees who are not Independent Trustees and the officers of the Fund are nominated and selected by the Board. The Administration Committee does not have at this time formal criteria for the qualifications of candidates to serve as an Independent Trustee, although the Administration Committee may develop them in the future. In reviewing a potential nominee and in evaluating the renomination of current Independent Trustees, the Administration Committee expects to apply the following criteria: (i) the nominee's reputation for integrity, honesty and adherence to high ethical standards, (ii) the nominee's business acumen, experience and ability to exercise sound judgments, (iii) a commitment to understand the Fund and the responsibilities of a trustee of an 24 investment company, (iv) a commitment to regularly attend and participate in meetings of the Board and its committees, (v) the ability to understand potential conflicts of interest involving management of the Fund and to act in the interests of all shareholders, and (vi) the absence of a real or apparent conflict of interest that would impair the nominee's ability to represent the interests of all the shareholders and to fulfill the responsibilities of an Independent Trustee. The Administration Committee does not necessarily place the same emphasis on each criteria and each nominee may not have each of these qualities. The Administration Committee does not discriminate on the basis of race, religion, national origin, sex, sexual orientation, disability or any other basis proscribed by law. The Administration Committee held four meetings during the fiscal year ended August 31, 2004. As long as an existing Independent Trustee continues, in the opinion of the Administration Committee, to satisfy these criteria, the Fund anticipates that the Committee would favor the renomination of an existing Trustee rather than a new candidate. Consequently, while the Administration Committee will consider nominees recommended by shareholders to serve as trustees, the Administration Committee may only act upon such recommendations if there is a vacancy on the Board or the Administration Committee determines that the selection of a new or additional Independent Trustee is in the best interests of the Fund. In the event that a vacancy arises or a change in Board membership is determined to be advisable, the Administration Committee will, in addition to any shareholder recommendations, consider candidates identified by other means, including candidates proposed by members of the Administration Committee. While it has not done so in the past, the Administration Committee may retain a consultant to assist the Committee in a search for a qualified candidate. Any shareholder recommendation must be submitted in compliance with all of the pertinent provisions of Rule 14a-8 under the Securities Exchange Act of 1934, as amended, to be considered by the Administration Committee. In evaluating a nominee recommended by a shareholder, the Administration Committee, in addition to the criteria discussed above, may consider the objectives of the shareholder in submitting that nomination and whether such objectives are consistent with the interests of all shareholders. If the Board determines to include a shareholder's candidate among the slate of nominees, the candidate's name will be placed on the Fund's proxy card. If the Administration Committee or the Board determines not to include such candidate among the Board's designated nominees and the shareholder has satisfied the requirements of Rule 14a-8, the shareholder's candidate will be treated as a nominee of the shareholder who originally nominated the candidate. In that case, the candidate will not be named on the proxy card distributed with the Fund's proxy statement. Shareholders may communicate with the members of the Board as a group or individually. Any such communication should be sent to the Board or an individual Trustee c/o the Secretary of the Fund at the following address: 101 Huntington Avenue, Boston, MA 02199-7603. The Secretary may determine not to forward any letter to the members of the Board that does not relate to the business of the Fund. The Contracts/Operations Committee members are Messrs. Carlin, Cosgrove, Cunningham, Dion and Moore. The Contracts/Operations Committee oversees the initiation, operation, and renewal of contracts between the Fund and other entities. These contracts include advisory and subadvisory agreements, custodial and transfer agency agreements and arrangements with other service providers. The Contracts/Operations Committee held five meetings during the fiscal year ended August 31, 2004. 25 The Investment Performance Committee members are all of the Independent Trustees. The Investment Performance Committee monitors and analyzes the performance of the Fund generally, consults with the adviser as necessary if the Fund requires special attention, and reviews peer groups and other comparative standards as necessary. The Investment Performance Committee held four meetings during the fiscal year ended August 31, 2004. The following table provides a dollar range indicating each Trustee's ownership of equity securities of the Fund, as well as aggregate holdings of shares of equity securities of all John Hancock Funds overseen by the Trustee, as of December 31, 2003. --------------------------------------- -------------------------- ----------------------------------------------- Name of Trustee Dollar Range of Fund Aggregate Dollar Range of holdings in John shares Owned by Hancock funds overseen by Trustee Trustee --------------------------------------- -------------------------- ----------------------------------------------- Independent Trustees --------------------------------------- -------------------------- ----------------------------------------------- James F. Carlin None Over $100,000 --------------------------------------- -------------------------- ----------------------------------------------- Richard P. Chapman, Jr.* $1-$10,000 Over $100,000 --------------------------------------- -------------------------- ----------------------------------------------- William J. Cosgrove None Over $100,000 --------------------------------------- -------------------------- ----------------------------------------------- William H. Cunningham None $10,001-$50,000 --------------------------------------- -------------------------- ----------------------------------------------- Ronald R. Dion None Over $100,000 --------------------------------------- -------------------------- ----------------------------------------------- Charles L. Ladner** None Over $100,000 --------------------------------------- -------------------------- ----------------------------------------------- Dr. John A. Moore* None Over $100,000 --------------------------------------- -------------------------- ----------------------------------------------- Patti McGill Peterson* None Over $100,000 --------------------------------------- -------------------------- ----------------------------------------------- Steven Pruchansky None Over $100,000 --------------------------------------- -------------------------- ----------------------------------------------- Non-Independent Trustee --------------------------------------- -------------------------- ----------------------------------------------- James A. Shepherdson* None None --------------------------------------- -------------------------- -----------------------------------------------
(1) This Fund does not participate in the John Hancock Deferred Compensation Plan for Independent Trustees (the "Plan"). Under the Plan, an Independent Trustee may elect to earn a return on his deferred fees equal to the amount that he would have earned if the deferred fees amount were invested in one or more funds in the John Hancock fund complex. Under these circumstances, a trustee is not the legal owner of the underlying shares, but participates in any positive or negative return on those shares to the same extent as other shareholders. If the Trustees were deemed to own the shares used in computing the value of his deferred compensation, as of December 31, 2003, the respective "Dollar Range of Fund Shares Owned by Trustee" and the "Aggregate Dollar Range of holdings in John Hancock funds overseen by Trustee" would be $1-$10,000 and over $100,000 for Mr. Chapman, $1-$10,000 and over $100,000 for Mr. Cosgrove, none and over $100,000 for Mr. Glavin, none and over $100,000 for Mr. Moore. The following tables provide information regarding the compensation paid by the Fund and the other investment companies in the John Hancock Fund Complex to the Independent Trustees for their services. Any Non-Independent Trustee and each of the officers of the Fund are interested persons of the Adviser, and/or affiliates are compensated by the Adviser and received no compensation from the Fund for their services. *Mr. Shepherdson was appointed Trustee of the John Hancock Funds as of May 12, 2004. Mr. Chapman, Mr. Moore and Ms. McGill Peterson were elected to the Board by shareholders on December 1, 2004 effective January 1, 2005. **As of June 16, 2004, the Independent Trustees elected Charles L. Ladner as a Trustee of the Fund and Independent Chairman of the Board. 26 Total Compensation From the Aggregate Compensation from Fund and John Hancock Fund Independent Trustees the Fund (1) Complex to Trustees (2) -------------------- ------------ ----------------------- Dennis J. Aronowitz+ $ 713 $ 72,250 James F. Carlin++ 0 76,250 Richard P. Chapman* 746 79,000 William J. Cosgrove* 840 79,500 William H. Cunningham++ 0 74,250 Richard A. Farrell+ 732 79,250 William F. Glavin+* 715 74,250 Charles L. Ladner+++ 0 78,000 Dr. John A. Moore* 486 74,000 Patti McGill Peterson 479 72,000 John Pratt+ 717 76,500 ---- ------ Total $5,428 $835,250
(1) Compensation is for the fiscal year ended August 31, 2004. (2) Total compensation paid by the John Hancock Funds Complex to the Independent Trustees is as of December 31, 2003. As of this date, there were fifty-one funds in the John Hancock Fund Complex, with Dr. Moore and Ms. McGill Peterson serving on thirty funds and each of the other Independent Trustees serving on twenty funds. *As of December 31, 2003, the value of the aggregate accrued deferred compensation amount from all funds in the John Hancock Funds Complex for Mr. Chapman was $63,573, Mr. Cosgrove was $210,257, Mr. Glavin was $306,646 and for Dr. Moore was $248,464 under the John Hancock Group of Funds Deferred Compensation Plan for Independent Trustees (the "Plan"). +Messrs. Aronowitz, Farrell, Glavin and Pratt retired as of 12/31/04. ++ Mr. Carlin and Mr. Cunningham each became a Trustee and were elected to the Board by shareholders on December 1, 2004 effective January 1, 2005 +++ As of June 16, 2004, the Independent Trustees elected Charles L. Ladner as a Trustee of the Fund and Independent Chairman of the Board. All of the officers listed are officers or employees of the Adviser or Affiliated Companies. Some of the Trustees and officers may also be officers or Trustees of one or more of the other funds for which the Adviser serves as investment adviser. As of September 22, 2004, the officers and Trustees of the Fund as a group beneficially owned less than 1% of the outstanding shares of the Fund. As of that date, the following shareholders beneficially owned 5% or more of outstanding shares of each class of the Fund: 27 --------------------------------------------------------- --------------- ------------- --------------- Name and Address of Owners of More than 5% of Shares Class A Class B Class C --------------------------------------------------------- --------------- ------------- --------------- Prudential Securities, Inc. 5.09% -- -- Special Custody Account For Exclusive Benefit of Customers Attn: Surpas Omnibus Dep 1 New York Plaza New York NY 10292-001 --------------------------------------------------------- --------------- ------------- --------------- MLPF&S For The -- 13.66% -- Sole Benefit of Its Customers Attn: Fund Administration 97M77 4800 Deerlake Drive East 2nd Floor Jacksonville FL 32246-6484 --------------------------------------------------------- --------------- ------------- --------------- MLPF&S For The -- -- 20.90% Sole Benefit of Its Customers Attn: Fund Administration 4800 Deerlake Drive East 2nd Floor Jacksonville FL 32246-6484 --------------------------------------------------------- --------------- ------------- --------------- Pershing LLC -- -- 7.29% PO Box 2052 Jersey City NJ 07303-2052 --------------------------------------------------------- --------------- ------------- --------------- William A. Murby Sr -- -- 5.08% Louise M. Murby Jt. Wros. 140 Broadway Raynham MA 02767-1414 --------------------------------------------------------- --------------- ------------- ---------------
Investment Advisory And Other Services The Adviser, located at 101 Huntington Avenue, Boston, Massachusetts 02199-7603, a premier investment management company, managed $ billion in open-end funds, closed-end funds, private accounts and retirement plans for individual and institutional investors as of September 30, 2004. Additional information about John Hancock Advisers can be found on the website: www.jhfunds.com. The Fund has entered into an investment management contract (the "Advisory Agreement") with the Adviser which was approved by the Fund's shareholders. Pursuant to the Advisory Agreement, the Adviser will: (a) furnish continuously an investment program for the Fund and determine, subject to the overall supervision and review of the Trustees, which investments should be purchased, held, sold or exchanged, and (b) provide supervision over all aspects of the Fund's operations except those which are delegated to a custodian, transfer agent or other agent. The Fund bears all costs of its organization and operation, including but not limited to expenses of preparing, printing and mailing all shareholders' reports, notices, prospectuses, proxy statements and reports to regulatory agencies; expenses relating to the issuance, registration and qualification of shares; government fees; interest charges; expenses of furnishing to shareholders 28 their account statements; taxes; expenses of redeeming shares; brokerage and other expenses connected with the execution of portfolio securities transactions; expenses pursuant to the Fund's plan of distribution; fees and expenses of custodians including those for keeping books and accounts, maintaining a committed line of credit and calculating the net asset value of shares; fees and expenses of transfer agents and dividend disbursing agents; legal, accounting, financial, management, tax and auditing fees and expenses of the Fund (including an allocable portion of the cost of the Adviser's employees rendering such services to the subject Fund); the compensation and expenses of Trustees who are not otherwise affiliated with the Trust, the Adviser or any of their affiliates; expenses of Trustees' and shareholders' meetings; trade association memberships; insurance premiums; and any extraordinary expenses. As compensation for its services under the Advisory Agreement, the Fund pays the Adviser monthly a fee based on a stated percentage of the average daily net assets of the Fund as follows: Average Daily Net Assets Annual Rate ------------------------ ----------- First $250 million 0.500% Next $250 million 0.450% Next $500 million 0.425% Next $250 million 0.400% Amounts over $1,250,000,000 0.300% From time to time, the Adviser may reduce its fee or make other arrangements to limit the Fund's expenses to a specified percentage of its average daily net assets. The Adviser retains the right to reimpose a fee and recover any other payments to the extent that, at the end of any fiscal year, the Fund's annual expenses fall below this limit. For the fiscal years ended August 31, 2002, 2003 and 2004, the advisory fee payable to the Adviser were $434,582, $475,732 and $ , respectively. However, a portion of such fees were not imposed pursuant to the voluntary fee reduction and expense limitation agreements then in effect, which was terminated effective December 31, 2000. For the fiscal years ended August 31, 2002, 2003 and 2004, the advisory fees actually paid to the Fund amounted to $ , $ and $ , respectively. Securities held by the Fund may also be held by other funds or investment advisory clients for which the Adviser or its affiliates provide investment advice. Because of different investment objectives or other factors, a particular security may be bought for one or more funds or clients when one or more are selling the same security. If opportunities for purchase or sale of securities by the Adviser or for other funds or clients for which the Adviser renders investment advice arise for consideration at or about the same time, transactions in such securities will be made, insofar as feasible, for the respective funds or clients in a manner deemed equitable to all of them. To the extent that transactions on behalf of more than one client of the Adviser or its affiliates may increase the demand for securities being purchased or the supply of securities being sold, there may be an adverse effect on price. Pursuant to the Advisory Agreement, the Adviser is not liable for any error of judgment or mistake of law or for any loss suffered by the Fund in connection with the matters to which their respective Advisory Agreement relate, except a loss resulting from willful misfeasance, bad faith or gross negligence on the part of the Adviser in the performance of its duties or from reckless disregard of the obligations and duties under the Advisory Agreement. 29 Under the Advisory Agreement, the Fund may use the name "John Hancock" or any name derived from or similar to it only for so long as the Advisory Agreement or any extension, renewal or amendment thereof remains in effect. If a Fund's Advisory Agreement is no longer in effect, the Fund (to the extent that it lawfully can) will cease to use such name or any other name indicating that it is advised by or otherwise connected with the Adviser. In addition, the Adviser or the Life Company may grant the non-exclusive right to use the name "John Hancock" or any similar name to any other corporation or entity, including but not limited to any investment company of which the Life Company or any subsidiary or affiliate thereof or any successor to the business of any subsidiary or affiliate thereof shall be the investment adviser. The Fund's Board of Trustees is responsible for overseeing the performance of the Fund's investment adviser and determining whether to approve and renew the Fund's Advisory Agreement. The Board has a standing request that the Adviser provide the Board with certain information the Board has deemed important to evaluating the short- and long-term performance of the Adviser. This information includes periodic performance analysis and status reports from the Adviser and quarterly Portfolio and Investment Performance Reports. The Fund's portfolio managers meet with the Board from time to time to discuss the management and performance of the Fund and respond to the Board's questions concerning the performance of the Adviser. When the Board considers whether to renew an investment advisory contract, the Board takes into account numerous factors, including: (1) the nature, extent and quality of the services provided by the Adviser; (2) the investment performance of the Fund's assets managed by the adviser; (3) the fair market value of the services provided by the adviser; (4) a comparative analysis of expense ratios of, and advisory fees paid by, similar funds; (5) the extent to which the adviser has realized or will realize economies of scale as the Fund grows; (6) other sources of revenue to the Adviser or its affiliates from its relationship with the Fund and intangible or "fall-out" benefits that accrue to the adviser and its affiliates, if relevant; and (7) the Adviser's control of the operating expenses of the fund, such as transaction costs, including ways in which portfolio transactions for the fund are conducted and brokers are selected. In evaluating the Advisory Agreement, the Independent Trustees reviewed materials furnished by the Adviser, including information regarding the Adviser, its respective affiliates and their personnel, operations and financial condition. The Independent Trustees also reviewed, among other things: o The investment performance of the Fund. The Board determined that the performance results of the Fund and the Adviser's responsive actions were reasonable, as compared with relevant performance standards, including the performance results of comparable corporate debt funds derived from data provided by Lipper Inc. and appropriate market indexes. o The fee charged by the Adviser for investment advisory and administrative services. The Board decided that the advisory fee paid by the Fund was reasonable based on the average advisory fee for comparable funds. The Board also took into account the nature of the fee arrangements which include breakpoints that will adjust the fee downward as the size of the Fund's portfolio increases. o The Board evaluated the Adviser's investment staff and portfolio management process, and reviewed the composition and overall performance of the Fund's portfolio on both a short-term and long-term basis. The Independent Trustees determined that the terms of the Fund's Advisory Agreement are fair and reasonable and that the contract is in the Fund's best interest. The Independent Trustees 30 believe that the advisory contract will enable the Fund to enjoy high quality investment advisory services at a cost they deem appropriate, reasonable and in the best interests of the Fund and its shareholders. In making such determinations, the Independent Trustees met independently from the Non-Independent Trustees of the Fund and any officers of the Adviser or its affiliates. The Independent Trustees also relied upon the assistance of counsel to the Independent Trustees and counsel to the Fund. The continuation of the Advisory Agreement and Distribution Agreement (discussed below) was approved by all of the Trustees. The Advisory Agreement and the Distribution Agreement will continue in effect from year to year, provided that its continuance is approved annually both (i) by the holders of a majority of the outstanding voting securities of the Trust or by the Trustees, and (ii) by a majority of the Trustees who are not parties to the Agreement, or "interested persons" of any such parties. Both Agreements may be terminated on 60 days written notice by any party or by a vote of a majority of the outstanding voting securities of the Fund and will terminate automatically if assigned. Accounting and Legal Services Agreement --------------------------------------- The Trust, on behalf of the Fund, is a party to an Accounting and Legal Services Agreement with the Adviser. Pursuant to this Agreement, the Adviser provides the Fund with certain tax, accounting and legal services. For the fiscal years ended August 31, 2002, 2003 and 2004, the Fund paid the Adviser $18,374, $32,224 and $ , respectively, for services under this Agreement. Proxy Voting. ------------- The Fund's Trustees have delegated to the Adviser the authority to vote proxies on behalf of the Fund. The Trustees have approved the proxy voting guidelines of the Adviser and will review the guidelines and suggest changes as they deem advisable. A summary of the Adviser's proxy voting guidelines is attached to this statement of additional information as Appendix C. Information regarding how the Fund voted proxies relating to portfolio securities during the 12-month period ending June 30, 2004 is available by calling 1-800-225-5291 or on the Fund's website: www.jhfunds.com/proxy or on the SEC's website at www.sec.gov. Personnel of the Adviser and its affiliates may trade securities for their personal accounts. The Fund also may hold, or may be buying or selling, the same securities. To prevent the Fund from being disadvantaged, the adviser(s), principal underwriter and the Fund have adopted a code of ethics which restricts the trading activity of those personnel. Distribution ContractS The Fund has a Distribution Agreement with John Hancock Funds. Under the agreement John Hancock Funds is obligated to use its best efforts to sell shares of each class of the Fund. Shares of the Fund are also sold by selected broker-dealers, banks and registered investment advisors ("Selling Firms") that have entered into selling agreements with John Hancock Funds. These Selling Firms are authorized to designate other intermediaries to receive purchase and redemption orders on behalf of the Fund. John Hancock Funds accepts orders for the purchase of the shares of the Fund that are continually offered at net asset value next determined, plus any applicable sales charge, if any. In connection with the sale of Fund shares, John Hancock Funds and Selling Firms receive compensation from a sales charge imposed, in the case of Class A shares, at the time of sale. (Prior to July 15, 2004, Class C shares were also subject to a sales load imposed at the time of purchase.) In the case of Class B or Class C shares, the Selling Firm receives compensation immediately but John Hancock Funds is compensated on a deferred basis. 31 Total underwriting commissions (sales charges) for sales of the Fund's Class A shares for the fiscal years ended August 31, 2002, 2003 and 2004 were $203,436, $181,025 and $ , respectively. Of such amounts, $24,883, $21,367 and $ , respectively, were retained by John Hancock Funds for the fiscal years ended August 31, 2002, 2003 and 2004, respectively. Total underwriting commissions (sales charges) for sales of the Fund's Class C shares for the fiscal years ended August 31, 2002, 2003 and 2004 were $21,793, $36,664 and $ , respectively. No Class C commissions were retained by John Hancock Funds, the remainder of the underwriting commissions were paid/reallowed to Selling Firms. The Fund's Trustees adopted Distribution Plans with respect to each class of shares (the "Plans") pursuant to Rule 12b-1 under the Investment Company Act of 1940. Under the Plans, the Fund will pay distribution and service fees at an aggregate annual rate of up to 0.30% for Class A shares and 1.00% for Class B and Class C shares, of the Fund's average daily net assets attributable to shares of that class. However, the service fee will not exceed 0.25% of the Fund's average daily net assets attributable to each class of shares. The distribution fees will be used to reimburse John Hancock Funds for its distribution expenses, including but not limited to: (i) initial and ongoing sales compensation to Selling Firms and others (including affiliates of John Hancock Funds) engaged in the sale of the Fund shares; (ii) marketing, promotional and overhead expenses incurred in connection with the distribution of Fund shares; and (iii) with respect to Class B and Class C shares only, interest expenses on unreimbursed distribution expenses. The service fees will be used to compensate Selling Firms and others for providing personal and account maintenance services to shareholders. In the event the John Hancock Funds is not fully reimbursed for payments or expenses they under the Class A Plan, these expenses will not be carried beyond twelve months from the date they were incurred. Unreimbursed expenses under the Class B and Class C Plans will be carried forward together with interest on the balance of these unreimbursed expenses. The Fund does not treat unreimbursed expenses under the Class B and Class C Plans as a liability of the Fund, because the Trustees may terminate Class B and/or Class C Plans at any time with no additional liability for these expenses to the shareholders and the Fund. For the fiscal year ended August 31, 2004, an aggregate of $ of distribution expenses or % of the average net assets of the Fund's Class B shares was not reimbursed or recovered by John Hancock Funds through the receipt of deferred sales charges or Rule 12b-1 fees in prior periods. For the fiscal year ended August 31, 2004, an aggregate of $ distribution expenses or 0.24% of the average net assets of the Class C shares of the Fund was not reimbursed or recovered by John Hancock Funds through receipt of deferred sales charges or 12b-1 fees. The Plans and all amendments were approved by the Trustees, including a majority of the Trustees who are not interested persons of the Fund and who have no direct or indirect financial interest in the operation of the Plans (the "Independent Trustees"), by votes cast in person at meetings called for the purpose of voting on such Plans. Pursuant to the Plans, at least quarterly, John Hancock Funds provide the Fund with a written report of the amounts expended under the Plans and the purpose for which these expenditures were made. The Trustees review these reports on a quarterly basis to determine their continued appropriateness. The Plans provide that they will continue in effect only so long as their continuance is approved at least annually by a majority of both the Trustees and Independent Trustees. The Plans provide that they may be terminated without penalty, (a) by vote of a majority of the Independent Trustees, (b) by a vote of a majority of the Fund's outstanding shares of the applicable class upon 60 days' written notice to John Hancock Funds, and (c) automatically in the event of assignment. 32 The Plans further provide that they may not be amended to increase the maximum amount of the fees for the services described therein without the approval of a majority of the outstanding shares of the class of the Fund which has voting rights with respect to that Plan. Each Plan provides, that no material amendment to the Plans will be effective unless it is approved by a majority vote of the Trustees and the Independent Trustees of the Fund. The holders of Class A, Class B and Class C shares have exclusive voting rights with respect to the Plan applicable to their respective class of shares. In adopting the Plans, the Trustees concluded that, in their judgment, there is a reasonable likelihood that the Plans will benefit the holders of the applicable class of shares of the Fund. Amounts paid to John Hancock Funds by any class of shares of the Fund will not be used to pay the expenses incurred with respect to any other class of shares of the Fund; provided, however, that expenses attributable to the Fund as a whole will be allocated, to the extent permitted by law, according to a formula based upon gross sales dollars and/or average daily net assets of each such class, as may be approved from time to time by vote of a majority of Trustees. From time to time, the Fund may participate in joint distribution activities with other Funds and the costs of those activities will be borne by the Fund in proportion to the relative net asset value of the participating Fund. During the fiscal year ended August 31, 2004, the Fund paid John Hancock Funds the following amounts of expenses in connection with their services. Expense Items ------------- Interest, Printing and Mailing Expenses Carrying or of Prospectuses to Compensation to of John Hancock Other Finance Advertising New Shareholders Selling Firms Funds Charges ----------- ---------------- ------------- ----- ------- Class A $ $ $ $ $ Class B $ $ $ $ $ Class C $ $ $ $ $
SALES COMPENSATION As part of their business strategies the Fund, along with John Hancock Funds, pays compensation to Selling Firms that sell the Fund's shares. These firms typically pass along a portion of this compensation to your broker or financial representative. The two primary sources of Selling Firm compensation payments are (1) 12b-1 fees that are paid out of the Fund's assets and (2) sales charges paid by investors. The sales charges and 12b-1 fees are detailed in the prospectus and under "Distribution Contracts" in this Statement of Additional Information. The portions of these expenses that are paid to financial services firms are shown on the next page. Initial compensation Whenever you make an investment in Class A, Class B or Class C shares of the Fund, the Selling Firm receives a reallowance/payment/commission as described on the next page. The Selling Firm also receives the first year's 12b-1 service fee at this time. 33 Annual compensation For Class A, Class B and Class C shares of the Fund, beginning in the second year after an investment is made, the Selling Firm receives an annual 12b-1 service fee of 0.25% of its average daily net (aged) assets. In addition, beginning in the second year after an investment is made in Class C shares, the Distributor will pay the Selling Firm a distribution fee in an amount not to exceed 0.75% of the average daily net (aged) assets. These service and distribution fees are paid quarterly in arrears. Selling Firms receive service and distribution fees if, for the preceding quarter, (1) their clients/shareholders have invested combined average daily net assets of no less than $1,000,000 in eligible (aged) assets; or (2) an individual registered representative of the Selling Firm has no less than $250,000 in eligible (aged) assets. The reason for these criteria is to save the Fund the expense of paying out de minimus amounts. As a result, if a Selling Firm does not meet one of the criteria noted above, the money for that firm's fees remains in the Fund. In addition, from time to time, John Hancock Funds, at its expense, and without additional cost to the Fund or its shareholders, may provide significant additional compensation to financial services firms in connection with their promotion of the Fund or sale of shares of the Fund. Such compensation provided by John Hancock Funds may include, for example, financial assistance to Selling Firms in connection with their marketing and sales development programs for their registered representatives and other employees, as well as payment for travel expenses, including lodging, incurred by registered representatives and other employees for such marketing and sales development programs, as well as assistance for seminars for the public, advertising and sales campaigns regarding one or more Funds, and other Selling Firm-sponsored events or activities. From time to time, John Hancock Funds may provide expense reimbursements for special training of a Selling Firm's registered representatives and other employees in group meetings or non-cash compensation in the form of occasional gifts, meals, tickets or other entertainment. Payments may also include amounts for sub-administration and other services for shareholders whose shares are held of record in omnibus or other group accounts. Other compensation, such as asset retention fees, finder's fees and reimbursement for wire transfer fees or other administrative fees and costs may be offered to the extent not prohibited by law or any self-regulatory agency such as the NASD. 34 First Year Broker or Other Selling Firm Compensation Investor pays sales Selling Firm Selling Firm charge offering receives receives 12b-1 Total Selling Firm Class A investments (% of offering price) commission (1) service fee(2) Compensation (3)(4) ------------------ ---------------------- -------------- -------------- ------------------- Up to $99,999 4.50% 3.76% 0.25% 4.00% $100,000 - $249,999 3.75% 3.01% 0.25% 3.25% $250,000 - $499,999 3.00% 2.26% 0.25% 2.50% $500,000 - $999,999 2.00% 1.51% 0.25% 1.75% Investments of Class A shares of $1 million or more (5) First $1M - $4,999,999 -- 0.75% 0.25% 1.00% Next $1 - $5M above that -- 0.25% 0.25% 0.50% Next $1 and more above that -- 0.00% 0.25% 0.25% Class B investments All amounts 3.75% 0.25% 4.00% Class C investments All other amounts -- 0.75% 0.25% 1.00%
(1) For Class A investments under $1 million, a portion of the Selling Firm's commission is paid out of the sales charge. (2) For Class A, B and C shares, the Selling Firm receives 12b-1 fees in the first year as a % of the amount invested and after the first year as a % of average daily net eligible assets (paid quarterly in arrears). (3) Selling Firm commission and 12b-1 service fee percentages are calculated from different amounts, and therefore may not equal the total Selling Firm compensation percentages if combined using simple addition. (4) Underwriter retains the balance. (5) See "Initial Sales Charge on Class A Shares" for discussion on how to qualify for a reduced sales charge. John Hancock Funds may take recent redemptions into account in determining if an investment qualifies as a new investment. CDSC revenues collected by John Hancock Funds may be used to pay Selling Firm commissions when there is no initial sales charge. Net Asset Value For purposes of calculating the net asset value ("NAV") of the Fund's shares, the following procedures are utilized wherever applicable. 35 Debt investment securities are valued on the basis of valuations furnished by a principal market maker or a pricing service, both of which generally utilize electronic data processing techniques to determine valuations for normal institutional size trading units of debt securities without exclusive reliance upon quoted prices. In addition, because of the amount of time required to collect and process trading information as to large numbers of securities issues, the values of certain securities (such as convertible bonds, U.S. government securities and tax-exempt securities) are determined based on market quotations collected prior to the close of the Exchange. Occasionally, events affecting the value of such securities may occur between the time of the determination of value and the close of the Exchange which will not be reflected in the computation of the Fund's net asset value. If events materially affecting the value of such securities occur during such period, then these securities will be valued at their fair value following procedures approved by the Trustees. Equity securities traded on a principal exchange are generally valued at last sale price on the day of valuation or in the case of securities traded on NASDAQ, the NASDAQ official closing price. Securities in the aforementioned category for which no sales are reported and other securities traded over-the-counter are generally valued at the last available bid price. Equity options held by a Fund are priced as of the close of trading (generally 4 p.m. Eastern Time), futures contracts on U.S. government and other fixed-income securities (generally 3 p.m. Eastern Time) and index options held by a Fund are priced as of their close of trading (generally 4:15 p.m. Eastern Time) Short-term debt investments which have a remaining maturity of 60 days or less are generally valued at amortized cost which approximates market value. If market quotations are not readily available or if in the opinion of the Adviser any quotation or price is not representative of true market value, the fair value of the security may be determined in good faith in accordance with procedures approved by the Trustees. If any securities held by the Fund are restricted as to resale, the fair value of such securities is generally determined as the amount which the Fund could reasonably expect to realized from an orderly disposition of such securities over a reasonable period of time. The valuation procedures applied in any specific instance are likely to vary from case to case. However, consideration is generally given to the financial position of the issuer and other fundamental analytical data relating to the investment and to the nature of the restrictions on disposition of the securities (including any registration expenses that might be borne by the Fund in connection with such disposition). In addition, specific factors are also generally considered, such as the cost of the investment, the market value of any unrestricted securities of the same class, the size of the holding, the prices of any recent transactions or offers with respect to such securities and any available analysts' reports regarding the issuer. Foreign securities are valued on the basis of quotations from the primary market in which they are traded. Any assets or liabilities expressed in terms of foreign currencies are translated into U.S. dollars by the custodian bank based on London currency exchange quotations as of 4:00 p.m., London time on the date of any determination of the Fund's NAV. Generally, trading in foreign securities is substantially completed each day at 36 various times prior to the closed of the Exchange. Currency exchange rates are normally determined at the close of trading in London, England (11:00 a.m., New York Time). The closing prices for securities in markets or on exchanges outside the U.S. that close prior to the close of the Exchange may not fully reflect events that occur after such close but before the close of the Exchange. As a result, the Fund has adopted fair value pricing procedures, which, among other things, require the Fund to fair value such securities if these has been a movement in the U.S. market that exceeds a specified threshold. Although the threshold may be revised from time to time and the number of days on which fair value prices will be used will depend on market activity, it is possible that fair value prices will be used by the Fund to a significant extent. In addition, securities held by some of the Funds may be traded in foreign markets that are open for business on days that the Fund is not, and the trading of such securities on those days may have an impact on the value of a shareholder's investment at a time when the shareholder cannot buy and sell shares of the Fund. The NAV for each class of the Fund is determined each business day at the close of regular trading on the New York Stock Exchange (typically 4:00 p.m. Eastern Time) by dividing a class's net assets by the number of its shares outstanding. On any day an international market is closed and the New York Stock Exchange is open, any foreign securities will be valued at the prior day's close with the current day's exchange rate. Trading of foreign securities may take place on Saturdays and U.S. business holidays on which the Fund's NAV is not calculated. Consequently, the Fund's portfolio securities may trade and the NAV of the Fund's redeemable securities may be significantly affected on days when a shareholder has no access to the Fund. Initial Sales Charge on Class A Shares Shares of the Fund are offered at a price equal to their net asset value plus a sales charge which, at the option of the purchaser, may be imposed either at the time of purchase ("initial sales charge") or on a contingent deferred basis ("contingent deferred sales charge" or "CDSC"). The fund no longer issues share certificates. Shares are electronically recorded. The Trustees reserve the right to change or waive the Fund's minimum investment requirements and to reject any order to purchase shares (including purchase by exchange) when in the judgment of the Adviser such rejection is in the Fund's best interest. The sales charges applicable to purchases of Class A shares of the Fund are described in the Prospectus. Methods of obtaining reduced sales charges referred to generally in the Prospectus are described in detail below. In calculating the sales charge applicable to current purchases of Class A shares of the Fund, the investor is entitled to accumulate current purchases with the current offering price of the Class A, Class B, Class C, Class I, or Class R shares of the John Hancock mutual funds owned by the investor (see "Accumulation Privilege" below). In order to receive the reduced sales charge, the investor must notify his/her financial adviser and/or the financial adviser must notify John Hancock Signature Services, Inc. ("Signature Services") at the time of purchase of the Class A shares, about any other John Hancock mutual funds owned by the investor, the investor's spouse and their children under the age of 21 (see "Combination Privilege" below). This includes investments held in a retirement account, an employee benefit plan or at a broker or financial adviser other than the one handling your current purchase. John Hancock will credit the combined value, at the current offering price, of all eligible accounts to determine whether you qualify for a reduced sales charge on your current purchase. Without Sales Charges. ---------------------- Class A shares may be offered without a front-end sales charge or contingent deferred sales charge ("CDSC") to various individuals and institutions as follows: 37 o A Trustee or officer of the Trust; a Director or officer of the Adviser and its affiliates, sub-adviser or Selling Firms; employees or sales representatives of any of the foregoing; retired officers, employees or Directors of any of the foregoing; a member of the Immediate Family (spouse, child, grandchild, parent, sibling, mother-in-law, father-in-law, daughter-in-law, son-in-law, niece, nephew, grandparent and same sex domestic partner; "Immediate Family") of any of the foregoing; or any fund, pension, profit sharing or other benefit plan for the individuals described above. o A broker, dealer, financial planner, consultant or registered investment advisor that has entered into a signed agreement with John Hancock Funds providing specifically for the use of Fund shares in fee-based investment products or services made available to their clients. o A former participant in an employee benefit plan with John Hancock funds, when he or she withdraws from his or her plan and transfers any or all of his or her plan distributions directly to the Fund. o A member of a class action lawsuit against insurance companies who is investing settlement proceeds. o Certain retirement plans participating in Merrill Lynch servicing programs offered in Class A shares, including transferee recording arrangements, Merrill Lynch Connect Arrangements and third party administrator recordkeeping arrangements. See your Merrill Lynch Financial Consultant for further information. o Retirement plans investing through the PruArray Program sponsored by a Prudential Financial company. o Pension plans transferring assets from a John Hancock variable annuity contract to the Fund pursuant to an exemptive application approved by the Securities and Exchange Commission. o Participant directed retirement plans with at least 100 eligible employees at the inception of the Fund account. Each of these employees may purchase Class A shares with no initial sales charge, if the plan sponsor notifies Signature Services of the number of employees at the time the account is established. However, if the shares are redeemed within 12 months of the inception of the plan, a CDSC will be imposed at the following rate: Amount Invested CDSC Rate --------------- --------- First $1 to $4,999,999 1.00% Next $1-$5 million above that 0.50% Next $1 or more above that 0.25% As of July 15, 2004, no Class C investors pay a front-end sales charge. Class A shares may also be purchased without an initial sales charge in connection with certain liquidation, merger or acquisition transaction involving other investment companies or personal holding companies. 38 With Reduced Sales Charges -------------------------- Combination Privilege. ---------------------- For all shareholders in calculating the sales charge applicable to purchases of Class A shares made at one time, the purchases will be combined to reduce sales charges if made by (a) an individual, his or her spouse and their children under the age of 21, purchasing securities for his or their own account, (b) a trustee or other fiduciary purchasing for a single trust, estate or fiduciary account and (c) groups which qualify for the Group Investment Program (see below). Qualified and non-qualified retirement plan investments can be combined to take advantage of this privilege. Further information about combined purchases, including certain restrictions on combined group purchases, is available from Signature Services or a Selling Firm's representative. Accumulation Privilege. ----------------------- Class A investors may also reduce their Class A sales charge by taking into account not only the amount being invested but also the current offering price of all the Class A, Class B, Class C, Class I and Class R shares of all John Hancock funds already held by such person. However, Class A shares of John Hancock money market funds will only be eligible for the accumulation privilege if the investor has previously paid a sales charge on the amount of those shares. To receive a reduced sales charge, the investor must tell his/her financial adviser or Signature Services at the time of the purchase about any other John Hancock mutual funds held by that investor or his/her Immediate Family. Group Investment Program. ------------------------- Under the Combination and Accumulation Privileges, all members of a group may combine their individual purchases of Class A shares to potentially qualify for breakpoints in the sales charge schedule. This feature is provided to any group which (1) has been in existence for more than six months, (2) has a legitimate purpose other than the purchase of mutual fund shares at a discount for its members, (3) utilizes salary deduction or similar group methods of payment, and (4) agrees to allow sales materials of the fund in its mailings to members at a reduced or no cost to John Hancock Funds. Letter of Intention. -------------------- Reduced Class A sales charges under the Accumulation Privilege are also applicable to investments made pursuant to a Letter of Intention (the "LOI"), which should be read carefully prior to its execution by an investor. The Fund offers two options regarding the specified period for making investments under the LOI. All investors have the option of making their investments over a specified period of thirteen (13) months. Investors who are using the Fund as a funding medium for a retirement plan, however, may opt to make the necessary investments called for by the LOI over a forty-eight (48) month period. These retirement plans include traditional, Roth IRAs and Coverdell ESAs, SEP, SARSEP, 401(k), 403(b) (including TSAs), SIMPLE IRA, SIMPLE 401(k), Money Purchase Pension, Profit Sharing and Section 457 plans. An individual's non-qualified and qualified retirement plan investments can be combined to satisfy an LOI (either 13 or 48 months). Since some retirement plans are held in an omnibus account, an investor wishing to count retirement plan holdings towards a Class A purchase must notify Signature Services of these holdings. Such an investment (including accumulations, combinations and reinvested dividends) must aggregate $100,000 or more during the specified period from the date of the LOI or from a date within ninety (90) days prior thereto, upon written request to Signature Services. The sales charge applicable to all amounts invested under the LOI is computed as if the aggregate amount intended to be invested had been invested immediately. If such aggregate amount is not actually invested, the difference in the sales charge actually paid and the sales charge payable had the LOI not been in effect is due from the investor. However, for the purchases actually made within the specified period (either 13 or 48 months) the sales charge applicable will not be higher than that which would have applied (including accumulations and combinations) had the LOI been for the amount actually invested. 39 The LOI authorizes Signature Services to hold in escrow sufficient Class A shares (approximately 5% of the aggregate) to make up any difference in sales charges on the amount intended to be invested and the amount actually invested, until such investment is completed within the specified period, at which time the escrowed Class A shares will be released. If the total investment specified in the LOI is not completed, the Class A shares held in escrow may be redeemed and the proceeds used as required to pay such sales charge as may be due. By signing the LOI, the investor authorizes Signature Services to act as his attorney-in-fact to redeem any escrowed Class A shares and adjust the sales charge, if necessary. A LOI does not constitute a binding commitment by an investor to purchase, or by the Fund to sell, any additional Class A shares and may be terminated at any time. DEFFERRED SALES CHARGE ON CLASS B AND CLASS C SHARES Investments in Class B and Class C shares are purchased at net asset value per share without the imposition of an initial sales charge so that the Fund will receive the full amount of the purchase payment. Contingent Deferred Sales Charge. --------------------------------- Class B and Class C shares which are redeemed within six years or one year of purchase, respectively, will be subject to a contingent deferred sales charge ("CDSC") at the rates set forth in the Prospectus as a percentage of the dollar amount subject to the CDSC. The charge will be assessed on an amount equal to the lesser of the current market value or the original purchase cost of the Class B or Class C shares being redeemed. No CDSC will be imposed on increases in account value above the initial purchase prices or on shares derived from reinvestment of dividends or capital gains distributions. Class B shares are not available to retirement plans that had more than 100 eligible employees at the inception of the Fund account. You must notify Signature Services of the number of eligible employees at the time your account is established. The amount of the CDSC, if any, will vary depending on the number of years from the time of payment for the purchase of Class B shares until the time of redemption of such shares. Solely for purposes of determining the number of years from the time of any payment for the purchase of both Class B and Class C shares, all payments during a month will be aggregated and deemed to have been made on the first day of the month. In determining whether a CDSC applies to a redemption, the calculation will be determined in a manner that results in the lowest possible rate being charged. It will be assumed that your redemption comes first from shares you have held beyond the six-year CDSC redemption period for Class B or one year CDSC redemption period for Class C, or those you acquired through dividend and capital gain reinvestment, and next from the shares you have held the longest during the six-year period for Class B shares. For this purpose, the amount of any increase in a share's value above its initial purchase price is not subject to a CDSC. Thus, when a share that has appreciated in value is redeemed during the CDSC period, a CDSC is assessed only on its initial purchase price. When requesting a redemption for a specific dollar amount, please indicate if you require the proceeds to equal the dollar amount requested. If not indicated, only the specified dollar amount will be redeemed from your account and the proceeds will be less any applicable CDSC. 40 Example: You have purchased 100 Class B shares at $10 per share. The second year after your purchase, your investment's net asset value per share has increased by $2 to $12, and you have gained 10 additional shares through dividend reinvestment. If you redeem 50 shares at this time your CDSC will be calculated as follows: oProceeds of 50 shares redeemed at $12 per shares (50 x 12) $600.00 o*Minus Appreciation ($12 - $10) x 100 shares (200.00) oMinus proceeds of 10 shares not subject to CDSC (dividend reinvestment) (120.00) ------- oAmount subject to CDSC $280.00 *The appreciation is based on all 100 shares in the account not just the shares being redeemed. Proceeds from the CDSC are paid to John Hancock Funds and are used in whole or in part by John Hancock Funds to defray its expenses related to providing distribution-related services to the Fund in connection with the sale of the Class B and Class C shares, such as the payment of compensation to select Selling Firms for selling Class B and Class C shares. The combination of the CDSC and the distribution and service fees facilitates the ability of the Fund to sell the Class B and Class C shares without a sales charge being deducted at the time of the purchase. Waiver of Contingent Deferred Sales Charge. ------------------------------------------- The CDSC will be waived on redemptions of Class B and Class C shares and Class A shares that are subject to a CDSC, unless indicated otherwise, in the circumstances defined below: For all account types: * Redemptions made pursuant to the Fund's right to liquidate your account if you own shares worth less than $1,000. * Redemptions made under certain liquidation, merger or acquisition transactions involving other investment companies or personal holding companies. * Redemptions due to death or disability. (Does not apply to Trust accounts unless Trust is dissolved.) * Redemptions made under the Reinstatement Privilege, as described in "Sales Charge Reductions and Waivers" of the Prospectus. * Redemptions of Class B and Class C shares made under a periodic withdrawal plan, or redemptions for fees charged by planners or advisors for advisory services, as long as your annual redemptions do not exceed 12% of your account value, including reinvested dividends, at the time you established your periodic withdrawal plan and 12% of the value of subsequent investments (less redemptions) in that account at the time you notify Signature Services. (Please note, this waiver does not apply to periodic withdrawal plan redemptions of Class A shares that are subject to a CDSC.) * Certain retirement plans participating in Merrill Lynch servicing programs offered in Class A, Class B and Class C shares, including transferee recording arrangements, Merrill Lynch Connect Arrangements and third party administrator recordkeeping arrangements. See your Merrill Lynch financial consultant for further information. 41 * Redemptions of Class A shares by retirement plans that invested through the Pru Array Program sponsored by Prudential Financial company. Redemptions of Class A shares made after one year from the inception date of a retirement plan at John Hancock. For Retirement Accounts (such as traditional, Roth IRAs and Coverdell ESAs, SIMPLE IRAs, SIMPLE 401(k), Rollover IRA, TSA, 457, 403(b), 401(k), Money Purchase Pension Plan, Profit-Sharing Plan and other plans as described in the Internal Revenue Code) unless otherwise noted. * Redemptions made to effect mandatory or life expectancy distributions under the Internal Revenue Code. (Waiver based on required minimum distribution calculations for John Hancock Mutual Fund IRA assets only.) * Returns of excess contributions made to these plans. * Redemptions made to effect certain distributions, as outlined in the chart on the following page, to participants or beneficiaries from employer sponsored retirement plans under sections 401(a) (such as Money Purchase Pension Plans and Profit-Sharing/401(k) Plans), 403(b), 457 and 408 (SEPs and SIMPLE IRAs) of the Internal Revenue Code. Please see matrix for some examples. 42 ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Type of 401 (a) Plan 403 (b) 457 IRA, IRA Non-retirement Distribution (401 (k), MPP, Rollover PSP) 457 & 408 (SEPs & Simple IRAs) ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Death or Disability Waived Waived Waived Waived Waived ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Over 701/2 Waived Waived Waived Waived for 12% of account required value annually minimum in periodic distributions*or payments 12% of account value annually in periodic payments ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Between 591/2and 701/2 Waived Waived Waived Waived for Life 12% of account Expectancy or value annually 12% of account in periodic value annually payments in periodic payments ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Under 591/2 Waived for Waived for Waived for Waived for 12% of account (Class B and Class C annuity annuity annuity annuity value annually only) payments (72t) payments (72t) payments (72t) payments (72t) in periodic or 12% of or 12% of or 12% of or 12% of payments account value account value account value account value annually in annually in annually in annually in periodic periodic periodic periodic payments payments payments payments ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Loans Waived Waived N/A N/A N/A ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Termination of Plan Not Waived Not Waived Not Waived Not Waived N/A ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Hardships Waived Waived Waived N/A N/A ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Qualified Domestic Waived Waived Waived N/A N/A Relations Orders ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Termination of Waived Waived Waived N/A N/A Employment Before Normal Retirement Age ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Return of Excess Waived Waived Waived Waived N/A ----------------------- ----------------- ----------------- ---------------- ----------------- ----------------
*Required minimum distributions based on John Hancock Mutual Fund IRA assets only. 43 If you qualify for a CDSC waiver under one of these situations, you must notify Signature Services at the time you make your redemption. The waiver will be granted once Signature Services has confirmed that you are entitled to the waiver. Special Redemptions Although it would not normally do so, the Fund has the right to pay the redemption price of shares of the Fund in whole or in part in portfolio securities as prescribed by the Trustees. When the shareholder sells portfolio securities received in this fashion, the shareholder will incur a brokerage charge. Any such securities would be valued for the purpose of making such payment at the same value as used in determining the Fund's net asset value. The Fund has, however, elected to be governed by Rule 18f-1 under the Investment Company Act. Under that rule, the Fund must redeem its shares for cash except to the extent that the redemption payments to any shareholder during any 90-day period would exceed the lesser of $250,000 or 1% of the Fund's net asset value at the beginning of such period. Additional Services And Programs Exchange Privilege. ------------------- The Fund permits exchanges of shares of any class for shares of the same class in any other John Hancock fund offering that class. Exchanges between funds are based on their respective net asset values. No sales charge is imposed, except on exchanges of Class A shares from Money Market Fund or U.S. Government Cash Reserve Fund to another John Hancock fund, if a sales charge has not previously been paid on those shares. However, the shares acquired in an exchange will be subject to the CDSC schedule of the shares acquired if and when such shares are redeemed. For purposes of computing the CDSC payable upon redemption of shares acquired in an exchange, the holding period of the original shares is added to the holding period of the shares acquired in an exchange. If a retirement plan exchanges the plan's Class A account in its entirety from the Fund to a non-John Hancock investment, the one-year CDSC applies. The Fund reserves the right to require that previously exchanged shares (and reinvested dividends) be in the Fund for 90 days before a shareholder is permitted a new exchange. An exchange of shares is treated as a redemption of shares of one fund and the purchase of shares of another for Federal Income Tax purposes. An exchange may result in a taxable gain or loss. See "TAX STATUS". Systematic Withdrawal Plan. --------------------------- The Fund permits the establishment of a Systematic Withdrawal Plan. Payments under this plan represent proceeds arising from the redemption of Fund shares, which may result in realization of gain or loss for purposes of Federal, state and local income taxes. The maintenance of a Systematic Withdrawal Plan concurrently with purchases of additional shares of the Fund could be disadvantageous to a shareholder because of the initial sales charge payable on the purchases of Class A shares and the CDSC imposed on redemptions of Class B and Class C shares and because redemptions are taxable events. Therefore, a shareholder should not purchase shares at the same time as a Systematic Withdrawal Plan is in effect. The Fund reserves the right to modify or discontinue the Systematic Withdrawal Plan of any shareholder on 30 days' prior written notice to such shareholder, or to discontinue the availability of such plan in the future. The shareholder may terminate the plan at any time by giving proper notice to Signature Services. 44 Monthly Automatic Accumulation Program ("MAAP"). ------------------------------------------------ The program is explained in the Prospectus. The program, as it relates to automatic investment checks, is subject to the following conditions: The investment will be drawn on or about the day of the month indicated. The privilege of making investments through the MAAP may be revoked by Signature Services without prior notice if any investment is not honored by the shareholder's bank. The bank shall be under no obligation to notify the shareholder as to the non-payment of any checks. The program may be discontinued by the shareholder either by calling Signature Services or upon written notice to Signature Services which is received at least five (5) business days prior to the order date of any investment. Reinstatement and Reinvestment Privilege. ----------------------------------------- If Signature Services is notified prior to reinvestment, a shareholder who has redeemed Fund shares may, within 120 days after the date of redemption, reinvest without payment of a sales charge any part of the redemption proceeds in shares of the same class of the Fund or another John Hancock fund, subject to the minimum investment limit of that fund. The proceeds from the redemption of Class A shares may be reinvested at net asset value without paying a sales charge in Class A shares of any John Hancock fund. If a CDSC was paid upon a redemption, a shareholder may reinvest the proceeds from this redemption at net asset value in additional shares of the class from which the redemption was made. The shareholder's account will be credited with the amount of the CDSC charged upon the prior redemption and the new shares will continue to be subject to the CDSC. The holding period of the shares acquired through reinvestment will, for purposes of computing the CDSC payable upon a subsequent redemption, include the holding period of the redeemed shares. The Fund may refuse any reinvestment request and may change or cancel its reinvestment policies at any time. A redemption or exchange of Fund shares is a taxable transaction for Federal income tax purposes even if the reinvestment privilege is exercised, and any gain or loss realized by a shareholder on the redemption or other disposition of Fund shares will be treated for tax purposes as described under the caption "TAX STATUS." Retirement Plans participating in Merrill Lynch's servicing programs. --------------------------------------------------------------------- Class A shares are available at net asset value for Merrill Lynch retirement plans, including transferee recording arrangements. Merrill Lynch Connect Arrangements and third party administrator recordkeeping arrangements. See your Merrill Lynch Financial Consultant for further information. For participating retirement plans investing in Class B shares, shares will convert to Class A shares after eight years, or sooner if the plan attains assets of $5 million (by means of a CDSC-free redemption/purchase at net asset value). PURCHASES AND REDEMPTIONS THROUGH THIRD PARTIES Shares of the Fund may be purchased or redeemed through certain Selling Firms. Selling Firms may charge the investor additional fees for their services. The Fund will be deemed to have received a purchase or redemption order when an authorized Selling Firm, or if applicable, a 45 Selling Firm's authorized designee, receives the order. Orders may be processed at the NAV next calculated after the Selling Firm receives the order. The Selling Firm must segregate any orders it receives after the close of regular trading on the New York Stock Exchange and transmit those orders to the Fund for execution at NAV next determined. Some Selling Firms that maintain network/omnibus/nominee accounts with the Fund for their clients charge an annual fee on the average net assets held in such accounts for accounting, servicing, and distribution services they provide with respect to the underlying Fund shares. This fee is paid by the Adviser, the Fund and/or John Hancock Funds, LLC (the Fund's principal distributor). Description Of The Fund's Shares The Trustees of the Trust are responsible for the management and supervision of the Fund. The Declaration of Trust permits the Trustees to issue an unlimited number of full and fractional shares of beneficial interest of the Fund, without par value. Under the Declaration of Trust, the Trustees have the authority to create and classify shares of beneficial interest in separate series and classes without further action by shareholders. As of the date of this Statement of Additional Information, the Trustees have authorized the issuance of two series of shares - John Hancock Massachusetts Tax-Free Income Fund and the John Hancock New York Tax-Free Income Fund. Additional series may be added in the future. The Trustees have also authorized the issuance of three classes of shares of each series, designated as Class A, Class B and Class C. The shares of each class of the Fund represent an equal proportionate interest in the aggregate net assets attributable to that class or series of the Fund. Holders of each class of shares have certain exclusive voting rights on matters relating to their respective distribution plans. The different classes of the Fund may bear different expenses relating to the cost of holding shareholder meetings necessitated by the exclusive voting rights of any class of shares. Dividends paid by the Fund, if any, with respect to each class of shares will be calculated in the same manner, at the same time and on the same day and will be in the same amount, except for differences resulting from the facts that (i) the distribution and service fees relating to each class of shares will be borne exclusively by that class (ii) Class B and Class C shares will pay higher distribution and service fees than Class A shares and (iii) each class of shares will bear any class expenses properly allocable to that class of shares, subject to the conditions the Internal Revenue Service imposes with respect to the multiple-class structures. Similarly, the net asset value per share may vary depending on which class of shares are purchased. No interest will be paid on uncashed dividend or redemption checks. In the event of liquidation, shareholders of each class are entitled to share pro rata in the net assets of the Fund available for distribution to these shareholders. Shares entitle their holders to one vote per share, are freely transferable and have no preemptive, subscription or conversion rights. When issued, shares are fully paid and non-assessable by the Fund, except as set forth below. Unless otherwise required by the Investment Company Act or the Declaration of Trust, the Fund has no intention of holding annual meetings of shareholders. The Fund's shareholders may remove a Trustee by the affirmative vote of at least two-thirds of the Fund's outstanding shares and the Trustees shall promptly call a meeting for such purpose when requested to do so in writing by the record holders of not less than 10% of the outstanding shares of the Fund. Shareholders may, under certain circumstances, communicate with other shareholders in connection with requesting a special meeting of shareholders. However, at any time that less 46 than a majority of the Trustees holding office were elected by the shareholders, the Trustees will call a special meeting of shareholders for the purpose of electing Trustees. Under Massachusetts law, shareholders of a Massachusetts business trust could, under certain circumstances, be held personally liable for acts or obligations of the Trust. However, the Fund's Declaration of Trust contains an express disclaimer of shareholder liability for acts, obligations or affairs of the Fund. The Declaration of Trust also provides for indemnification out of the Fund's assets for all losses and expenses of any shareholder of any Fund held personally liable by reason of being or having been a shareholder. The Declaration of Trust also provides that no series of the Fund shall be liable for the liabilities of any other series. Furthermore, no fund included in this Fund's Prospectus shall be liable for the liabilities of any other John Hancock fund. Liability is therefore limited to circumstances in which the Fund itself would be unable to meet its obligations, and the possibility of this occurrence is remote. The Fund reserves the right to reject any application which conflicts with the Fund's internal policies or the policies of any regulatory authority. John Hancock Funds does not accept starter, credit card or third party checks. All checks returned by the post office as undeliverable will be reinvested at net asset value in the fund or funds from which a redemption was made or dividend paid. Information provided on the account application may be used by the Funds to verify the accuracy of the information or for background or financial history purposes. A joint account will be administered as a joint tenancy with right of survivorship, unless the joint owners notify Signature Services of a different intent. A shareholder's account is governed by the laws of The Commonwealth of Massachusetts. For telephone transactions, the transfer agent will take measures to verify the identity of the caller, such as asking for name, account number, Social Security or other taxpayer ID number and other relevant information. If appropriate measures are taken, the transfer agent is not responsible for any losses that may occur to any account due to an unauthorized telephone call. Also for your protection telephone transactions are not permitted on accounts whose names or addresses have changed within the past 30 days. Proceeds from telephone transactions can only be mailed to the address of record. Shares of the Fund generally may be sold only to U.S. citizens, U.S. residents, and U.S. Domestic corporations, partnerships, trusts or estates. Tax Status Federal Income Taxation The Fund is treated as a separate entity for accounting and tax purposes, has qualified and elected to be treated as a "regulated investment company" under Subchapter M of the Internal Revenue Code of 1986, as amended (the "Code"), and intends to so qualify for each taxable year. As such and by complying with the applicable provisions of the Code regarding the sources of its income, the timing of its distributions, and the diversification of its assets, the Fund will not be subject to Federal income tax on its tax-exempt interest and taxable income (including net realized capital gains) which is distributed to shareholders in accordance with the timing requirements of the Code. The Fund will be subject to a 4% non-deductible Federal excise tax on certain amounts not distributed (and not treated as having been distributed) on a timely basis in accordance with annual minimum distribution requirements. The Fund intends under normal circumstances to seek to avoid or minimize liability for such tax by satisfying such distribution requirements. 47 The Fund expects to qualify to pay "exempt-interest dividends," as defined in the Code. To qualify to pay exempt-interest dividends, the Fund must, at the close of each quarter of its taxable year, have at least 50% of the value of its total assets invested in municipal securities whose interest is excluded from gross income under Section 103(a) of the Code. In purchasing municipal securities, the Fund intends to rely on opinions of nationally recognized bond counsel for each issue as to the excludability of interest on such obligations from gross income for federal income tax purposes and, if available, the exemption of such interest from Massachusetts personal income tax. The Fund will not undertake independent investigations concerning the tax-exempt status of such obligations, nor does it guarantee or represent that bond counsels' opinions are correct. Bond counsels' opinions will generally be based in part upon covenants by the issuers and related parties regarding continuing compliance with federal tax requirements. Tax laws enacted principally during the 1980's not only had the effect of limiting the purposes for which tax-exempt bonds could be issued and reducing the supply of such bonds, but also increased the number and complexity of requirements that must be satisfied on a continuing basis in order for bonds to be and remain tax-exempt. If the issuer of a bond or a user of a bond-financed facility fails to comply with such requirements at any time, interest on the bond could become taxable, retroactive to the date the obligation was issued. In that event, a portion of the Fund's distributions attributable to interest the Fund received on such bond for the current year and for prior years could be characterized or recharacterized as taxable income. The availability of tax-exempt obligations and the value of the Fund's portfolio may be affected by restrictive federal income tax legislation enacted in recent years or by similar future legislation. If the Fund satisfies the applicable requirements, dividends paid by the Fund which are attributable to tax exempt interest on municipal securities and designated by the Fund as exempt-interest dividends in a written notice mailed to its shareholders within sixty days after the close of its taxable year may be treated by shareholders as items of interest excludable from their gross income under Section 103(a) of the Code. The recipient of tax-exempt income is required to report such income on his federal income tax return. However, a shareholder is advised to consult his tax adviser with respect to whether exempt-interest dividends retain the exclusion under Section 103(a) if such shareholder would be treated as a "substantial user" or "related person" thereof under Section 147(a) with respect to any of the tax-exempt obligations held by the Fund. The Code provides that interest on indebtedness incurred or continued to purchase or carry shares of the Fund is not deductible to the extent it is deemed related to the Fund's exempt-interest dividends. Pursuant to published guidelines, the Internal Revenue Service may deem indebtedness to have been incurred for the purpose of purchasing or carrying shares of the Fund even though the borrowed money may not be directly traceable to the purchase of shares. Although all or a substantial portion of the dividends paid by the Fund may be excluded by the Fund's shareholders from their gross income for federal income tax purposes, the Fund may purchase specified private activity bonds, the interest from which (including the Fund's distributions attributable to such interest) may be a preference item for purposes of the federal alternative minimum tax (both individual and corporate). All exempt-interest dividends from the Fund, whether or not attributable to private activity bond interest, may increase a corporate shareholder's liability, if any, for corporate alternative minimum tax and will be taken into account in determining the extent to which a shareholder's Social Security or certain railroad retirement benefits are taxable. Distributions other than exempt-interest dividends from the Fund's current or accumulated earnings and profits ("E&P") will be taxable under the Code for investors who are subject to tax. Taxable distributions include distributions from the Fund that are attributable to (i) taxable income, including but not limited to taxable bond interest, recognized market discount income, 48 original issue discount income accrued with respect to taxable bonds, income from repurchase agreements, income from securities lending, income from dollar rolls, income from interest rate swaps, caps, floors and collars, and a portion of the discount from certain stripped tax- exempt obligations or their coupons or (ii) capital gains from the sale or constructive sale of securities or other investments (including from the disposition of rights to when-issued securities prior to issuance) or from options and futures contracts. If these distributions are paid from the Fund's "investment company taxable income," they will be taxable as ordinary income; and if they are paid from the Fund's "net capital gain," they will be taxable as long-term capital gain. (Net capital gain is the excess (if any) of net long-term capital gain over net short-term capital loss, and investment company taxable income is all taxable income and capital gains or losses, other than those gains and losses included in computing net capital gain, after reduction by deductible expenses.) Some distributions may be paid in January but may be taxable to shareholders as if they had been received on December 31 of the previous year. The tax treatment described above will apply without regard to whether distributions are received in cash or reinvested in additional shares of the Fund. Distributions, if any, in excess of E&P will constitute a return of capital under the Code, which will first reduce an investor's federal tax basis in Fund shares and then, to the extent such basis is exceeded, will generally give rise to capital gains. Amounts that are not allowable as a deduction in computing taxable income, including expenses associated with earning tax-exempt interest income, do not reduce the Fund's current earnings and profits for these purposes. Consequently, the portion, if any, of the Fund's distributions from gross tax-exempt interest income that exceeds its net tax-exempt interest would be taxable as ordinary income to the extent of such disallowed deductions even though such excess portion may represent an economic return of capital. Shareholders who have chosen automatic reinvestment of their distributions will have a federal tax basis in each share received pursuant to such a reinvestment equal to the amount of cash they would have received had they elected to receive the distribution in cash, divided by the number of shares received in the reinvestment. After the close of each calendar year, the Fund will inform shareholders of the federal income tax status of its dividends and distributions for such year, including the portion of such dividends that qualifies as tax-exempt and the portion, if any, that should be treated as a tax preference item for purposes of the federal alternative minimum tax. Shareholders who have not held shares of the Fund for its full taxable year may have designated as tax-exempt or as a tax preference item a percentage of distributions which is not equal to the actual amount of a pro rata share of tax-exempt income or tax preference item income earned by the Fund during the period of their investment in the Fund. The amount of the Fund's net realized capital gains, if any, in any given year will vary depending upon the Adviser's current investment strategy and whether the Adviser believes it to be in the best interest of the Fund to dispose of Fund securities and/or engage in options or futures transactions that will generate capital gains. At the time of an investor's purchase of the Fund's shares, a portion of the purchase price is often attributable to realized or unrealized appreciation in the Fund's portfolio. Consequently, subsequent distributions on these shares from such appreciation may be taxable to such investor even if the net asset value of the investor's shares is, as a result of the distributions, reduced below the investor's cost for such shares, and the distributions in reality represent a return of a portion of the purchase price. Upon a redemption or other disposition of shares of the Fund (including by exercise of the exchange privilege) in a transaction that is treated as a sale for tax purposes, a shareholder will ordinarily realize a taxable gain or loss depending upon the amount of the proceeds and the 49 investor's basis in his shares. Such gain or loss will be treated as capital gain or loss if the shares are capital assets in the shareholder's hands. A sales charge paid in purchasing shares of a Fund cannot be taken into account for purposes of determining gain or loss on the redemption or exchange of such shares within 90 days after their purchase to the extent shares of the Fund or another John Hancock Fund are subsequently acquired without payment of a sales charge pursuant to the reinvestment or exchange privilege. This disregarded charge will result in an increase in the shareholder's tax basis in the shares subsequently acquired. Also, any loss realized on a redemption or exchange may be disallowed to the extent the shares disposed of are replaced with other shares of the Fund within a period of 61 days beginning 30 days before and ending 30 days after the shares are disposed of, such as pursuant to automatic dividend reinvestments. In such a case, the basis of the shares acquired will be adjusted to reflect the disallowed loss. Any loss realized upon the redemption of shares with a tax holding period of six months or less will be disallowed to the extent of all exempt-interest dividends paid with respect to such shares and, to the extent in excess of the amount disallowed, will be treated as a long-term capital loss to the extent of any amounts treated as distributions of long-term capital gain with respect to such shares. Shareholders should consult their own tax advisers regarding their particular circumstances to determine whether a disposition of Fund shares is properly treated as a sale for tax purposes, as is assumed in the foregoing discussion. Although its present intention is to distribute, at least annually, all net capital gain, if any, the Fund reserves the right to retain and reinvest all or any portion of the excess of net long-term capital gain over net short-term capital loss in any year. The Fund will not, in any event, distribute net capital gain realized in any year to the extent that a capital loss is carried forward from prior years against such gain. To the extent such excess was retained and not exhausted by the carryforward of prior years' capital losses, it would be subject to federal income tax in the hands of the Fund. Upon proper designation of this amount by the Fund, each shareholder would be treated for Federal income tax purposes as if the Fund had distributed to him on the last day of its taxable year his pro rata share of such excess, and he had paid his pro rata share of the taxes paid by the Fund and reinvested the remainder in the Fund. Accordingly, each shareholder would (a) include his pro rata share of such excess as long-term capital gain in his return for his taxable year in which the last day of the Fund's taxable year falls, (b) be entitled either to a tax credit on his return for, or to a refund of, his pro rata share of the taxes paid by the Fund and (c) be entitled to increase the adjusted tax basis for his shares in the Fund by the difference between his pro rata share of such excess and his pro rata share of such taxes. For Federal income tax purposes, the Fund is permitted to carry forward a net capital loss in any year to offset its own net capital gains, if any, during the eight years following the year of the loss. To the extent subsequent capital gains are offset by such losses, they would not result in federal income tax liability to the Fund and, as noted above, would not be distributed to shareholders. The Fund has $xx,xxx of capital loss carryforwards available, to the extent provided by regulations, to offset future net realized capital gains. These carryforwards expire on August 31, 20xx. The Fund's dividends and capital gain distributions will not qualify as qualified dividend income as provided under the Jobs and Growth Tax Relief Reconciliation Act of 2003. The Fund's dividends and capital gain distributions will not qualify for the corporate dividends-received deduction. 50 The Fund is required to accrue original issue discount ("OID") on certain debt securities (including zero coupon or deferred payment obligations) that have OID prior to the receipt of the corresponding cash payments. The mark to market or constructive sale rules applicable to certain options and futures contracts or other transactions may also require the Fund to recognize income or gain without a concurrent receipt of cash. However, the Fund must distribute to shareholders for each taxable year substantially all of its net income and net capital gains, including such income or gain, to qualify as a regulated investment company and avoid liability for any federal income or excise tax. Therefore, the Fund may have to dispose of its portfolio securities under disadvantageous circumstances to generate cash, or borrow the cash, to satisfy these distribution requirements. The Federal income tax rules applicable to certain structured or indexed securities, interest rate swaps, caps, floors and collars, dollar rolls and possibly other investments or transactions, are unclear in certain respects, and the Fund will account for these investments or transactions in a manner intended to preserve its qualification as a regulated investment company and avoid material tax liability. The Fund will be required to report to the Internal Revenue Service (the "IRS") all taxable distributions to shareholders, as well as gross proceeds from the redemption or exchange of Fund shares, except in the case of certain exempt recipients, i.e., corporations and certain other investors distributions to which are exempt from the information reporting provisions of the Code. Under the backup withholding provisions of Code Section 3406 and applicable Treasury regulations, all such reportable distributions and proceeds may be subject to backup withholding of federal income tax in the case of non-exempt shareholders who fail to furnish the Fund with their correct taxpayer identification number and certain certifications required by the IRS or if the IRS or a broker notifies the Fund that the number furnished by the shareholder is incorrect or that the shareholder is subject to backup withholding as a result of failure to report interest or dividend income. However, the Fund's taxable distributions may not be subject to backup withholding if the Fund can reasonably estimate that at least 95% of its distributions for the year will be exempt-interest dividends. The Fund may refuse to accept an application that does not contain any required taxpayer identification number or certification that the number provided is correct. If the backup withholding provisions are applicable, any such distributions and proceeds, whether taken in cash or reinvested in shares, will be reduced by the amounts required to be withheld. Any amounts withheld may be credited against a shareholder's U.S. federal income tax liability. Investors should consult their tax advisers about the applicability of the backup withholding provisions. The Fund may invest in debt obligations that are in the lower rating categories or are unrated. Investments in debt obligations that are at risk of default present special tax issues for the Fund. Tax rules are not entirely clear about issues such as when the Fund may cease to accrue interest, original issue discount, or market discount, when and to what extent deductions may be taken for bad debts or worthless securities, how payments received on obligations in default should be allocated between principal and income, and whether exchanges of debt obligations in a workout context are taxable. If the Fund invests in these debt obligations, it will address these issues in order to seek to ensure that it distributes sufficient income to preserve its status as a regulated investment company and seek to avoid becoming subject to Federal income or excise tax. Certain options and futures transactions undertaken by the Fund may cause the Fund to recognize gains or losses from marking to market even though its positions have not been sold or terminated and affect the character as long-term or short-term and timing of some capital gains and losses realized by the Fund. Additionally, the Fund may be required to recognize gain 51 (subject to tax distribution requirements) if an option, future, notional principal contract, or a combination thereof is treated as a constructive sale of an appreciated financial position in the Fund's portfolio. Also, certain of the Fund's losses on its transactions involving options or futures contracts and/or offsetting or successor Fund positions may be deferred rather than being taken into account currently in calculating the Fund's taxable income or gain. Some of these transactions may also cause the Fund to dispose of investments sooner than would otherwise have occurred. These transactions may therefore affect the amount, timing and character of the Fund's distributions to shareholders. The Fund will take into account the special tax rules (including consideration of available elections) applicable to options and futures transactions in order to seek to minimize any potential adverse tax consequences. The foregoing discussion relates solely to U.S. Federal income tax law as applicable to U.S. persons (i.e., U.S. citizens or residents and U.S. domestic corporations, partnerships, trusts or estates) subject to tax under such law. Dividends (including exempt-interest dividends), capital gain distributions, and ownership of or gains realized on the redemption (including an exchange) of Fund shares may also be subject to state and local taxes, except as described below under "State Income Tax Information." The discussion does not address special tax rules applicable to certain types of investors, such as insurance companies and financial institutions. Shareholders should consult their own tax advisers as to the Federal, state or local tax consequences of ownership of shares of, and receipt of distributions from, the Fund in their particular circumstances. Non-U.S. investors not engaged in a U.S. trade or business with which their investment in the Fund is effectively connected will be subject to U.S. Federal income tax treatment different from that described above. These investors may be subject to non-resident alien withholding tax at the rate of 30% (or a lower rate under an applicable tax treaty) on amounts treated as ordinary dividends from a Fund and, unless an effective IRS Form W-8, W-8BEN or other authorized withholding certificate is on file and to backup withholding on certain other payments from the Fund. Non-U.S. investors should consult their tax advisers regarding such treatment and the application of foreign taxes to an investment in the Fund. STATE INCOME TAX INFORMATION MASSACHUSETTS TAXES The Fund is not subject to Massachusetts corporate excise or franchise taxes. The Fund anticipates that, provided that the Fund qualifies as a regulated investment company under the Code, it will also not be required to pay any Massachusetts income tax. To the extent that exempt-interest dividends paid to shareholders by the Fund are derived from interest on tax-exempt bonds of the Commonwealth of Massachusetts and its political subdivisions or Puerto Rico, the U.S. Virgin Islands or Guam and are properly designated as such, these distributions will be exempt from Massachusetts personal income tax. For Massachusetts personal income tax purposes, dividends from the Fund's taxable net investment income, tax-exempt income from obligations not described in the preceding sentence, and net short-term capital gains in excess of net long-term capital gains, if any, will generally be taxable as ordinary income, whether received in cash or additional shares. However, any dividends that are properly designated as attributable to interest the Fund receives on direct U.S. Government obligations will not be subject to Massachusetts personal income tax. Dividends properly designated as from net capital gain are generally taxable as long-term capital gains, regardless of how long shareholders have held their Fund shares. However, a portion of such a long-term 52 capital gains distribution will be exempt from Massachusetts personal income tax if it is properly designated as attributable to gains realized on the sale of certain tax-exempt bonds issued pursuant to Massachusetts statutes that specifically exempt such gains from Massachusetts taxation. Dividends from investment income (including exempt-interest dividends) and from capital gains will be subject to, and shares of the Fund will be included in the net worth of intangible property corporations for purposes of, the Massachusetts corporation excise tax if received by a corporation subject to such tax. For Massachusetts personal income tax purposes, long-term capital gains from the sale of a capital asset will be taxed at the same rate as 5.3% (this rate may change in subsequent years). Massachusetts resident individuals, as well as estates or personal trusts subject to Massachusetts income taxation, are subject to this tax structure with respect to redemption, exchanges or other dispositions of their shares of the Fund, assuming that they hold their shares of the Fund as capital assets for Massachusetts tax purposes. If a shareholder of the Fund accounts for a sale of Fund shares using the average basis method for Federal income tax purposes, the shareholder also must account for such sales for Massachusetts tax purposes using the same average basis and must average the holding period for each share sold in the same manner. The resulting average holding period is deemed to be the holding period for all such shares sold and will determine the tax rate to be applied in such cases. The applicable statutory provision does not address the Massachusetts tax treatment of dividends paid by the Fund that are designated and treated as long-term capital gains for Federal income tax purposes. The Massachusetts Department of Revenue (the "DOR") has issued regulations under which distribution is taxed at the maximum 5% rate unless a mutual fund reports to the DOR and the shareholder within a prescribed time period the portions of the distribution attributable to gains in each separate holding period category, in which case each such portion will be taxed at the rate applicable to the appropriate holding period category. The Fund anticipates that, to the extent practicable, it will provide the appropriate information under the applicable DOR regulations or other administrative positions. CALCULATION OF PERFORMANCE For the 30-day period ended August 31, 2004, the annualized yields for the Fund's Class A, Class B and Class C shares were %, % and %, respectively. As of August 31, 2004, the average annual total returns before taxes of the Class A shares of the Fund for the one, five and ten year periods were %, % and %, respectively. As of August 31, 2004, the average annual returns before taxes for the Fund's Class B shares for the one and five year periods and since the commencement of operations on October 3, 1996 were %, % and %, respectively. As of August 31, 2004, the average annual returns before taxes for the Fund's Class C shares for the one year and five year periods and since the commencement of operations on April 1, 1999 were % and %, respectively. The average annual total returns for Class C have been adjusted to reflect the elimination of the front-end sales charge that became effective July 15, 2004. The average annual total return before taxes is computed by finding the average annual compounded rate of return over the 1-year, 5-year and 10-year periods, or the period since the commencement of operations, that would equate the initial amount invested to the ending redeemable value according to the following formula: 53 P(1+T)n = ERV Where: P= a hypothetical initial payment of $1,000. T= average annual total return n= number of years ERV= ending redeemable value of a hypothetical $1,000 payment made at the beginning of the 1-year, 5-year or 10-year periods (or fractional portion). The Fund discloses average annual total returns after taxes for Class A shares for the one, five and 10 year periods ended December 31, 2003 in the prospectus. After tax returns are computed using the historical highest individual federal marginal income-tax rates and do not reflect the impact of state and local taxes. Actual after-tax returns depend on the investor's tax situation and may differ from those shown. The after-tax returns shown are not relevant to investors who hold their fund shares through tax-deferred arrangements such as 401(k) plans or individual retirement accounts. The average annual total return (after taxes on distributions) is computed by finding the average annual compounded rate of return over the 1-year, 5-year and 10-year periods, or the period since the commencement of operations, that would equate the initial amount invested to the ending redeemable value according to the following formula: P(1+T)n = ATVD Where: P= a hypothetical initial payment of $1,000. T= average annual total return (after taxes on distributions) n= number of years ATVD= ending value of a hypothetical $1,000 payment made at the beginning of the 1-year, 5-year, or 10-year periods (or fractional portion) after taxes on fund distributions but not after taxes on redemption. The average annual total return (after taxes on distributions and redemption) is computed by finding the average annual compounded rate of return over the 1-year, 5-year, and 10-year periods, or the period since the commencement of operations, that would equate the initial amount invested to the ending redeemable value according to the following formula: P(1+T)n = ATVDR Where: P= a hypothetical initial payment of $1,000. T= average annual total return (after taxes on distributions and redemption) n= number of years ATVDR= ending value of a hypothetical $1,000 payment made at the beginning of the 1-year, 5-year or 10-year periods (or fractional portion), after taxes on fund distributions and redemption. Because each class has its own sales charge and fee structure, the classes have different performance results. In the case of each class, these calculations assume the maximum sales charge is included in the initial investment or the CDSC applied at the end of the period. These 54 calculations assume that all dividends and distributions are reinvested at net asset value on the reinvestment dates during the period. The "distribution rate" is determined by annualizing the result of dividing the declared dividends of the Fund during the period stated by the maximum offering price or net asset value at the end of the period. Excluding the Fund's sales charge from the distribution rate produces a higher rate. In addition to average annual total returns, the Fund may quote unaveraged or cumulative total returns reflecting the simple change in value of an investment over a stated period. Cumulative total returns may be quoted as a percentage or as a dollar amount, and may be calculated for a single investment, a series of investments, and/or a series of redemptions, over any time period. Total returns may be quoted with or without taking the Fund's sales charge on Class A shares or the CDSC on Class B or Class C shares into account. Excluding the Fund's sales charge on Class A shares and the CDSC on Class B or Class C shares from a total return calculation produces a higher total return figure. In the case of a tax-exempt obligation issued without original issue discount and having a current market discount, the coupon rate of interest is used in lieu of the yield to maturity. Where, in the case of a tax-exempt obligation with original issue discount, the discount based on the current market value exceeds the then-remaining portion or original issue discount (market discount), the yield to maturity is the imputed rate based on the original issue discount calculation. Where, in the case of a tax-exempt obligation with original issue discount, the discount based on the current market value is less than the then-remaining portion of original issue discount (market premium), the yield to maturity is based on the market value. The Fund may advertise yield, where appropriate. The Fund's yield is computed by dividing net investment income per share determined for a 30-day period by the maximum offering price per share (which includes the full sales charge) on the last day of the period, according to the following standard formula: a-b 6 Yield = 2 ( [ (------) +1 ] -1 ) cd Where: a= dividends and interest earned during the period. b= net expenses accrued during the period. c= the average daily number of fund shares outstanding during the period that would be entitled to receive dividends. d= the maximum offering price per share on the last day of the period (NAV where applicable). The Fund may advertise a tax-equivalent yield, which is computed by dividing that portion of the yield of the Fund which is tax-exempt by one minus a stated income tax rate and adding the product to that portion, if any, of the yield of the Fund that is not tax-exempt. The tax equivalent yields for the Fund's Class A, Class B and Class C shares at the combined maximum federal and Massachusetts tax rates, which assumes the full deductibility of state income taxes on the federal income tax return, for the 30-day period ended August 31, 2004 were %, % and %, respectively. 55 From time to time, in reports and promotional literature, the Fund's yield and total return will be compared to indices of mutual funds and bank deposit vehicles such as Lipper Analytical Services, Inc.'s "Lipper - Fixed Income Fund Performance Analysis," a monthly publication which tracks net assets, total return, and yield on fixed income mutual funds in the United States. Ibottson and Associates, CDA Weisenberger and F.C. Towers are also used for comparison purposes as well as the Russell and Wilshire Indices. Comparisons may also be made to bank certificates of deposit, ("CDs") which differ from mutual funds in several ways. The interest rate established by the sponsoring bank is fixed for the term of a CD. There are penalties for early withdrawal from CDs, and the principal on a CD is insured. Performance rankings and ratings reported periodically in, and excerpts from, national financial publication such as MONEY MAGAZINE, FORBES, BUSINESS WEEK, THE WALL STREET JOURNAL, MICROPAL, INC., MORNINGSTAR, STANGER'S, BARRON'S, etc., as well as LIPPER, may also be utilized. The Fund's promotional and sales literature may make reference to the Fund's "beta". Beta is a reflection of the market related risk of the Fund by showing how responsive the Fund is to the market. The performance of the Fund is not fixed or guaranteed. Performance quotations should not be considered to be representations of performance of the Fund for any period in the future. The performance of the Fund is a function of many factors including its earnings, expenses and number of outstanding shares. Fluctuating market conditions; purchases, sales and maturities of portfolio securities; sales and redemptions of shares of beneficial interest; and changes in operating expenses are all examples of items that can increase or decrease the Fund's performance. Brokerage Allocation Decisions concerning the purchase and sale of portfolio securities and the allocation of brokerage commissions are made by the Adviser's investment and/or trading personnel. Orders for purchases and sales of securities are placed in a manner, which, in the opinion of such personnel, will offer the best price and market for the execution of each such transaction. The Fund's trading practices and investments are reviewed monthly by the Adviser's Senior Investment Policy Committee which consists of officers of the Adviser and quarterly by the Adviser's Investment Committee which consists of officers and directors of the Adviser and Trustees of the Trust who are interested persons of the Fund. Purchases from underwriters of portfolio securities may include a commission or commissions paid by the issuer and transactions with dealers serving as market makers reflect a "spread." Investment in debt securities are generally traded on a "net" basis through dealers acting for their own account as principals and not as brokers; no brokerage commissions are payable on these transactions. In the U.S. Government securities market, securities are generally traded on a net basis with dealers acting as principal for their own account without stated commission, although the price of the security includes a profit to the dealer. On occasion, certain money market instruments and agency securities may be purchased directly from the issuer, in which case no commissions or premiums are paid. Investment in equity securities are generally traded on exchanges or on over-the-counter markets at fixed commission rates or on a net basis. In other countries, both debt and equity securities are traded on exchanges at fixed commission rates. Commissions on foreign transactions are generally higher than the negotiated commission rates available in the U.S. There is generally less government supervision and regulation of foreign stock exchanges and broker-dealers than in the U.S. 56 The Fund's primary policy is to execute all purchases and sales of portfolio instruments at the most favorable prices consistent with best execution, considering all of the costs of the transaction including brokerage commissions. This policy governs the selection of brokers and dealers and the market in which a transaction is executed. The Adviser does not consider sales of shares of the Fund as a factor in the selection of broker-dealers to execute the Fund's portfolio transaction. To the extent consistent with the foregoing, the Fund will be governed in the selection of brokers and dealers, and the negotiation of brokerage commission rates and dealer spreads, by the reliability and quality of the services, including primarily the availability and value of research information and to a lesser extent statistical assistance furnished to the Adviser of the Fund. As permitted by Section 28(e) of the Securities Exchange Act of 1934, the Fund may pay to a broker which provides brokerage and research services to the Fund an amount of disclosed commission in excess of the commission which another broker would have charged for effecting that transaction. This practice is subject to a good faith determination by the Trustees that the price is reasonable in light of the services provided and to policies that the Trustees may adopt from time to time. For the fiscal year ended August 31, 2004, the Fund did not pay compensation to brokers for research services, such as industry, economic and company reviews and evaluations of securities. "Commissions", as interpreted by the SEC, include fees paid to brokers for trades conducted on an agency basis, and certain mark-ups, mark-downs, commission equivalents and other fees received by dealers in riskless principal transactions placed in the over-the-counter market. The term "brokerage and research services" includes research services received from broker-dealers which supplement the Adviser's own research (and the research of its affiliates), and may include the following types of information: statistical and background information on the U.S. and foreign economies, industry groups and individual companies; forecasts and interpretations with respect to the U.S. and foreign economies, securities, markets, specific industry groups and individual companies; information on federal, state, local and foreign political developments; portfolio management strategies; performance information on securities, indexes and investment accounts; and information concerning prices of securities. Broker-dealers may communicate such information electronically, orally, in written form or on computer software. Research services may also include the providing of electronic communication of trade information and the providing of specialized consultations with the Adviser's personnel with respect to computerized systems and data furnished as a component of other research services, the arranging of meetings with management of companies, and the providing of access to consultants who supply research information. The outside research assistance is useful to the Adviser since the broker-dealers used by the Adviser tend to follow a broader universe of securities and other matters than the Adviser's staff can follow. In addition, the research provides the Adviser with a diverse perspective on financial markets. Research services provided to the Adviser by broker-dealers are available for the benefit of all accounts managed or advised by the Adviser or by its affiliates. Some broker-dealers may indicate that the provision of research services is dependent upon the generation of certain specified levels of commissions and underwriting concessions by the Adviser's clients, including the Fund. However, the Fund is not under any obligation to deal with any broker-dealer in the execution of transactions in portfolio securities. The Adviser believes that the research services are beneficial in supplementing the Adviser's research and analysis and that they improve the quality of the Adviser's investment advice. It is not possible to place a dollar value on information and services to be received from brokers and 57 dealers, since it is only supplementary to the research efforts of the Adviser. The advisory fee paid by the Fund is not reduced because the Adviser receives such services. The receipt of research information is not expected to reduce significantly the expenses of the Adviser. However, to the extent that the Adviser would have purchased research services had they not been provided by broker-dealers, or would have developed comparable information through its own staff, the expenses to the Adviser could be considered to have been reduced accordingly. The research information and statistical assistance furnished by brokers and dealers may benefit the Life Company or other advisory clients of the Adviser, and conversely, brokerage commissions and spreads paid by other advisory clients of the Adviser may result in research information and statistical assistance beneficial to the Fund. The Fund will make no commitment to allocate portfolio transactions upon any prescribed basis. Broker-dealers may be willing to furnish statistical, research and other factual information or service to the Adviser for no consideration other than brokerage or underwriting commissions. Securities may be bought or sold from time to time through such broker-dealers on behalf of the Fund or the Adviser's other clients. In effecting portfolio transactions on behalf of the Fund and the Adviser's other clients, the Adviser may from time to time instruct the broker-dealer that executes the transaction to allocate, or "step-out", a portion of the transaction to another broker-dealer. The broker-dealer to which the Adviser "stepped-out" would then settle and complete the designated portion of the transaction. Each broker-dealer would receive a commission or brokerage fee with respect to that portion of the transaction that it settles and completes. While the Adviser's officers will be primarily responsible for the allocation of the Fund's brokerage business, the policies in this regard must be consistent with the foregoing and will at all times be subject to review by the Trustees. For the fiscal years ended August 31, 2002, 2003 and 2004, the Fund paid negotiated brokerage commissions of $0, $0 and $0, respectively. The Adviser may determine target levels of commission business with various brokers on behalf of its clients (including the Fund) over a certain time period. The target levels will be based upon the following factors, among others: (1) the execution services provided by the broker; (2) the research services provided by the broker; and (3) the broker's interest in mutual funds in general and in the Fund and other mutual funds advised by the Adviser in particular. In connection with (3) above, the Fund's trades may be executed directly by dealers that sell shares of the John Hancock funds or by other broker-dealers with which such dealers have clearing arrangements, consistent with obtaining best execution and the Conduct Rules of the National Association of Securities Dealers, Inc. The Adviser will not use a specific formula in connection with any of these considerations to determine the target levels. Pursuant to procedures determined by the Trustees and consistent with the above policy of obtaining best net results, the Fund may execute portfolio transactions with or through brokers affiliated with the Adviser ("Affiliated Brokers"). Affiliated Brokers may act as broker for the Fund on exchange transactions, subject, however, to the general policy of the Fund set forth above and the procedures adopted by the Trustees pursuant to the Investment Company Act. Commissions paid to an Affiliated Broker must be at least as favorable as those which the Trustees believe to be contemporaneously charged by other brokers in connection with comparable transactions involving similar securities being purchased or sold. A transaction would not be placed with an Affiliated Broker if the Fund would have to pay a commission rate less favorable than the Affiliated Broker's contemporaneous charges for comparable transactions for its other most favored, but unaffiliated customers, except for accounts for which the 58 Affiliated Broker acts as clearing broker for another brokerage firm, and any customers of the Affiliated Broker not comparable to the Fund as determined by a majority of the Trustees who are not interested persons (as defined in the Investment Company Act) of the Fund, the Adviser or the Affiliated Broker. Because the Adviser, that is affiliated with the Affiliated Broker, has, as an investment adviser to the Funds, the obligation to provide investment management services, which includes elements of research and related investment skills, such research and related skills will not be used by the Affiliated Broker as a basis for negotiating commissions at a rate higher than that determined in accordance with the above criteria. The Adviser's indirect parent, the Life Company, is the indirect sole shareholder of Signator Investors, Inc., a broker-dealer (until January 1, 1999, John Hancock Distributors, Inc.) ("Signator" or Affiliated Broker"). The Adviser's indirect parent, Manulife Financial, is the parent of another broker-dealer, Manulife Financial Securities, LLC ("MF Securities") or ("Affiliated Broker"). For the fiscal years ended August 31, 2002, 2003 and 2004, the Fund paid no brokerage commissions to any Affiliated Broker. Other investment advisory clients advised by the Adviser may also invest in the same securities as the Fund. When these clients buy or sell the same securities at substantially the same time, the Adviser may average the transaction as to price and allocate the amount of available investments in a manner which the Adviser believes to be equitable to each client, including the Fund. Because of this, client accounts in a particular style may sometimes not sell or acquire securities as quickly or at the same prices as they might if each were managed and traded individually. For purchases of equity securities, when a complete order is not filled, a partial allocation will be made to each account pro rata based on the order size. For high demand issues (for example, initial public offerings), shares will be allocated pro rata by account size as well as on the basis of account objective, account size ( a small account's allocation may be increased to provide it with a meaningful position), and the account's other holdings. In addition, an account's allocation may be increased if that account's portfolio manager was responsible for generating the investment idea or the portfolio manager intends to buy more shares in the secondary market. For fixed income accounts, generally securities will be allocated when appropriate among accounts based on account size, except if the accounts have different objectives or if an account is too small to get a meaningful allocation. For new issues, when a complete order is not filled, a partial allocation will be made to each account pro rata based on the order size. However, if a partial allocation is too small to be meaningful, it may be reallocated based on such factors as account objectives, strategies, duration benchmarks and credit and sector exposure. For example, value funds will likely not participate in initial public offerings as frequently as growth funds. In some instances, this investment procedure may adversely affect the price paid or received by the Fund or the size of the position obtainable for it. On the other hand, to the extent permitted by law, the adviser may aggregate the securities to be sold or purchased for the Fund with those to be sold or purchased for other clients managed by it in order to obtain best execution. Transfer Agent Services John Hancock Signature Services, Inc., 1 John Hancock Way, Suite 1000, Boston, MA 02217-1000, a wholly owned indirect subsidiary of the Life Company, is the transfer and dividend paying agent for the Fund. The Fund pays Signature Services an annual fee of $17.00 for each Class A shareholder account and $19.50 for each Class B shareholder account and $18.50 for each Class C shareholder account. The Fund also pays Signature Services an annual fee of 0.01% of average daily net assets attributable to Class A, Class B and Class C shares. For Class 59 A, B, and C shares, the Fund also pays certain out-of pocket expenses. Expenses are aggregated and allocated to each class on the basis of their relative net asset values. For shares held of record in omnibus or other group accounts where administration and other shareholder services are provided by the Selling Firm or group administrator, the Selling Firm or administrator will charge a service fee to the Fund. For such shareholders, Signature Services does not charge its account fee. Custody Of Portfolio Portfolio securities of the Fund are held pursuant to a custodian agreement between the Fund and The Bank of New York, One Wall Street, New York, New York 10286. Under the custodian agreement, The Bank of New York is performing custody, Foreign Custody Manager and fund accounting services. Independent REGISTERED PUBLIC ACCOUNTING FIRM The independent registered public accounting firm of the Fund is . audits and renders an opinion on the Fund's annual financial statements and reviews the Fund's annual Federal income tax return. FUND SECURITIES The Fund has a policy for disclosure of its portfolio securities. Information about the securities held by the Fund may not be disclosed except as follows: On the fifth business day after month-end, certain information is published on www.jhfunds.com, including but not limited to top ten holdings, sector analysis, and investment performance. The complete portfolio is published on www.jhfunds.com each month with a one-month lag (for example, information as of December 31 will be published on February 1). Once published, the portfolio information is available to the public and all categories of investors and potential investors. More current portfolio information is disclosed (subject always to confidentiality agreements) when necessary for the efficient management of the Fund's portfolio. Parties receiving more current information are: The Fund's proxy voting service; publishers and writers for the Fund's financial reports; risk management and portfolio analysis systems; and rating agencies. No compensation or other consideration is received by the Fund, its adviser or any affiliated party in regard to disclosure. Exceptions to the above policy must be authorized by the Fund's chief legal officer or chief compliance officer, and are subject to ratification by the Board of Trustees. 56 APPENDIX A - DESCRIPTION OF INVESTMENT RISK MORE ABOUT RISK A fund's risk profile is largely defined by the fund's primary securities and investment practices. You may find the most concise description of the fund's risk profile in the prospectus. A fund is permitted to utilize -- within limits established by the trustees -- certain other securities and investment practices that have higher risks and opportunities associated with them. To the extent that the Fund utilizes these securities or practices, its overall performance may be affected, either positively or negatively. On the following pages are brief definitions of certain associated risks with them with examples of related securities and investment practices included in brackets. See the "Investment Objectives and Policies" and "Investment Restrictions" sections of this Statement of Additional Information for a description of this Fund's investment policies. The Fund follows certain policies that may reduce these risks. As with any mutual fund, there is no guarantee that the Fund will earn income or show a positive return over any period of time -- days, months or years. TYPES OF INVESTMENT RISK Correlation risk The risk that changes in the value of a hedging instrument will not match those of the asset being hedged (hedging is the use of one investment to offset the effects of another investment). Incomplete correlation can result in unanticipated risks. (e.g., futures and related options; securities and index options, swaps, caps, floors, collars). Credit risk The risk that the issuer of a security, or the counterparty to a contract, will default or otherwise become unable to honor a financial obligation. Common to all debt securities.(e.g. borrowing; reverse repurchase agreements, repurchase agreements, financial futures and options; securities and index options, securities lending, non-investment grade debt securities, private activity bonds, participation interests and structured securities, swaps, caps, floors, collars). Information risk The risk that key information about a security or market is inaccurate or unavailable. Common to all municipal securities. (e.g. non-investment grade debt securities, private activity bonds and participation interests). Interest rate risk The risk of market losses attributable to changes in interest rates. With fixed-rate securities, a rise in interest rates typically causes a fall in values, while a fall in rates typically causes a rise in values. (e.g. financial futures and options; securities and index options, non-investment grade debt securities, private activity bonds, participation interests, structured securities and swaps, caps, floors and collars). Leverage risk Associated with securities or practices (such as borrowing) that multiply small index or market movements into large changes in value. (e.g. borrowing; reverse repurchase agreements, when-issued securities and forward commitments). o Hedged When a derivative (a security whose value is based on another security or index) is used as a hedge against an opposite position that the fund also holds, any loss generated by the derivative A-1 should be substantially offset by gains on the hedged investment, and vice versa. While hedging can reduce or eliminate losses, it can also reduce or eliminate gains. o Speculative To the extent that a derivative is not used as a hedge, the fund is directly exposed to the risks of that derivative. Gains or losses from speculative positions in a derivative may be substantially greater than the derivative's original cost. o Liquidity risk The risk that certain securities may be difficult or impossible to sell at the time and the price that the seller would like. The seller may have to lower the price, sell other securities instead, or forego an investment opportunity, any of which could have a negative effect on fund management or performance. (e.g. financial futures and options; securities and index options, non-investment-grade debt securities, restricted and illiquid securities, participation interests, swaps, caps, floors, collars , structured securities). Management risk The risk that a strategy used by a fund's management may fail to produce the intended result. Common to all mutual funds. Market risk The risk that the market value of a security may move up and down, sometimes rapidly and unpredictably. These fluctuations may cause a security to be worth less than the price originally paid for it, or less than it was worth at an earlier time. Market risk may affect a single issuer, industry, sector of the economy or the market as a whole. Common to all stocks and bonds and the mutual funds that invest in them. (e.g. financial futures and options; securities and index options, short-term trading, when-issued securities and forward commitments, non-investment-grade debt securities, restricted and illiquid securities, structured securities). Natural event risk The risk of losses attributable to natural disasters, such as earthquakes and similar events. (e.g. private activity bonds). Opportunity risk The risk of missing out on an investment opportunity because the assets necessary to take advantage of it are tied up in less advantageous investments. (e.g. financial futures and options; securities and index options, when-issued securities and forward commitments). Political risk The risk of losses attributable to government or political actions of any sort. (e.g. private activity bonds). Valuation risk The risk that a fund has valued certain of its securities at a higher price than it can sell them for.(e.g. non-investment-grade debt securities, Restricted and illiquid securities, participation interests, structured securities, swaps, caps, floors, collars). A-2 APPENDIX B - DESCRIPTION OF BOND RATINGS Moody's describes its ratings for Tax-Exempt Bonds as follows: Bonds. "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. "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 grater amplitude or there may be other elements present which make the long term risks appear somewhat larger than in 'Aaa' securities. "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. "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. "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. "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. "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. "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. "Bonds which are rated 'C' are the lowest rated classes of bonds, and issues so rated can be regarded as having extremely poor prospects of ever obtaining any real investment standing." Where no rating has been assigned or where a rating has been suspended or withdrawn, it may be for reasons unrelated to the quality of the issue. Should no rating be assigned, the reason may be one of the following: (i) an application for rating was not received or accepted; (ii) the issue or issuer belongs to a group of securities that are not rated as a matter of policy; (iii) there is a lack of essential data pertaining to the issue or issuer; or (iv) the issue was privately placed, in which case the rating is not published in Moody's publications. B-1 Suspension or withdrawal may occur if new and material circumstances arise, the effects of which preclude satisfactory analysis; if there is no longer available reasonable up-to-date data to permit a judgment to be formed; if a bond is called for redemption; or for other reasons. Standard & Poor's describes its ratings for Tax-Exempt Bonds as follows: "AAA. Debt rated 'AAA' has the highest rating by Standard & Poor's. Capacity to pay interest and repay principal is extremely strong. "AA. Debt rated 'AA' has a very strong capacity to pay interest and repay principal and differs from the higher rated issues only in small degree. "A. Debt rated 'A' has a strong capacity to pay interest and repay principal although it is somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than debt in higher rated categories. "BBB. Debt rated 'BBB' is regarded as having 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." Debt rated "BB," "B," "CCC," or "CC" is regarded, on balance, as predominantly speculative with respect to the issuer's capacity to pay interest and pay principal in accordance with the terms of the obligation. "BB" indicates the lowest degree of speculation and "CC" the highest degree of speculation. While such debt will likely have some quality and protective characteristics, these may be outweighed by large uncertainties or major risk exposures to adverse conditions. Unrated. This indicates that no rating has been requested, that there is insufficient information on which to base a rating, or that Standard & Poor's does not rate a particular type of obligation as a matter of policy. Fitch describes its rating for Tax-Exempt Bonds as follows: AAA. Bonds considered to be investment grade and of the highest credit quality. The obligor has an exceptionally strong ability to pay interest and repay principal, which is unlikely to be affected by reasonably foreseeable events. AA. Bonds considered to be investment grade and of very high credit quality. The obligor's ability to pay interest and repay principal is very strong, although not quite as strong as bonds rated "AAA". Because bonds rated in the "AAA" and the 'AA' categories are not significantly vulnerable to foreseeable future developments, short-term debt of these issuers is generally rated 'F-1+'. A. Bonds considered to be investment grade and of high credit quality. The obligor's ability to pay interest and repay principal is considered to be strong, but may be more vulnerable to adverse changes in economic conditions and circumstances than bonds with higher ratings. BBB. Bonds considered to be investment grade and of satisfactory credit quality. The obligor's ability to pay interest and repay principal is considered to be adequate. Adverse changes in economic conditions and circumstances, however, are more likely to have adverse impact on these bonds, and therefore, impair timely payment. The likelihood that the ratings of these bonds will fall below investment grade is higher than for bonds with higher ratings. B-2 BB. Bonds are considered speculative. The obligor's ability to pay interest and repay principal may be affected over time by adverse economic changes. However, business and financial alternatives can be identified which could assist the obligor in satisfying its debt service requirements. Notes. Ratings for state and municipal notes and other short-term obligations will be designated Moody's Investment Grade ("MIG"). This distinction is in recognition of the differences between short-term credit risk and long-term risk. Factors affecting the liquidity of the borrower are uppermost in importance in short-term borrowing, while various factors of the first importance on bond risk are of lesser importance in the short run. Symbols will be used as follows: "MIG-1 Notes bearing this designation are of the best quality, enjoying strong protection from established cash flows of funds for their servicing or from established and broad-based access to the market for refinancing, or both. "MIG-2 Notes bearing this designation are of high quality with margins of protection ample although not so large as in the preceding group." Commercial Paper. As described in the Prospectus, the Fund may invest in commercial paper which is rated A-1 or A-2 by Standard & Poor's, P-1 or P-2 by Moody's or F-1+ or f1 by Fitch. Moody's ratings for commercial paper are opinions of the ability of issuers to repay punctually promissory obligations not having an original maturity in excess of nine months. Moody's two highest commercial paper rating categories are as follows: "P-1 -- "Prime-1" indicates the highest quality repayment capacity of the rated issues. "P-2 -- "Prime-2" indicates that the issuer has a strong capacity for repayment of short-term promissory obligations. Earnings trends and coverage ratios, while sound, will be more subjective to variation. Capitalization characteristics, while still appropriate, may be more affected by external conditions. Ample alternate liquidity is maintained." Standard & Poor's commercial paper ratings are current assessments of the likelihood of timely payment of debts having an original maturity of no more than 365 days. Standard & Poor's two highest commercial paper rating categories are as follows: "A-1 -- This designation indicates that the degree of safety regarding timely payment is very strong. Those issues determined to possess overwhelming safety characteristics will be denoted with a plus (+) sign designation. "A-2 -- Capacity for timely payment on issues with this designation is strong. However, the relative degree of safety is not as high as for issues designated A-1." Fitch's short-term ratings apply to debt obligations that are payable on demand or have original maturities of generally up to three years, including commercial paper, certificates of deposit, medium notes, and municipal and investment notes. The short-term rating places greater emphasis than a long-term rating on the existence of liquidity necessary to meet the issuer's obligations in a timely manner. Fitch's short-term ratings are as follows: B-3 F-1+ Exceptionally strong Credit Quality. Issues assigned this rating are regarded as having the strongest degree of assurance for timely payment. F-1 Very Strong Credit Quality. Issues assigned this rating reflect an assurance of timely payment only slightly less in degree than issues rated "F-1+" B-4 APPENDIX C SUMMARY OF PROXY VOTING John Hancock Advisers, LLC Sovereign Asset Management Corporation Proxy Voting Summary We believe in placing our clients' interests first. Before we invest in a particular stock or bond, our team of portfolio managers and research analysts look closely at the company by examining its earnings history, its management team and its place in the market. Once we invest, we monitor all our clients' holdings, to ensure that they maintain their potential to produce results for investors. As part of our active investment management strategy, we keep a close eye on each company we invest in. Routinely, companies issue proxies by which they ask investors like us to vote for or against a change, such as a new management team, a new business procedure or an acquisition. We base our decisions on how to vote these proxies with the goal of maximizing the value of our clients' investments. Currently, John Hancock Advisers, LLC ("JHA") and Sovereign Asset Management Corporation ("Sovereign") manage open-end funds, closed-end funds and portfolios for institutions and high-net-worth investors. Occasionally, we utilize the expertise of an outside asset manager by means of a subadvisory agreement. In all cases, JHA or Sovereign makes the final decision as to how to vote our clients' proxies. There is one exception, however, and that pertains to our international accounts. The investment management team for international investments votes the proxies for the accounts they manage. Unless voting is specifically retained by the named fiduciary of the client, JHA and Sovereign will vote proxies for ERISA clients. In order to ensure a consistent, balanced approach across all our investment teams, we have established a proxy oversight group comprised of associates from our investment, operations and legal teams. The group has developed a set of policies and procedures that detail the standards for how JHA and Sovereign vote proxies. The guidelines of JHA have been approved and adopted by each fund client's board of trustees who have voted to delegate proxy voting authority to their investment adviser, JHA. JHA and Sovereign's other clients have granted us the authority to vote proxies in our advisory contracts or comparable documents. JHA and Sovereign have hired a third party proxy voting service which has been instructed to vote all proxies in accordance with our established guidelines except as otherwise instructed. In evaluating proxy issues, our proxy oversight group may consider information from many sources, including the portfolio manager, management of a company presenting a proposal, shareholder groups, and independent proxy research services. Proxies for securities on loan through securities lending programs will generally not be voted, however a decision may be made to recall a security for voting purposes if the issue is material. Below are the guidelines we adhere to when voting proxies. Please keep in mind that these are purely guidelines. Our actual votes will be driven by the particular circumstances of each proxy. From time to time votes may ultimately be cast on a case-by-case basis, taking into consideration relevant facts and circumstances at the time of the vote. Decisions on these matters (case-by-case, abstention, recall) will normally be made by a portfolio manager under the supervision of the chief investment officer and the proxy oversight group. We may abstain from voting a proxy if we conclude that the effect on our clients' economic interests or the value of the portfolio C-1 holding is indeterminable or insignificant. Proxy Voting Guidelines Board of Directors We believe good corporate governance evolves from an independent board. We support the election of uncontested director nominees, but will withhold our vote for any nominee attending less than 75% of the board and committee meetings during the previous fiscal year. Contested elections will be considered on a case by case basis by the proxy oversight group, taking into account the nominee's qualifications. We will support management's ability to set the size of the board of directors and to fill vacancies without shareholder approval but will not support a board that has fewer than 3 directors or allows for the removal of a director without cause. We will support declassification of a board and block efforts to adopt a classified board structure. This structure typically divides the board into classes with each class serving a staggered term. In addition, we support proposals for board indemnification and limitation of director liability, as long as they are consistent with corporate law and shareholders' interests. We believe that this is necessary to attract qualified board members. Selection of Auditors We believe an independent audit committee can best determine an auditor's qualifications. We will vote for management proposals to ratify the board's selection of auditors, and for proposals to increase the independence of audit committees. Capitalization We will vote for a proposal to increase or decrease authorized common or preferred stock and the issuance of common stock, but will vote against a proposal to issue or convert preferred or multiple classes of stock if the board has unlimited rights to set the terms and conditions of the shares, or if the shares have voting rights inferior or superior to those of other shareholders. In addition, we will support a management proposal to: create or restore preemptive rights; approve a stock repurchase program; approve a stock split or reverse stock split; and, approve the issuance or exercise of stock warrants Acquisitions, mergers and corporate restructuring Proposals to merge with or acquire another company will be voted on a case-by-case basis, as will proposals for recapitalization, restructuring, leveraged buyout, sale of assets, bankruptcy or liquidation. We will vote against a reincorporation proposal if it would reduce shareholder rights. We will vote against a management proposal to ratify or adopt a poison pill or to establish a supermajority voting provision to approve a merger or other business combination. We would however support a management proposal to opt out of a state takeover statutory provision, to spin-off certain operations or divisions and to establish a fair price provision. C-2 Corporate Structure and Shareholder Rights In general, we support proposals that foster good corporate governance procedures and that provide shareholders with voting power equal to their equity interest in the company. To preserve shareholder rights, we will vote against a management proposal to restrict shareholders' right to: call a special meeting and to eliminate a shareholders' right to act by written consent. In addition, we will not support a management proposal to adopt a supermajority vote requirement to change certain by-law or charter provisions or a non-technical amendment to by-laws or a charter that reduces shareholder rights. Equity-based compensation Equity-based compensation is designed to attract, retain and motivate talented executives and independent directors, but should not be so significant as to materially dilute shareholders' interests. We will vote against the adoption or amendment of a stock option plan if: o the compensation committee is not fully independent o plan dilution is more than 10% of outstanding common stock, o the company allows or has allowed the re-pricing or replacement of underwater options in the past three fiscal years (or the exchange of underwater options) without shareholder approval. o the option is not premium priced or indexed, or does not vest based on future performance With respect to the adoption or amendment of employee stock purchase plans or a stock award plan, we will vote against management if: o the plan allows stock to be purchased at less than 85% of fair market value; o this plan dilutes outstanding common equity greater than 10% o all stock purchase plans, including the proposed plan, exceed 15% of outstanding common equity o the potential dilution from all company plans is more than 85% With respect to director stock incentive/option plans, we will vote against management if: 1. the minimum vesting period for options or time lapsing restricted stock is less than one year 2. the potential dilution for all company plans is more than 85% Other Business For routine business matters which are the subject of many proxy related questions, we will vote with management proposals to: C-3 o change the company name; o approve other business; o adjourn meetings; o make technical amendments to the by-laws or charters; o approve financial statements; o approve an employment agreement or contract. Shareholder Proposals Shareholders are permitted per SEC regulations to submit proposals for inclusion in a company's proxy statement. We will generally vote against shareholder proposals and in accordance with the recommendation of management except as follows where we will vote for proposals: o calling for shareholder ratification of auditors; o calling for auditors to attend annual meetings; o seeking to increase board independence; o requiring minimum stock ownership by directors; o seeking to create a nominating committee or to increase the independence of the nominating committee; o seeking to increase the independence of the audit committee. Corporate and social policy issues We believe that "ordinary business matters" are primarily the responsibility of management and should be approved solely by the corporation's board of directors. Proposals in this category, initiated primarily by shareholders, typically request that the company disclose or amend certain business practices. We generally vote against business practice proposals and abstain on social policy issues, though we may make exceptions in certain instances where we believe a proposal has substantial economic implications. John Hancock Advisers, LLC Sovereign Asset Management Corporation Proxy Voting Procedures The role of the proxy voting service John Hancock Advisers, LLC ("JHA") and Sovereign Asset Management Corporation ("Sovereign") have hired a proxy voting service to assist with the voting of client proxies. The proxy service coordinates with client custodians to ensure that proxies are received for securities held in client accounts and acted on in a timely manner. The proxy service votes all proxies received in accordance with the proxy voting guidelines established and adopted by JHA and Sovereign. When it is unclear how to apply a particular proxy voting guideline or when a particular proposal is not covered by the guidelines, the proxy voting service will contact the proxy oversight group coordinator for a resolution. The role of the proxy oversight group and coordinator The coordinator will interact directly with the proxy voting service to resolve any issues the proxy voting service brings to the attention of JHA or Sovereign. When a question arises regarding how a proxy should be voted the coordinator contacts the firm's investment C-4 professionals and the proxy oversight group for a resolution. In addition the coordinator ensures that the proxy voting service receives responses in a timely manner. Also, the coordinator is responsible for identifying whether, when a voting issue arises, there is a potential conflict of interest situation and then escalating the issue to the firm's Executive Committee. For securities out on loan as part of a securities lending program, if a decision is made to vote a proxy, the coordinator will manage the return/recall of the securities so the proxy can be voted. The role of mutual fund trustees The boards of trustees of our mutual fund clients have reviewed and adopted the proxy voting guidelines of the funds' investment adviser, JHA. The trustees will periodically review the proxy voting guidelines and suggest changes they deem advisable. Conflicts of interest Conflicts of interest are resolved in the best interest of clients. With respect to potential conflicts of interest, proxies will be voted in accordance with JHA's or Sovereign's predetermined policies. If application of the predetermined policy is unclear or does not address a particular proposal, a special internal review by the JHA Executive Committee or Sovereign Executive Committee will determine the vote. After voting, a report will be made to the client (in the case of an investment company, to the fund's board of trustees), if requested. An example of a conflict of interest created with respect to a proxy solicitation is when JHA or Sovereign must vote the proxies of companies that they provide investment advice to or are currently seeking to provide investment advice to, such as to pension plans. C-5 FINANCIAL STATEMENTS JOHN HANCOCK NEW YORK TAX-FREE INCOME FUND Class A, Class B and Class C Shares Statement of Additional Information January 1, 2005 This Statement of Additional Information provides information about the John Hancock New York Tax-Free Income Fund (the "Fund"), in addition to the information that is contained in the combined Tax-Free Income Funds' current Prospectus (the "Prospectus"). The Fund is a non-diversified series of the John Hancock Tax-Exempt Series Fund (the "Trust"). This Statement of Additional Information is not a prospectus. It should be read in conjunction with the Prospectus. This Statement of Additional Information incorporates by reference the Fund's Annual Report. A copy of the Prospectus and Annual Report can be obtained free of charge by writing or telephoning: John Hancock Signature Services, Inc. 1 John Hancock Way, Suite 1000 Boston, Massachusetts 02217-1000 1-800-225-5291 TABLE OF CONTENTS Page Organization of the Fund...................................................... 2 Investment Objective and Policies............................................. 2 Special Risks................................................................ 14 Investment Restrictions.......................................................16 Those Responsible for Management..............................................18 Investment Advisory and Other Services........................................28 Distribution Contracts........................................................31 Sales Compensation........................................................... 33 Net Asset Value...............................................................35 Initial Sales Charge on Class A Shares........................................37 Deferred Sales Charge on Class B and Class C..................................40 Special Redemptions...........................................................43 Additional Services and Programs..............................................43 Purchases and Redemptions Through Third Parties...............................44 Description of the Fund's Shares..............................................45 Tax Status....................................................................46 State Income Tax Information..................................................51 Calculation of Performance....................................................52 Brokerage Allocation..........................................................55 Transfer Agent Services.......................................................58 Custody of Portfolio..........................................................58 Independent Registered Public Accounting Firm................................58 Fund Securities.............................................................. 58 Appendix A-Description of Investment Risk................................... A-1 Appendix B-Description of Bond Ratings.......................................B-1 Appendix C-Proxy Voting Summary..............................................C-1 Financial Statements.........................................................F-1 1 ORGANIZATION OF THE FUND The Fund is a series of the Trust, an open-end investment management company organized as a Massachusetts business trust in March 1987 under the laws of The Commonwealth of Massachusetts. John Hancock Advisers, LLC (prior to February 1, 2002, John Hancock Advisers, Inc.) (the "Adviser") is the Fund's investment adviser. The Adviser is a wholly owned subsidiary of John Hancock Financial Services, Inc., a subsidiary of Manulife Financial Corporation ("Manulife Financial"). Founded in 1862, John Hancock Financial Services and its subsidiaries today offer a broad range of financial products and services, including whole, term, variable, and universal life insurance, as well as college savings products, mutual funds, fixed and variable annuities, long-term care insurance and various forms of business insurance. Manulife Financial is a leading Canadian-based financial services group serving millions of customers in 19 countries and territories worldwide. Operating as Manulife Financial in Canada and most of Asia, and primarily through John Hancock in the United States, the Company offers clients a diverse range of financial protection products and wealth management services through its extensive network of employees, agents and distribution partners. Funds under management by Manulife Financial and its subsidiaries were Cdn$ billion (US$ billion) as at September 30, 2004. Manulife Financial Corporation trades as 'MFC' on the TSX, NYSE and PSE, and under '0945' on the SEHK. Manulife Financial can be found on the Internet at www.manulife.com. INVESTMENT OBJECTIVE AND POLICIES The following information supplements the discussion of the Fund's investment objective and policies discussed in the Prospectus. Appendix A contains further information describing investment risks. The investment objective of the Fund is not fundamental and may be changed by the Trustees without shareholder approval. There is no assurance that the Fund will achieve its investment objective. The Fund's objective is to provide investors with current income excludable from gross income for Federal income tax purposes and exempt from the personal income tax of New York State and New York City. The Fund seeks to provide the maximum level of tax-exempt income that is consistent with preservation of capital. The policy of the Fund requiring that under normal circumstances at least 80% of the Fund's net assets consist of Tax-Exempt Bonds is fundamental and may not be changed by the Trustees without shareholder approval. As required by SEC Rule 35d-1, the following fundamental investment policy has been added: The Fund normally invests at least 80% of its Assets in securities of any maturity exempt from federal and New York personal income taxes. "Assets" is defined as net assets plus the amount of any borrowings for investment purposes. Non-Diversification. -------------------- The Fund has registered as a "non-diversified" investment company, permitting the Adviser to invest more than 5% of the assets of the Fund in the obligations of any one issuer. Since a relatively high percentage of the Fund's assets may be invested in the obligations of a limited number of issuers, the value of Fund shares may be more susceptible to any single economic, political or regulatory event than the shares of a diversified investment company. 2 Additional Risks. ----------------- Securities in which the Fund may invest are subject to the provisions of bankruptcy, insolvency and other laws affecting the rights and remedies of creditors, such as the Federal Bankruptcy Code, and laws, if any, which may be enacted by Congress or, as the case may be, the New York legislature extending the time for payment of principal or interest, or both, or imposing 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 any one or more issuers to pay when due principal of and interest on their tax-exempt securities may be materially affected. From time to time, proposals have been introduced before Congress which would adversely affect the Federal income tax consequences of holding tax-exempt securities. Federal tax legislation enacted primarily during the 1980's limits the types and amounts of tax-exempt bonds issuable for certain purposes, especially industrial development bonds and other types of "private activity" bonds. Such limits may affect the future supply and yields of these types of tax-exempt securities. Further proposals limiting the issuance of tax-exempt securities may well be introduced in the future. If it appeared that the availability of tax-exempt securities for investment by the Fund and the value of the Fund's investments could be materially affected by such changes in law, the Trustees would reevaluate the Fund's investment objective and policies and consider changes in the structure of the Fund or its dissolution. All of the investments of the Fund will be made in: (1) tax-exempt securities which at the time of purchase are rated BB or better by Standard & Poor's Ratings Group ("S&P"), or Fitch Investors Services, Inc. ("Fitch") or Ba by Moody's Investors Service, Inc. ("Moody's"). Alternatively, the bonds may be unrated but considered by the Adviser to be of comparable quality. Not more than one-third of the Fund's total assets will be invested in tax-exempt bonds rated lower than A or determined to be of comparable quality. (2) Notes of issuers having an issue of outstanding tax-exempt securities rated at least A by S&P, Moody's or by Fitch, or notes which are guaranteed by the U.S. Government or rated MIG-1 or MIG-2 by Moody's, or unrated notes which are determined to be of comparable quality by the Adviser. (3) Obligations issued or guaranteed by the U.S. Government, its agencies or instrumentalities. Some obligations issued by an agency or instrumentality may be supported by the full faith and credit of the U.S. Treasury, while others may be supported only by the credit of the particular Federal agency or instrumentality. (4) Commercial paper which is rated A-1 or A-2 by S&P, P-1 or P-2 by Moody's, or at least F-1 by Fitch, or which is not rated, but is considered by the Adviser to be of comparable quality; obligations of banks with $1 billion of assets and cash equivalents, including certificates of deposit, bankers acceptances and repurchase agreements. Ratings of A-2 or P-2 on commercial paper indicate a strong capacity for timely payment, although the relative degree of safety is not as high as for issuers designated A-1 or P-1. Appendix B contains further information about ratings. Tax-Exempt Securities. ---------------------- These are debt securities issued by or on behalf of states, territories and possessions of the United States and the District of Columbia and their political subdivisions, agencies or instrumentalities, the interest on which is excludable from gross income for Federal income tax purposes, without regard to whether the interest income thereon is exempt from the personal income tax of any state. 3 Tax-exempt securities are issued to obtain funds for various public purposes, including the construction of a wide range of public facilities such as bridges, highways, housing, hospitals, mass transportation, schools, streets and water and sewer works. Other public purposes for which tax-exempt securities may be issued include the refunding of outstanding obligations or obtaining funds for general operating expenses. In addition, certain types of "private activity bonds" may be issued by public authorities to finance privately operated housing facilities and certain local facilities for water supply, gas, electricity, sewage or solid waste disposal or student loans, or to obtain funds to lend to public or private institutions for the construction of facilities such as educational, hospital and housing facilities. Such private activity bonds are included within the term tax-exempt securities if the interest paid thereon is excluded from gross income for Federal income tax purposes. The interest income on certain private activity bonds (including the Fund's distributions to its shareholders attributable to such interest) may be treated as a tax preference item under the Federal alternative minimum tax. The Fund will not include tax-exempt securities generating this income for purposes of measuring compliance with the 80% fundamental investment policy described in the Prospectus. Other types of private activity bonds, the proceeds of which are used for the construction, equipment, repair or improvement of privately operated industrial or commercial facilities, may also constitute tax-exempt securities, but current Federal tax law places substantial limitations on the size of such issues. The yields or returns on tax-exempt securities depend on a variety of factors, including general money market conditions, effective marginal tax rates, the financial condition of the issuer, general conditions of the tax-exempt bond market, the size of a particular offering, the maturity of the obligation and the rating (if any) of the issue. The ratings of Moody's , Fitch and S&P represent their opinions as to the quality of various tax-exempt securities which they undertake to rate. It should be emphasized, however, that ratings are not absolute standards of quality. Consequently, tax-exempt securities with the same maturity and interest rate with different ratings may have the same yield. Yield disparities may occur for reasons not directly related to the investment quality of particular issues or the general movement of interest rates, due to such factors as changes in the overall demand or supply of various types of tax-exempt securities or changes in the investment objectives of investors. The market value of debt securities which carry no equity participation usually reflects yields generally available on securities of similar quality and type. When such yields decline, the market value of a portfolio already invested at higher yields can be expected to rise if such securities are protected against early call. In general, in selecting securities, the portfolio manager of the Fund intends to seek protection against early call. Similarly, when such yields increase, the market value of a portfolio already invested at lower yields can be expected to decline. The Fund may invest in debt securities which sell at substantial discounts from par. These securities are low coupon bonds which, during periods of high interest rates, because of their lower acquisition cost tend to sell on a yield basis approximating current interest rates. Municipal Bonds. Municipal bonds generally are classified as either general obligation bonds or revenue bonds. General obligation bonds are backed by the credit of an issuer having taxing power and are payable from the issuer's general unrestricted revenues. Their payment may depend on an appropriation of the issuer's legislative body. Revenue bonds, by contrast, are payable only from the revenues derived from a particular project, facility or a specific revenue source. They are not generally payable from the unrestricted revenues of the issuer. 4 "Moral Obligation" Bonds. The Fund currently does not intend to invest in so-called "moral obligation" bonds, unless the credit of the issuer itself, without regard to the "moral obligation," meets the investment criteria established for investments by the Fund. With "moral obligation" bonds, repayment is backed by a moral commitment of an entity other than the issuer. Tax-Exempt Notes. ----------------- Tax-exempt notes generally are used to provide for short-term capital needs and generally have maturities of one year or less. Tax-exempt notes include: Project Notes. Project notes are backed by an agreement between a local issuing agency and the Federal Department of Housing and Urban Development ("HUD") and carry a United States Government guarantee. These notes provide financing for a wide range of financial assistance programs for housing, redevelopment, and related needs (such as low-income housing programs and urban renewal programs). Although they are the primary obligations of the local public housing agencies or local urban renewal agencies, the HUD agreement provides for the additional security of the full faith and credit of the United States Government. Payment by the United States pursuant to its full faith and credit obligation does not impair the tax-exempt character of the income from Project Notes. Tax-Anticipation Notes. Tax anticipation notes are issued to finance working capital needs of municipalities. Generally, they are issued in anticipation of various tax revenues, such as income, sales, use and business taxes, and are specifically payable from these particular future tax revenues. Revenue Anticipation Notes. Revenue anticipation notes are issued in expectation of receipt of specific types of revenue, other than taxes, such as federal revenues available under Federal Revenue Sharing Programs. Bond Anticipation Notes. Bond anticipation notes are issued to provide interim financing until long-term bond financing can be arranged. In most cases, the long-term bonds then provide the funds for the repayment of the Notes. Construction Loan Notes. Construction loan notes are sold to provide construction financing. Permanent financing, the proceeds of which are applied to the payment of construction loan notes, is sometimes provided by a commitment by the Government National Mortgage Association to purchase the loan, accompanied by a commitment by the Federal Housing Administration to insure mortgage advances thereunder. In other instances, permanent financing is provided by the commitments of banks to purchase the loan. Commercial Paper. ----------------- Issues of commercial paper typically represent short-term, unsecured, negotiable promissory notes. These obligations are issued by agencies of state and local governments to finance seasonal working capital needs of municipalities or to provide interim construction financing and are paid from general revenues of municipalities or are refinanced with long-term debt. In most cases, tax- exempt commercial paper is backed by letters of credit, lending agreements, note repurchase agreements or other credit facility agreements offered by banks or other institutions. Ratings as Investment Criteria. ------------------------------- Lower Rated High Yield "High Risk" Debt Obligations. The Fund may invest in high yielding, fixed income securities rated below Baa by Moody's or BBB by S&P or Fitch or which are unrated but are considered by the Adviser to be of comparable quality. Ratings are based largely on the historical financial condition of the issuer. Consequently, the rating assigned to any particular security is not necessarily a reflection of the issuer's current financial condition, which 5 may be better or worse than the rating would indicate. Bonds rated BB or Ba are generally referred to as junk bonds. See "Appendix B" attached hereto. The values of lower-rated securities and those which are unrated but which are considered by the Adviser to be of comparable quality generally fluctuate more than those of high-rated securities. These securities involve greater price volatility and risk of loss of principal and income. In addition, the lower rating reflects a greater possibility of an adverse change in financial condition affecting the ability of the issuer to make payments of interest and principal. The market price and liquidity of lower-rated securities generally respond to short-term market developments to a greater extent than for higher rated securities, because these developments are perceived to have a more direct relationship to the issuer's ability to meet its ongoing debt obligations. Although the Adviser seeks to minimize these risks through diversification, investment analysis and attention to current developments in interest rates and economic conditions, there can be no assurance that the Adviser will be successful in limiting the Fund's exposure to the risks associated with lower rated securities. Because the Fund invests in securities in the lower rated categories, the achievement of the Fund's goals is more dependent on the Adviser's ability than would be the case if the Fund was investing in securities in the higher rated categories. Ratings. Ratings for Bonds issued by various jurisdictions are noted herein. Such ratings reflect only the respective views of such organizations, and an explanation of the significance of such ratings may be obtained from the rating agency furnishing the same. There is no assurance that a rating will continue for any given period of time or that a rating will not be revised or withdrawn entirely by any or all of such rating agencies, if, in its or their judgment, circumstances so warrant. Any downward revision or withdrawal of a rating could have an adverse effect on the market prices of any of the bonds described herein. Restricted Securities. ---------------------- The Fund may purchase securities that are not registered ("restricted securities") under the Securities Act of 1933 ("1933 Act"), including commercial paper issued in reliance on Section 4(2) of the 1933 Act and securities offered and sold to "qualified institutional buyers" under Rule 144A under the 1933 Act. The Fund will not invest more than 15% of its net assets in illiquid investments. If the Trustees determine, based upon a continuing review of the trading markets for specific Section 4(2) paper or Rule 144A securities, that they are liquid, they will not be subject to the 15% limit on illiquid securities. The Trustees have adopted guidelines and delegated to the Adviser the daily function of determining the monitoring and liquidity of restricted securities. The Trustees, however, will retain sufficient oversight and be ultimately responsible for the determinations. The Trustees will carefully monitor the Fund's investments in these securities, focusing on such important factors, among others, as valuation, liquidity and availability of information. This investment practice could have the effect of increasing the level of illiquidity in a the Fund if qualified institutional buyers become for a time uninterested in purchasing these restricted securities. Participation Interests. The Fund may invest in Certificates of Participation (COP's which provide participation interests in lease revenues. Each COP represents a proportionate interest in or right to the lease-purchase payment made under municipal lease obligations o installment sales contracts. Typically municipal lease obligations are issued by a state or municipal financing authority to provide funds for the construction of facilities (e.g., schools, dormitories, office buildings, or prisons) or the acquisition of equipment. The facilities are typically used by the state or municipality pursuant to a lease with a financing authority. Certain municipal lease obligations may trade infrequently. Participation interests in municipal lease obligations will not be considered illiquid for purposes of the Fund's 15% limitation on illiquid securities provided the Adviser determines that there is a readily available market for such securities. In reaching liquidity decisions, the Adviser will consider, among others, the following factors: (1) the frequency of trades and quotes for the security; (2) the number of dealers wishing to 6 purchase or sell the security and the number of other potential purchasers; (3) dealer undertakings to make a market in the security and (4) the nature of the security and the nature of the marketplace trades (e.g., the time needed to dispose of the security, the method of soliciting offers and the mechanics of the transfer.) With respect to municipal lease obligations, the Adviser also considers: (1) the willingness of the municipality to continue, annually or biannually, to appropriate funds for payment of the lease; (2) the general credit quality of the municipality and the essentiality to the municipality of the property covered by the lease; (3) an analysis of factors similar to that performed by nationally recognized statistical rating organizations in evaluating the credit quality of a municipal lease obligation, including (i) whether the lease can be canceled; (ii) if applicable, what assurance there is that the assets represented by the lease can be sold; (iii) the strength of the lessee's general credit (e.g., its debt, administrative, economic and financial characteristics); (iv) the likelihood that the municipality will discontinue appropriating funding for the leased property because the property is no longer deemed essential to the operations of the municipality (e.g., the potential for an event of nonappropriation); and (v) the legal recourse in the event of failure to appropriate; and (4) any other factors unique to municipal lease obligations as determined by the Adviser. Repurchase Agreements. ---------------------- The Fund may enter into repurchase agreements for the purpose of realizing additional (taxable) income. In a repurchase agreement the Fund buys a security for a relatively short period (usually not more than 7 days) subject to the obligation to sell it back to the issuer at a fixed time and price plus accrued interest. The Fund will enter into repurchase agreements only with member banks of the Federal Reserve System and with "primary dealers" in U.S. Government securities. The Adviser will continuously monitor the creditworthiness of the parties with whom the Fund enters into repurchase agreements. The Fund has established a procedure providing that the securities serving as collateral for each repurchase agreement must be delivered to the Fund's custodian either physically or in book-entry form and that the collateral must be marked to market daily to ensure that each repurchase agreement is fully collateralized at all times. In the event of bankruptcy or other default by a seller of a repurchase agreement, the Fund could experience delays in liquidating the underlying securities during the period in which the Fund seeks to enforce its rights thereto, possible subnormal levels of income, a decline in value of the underlying securities or lack of access to income during this period, and the expense of enforcing its rights. Reverse Repurchase Agreements. ------------------------------ The Fund may also enter into reverse repurchase agreements which involve the sale of U.S. Government securities held in its portfolio to a bank with an agreement that the Fund will buy back the securities at a fixed future date at a fixed price plus an agreed amount of "interest" which may be reflected in the repurchase price. Reverse repurchase agreements are considered to be borrowings by the Fund. Reverse repurchase agreements involve the risk that the market value of securities purchased by the Fund with proceeds of the transaction may decline below the repurchase price of the securities sold by the Fund which it is obligated to repurchase. The Fund will also continue to be subject to the risk of a decline in the market value of the securities sold under the agreements because it will reacquire those securities upon effecting their repurchase. The Fund will not enter into reverse repurchase agreements and other borrowings exceeding in the aggregate 33 1/3% of the market value of its total assets. To minimize various risks associated with reverse repurchase agreements, the Fund will establish a separate account consisting of highly liquid, marketable securities in an amount at least equal to the repurchase prices of these securities (plus accrued interest thereon) under such agreements. In addition, the Fund will not purchase additional securities while all borrowings are outstanding. The Fund will enter into reverse repurchase agreements only with federally insured banks or savings and loan associations which are approved in advance as being creditworthy by the Trustees. Under procedures established by the Trustees, the Adviser will monitor the creditworthiness of the banks involved. 7 Options on Securities and Securities Indices. --------------------------------------------- The Fund may purchase and write (sell) call and put options on any securities in which it may invest on any securities index based on securities in which it may invest. These options may be listed on national domestic securities exchanges or traded in the over-the-counter market. The Fund may write covered put and call options and purchase put and call options to enhance total return, as a substitute for the purchase or sale of securities, or to protect against declines in the value of portfolio securities and against increases in the cost of securities to be acquired. Writing Covered Options. A call option on securities written by the Fund obligates the Fund to sell specified securities to the holder of the option at a specified price if the option is exercised at any time before the expiration date. A put option on securities written by the Fund obligates the Fund to purchase specified securities from the option holder at a specified price if the option is exercised at any time before the expiration date. Options on securities indices are similar to options on securities, except that the exercise of securities index options requires cash settlement payments and does not involve the actual purchase or sale of securities. In addition, securities index options are designed to reflect price fluctuations in a group of securities or segment of the securities market rather than price fluctuations in a single security. Writing covered call options may deprive the Fund of the opportunity to profit from an increase in the market price of the securities in its portfolio. Writing covered put options may deprive the Fund of the opportunity to profit from a decrease in the market price of the securities to be acquired for its portfolio. All call and put options written by the Fund are covered. A written call option or put option may be covered by (i) maintaining cash or liquid securities in a segregated account with a value at least equal to the Fund's obligation under the option, (ii) entering into an offsetting forward commitment and/or (iii) purchasing an offsetting option or any other option which, by virtue of its exercise price or otherwise, reduces the Fund's net exposure on its written option position. A written call option on securities is typically covered by maintaining the securities that are subject to the option in a segregated account. The Fund may cover call options on a securities index by owning securities whose price changes are expected to be similar to those of the underlying index. The Fund may terminate its obligations under an exchange traded call or put option by purchasing an option identical to the one it has written. Obligations under over-the-counter options may be terminated only by entering into an offsetting transaction with the counterparty to such option. Such purchases are referred to as "closing purchase transactions." Purchasing Options. The Fund would normally purchase call options in anticipation of an increase, or put options in anticipation of a decrease ("protective puts") in the market value of securities of the type in which it may invest. The Fund may also sell call and put options to close out its purchased options. The purchase of a call option would entitle the Fund, in return for the premium paid, to purchase specified securities at a specified price during the option period. The Fund would ordinarily realize a gain on the purchase of a call option if, during the option period, the value of such securities or currency exceeded the sum of the exercise price, the premium paid and transaction costs; otherwise the Fund would realize either no gain or a loss on the purchase of the call option. The purchase of a put option would entitle the Fund, in exchange for the premium paid, to sell specified securities at a specified price during the option period. The purchase of protective puts is designed to offset or hedge against a decline in the market value of the Fund's portfolio securities. Put options may also be purchased by the Fund for the purpose of affirmatively benefiting from a decline in the price of securities which it does not own. The Fund would ordinarily realize a gain if, during the option period, the value of the underlying securities decreased below the exercise price sufficiently to cover the premium and transaction costs; 8 otherwise the Fund would realize either no gain or a loss on the purchase of the put option. Gains and losses on the purchase of put options may be offset by countervailing changes in the value of the Fund's portfolio securities. Under certain circumstances, the Fund may not be treated as the tax owner of a security if the Fund has purchased a put option on the same security. If this occurred, the interest on the security would be taxable. The Fund's options transactions will be subject to limitations established by each of the exchanges, boards of trade or other trading facilities on which such options are traded. These limitations govern the maximum number of options in each class which may be written or purchased by a single investor or group of investors acting in concert, regardless of whether the options are written or purchased on the same or different exchanges, boards of trade or other trading facilities or are held or written in one or more accounts or through one or more brokers. Thus, the number of options which the Fund may write or purchase may be affected by options written or purchased by other investment advisory clients of the Adviser. An exchange, board of trade or other trading facility may order the liquidation of positions found to be in excess of these limits, and it may impose certain other sanctions. Risks Associated with Options Transactions. There is no assurance that a liquid secondary market on an options exchange will exist for any particular exchange-traded option or at any particular time. If the Fund is unable to effect a closing purchase transaction with respect to covered options it has written, the Fund will not be able to sell the underlying securities or dispose of assets held in a segregated account until the options expire or are exercised. Similarly, if the Fund is unable to effect a closing sale transaction with respect to options it has purchased, it would have to exercise the options in order to realize any profit and will incur transaction costs upon the purchase or sale of underlying securities. Reasons for the absence of a liquid secondary market on an exchange include the following: (i) there may be insufficient trading interest in certain 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 options; (iv) unusual or unforeseen circumstances may interrupt normal operations on an exchange; (v) the facilities of an exchange or the Options 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 options (or a particular class or series of options). If trading were discontinued, the secondary market on that exchange (or in that class or series of options) would cease to exist. However, outstanding options on that exchange that had been issued by the Options Clearing Corporation as a result of trades on that exchange would continue to be exercisable in accordance with their terms. The Fund's ability to terminate over-the-counter options is more limited than with exchange-traded options and may involve the risk that broker-dealers participating in such transactions will not fulfill their obligations. The Adviser will determine the liquidity of each over-the-counter option in accordance with guidelines adopted by the Trustees. The writing and purchase of options is a highly specialized activity which involves investment techniques and risks different from those associated with ordinary portfolio securities transactions. The successful use of options depends in part on the Adviser's ability to predict future price fluctuations and, for hedging transactions, the degree of correlation between the options and securities markets. Futures Contracts and Options on Futures Contracts. --------------------------------------------------- To seek to increase total return or hedge against changes in interest rates and securities prices, the Fund may purchase and sell various kinds of futures contracts, and purchase and write call and put options on these futures contracts. The Fund may also enter into closing purchase and sale transactions with respect to any of these 9 contracts and options. The futures contracts may be based on various securities, securities indices, and any other financial instruments and indices. All futures contracts entered into by the Fund are traded on U.S. exchanges or boards of trade that are licensed, regulated or approved by the Commodity Futures Trading Commission ("CFTC"). Futures Contracts. A futures contract may generally be described as an agreement between two parties to buy and sell particular financial instruments for an agreed price during a designated month (or to deliver the final cash settlement price, in the case of a contract relating to an index or otherwise not calling for physical delivery at the end of trading in the contract). Positions taken in the futures markets are not normally held to maturity but are instead liquidated through offsetting transactions which may result in a profit or a loss. While futures contracts on securities will usually be liquidated in this manner, the Fund may instead make, or take, delivery of the underlying securities whenever it appears economically advantageous to do so. A clearing corporation associated with the exchange on which futures contracts are traded guarantees that, if still open, the sale or purchase will be performed on the settlement date. Hedging and Other Strategies with Future Contracts. Hedging is an attempt to establish with more certainty than would otherwise be possible the effective price or rate of return on portfolio securities or securities that the Fund proposes to acquire. When securities prices are falling, the Fund can seek to offset a decline in the value of its current portfolio securities through the sale of futures contracts. When securities prices are rising, the Fund, through the purchase of futures contracts, can attempt to secure better rates or prices than might later be available in the market when it effects anticipated purchases. The Fund may, for example, take a "short" position in the futures market by selling futures contracts in an attempt to hedge against an anticipated decline in market prices that would adversely affect the value of the Fund's portfolio securities. Such futures contracts may include contracts for the future delivery of securities held by the Fund or securities with characteristics similar to those of the Fund's portfolio securities. If, in the opinion of the Adviser, there is a sufficient degree of correlation between price trends for the Fund's portfolio securities and futures contracts based on other financial instruments, securities indices or other indices, the Fund may also enter into such futures contracts as part of its hedging strategy. Although under some circumstances prices of securities in the Fund's portfolio may be more or less volatile than prices of such futures contracts, the Adviser will attempt to estimate the extent of this volatility difference based on historical patterns and compensate for any differential by having the Fund enter into a greater or lesser number of futures contracts or by attempting to achieve only a partial hedge against price changes affecting the Fund's portfolio securities. When a short hedging position is successful, any depreciation in the value of portfolio securities will be substantially offset by appreciation in the value of the futures position. On the other hand, any unanticipated appreciation in the value of the Fund's portfolio securities would be substantially offset by a decline in the value of the futures position. On other occasions, the Fund may take a "long" position by purchasing futures contracts. This would be done, for example, when the Fund anticipates the subsequent purchase of particular securities when it has the necessary cash, but expects the prices then available in the applicable market to be less favorable than prices that are currently available. The Fund may also purchase futures contracts as a substitute for transactions in securities to alter the investment characteristics of portfolio securities or to gain or increase its exposure to a particular securities market. 10 Options on Futures Contracts. The Fund may purchase and write options on futures for the same purposes as its transactions in futures contracts. The purchase of put and call options on futures contracts will give the Fund the right (but not the obligation) for a specified price to sell or to purchase, respectively, the underlying futures contract at any time during the option period. As the purchaser of an option on a futures contract, the Fund obtains the benefit of the futures position if prices move in a favorable direction but limits its risk of loss in the event of an unfavorable price movement to the loss of the premium and transaction costs. The writing of a call option on a futures contract generates a premium which may partially offset a decline in the value of the Fund's assets. By writing a call option, the Fund becomes obligated, in exchange for the premium (upon exercise of the option) to sell a futures contract if the option is exercised, which may have a value higher than the exercise price. Conversely, the writing of a put option on a futures contract generates a premium which may partially offset an increase in the price of securities that the Fund intends to purchase. However, the Fund becomes obligated (upon exercise of the option) to purchase a futures contract if the option is exercised, which may have a value lower than the exercise price. The loss incurred by the Fund in writing options on futures is potentially unlimited and may exceed the amount of the premium received. The holder or writer of an option on a futures contract may terminate its position by selling or purchasing an offsetting option of the same series. There is no guarantee that such closing transactions can be effected. The Fund's ability to establish and close out positions on such options will be subject to the development and maintenance of a liquid market. Other Considerations. The Fund will engage in futures and related options transactions either for bona fide hedging purposes or to seek to increase total return as permitted by the CFTC. To the extent that the Fund is using futures and related options for hedging purposes, futures contracts will be sold to protect against a decline in the price of securities that the Fund owns or futures contracts will be purchased to protect the Fund against an increase in the price of securities it intends to purchase. The Fund will determine that the price fluctuations in the futures contracts and options on futures used for hedging purposes are substantially related to price fluctuations in securities held by the Fund or securities or instruments which it expects to purchase. As evidence of its hedging intent, the Fund expects that on 75% or more of the occasions on which it takes a long futures or option position (involving the purchase of futures contracts), the Fund will have purchased, or will be in the process of purchasing, equivalent amounts of related securities in the cash market at the time when the futures or option position is closed out. However, in particular cases, when it is economically advantageous for the Fund to do so, a long futures position may be terminated or an option may expire without the corresponding purchase of securities or other assets. To the extent that the Fund engages in nonhedging transactions in futures contracts and options on futures, the aggregate initial margin and premiums required to establish these nonhedging positions will not exceed 5% of the net asset value of the Fund's portfolio, after taking into account unrealized profits and losses on any such positions and excluding the amount by which such options were in-the-money at the time of purchase. Transactions in futures contracts and options on futures involve brokerage costs, require margin deposits and, in the case of contracts and options obligating the Fund to purchase securities, require the Fund to establish a segregated account consisting of cash or liquid securities in an amount equal to the underlying value of such contracts and options. While transactions in futures contracts and options on futures may reduce certain risks, these transactions themselves entail certain other risks. For example, unanticipated changes in interest rates or securities prices may result in a poorer overall performance for the Fund than if it had not entered into any futures contracts or options transactions. 11 Perfect correlation between the Fund's futures positions and portfolio positions will be impossible to achieve. In the event of an imperfect correlation between a futures position and a portfolio position which is intended to be protected, the desired protection may not be obtained and the Fund may be exposed to risk of loss. Some futures contracts or options on futures may become illiquid under adverse market conditions. In addition, during periods of market volatility, a commodity exchange may suspend or limit trading in a futures contract or related option, which may make the instrument temporarily illiquid and difficult to price. Commodity exchanges may also establish daily limits on the amount that the price of a futures contract or related option can vary from the previous day's settlement price. Once the daily limit is reached, no trades may be made that day at a price beyond the limit. This may prevent the Fund from closing out positions and limiting its losses. Structured or Hybrid Notes. --------------------------- The Fund may invest in "structured" or "hybrid" notes. The distinguishing feature of a structured or hybrid note is that the amount of interest and/or principal payable on the note is based on the performance of a benchmark asset or market other than fixed income securities or interest rates. Examples of these benchmarks include stock prices, currency exchange rates and physical commodity prices. Investing in a structured note allows the Fund to gain exposure to the benchmark market while fixing the maximum loss that the Fund may experience in the event that market does not perform as expected. Depending on the terms of the note, the Fund may forego all or part of the interest and principal that would be payable on a comparable conventional note; the Fund's loss cannot exceed this foregone interest and/or principal. An investment in structured or hybrid notes involves risks similar to those associated with a direct investment in the benchmark asset. Indexed Securities. ------------------- The Fund may invest in indexed securities, including floating rate securities that are subject to a maximum interest rate ("capped floaters") and leveraged inverse floating rate securities ("inverse floaters") (up to 10% of the Fund's total assets). The interest rate or, in some cases, the principal payable at the maturity of an indexed security may change positively or inversely in a relation to one or more interest rates, financial indices, or other financial indicators ("reference prices"). An indexed security may be leveraged to the extent that the magnitude of any change in the interest rate or principal payable on an indexed security is a multiple of the change in the reference price. Thus, indexed securities may decline in value due to adverse market charges in interest rates or other reference prices. Risk Associated With Specific Types of Derivative Debt Securities. ------------------------------------------------------------------ Different types of derivative debt securities are subject to different combinations of prepayment, extension and/or interest rate risk. The risk of early prepayments is the primary risk associated with interest only debt securities ("IOs"), super floaters and other leveraged floating rate instruments. In some instances, early prepayments may result in a complete loss of investment in certain of these securities. The primary risks associated with certain other derivative debt securities are the potential extension of average life and/or depreciation due to rising interest rates. Derivative debt securities include floating rate securities based on the Cost of Funds Index ("COFI floaters"), other "lagging rate" floating rate securities, floating rate securities that are subject to a maximum interest rate ("capped floaters"), leveraged inverse floating rate securities ("inverse floaters"), principal only debt securities ("POs") and certain residual or support branches of index amortizing notes. Index amortizing notes are subject to extension risk resulting from the issuer's failure to exercise its option to call or redeem the notes before their stated maturity date. Leveraged inverse IOs present an especially intense combination of prepayment, extension and interest rate risks. Other types of floating rate derivative debt securities present more complex types of interest rate risks. For example, range floaters are subject to the risk that the coupon will be reduced to below 12 market rates if a designated interest rate floats outside of a specified interest rate band or collar. Dual index or yield curve floaters are subject to depreciation in the event of an unfavorable change in the spread between two designated interest rates. X- reset floaters have a coupon that remains fixed for more than one accrual period. Thus, the type of risk involved in these securities depends on the terms of each individual X-reset floater. Forward Commitment and When-Issued Securities. ---------------------------------------------- The Fund may purchase securities on a when-issued or forward commitment basis. "When-issued" refers to securities whose terms are available and for which a market exists, but which have not been issued. The Fund will engage in when-issued transactions with respect to securities purchased for its portfolio in order to obtain what is considered to be an advantageous price and yield at the time of the transaction. For when-issued transactions, no payment is made until delivery is due, often a month or more after the purchase. In a forward commitment transaction, the Fund contracts to purchase securities for a fixed price at a future date beyond customary settlement time. When the Fund engages in forward commitment and when-issued transactions, it relies on the seller to consummate the transaction. The failure of the issuer or seller to consummate the transaction may result in the Fund's losing the opportunity to obtain a price and yield considered to be advantageous. The purchase of securities on a when-issued or forward commitment basis also involves a risk of loss if the value of the security to be purchased declines prior to the settlement date. On the date the Fund enters into an agreement to purchase securities on a when-issued or forward commitment basis, the Fund will segregate in a separate account cash or liquid securities equal in value to the Fund's commitment. These assets will be valued daily at market, and additional cash or securities will be segregated in a separate account to the extent that the total value of the assets in the account declines below the amount of the when-issued commitments. Alternatively, the Fund may enter into offsetting contracts for the forward sale of other securities that it owns. Swaps, Caps, Floors and Collars. -------------------------------- As one way of managing its exposure to different types of investments, the Fund may enter into interest rate swaps, and other types of swap agreements such as caps, collars and floors. In a typical interest rate swap, one party agrees to make regular payments equal to a floating interest rate times a "notional principal amount," in return for payments equal to a fixed rate times the same amount, for a specified period of time. Swaps may also depend on other prices or rates, such as the value of an index or mortgage prepayment rates. In a typical cap or floor agreement, one party agrees to make payments only under specified circumstances, usually in return for payment of a fee by the other party. For example, the buyer of an interest rate cap obtains the right to receive payments to the extent that a specified interest rate exceeds an agreed-upon level, while the seller of an interest rate floor is obligated to make payments to the extent that a specified interest rate falls below an agreed-upon level. An interest rate collar combines elements of buying a cap and selling a floor. Swap agreements will tend to shift the Fund's investment exposure from one type of investment to another. Caps and floors have an effect similar to buying or writing options. Depending on how they are used, swap agreements may increase or decrease the overall volatility of the Fund's investments and its share price and yield. Swap agreements are sophisticated hedging instruments that typically involve a small investment of cash relative to the magnitude of risks assumed. As a result, swaps can be highly volatile and may have a considerable impact on the Fund's performance. Swap agreements are subject to risks related to the counterpart's ability to perform, and may decline in value if the counterpart's credit worthiness deteriorates. The Fund may also suffer losses if it is unable to terminate outstanding swap agreements or reduce its exposure through offsetting transactions. The Fund 13 will maintain in a segregated account with its custodian, cash or liquid, high grade debt securities equal to the net amount, if any, of the excess of the Fund's obligations over its entitlement with respect to swap, cap, collar or floor transactions. Lending of Securities. ---------------------- For purposes of realizing additional (taxable) income, the Fund may lend portfolio securities to brokers, dealers, and financial institutions if the loan is collateralized by cash or U.S. Government securities according to applicable regulatory requirements. The Fund may reinvest any cash collateral in short-term securities and money market funds. When the Fund lends portfolio securities, there is a risk that the borrower may fail to return the securities involved in the transaction. As a result, the Fund may incur a loss or, in the event of the borrower's bankruptcy, the Fund may be delayed in or prevented from liquidating the collateral. It is a fundamental policy of the Fund not to lend portfolio securities having a total value exceeding 33 1/3% of its total assets. Short-Term Trading and Portfolio Turnover. ------------------------------------------ The Fund may attempt to maximize current income through short-term portfolio trading. This will involve selling portfolio instruments and purchasing different instruments to take advantage of yield disparities in different segments of the market for government obligations. Short- term trading may have the effect of increasing portfolio turnover rate. The portfolio turnover rate for the Fund is calculated by dividing the lower annual sales or purchases of portfolio securities (exclusive of purchases or sales of all securities whose maturities at the time of acquisition were 1 year or less) by the monthly average value of the securities in the Fund during the year. A high rate of portfolio turnover (100% or greater) involves correspondingly higher brokerage expenses. The Fund's portfolio turnover rate is set forth in the table under the caption "Financial Highlights" in the Prospectus. Special Risks The following information as to certain special risks associated with investing in New York constitutes only a brief summary and does not purport to be a complete description of the considerations associated with such investments. The information is based in part on information from official statements related to securities offerings of New York issuers and is believed to be accurate. The following section provides only a brief summary of the complex factors affecting the financial situation in New York and is based on information obtained from New York State (the "State" or "New York State") certain of its authorities and New York City (the "City" or "New York City") as publicly available on the date of this Statement of Additional Information. The information contained in such publicly available documents has not been independently verified. It should be noted that the creditworthiness of obligations issued by local issuers may be unrelated to the creditworthiness of the State, and that there is no obligation on the part of the State to make payment on such local obligations in the event of default in the absence of a specific guarantee of pledge provided by the State. It should also be noted that the fiscal stability of New York State is related to the fiscal stability of New York City and of the State's Authorities. New York State's experience has been that if New York City or any other major political subdivision or any of the State's Authorities suffers serious financial difficulty, the ability of New York State, New York State's political subdivisions (including New York City) and the State's Authorities to obtain financing in the public credit markets is adversely affected. This results in part from the expectation that to the extent that any Authority or local government experiences financial difficulty, it will seek and receive New York State financial assistance. Moreover, New York City accounts for approximately 40% of New York State's population and tax receipts, so New York City's financial integrity in particular affects New York State directly. Accordingly, if there should be a default by New York City or any other major political subdivision or any of the State's Authorities, the market value and marketability of all New York Tax-Exempt Bonds issued by New York State, its political subdivisions and Authorities ("New 14 York Tax-Exempt Bonds") could be adversely affected. This would have an adverse effect on the asset value and liquidity of the Fund, even though securities of the defaulting entity may not be held by the Fund. Authorities ----------- The fiscal stability of New York is related, at least in part, to the fiscal stability of its localities and Authorities. Authorities are not subject to the constitutional restrictions on the incurrence of debt that apply to New York State. Authorities may issue bonds and notes within the amounts of, and as otherwise restricted by, their legislative authorization. Authorities are generally supported by revenues generated by the projects financed or operated, such as fares, user fees on bridges, highway tolls, mass transportation and rentals for dormitory rooms and housing. In recent years, however, New York has provided financial assistance through appropriations, in some cases of a recurring nature, to certain Authorities for operating and other expenses and, in fulfillment of its commitments on moral obligation indebtedness or otherwise, for debt service. This assistance is expected to continue to be required in future years. Failure of New York to appropriate necessary amounts or to take other action to permit the Authorities to meet their obligations could result in a default by one or more of the Authorities. If a default were to occur, it would likely have a significant adverse effect on the market price of obligations of the State and its Authorities. Agencies and Localities ----------------------- Beginning in 1975 (in part as a result of the then current New York City and UDC financial crises), various localities of New York State began experiencing difficulty in marketing their securities. As a result, certain localities, in addition to New York City, have experienced financial difficulties leading to requests for State assistance. If future financial difficulties cause agencies or localities to seek special State assistance, this could adversely affect New York State's ability to pay its obligations. Similarly, if financial difficulties of New York State result in New York City's inability to meet its regular aid commitments or to provide further emergency financing, issuers may default on their outstanding obligations, which would affect the marketability of debt obligations of New York, its agencies and municipalities such as the New York Municipal Obligations held by the Fund. Reductions in Federal spending could materially and adversely affect the financial condition and budget projections of New York State's localities. Should localities be adversely affected by Federal cutbacks, they may seek additional assistance from the State which might, in turn, have an adverse impact on New York State's ability to maintain a balanced budget. Certain localities in addition to the City could have financial problems which, if significant, could lead to requests for additional State assistance. To the extent the State is constrained by its financial condition, State assistance to localities may be further reduced, compounding the serious fiscal constraints already experienced by many local governments. Localities also face anticipated and potential problems resulting from pending litigation (including challenges to local property tax assessments), judicial decisions and socio-economic trends. Certain counties and other local governments have encountered significant financial difficulties, including Nassau County and Suffolk County (which each received approval by the legislature to issue deficit notes). The State has imposed financial control on the City of New York from 1977 to 1986 and on the City of Yonkers in 1984, 1988 and 1989, and the City of Troy commencing in 1995, under an appointed control board in response to fiscal crises encountered by these municipalities. U.S. Economy Although the national economic recovery weakened substantially toward the end of 2002, the Division of the Budget expects the national economy to continue to expand throughout 2003, 15 with some acceleration of growth in the second half of the year. Real U.S. GDP is expected to grow at an annual rate of 2.4 percent in 2003, the same rate as in 2002. In an effort to provide additional stimulus to the economy, the Federal Reserve reduced interest rates of 50 basis points in November 2002, for a total reduction since the pre-recession peak of 525 basis points. This has resulted in the lowest short-term interest rates since the early 1960s. In addition, a number of Federal fiscal initiatives are expected to provide additional stimulus. These monetary and fiscal actions are expected to provide insurance against a double dip recession. By the second half of 2003, an expected revival of investment spending will increase the GDP growth rate. An improving economy, along with higher oil prices, will likely result in higher inflation. The CPI is expected to rise by 2.4 percent in 2003, after an increase of 1.6 percent in 2002. The unemployment rate is expected to average 5.8 percent in 2003. State Economy The New York economy suffered more than the nation as a whole during the recession, due to the September 11 devastation of downtown New York City and the importance of the finance and tourism industries to the State economy. Only now are there signs of an economic turnaround. Total State employment is expected to rise 0.7 percent in 2003, following a decline of 1.6 percent for 2002. Private sector employment is expected to rise 0.9 percent in 2003, following a decline of 2.1 percent for 2002. Bonus payments paid to financial services workers have been reduced significantly due to the recession and the steep decline in the stock market. On a calendar year basis, bonuses are estimated to have fallen 23.0 percent for 2002, followed by a 10.2 percent decline projected for 2003. In the aftermath of the bursting of the stock market bubble, it is expected that for the next two years bonuses in the finance and insurance sector will remain at about one-half of their 2001 peak level. Wages are expected to rise 2.3 percent in 2003, following a decline of 3.2 percent for 2002. Total State personal income is projected to increase 3.1 percent in 2003. To avoid disruptive mid-year reductions to school aid and other local assistance programs, the Governor is proposing the sale of tobacco settlement payments of $1.9 billion in 2002-03 -- $1.5 billion to help maintain 2002-03 budget balance and the remainder to act as a reserve for use in 2003-04. In early December of last year, the Governor put forward a tobacco securitization plan. This proposal would authorize the sale of future tobacco receipts by a newly established entity and transfer from taxpayers the risk that tobacco companies might not be able to sustain these agreed-upon payments. The financing plan is structured to generate these resources at the lowest possible cost to taxpayers. Legislative action passed this tobacco securitization plan and the State, in November 2003, issued $2.01 billion to complete this financing process. The investment objectives and policies described above under the caption "Investment Objective and Policies" are not fundamental and may be changed by the Trustees without shareholder approval. Investment Restrictions Fundamental Investment Restrictions. ------------------------------------ The fundamental investment restrictions will not be changed for the Fund without the approval of a majority of the Fund's outstanding voting securities which, as used in the Prospectus and this Statement of Additional Information, means the approval by the lesser of (1) the holders of 67% or more of the Fund's shares represented at a meeting if more than 50% of the Fund's outstanding shares are present in person or by proxy at that meeting or (2) more than 50% of the Fund's outstanding shares. 16 The Fund may not: (1) Issue senior securities, except as permitted by paragraphs (2) and (7) below. For purposes of this restriction, the issuance of shares of beneficial interest in multiple classes or series, the purchase or sale of options, futures contracts and options on futures contracts, forward commitments, and repurchase agreements entered into in accordance with the Fund's investment policies, and the pledge, mortgage or hypothecation of the Fund's assets within the meaning of paragraph (3) below are not deemed to be senior securities. (2) Borrow money, except from banks as a temporary measure for extraordinary emergency purposes in amounts not to exceed 33 1/3% of the Fund's total assets (including the amount borrowed) taken at market value. The Fund will not purchase securities while borrowings are outstanding. (3) Pledge, mortgage or hypothecate its assets, except to secure indebtedness permitted by paragraph (2) above and then only if such pledging, mortgaging or hypothecating does not exceed 10% of the Fund's total assets taken at market value. (4) Act as an underwriter, except to the extent that in connection with the disposition of Fund securities, the Fund may be deemed to be an underwriter for purposes of the Securities Act of 1933. The Fund may also participate as part of a group in bidding for the purchase of Tax-Exempt Bonds directly from an issuer in order to take advantage of the lower purchase price available to members of such groups. (5) Purchase or sell real estate or any interest therein, but this restriction shall not prevent the Fund from investing in Tax-Exempt Bonds secured by real estate or interests therein. (6) Make loans, except that the Fund (1) may lend portfolio securities in accordance with the Fund's investment policies in an amount up to 33 1/3% of the Fund's total assets taken at market value, (2) enter into repurchase agreements, and (3) purchase all or a portion of an issue of debt securities, bank loan participation interests, bank certificates of deposit, bankers' acceptances, debentures or other securities, whether or not the purchase is made upon the original issuance of the securities. (7) Purchase or sell commodities or commodity contracts or puts, calls or combinations of both, except options on securities, securities indices, currency and other financial instruments, futures contracts on securities, securities indices, currency and other financial instruments and options on such futures contracts, forward commitments, interest rate swaps, caps and floors, securities index put or call warrants and repurchase agreements entered into in accordance with the Fund's investment policies. (8) Purchase the securities of issuers conducting their principal business activity in the same industry if, immediately after such purchase, the value of its investments in such industry would exceed 25% of its total assets taken at market value at the time of each investment. (Tax- Exempt Bonds and securities issued or guaranteed by the United States Government and its agencies and instrumentalities are not subject to this limitation.) 17 (9) Purchase securities of an issuer (other than the U.S. Government, its agencies or instrumentalities), if such purchase would cause more than 10% of the outstanding voting securities of such issuer to be held by the Fund. Non-fundamental Investment Restrictions. ----------------------------------------- The following investment restrictions are designated as non-fundamental and may be changed by the Trustees without shareholder approval: The Fund may not: (1) Except as permitted by fundamental investment restriction (4) above, participate on a joint or joint-and-several basis in any securities trading account. The "bunching" of orders for the sale or purchase of marketable Fund securities with other accounts under the management of the Adviser to save commissions or to average prices among them is not deemed to result in a joint securities trading account. (2) Purchase securities on margin or make short sales unless by virtue of its ownership of other securities, the Fund has the right to obtain securities equivalent in kind and amount to the securities sold short and, if the right is conditional, the sale is made upon the same conditions, except that the Fund may obtain such short-term credits as may be necessary for the clearance of purchases and sales of securities. (3) Purchase a security if, as a result, (i) more than 10% of the Fund's total assets would be invested in the securities of other investment companies, (ii) the Fund would hold more than 3% of the total outstanding voting securities of any one investment company, or (iii) more than 5% of the Fund's total assets would be invested in the securities of any one investment company. These limitations do not apply to (a) the investment of cash collateral, received by the Fund in connection with lending the Fund's portfolio securities, in the securities of open-end investment companies or (b) the purchase of shares of any investment company in connection with a merger, consolidation, reorganization or purchase of substantially all of the assets of another investment company. Subject to the above percentage limitations, the Fund may, in connection with the John Hancock Group of Funds Deferred Compensation Plan for Independent Trustees/Directors, purchase securities of other investment companies within the John Hancock Group of Funds. (4) invest more than 15% of its net assets in illiquid securities. Except with respect to borrowing money, if a percentage restriction on investment or utilization of assets as set forth above is adhered to at the time an investment is made, a later change in percentage resulting from changes in the value of the Fund's assets will not be considered a violation of the restriction. THOSE RESPONSIBLE FOR MANAGEMENT The business of the Fund is managed by its Trustees, including certain Trustees who are not "interested persons" of the Fund or the Trust (as defined by the Investment Company Act of 1940) (the "Independent Trustees"), who elect officers who are responsible for the day-to-day operations of the Fund and who execute policies formulated by the Trustees. Several of the officers and Trustees of the Fund are also officers or Directors of the Adviser, or officers and Directors of the Fund's principal distributor, John Hancock Funds, LLC (prior to February 1, 2002, John Hancock Funds, Inc.) ("John Hancock Funds"). 18 ---------------------------- ------------- ----------- ----------------------------------------------- -------------- Number of John Hancock Position(s) Trustee/ Funds Name, Address (1) Held with Officer Principal Occupation(s) and other Overseen by And Age Fund since(2) Directorships During Past 5 Years Trustee ---------------------------- ------------- ----------- ----------------------------------------------- -------------- Independent Trustees ---------------------------- ------------- ----------- ----------------------------------------------- -------------- Charles L. Ladner Chairman 2004 Chairman and Trustee, Dunwoody Village, Inc. 49 Born: 1938 and Trustee (retirement services) (until 2003); Senior Vice President and Chief Financial Officer, UGI Corporation (public utility holding company) (retired 1998); Vice President and Director for AmeriGas, Inc. (retired 1998); Director of AmeriGas Partners, L.P. (until 1997)(gas distribution); Director, EnergyNorth, Inc. (until 1995); Director, Parks and History Association (since 2001). ---------------------------- ------------- ----------- ----------------------------------------------- -------------- James F. Carlin Trustee 2005 Chairman and CEO, Alpha Analytical 49 Born: 1940 Laboratories (chemical analysis); Part Owner and Treasurer, Lawrence Carlin Insurance Agency, Inc. (since 1995); Part Owner and Vice President, Mone Lawrence Carlin Insurance Agency, Inc. (since 1996); Director/Treasurer, Rizzo Associates (until 2000); Chairman and CEO, Carlin Consolidated, Inc. (management/investments); Director/Partner, Proctor Carlin & Co., Inc. (until 1999); Trustee, Massachusetts Health and Education Tax Exempt Trust; Director of the following: Uno Restaurant Corp. (until 2001), Arbella Mutual (insurance) (until 2000), HealthPlan Services, Inc. (until 1999), Flagship Healthcare, Inc. (until 1999), Carlin Insurance Agency, Inc. (until 1999); Chairman, Massachusetts Board of Higher Education (until 1999). ---------------------------- ------------- ----------- ----------------------------------------------- -------------- Richard P. Chapman, Jr. Trustee 1987 President and Chief Executive Officer, 49 Born: 1935 Brookline Bancorp., Inc. (lending) (since 1972); Director, Lumber Insurance Co. (insurance) (until 2000);Chairman and Director, Northeast Retirement Services, Inc. (retirement administration) (since 1998). ---------------------------- ------------- ----------- ----------------------------------------------- --------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser, underwriter, and or certain other affiliates. 19 ---------------------------- ------------- ----------- ------------------------------------------------ --------------- Number of John Hancock Position(s) Trustee/ Funds Name, Address (1) Held with Officer Principal Occupation(s) and other Overseen by And Age Fund since(2) Directorships During Past 5 Years Trustee ---------------------------- ------------- ----------- ------------------------------------------------ --------------- William J. Cosgrove Trustee 1991 Vice President, Senior Banker and Senior 20 Born: 1933 Credit Officer, Citibank, N.A. (banking) (retired 1991); Executive Vice President, Citadel Group Representatives, Inc.; (financial reinsurance); Trustee, Hudson City Bancorp (banking) (since 1999); Trustee, Scholarship Fund for Inner City Children (since 1986). ---------------------------- ------------- ----------- ------------------------------------------------ --------------- 49 William H. Cunningham Trustee 2005 Former Chancellor, University of Texas System Born: 1944 and former President of the University of Texas, Austin, Texas; Chairman and CEO, IBT Technologies (until 2001); Director of the following: The University of Texas Investment Management Company (until 2000), Hire.com (until 2004), STC Broadcasting, Inc. and Sunrise Television Corp. (until 2001), Symtx, Inc. (electronic manufacturing) (since 2001), Adorno/Rogers Technology, Inc. (until 2004), Pinnacle Foods Corporation (until 2003), rateGenius (since 2001), Jefferson-Pilot Corporation (diversified life insurance company), New Century Equity Holdings (formerly Billing Concepts) (until 2001), eCertain (until 2001), ClassMap.com (until 2001), Agile Ventures (until 2001), LBJ Foundation (until 2000), Golfsmith International, Inc. (until 2000), Metamor Worldwide (until 2000), AskRed.com (until 2001), Southwest Airlines (since 2000) and Introgen (since 2000); Advisory Director, Q Investments (until 2003); Advisory Director, Chase Bank (formerly Texas Commerce Bank - Austin) (since 1988), LIN Television (since 2002) and WilTel Communications(until 2003) and Hayes Lemmerz International, Inc. (diversified automobile parts supply company) (since 2003). ---------------------------- ------------- ----------- ------------------------------------------------ ---------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser underwriter, and or certain other affiliates. 20 -------------------------------- -------------- ------------ -------------------------------------------- ------------- Number of John Hancock Position(s) Trustee/ Funds Name, Address (1) Held with Officer Principal Occupation(s) and other Overseen by And Age Fund since(2) Directorships During Past 5 Years Trustee -------------------------------- -------------- ------------ -------------------------------------------- ------------- Ronald R. Dion Trustee 2005 Chairman and Chief Executive Officer, R.M. 49 Born: 1946 Bradley & Co., Inc.; Director, The New England Council and Massachusetts Roundtable; Director, Boston Stock Exchange; Trustee, North Shore Medical Center; Director, BJ's Wholesale Club, Inc. and a corporator of the Eastern Bank; Trustee, Emmanuel College. -------------------------------- -------------- ------------ -------------------------------------------- ------------- John A. Moore Trustee 1996 President and Chief Executive Officer, 49 Born: 1939 Institute for Evaluating Health Risks, (nonprofit institution) (until 2001); Senior Scientist, Sciences International (health research)(since 1998); Principal, Hollyhouse (consulting)(since 2000); Director, CIIT(nonprofit research) (since 2002). -------------------------------- -------------- ------------ -------------------------------------------- ------------- Patti McGill Peterson Trustee 1996 Executive Director, Council for 49 Born: 1943 International Exchange of Scholars and Vice President, Institute of International Education (since 1998); Senior Fellow, Cornell Institute of Public Affairs, Cornell University (until 1998); Former President of Wells College and St. Lawrence University; Director, Niagara Mohawk Power Corporation (until 2003); Director, Ford Foundation, International Fellowships Program (since 2002); Director, Lois Roth Endowment (since 2002); Director, Council for International Educational Exchange (since 2003). -------------------------------- -------------- ------------ -------------------------------------------- -------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser underwriter, and or certain other affiliates. 21 -------------------------------- -------------- ------------ -------------------------------------------- ------------- Number of John Position(s) Trustee/ Hancock Name, Address (1) Held with Officer Principal Occupation(s) and other Funds And Age Fund since(2) Directorships During Past 5 Years Overseen by Trustee -------------------------------- -------------- ------------ -------------------------------------------- ------------- Steven Pruchansky Trustee 2005 Chairman and Chief Executive Officer, Mast 49 Born: 1944 Holdings, Inc. (since 2000); Director and President, Mast Holdings, Inc. (until 2000);Managing Director, JonJames, LLC (real estate)(since 2001); Director, First Signature Bank & Trust Company (until 1991); Director, Mast Realty Trust (until 1994); President, Maxwell Building Corp. (until 1991). -------------------------------- -------------- ------------ -------------------------------------------- ------------- Non-Independent Trustee -------------------------------- -------------- ------------ -------------------------------------------- ------------- James A. Shepherdson (3) Trustee, 2004 Executive Vice President, Manulife 49 Born: 1952 President Financial Corporation (since 2004); and Chief Chairman, Director, President and Chief Executive Executive Officer, John Hancock Advisers, Officer LLC (the "Adviser") and The Berkeley Group, LLC ("The Berkeley Group"); Chairman, Director, President and Chief Executive Officer, John Hancock Funds, LLC. ("John Hancock Funds"); Chairman, Director, President and Chief Executive Officer, Sovereign Asset Management Corporation ("SAMCorp."); Director Chairman and President, NM Capital Management, Inc. ("NM Capital"); President, John Hancock Retirement Services, John Hancock Life Insurance Company (until 2004); Chairman, Essex Corporation (until 2004); Co-Chief Executive Officer MetLife Investors Group (until 2003); Senior Vice President, AXA/Equitable Insurance Company (until 2000). -------------------------------- -------------- ------------ -------------------------------------------- -------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser underwriter, and or certain other affiliates. 22 ---------------------------- ------------- -------------- -------------------------------------------- -------------- Number of John Hancock Position(s) Trustee/ Funds Name, Address (1) Held with Officer Principal Occupation(s) and other Overseen by And Age Fund since(2) Directorships During Past 5 Years Trustee ---------------------------- ------------- -------------- -------------------------------------------- -------------- Principal Officers who are not Trustees --------------------------- -------------- -------------- -------------------------------------------- -------------- William H. King Vice 1988 Vice President and Assistant Treasurer, N/A Born: 1952 President the Adviser; Vice President and Treasurer and Treasurer of each of the John Hancock funds; Assistant Treasurer of each of the John Hancock funds (until 2001). --------------------------- -------------- -------------- -------------------------------------------- -------------- Susan S. Newton Senior Vice 1987 Senior Vice President, Secretary and Chief N/A Born: 1950 President, Legal Officer, SAMCorp., the Adviser and Secretary each of the John Hancock funds, John and Chief Hancock Funds and The Berkeley Group; Vice Legal Officer President, Signature Services (until 2000), Director, Senior Vice President and Secretary, NM Capital. --------------------------- -------------- -------------- -------------------------------------------- --------------
(1) Business address for independent and non-independent Trustees and officers is 101 Huntington Avenue, Boston, Massachusetts 02199. (2) Each Trustee serves until resignation, retirement age or until her or his successor is elected. (3) Non-Independent Trustee: holds positions with the Fund's investment adviser underwriter, and or certain other affiliates. The Fund's Board of Trustees currently has four standing Committees: the Audit Committee, the Administration Committee, the Contracts/Operations Committee and the Investment Performance Committee. Each Committee is comprised of Independent Trustees who are not "interested persons." The Audit Committee members are Messrs. Chapman, Ladner, Pruchansky and Ms. McGill Peterson. All of the members of the Audit Committee are independent under the New York Stock Exchange's Revised Listing Rules and each member is financially literate with at least one having accounting or financial management expertise. The Board has adopted a written charter for the Audit Committee. The Audit Committee recommends to the full board auditors for the Fund, monitors and oversees the audits of the Fund, communicates with both independent auditors and internal auditors on a regular basis and provides a forum for the auditors to report and discuss any matters they deem appropriate at any time. The Audit Committee held four meetings during the fiscal year ended August 31, 2004. 23 The Administration Committee members are all of the independent Trustees. The Administration Committee reviews the activities of the other four standing committees and makes the final selection and nomination of candidates to serve as Independent Trustees. All members of the Administration Committee are independent and are not interested persons, as defined in the 1940 Act, of John Hancock or the Fund (the "Independent Trustees"). Among other things, the Administration Committee acts as a nominating committee of the Board. The Trustees who are not Independent Trustees and the officers of the Fund are nominated and selected by the Board. The Administration Committee does not have at this time formal criteria for the qualifications of candidates to serve as an Independent Trustee, although the Administration Committee may develop them in the future. In reviewing a potential nominee and in evaluating the renomination of current Independent Trustees, the Administration Committee expects to apply the following criteria: (i) the nominee's reputation for integrity, honesty and adherence to high ethical standards, (ii) the nominee's business acumen, experience and ability to exercise sound judgments, (iii) a commitment to understand the Fund and the responsibilities of a trustee of an investment company, (iv) a commitment to regularly attend and participate in meetings of the Board and its committees, (v) the ability to understand potential conflicts of interest involving management of the Fund and to act in the interests of all shareholders, and (vi) the absence of a real or apparent conflict of interest that would impair the nominee's ability to represent the interests of all the shareholders and to fulfill the responsibilities of an Independent Trustee. The Administration Committee does not necessarily place the same emphasis on each criteria and each nominee may not have each of these qualities. The Administration Committee does not discriminate on the basis of race, religion, national origin, sex, sexual orientation, disability or any other basis proscribed by law. The Administration Committee held four meetings during the fiscal year ended August 31, 2004. As long as an existing Independent Trustee continues, in the opinion of the Administration Committee, to satisfy these criteria, the Fund anticipates that the Committee would favor the renomination of an existing Trustee rather than a new candidate. Consequently, while the Administration Committee will consider nominees recommended by shareholders to serve as trustees, the Administration Committee may only act upon such recommendations if there is a vacancy on the Board or the Administration Committee determines that the selection of a new or additional Independent Trustee is in the best interests of the Fund. In the event that a vacancy arises or a change in Board membership is determined to be advisable, the Administration Committee will, in addition to any shareholder recommendations, consider candidates identified by other means, including candidates proposed by members of the Administration Committee. While it has not done so in the past, the Administration Committee. While it has not done so in the past, the Administration Committee may retain a consultant to assist the Committee in a search for a qualified candidate. Any shareholder recommendation must be submitted in compliance with all of the pertinent provisions of Rule 14a-8 under the Securities Exchange Act of 1934, as amended, to be considered by the Administration Committee. In evaluating a nominee recommended by a shareholder, the Administration Committee, in addition to the criteria discussed above, may consider the objectives of the shareholder in submitting that nomination and whether such objectives are consistent with the interests of all shareholders. If the Board determines to include a shareholder's candidate among the slate of nominees, the candidate's name will be placed on the Fund's proxy card. If the Administration Committee or the Board determines not to include such candidate among the Board's designated nominees and the shareholder has satisfied the requirements of Rule 14a-8, the shareholder's candidate will be treated as a nominee of the shareholder who originally nominated the candidate. In that case, the candidate will not be named on the proxy card distributed with the Fund's proxy statement. Shareholders may communicate with the members of the Board as a group or individually. Any such communication should be sent to the Board or an individual Trustee c/o the Secretary of the 24 Fund at the following address: 101 Huntington Avenue, Boston, MA 02199-7603. The Secretary may determine not to forward any letter to the members of the Board that does not relate to the business of the Fund. The Contracts/Operations Committee members are Messrs. Carlin, Cosgrove, Cunningham, Dion and Moore. The Contracts/Operations Committee oversees the initiation, operation, and renewal of contracts between the Fund and other entities. These contracts include advisory and subadvisory agreements, custodial and transfer agency agreements and arrangements with other service providers. The Contracts/Operations Committee held five meetings during the fiscal year ended August 31, 2004. The Investment Performance Committee members are all of the Independent Trustees. The Investment Performance Committee monitors and analyzes the performance of the Fund generally, consults with the adviser as necessary if the Fund requires special attention, and reviews peer groups and other comparative standards as necessary. The Investment Performance Committee held four meetings during the fiscal year ended August 31, 2004. The following table provides a dollar range indicating each Trustee's ownership of equity securities of the Fund, as well as aggregate holdings of shares of equity securities of all John Hancock Funds overseen by the Trustee, as of December 31, 2003. 25 --------------------------------------- -------------------------- ------------------------------------------------- Dollar Range of Fund Aggregate Dollar Range of holdings in John Name of Trustee shares Owned by Trustee Hancock funds overseen by Trustee (1) (1) --------------------------------------- -------------------------- ------------------------------------------------- Independent Trustees --------------------------------------- -------------------------- ------------------------------------------------- James F. Carlin None Over $100,000 --------------------------------------- -------------------------- ------------------------------------------------- Richard P. Chapman, Jr.* None Over $100,000 --------------------------------------- -------------------------- ------------------------------------------------- William J. Cosgrove None Over $100,000 --------------------------------------- -------------------------- ------------------------------------------------- William H. Cunningham None $10,001-$50,000 --------------------------------------- -------------------------- ------------------------------------------------- Ronald R. Dion None Over $100,000 --------------------------------------- -------------------------- ------------------------------------------------- Charles L. Ladner** None Over $100,000 --------------------------------------- -------------------------- ------------------------------------------------- Dr. John A. Moore None Over $100,000 --------------------------------------- -------------------------- ------------------------------------------------- Patti McGill Peterson* $1-$10,000 Over $100,000 --------------------------------------- -------------------------- ------------------------------------------------- Steven Pruchansky None Over $100,000 --------------------------------------- -------------------------- ------------------------------------------------- Non-Independent Trustee --------------------------------------- -------------------------- ------------------------------------------------- James A. Shepherdson* None None --------------------------------------- -------------------------- -------------------------------------------------
(1) This Fund does not participate in the John Hancock Deferred Compensation Plan for Independent Trustees (the "Plan"). Under the Plan, an Independent Trustee may defer his fees by electing to have the Adviser invest his fees in one of the funds in the John Hancock complex that participates in the Plan. Under these circumstances, a Trustee is not the legal owner of the underlying shares, but does participate in any positive or negative return on those shares to the same extent as other shareholders. With regard to Trustees participating in the Plan, if a Trustee was deemed to own the shares used in computing the value of his deferred compensation, as of December 31, 2003, the respective "Dollar Range of Fund Shares Owned by Trustee" and the "Aggregate Dollar Range of holdings in John Hancock funds overseen by Trustee" would be none and over $100,000 for Mr. Chapman, none and over $100,000 for Mr. Cosgrove, none and over $100,000 for Mr. Glavin, none and over $100,000 for Mr. Moore. The following tables provide information regarding the compensation paid by the Fund and the other investment companies in the John Hancock Fund Complex to the Independent Trustees for their services. Any Non-Independent Trustee and each of the officers of the Fund are interested persons of the Adviser, and/or affiliates are compensated by the Adviser and received no compensation from the Fund for their services. *Mr. Shepherdson was appointed Trustee of the John Hancock Funds as of May 12, 2004. Mr. Chapman, Mr. Moore and Ms. McGill Peterson were elected to the board by shareholders on December 1, 2004 effective January 1, 2005. **As of June 16, 2004, the Independent Trustees elected Charles L. Ladner as a Trustee of the Fund and Independent Chairman of the Board. 26 Total Compensation From the Aggregate Compensation Fund and John Hancock Fund from the Fund (1) Complex to Trustees (2) Independent Trustees Dennis J. Aronowitz+ $ 520 $ 72,250 James f. Carlin++ 0 76,250 Richard P. Chapman* 543 79,000 William J. Cosgrove 612 79,500 William H. Cunningham++ 0 74,250 Richard A. Farrell+ 534 79,250 William F. Glavin+* 521 74,250 Charles L. Ladner+++ 0 78,000 Dr. John A. Moore* 354 74,000 Patti McGill Peterson 350 72,000 John Pratt+ 523 76,500 ---- ------ Total $3,957 $835,250
(1) Compensation is for the fiscal year ended August 31, 2004. (2) Total compensation paid by the John Hancock Funds Complex to the Independent Trustees is as of December 31, 2003. As of this date, there were fifty-one funds in the John Hancock Fund Complex, with Mr. Moore and Ms. McGill Peterson serving on thirty-nine funds and each of the other Independent Trustees serving on twenty funds. *As of December 31, 2003, the value of the aggregate accrued deferred compensation amount from all funds in the John Hancock Funds Complex for Mr. Chapman was $63,573, Mr. Cosgrove was $210,257, Mr. Glavin was $306,646 and for Dr. Moore was $248,464 under the John Hancock Group of Funds Deferred Compensation Plan for Independent Trustees (the "Plan"). +Messrs. Aronowitz, Farrell, Glavin and Pratt retired as of 12/31/04. ++ Mr. Carlin and Mr. Cunningham each became a Trustee and were elected to the board by shareholders on December 1, 2004 effective January 1, 2005. +++ As of June 16, 2004, the Independent Trustees elected Charles L. Ladner as a Trustee of the Fund and Independent Chairman of the Board All of the officers listed are officers or employees of the Adviser or Affiliated Companies. Some of the Trustees and officers may also be officers or Trustees of one or more of the other funds for which the Adviser serves as investment adviser. As of September 22, 2004, the officers and Trustees of the Fund as a group beneficially owned less than 1% of the outstanding shares of the Fund. As of that date, the following shareholders of record beneficially owned 5% or more of the outstanding shares of each class of the Fund: 27 --------------------------------------------------------- --------------- ------------- --------------- Name and Address of Owners of More than 5% of Shares Class A Class B Class C --------------------------------------------------------- --------------- ------------- --------------- MLPF&S For The -- 16.64% -- Sole Benefit of Its Customers Attn: Fund Administration 97M78 4800 Deerlake Drive East 2nd Floor Jacksonville FL 32246-6484 --------------------------------------------------------- --------------- ------------- --------------- Citigroup Global Markets, Inc. -- 6.56% 7.11% 00109801250 Attn: Cindy Tempesta 7th Floor 333 West 34th Street New York NY 1001-2402 --------------------------------------------------------- --------------- ------------- --------------- Legg Mason Wood Walker, Inc. -- -- 23.80% For Exclusive Benefit Of Customers Attn: Subaccounting PO Box 1476 Baltimore MD 21203-1476 --------------------------------------------------------- --------------- ------------- --------------- UBS Financial Services, Inc. -- -- 9.89% Janet Schwartz Feldman 5 Cherry Lane Kings Point, NY 11024-1121 --------------------------------------------------------- --------------- ------------- --------------- US Clearing Corp -- -- 6.13% FBO 120-12596-19 26 Broadway New York NY 10004-1703 --------------------------------------------------------- --------------- ------------- ---------------
Investment Advisory And Other Services The Adviser, located at 101 Huntington Avenue, Boston, Massachusetts 02199-7603, a premier investment management company, managed $ billion in open-end funds, closed-end funds, private accounts and retirement plans for individual and institutional investors as of September 30, 2004. Additional information about John Hancock Advisers can be found on the website: www.jhfunds.com. The Fund has entered into an investment management contract (the "Advisory Agreement") with the Adviser which was approved by the Fund's shareholders. Pursuant to the Advisory Agreement, the Adviser will: (a) furnish continuously an investment program for the Fund and determine, subject to the overall supervision and review of the Trustees, which investments should be purchased, held, sold or exchanged, and (b) provide supervision over all aspects of the Fund's operations except those which are delegated to a custodian, transfer agent or other agent. The Fund bears all costs of its organization and operation, including but not limited to expenses of preparing, printing and mailing all shareholders' reports, notices, prospectuses, proxy statements and reports to regulatory agencies; expenses relating to the issuance, registration and qualification of shares; government fees; interest charges; expenses of furnishing to shareholders their account statements; taxes; expenses of redeeming shares; brokerage and other expenses 28 connected with the execution of portfolio securities transactions; expenses pursuant to the Fund's plan of distribution; fees and expenses of custodians including those for keeping books and accounts, maintaining a committed line of credit, and calculating the net asset value of shares; fees and expenses of transfer agents and dividend disbursing agents; legal, accounting, financial, management, tax and auditing fees and expenses of the Fund (including an allocable portion of the cost of the Adviser's employees rendering such services to the subject Fund); the compensation and expenses of Trustees who are not otherwise affiliated with the Trust, the Adviser or any of their affiliates; expenses of Trustees' and shareholders' meetings; trade association memberships; insurance premiums; and any extraordinary expenses. As compensation for its services under the Advisory Agreement, the Fund pays the Adviser monthly a fee based on a stated percentage of the average daily net assets of the Fund as follows: Average Daily Net Assets Annual Rate ------------------------ ----------- First $250 million 0.500% Next $250 million 0.450% Next $500 million 0.425% Next $250 million 0.400% Amounts over $1,250,000,000 0.300% From time to time, the Adviser may reduce its fee or make other arrangements to limit the Fund's expenses to a specified percentage of its average daily net assets. The Adviser retains the right to reimpose a fee and recover any other payments to the extent that, at the end of any fiscal year, the Fund's annual expenses fall below this limit. For the fiscal years ended August 31, 2002, 2003 and 2004, the advisory fees payable to the Adviser were $349,929, $378,459 and $ , respectively. However, a portion of such fees were not imposed pursuant to the voluntary fee reduction and expense limitation agreement then in effect, which was terminated effective December 31, 2000. For the fiscal years ended August 31, 2002, 2003 and 2004 the advisory fees paid to the Fund were $ , $ and $ , respectively. Securities held by the Fund may also be held by other funds or investment advisory clients for which the Adviser or its affiliates provide investment advice. Because of different investment objectives or other factors, a particular security may be bought for one or more funds or clients when one or more are selling the same security. If opportunities for purchase or sale of securities by the Adviser or for other funds or clients for which the Adviser renders investment advice arise for consideration at or about the same time, transactions in such securities will be made, insofar as feasible, for the respective funds or clients in a manner deemed equitable to all of them. To the extent that transactions on behalf of more than one client of the Adviser or its affiliates may increase the demand for securities being purchased or the supply of securities being sold, there may be an adverse effect on price. Pursuant to the Advisory Agreement, the Adviser is not liable for any error of judgment or mistake of law or for any loss suffered by the Fund in connection with the matters to which their respective Advisory Agreement relate, except a loss resulting from willful misfeasance, bad faith or gross negligence on the part of the Adviser in the performance of its duties or from reckless disregard of the obligations and duties under the Advisory Agreement. Under the Advisory Agreement, the Fund may use the name "John Hancock" or any name derived from or similar to it only for so long as the Advisory Agreement or any extension, renewal or amendment thereof remains in effect. If the Fund's Advisory Agreement is no longer in effect, the Fund (to the extent that it lawfully can) will cease to use such name or any other name indicating that it is advised by or otherwise connected with the Adviser. In addition, the 29 Adviser or the Life Company may grant the non-exclusive right to use the name "John Hancock" or any similar name to any other corporation or entity, including but not limited to any investment company of which the Life Company or any subsidiary or affiliate thereof or any successor to the business of any subsidiary or affiliate thereof shall be the investment adviser. The Fund's Board of Trustees is responsible for overseeing the performance of the Fund's investment adviser and determining whether to approve and renew the Fund's Advisory Agreement. The Board has a standing request that the Adviser provide the Board with certain information the Board has deemed important to evaluating the short- and long-term performance of the Adviser. This information includes periodic performance analysis and status reports from the Adviser and quarterly Portfolio and Investment Performance Reports. The Fund's portfolio managers meet with the Board from time to time to discuss the management and performance of the Fund and respond to the Board's questions concerning the performance of the Adviser. When the Board considers whether to renew an investment advisory contract, the Board takes into account numerous factors, including: (1) the nature, extent and quality of the services provided by the Adviser; (2) the investment performance of the Fund's assets managed by the adviser; (3) the fair market value of the services provided by the adviser; (4) a comparative analysis of expense ratios of, and advisory fees paid by, similar funds; (5) the extent to which the adviser has realized or will realize economies of scale as the Fund grows; (6) other sources of revenue to the Adviser or its affiliates from its relationship with the Fund and intangible or "fall-out" benefits that accrue to the adviser and its affiliates, if relevant; and (7) the Adviser's control of the operating expenses of the fund, such as transaction costs, including ways in which portfolio transactions for the fund are conducted and brokers are selected. In evaluating the Advisory Agreement, the Independent Trustees reviewed materials furnished by Adviser, including information regarding the Adviser, its respective affiliates and their personnel, operations and financial condition. The Independent Trustees also reviewed, among other things: o The investment performance of the Fund. The Board determined that the performance results of the Fund and the Adviser's responsive actions were reasonable, as compared with relevant performance standards, including the performance results of comparable corporate debt funds derived from data provided by Lipper Inc. and appropriate market indexes. o The fee charged by the Adviser for investment advisory and administrative services. The Board decided that the advisory fee paid by the Fund was reasonable based on the average advisory fee for comparable funds. The Board also took into account the nature of the fee arrangements which include breakpoints that will adjust the fee downward as the size of the Fund's portfolio increases. o The Board evaluated the Adviser's investment staff and portfolio management process, and reviewed the composition and overall performance of the Fund's portfolio on both a short-term and long-term basis. The Independent Trustees determined that the terms of the Fund's Advisory Agreement are fair and reasonable and that the contract is in the Fund's best interest. The Independent Trustees believe that the advisory contract will enable the Fund to enjoy high quality investment advisory services at a cost they deem appropriate, reasonable and in the best interests of the Fund and its shareholders. In making such determinations, the Independent Trustees met independently from the Non-Independent Trustees of the Fund and any officers of the Adviser or its affiliates. The Independent Trustees also relied upon the assistance of counsel o the Independent Trustees and counsel to the Fund. The continuation of the Advisory Agreement and Distribution Agreement (discussed below) was approved by all of the Trustees. The Advisory Agreement and the Distribution Agreement will 30 continue in effect from year to year, provided that its continuance is approved annually both (i) by the holders of a majority of the outstanding voting securities of the Trust or by the Trustees, and (ii) by a majority of the Trustees who are not parties to the Agreement, or "interested persons" of any such parties. Both Agreements may be terminated on 60 days written notice by any party or by a vote of a majority of the outstanding voting securities of the Fund and will terminate automatically if assigned. Accounting and Legal Services Agreement --------------------------------------- The Trust, on behalf of the Fund, is a party to an Accounting and Legal Services Agreement with the Adviser. Pursuant to this Agreement, the Adviser provides the Fund with certain tax, accounting and legal services. For the fiscal years ended August 31, 2002, 2003 and 2004, the Fund paid the Adviser $14,794, $25,656 and $ , respectively, for services under this Agreement. Proxy Voting. ------------- The Fund's Trustees have delegated to the Adviser the authority to vote proxies on behalf of the Fund. The Trustees have approved the proxy voting guidelines of the Adviser and will review the guidelines and suggest changes as they deem advisable. A summary of the Adviser's proxy voting guidelines is attached to this statement of additional information as Appendix C. Information regarding how the Fund voted proxies relating to portfolio securities during the 12-month period ending June 30, 2004 is available by calling 1-800-225-5291 or on the Fund's website: www.jhfunds.com/proxy or on the SEC's website at www.sec.gov. Personnel of the Adviser and its affiliates may trade securities for their personal accounts. The Fund also may hold, or may be buying or selling, the same securities. To prevent the Fund from being disadvantaged, the adviser(s) principal underwriter and the Fund have adopted a code of ethics which restricts the trading activity of those personnel. Distribution ContractS The Fund has a Distribution Agreement with John Hancock Funds. Under the agreement John Hancock Funds is obligated to use its best efforts to sell shares of each class of the Fund. Shares of the Fund are also sold by selected broker-dealers, banks and registered investment advisors ("Selling Firms") that have entered into selling agreements with John Hancock Funds. These Selling Firms are authorized to designate other intermediaries to receive purchase and redemption orders on behalf of the Fund. John Hancock Funds accepts orders for the purchase of the shares of the Fund that are continually offered at net asset value next determined, plus any applicable sales charge, if any. In connection with the sale of Fund shares, John Hancock Funds and Selling Firms receive compensation from a sales charge imposed, in the case of Class A shares, at the time of sale. (Prior to July 15, 2004, Class C shares were also subject to a sales load imposed at the time of purchase.) In the case of Class B or Class C shares, the Selling Firm receives compensation immediately but John Hancock Funds is compensated on a deferred basis. Total underwriting commissions (sales charges) for sales of the Fund's Class A shares for the fiscal years ended August 31, 2002, 2003 and 2004 were $216,417, $72,621 and $ , respectively, and $26,342, $8,719 and $ , respectively, were retained by John Hancock Funds in 2002, 2003 and 2004, respectively. Total underwriting commissions (sales charges) for sales of the Fund's Class C shares for the fiscal years ended August 31, 2002, 2003 and 2004 were $25,785, $29,703 and $ , respectively. No Class C commissions were retained by John Hancock Funds, the remainder of the underwriting commissions were paid/reallowed to Selling Firms. The Fund's Trustees adopted Distribution Plans with respect to each class of shares (the "Plans") pursuant to Rule 12b-1 under the Investment Company Act of 1940. Under the Plans, the Fund will pay distribution and service fees at an aggregate annual rate of up to 0.30% for Class A shares and 1.00% for Class B and Class C shares, of the Fund's average daily net assets 31 attributable to shares of that class. However, the service fee will not exceed 0.25% of the Fund's average daily net assets attributable to each class of shares. The distribution fees will be used to reimburse John Hancock Funds for its distribution expenses, including but not limited to: (i) initial and ongoing sales compensation to Selling Firms and others (including affiliates of John Hancock Funds) engaged in the sale of Fund shares; (ii) marketing, promotional and overhead expenses incurred in connection with the distribution of Fund shares; and (iii) with respect to Class B and Class C shares only, interest expenses on unreimbursed distribution expenses. The service fees will be used to compensate Selling Firms and others for providing personal and account maintenance services to shareholders. In the event the John Hancock Funds is not fully reimbursed for payments or expenses under the Class A Plan, these expenses will not be carried beyond twelve months from the date they were incurred. Unreimbursed expenses under the Class B and Class C Plans will be carried forward together with interest on the balance of these unreimbursed expenses. The Fund does not treat unreimbursed expenses under the Class B and Class C Plans as a liability of the Fund, because the Trustees may terminate Class B and/or Class C Plans at any time with no additional liability for these expenses to the shareholders and the Fund. For the fiscal year ended August 31, 2004, an aggregate of $ of distribution expenses or % of the average net assets of the Fund's Class B shares was not reimbursed or recovered by John Hancock Funds through the receipt of deferred sales charges or Rule 12b-1 fees in prior periods. For the fiscal year ended August 31, 2004, an aggregate of $ distribution expenses or % of the average net assets of the Fund's Class C shares was not reimbursed or recovered by John Hancock Funds through the receipt of deferred sales charges or Rule 12b-1 fees. The Plans and all amendments were approved by the Trustees, including a majority of the Trustees who are not interested persons of the Fund and who have no direct or indirect financial interest in the operation of the Plans (the "Independent Trustees"), by votes cast in person at meetings called for the purpose of voting on such Plans. Pursuant to the Plans, at least quarterly, John Hancock Funds provide the Fund with a written report of the amounts expended under the Plans and the purpose for which these expenditures were made. The Trustees review these reports on a quarterly basis to determine their continued appropriateness. The Plans provide that they will continue in effect only so long as their continuance is approved at least annually by a majority of both the Trustees and Independent Trustees. The Plans provide that they may be terminated without penalty, (a) by vote of a majority of the Independent Trustees, (b) by a vote of a majority of the Fund's outstanding shares of the applicable class upon 60 days' written notice to John Hancock Funds, and (c) automatically in the event of assignment. The Plans further provide that they may not be amended to increase the maximum amount of the fees for the services described therein without the approval of a majority of the outstanding shares of the class of the Fund which has voting rights with respect to that Plan. Each Plan provides, that no material amendment to the Plans will be effective unless it is approved by a majority vote of the Trustees and the Independent Trustees of the Fund. The holders of Class A, Class B and Class C shares have exclusive voting rights with respect to the Plan applicable to their respective class of shares. In adopting the Plans, the Trustees concluded that, in their judgment, there is a reasonable likelihood that the Plans will benefit the holders of the applicable class of shares of the Fund. Amounts paid to John Hancock Funds by any class of shares of the Fund will not be used to pay the expenses incurred with respect to any other class of shares of the Fund; provided, however, that expenses attributable to the Fund as a whole will be allocated, to the extent permitted by law, according to a formula based upon gross sales dollars and/or average daily net assets of each such class, as may be approved from time to time by vote of a majority of Trustees. From time to time, the Fund may participate in joint distribution activities with other funds and the costs of 32 those activities will be borne by the Fund in proportion to the relative net asset value of the participating Fund. During the fiscal year ended August 31, 2004, the Fund paid John Hancock Funds the following amounts of expenses in connection with their services. Expense Items ------------- Interest, Printing and Mailing Expenses Carrying or of Prospectuses to Compensation to of John Hancock Other Finance Advertising New Shareholders Selling Firms Funds Charges ----------- ---------------- ------------- ----- ------- Class A $ $ $ $ $ Class B $ $ $ $ $ Class C $ $ $ $ $
SALES COMPENSATION As part of their business strategies, the Fund, along with John Hancock Funds, pays compensation to Selling Firms that sell the Fund's shares. These firms typically pass along a portion of this compensation to your broker or financial representative. The two primary sources of Selling Firm compensation payments are (1) the 12b-1 that are paid out of the Fund's assets and (2) sales charges paid by the investors. The sales charges and 12b-1 fees are detailed in the prospectus and under "Distribution Contracts" in this Statement of Additional Information. The portions of these expenses that are paid to Selling Firms are shown on the next page. Initial compensation Whenever you make an investment in Class A, Class B or Class C shares of the Fund, the Selling Firm receives a reallowance/payment/commission as described on the next page. The Selling Firm also receives the first year's 12b-1 service fee at this time. Annual compensation For Class A, Class B and Class C shares of the Fund, beginning in the second year after an investment is made, the Selling Firm receives an annual 12b-1 service fee of 0.25% of its average daily net (aged) assets. In addition, beginning in the second year after an investment is made in Class C shares, the Distributor will pay the Selling Firm a distribution fee in an amount not to exceed 0.75% of the average daily net (aged) assets. These service and distribution fees are paid quarterly in arrears. Selling Firms receive service and distribution fees if, for the preceding quarter, (1) their clients/shareholders have invested combined average daily net assets of no less than $1,000,000 in eligible (aged) assets; or (2) an individual registered representative of the Selling Firm has no less than $250,000 in eligible (aged) assets. The reason for these criteria is to save the Fund the expense of paying out de minimus amounts. As a result, if a Selling Firm does not meet one of the criteria noted above, the money for that firm's fees remains in the Fund. In addition, from time to time, John Hancock Funds, at its expense, and without additional cost to the Fund or its shareholders, may provide significant additional compensation to Selling Firms in connection with their promotion of the Fund or sale of shares of the Fund. Such compensation provided by John Hancock Funds may include, for example, financial assistance to Selling Firms in connection with their marketing and sales development programs for their registered representatives and other employees, as well as payment for travel expenses, including lodging, 33 incurred by registered representatives and other employees for such marketing and sales development programs, as well as assistance for seminars for the public, advertising and sales campaigns regarding one or more Funds, and other Selling Firm-sponsored events or activities. From time to time, John Hancock Funds may provide expense reimbursements for special training of a Selling Firm's registered representatives and other employees in group meetings or non-cash compensation in the form of occasional gifts, meals, tickets or other entertainment. Payments may also include amounts for sub-administration and other services for shareholders whose shares are held of record in omnibus or other group accounts. Other compensation, such as asset retention fees, finder's fees and reimbursement for wire transfer fees or other administrative fees and costs may be offered to the extent not prohibited by law or any self-regulatory agency such as the NASD. 34 First Year Broker or Other Selling Firm Compensation Investor pays Selling Firm Selling Firm sales charge receives receives 12b-1 Total Selling Firm Class A investments (% of offering price) commission (1) service fee (2) compensation (3)(4) ------------------- --------------------- -------------- --------------- ------------------- Up to $99,999 4.50% 3.76% 0.25% 4.00% $100,000 - $249,999 3.75% 3.01% 0.25% 3.25% $250,000 - $499,999 3.00% 2.26% 0.25% 2.50% $500,000 - $999,999 2.00% 1.51% 0.25% 1.75% Investments of Class A shares of $1 million or more (5) First $1M - $4,999,999 -- 0.75% 0.25% 1.00% Next $1 - $5M above that -- 0.25% 0.25% 0.50% Next $1 and more above that -- 0.00% 0.25% 0.25% Class B investments All amounts 3.75% 0.25% 4.00% Class C investments All amounts -- 0.75% 0.25% 1.00%
(1) For Class A investments under $1 million, a portion of the Selling Firm's commission is paid out of the sales charge. (2) For Class A, B and C shares, the Selling Firm receives 12b-1 fees in the first year as a % of the amount invested and after the first year as a % of average daily net eligible assets (paid quarterly in arrears). (3) Selling Firm commission and 12b-1 service fee percentages are calculated from different amounts, and therefore may not equal the total Selling Firm compensation percentages if combined using simple addition. (4) Underwriter retains the balance. (5) See "Initial Sales Charge on Class A Shares" for discussion on how to qualify for a reduced sales charge. John Hancock Funds may take recent redemptions into account in determining if an investment qualifies as a new investment. CDSC revenues collected by John Hancock Funds may be used to pay Selling Firm commissions when there is no initial sales charge. Net Asset Value For purposes of calculating the net asset value ("NAV") of the Fund's shares, the following procedures are utilized wherever applicable. 35 Debt investment securities are valued on the basis of valuations furnished by a principal market maker or a pricing service, both of which generally utilize electronic data processing techniques to determine valuations for normal institutional size trading units of debt securities without exclusive reliance upon quoted prices. In addition, because of the amount of time required to collect and process trading information as to large numbers of securities issues, the values of certain securities (such as convertible bonds, U.S. government securities and tax-exempt securities) are determined based on market quotations collected prior to the close of the Exchange. Occasionally, events affecting the value of such securities may occur between the time of the determination of value and the close of the Exchange which will not be reflected in the computation of the Fund's net asset value. If events materially affecting the value of such securities occur during such period, then these securities will be valued at their fair value following procedures approved by the Trustees. Equity securities traded on a principal exchange are generally valued at last sale price on the day of valuation or in the case of securities traded on NASDAQ, the NASDAQ official closing price. Securities in the aforementioned category for which no sales are reported and other securities traded over-the-counter are generally valued at the last available bid price. Equity options held by a Fund are priced as of the close of trading (generally 4 p.m. Eastern Time), futures contracts on U.S. government and other fixed-income securities (generally 3 p.m. Eastern Time) and index options held by a Fund are priced as of their close of trading (generally 4:15 p.m. Eastern Time) Short-term debt investments which have a remaining maturity of 60 days or less are generally valued at amortized cost which approximates market value. If market quotations are not readily available or if in the opinion of the Adviser any quotation or price is not representative of true market value, the fair value of the security may be determined in good faith in accordance with procedures approved by the Trustees. If any securities held by the Fund are restricted as to resale, the fair value of such securities is generally determined as the amount which the Fund could reasonably expect to realized from an orderly disposition of such securities over a reasonable period of time. The valuation procedures applied in any specific instance are likely to vary from case to case. However, consideration is generally given to the financial position of the issuer and other fundamental analytical data relating to the investment and to the nature of the restrictions on disposition of the securities (including any registration expenses that might be borne by the Fund in connection with such disposition). In addition, specific factors are also generally considered, such as the cost of the investment, the market value of any unrestricted securities of the same class, the size of the holding, the prices of any recent transactions or offers with respect to such securities and any available analysts' reports regarding the issuer. Foreign securities are valued on the basis of quotations from the primary market in which they are traded. Any assets or liabilities expressed in terms of foreign currencies are translated into U.S. dollars by the custodian bank based on London currency exchange quotations as of 4:00 p.m., London time on the date of any determination of the Fund's NAV. Generally, trading in foreign securities is substantially completed each day at 36 various times prior to the closed of the Exchange. Currency exchange rates are normally determined at the close of trading in London, England (11:00 a.m., New York Time). The closing prices for securities in markets or on exchanges outside the U.S. that close prior to the close of the Exchange may not fully reflect events that occur after such close but before the close of the Exchange. As a result, the Fund has adopted fair value pricing procedures, which, among other things, require the Fund to fair value such securities if these has been a movement in the U.S. market that exceeds a specified threshold. Although the threshold may be revised from time to time and the number of days on which fair value prices will be used will depend on market activity, it is possible that fair value prices will be used by the Fund to a significant extent. In addition, securities held by some of the Funds may be traded in foreign markets that are open for business on days that the Fund is not, and the trading of such securities on those days may have an impact on the value of a shareholder's investment at a time when the shareholder cannot buy and sell shares of the Fund. The NAV for each class of the Fund is determined each business day at the close of regular trading on the New York Stock Exchange (typically 4:00 p.m. Eastern Time) by dividing a class's net assets by the number of its shares outstanding. On any day an international market is closed and the New York Stock Exchange is open, any foreign securities will be valued at the prior day's close with the current day's exchange rate. Trading of foreign securities may take place on Saturdays and U.S. business holidays on which the Fund's NAV is not calculated. Consequently, the Fund's portfolio securities may trade and the NAV of the Fund's redeemable securities may be significantly affected on days when a shareholder has no access to the Fund. Initial Sales Charge on Class A Shares Shares of the Fund are offered at a price equal to their net asset value plus a sales charge which, at the option of the purchaser, may be imposed either at the time of purchase ("initial sales charge") or on a contingent deferred basis ("contingent deferred sales charge" or "CDSC"). The fund no longer issues share certificates. Shares are electronically recorded. The Trustees reserve the right to change or waive the Fund's minimum investment requirements and to reject any order to purchase shares (including purchase by exchange) when in the judgment of the Adviser such rejection is in the Fund's best interest. The sales charges applicable to purchases of Class A shares of the Fund are described in the Prospectus. Methods of obtaining reduced sales charges referred to generally in the Prospectus are described in detail below. In calculating the sales charge applicable to current purchases of Class A shares of the Fund, the investor is entitled to accumulate current purchases with the current offering price of the Class A, Class B, Class C, Class I or Class R shares of the John Hancock mutual funds owned by the investor (see "Accumulation Privilege" below). In order to receive the reduced sales charge, the investor must notify his/her financial adviser and/or the financial adviser must notify John Hancock Signature Services, Inc. ("Signature Services") at the time of purchase of the Class A shares, about any other John Hancock mutual funds owned by the investor, the investor's spouse and their children under the age of 21 (see "Combination Privilege" below). This includes investments held in a retirement account, an employee benefit plan or at a broker or financial adviser other than the one handling your current purchase. John Hancock will credit the combined value, at the current offering price, of all eligible accounts to determine whether you qualify for a reduced sales charge on your current purchase. Without Sales Charges. ---------------------- Class A shares may be offered without a front-end sales charge or contingent deferred sales charge ("CDSC") to various individuals and institutions as follows: o A Trustee or officer of the Trust; a Director or officer of the Adviser and its affiliates, sub-adviser or Selling Firms; employees or sales representatives of any of the foregoing; retired officers, employees or Directors of any of the foregoing; a member of the Immediate Family (spouse, child, grandchild, parent, sibling, mother-in-law, father-in- 37 law, daughter-in-law, son-in-law, niece, nephew, grandparent and same sex domestic partner; "Immediate Family") of any of the foregoing; or any fund, pension, profit sharing or other benefit plan for the individuals described above. o A broker, dealer, financial planner, consultant or registered investment advisor that has entered into a signed agreement with John Hancock Funds providing specifically for the use of Fund shares in fee-based investment products or services made available to their clients. o A former participant in an employee benefit plan with John Hancock funds, when he or she withdraws from his or her plan and transfers any or all of his or her plan distributions directly to the Fund. o A member of a class action lawsuit against insurance companies who is investing settlement proceeds. o Certain retirement plans participating in Merrill Lynch servicing programs offered in Class A shares, including transferee recording arrangements, Merrill Lynch Connect Arrangements and third party administrator recordkeeping arrangements. See your Merrill Lynch Financial Consultant for further information. o Retirement plans investing through the PruArray Program sponsored by a Prudential Financial company. o Pension plans transferring assets from a John Hancock variable annuity contract to the Fund pursuant to an exemptive application approved by the Securities and Exchange Commission. o Participant directed retirement plans with at least 100 eligible employees at the inception of the Fund account. Each of these employees may purchase Class A shares with no initial sales charge, if the plan sponsor notifies Signature Services of the number of employees at the time the account is established. However, if the shares are redeemed within 12 months of the inception of the plan, a CDSC will be imposed at the following rate: Amount Invested CDSC Rate --------------- --------- $1 to $4,999,999 1.00% Next $1-$5 million above that 0.50% Next $1 or more above that 0.25% As of July 15, 2004, no Class C investors pay a front-end sales charge. Class A shares may also be purchased without an initial sales charge in connection with certain liquidation, merger or acquisition transaction involving other investment companies or personal holding companies. With Reduced Sales Charges -------------------------- Combination Privilege. ---------------------- For all shareholders in calculating the sales charge applicable to purchases of Class A shares made at one time, the purchases will be combined to reduce sales charges if made by (a) an individual, his or her spouse and their children under the age of 21, purchasing securities for his or their own account, (b) a trustee or other fiduciary purchasing for a single trust, estate or fiduciary account and (c) groups which qualify for the Group Investment 38 Program (see below). Qualified and non-qualified retirement plan investments can be combined to take advantage of this privilege. Further information about combined purchases, including certain restrictions on combined group purchases, is available from Signature Services or a Selling Firm's representative. Accumulation Privilege. ----------------------- Class A investors may also reduce their Class A sales charge by taking into account not only the amount being invested but also the current offering price of all the Class A, Class B, Class C, Class I and Class R shares of all John Hancock funds already held by such person. However, Class A shares of John Hancock money market funds will only be eligible for the accumulation privilege if the investor has previously paid a sales charge on the amount of those shares. To receive a reduced sales charge, the investor must tell his/her financial adviser or Signature Services at the time of the purchase about any other John Hancock mutual funds held by that investor or his/her Immediate Family. Group Investment Program. ------------------------- Under the Combination and Accumulation Privileges, all members of a group may combine their individual purchases of Class A shares to potentially qualify for breakpoints in the sales charge schedule. This feature is provided to any group which (1) has been in existence for more than six months, (2) has a legitimate purpose other than the purchase of mutual fund shares at a discount for its members, (3) utilizes salary deduction or similar group methods of payment, and (4) agrees to allow sales materials of the fund in its mailings to members at a reduced or no cost to John Hancock Funds. Letter of Intention. -------------------- Reduced Class A sales charges under the accumulation privilege are also applicable to investments made pursuant to a Letter of Intention (the "LOI"), which should be read carefully prior to its execution by an investor. The Fund offers two options regarding the specified period for making investments under the LOI. All investors have the option of making their investments over a specified period of thirteen (13) months. Investors who are using the Fund as a funding medium for a retirement plan, however, may opt to make the necessary investments called for by the LOI over a forty-eight (48) month period. These retirement plans include traditional, Roth IRAs and Coverdell ESAs, SEP, SARSEP, 401(k), 403(b) (including TSAs), SIMPLE IRA, SIMPLE 401(k), Money Purchase Pension, Profit Sharing and Section 457 plans. An individual's non-qualified and qualified retirement plan investments can be combined to satisfy an LOI (either 13 or 48 months). Since some retirement plans are held in an omnibus account, an investor wishing to count retirement plan holdings towards a Class A purchase must notify Signature Services of these holdings. Such an investment (including accumulations, combinations and reinvested dividends) must aggregate $100,000 or more during the specified period from the date of the LOI or from a date within ninety (90) days prior thereto, upon written request to Signature Services. The sales charge applicable to all amounts invested under the LOI is computed as if the aggregate amount intended to be invested had been invested immediately. If such aggregate amount is not actually invested, the difference in the sales charge actually paid and the sales charge payable had the LOI not been in effect is due from the investor. However, for the purchases actually made within the specified period (either 13 or 48 months) the sales charge applicable will not be higher than that which would have applied (including accumulations and combinations) had the LOI been for the amount actually invested. The LOI authorizes Signature Services to hold in escrow sufficient Class A shares (approximately 5% of the aggregate) to make up any difference in sales charges on the amount intended to be invested and the amount actually invested, until such investment is completed within the specified period, at which time the escrowed Class A shares will be released. If the total investment specified in the LOI is not completed, the Class A shares held in escrow may be redeemed and the proceeds used as required to pay such sales charge as may be due. By signing the LOI, the investor authorizes Signature Services to act as his attorney-in-fact to redeem any escrowed Class A shares and adjust the sales charge, if necessary. A LOI does not constitute a 39 binding commitment by an investor to purchase, or by the Fund to sell, any additional Class A shares and may be terminated at any time. DEFERRED SALES CHARGE ON CLASS B AND CLASS C SHARES Investments in Class B and Class C shares are purchased at net asset value per share without the imposition of an initial sales charge so that the Fund will receive the full amount of the purchase payment. Contingent Deferred Sales Charge. --------------------------------- Class B and Class C shares which are redeemed within six years or one year of purchase, respectively, will be subject to a contingent deferred sales charge ("CDSC") at the rates set forth in the Prospectus as a percentage of the dollar amount subject to the CDSC. The charge will be assessed on an amount equal to the lesser of the current market value or the original purchase cost of the Class B or Class C shares being redeemed. No CDSC will be imposed on increases in account value above the initial purchase prices or on shares derived from reinvestment of dividends or capital gains distributions. Class B shares are not available to retirement plans that had more than 100 eligible employees at the inception of the Fund account. You must notify Signature Services of the number of eligible employees at the time your account is established. The amount of the CDSC, if any, will vary depending on the number of years from the time of payment for the purchase of Class B shares until the time of redemption of such shares. Solely for purposes of determining the number of years from the time of any payment for the purchase of both Class B and Class C shares, all payments during a month will be aggregated and deemed to have been made on the first day of the month. In determining whether a CDSC applies to a redemption, the calculation will be determined in a manner that results in the lowest possible rate being charged. It will be assumed that your redemption comes first from shares you have held beyond the six-year CDSC redemption period for Class B or one year CDSC redemption period for Class C, or those you acquired through dividend and capital gain reinvestment, and next from the shares you have held the longest during the six-year period for Class B shares. For this purpose, the amount of any increase in a share's value above its initial purchase price is not subject to a CDSC. Thus, when a share that has appreciated in value is redeemed during the CDSC period, a CDSC is assessed only on its initial purchase price. When requesting a redemption for a specific dollar amount, please indicate if you require the proceeds to equal the dollar amount requested. If not indicated, only the specified dollar amount will be redeemed from your account and the proceeds will be less any applicable CDSC. Example: You have purchased 100 Class B shares at $10 per share. The second year after your purchase, your investment's net asset value per share has increased by $2 to $12, and you have gained 10 additional shares through dividend reinvestment. If you redeem 50 shares at this time your CDSC will be calculated as follows: oProceeds of 50 shares redeemed at $12 per shares (50 x 12) $600.00 o*Minus Appreciation ($12 - $10) x 100 shares (200.00) oMinus proceeds of 10 shares not subject to CDSC (dividend reinvestment) (120.00) ------- oAmount subject to CDSC $280.00 *The appreciation is based on all 100 shares in the account not just the shares being redeemed. 40 Proceeds from the CDSC are paid to John Hancock Funds and are used in whole or in part by John Hancock Funds to defray its expenses related to providing distribution-related services to the Fund in connection with the sale of the Class B and Class C shares, such as the payment of compensation to select Selling Firms for selling Class B and Class C shares. The combination of the CDSC and the distribution and service fees facilitates the ability of the Fund to sell the Class B and Class C shares without a sales charge being deducted at the time of the purchase. Waiver of Contingent Deferred Sales Charge. ------------------------------------------- The CDSC will be waived on redemptions of Class B and Class C shares and Class A shares of the Fund that are subject to a CDSC, unless indicated otherwise, in the circumstances defined below: For all account types: * Redemptions made pursuant to the Fund's right to liquidate your account if you own shares worth less than $1,000. * Redemptions made under certain liquidation, merger or acquisition transactions involving other investment companies or personal holding companies. * Redemptions due to death or disability. (Does not apply to Trust accounts unless Trust is dissolved.) * Redemptions made under the Reinstatement Privilege, as described in "Sales Charge Reductions and Waivers" of the Prospectus. * Redemptions of Class B and Class C shares made under a periodic withdrawal plan, or redemptions for fees charged by planners or advisors for advisory services, as long as your annual redemptions do not exceed 12% of your account value, including reinvested dividends, at the time you established your periodic withdrawal plan and 12% of the value of subsequent investments (less redemptions) in that account at the time you notify Signature Services. (Please note, this waiver does not apply to periodic withdrawal plan redemptions of Class A shares that are subject to a CDSC.) * Certain retirement plans participating in Merrill Lynch servicing programs offered in Class A, Class B and Class C shares, including transferee recording arrangements, Merrill Lynch Connect Arrangements and third party administrator recordkeeping arrangements. See your Merrill Lynch financial consultant for further information. * Redemptions of Class A shares by retirement plans that invested through the PruArray Program sponsored by Prudential Financial company. * Redemptions of Class A shares made after one year from the inception date of a retirement plan at John Hancock. For Retirement Accounts (such as traditional, Roth IRAs and Coverdell ESAs, SIMPLE IRAs, SIMPLE 401(k), Rollover IRA, TSA, 457, 403(b), 401(k), Money Purchase Pension Plan, Profit-Sharing Plan and other plans as described in the Internal Revenue Code) unless otherwise noted. * Redemptions made to effect mandatory or life expectancy distributions under the Internal Revenue Code. (Waiver based on required minimum distribution calculations for John Hancock Mutual Fund IRA assets only.) * Returns of excess contributions made to these plans. 41 * Redemptions made to effect certain distributions, as outlined in the chart on the following page, to participants or beneficiaries from employer sponsored retirement plans under sections 401(a) (such as Money Purchase Pension Plans and Profit-Sharing/401(k) Plans), 403(b), 457 and 408 (SEPs and SIMPLE IRAs) of the Internal Revenue Code. Please see matrix for some examples ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Type of 401 (a) Plan 403 (b) 457 IRA, IRA Non-retirement Distribution (401 (k), MPP, Rollover PSP 457 & 408 (SEPs & Simple IRAs)_ ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Death or Disability Waived Waived Waived Waived Waived ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Over 701/2 Waived Waived Waived Waived for 12% of account required value annually minimum in periodic distributions*or payments 12% of account value annually in periodic payments ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Between 591/2and 701/2 Waived Waived Waived Waived for Life 12% of account Expectancy or value annually 12% of account in periodic value annually payments in periodic payments ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Under 591/2 Waived for Waived for Waived for Waived for 12% of account (Class B and Class C annuity annuity annuity annuity value annually only) payments (72t) payments (72t) payments (72t) payments (72t) in periodic or 12% of or 12% of or 12% of or 12% of payments account value account value account value account value annually in annually in annually in annually in periodic periodic periodic periodic payments payments payments payments ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Loans Waived Waived N/A N/A N/A ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Termination of Plan Not Waived Not Waived Not Waived Not Waived N/A ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Hardships Waived Waived Waived N/A N/A ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Qualified Domestic Waived Waived Waived N/A N/A Relations Orders ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Termination of Waived Waived Waived N/A N/A Employment Before Normal Retirement Age ----------------------- ----------------- ----------------- ---------------- ----------------- ---------------- Return of Excess Waived Waived Waived Waived N/A ----------------------- ----------------- ----------------- ---------------- ----------------- ----------------
42 *Required minimum distribution based on John Hancock Mutual Fund IRA assets only. If you qualify for a CDSC waiver under one of these situations, you must notify Signature Services at the time you make your redemption. The waiver will be granted once Signature Services has confirmed that you are entitled to the waiver. Special Redemptions Although it would not normally do so, the Fund has the right to pay the redemption price of shares of the Fund in whole or in part in portfolio securities as prescribed by the Trustees. When the shareholder sells portfolio securities received in this fashion, the shareholder will incur a brokerage charge. Any such securities would be valued for the purpose of making such payment at the same value as used in determining the Fund's net asset value. The Fund has, however, elected to be governed by Rule 18f-1 under the Investment Company Act. Under that rule, the Fund must redeem its shares for cash except to the extent that the redemption payments to any shareholder during any 90-day period would exceed the lesser of $250,000 or 1% of the Fund's net asset value at the beginning of such period. Additional Services And Programs Exchange Privilege. ------------------- The Fund permits exchanges of shares of any class for shares of the same class in any other John Hancock fund offering that class. Exchanges between funds are based on their respective net asset values. No sales charge is imposed, except on exchanges of Class A shares from Money Market Fund or U.S. Government Cash Reserve Fund to another John Hancock fund, if a sales charge has not previously been paid on those shares. However, if the shares acquired in an exchange will be subject to the CDSC schedule of the shares acquired if and when such shares are redeemed. For purposes of computing the CDSC payable upon redemption of shares acquired in an exchange, the holding period of the original shares is added to the holding period of the shares acquired in an exchange. If a retirement plan exchanges the plan's Class A account in its entirety from the Fund to a non-John Hancock investment, the one-year CDSC applies. The Fund reserves the right to require that previously exchanged shares (and reinvested dividends) be in the Fund for 90 days before a shareholder is permitted a new exchange. An exchange of shares is treated as a redemption of shares of one fund and the purchase of shares of another for Federal Income Tax purposes. An exchange may result in a taxable gain or loss. See "TAX STATUS". Systematic Withdrawal Plan. --------------------------- The Fund permits the establishment of a Systematic Withdrawal Plan. Payments under this plan represent proceeds arising from the redemption of Fund shares, which may result in realization of gain or loss for purposes of Federal, state and local income taxes. The maintenance of a Systematic Withdrawal Plan concurrently with purchases of additional shares of the Fund could be disadvantageous to a shareholder because of the initial sales charge payable on such purchases of Class A shares and the CDSC imposed on redemptions of Class B and Class C shares and because redemptions are taxable events. Therefore, a shareholder should not purchase shares at the same time as a Systematic Withdrawal Plan is in effect. The Fund reserves the right to modify or discontinue the Systematic Withdrawal Plan of any shareholder on 30 days' prior written notice to such shareholder, or to discontinue the availability of such plan in the future. The shareholder may terminate the plan at any time by giving proper notice to Signature Services. 43 Monthly Automatic Accumulation Program ("MAAP"). ------------------------------------------------ The program is explained in the Prospectus. The program, as it relates to automatic investment checks, is subject to the following conditions: The investment will be drawn on or about the day of the month indicated. The privilege of making investments through the MAAP may be revoked by Signature Services without prior notice if any investment is not honored by the shareholder's bank. The bank shall be under no obligation to notify the shareholder as to the non-payment of any checks. The program may be discontinued by the shareholder either by calling Signature Services or upon written notice to Signature Services which is received at least five (5) business days prior to the order date of any investment. Reinstatement and Reinvestment Privilege. ----------------------------------------- If Signature Services is notified prior to reinvestment, a shareholder who has redeemed Fund shares may, within 120 days after the date of redemption, reinvest without payment of a sales charge any part of the redemption proceeds in shares of the same class of that Fund or another John Hancock fund, subject to the minimum investment limit of that fund. The proceeds from the redemption of Class A shares may be reinvested at net asset value without paying a sales charge in Class A shares of any John Hancock fund. If a CDSC was paid upon a redemption, a shareholder may reinvest the proceeds from this redemption at net asset value in additional shares of the class from which the redemption was made. The shareholder's account will be credited with the amount of the CDSC charged upon the prior redemption and the new shares will continue to be subject to the CDSC. The holding period of the shares acquired through reinvestment will, for purposes of computing the CDSC payable upon a subsequent redemption, include the holding period of the redeemed shares. The Fund may refuse any reinvestment request and may change or cancel its reinvestment policies at any time. A redemption or exchange of Fund shares is a taxable transaction for Federal income tax purposes even if the reinvestment privilege is exercised, and any gain or loss realized by a shareholder on the redemption or other disposition of Fund shares will be treated for tax purposes as described under the caption "TAX STATUS." Retirement Plans participating in Merrill Lynch's servicing programs. --------------------------------------------------------------------- Class A shares are available at net asset value for Merrill Lynch retirement plans, including transferee recording arrangements, Merrill Lynch Connect Arrangements and third party administrator recordkeeping arrangements. See Merrill Lynch Financial Consultant for further information. For participating retirement plans investing in Class B shares, shares will convert to Class A shares after eight years, or sooner if the plan attains assets of $5 million (by means of a CDSC-free redemption/purchase at net asset value). PURCHASES AND REDEMPTIONS THROUGH THIRD PARTIES Shares of the Fund may be purchased or redeemed through certain Selling Firms. Selling Firms may charge the investor additional fees for their services. The Fund will be deemed to have received a purchase or redemption order when an authorized Selling Firm, or if applicable, a Selling Firm's authorized designee, receives the order. Orders may be processed at the NAV next calculated after the Selling Firm receives the order. The Selling Firm must segregate any orders it receives after the close of regular trading on the New York Stock Exchange and transmit 44 those orders to the Fund for execution at NAV next determined. Some Selling Firms that maintain network/omnibus/nominee accounts with the Fund for their clients charge an annual fee on the average net assets held in such accounts for accounting, servicing, and distribution services they provide with respect to the underlying Fund shares. This fee is paid by the Adviser, the Fund and/or John Hancock Funds, LLC (the Fund's principal distributor). DESCRIPTION OF THE FUND'S SHARES The Trustees of the Trust are responsible for the management and supervision of the Fund. The Declaration of Trust permits the Trustees to issue an unlimited number of full and fractional shares of beneficial interest of the Fund, without par value. Under the Declaration of Trust, the Trustees have the authority to create and classify shares of beneficial interest in separate series and classes without further action by shareholders. As of the date of this Statement of Additional Information, the Trustees have authorized the issuance of two series of shares - John Hancock Massachusetts Tax-Free Income Fund and the John Hancock New York Tax-Free Income Fund. Additional series may be added in the future. The Trustees have also authorized the issuance of three classes of shares of each series, designated as Class A, Class B and Class C. The shares of each class of the Fund represent an equal proportionate interest in the aggregate net assets attributable to that class or series of the Fund. Holders of each class of shares have certain exclusive voting rights on matters relating to their respective distribution plans. The different classes of the Fund may bear different expenses relating to the cost of holding shareholder meetings necessitated by the exclusive voting rights of any class of shares. Dividends paid by the Fund, if any, with respect to each class of shares will be calculated in the same manner, at the same time and on the same day and will be in the same amount, except for differences resulting from the facts that (i) the distribution and service fees relating to each class of shares will be borne exclusively by that class (ii) Class B and Class C shares will pay higher distribution and service fees than Class A shares and (iii) each class of shares will bear any class expenses properly allocable to that class of shares, subject to the conditions the Internal Revenue Service imposes with respect to the multiple-class structures. Similarly, the net asset value per share may vary depending on which class of shares are purchased. No interest will be paid on uncashed dividend or redemption checks. In the event of liquidation, shareholders of each class are entitled to share pro rata in the net assets of the Fund available for distribution to these shareholders. Shares entitle their holders to one vote per share, are freely transferable and have no preemptive, subscription or conversion rights. When issued, shares are fully paid and non-assessable by the Fund, except as set forth below. Unless otherwise required by the Investment Company Act or the Declaration of Trust, the Fund has no intention of holding annual meetings of shareholders. The Fund's shareholders may remove a Trustee by the affirmative vote of at least two-thirds of the Fund's outstanding shares and the Trustees shall promptly call a meeting for such purpose when requested to do so in writing by the record holders of not less than 10% of the outstanding shares of the Fund. Shareholders may, under certain circumstances, communicate with other shareholders in connection with requesting a special meeting of shareholders. However, at any time that less than a majority of the Trustees holding office were elected by the shareholders, the Trustees will call a special meeting of shareholders for the purpose of electing Trustees. Under Massachusetts law, shareholders of a Massachusetts business trust could, under certain circumstances, be held personally liable for acts or obligations of the Trust. However, the Fund's Declaration of Trust contains an express disclaimer of shareholder liability for acts, obligations or affairs of the Fund. The Declaration of Trust also provides for indemnification out of the 45 Fund's assets for all losses and expenses of any shareholder of any Fund held personally liable by reason of being or having been a shareholder. The Declaration of Trust also provides that no series of the Fund shall be liable for the liabilities of any other series. Furthermore, no fund included in this Fund's Prospectus shall be liable for the liabilities of any other John Hancock fund. Liability is therefore limited to circumstances in which the Fund itself would be unable to meet its obligations, and the possibility of this occurrence is remote. The Fund reserves the right to reject any application which conflicts with the Fund's internal policies or the policies of any regulatory authority. John Hancock Funds does not accept starter, credit card or third party checks. All checks returned by the post office as undeliverable will be reinvested at net asset value in the fund or funds from which a redemption was made or dividend paid. Information provided on the account application may be used by the Funds to verify the accuracy of the information or for background or financial history purposes. A joint account will be administered as a joint tenancy with right of survivorship, unless the joint owners notify Signature Services of a different intent. A shareholder's account is governed by the laws of The Commonwealth of Massachusetts. For telephone transactions, the transfer agent will take measures to verify the identity of the caller, such as asking for name, account number, Social Security or other taxpayer ID number and other relevant information. If appropriate measures are taken, the transfer agent is not responsible for any losses that may occur to any account due to an unauthorized telephone call. Also for your protection telephone transactions are not permitted on accounts whose names or addresses have changed within the past 30 days. Proceeds from telephone transactions can only be mailed to the address of record. Shares of the Fund generally may be sold only to U.S. citizens, U.S. residents, and U.S. Domestic corporations, partnerships, trusts or estates. TAX STATUS Federal Income Taxation The Fund is treated as a separate entity for accounting and tax purposes, has qualified and elected to be treated as a "regulated investment company" under Subchapter M of the Internal Revenue Code of 1986, as amended (the "Code"), and intends to so qualify for each taxable year. As such and by complying with the applicable provisions of the Code regarding the sources of its income, the timing of its distributions, and the diversification of its assets, the Fund will not be subject to Federal income tax on its tax-exempt interest and taxable income (including net realized capital gains) which is distributed to shareholders in accordance with the timing requirements of the Code. The Fund will be subject to a 4% non-deductible Federal excise tax on certain amounts not distributed (and not treated as having been distributed) on a timely basis in accordance with annual minimum distribution requirements. The Fund intends under normal circumstances to seek to avoid or minimize liability for such tax by satisfying such distribution requirements. The Fund expects to qualify to pay "exempt-interest dividends," as defined in the Code. To qualify to pay exempt-interest dividends, the Fund must, at the close of each quarter of its taxable year, have at least 50% of the value of its total assets invested in municipal securities whose interest is excluded from gross income under Section 103(a) of the Code. In purchasing municipal securities, the Fund intends to rely on opinions of nationally recognized bond counsel for each issue as to the excludability of interest on such obligations from gross income for federal income tax purposes and, if available, the exemption of such interest from New York State and New York City personal income taxes. The Fund will not undertake independent investigations concerning the tax-exempt status of such obligations, nor does it guarantee or represent that bond counsels' opinions are correct. Bond counsels' opinions will generally be based in part upon 46 covenants by the issuers and related parties regarding continuing compliance with federal tax requirements. Tax laws enacted principally during the 1980's not only had the effect of limiting the purposes for which tax-exempt bonds could be issued and reducing the supply of such bonds, but also increased the number and complexity of requirements that must be satisfied on a continuing basis in order for bonds to be and remain tax-exempt. If the issuer of a bond or a user of a bond-financed facility fails to comply with such requirements at any time, interest on the bond could become taxable, retroactive to the date the obligation was issued. In that event, a portion of the Fund's distributions attributable to interest the Fund received on such bond for the current year and for prior years could be characterized or recharacterized as taxable income. The availability of tax-exempt obligations and the value of the Fund's portfolio may be affected by restrictive federal income tax legislation enacted in recent years or by similar future legislation. If the Fund satisfies the applicable requirements, dividends paid by the Fund which are attributable to tax exempt interest on municipal securities and designated by the Fund as exempt-interest dividends in a written notice mailed to its shareholders within sixty days after the close of its taxable year may be treated by shareholders as items of interest excludable from their gross income under Section 103(a) of the Code. The recipient of tax-exempt income is required to report such income on his federal income tax return. However, a shareholder is advised to consult his tax adviser with respect to whether exempt-interest dividends retain the exclusion under Section 103(a) if such shareholder would be treated as a "substantial user" or a "related person" thereof under Section 147(a) with respect to any of the tax-exempt obligations held by the Fund. The Code provides that interest on indebtedness incurred or continued to purchase or carry shares of the Fund is not deductible to the extent it is deemed related to the Fund's exempt-interest dividends. Pursuant to published guidelines, the Internal Revenue Service may deem indebtedness to have been incurred for the purpose of purchasing or carrying shares of the Fund even though the borrowed money may not be directly traceable to the purchase of shares. Although all or a substantial portion of the dividends paid by the Fund may be excluded by the Fund's shareholders from their gross income for federal income tax purposes, the Fund may purchase specified private activity bonds, the interest from which (including the Fund's distributions attributable to such interest) may be a preference item for purposes of the federal alternative minimum tax (both individual and corporate). All exempt-interest dividends from the Fund, whether or not attributable to private activity bond interest, may increase a corporate shareholder's liability, if any, for corporate alternative minimum tax and will be taken into account in determining the extent to which a shareholder's Social Security or certain railroad retirement benefits are taxable. Distributions other than exempt-interest dividends from the Fund's current or accumulated earnings and profits ("E&P") will be taxable under the Code for investors who are subject to tax. Taxable distributions include distributions from the Fund that are attributable to (i) taxable income, including but not limited to taxable bond interest, recognized market discount income, original issue discount income accrued with respect to taxable bonds, income from repurchase agreements, income from securities lending, income from dollar rolls, income from interest rate swaps, caps, floors and collars, and a portion of the discount from certain stripped tax- exempt obligations or their coupons or (ii) capital gains from the sale or constructive sale of securities or other investments (including from the disposition of rights to when-issued securities prior to issuance) or from options and futures contracts. If these distributions are paid from the Fund's "investment company taxable income," they will be taxable as ordinary income; and if they are paid from the Fund's "net capital gain," they will be taxable as long-term capital gain. (Net capital gain is the excess (if any) of net long-term capital gain over net short-term capital loss, and investment company taxable income is all taxable income and capital gains or losses, other than those gains and losses included in computing net capital gain, after reduction by deductible expenses.) Some distributions may be paid in January but may be taxable to shareholders as if they had been received on December 31 of the previous year. The tax treatment described above 47 will apply without regard to whether distributions are received in cash or reinvested in additional shares of the Fund. Distributions, if any, in excess of E&P will constitute a return of capital under the Code, which will first reduce an investor's federal tax basis in Fund shares and then, to the extent such basis is exceeded, will generally give rise to capital gains. Amounts that are not allowable as a deduction in computing taxable income, including expenses associated with earning tax-exempt interest income, do not reduce the Fund's current earnings and profits for these purposes. Consequently, the portion, if any, of the Fund's distributions from gross tax-exempt interest income that exceeds its net tax-exempt interest would be taxable as ordinary income to the extent of such disallowed deductions even though such excess portion may represent an economic return of capital. Shareholders who have chosen automatic reinvestment of their distributions will have a federal tax basis in each share received pursuant to such a reinvestment equal to the amount of cash they would have received had they elected to receive the distribution in cash, divided by the number of shares received in the reinvestment. After the close of each calendar year, the Fund will inform shareholders of the federal income tax status of its dividends and distributions for such year, including the portion of such dividends that qualifies as tax-exempt and the portion, if any, that should be treated as a tax preference item for purposes of the federal alternative minimum tax. Shareholders who have not held shares of the Fund for its full taxable year may have designated as tax-exempt or as a tax preference item a percentage of distributions which is not equal to the actual amount of a pro rata share of tax-exempt income or tax preference item income earned by the Fund during the period of their investment in the Fund. The amount of the Fund's net realized capital gains, if any, in any given year will vary depending upon the Adviser's current investment strategy and whether the Adviser believes it to be in the best interest of the Fund to dispose of Fund securities and/or engage in options or futures transactions that will generate capital gains. At the time of an investor's purchase of the Fund's shares, a portion of the purchase price is often attributable to realized or unrealized appreciation in the Fund's portfolio. Consequently, subsequent distributions on these shares from such appreciation may be taxable to such investor even if the net asset value of the investor's shares is, as a result of the distributions, reduced below the investor's cost for such shares, and the distributions in reality represent a return of a portion of the purchase price. Upon a redemption or other disposition of shares of the Fund (including by exercise of the exchange privilege) in a transaction that is treated as a sale for tax purposes, a shareholder will ordinarily realize a taxable gain or loss depending upon the amount of the proceeds and the investor's basis in his shares. Such gain or loss will be treated as capital gain or loss if the shares are capital assets in the shareholder's hands. A sales charge paid in purchasing shares of the Fund cannot be taken into account for purposes of determining gain or loss on the redemption or exchange of such shares within 90 days after their purchase to the extent shares of the Fund or another John Hancock Fund are subsequently acquired without payment of a sales charge pursuant to the reinvestment or exchange privilege. This disregarded charge will result in an increase in the shareholder's tax basis in the shares subsequently acquired. Also, any loss realized on a redemption or exchange may be disallowed to the extent the shares disposed of are replaced with other shares of the Fund within a period of 61 days beginning 30 days before and ending 30 days after the shares are disposed of, such as pursuant to automatic dividend reinvestments. In such a case, the basis of the shares acquired will be adjusted to reflect the disallowed loss. Any loss realized upon the redemption of shares with a tax holding period of six months or less will be disallowed to the extent of all exempt-interest dividends paid with respect to such shares and, to the extent in excess of the amount disallowed, will be treated as a long-term capital loss 48 to the extent of any amounts treated as distributions of long-term capital gain with respect to such shares. Shareholders should consult their own tax advisers regarding their particular circumstances to determine whether a disposition of Fund shares is properly treated as a sale for tax purposes, as is assumed in the foregoing discussion. Although its present intention is to distribute, at least annually, all net capital gain, if any, the Fund reserves the right to retain and reinvest all or any portion of the excess of net long-term capital gain over net short-term capital loss in any year. The Fund will not, in any event, distribute net capital gain realized in any year to the extent that a capital loss is carried forward from prior years against such gain. To the extent such excess was retained and not exhausted by the carryforward of prior years' capital losses, it would be subject to federal income tax in the hands of the Fund. Upon proper designation of this amount by the Fund, each shareholder would be treated for federal income tax purposes as if the Fund had distributed to him on the last day of its taxable year his pro rata share of such excess, and he had paid his pro rata share of the taxes paid by the Fund and reinvested the remainder in the Fund. Accordingly, each shareholder would (a) include his pro rata share of such excess as long-term capital gain in his return for his taxable year in which the last day of the Fund's taxable year falls, (b) be entitled either to a tax credit on his return for, or to a refund of, his pro rata share of the taxes paid by the Fund and (c) be entitled to increase the adjusted tax basis for his shares in the Fund by the difference between his pro rata share of such excess and his pro rata share of such taxes. For Federal income tax purposes, the Fund is permitted to carry forward a net capital loss in any year to offset its own net capital gains, if any, during the eight years following the year of the loss. To the extent subsequent capital gains are offset by such losses, they would not result in federal income tax liability to the Fund and, as noted above, would not be distributed to shareholders. The Fund has $xxxxx, of capital loss carryforwards available, to the extent provided by regulations, to offset future net realized capital gains. These carryforwards expire at various times and amounts from August 31, 20xx and August 31, 20xx. The Fund's dividends and capital gain distributions will not qualify as qualified dividend income as provided under the Jobs and Growth Tax Relief Reconciliation Act of 2003. The Fund's dividends and capital gain distributions will not qualify for the corporate dividends-received deduction. The Fund is required to accrue original issue discount ("OID") on certain debt securities (including zero coupon or deferred payment obligations) that have OID prior to the receipt of the corresponding cash payments. The mark to market or constructive sale rules applicable to certain options and futures contracts or other transactions may also require the Fund to recognize income or gain without a concurrent receipt of cash. However, the Fund must distribute to shareholders for each taxable year substantially all of its net income and net capital gains, including such income or gain, to qualify as a regulated investment company and avoid liability for any federal income or excise tax. Therefore, the Fund may have to dispose of its portfolio securities under disadvantageous circumstances to generate cash, or borrow the cash, to satisfy these distribution requirements. The Federal income tax rules applicable to certain structured or indexed securities, interest rate swaps, caps, floors and collars, dollar rolls and possibly other investments or transactions, are unclear in certain respects, and the Fund will account for these investments or transactions in a manner intended to preserve its qualification as a regulated investment company and avoid material tax liability. The Fund will be required to report to the Internal Revenue Service (the "IRS") all taxable distributions to shareholders, as well as gross proceeds from the redemption or exchange of Fund 49 shares, except in the case of certain exempt recipients, i.e., corporations and certain other investors distributions to which are exempt from the information reporting provisions of the Code. Under the backup withholding provisions of Code Section 3406 and applicable Treasury regulations, all such reportable distributions and proceeds may be subject to backup withholding of federal income tax in the case of non-exempt shareholders who fail to furnish the Fund with their correct taxpayer identification number and certain certifications required by the IRS or if the IRS or a broker notifies the Fund that the number furnished by the shareholder is incorrect or that the shareholder is subject to backup withholding as a result of failure to report interest or dividend income. However, the Fund's taxable distributions may not be subject to backup withholding if the Fund can reasonably estimate that at least 95% of its distributions for the year will be exempt-interest dividends. The Fund may refuse to accept an application that does not contain any required taxpayer identification number or certification that the number provided is correct. If the backup withholding provisions are applicable, any such distributions and proceeds, whether taken in cash or reinvested in shares, will be reduced by the amounts required to be withheld. Any amounts withheld may be credited against a shareholder's U.S. federal income tax liability. Investors should consult their tax advisers about the applicability of the backup withholding provisions. The Fund may invest in debt obligations that are in the lower rating categories or are unrated. Investments in debt obligations that are at risk of default present special tax issues for the Fund. Tax rules are not entirely clear about issues such as when the Fund may cease to accrue interest, original issue discount, or market discount, when and to what extent deductions may be taken for bad debts or worthless securities, how payments received on obligations in default should be allocated between principal and income, and whether exchanges of debt obligations in a workout context are taxable. If the Fund invests in these debt obligations, it will address these issues in order to seek to ensure that it distributes sufficient income to preserve its status as a regulated investment company and seek to avoid Federal income or excise tax. Certain options and futures transactions undertaken by the Fund may cause the Fund to recognize gains or losses from marking to market even though its positions have not been sold or terminated and affect the character as long-term or short-term and timing of some capital gains and losses realized by the Fund. Additionally, the Fund may be required to recognize gain (subject to tax distribution requirements) if an option, future, notional principal contract, or a combination thereof is treated as a constructive sale of an appreciated financial position in the Fund's portfolio. Also, certain of the Fund's losses on its transactions involving options or futures contracts and/or offsetting or successor Fund positions may be deferred rather than being taken into account currently in calculating the Fund's taxable income or gains. Some of these transactions may also cause the Fund to dispose of investments sooner than would otherwise have occurred. These transactions may therefore affect the amount, timing and character of the Fund's distributions to shareholders. The Fund will take into account the special tax rules (including consideration of available elections) applicable to options and futures transactions in order to seek to minimize any potential adverse tax consequences. The foregoing discussion relates solely to U.S. Federal income tax law as applicable to U.S. persons (i.e., U.S. citizens or residents and U.S. domestic corporations, partnerships, trusts or estates) subject to tax under such law. Dividends (including exempt-interest dividends), capital gain distributions, and ownership of or gains realized on the redemption (including an exchange) of Fund shares may also be subject to state and local taxes, except as described below under "State Income Tax Information." The discussion does not address special tax rules applicable to certain types of investors, such as insurance companies and financial institutions. Shareholders should consult their own tax advisers as to the Federal, state or local tax consequences of ownership of shares of, and receipt of distributions from, the Fund in their particular circumstances. 50 Non-U.S. investors not engaged in a U.S. trade or business with which their investment in the Fund is effectively connected will be subject to U.S. Federal income tax treatment different from that described above. These investors may be subject to non-resident alien withholding tax at the rate of 30% (or a lower rate under an applicable tax treaty) on amounts treated as ordinary dividends from the Fund and, unless an effective IRS Form W-8, Form W-8BEN or other authorized withholding certificate is on file and to backup withholding on certain other payments from the Fund. Non-U.S. investors should consult their tax advisers regarding such treatment and the application of foreign taxes to an investment in the Fund. STATE INCOME TAX INFORMATION The Fund is not subject to Massachusetts Corporate excise or franchise taxes. The Fund anticipates that, provided that the Fund qualifies as a regulated investment company under the Code, it will also not be required to pay any Massachusetts income tax. NEW YORK TAXES Exempt-interest dividends derived from interest on tax-exempt bonds of New York State and its political subdivisions and authorities and certain other governmental entities (for example, U.S. possessions), paid by the Fund to New York resident individuals, estates and trusts otherwise subject to these taxes, will not be subject to New York State and New York City personal income taxes and certain municipal tax surcharges. Dividends, whether received in cash or additional shares, derived from the Fund's other investment income (including interest on U.S. Government obligations and Tax-Exempt Bonds other than those described in the preceding paragraph), and from the Fund's net realized short-term capital gains, are taxable for New York State and New York City personal income tax purposes as ordinary income. Tax surcharges will also apply. Dividends derived from net realized long-term capital gains of the Fund are taxable as long-term capital gains for New York State and New York City personal income tax purposes regardless of the length of time shareholders have held their shares. Dividends derived from investment income and capital gains, including exempt- interest dividends, will be subject to the New York State franchise tax and the New York City General Corporation Tax if received by a corporation subject to those taxes. Certain distributions may, however, be eligible for a 50% dividend subtraction. Shares of the Fund will be included in a corporate shareholder's investment capital in determining its liability, if any, for these taxes. New York State and New York City personal income taxes are imposed on "New York taxable income," which is defined, in the case of New York resident individuals, estates and trusts as "New York adjusted gross income" minus the New York deductions and New York exemptions. "New York adjusted gross income", in the case of a New York resident individual, estate or trust, is federal adjusted gross income with certain modifications Because distributions that qualify as exempt- interest dividends under IRC ss. 852(b) (5) will be excluded from Federal gross income and adjusted gross income, such distributions will also be excluded from New York adjusted gross income, unless specifically modified by New York law. New York law requires that New York resident individuals, estates and trusts add certain items to their federal adjusted gross income. One such modification is the addition, to the extent not properly includible in Federal adjusted gross income, of interest income on obligations of any state (or political subdivision of any state) other than New York and its political subdivisions. The Fund's dividends (including exempt-interest dividends) and distributions will not be tax-exempt for State and City purposes for corporate investors, so that corporate investors should 51 consult their own tax advisers before investing in the Fund. All investors should consult their own tax advisers regarding the tax provisions described above and any additional taxes to which they may be subject, including but not limited to minimum taxes, tax surcharges, and taxes based on or affected by the ownership of intangible property such as mutual fund shares. Under New York tax law, a portion of interest on indebtedness incurred or continued to purchase or carry shares of an investment company paying dividends which are exempt from the New York State and New York City personal income taxes, such as the Fund, will not be deductible by the investor for New York State and New York City personal income tax purposes. CALCULATION OF PERFORMANCE For the 30-day period ended August 31, 2004, the annualized yields for the Fund's Class A, Class B and Class C shares were %, % and %, respectively. As of August 31, 2004, the average annual total returns before taxes of the Class A shares of the Fund for the one, five and ten year periods were %, % and %, respectively. As of August 31, 2004, the average annual returns before taxes of the Class B shares of the Fund for two and five year periods and since the commencement of operations on October 3, 1996 were %, % and %, respectively. As of August 31, 2004, the average annual returns before taxes of the Class C shares, for the one and five year period and since the commencement of operations on April 1, 1999, were % and %, respectively. The average annual total returns for Class C have been adjusted to reflect the elimination of the front-end sales charge that became effective July 15, 2004. The average annual total return before taxes is computed by finding the average annual compounded rate of return over the 1-year, 5-year and 10-year periods, or the period since the commencement of operations, that would equate the initial amount invested to the ending redeemable value according to the following formula: P(1+T)n = ERV Where: P= a hypothetical initial payment of $1,000. T= average annual total return n= number of years ERV= ending redeemable value of a hypothetical $1,000 payment made at the beginning of the 1-year, 5-year or 10-year periods (or fractional portion). The Fund discloses average annual total returns after taxes for Class A shares for the one, five and 10 year periods ended December 31, 2003 in the prospectus. After tax returns are computed using the historical highest individual federal marginal income-tax rates and do not reflect the impact of state and local taxes. Actual after-tax returns depend on the investor's tax situation and may differ from those shown. The after-tax returns shown are not relevant to investors who hold their fund shares through tax-deferred arrangements such as 401(k) plans or individual retirement accounts. The average annual total return (after taxes on distributions) is computed by finding the average annual compounded rate of return over the 1-year, 5-year and 10-year periods, or the period since the commencement of operations, that would equate the initial amount invested to the ending redeemable value according to the following formula: 52 P(1+T)n = ATVD Where: P= a hypothetical initial payment of $1,000. T= average annual total return (after taxes on distributions) n= number of years ATVD= ending value of a hypothetical $1,000 payment made at the beginning of the 1-year, 5-year, or 10-year periods (or fractional portion) after taxes on fund distributions but not after taxes on redemption. The average annual total return (after taxes on distributions and redemption) is computed by finding the average annual compounded rate of return over the 1-year, 5-year, and 10-year periods, or the period since the commencement of operations, that would equate the initial amount invested to the ending redeemable value according to the following formula: P(1+T)n = ATVDR Where: P= a hypothetical initial payment of $1,000. T= average annual total return (after taxes on distributions and redemption) n= number of years ATVDR= ending value of a hypothetical $1,000 payment made at the beginning of the 1-year, 5-year or 10-year periods (or fractional portion), after taxes on fund distributions and redemption. Because each class has its own sales charge and fee structure, the classes have different performance results. In the case of each class, these calculations assume the maximum sales charge is included in the initial investment or the CDSC applied at the end of the period. These calculations assume that all dividends and distributions are reinvested at net asset value on the reinvestment dates during the period. The "distribution rate" is determined by annualizing the result of dividing the declared dividends of the Fund during the period stated by the maximum offering price or net asset value at the end of the period. Excluding the Fund's sales charge from the distribution rate produces a higher rate. In addition to average annual total returns, the Fund may quote unaveraged or cumulative total returns reflecting the simple change in value of an investment over a stated period. Cumulative total returns may be quoted as a percentage or as a dollar amount, and may be calculated for a single investment, a series of investments, and/or a series of redemptions, over any time period. Total returns may be quoted with or without taking the Fund's sales charge on Class A shares or the CDSC on Class B or Class C shares into account. Excluding the Fund's sales charge on Class A shares and the CDSC on Class B or Class C shares from a total return calculation produces a higher total return figure. In the case of a tax-exempt obligation issued without original issue discount and having a current market discount, the coupon rate of interest is used in lieu of the yield to maturity. Where, in the case of a tax-exempt obligation with original issue discount, the discount based on the current market value exceeds the then-remaining portion or original issue discount (market discount), the yield to maturity is the imputed rate based on the original issue discount calculation. Where, in the case of a tax-exempt obligation with original issue discount, the discount based on the current market value is less than the then-remaining portion of original issue discount (market premium), the yield to maturity is based on the market value. 53 The Fund may advertise yield, where appropriate. The Fund's yield is computed by dividing net investment income per share determined for a 30-day period by the maximum offering price per share (which includes the full sales charge) on the last day of the period, according to the following standard formula: a-b 6 Yield = 2 ( [ (------) +1 ] -1 ) cd Where: a= dividends and interest earned during the period. b= net expenses accrued during the period. c= the average daily number of fund shares outstanding during the period that would be entitled to receive dividends. d= the maximum offering price per share on the last day of the period (NAV where applicable). The Fund may advertise a tax-equivalent yield, which is computed by dividing that portion of the yield of the Fund which is tax-exempt by one minus a stated income tax rate and adding the product to that portion, if any, of the yield of the Fund that is not tax-exempt. The tax equivalent yields for the Fund's Class A, Class B and Class C shares at the combined maximum federal and New York tax rates, which assumes the full deductibility of state income taxes on the federal income tax return, for the 30-day period ended August 31, 2004 were %, % and %, respectively. From time to time, in reports and promotional literature, the Fund's yield and total return will be compared to indices of mutual funds and bank deposit vehicles such as Lipper Analytical Services, Inc.'s "Lipper - Fixed Income Fund Performance Analysis," a monthly publication which tracks net assets, total return, and yield on fixed income mutual funds in the United States. Ibottson and Associates, CDA Weisenberger and F.C. Towers are also used for comparison purposes as well as the Russell and Wilshire Indices. Comparisons may also be made to bank certificates of deposit, ("CDs") which differ from mutual funds, in several ways. The interest rate established by the sponsoring bank is fixed for the term of a CD. There are penalties for early withdrawal from CDs, and the principal on a CD is insured. Performance rankings and ratings reported periodically in, and excerpts from, national financial publication such as MONEY MAGAZINE, FORBES, BUSINESS WEEK, THE WALL STREET JOURNAL, MICROPAL, INC., MORNINGSTAR, STANGER'S, BARRON'S, etc., as well as LIPPER, may also be utilized. The Fund's promotional and sales literature may make reference to the Fund's "beta". Beta is a reflection of the market-related risk of the Funds by showing how responsive the Fund is to the market. The performance of the Fund is not fixed or guaranteed. Performance quotations should not be considered to be representations of performance of the Fund for any period in the future. The performance of the Fund is a function of many factors including its earnings, expenses and number of outstanding shares. Fluctuating market conditions; purchases, sales and maturities of portfolio securities; sales and redemptions of shares of beneficial interest; and changes in operating expenses are all examples of items that can increase or decrease the Fund's performance. 54 Brokerage Allocation Decisions concerning the purchase and sale of portfolio securities and the allocation of brokerage commissions are made by the Adviser's investment and/or trading personnel. Orders for purchases and sales of securities are placed in a manner, which, in the opinion of such personnel, will offer the best price and market for the execution of each such transaction. The Fund's trading practices and investments are reviewed monthly by the Adviser's Senior Investment Policy Committee which consists of officers of the Adviser and quarterly by the Adviser's Investment Committee which consists of officers and directors of the Adviser and Trustees of the Trust who are interested persons of the Fund. Purchases from underwriters of portfolio securities may include a commission or commissions paid by the issuer and transactions with dealers serving as market makers to reflect a "spread." Investment in debt securities are generally traded on a "net" basis through dealers acting for their own account as principals and not as brokers; no brokerage commissions are payable on these transactions. In the U.S. Government securities market, securities are generally traded on a net basis with dealers acting as principal for their own account without a stated commission, although the price of the security usually includes a profit to the dealer. On occasion, certain money market instruments and agency securities may be purchased directly from the issuer, in which case no commissions or premiums are paid. Investments in equity securities are generally traded on exchanges or on over-the-counter markets at fixed commission rates or on a net basis. In other countries, both debt and equity securities are traded on exchanges at fixed commission rates. Commissions on foreign transactions are generally higher than the negotiated commission rates available in the U.S. There is generally less government supervision and regulation of foreign stock exchanges and broker-dealers than in the U.S. The Fund's primary policy is to execute all purchases and sales of portfolio instruments at the most favorable prices consistent with best execution, considering all of the costs of the transaction including brokerage commissions. The policy governs the selection of brokers and dealers and the market in which a transaction is executed. The Adviser does not consider sales of shares of the Fund as a factor in the selection of broker-dealers to execute the Fund's portfolio transactions. To the extent consistent with the foregoing, the Fund will be governed in the selection of brokers and dealers, and the negotiation of brokerage commission rates and dealer spreads, by the reliability and quality of the services, including primarily the availability and value of research information and, to a lesser extent, statistical assistance furnished to the Adviser of the Fund. As permitted by Section 28(e) of the Securities Exchange Act of 1934, the Funds may pay to a broker which provides brokerage and research services to the Fund an amount of disclosed commission in excess of the commission which another broker would have charged for effecting that transaction. This practice is subject to a good faith determination by the Trustees that the price is reasonable in light of the services provided and to policies that the Trustees may adopt from time to time. For the fiscal year ended August 31, 2004, the Fund did not pay compensation to brokers for research services, such as industry, economic and company reviews and evaluations of securities. "Commissions", as interpreted by the SEC, include fees paid to brokers for trades conducted on an agency basis, and certain mark-ups, mark-downs, commission equivalents and other fees received by dealers in riskless principal transactions placed in the over-the-counter market. The term "brokerage and research services" includes research services received from broker-dealers which supplement the Adviser's own research (and the research of its affiliates), and may include the following types of information: statistical and background information on the U.S. and foreign economies, industry groups and individual companies; forecasts and interpretations with respect to the U.S. and foreign economies, securities, markets, specific industry groups and 55 individual companies; information on federal, state, local and foreign political developments; portfolio management strategies; performance information on securities, indexes and investment accounts; and information concerning prices of securities. Broker-dealers may communicate such information electronically, orally, in written form or on computer software. Research services may also include the providing of electronic communication of trade information and the providing of specialized consultations with the Adviser's personnel with respect to computerized systems and data furnished as a component of other research services, the arranging of meetings with management of companies, and the providing of access to consultants who supply research information. The outside research assistance is useful to the Adviser since the broker-dealers used by the Adviser tend to follow a broader universe of securities and other matters than the Adviser's staff can follow. In addition, the research provides the Adviser with a diverse perspective on financial markets. Research services provided to the Adviser by broker-dealers are available for the benefit of all accounts managed or advised by the Adviser or by its affiliates. Some broker-dealers may indicate that the provision of research services is dependent upon the generation of certain specified levels of commissions and underwriting concessions by the Adviser's clients, including the Fund. However, the Fund is not under any obligation to deal with any broker-dealer in the execution of transactions in portfolio securities. The Adviser believes that the research services are beneficial in supplementing the Adviser's research and analysis and that they improve the quality of the Adviser's investment advice. It is not possible to place a dollar value on information and services to be received from brokers and dealers, since it is only supplementary to the research efforts of the Adviser. The advisory fee paid by the Fund is not reduced because the Adviser receives such services. The receipt of research information is not expected to reduce significantly the expenses of the Adviser. However, to the extent that the Adviser would have purchased research services had they not been provided by broker-dealers, or would have developed comparable information through its own staff, the expenses to the Adviser could be considered to have been reduced accordingly. The research information and statistical assistance furnished by brokers and dealers may benefit the Life Company or other advisory clients of the Adviser, and conversely, brokerage commissions and spreads paid by other advisory clients of the Adviser may result in research information and statistical assistance beneficial to the Fund. The Fund will make no commitment to allocate portfolio transactions upon any prescribed basis. Broker-dealers may be willing to furnish statistical, research and other factual information or service to the Adviser for no consideration other than brokerage or underwriting commissions. Securities may be bought or sold from time to time through such broker-dealers on behalf of the Fund or the Adviser's other clients. In effecting portfolio transactions on behalf of the Fund and the Adviser's other clients, the Adviser may from time to time instruct the broker-dealer that executes the transaction to allocate, or "step-out", a portion of the transaction to another broker-dealer. The broker-dealer to which the Adviser "stepped-out" would then settle and complete the designated portion of the transaction. Each broker-dealer would receive a commission or brokerage fee with respect to that portion of the transaction that it settles and completes. While the Adviser will be primarily responsible for the allocation of the Fund's brokerage business, the policies and practices of the Adviser in this regard must be consistent with the foregoing and at all times be subject to review by the Trustees. For the fiscal years ended August 31, 2002, 2003 and 2004, the Fund paid negotiated brokerage commissions of $0, $0 and $ , respectively. 56 The Adviser may determine target levels of commission business with various brokers on behalf of its clients (including the Fund) over a certain time period. The target levels will be based upon the following factors, among others: (1) the execution services provided by the broker; (2) the research services provided by the broker; and (3) the broker's interest in mutual funds in general and in the Fund and other mutual funds advised by the Adviser in particular. In connection with (3) above, the Fund's trades may be executed directly by dealers that sell shares of the John Hancock funds or by other broker-dealers with which such dealers have clearing arrangements, consistent with obtaining best execution and the Conduct Rules of the National Association of Securities Dealers, Inc. The Adviser will not use a specific formula in connection with any of these considerations to determine the target levels. Pursuant to procedures determined by the Trustees and consistent with the above policy of obtaining best net results, the Fund may execute portfolio transactions with or through brokers affiliated with the Adviser ("Affiliated Broker"). Affiliated Brokers may act as broker for the Fund on exchange transactions, subject, however, to the general policy of the Fund set forth above and the procedures adopted by the Trustees pursuant to the Investment Company Act. Commissions paid to an Affiliated Broker must be at least as favorable as those which the Trustees believe to be contemporaneously charged by other brokers in connection with comparable transactions involving similar securities being purchased or sold. A transaction would not be placed with an Affiliated Broker if the Fund would have to pay a commission rate less favorable than the Affiliated Broker's contemporaneous charges for comparable transactions for its other most favored, but unaffiliated customers, except for accounts for which the Affiliated Broker acts as clearing broker for another brokerage firm, and any customers of the Affiliated Broker not comparable to the Fund as determined by a majority of the Trustees who are not interested persons (as defined in the Investment Company Act) of the Fund, the Adviser or the Affiliated Broker. Because the Adviser that is affiliated with the Affiliated Broker, has, as an investment adviser to the Fund, the obligation to provide investment management services, which includes elements of research and related investment skills, such research and related skills will not be used by the Affiliated Brokers as a basis for negotiating commissions at a rate higher than that determined in accordance with the above criteria. The Adviser's indirect parent, the Life Company, is the indirect sole shareholder of Signator Investors, Inc., a broker-dealer (until January 1, 1999, John Hancock Distributors, Inc.) ("Signator" or an "Affiliated Broker"). The Adviser's indirect parent, Manulife Financial, is the parent of another broker-dealer, Manulife Financial Securities, LLC ("MF Securities" or "Affiliated Broker"). For the fiscal years ended August 31, 2002, 2003 and 2004, the Fund paid no brokerage commissions to any Affiliated Broker. Other investment advisory clients advised by the Adviser may also invest in the same securities as the Fund. When these clients buy or sell the same securities at substantially the same time, the Adviser may average the transactions as to price and allocate the amount of available investments in a manner which the Adviser believes to be equitable to each client, including the Fund. Because of this, client accounts in a particular style may sometimes not sell or acquire securities as quickly or at the same prices as they might if each were managed and traded individually. For purchases of equity securities, when a complete order is not filled, a partial allocation will be made to each account pro rata based on the order size. For high demand issues (for example, initial public offerings), shares will be allocated pro rata by account size as well as on the basis of account objective, account size ( a small account's allocation may be increased to provide it with a meaningful position), and the account's other holdings. In addition, an account's allocation may be increased if that account's portfolio manager was responsible for generating the investment idea or the portfolio manager intends to buy more shares in the secondary market. For fixed income accounts, generally securities will be allocated when appropriate among accounts based on account size, except if the accounts have different objectives or if an account 57 is too small to get a meaningful allocation. For new issues, when a complete order is not filled, a partial allocation will be made to each account pro rata based on the order size. However, if a partial allocation is too small to be meaningful, it may be reallocated based on such factors as account objectives, strategies, duration benchmarks and credit and sector exposure. For example, value funds will likely not participate in initial public offerings as frequently as growth funds. In some instances, this investment procedure may adversely affect the price paid or received by the Fund or the size of the position obtainable for it. On the other hand, to the extent permitted by law, the Adviser may aggregate securities to be sold or purchased for the Fund with those to be sold or purchased for other clients managed by it in order to obtain best execution. TRANSFER AGENT SERVICES John Hancock Signature Services, Inc., 1 John Hancock Way, Suite 1000, Boston, MA 02217-1000, a wholly owned indirect subsidiary of the Life Company, is the transfer and dividend paying agent for the Fund. The Fund pays Signature Services an annual fee of $17.00 for each Class A shareholder account and $19.50 for each Class B shareholder account and $18.50 for each Class C shareholder account. The Fund also pays Signature Services an annual fee of 0.01% of average daily net assets attributable to Class A, Class B and Class C shares. For Class A, B, and C shares, the Fund also pays certain out-of pocket expenses. Expenses are aggregated and allocated to each class on the basis of their relative net asset values. For shares held of record in omnibus or other group accounts where administration and other shareholder services are provided by the Selling Firm or group administrator, the Selling Firm or administrator will charge a service fee to the Fund. For such shareholders, Signature Services does not charge its account fee. CUSTODY OF PORTFOLIO Portfolio securities of the Funds are held pursuant to a custodian agreement between the Fund and The Bank of New York, One Wall Street, New York, New York 10286. Under the custodian agreement, The Bank of New York is performing custody, Foreign Custody Manager and fund accounting services. INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The independent registered public accounting firm of the Fund is . and renders an opinion on the Fund's annual financial statements and reviews the Fund's annual Federal income tax return. FUND SECURITIES The Fund has a policy for disclosure of its portfolio securities. Information about the securities held by the Fund may not be disclosed except as follows: On the fifth business day after month-end, certain information is published on www.jhfunds.com, including but not limited to top ten holdings, sector analysis, and investment performance. The complete portfolio is published on www.jhfunds.com each month with a one-month lag (for example, information as of December 31 will be published on February 1). Once published, the portfolio information is available to the public and all categories of investors and potential investors. More current portfolio information is disclosed (subject always to confidentiality agreements) when necessary for the efficient management of the Fund's portfolio. Parties receiving more current information are: The Fund's proxy voting service; publishers and writers for the Fund's 58 financial reports; risk management and portfolio analysis systems; and rating agencies. No compensation or other consideration is received by the Fund, its adviser or any affiliated party in regard to disclosure. Exceptions to the above policy must be authorized by the Fund's chief legal officer or chief compliance officer, and are subject to ratification by the Board of Trustees. 59 APPENDIX A - DESCRIPTION OF INVESTMENT RISK MORE ABOUT RISK A fund's risk profile is largely defined by the fund's primary securities and investment practices. You may find the most concise description of the fund's risk profile in the prospectus. A fund is permitted to utilize -- within limits established by the trustees -- certain other securities and investment practices that have higher risks and opportunities associated with them. To the extent that the Fund utilizes these securities or practices, its overall performance may be affected, either positively or negatively. On the following pages are brief definitions of certain associated risks with them with examples of related securities and investment practices included in brackets. See the "Investment Objective and Policies" and "Investment Restrictions" sections of this Statement of Additional Information for a description of this Fund's investment policies. The Fund follows certain policies that may reduce these risks. As with any mutual fund, there is no guarantee that the Fund will earn income or show a positive return over any period of time -- days, months or years. TYPES OF INVESTMENT RISK Correlation risk The risk that changes in the value of a hedging instrument will not match those of the asset being hedged (hedging is the use of one investment to offset the effects of another investment). Incomplete correlation can result in unanticipated risks. (e.g., futures and related options; securities and index options, swaps, caps, floors, collars). Credit risk The risk that the issuer of a security, or the counterparty to a contract, will default or otherwise become unable to honor a financial obligation. Common to all debt securities.(e.g. borrowing; reverse repurchase agreements, repurchase agreements, financial futures and options; securities and index options, securities lending, non-investment grade debt securities, private activity bonds, participation interests and structured securities, swaps, caps, floors, collars). Information risk The risk that key information about a security or market is inaccurate or unavailable. Common to all municipal securities. (e.g. non-investment grade debt securities, private activity bonds and participation interests). Interest rate risk The risk of market losses attributable to changes in interest rates. With fixed-rate securities, a rise in interest rates typically causes a fall in values, while a fall in rates typically causes a rise in values. (e.g. financial futures and options; securities and index options, non-investment grade debt securities, private activity bonds, participation interests, structured securities and swaps, caps, floors and collars). Leverage risk Associated with securities or practices (such as borrowing) that multiply small index or market movements into large changes in value. (e.g. borrowing; reverse repurchase agreements, when-issued securities and forward commitments). o Hedged When a derivative (a security whose value is based on another security or index) is used as a hedge against an opposite position that the fund also holds, any loss generated by the derivative A-1 should be substantially offset by gains on the hedged investment, and vice versa. While hedging can reduce or eliminate losses, it can also reduce or eliminate gains. o Speculative To the extent that a derivative is not used as a hedge, the fund is directly exposed to the risks of that derivative. Gains or losses from speculative positions in a derivative may be substantially greater than the derivative's original cost. o Liquidity risk The risk that certain securities may be difficult or impossible to sell at the time and the price that the seller would like. The seller may have to lower the price, sell other securities instead, or forego an investment opportunity, any of which could have a negative effect on fund management or performance. (e.g. financial futures and options; securities and index options, non-investment-grade debt securities, restricted and illiquid securities, participation interests, swaps, caps, floors, collars , structured securities). Management risk The risk that a strategy used by a fund's management may fail to produce the intended result. Common to all mutual funds. Market risk The risk that the market value of a security may move up and down, sometimes rapidly and unpredictably. These fluctuations may cause a security to be worth less than the price originally paid for it, or less than it was worth at an earlier time. Market risk may affect a single issuer, industry, sector of the economy or the market as a whole. Common to all stocks and bonds and the mutual funds that invest in them. (e.g. financial futures and options; securities and index options, short-term trading, when-issued securities and forward commitments, non-investment-grade debt securities, restricted and illiquid securities, structured securities). Natural event risk The risk of losses attributable to natural disasters, such as earthquakes and similar events. (e.g. private activity bonds). Opportunity risk The risk of missing out on an investment opportunity because the assets necessary to take advantage of it are tied up in less advantageous investments. (e.g. financial futures and options; securities and index options, when-issued securities and forward commitments). Political risk The risk of losses attributable to government or political actions of any sort. (e.g. private activity bonds). Valuation risk The risk that a fund has valued certain of its securities at a higher price than it can sell them for.(e.g. non-investment-grade debt securities, Restricted and illiquid securities, participation interests, structured securities, swaps, caps, floors, collars). A-2 APPENDIX B - DESCRIPTION OF BOND Ratings Moody's describes its ratings for Tax-Exempt Bonds as follows: Bonds. "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. "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 grater amplitude or there may be other elements present which make the long term risks appear somewhat larger than in 'Aaa' securities. "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. "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. "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. "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. "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. "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. "Bonds which are rated 'C' are the lowest rated classes of bonds, and issues so rated can be regarded as having extremely poor prospects of ever obtaining any real investment standing." Where no rating has been assigned or where a rating has been suspended or withdrawn, it may be for reasons unrelated to the quality of the issue. Should no rating be assigned, the reason may be one of the following: (i) an application for rating was not received or accepted; (ii) the issue or issuer belongs to a group of securities that are not rated as a matter of policy; (iii) there is a lack of essential data pertaining to the issue or issuer; or (iv) the issue was privately placed, in which case the rating is not published in Moody's publications. B-1 Suspension or withdrawal may occur if new and material circumstances arise, the effects of which preclude satisfactory analysis; if there is no longer available reasonable up-to-date data to permit a judgment to be formed; if a bond is called for redemption; or for other reasons. Standard & Poor's describes its ratings for Tax-Exempt Bonds as follows: "AAA. Debt rated 'AAA' has the highest rating by Standard & Poor's. Capacity to pay interest and repay principal is extremely strong. "AA. Debt rated 'AA' has a very strong capacity to pay interest and repay principal and differs from the higher rated issues only in small degree. "A. Debt rated 'A' has a strong capacity to pay interest and repay principal although it is somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than debt in higher rated categories. "BBB. Debt rated 'BBB' is regarded as having 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." Debt rated "BB," "B," "CCC," or "CC" is regarded, on balance, as predominantly speculative with respect to the issuer's capacity to pay interest and pay principal in accordance with the terms of the obligation. "BB" indicates the lowest degree of speculation and "CC" the highest degree of speculation. While such debt will likely have some quality and protective characteristics, these may be outweighed by large uncertainties or major risk exposures to adverse conditions. Unrated. This indicates that no rating has been requested, that there is insufficient information on which to base a rating, or that Standard & Poor's does not rate a particular type of obligation as a matter of policy. Fitch describes its rating for Tax-Exempt Bonds as follows: AAA. Bonds considered to be investment grade and of the highest credit quality. The obligor has an exceptionally strong ability to pay interest and repay principal, which is unlikely to be affected by reasonably foreseeable events. AA. Bonds considered to be investment grade and of very high credit quality. The obligor's ability to pay interest and repay principal is very strong, although not quite as strong as bonds rated "AAA". Because bonds rated in the "AAA" and the 'AA' categories are not significantly vulnerable to foreseeable future developments, short-term debt of these issuers is generally rated 'F-1+'. A. Bonds considered to be investment grade and of high credit quality. The obligor's ability to pay interest and repay principal is considered to be strong, but may be more vulnerable to adverse changes in economic conditions and circumstances than bonds with higher ratings. BBB. Bonds considered to be investment grade and of satisfactory credit quality. The obligor's ability to pay interest and repay principal is considered to be adequate. Adverse changes in economic conditions and circumstances, however, are more likely to have adverse impact on these bonds, and therefore, impair timely payment. The likelihood that the ratings of these bonds will fall below investment grade is higher than for bonds with higher ratings. B-2 BB. Bonds are considered speculative. The obligor's ability to pay interest and repay principal may be affected over time by adverse economic changes. However, business and financial alternatives can be identified which could assist the obligor in satisfying its debt service requirements. Notes. Ratings for state and municipal notes and other short-term obligations will be designated Moody's Investment Grade ("MIG"). This distinction is in recognition of the differences between short-term credit risk and long-term risk. Factors affecting the liquidity of the borrower are uppermost in importance in short-term borrowing, while various factors of the first importance on bond risk are of lesser importance in the short run. Symbols will be used as follows: "MIG-1 Notes bearing this designation are of the best quality, enjoying strong protection from established cash flows of funds for their servicing or from established and broad-based access to the market for refinancing, or both. "MIG-2 Notes bearing this designation are of high quality with margins of protection ample although not so large as in the preceding group." Commercial Paper. As described in the Prospectus, the Fund may invest in commercial paper which is rated A-1 or A-2 by Standard & Poor's, P-1 or P-2 by Moody's or F-1+ or f1 by Fitch. Moody's ratings for commercial paper are opinions of the ability of issuers to repay punctually promissory obligations not having an original maturity in excess of nine months. Moody's two highest commercial paper rating categories are as follows: "P-1 -- "Prime-1" indicates the highest quality repayment capacity of the rated issues. "P-2 -- "Prime-2" indicates that the issuer has a strong capacity for repayment of short-term promissory obligations. Earnings trends and coverage ratios, while sound, will be more subjective to variation. Capitalization characteristics, while still appropriate, may be more affected by external conditions. Ample alternate liquidity is maintained." Standard & Poor's commercial paper ratings are current assessments of the likelihood of timely payment of debts having an original maturity of no more than 365 days. Standard & Poor's two highest commercial paper rating categories are as follows: "A-1 -- This designation indicates that the degree of safety regarding timely payment is very strong. Those issues determined to possess overwhelming safety characteristics will be denoted with a plus (+) sign designation. "A-2 -- Capacity for timely payment on issues with this designation is strong. However, the relative degree of safety is not as high as for issues designated A-1." Fitch's short-term ratings apply to debt obligations that are payable on demand or have original maturities of generally up to three years, including commercial paper, certificates of deposit, medium notes, and municipal and investment notes. The short-term rating places greater emphasis than a long-term rating on the existence of liquidity necessary to meet the issuer's obligations in a timely manner. Fitch's short-term ratings are as follows: B-3 F-1+ Exceptionally strong Credit Quality. Issues assigned this rating are regarded as having the strongest degree of assurance for timely payment. F-1 Very Strong Credit Quality. Issues assigned this rating reflect an assurance of timely payment only slightly less in degree than issues rated "F-1+" B-4 APPENDIX C SUMMARY OF PROXY VOTING John Hancock Advisers, LLC Sovereign Asset Management Corporation Proxy Voting Summary We believe in placing our clients' interests first. Before we invest in a particular stock or bond, our team of portfolio managers and research analysts look closely at the company by examining its earnings history, its management team and its place in the market. Once we invest, we monitor all our clients' holdings, to ensure that they maintain their potential to produce results for investors. As part of our active investment management strategy, we keep a close eye on each company we invest in. Routinely, companies issue proxies by which they ask investors like us to vote for or against a change, such as a new management team, a new business procedure or an acquisition. We base our decisions on how to vote these proxies with the goal of maximizing the value of our clients' investments. Currently, John Hancock Advisers, LLC ("JHA") and Sovereign Asset Management Corporation ("Sovereign") manage open-end funds, closed-end funds and portfolios for institutions and high-net-worth investors. Occasionally, we utilize the expertise of an outside asset manager by means of a subadvisory agreement. In all cases, JHA or Sovereign makes the final decision as to how to vote our clients' proxies. There is one exception, however, and that pertains to our international accounts. The investment management team for international investments votes the proxies for the accounts they manage. Unless voting is specifically retained by the named fiduciary of the client, JHA and Sovereign will vote proxies for ERISA clients. In order to ensure a consistent, balanced approach across all our investment teams, we have established a proxy oversight group comprised of associates from our investment, operations and legal teams. The group has developed a set of policies and procedures that detail the standards for how JHA and Sovereign vote proxies. The guidelines of JHA have been approved and adopted by each fund client's board of trustees who have voted to delegate proxy voting authority to their investment adviser, JHA. JHA and Sovereign's other clients have granted us the authority to vote proxies in our advisory contracts or comparable documents. JHA and Sovereign have hired a third party proxy voting service which has been instructed to vote all proxies in accordance with our established guidelines except as otherwise instructed. In evaluating proxy issues, our proxy oversight group may consider information from many sources, including the portfolio manager, management of a company presenting a proposal, shareholder groups, and independent proxy research services. Proxies for securities on loan through securities lending programs will generally not be voted, however a decision may be made to recall a security for voting purposes if the issue is material. Below are the guidelines we adhere to when voting proxies. Please keep in mind that these are purely guidelines. Our actual votes will be driven by the particular circumstances of each proxy. From time to time votes may ultimately be cast on a case-by-case basis, taking into consideration relevant facts and circumstances at the time of the vote. Decisions on these matters (case-by-case, C-1 abstention, recall) will normally be made by a portfolio manager under the supervision of the chief investment officer and the proxy oversight group. We may abstain from voting a proxy if we conclude that the effect on our clients' economic interests or the value of the portfolio holding is indeterminable or insignificant. Proxy Voting Guidelines Board of Directors We believe good corporate governance evolves from an independent board. We support the election of uncontested director nominees, but will withhold our vote for any nominee attending less than 75% of the board and committee meetings during the previous fiscal year. Contested elections will be considered on a case by case basis by the proxy oversight group, taking into account the nominee's qualifications. We will support management's ability to set the size of the board of directors and to fill vacancies without shareholder approval but will not support a board that has fewer than 3 directors or allows for the removal of a director without cause. We will support declassification of a board and block efforts to adopt a classified board structure. This structure typically divides the board into classes with each class serving a staggered term. In addition, we support proposals for board indemnification and limitation of director liability, as long as they are consistent with corporate law and shareholders' interests. We believe that this is necessary to attract qualified board members. Selection of Auditors We believe an independent audit committee can best determine an auditor's qualifications. We will vote for management proposals to ratify the board's selection of auditors, and for proposals to increase the independence of audit committees. Capitalization We will vote for a proposal to increase or decrease authorized common or preferred stock and the issuance of common stock, but will vote against a proposal to issue or convert preferred or multiple classes of stock if the board has unlimited rights to set the terms and conditions of the shares, or if the shares have voting rights inferior or superior to those of other shareholders. In addition, we will support a management proposal to: create or restore preemptive rights; approve a stock repurchase program; approve a stock split or reverse stock split; and, approve the issuance or exercise of stock warrants Acquisitions, mergers and corporate restructuring Proposals to merge with or acquire another company will be voted on a case-by-case basis, as will proposals for recapitalization, restructuring, leveraged buyout, sale of assets, bankruptcy or liquidation. We will vote against a reincorporation proposal if it would reduce shareholder rights. We will vote against a management proposal to ratify or adopt a poison pill or to establish C-2 a supermajority voting provision to approve a merger or other business combination. We would however support a management proposal to opt out of a state takeover statutory provision, to spin-off certain operations or divisions and to establish a fair price provision. Corporate Structure and Shareholder Rights In general, we support proposals that foster good corporate governance procedures and that provide shareholders with voting power equal to their equity interest in the company. To preserve shareholder rights, we will vote against a management proposal to restrict shareholders' right to: call a special meeting and to eliminate a shareholders' right to act by written consent. In addition, we will not support a management proposal to adopt a supermajority vote requirement to change certain by-law or charter provisions or a non-technical amendment to by-laws or a charter that reduces shareholder rights. Equity-based compensation Equity-based compensation is designed to attract, retain and motivate talented executives and independent directors, but should not be so significant as to materially dilute shareholders' interests. We will vote against the adoption or amendment of a stock option plan if: o the compensation committee is not fully independent o plan dilution is more than 10% of outstanding common stock, o the company allows or has allowed the re-pricing or replacement of underwater options in the past three fiscal years (or the exchange of underwater options) without shareholder approval. o the option is not premium priced or indexed, or does not vest based on future performance With respect to the adoption or amendment of employee stock purchase plans or a stock award plan, we will vote against management if: o the plan allows stock to be purchased at less than 85% of fair market value; o this plan dilutes outstanding common equity greater than 10% o all stock purchase plans, including the proposed plan, exceed 15% of outstanding common equity o the potential dilution from all company plans is more than 85% With respect to director stock incentive/option plans, we will vote against management if: 1. the minimum vesting period for options or time lapsing restricted stock is less than one year 2. the potential dilution for all company plans is more than 85% C-3 Other Business For routine business matters which are the subject of many proxy related questions, we will vote with management proposals to: o change the company name; o approve other business; o adjourn meetings; o make technical amendments to the by-laws or charters; o approve financial statements; o approve an employment agreement or contract. Shareholder Proposals Shareholders are permitted per SEC regulations to submit proposals for inclusion in a company's proxy statement. We will generally vote against shareholder proposals and in accordance with the recommendation of management except as follows where we will vote for proposals: o calling for shareholder ratification of auditors; o calling for auditors to attend annual meetings; o seeking to increase board independence; o requiring minimum stock ownership by directors; o seeking to create a nominating committee or to increase the independence of the nominating committee; o seeking to increase the independence of the audit committee. Corporate and social policy issues We believe that "ordinary business matters" are primarily the responsibility of management and should be approved solely by the corporation's board of directors. Proposals in this category, initiated primarily by shareholders, typically request that the company disclose or amend certain business practices. We generally vote against business practice proposals and abstain on social policy issues, though we may make exceptions in certain instances where we believe a proposal has substantial economic implications. C-4 John Hancock Advisers, LLC Sovereign Asset Management Corporation Proxy Voting Procedures The role of the proxy voting service John Hancock Advisers, LLC ("JHA") and Sovereign Asset Management Corporation ("Sovereign") have hired a proxy voting service to assist with the voting of client proxies. The proxy service coordinates with client custodians to ensure that proxies are received for securities held in client accounts and acted on in a timely manner. The proxy service votes all proxies received in accordance with the proxy voting guidelines established and adopted by JHA and Sovereign. When it is unclear how to apply a particular proxy voting guideline or when a particular proposal is not covered by the guidelines, the proxy voting service will contact the proxy oversight group coordinator for a resolution. The role of the proxy oversight group and coordinator The coordinator will interact directly with the proxy voting service to resolve any issues the proxy voting service brings to the attention of JHA or Sovereign. When a question arises regarding how a proxy should be voted the coordinator contacts the firm's investment professionals and the proxy oversight group for a resolution. In addition the coordinator ensures that the proxy voting service receives responses in a timely manner. Also, the coordinator is responsible for identifying whether, when a voting issue arises, there is a potential conflict of interest situation and then escalating the issue to the firm's Executive Committee. For securities out on loan as part of a securities lending program, if a decision is made to vote a proxy, the coordinator will manage the return/recall of the securities so the proxy can be voted. The role of mutual fund trustees The boards of trustees of our mutual fund clients have reviewed and adopted the proxy voting guidelines of the funds' investment adviser, JHA. The trustees will periodically review the proxy voting guidelines and suggest changes they deem advisable. Conflicts of interest Conflicts of interest are resolved in the best interest of clients. With respect to potential conflicts of interest, proxies will be voted in accordance with JHA's or Sovereign's predetermined policies. If application of the predetermined policy is unclear or does not address a particular proposal, a special internal review by the JHA Executive Committee or Sovereign Executive Committee will determine the vote. After voting, a report will be made to the client (in the case of an investment company, to the fund's board of trustees), if requested. An example of a conflict of interest created with respect to a proxy solicitation is when JHA or Sovereign must vote the proxies of companies that they provide investment advice to or are currently seeking to provide investment advice to, such as to pension plans. C-5 FINANCIAL STATEMENTS F-1 JOHN HANCOCK TAX-EXEMPT SERIES PART C. OTHER INFORMATION Item 23. Exhibits: The exhibits to this Registration Statement are listed in the Exhibit Index hereto and are incorporated herein by reference. Item 24. Persons Controlled by or under Common Control with Registrant. No person is directly or indirectly controlled by or under common control with Registrant. Item 25. Indemnification. Indemnification provisions relating to the Registrant's Trustees, officers, employees and agents is set forth in Article IV of the Registrant's Declaration of Trust included as Exhibit 1 herein. Under Section 12 of the Distribution Agreement, John Hancock Funds, Inc. ("John Hancock Funds") has agreed to indemnify the Registrant and its Trustees, officers and controlling persons against claims arising out of certain acts and statements of John Hancock Funds. Section 9(a) of the By-Laws of John Hancock Life Insurance Company ("the Insurance Company") provides, in effect, that the Insurance Company will, subject to limitations of law, indemnify each present and former director, officer and employee of the Insurance Company who serves as a Trustee or officer of the Registrant at the direction or request of the Insurance Company against litigation expenses and liabilities incurred while acting as such, except that such indemnification does not cover any expense or liability incurred or imposed in connection with any matter as to which such person shall be finally adjudicated not to have acted in good faith in the reasonable belief that his action was in the best interests of the Insurance Company. In addition, no such person will be indemnified by the Insurance Company in respect of any final adjudication unless such settlement shall have been approved as in the best interests of the Insurance Company either by vote of the Board of Directors at a meeting composed of directors who have no interest in the outcome of such vote, or by vote of the policyholders. The Insurance Company may pay expenses incurred in defending an action or claim in advance of its final disposition, but only upon receipt of an undertaking by the person indemnified to repay such payment if he should be determined not to be entitled to indemnification. Article V of the Limited Liability Company Agreement of John Hancock Advisers, LLC ("the Adviser") provide as follows: "Section 5.06. Indemnification and Exculpation." ------------------------------- (a) No Indemnitee, and no shareholder, director, officer, member, manager, partner, agent, representative, employee or Affiliate of an Indemnitee, shall have any liability to the Company or to any Member for any loss suffered by the Company (or the Corporation) which arises out of any action or inaction by such Indemnitee with respect to the Company (or the Corporation) if such Indemnitee so acted or omitted to act (i) in the good faith (A) belief that such course of conduct was in, or was not opposed to, the best interests of the Company (or the Corporation), or (B) reliance on the provisions of this Agreement, and (ii) such course of conduct did not constitute gross negligence or willful misconduct of such Indemnitee. (b) The Company shall, to the fullest extent permitted by applicable law, indemnify each person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, by reason of the fact that he is or was, or has agreed to become, a Director or Officer, or is or was serving, or has agreed to serve, at the request of the Company (or previously at the request of the Corporation), as a director, officer, manager or trustee of, or in a similar capacity with, another corporation, partnership, limited liability company, joint venture, trust or other enterprise (including any employee benefit plan) (all such persons being referred to hereafter as an "Indemnitee"), or by reason of any action alleged to have been taken or omitted in such capacity, against all expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by or on behalf of an Indemnitee in connection with such action, suit or proceeding and any appeal therefrom. C-1 (c) As a condition precedent to his right to be indemnified, the Indemnitee must notify the Company in writing as soon as practicable of any action, suit, proceeding or investigation involving him for which indemnity hereunder will or could be sought. With respect to any action, suit, proceeding or investigation of which the Company is so notified, the Company will be entitled to participate therein at its own expense and/or to assume the defense thereof at its own expense, with legal counsel reasonably acceptable to the Indemnitee. (d) In the event that the Company does not assume the defense of any action, suit, proceeding or investigation of which the Company receives notice under this Section 5.06, the Company shall pay in advance of the final disposition of such matter any expenses (including attorneys' fees) incurred by an Indemnitee in defending a civil or criminal action, suit, proceeding or investigation or any appeal therefrom; provided, however, that the payment of such expenses incurred by an Indemnitee in advance of the final disposition of such matter shall be made only upon receipt of an undertaking by or on behalf of the Indemnitee to repay all amounts so advanced in the event that it shall ultimately be determined that the Indemnitee is not entitled to be indemnified by the Company as authorized in this Section 5.06, which undertaking shall be accepted without reference to the financial ability of the Indemnitee to make such repayment; and further provided that no such advancement of expenses shall be made if it is determined that (i) the Indemnitee did not act in good faith and in a manner he reasonably believed to be in, or not opposed to, the best interests of the Company, or (ii) with respect to any criminal action or proceeding, the Indemnitee had reasonable cause to believe his conduct was unlawful. (e) The Company shall not indemnify an Indemnitee seeking indemnification in connection with a proceeding (or part thereof) initiated by such Indemnitee unless the initiation thereof was approved by the Board of Directors. In addition, the Company shall not indemnify an Indemnitee to the extent such Indemnitee is reimbursed from the proceeds of insurance, and in the event the Company makes any indemnification payments to an Indemnitee and such Indemnitee is subsequently reimbursed from the proceeds of insurance, such Indemnitee shall promptly refund such indemnification payments to the Company to the extent of such insurance reimbursement. (f) All determinations hereunder as to the entitlement of an Indemnitee to indemnification or advancement of expenses shall be made in each instance by (a) a majority vote of the Directors consisting of persons who are not at that time parties to the action, suit or proceeding in question ("Disinterested Directors"), whether or not a quorum, (b) a majority vote of a quorum of the outstanding Common Shares, which quorum shall consist of Members who are not at that time parties to the action, suit or proceeding in question, (c) independent legal counsel (who may, to the extent permitted by law, be regular legal counsel to the Company), or (d) a court of competent jurisdiction. (g) The indemnification rights provided in this Section 5.06 (i) shall not be deemed exclusive of any other rights to which an Indemnitee may be entitled under any law, agreement or vote of Members or Disinterested Directors or otherwise, and (ii) shall inure to the benefit of the heirs, executors and administrators of the Indemnitees. The Company may, to the extent authorized from time to time by its Board of Directors, grant indemnification rights to other employees or agents of the Company or other persons serving the Company and such rights may be equivalent to, or greater or less than, those set forth in this Section 5.06. Any indemnification to be provided hereunder may be provided although the person to be indemnified is no longer a Director or Officer. Article IX of the By-Laws of John Hancock Advisers, Inc. ("the Adviser") provide as follows: Item 26. Business and Other Connections of Investment Advisers. For information as to the business, profession, vocation or employment of a substantial nature of each of the officers and Directors of the Adviser, reference is made to Form ADV (801-8124) filed under the Investment Advisers Act of 1940, which is incorporated herein by reference. Item 27. Principal Underwriters. (a) John Hancock Funds acts as principal underwriter for the Registrant and also serves as principal underwriter or distributor of shares for John Hancock Cash Reserve, Inc., John Hancock Bond Trust, John Hancock Current Interest, John Hancock Series Trust, John Hancock Tax-Free Bond Trust, John Hancock California Tax-Free Income Fund, John Hancock Capital Series, John Hancock Sovereign Bond Fund, John Hancock Tax-Exempt Series, John Hancock Strategic Series, John Hancock World Fund, John Hancock Investment Trust, John Hancock Institutional Series Trust, John Hancock Investment Trust II, John Hancock Investment Trust III and John Hancock Equity Trust. (b) The following table lists, for each director and officer of John Hancock Funds, the information indicated. C-2
Name and Principal Positions and Offices Positions and Offices Business Address with Underwriter with Registrant ---------------- ---------------- --------------- James A. Shepherdson Director, Chairman, President Trustee, Chairman, 101 Huntington Avenue and Chief Executive and Chief Boston, Massachusetts Officer Executive Officer Richard A. Brown Senior Vice President, Senior Vice President 101 Huntington Avenue Chief Financial Officer and Chief Financial Officer Boston, Masachusetts Thomas J. Horack Chief Compliance None John Hancock Place Officer P.O. Box 111 Boston, Massachusetts Susan S. Newton Senior Vice President, Senior Vice President, Chief 101 Huntington Avenue Chief Legal Officer Legal Officer and Secretary Boston, Massachusetts and Secretary William H. King Assistant Treasurer Vice President and Treasurer 101 HUntington Avenue Boston, Massachusetts Jeffrey H. Long Vice President, Controller None 101 Huntington Avenue and Assistant Treasurer Boston, Massachusetts Thomas E. Moloney Director None John Hancock Place P.O. Box 111 Boston, Massachusetts Jeanne M. Livermore Director None John Hancock Place P.O. Box 111 Boston, Massachusetts John D. DesPrez III Director None John Hancock Place P.O. Box 111 Boston, Massachusetts C-3 Name and Principal Positions and Offices Positions and Offices Business Address with Underwriter with Registrant ---------------- ---------------- --------------- Mark C. Lapman Director None 53 State Street Boston, Massachusetts Keith F. Hartstein Executive Vice President None 101 Huntington Avenue Boston, Massachusetts Karen F. Walsh Vice President None 101 Huntington Avenue Boston, Massachusetts John T. Litzow Senior Vice President None 101 Huntington Avenue Boston, Massachusetts Kristine McManus Vice President None 101 Huntington Avenue Boston, Massachusetts (c) None. C-4 Item 28. Location of Accounts and Records The Registrant maintains the records required to be maintained by it under Rules 31a-1 (a), 31a-a(b), and 31a-2(a) under the Investment Company Act of 1940 as its principal executive offices at 101 Huntington Avenue, Boston Massachusetts 02199-7603. Certain records, including records relating to Registrant's shareholders and the physical possession of its securities, may be maintained pursuant to Rule 31a-3 at the main office of Registrant's Transfer Agent and Custodian. Item 29. Management Services Not applicable. Item 30. Undertakings (a) Not applicable. (b) Not applicable (c) The Registrant on behalf of each of its each of its series undertakes to furnish each person to whom a prospectus is delivered with a copy of such series' annual report to shareholders, upon request and without charge. C-5 SIGNATURES Pursuant to the requirements of the Securities Act of 1933 and the Investment Company Act of 1940, the Registrant has duly caused this Registration Statement to be signed on its behalf by the undersigned, thereto duly authorized, in the City of Boston, and the State of Massachusetts on the 26th day of October, 2004. JOHN HANCOCK TAX EXEMPT SERIES FUND By: * --------------------------- James A. Shepherdson President and Chief Executive Officer Pursuant to the requirements of the Securities Act of 1933, the Registration has been signed below by the following persons in the capacities and on the dates indicated. Signature Title Date --------- ----- ---- * ------------------------ Trustee, President October 26, 2004 James A. Shepherdson and Chief Executive Officer * ------------------------ Senior Vice President Richard A. Brown and Chief Financial Officer /s/William H. King ------------------------ Vice President, Treasurer William H. King (Chief Accounting Officer) * ------------------------ Trustee Dennis S. Aronowitz * ------------------------ Trustee Richard P. Chapman, Jr. * ------------------------ Trustee William J. Cosgrove * ------------------------ Trustee Richard A. Farrell * ------------------------ Trustee William F. Glavin * ------------------------ Chairman and Trustee James L. Ladner * ------------------------ Trustee John A. Moore * ------------------------ Trustee Patti McGill Peterson* * ------------------------ Trustee John W. Pratt *By: /s/Susan S. Newton October 26, 2004 ------------------ Susan S. Newton Attorney-in-Fact under Powers of Attorney dated June 23, 2001, September 12, 2001, May 12, 2004 and June 15, 2004.+ C-6 Panel A John Hancock Capital Series John Hancock Strategic Series John Hancock Declaration Trust John Hancock Tax-Exempt Series Fund John Hancock Income Securities Trust John Hancock World Fund John Hancock Investors Trust John Hancock Investment Trust II John Hancock Equity Trust John Hancock Investment Trust III John Hancock Sovereign Bond Fund Panel B John Hancock Bank and Thrift Opportunity Fund John Hancock Patriot Premium Dividend Fund I John Hancock Bond Trust John Hancock Patriot Premium Dividend Fund II John Hancock California Tax-Free Income Fund John Hancock Patriot Select Dividend Trust John Hancock Current Interest John Hancock Series Trust John Hancock Institutional Series Trust John Hancock Tax-Free Bond Trust John Hancock Investment Trust John Hancock Preferred Income Fund John Hancock Cash Reserve, Inc. John Hancock Preferred Income Fund II John Hancock Patriot Global Dividend Fund John Hancock Preferred Income Fund III John Hancock Preferred Dividend Fund John Hancock Tax-Advantaged Dividend Income Fund John Hancock Premium Dividend Fund POWER OF ATTORNEY ----------------- The undersigned Trustee and Officer of each of the above listed Trusts, each a Massachusetts business trust, does hereby severally constitute and appoint SUSAN S. NEWTON and AVERY P. MAHER, and each acting singly, to be my true, sufficient and lawful attorneys, with full power to each of them, and each acting singly, to sign for me, in my name and in the capacity indicated below, any Registration Statement on Form N-1A and any Registration Statement on Form N-14 to be filed by the Trust under the Investment Company Act of 1940, as amended (the "1940 Act"), and under the Securities Act of 1933, as amended (the "1933 Act"), and any and all amendments to said Registration Statements, with respect to the offering of shares and any and all other documents and papers relating thereto, and generally to do all such things in my name and on my behalf in the capacity indicated to enable the Trust to comply with the 1940 Act and the 1933 Act, and all requirements of the Securities and Exchange Commission thereunder, hereby ratifying and confirming my signature as it may be signed by said attorneys or each of them to any such Registration Statements and any and all amendments thereto. IN WITNESS WHEREOF, I have hereunder set my hand on this Instrument as of the 12th day of May, 2004 By: /s/James A. Shepherdson ----------------------- Name: James A. Shepherdson, as Title: Trustee, President and Chief Executive Officer Panel A John Hancock Capital Series John Hancock Strategic Series John Hancock Declaration Trust John Hancock Tax-Exempt Series Fund John Hancock Income Securities Trust John Hancock World Fund John Hancock Investors Trust John Hancock Investment Trust II John Hancock Equity Trust John Hancock Investment Trust III John Hancock Sovereign Bond Fund POWER OF ATTORNEY The undersigned Trustee of each of the above listed Trusts, each a Massachusetts business trust, does hereby severally constitute and appoint WILLIAM H. KING, AVERY P. MAHER AND SUSAN S. NEWTON, and each acting singly, to be my true, sufficient and lawful attorneys, with full power to each of them, and each acting singly, to sign for me, in my name and in the capacity indicated below, any Registration Statement on Form N-1A and any Registration Statement on Form N-14 to be filed by the Trust under the Investment Company Act of 1940, as amended (the "1940 Act"), and under the Securities Act of 1933, as amended (the "1933 Act"), and any and all amendments to said Registration Statements, with respect to the offering of shares and any and all other documents and papers relating thereto, and generally to do all such things in my name and on my behalf in the capacity indicated to enable the Trust to comply with the 1940 Act and the 1933 Act, and all requirements of the Securities and Exchange Commission thereunder, hereby ratifying and confirming my signature as it may be signed by said attorneys or each of them to any such Registration Statements and any and all amendments thereto. IN WITNESS WHEREOF, I have hereunder set my hand on this Instrument as of the 15th day of June, 2004. /s/Charles L. Ladner Charles L. Ladner Trustee John Hancock Capital Series John Hancock Strategic Series John Hancock Declaration Trust John Hancock Tax-Exempt Series Fund John Hancock Income Securities Trust John Hancock World Fund John Hancock Investors Trust John Hancock Investment Trust II John Hancock Equity Trust John Hancock Investment Trust III John Hancock Sovereign Bond Fund POWER OF ATTORNEY ----------------- The undersigned Trustee/Officer of each of the above listed Trusts, each a Massachusetts business trust or Maryland corporation, does hereby severally constitute and appoint Susan S. Newton, WILLIAM h. KING, and AVERY P. MAHER, and each acting singly, to be my true, sufficient and lawful attorneys, with full power to each of them, and each acting singly, to sign for me, in my name and in the capacity indicated below, any Registration Statement on Form N-1A and any Registration Statement on Form N-14 to be filed by the Trust under the Investment Company Act of 1940, as amended (the "1940 Act"), and under the Securities Act of 1933, as amended (the "1933 Act"), and any and all amendments to said Registration Statements, with respect to the offering of shares and any and all other documents and papers relating thereto, and generally to do all such things in my name and on my behalf in the capacity indicated to enable the Trust to comply with the 1940 Act and the 1933 Act, and all requirements of the Securities and Exchange Commission thereunder, hereby ratifying and confirming my signature as it may be signed by said attorneys or each of them to any such Registration Statements and any and all amendments thereto. IN WITNESS WHEREOF, I have hereunder set my hand on this Instrument as of the 12th day of September, 2001. /s/Maureen R. Ford /s/Gail D. Fosler ---------------------------- ----------------- Maureen R. Ford, as Chairman Gail D. Fosler and Chief Exective Officer /s/John M. DeCiccio /s/William F. Glavin ---------------------------- -------------------- John M. DeCiccio, as Trustee William F. Glavin /s/Dennis S. Aronowitz /s/John A. Moore ---------------------- ---------------- Dennis S. Aronowitz John A. Moore /s/Richard P. Chapman, Jr. /s/Patti McGill Peterson -------------------------- ------------------------ Richard P. Chapman, Jr. Patti McGill Peterson /s/William J. Cosgrove /s/John W. Pratt ---------------------- ---------------- William J. Cosgrove John W. Pratt /s/Richard A. Farrell --------------------- Richard A. Farrell Panel A ------- John Hancock Capital Series John Hancock Strategic Series John Hancock Declaration Trust John Hancock Tax-Exempt Series Fund John Hancock Income Securities Trust John Hancock World Fund John Hancock Investors Trust John Hancock Investment Trust II John Hancock Equity Trust John Hancock Investment Trust III John Hancock Sovereign Bond Fund Panel B ------- John Hancock Bank and Thrift Opportunity Fund John Hancock Patriot Global Dividend Fund John Hancock Bond Trust John Hancock Patriot Preferred Dividend Fund John Hancock California Tax-Free Income Fund John Hancock Patriot Premium Dividend Fund I John Hancock Current Interest John Hancock Patriot Premium Dividend Fund II John Hancock Institutional Series Trust John Hancock Patriot Select Dividend Trust John Hancock Investment Trust John Hancock Series Trust John Hancock Cash Reserve, Inc. John Hancock Tax-Free Bond Trust POWER OF ATTORNEY ----------------- The undersigned Officer of each of the above listed Trusts, each a Massachusetts business trust, or Maryland Corporation, does hereby severally constitute and appoint SUSAN S. NEWTON, WILLIAM H. KING, AND AVERY P. MAHER, and each acting singly, to be my true, sufficient and lawful attorneys, with full power to each of them, and each acting singly, to sign for me, in my name and in the capacity indicated below, any Registration Statement on Form N-1A and any Registration Statement on Form N-14 to be filed by the Trust under the Investment Company Act of 1940, as amended (the "1940 Act"), and under the Securities Act of 1933, as amended (the "1933 Act"), and any and all amendments to said Registration Statements, with respect to the offering of shares and any and all other documents and papers relating thereto, and generally to do all such things in my name and on my behalf in the capacity indicated to enable the Trust to comply with the 1940 Act and the 1933 Act, and all requirements of the Securities and Exchange Commission thereunder, hereby ratifying and confirming my signature as it may be signed by said attorneys or each of them to any such Registration Statements and any and all amendments thereto. IN WITNESS WHEREOF, I have hereunder set my hand on this Instrument as of the 23rd day of June, 2001. By: /s/Richard A. Brown ------------------- Name: Richard A. Brown Title: Chief Financial Officer Commonwealth of Massachusetts )ss ------------------------------------------------------------------------- COUNTY OF Suffolk )ss --------------------------------------------------------------- Then personally appeared the above-named Richard A. Brown who acknowledged the foregoing instrument to be his free act and deed, before me, this 23rd day of June, 2001 /s/Erika L. Nager ----------------- Notary Public My Commission Expires: June 14, 2007 ------------- John Hancock Tax-Exempt Series Trust INDEX TO EXHIBITS 99.(a) Articles of Incorporation. Amended and Restated Declaration of Trust dated 7/1/96.** 99.(a).1 Establishment and Designation of Class A Shares and Class B Shares of Beneficial Interest dated July 1, 1996.** 99.(a).2 Amendment of Section 5.11 and Establishment and Designation of Class C shares of Beneficial Interest of Massachusetts Tax-Free Income Fund and New York Tax-Free Income Fund dated December 8 1998.******* 99.(a).3 Instrument Fixing the Number of Trustees and Appointing Individual to Fill Vacancy dated December 7, 1999.******** 99.(b) By-Laws. Amended and Restated By-Laws dated December 3, 1996.** 99.(b).1 Amendment to By-Laws for all open end funds to add Abstentions and Broker Non-Votes effective March 1, 2002.# 99.(c) Instruments Defining Rights of Security Holders. See Exhibit 99.(a) and 99.(b). 99.(d) Investment Advisory Contracts. Investment Management Contract between the New York Tax-Free Income Fund and John Hancock Advisers, Inc. dated July 1, 1996.** 99.(d).1 Investment Management Contract between Massachusetts Tax-Free Income Fund and John Hancock Advisers, Inc. dated July 1, 1996.** 99.(e) Underwriting Contracts. Distribution Agreement between John Hancock Broker Distribution Services, Inc. dated August 1, 1991.* 99.(e).1 Form of Soliciting Dealer Agreement between John Hancock Broker Distribution, Inc. and Selected Dealers.## 99.(f) Bonus or Profit Sharing Contracts. Not Applicable. 99.(g) Custodian Agreements. Custody Agreement between John Hancock Mutual Funds and Bank of New York dated September 10, 2001.********* 99.(h) Other Material Contracts. Amended and Restated Master Transfer Agency and Service Agreement between John Hancock Funds and John Hancock Signature Services, Inc. dated June 1, 1998.**** 99.(h).1 Amendment to the Amended and Restated Master Transfer Agency and Service Agreement between John Hancock Funds and John Hancock Signature Services, Inc. dated June 1, 1998 Anti-Money Laundering and Privacy effective July 1, 2003.## 99.(h).2 Amendment to the Amended and Restated Master Transfer Agency and Service Agreement dated June 1, 1998 between John Hancock Funds and John Hancock Signature Services, Inc. effective July 1, 2004.+ 99.(i) Legal Opinion.+ 99.(j) Other Opinions. Auditor's Consent. Not applicable. 99.(k) Omitted Financial Statements. Not Applicable. 99.(l) Initial Capital Agreements. Subscription agreement between Registrant and John Hancock Advisers, Inc.* 99.(m) Rule 12b-1 Plan. Amended and Restated Distribution Plan for Class A shares between John Hancock Tax-Exempt Series Fund and John Hancock Funds, Inc. dated July 1, 1996.*** 99.(m).1 Rule 12b-1 Plan. Amended and Restated Distribution Plan for Class B shares between John Hancock TaxExempt Series Fund and John Hancock Funds, Inc. dated July 1, 1996.** 99.(m).2 Rule 12-b1 Plan. Amended and Restated Distribution Plan for Class C shares between John Hancock Massachusetts Tax-Free Income Fund and John Hancock New York Tax-Free Income Fund and John Hancock Funds, Inc. dated April 1, 1999.******* 99.(n) Financial Data Schedule. Not Applicable 99.(o) Rule 18f-3 Plan. John Hancock Funds Class A and Class B Multiple Class Plan Pursuant to Rule 18f-3 dated May 1, 1998.**** 99.(o).1 John Hancock Funds Class A, Class B and Class C amended and restated Multiple Class Plan pursuant to Rule 18f-3 for John Hancock Tax Exempt Series dated April 1, 1999.****** 99.(p) Code of Ethics. John Hancock Advisers, LLC and each John Hancock fund dated May 1, 2004.## C-7 * Previously filed electronically with post-effective amendment no. 10, file nos. 811-5079 and 33-12947 on December 25, 1995, accession number 0000950156-95-000881. ** Previously filed electronically with post-effective amendment no. 12 file nos. 811-5079 and 33- 12947 on December 20, 1996, accession number 0001010521-96-000226. *** Previously filed electronically with post-effective amendment no. 13, file nos. 811-5079 and 33-12947 on December 23, 1997, accession number 0001010521-97-000441. **** Previously filed electronically with post-effective amendment no. 14, file nos. 811-5079 and 33-12947 on October 13, 1998, accession nu,ber 0001010521-98-000347. ***** Previously filed electronically with post-effective amendment no. 15, file nos. 811-5079 and 33-12947 on December 28, 1998, accession number 0001010521-98-000404. ****** Previously filed electronically with post-effective amendment no. 16, file nos. 811-5079 and 33-12947 on January 25, 1999, accession number 0001010521-99-000057. ******* Previously filed electronically with post-effective amendment no. 17, file nos. 811-5079 and 33-12947 on December 27, 1999, accession number 0001010521-99-000399. ******** Previously filed electronically with post-effective amendment no. 18, file nos. 811-5079 and 33-12947 on October 25, 2000, accession number 0001010521-00-000438. ********* Previously filed electronically with post-effective amendment no. 19, file nos. 811-5079 and 33-12947 on October 30, 2001, accession number 0001010521-01-500240. # Previously filed electronically with post-effective amendment no. 22, file nos. 811-5079 and 33-12947 on December 27, 2002, accession number 0001010521-02-000369. ## Previously filed electronically with post-effective amendment no. 23, file nos. 811-5079 and 33-12947 on December 29, 2003, accession number 0001010521-03-000397. + Filed herewith.
C-8