STATEMENT OF ADDITIONAL INFORMATION

   SCHWAB CORE EQUITY FUND TM             SCHWAB SMALL-CAP EQUITY FUND TM

  SCHWAB HEDGED EQUITY FUND TM            SCHWAB DIVIDEND EQUITY FUND TM

SCHWAB FINANCIAL SERVICES FUND TM          SCHWAB MARKETTRACK PORTFOLIOS(R)
   SCHWAB HEALTH CARE FUND TM                    ALL EQUITY PORTFOLIO
    SCHWAB TECHNOLOGY FUND TM                      GROWTH PORTFOLIO
                                                  BALANCED PORTFOLIO
                                                CONSERVATIVE PORTFOLIO

     SCHWAB EQUITY INDEX FUNDS           SCHWAB INSTITUTIONAL SELECT(R) FUNDS
     SCHWAB S&P 500 INDEX FUND       SCHWAB INSTITUTIONAL SELECT(R) S&P 500 FUND
     SCHWAB 1000 INDEX(R) FUND         SCHWAB INSTITUTIONAL SELECT(R) LARGE-CAP
   SCHWAB SMALL-CAP INDEX FUND(R)                  VALUE INDEX FUND
  SCHWAB TOTAL STOCK MARKET INDEX      SCHWAB INSTITUTIONAL SELECT(R) SMALL-CAP
              FUND(R)                              VALUE INDEX FUND
 SCHWAB INTERNATIONAL INDEX FUND(R)

   SCHWAB PREMIER EQUITY FUND TM                 SCHWAB TARGET FUNDS
                                               SCHWAB TARGET 2010 FUND
                                               SCHWAB TARGET 2020 FUND
                                               SCHWAB TARGET 2030 FUND
                                               SCHWAB TARGET 2040 FUND
                                            SCHWAB RETIREMENT INCOME FUND

                                FEBRUARY 28, 2005
                             AS AMENDED JULY 22, 2005

The Statement of Additional Information (SAI) is not a prospectus. It should be
read in conjunction with each fund's prospectus. This SAI relates to the Schwab
Premier Equity Fund's prospectus dated February 12, 2005, the Schwab Target
Funds prospectus dated May 22, 2005, and each of the other funds' prospectuses
dated February 28, 2005 (each as amended from time to time). To obtain a free
copy of any of the prospectuses, please contact Schwab Funds(R) at
1-800-435-4000 or write to the funds at P.O. Box 3812, Englewood, CO 80155-3812.
For TDD service call 1-800-345-2550. The prospectuses also may be available on
the Internet at: http://www.schwab.com/schwabfunds.

Each fund, except for the Schwab 1000 Index Fund, is a series of Schwab Capital
Trust (a trust) and the Schwab 1000 Index Fund is a series of Schwab Investments
(a trust), (collectively referred to as the "trusts"). The funds are part of the
Schwab complex of funds ("Schwab Funds").

As applicable, The funds' audited financial statements from the funds' annual
reports for the fiscal year ended October 31, 2004, are incorporated by
reference into this SAI. A copy of a fund's 2004 annual report is delivered with
the SAI.

For the Schwab Equity Index Funds, which each include a summary portfolio
schedule in its shareholder report, each of the fund's 2004 annual full
portfolio schedule from Form N-CSR is a separate document delivered with the SAI
and is incorporated by reference into this SAI.


                                       1

                                TABLE OF CONTENTS

                                                                            Page
                                                                            ----
INVESTMENT OBJECTIVES, STRATEGIES, RISKS AND LIMITATIONS                       3
MANAGEMENT OF THE FUNDS                                                       43
DESCRIPTION OF PROXY VOTING POLICY AND PROCEDURES                             57
CONTROL PERSONS AND PRINCIPAL HOLDERS OF SECURITIES                           63
INVESTMENT ADVISORY AND OTHER SERVICES                                        64
BROKERAGE ALLOCATION AND OTHER PRACTICES                                      74
DESCRIPTION OF THE TRUST                                                      81
PURCHASE, REDEMPTION, DELIVERY OF SHAREHOLDER
DOCUMENTS AND PRICING OF SHARES                                               82
TAXATION                                                                      85


                                       2

            INVESTMENT OBJECTIVES, STRATEGIES, RISKS AND LIMITATIONS

                              INVESTMENT OBJECTIVES

The SCHWAB FINANCIAL SERVICES FUND TM, SCHWAB HEALTH CARE FUND TM, and SCHWAB
TECHNOLOGY FUND TM each seek long-term capital growth.

The SCHWAB S&P 500 INDEX FUND seeks to track the price and dividend performance
(total return) of stocks of U.S. companies, as represented by Standard & Poor's
500 Composite Stock Price Index (the S&P 500(R)).

The SCHWAB 1000 INDEX(R) FUND seeks to match the total return of the Schwab 1000
Index(R), an index created to represent performance of publicly traded equity
securities of the 1,000 largest U.S. companies.

The SCHWAB SMALL-CAP INDEX FUND(R) seeks to track the performance of a benchmark
index that measures total return of small capitalization U.S. stocks.

The SCHWAB TOTAL STOCK MARKET INDEX FUND(R) seeks to track the total return of
the entire U.S. stock market.

The SCHWAB INTERNATIONAL INDEX FUND(R) seeks to track the performance of a
benchmark index that measures the total return of large, publicly traded
non-U.S. companies from countries with developed equity markets outside of the
United States.

The SCHWAB S&P 500 INDEX FUND, SCHWAB 1000 INDEX FUND, SCHWAB SMALL-CAP INDEX
FUND, SCHWAB TOTAL STOCK MARKET INDEX FUND, and SCHWAB INTERNATIONAL INDEX FUND
are collectively referred to as the "EQUITY INDEX FUNDS."

The SCHWAB INSTITUTIONAL SELECT(R) S&P 500 FUND, SCHWAB INSTITUTIONAL SELECT(R)
LARGE-CAP VALUE INDEX FUND, and SCHWAB INSTITUTIONAL SELECT(R) SMALL-CAP VALUE
INDEX FUND (collectively, the "SCHWAB INSTITUTIONAL SELECT FUNDS") each seek
high total return.

The SCHWAB MARKETTRACK ALL EQUITY PORTFOLIO TM seeks high capital growth over
the long term.

The SCHWAB MARKETTRACK GROWTH PORTFOLIO TM seeks high capital growth with less
volatility than an all stock portfolio.

The SCHWAB MARKETTRACK BALANCED PORTFOLIO TM seeks maximum total return,
including both capital growth and income.

The SCHWAB MARKETTRACK CONSERVATIVE PORTFOLIO TM seeks income and more growth
potential than an all bond fund.

The SCHWAB MARKETTRACK ALL EQUITY PORTFOLIO, GROWTH PORTFOLIO, BALANCED
PORTFOLIO, and CONSERVATIVE PORTFOLIO are referred to collectively as the
"MARKETTRACK PORTFOLIOS(R)."

The SCHWAB CORE EQUITY FUND TM seeks long-term capital growth.

The SCHWAB SMALL-CAP EQUITY FUND TM seeks long-term capital growth.


                                       3

The SCHWAB HEDGED EQUITY FUND TM seeks long-term capital appreciation over
market cycles with lower volatility than the broad equity market.

The SCHWAB DIVIDEND EQUITY FUND TM seeks current income and capital
appreciation.

The SCHWAB PREMIER EQUITY FUND TM seeks long-term capital growth.

The SCHWAB RETIREMENT INCOME FUND seeks to provide current income and, as a
secondary investment objective, capital appreciation.

The SCHWAB RETIREMENT 2010, SCHWAB RETIREMENT 2020, SCHWAB RETIREMENT 2030 AND
SCHWAB RETIREMENT 2040 FUNDS each seeks to provide capital appreciation and
income consistent with its current asset allocation.

The SCHWAB RETIREMENT INCOME FUND, SCHWAB RETIREMENT 2010 FUND, SCHWAB
RETIREMENT 2020 FUND, SCHWAB RETIREMENT 2030 FUND AND SCHWAB RETIREMENT 2040
FUND are referred to collectively as the "Schwab Target Funds."

The investment objective for each fund may be changed only by vote of a majority
of its outstanding voting shares. A majority of the outstanding voting shares of
a fund means the affirmative vote of the lesser of: (a) 67% or more of the
voting shares represented at the meeting, if more than 50% of the outstanding
voting shares of the fund are represented at the meeting or (b) more than 50% of
the outstanding voting shares of a fund. There is no guarantee a fund will
achieve its objective.

                              INVESTMENT STRATEGIES

The following investment strategies, risks and limitations supplement those set
forth in the prospectus and may be changed without shareholder approval unless
otherwise noted. Also, policies and limitations that state a maximum percentage
of assets that may be invested in a security or other asset, or that set forth a
quality standard, shall be measured immediately after and as a result of a
fund's acquisition of such security or asset unless otherwise noted. Thus, any
subsequent change in values, net assets or other circumstances does not require
a fund to sell an investment if it could not then make the same investment. Not
all investment securities or techniques discussed below are eligible investments
for each fund.

THE SCHWAB FINANCIAL SERVICES FUND TM will, under normal circumstances, invest
at least 80% of its net assets in equity securities issued by companies in the
financial services sector. The fund will notify its shareholders at least 60
days before changing this policy. For purposes of this policy, net assets mean
net assets plus the amount of any borrowings for investment purposes. The
investments may include, for example, commercial banks, savings and loan
associations, insurance companies, brokerage companies, asset management firms,
real estate investment trusts and financial services firms.

The financial services sector is currently undergoing relatively rapid change as
existing distinctions between financial service segments become less clear. For
instance, recent business combinations have included insurance, finance, and
securities brokerage under single ownership. Some primarily retail corporations
have expanded into securities and insurance industries. Moreover, the federal
laws generally separating commercial and investment banking were revised to
permit a greater level of affiliation between financial services companies.

Rule 12d3-1 under the Investment Company Act of 1940 (the "1940 Act") limits the
extent to which a fund may invest in the securities of any one company that
derives more than 15% of its revenues from brokerage,


                                       4

underwriting or investment management activities. A fund may purchase securities
of an issuer that derived more than 15% of its gross revenues in its most recent
fiscal year from securities-related activities, subject to the following
conditions: (1) the purchase cannot cause more than 5% of the fund's total
assets to be invested in securities of that issuer; (2) for any equity security,
the purchase cannot result in the fund owning more than 5% of the issuer's
outstanding securities in that class; and (3) for a debt security, the purchase
cannot result in the fund owning more than 10% of the outstanding principal
amount of the issuer's debt securities.

THE SCHWAB HEALTH CARE FUND TM will, under normal circumstances, invest at least
80% of its net assets in equity securities issued by companies in the health
care sector. The fund will notify its shareholders at least 60 days before
changing this policy. For purposes of this policy, net assets mean net assets
plus the amount of any borrowings for investment purposes. The investments may
include, for example, companies engaged in the design, manufacture, or sale of
products or services used for or in connection with health care or medicine,
biotechnology and drug companies, health care facilities operators, medical
product manufacturers and suppliers, medical services firms and medical
providers.

THE SCHWAB TECHNOLOGY FUND TM will, under normal circumstances, invest at least
80% of its net assets in equity securities issued by companies in the technology
sector. The fund will notify its shareholders at least 60 days before changing
this policy. For purposes of this policy, net assets mean net assets plus the
amount of any borrowings for investment purposes. The investments may include,
for example, companies that develop, produce, or distribute products or services
in the electronic equipment, semiconductor, computer hardware and software,
office equipment, Internet and defense and aerospace industries.

SCHWAB EQUITY INDEX FUNDS:

THE SCHWAB S&P 500 INDEX FUND will, under normal circumstances, invest at least
80% of its net assets in securities included in the S&P 500. The fund will
notify its shareholders at least 60 days before changing this policy. For
purposes of this policy, net assets mean net assets plus the amount of any
borrowings for investment purposes.

The S&P 500 is, generally, representative of the performance of the U.S. stock
market. The index consists of 500 stocks chosen for market size, liquidity and
industry group representation. It is a market value weighted index (stock price
times number of shares outstanding), with each stock's weight in the index
proportionate to its market value. The S&P 500 does not contain the 500 largest
stocks, as measured by market capitalization. Although many of the stocks in the
index are among the largest, it also includes some relatively small companies.
Those companies, however, generally are established companies within their
industry group. Standard & Poor's (S&P) identifies important industry groups
within the U.S. economy and then allocates a representative sample of stocks
with each group to the S&P 500. There are four major industry sectors within the
index: industrials, utilities, financials and transportation. The fund may
purchase securities of companies with which it is affiliated to the extent these
companies are represented in its index.

The Schwab S&P 500 Index Fund is not sponsored, endorsed, sold or promoted by
S&P. S&P makes no representation or warranty, express or implied, to the
shareholders of the Schwab S&P 500 Index Fund or any member of the public
regarding the advisability of investing in securities generally or in the Schwab
S&P 500 Index Fund particularly or the ability of the S&P 500 Index to track
general stock market performance. S&P's only relationship to the Schwab S&P 500
Index Fund is the licensing of certain trademarks and trade names of S&P and of
the S&P 500 Index, which is determined, composed and calculated by S&P without
regard to the Schwab S&P 500 Index Fund. S&P has no obligation to take the needs
of the Schwab S&P 500 Index Fund or its shareholders into consideration in
determining, composing or calculating the S&P 500 Index. S&P is not responsible
for and has not participated in the determination of the prices and amount of
Schwab S&P 500 Index Fund shares or in the determination or


                                       5

calculation of the equation by which the Schwab S&P 500 Index Fund's shares are
to be converted into cash. S&P has no obligation or liability in connection with
the administration, marketing or trading of the Schwab S&P 500 Index Fund's
shares.

S&P does not guarantee the accuracy and/or the completeness of the S&P 500
Index or any data included therein, and S&P shall have no liability for any
errors, omissions or interruptions therein. S&P makes no warranty, express or
implied, as to results to be obtained by the Schwab S&P 500 Index Fund, its
shareholders or any other person or entity from the use of the S&P 500(R)
Index or any data therein. S&P makes no express or implied warranties and
expressly disclaims all warranties of merchantability or fitness for a
particular purpose or use with respect to the S&P 500 Index or any data included
therein. Without limiting any of the foregoing, in no event shall S&P have any
liability for any special, punitive, indirect or consequential damages
(including lost profits), even if notified of the possibility of such damages.

THE SCHWAB 1000 INDEX(R) FUND will, under normal circumstances, invest at least
80% of its net assets in securities included in the Schwab 1000 Index. The fund
will notify its shareholders at least 60 days before changing this policy. For
purposes of this policy, net assets mean net assets plus the amount of any
borrowings for investment purposes.

To be included in the Schwab 1000 Index, a company must satisfy all of the
following criteria: (1) it must be an "operating company" (i.e., not an
investment company) or real estate investment trust incorporated in the United
States, its territories or possessions; (2) a liquid market for its common
shares must exist on the New York Stock Exchange (NYSE), American Stock Exchange
(AMEX) or the NASDAQ/NMS and (3) its market value must place it among the top
1,000 such companies as measured by market capitalization (share price times the
number of shares outstanding). The fund may purchase securities of companies
with which it is affiliated to the extent these companies are represented in its
index.

As of October 31, 2004, the aggregate market capitalization of the stocks
included in the Schwab 1000 Index was approximately $12 trillion. This
represents approximately 87% of the total market value of all publicly traded
U.S. companies, as represented by the Dow Jones Wilshire 5000 Composite Index.

THE SCHWAB SMALL-CAP INDEX FUND(R) will, under normal circumstances, invest at
least 80% of its net assets in securities included in the benchmark index. The
fund will notify its shareholders at least 60 days before changing this policy.
For purposes of this policy, net assets mean net assets plus the amount of any
borrowings for investment purposes.

The Schwab Small-Cap Index Fund intends to achieve its investment objective by
tracking the price and dividend performance (total return) of the Schwab
Small-Cap Index(R) (Small-Cap Index). The Schwab Small-Cap Index was created to
represent the performance of equity securities of the second 1,000 largest U.S.
companies, ranked by market capitalization (share price times the number of
shares outstanding).

To be included in the Schwab Small-Cap Index, a company must satisfy all of the
following criteria: (1) it must be an "operating company" (i.e., not an
investment company) or a real estate investment trust incorporated in the United
States, its territories or possessions; (2) a liquid market for its common
shares must exist on the NYSE, AMEX or the NASDAQ/NMS and (3) its market value
must place it among the second-largest 1,000 such companies as measured by
market capitalization (i.e., from the company with a rank of 1,001 through the
company with a rank of 2,000). The fund may purchase securities of companies
with which it is affiliated to the extent these companies are represented in its
index.


                                       6

THE SCHWAB TOTAL STOCK MARKET INDEX FUND(R) will, under normal circumstances,
invest at least 80% of its net assets in securities included in the benchmark
index. The fund will notify its shareholders at least 60 days before changing
this policy. For purposes of this policy, net assets mean net assets plus the
amount of any borrowings for investment purposes.

In pursuing its objective, the fund uses the Dow Jones Wilshire 5000 Composite
Index to measure the total return of the U.S. stock market. The Dow Jones
Wilshire 5000 Composite Index is representative of the performance of the entire
U.S. stock market. The index measures the performance of all U.S. headquartered
equity securities with readily available pricing data. It is a market-value
weighted index consisting of approximately 5,012 stocks as of October 31, 2004.
The fund may purchase securities of companies with which it is affiliated to the
extent these companies are represented in its index.

"Dow Jones," "Wilshire," "The Dow Jones Wilshire 5000 SM" and "The Dow Jones
Wilshire 5000 Composite Index SM" are service marks of Dow Jones & Company, Inc.
and Wilshire Associates Incorporated and have been licensed for use for certain
purposes by Charles Schwab & Co. Inc. The Schwab Total Stock Market Index
Fund(R) based on The Dow Jones Wilshire 5000 Composite Index SM, is not
sponsored, endorsed, sold or promoted by Dow Jones or Wilshire and neither Dow
Jones nor Wilshire makes any representation regarding the advisability of
investing in such product.

Because it would be too expensive to buy all of the stocks included in the
index, the investment adviser may use statistical sampling techniques in an
attempt to replicate the total return of the U.S. stock market using a smaller
number of securities. These techniques use a smaller number of index securities
than that included in the index, which, when taken together, are expected to
perform similarly to the index. These techniques are based on a variety of
factors, including capitalization, dividend yield, price/earnings ratio, and
industry factors.

THE SCHWAB INTERNATIONAL INDEX FUND(R) will, under normal circumstances, invest
at least 80% of its net assets in stocks included in the benchmark index. The
fund will notify its shareholders at least 60 days before changing this policy.
For purposes of this policy, net assets mean net assets plus the amount of any
borrowings for investment purposes.

The Schwab International Index Fund intends to achieve its investment objective
by tracking the price and dividend performance (total return) of the Schwab
International Index(R) (International Index). The International Index was
created to represent the performance of common stocks and other equity
securities issued by large publicly traded companies from countries around the
world with major developed securities markets, excluding the United States.

To be included in the International Index the securities must be issued by an
operating company (i.e., not an investment company) whose principal trading
market is in a country with a major developed securities market outside the
United States. In addition, 350 of the largest companies are selected based on
the market value of the company's outstanding securities as measured by
free-float adjusted market capitalization (share price times the number of
shares available for purchase by international investors). The free-float
available for purchase by international investors generally excludes shares held
by strategic investors (such as governments, corporations, controlling
shareholders and management) and shares subject to foreign ownership
restrictions. The fund may purchase securities of companies with which it is
affiliated to the extent these companies are represented in its index. By
tracking the largest companies in developed markets, the index represents the
performance of what some analysts deem the "blue chips" of international
markets. The index also is designed to provide a broad representation of the
international market, by limiting investments by country to no more than 35% of
the total market capitalization of the index. The International Index was first
made available to the public on July 29, 1993.


                                       7

The Schwab 1000 Index(R), Small-Cap Index and International Index were developed
and are maintained by Schwab. Schwab receives no compensation from the funds for
maintaining these indices. Schwab reviews and, as necessary, revises the lists
of companies whose securities are included in the Schwab 1000 Index, the
Small-Cap Index and the International Index usually annually. Companies known by
Schwab to meet or no longer meet the inclusion criteria may be added or deleted
as appropriate. Schwab also will modify each index as necessary to account for
corporate actions (e.g., new issues, repurchases, stock dividends/splits,
tenders, mergers, stock swaps, spin-offs or bankruptcy filings made because of a
company's inability to continue operating as a going concern).

Schwab may change the Schwab 1000 Index and the Small-Cap Index inclusion
criteria if it determines that doing so would cause the Schwab 1000 Index and
the Small-Cap Index to be more representative of the domestic equity market.
Schwab also may change the International Index inclusion criteria if it
determines that doing so would cause the International Index to be more
representative of the large, publicly traded international company equity
market. In the future, the Board of Trustees, may take necessary and timely
action to change the benchmark index for the Schwab Small-Cap Index Fund(R),
including selecting a new one, should it decide that such changes would better
enable the fund to seek its objective of tracking the small-cap U.S. stock
sector and taking such action would be in the best interest of the fund's
shareholders. The Board of Trustees also may take necessary and timely action to
change the benchmark index for the Schwab International Index Fund(R), including
selecting a new one, should it decide that such changes would better enable the
fund to seek its objective of tracking the international stock sector and taking
such action would be in the best interest of the fund's shareholders. The Board
of Trustees may select another index for the Schwab 1000 Index(R) Fund, subject
to shareholder approval, should it decide that taking such action would be in
the best interest of the fund's shareholders.

A particular stock's weighting in the Small-Cap Index or the Schwab 1000 Index
is based on its relative total market value (i.e., its market price per share
times the number of shares outstanding), divided by the total market
capitalization of its index.

A particular stock's weighting in the International Index is based on its
relative free-float adjusted market value, divided by the total free-float
adjusted market capitalization of the index.

SCHWAB INSTITUTIONAL SELECT(R) FUNDS:

THE SCHWAB INSTITUTIONAL SELECT(R) S&P 500 FUND intends to achieve its objective
by tracking the performance of the S&P 500(R) Index. It is the Schwab
Institutional Select S&P 500 Fund's policy that under normal circumstances it
will invest at least 80% of its net assets in securities included in the
benchmark. The fund will notify its shareholders at least 60 days before
changing this policy. For purposes of this policy, net assets mean net assets
plus the amount of any borrowings for investment purposes.

The S&P 500 Index is, generally, representative of the performance of the U.S.
stock market. The index consists of 500 stocks chosen for market size, liquidity
and industry group representation. It is a market value weighted index (stock
price times number of shares outstanding), with each stock's weight in the index
proportionate to its market value. The S&P 500 does not contain the 500 largest
stocks, as measured by market capitalization. Although many of the stocks in the
index are among the largest, it also includes some relatively small companies.
Those companies, however, generally are established companies within their
industry group. Standard & Poor's (S&P) identifies important industry groups
within the U.S. economy and then allocates a representative sample of stocks
within each group to the S&P 500. There are four major industry sectors within
the index: industrials, utilities, financials and transportation. The fund may
purchase securities of companies with which it is affiliated to the extent these
companies are represented in its index.


                                       8

THE SCHWAB INSTITUTIONAL SELECT(R) LARGE-CAP VALUE INDEX FUND intends to achieve
its objective by tracking the performance of the S&P 500/Barra Value Index. It
is the Schwab Institutional Select Large-Cap Value Index Fund's policy that
under normal circumstances it will invest at least 80% of its net assets in
securities included in the benchmark. The fund will notify its shareholders at
least 60 days before changing this policy. For purposes of this policy, net
assets mean net assets plus the amount of any borrowings for investment
purposes.

The S&P 500/Barra Value Index is a widely recognized index comprised of 322
large-cap value common stocks selected by Barra, Inc. and Standard & Poor's, as
of December 31, 2004. The total value of the index (as measured by the combined
market capitalization of the companies included in the index) is approximately
one-half of the total value of the S&P 500 Index. The securities of the
companies with the highest book-to-price ratios may be included in the index.
Barra, Inc. and Standard & Poor's rebalance the index at least semi-annually.
The fund may purchase securities of companies with which it is affiliated to the
extent these companies are represented in its index.

THE SCHWAB INSTITUTIONAL SELECT(R) SMALL-CAP VALUE INDEX FUND intends to achieve
its objective by tracking the performance of the S&P SmallCap 600/Barra Value
Index. It is the Schwab Institutional Select Small-Cap Value Index Fund's policy
that under normal circumstances it will invest at least 80% of its net assets in
securities included in the benchmark. The fund will notify its shareholders at
least 60 days before changing this policy. For purposes of this policy, net
assets mean net assets plus the amount of any borrowings for investment
purposes.

The S&P SmallCap 600/Barra Value Index is a widely recognized index comprised of
359 small-cap value common stocks selected by Barra, Inc. and Standard & Poor's,
as of December 31, 2004. The total value of the index (as measured by the
combined market capitalization of the companies included in the index) is
approximately one-half of the total value of the S&P SmallCap 600 Index. The
securities of companies with the highest book-to-price ratios may be included in
the index. Barra, Inc. and Standard & Poor's rebalance the index at least
semi-annually. The fund may purchase securities of companies with which it is
affiliated to the extent these companies are represented in its index.

The Schwab Institutional Select S&P 500, Schwab Institutional Select Large-Cap
Value Index, and Schwab Institutional Select Small-Cap Value Index Funds are not
sponsored, endorsed, sold or promoted by S&P. S&P makes no representation or
warranty, express or implied, to the shareholders of the funds or any member of
the public regarding the advisability of investing in securities generally or in
the funds particularly or the ability of the S&P 500 Index, the S&P 500/Barra
Value Index or the S&P SmallCap 600/Barra Value Index to track general stock
market performance. S&P's only relationship to the funds is the licensing of
certain trademarks and trade names of S&P and of the S&P Indexes, which are
determined, composed and calculated by S&P without regard to the Schwab
Institutional Select Funds. S&P has no obligation to take the needs of the
Schwab Institutional Select Funds or their shareholders into consideration in
determining, composing or calculating the S&P Indexes. S&P is not responsible
for and has not participated in the determination of the prices and amounts of
the funds' shares or in the determination or calculation of the equation by
which the funds' shares are to be converted into cash. S&P has no obligation or
liability in connection with the administration, marketing or trading of the
funds' shares.

S&P does not guarantee the accuracy and/or the completeness of the S&P 500
Index, the S&P 500/Barra Value Index or the S&P SmallCap 600/Barra Value Index
or any data included therein, and S&P shall have no liability for any errors,
omissions or interruptions therein. S&P makes no warranty, express or implied,
as to results to be obtained by the funds, their shareholders or any other
person or entity from the use of the S&P Indexes or any data therein. S&P makes
no express or implied warranties and expressly


                                       9

disclaims all warranties or merchantability or fitness for a particular purpose
or use with respect to the S&P Indexes or any data included therein. Without
limiting any of the foregoing, in no event shall S&P have any liability for any
special, punitive, indirect or consequential damages (including lost profits),
even if notified of the possibility of such damages.

SCHWAB CORE EQUITY FUND TM:

The Core Equity Fund will, under normal circumstances, invest at least 80% of
its net assets in equity securities of U.S. companies. The fund will notify its
shareholders at least 60 days before changing this policy. For purposes of this
policy, net assets mean net assets plus the amount of any borrowings for
investment purposes.

SCHWAB SMALL-CAP EQUITY FUND TM:

The Small-Cap Equity Fund will, under normal circumstances, invest at least 80%
of its net assets in small-cap equity securities. The fund will notify its
shareholders at least 60 days before changing this policy. For purposes of this
policy, net assets mean net assets plus the amount of any borrowings for
investment purposes. The fund typically invests in small-cap stocks that are
included in the S&P SmallCap 600 Index or that have market capitalizations of
$100 million to $1.5 billion at the time the stock is purchased.

SCHWAB HEDGED EQUITY FUND TM:

The Hedged Equity Fund will, under normal circumstances, invest at least 80% of
its net assets in equity securities, primarily common stocks. The fund will
notify shareholders at least 60 days before changing this policy. For purposes
of this policy, net assets mean net assets plus the amount of any borrowings for
investment purposes.

SCHWAB DIVIDEND EQUITY FUND TM:

The Dividend Equity Fund will, under normal circumstances, invest at least 80%
of its net assets in dividend paying common and preferred stocks. The fund will
notify its shareholders at least 60 days before changing this policy. For
purposes of this policy, net assets mean net assets plus the amount of any
borrowings for investment purposes. Dividend paying stocks are those stocks that
historically have paid, or the manager anticipates will pay, a dividend.

SCHWAB PREMIER EQUITY FUND TM:

The Premier Equity Fund will, under normal circumstances, invest at least 80%
of its net assets in common stocks. The fund will notify shareholders at least
60 days before changing this policy. For purposes of this policy, net assets
mean net assets plus the amount of any borrowings for investment purposes.

SCHWAB MARKETTRACK PORTFOLIOS(R) AND SCHWAB TARGET FUNDS:

Each MARKETTRACK PORTFOLIO seeks to maintain a defined mix of asset classes over
time, and each invests mainly in a combination of other Schwab Funds(R),
which are managed using indexing strategies. The MarketTrack Portfolios may
invest in various types of underlying funds, which are summarized below. Not all
underlying funds discussed below are eligible investments for each MarketTrack
Portfolio. Each MarketTrack Portfolio also may invest in securities other than
shares of Schwab Funds, such as stocks, bonds and money market securities, and
engage in certain investment techniques.


                                       10

Each of the SCHWAB TARGET FUNDS seeks to achieve its investment objective by
investing in a combination of underlying funds in accordance with its target
portfolio allocation. These underlying funds invest their assets directly in
equity, fixed income, money market and other securities, in accordance with
their own investment objectives and policies. The target asset allocation for
the Schwab Retirement Income Fund is expected to remain fixed over time. For
each target fund, the target asset allocation will be adjusted annually based on
the adviser's asset allocation strategy. In general, each target fund's
allocation to equity securities will decrease and its allocation to fixed income
securities will increase as the fund approaches its target retirement date. At
the stated retirement date, each target fund's allocation will be approximately
60% equities, 35% bonds, 4% ultra-short fixed income securities and 1% money
market funds. Each Schwab Target Fund will continue to reduce its allocation to
equity securities for 20 years beyond the fund's stated retirement date. Each
fund intends to invest in a combination of underlying funds; however, each fund
may invest directly in equity, fixed income securities, cash equivalents,
including money market securities, and futures. These investments and the risks
normally associated with these investments are discussed below.

MUTUAL FUNDS (open-end mutual funds) are registered investment companies, which
issue and redeem their shares on a continuous basis. CLOSED-END FUNDS are
registered investment companies that offer a fixed number of shares and are
usually listed on an exchange. These funds generally offer investors the
advantages of diversification and professional investment management, by
combining shareholders' money and investing it in various types of securities,
such as stocks, bonds and money market securities. These funds also make various
investments and use certain techniques in order to enhance their performance.
These may include entering into delayed-delivery and when-issued securities
transactions or swap agreements; buying and selling futures contracts, illiquid
and restricted securities and repurchase agreements and borrowing or lending
money and/or portfolio securities. The risks of investing in these funds
generally reflect the risks of the securities in which these funds invest and
the investment techniques they may employ. Also, these funds charge fees and
incur operating expenses. Each MarketTrack portfolio will normally invest at
least 50% of their assets in other Schwab Funds(R), which are registered
open-end investment companies.

STOCK FUNDS typically seek growth of capital and invest primarily in equity
securities. Other investments generally include debt securities, such as U.S.
government securities, and some illiquid and restricted securities. Stock funds
typically may enter into delayed-delivery or when-issued securities
transactions, repurchase agreements, swap agreements and futures and options
contracts. Some stock funds invest exclusively in equity securities and may
focus on a specialized segment of the stock market, like stocks of small
companies or foreign issuers, or may focus on a specific industry or group of
industries. The greater a fund's investment in stock, the greater exposure it
will have to stock risk and stock market risk. Stock risk is the risk that a
stock may decline in price over the short or long term. When a stock's price
declines, its market value is lowered even though the intrinsic value of the
company may not have changed. Some stocks, like small company and international
stocks, are more sensitive to stock risk than others. Diversifying investments
across companies can help to lower the stock risk of a portfolio. Market risk is
typically the result of a negative economic condition that affects the value of
an entire class of securities, such as stocks or bonds. Diversification among
various asset classes, such as stocks, bonds and cash, can help to lower the
market risk of a portfolio. The Schwab Funds(R) stock funds that the
MarketTrack portfolios may currently invest in are the Schwab Institutional
Select S&P 500 Fund, Schwab S&P 500 Index Fund, Schwab Small-Cap Index
Fund(R), and Schwab International Index Fund(R). The underlying stock
funds that the Schwab Target Funds may currently invest in are the Schwab Core
Equity Fund, Laudus Rosenberg U.S. Large Capitalization Growth Fund, Schwab
Dividend Equity Fund, Schwab Small-Cap Equity Fund, Laudus Rosenberg U.S.
Discovery Fund, Laudus MarketMasters International Fund and Laudus Rosenberg
International Small Capitalization Fund. A stock fund's other investments and
use of investment techniques also will affect its performance and portfolio
value. While


                                       11

it is the MarketTrack All Equity Portfolio's target allocation to invest 100% in
stock investments, it is the portfolio's policy that, under normal
circumstances, it will invest at least 80% of its net assets in stock
investments. The portfolio will notify its shareholders at least 60 days before
changing this policy. For purposes of this policy, net assets mean net assets
plus the amount of any borrowings for investment purposes.

SMALL-CAP STOCK FUNDS typically seek capital growth and invest primarily in
equity securities of companies with smaller market capitalizations. Small-cap
stock funds generally make similar types of investments and employ similar types
of techniques as other stock funds, except that they focus on stocks issued by
companies at the lower end of the total capitalization of the U.S. stock market.
These stocks tend to be more volatile than stocks of companies of larger
capitalized companies. Small-cap stock funds, therefore, tend to be more
volatile than stock funds that invest in mid- or large-cap stocks, and are
normally recommended for long-term investors. The Schwab Funds(R) small-cap
stock fund that the MarketTrack portfolios may currently invest in is the Schwab
Small-Cap Index Fund(R). The underlying small-cap stock funds that the Schwab
Target Funds may currently invest in are Laudus Rosenberg International Small
Capitalization Fund, Laudus Rosenberg U.S. Discovery Fund and the Schwab
Small-Cap Equity Fund. For a more detailed discussion of the risks of small-cap
stocks, please refer to "Small-Cap Stocks" later in the document.

INTERNATIONAL STOCK FUNDS typically seek capital growth and invest primarily in
equity securities of foreign issuers. Global stock funds invest primarily in
equity securities of both domestic and foreign issuers. International and global
stock funds generally make similar types of investments and employ similar types
of investment techniques as other stock funds, except they focus on stocks of
foreign issuers. Some international stock and global stock funds invest
exclusively in foreign securities. Some of these funds invest in securities of
issuers located in emerging or developing securities markets. These funds have
greater exposure to the risks associated with international investing.
International and global stock funds also may invest in foreign currencies and
depositary receipts and enter into futures and options contracts on foreign
currencies and forward foreign currency exchange contracts. The Schwab Funds
international stock fund that the MarketTrack portfolios may currently invest in
is the Schwab International Index Fund(R). The underlying international stock
funds that the Schwab Target Funds may currently invest in are the Laudus
Rosenberg International Small Capitalization Fund and Laudus MarketMasters
International Fund. For a more detailed discussion of the risks of international
stock, please refer to "Foreign Securities" later in the document.

BOND FUNDS typically seek high current income by investing primarily in debt
securities, including U.S. government securities, corporate bonds, stripped
securities and mortgage- and asset-backed securities. Other investments may
include some illiquid and restricted securities. Bond funds typically may enter
into delayed-delivery or when-issued securities transactions, repurchase
agreements, swap agreements and futures contracts. Bond funds are subject to
interest rate and income risks as well as credit and prepayment risks. When
interest rates fall, the prices of debt securities generally rise, which may
affect the values of bond funds and their yields. For example, when interest
rates fall, issuers tend to pre-pay their outstanding debts and issue new ones
paying lower interest rates. A bond fund holding these securities would be
forced to invest the principal received from the issuer in lower yielding debt
securities. Conversely, in a rising interest rate environment, prepayment on
outstanding debt securities generally will not occur. This risk is known as
extension risk and may affect the value of a bond fund if the value of its
securities are depreciated as a result of the higher market interest rates. Bond
funds also are subject to the risk that the issuers of the securities in their
portfolios will not make timely interest and/or principal payments or fail to
make them at all. The Schwab Funds(R) bond fund that the MarketTrack
portfolios may currently invest in is the Schwab Total Bond Market Fund(TM). The
underlying bond funds that the Schwab Target Funds may currently invest in are
Schwab Total Bond


                                       12

Market Fund and Schwab YieldPlus Fund(R). For a more detailed discussion of the
risks of bonds, please refer to "Debt Securities" later in the document.

MONEY MARKET FUNDS typically seek current income and a stable share price of
$1.00 by investing in money market securities. Money market securities include
commercial paper and short-term U.S. government securities, certificates of
deposit, banker's acceptances and repurchase agreements. Some money market
securities may be illiquid or restricted securities or purchased on a
delayed-delivery or when issued basis. The Schwab Funds money market fund that
the MarketTrack portfolios may currently invest in is the Schwab Value Advantage
Money Fund(R). The underlying money market fund that the Schwab Target Funds
may currently invest in is the Schwab Value Advantage Money Fund(R). For a
more detailed discussion of the risks of money market securities, please refer
to "Money Market Securities" later in the document.

                       INVESTMENTS, RISKS AND LIMITATIONS

The different types of investments that the funds (or, in the case of the
MarketTrack Portfolios and Schwab Target Funds, an underlying fund) typically
may invest in, the investment techniques they may use and the risks normally
associated with these investments are discussed below. However, all of a
MarketTrack Portfolio's and Target Fund's underlying funds various types of
investments and investment techniques are not currently known. Each MarketTrack
Portfolio and Target Fund also may invest in securities other than shares of
underlying funds, such as stocks, bonds and money market securities, and engage
in certain investment techniques, which are outlined below. For purposes of the
descriptions below, references to "a fund" or "the funds" include each portfolio
of the MarketTrack Portfolios and each Target Fund, unless otherwise noted.

Not all securities or techniques discussed below are eligible investments for
each fund. A fund will make investments that are intended to help achieve its
investment objective.

ASSET-BACKED SECURITIES are securities that are backed by the loans or accounts
receivable of an entity, such as a bank or credit card company. These securities
are obligations that the issuer intends to repay using the assets backing them
(once collected). Therefore, repayment may depend largely on the cash flows
generated by the assets backing the securities. The rate of principal payments
on asset-backed securities generally depends on the rate of principal payments
received on the underlying assets, which in turn may be affected by a variety of
economic and other factors. As a result, the yield on any asset-backed security
is difficult to predict with precision, and actual yield to maturity may be more
or less than the anticipated yield to maturity. Sometimes the credit support for
asset-backed securities is limited to the underlying assets, but, in other
cases, may be provided by a third party via a letter of credit or insurance
guarantee.

BANKERS' ACCEPTANCES or notes are credit instruments evidencing a bank's
obligation to pay a draft drawn on it by a customer. These instruments reflect
the obligation both of the bank and of the drawer to pay the full amount of the
instrument upon maturity. A fund will invest only in bankers' acceptances of
banks that have capital, surplus and undivided profits in excess of $100
million.

BORROWING. A fund may borrow for temporary or emergency purposes; for example, a
fund may borrow at times to meet redemption requests rather than sell portfolio
securities to raise the necessary cash. In addition, the Hedged Equity Fund may
borrow for investment purposes. A fund's borrowings will be subject to interest
costs. Borrowing can also involve leveraging when securities are purchased with
the borrowed money. Leveraging creates interest expenses that can exceed the
income from the assets purchased with the borrowed money. In addition,
leveraging may magnify changes in the net asset value of a fund's shares and in
its portfolio yield. A fund will earmark or segregate assets to cover such


                                       13

borrowings in accordance with positions of the Securities and Exchange
Commission (SEC). If assets used to secure a borrowing decrease in value, a fund
may be required to pledge additional collateral to avoid liquidation of those
assets.

A fund may establish lines-of-credit (lines) with certain banks by which it may
borrow funds for temporary or emergency purposes. A borrowing is presumed to be
for temporary or emergency purposes if it is repaid by a fund within 60 days and
is not extended or renewed. Each fund may use the lines to meet large or
unexpected redemptions that would otherwise force the fund to liquidate
securities under circumstances which are unfavorable to the fund's remaining
shareholders. In addition, the Hedged Equity Fund may establish lines with
certain banks by which it may borrow funds for investment purposes, such as the
purchase of securities. Each fund will pay fees to the banks for using its
lines.

CERTIFICATES OF DEPOSIT or time deposits are issued against funds deposited in a
banking institution for a specified period of time at a specified interest rate.
A fund will invest only in certificates of deposit of banks that have capital,
surplus and undivided profits in excess of $100 million.

COMMERCIAL PAPER consists of short-term, promissory notes issued by banks,
corporations and other institutions to finance short-term credit needs. These
securities generally are discounted but sometimes may be interest bearing.
Commercial paper, which also may be unsecured, is subject to credit risk.

CONCENTRATION means that substantial amounts of assets are invested in a
particular industry or group of industries. Concentration increases investment
exposure to industry risk. For example, the automobile industry may have a
greater exposure to a single factor, such as an increase in the price of oil,
which may adversely affect the sale of automobiles and, as a result, the value
of the industry's securities. Schwab Financial Services Fund TM, Schwab Health
Care Fund TM and Schwab Technology Fund TM will, under normal conditions, invest
25% or more of its total assets in the industry or group of industries
representing its sector. Each of the Equity Index and Institutional Select(R)
Funds will not concentrate its investments, unless its index is so concentrated.
Each of the MarketTrack Portfolios and Schwab Target Funds will not concentrate
its investments in a particular industry or group of industries unless its
underlying fund investments are so concentrated. The Core Equity and Hedged
Equity Funds will not concentrate investments in a particular industry or group
of industries, unless the S&P 500 Index is so concentrated. The Dividend Equity
Fund and Premier Equity Fund will not concentrate investments in a particular
industry or group of industries. The Small-Cap Equity Fund will not concentrate
its investments in a particular industry or group of industries, unless the S&P
SmallCap 600 Index is so concentrated.

CREDIT AND LIQUIDITY supports may be employed by issuers to reduce the credit
risk of their securities. Credit supports include letters of credit, insurance
and guarantees provided by foreign and domestic entities. Liquidity supports
include puts and demand features. Most of these arrangements move the credit
risk of an investment from the issuer of the security to the support provider.
Changes in the credit quality of a support provider could cause losses to a
fund, and affect its share price.

DEBT SECURITIES are obligations issued by domestic and foreign entities,
including governments and corporations, in order to raise money. They are
basically "IOUs," but are commonly referred to as bonds or money market
securities. These securities normally require the issuer to pay a fixed,
variable or floating rate of interest on the amount of money borrowed (the
"principal") until it is paid back upon maturity.

Debt securities experience price changes when interest rates change. For
example, when interest rates fall, the prices of debt securities generally rise.
Also, issuers tend to pre-pay their outstanding debts and issue new ones paying
lower interest rates. This is especially true for bonds with sinking fund
provisions,


                                       14

which commit the issuer to set aside a certain amount of money to cover timely
repayment of principal and typically allow the issuer to annually repurchase
certain of its outstanding bonds from the open market or at a pre-set call
price.

Conversely, in a rising interest rate environment, prepayment on outstanding
debt securities generally will not occur. This is known as extension risk and
may cause the value of debt securities to depreciate as a result of the higher
market interest rates. Typically, longer-maturity securities react to interest
rate changes more severely than shorter-term securities (all things being
equal), but generally offer greater rates of interest.

Debt securities also are subject to the risk that the issuers will not make
timely interest and/or principal payments or fail to make them at all. This is
called credit risk. Corporate debt securities (bonds) tend to have higher credit
risk generally than U.S. government debt securities. Debt securities also may be
subject to price volatility due to market perception of future interest rates,
the creditworthiness of the issuer and general market liquidity (market risk).
Investment-grade debt securities are considered medium- or/and high-quality
securities, although some still possess varying degrees of speculative
characteristics and risks. Debt securities rated below investment-grade are
riskier, but may offer higher yields. These securities are sometimes referred to
as high yield securities or "junk bonds." The market for these securities has
historically been less liquid than for investment-grade securities.

DELAYED-DELIVERY TRANSACTIONS include purchasing and selling securities on a
delayed-delivery or when-issued basis. These transactions involve a commitment
to buy or sell specific securities at a predetermined price or yield, with
payment and delivery taking place after the customary settlement period for that
type of security. When purchasing securities on a delayed-delivery basis, a fund
assumes the rights and risks of ownership, including the risk of price and yield
fluctuations. Typically, no interest will accrue to a fund until the security is
delivered. A fund will earmark or segregate appropriate liquid assets to cover
its delayed-delivery purchase obligations. When a fund sells a security on a
delayed-delivery basis, the fund does not participate in further gains or losses
with respect to that security. If the other party to a delayed-delivery
transaction fails to deliver or pay for the securities, the fund could suffer
losses.

DEPOSITARY RECEIPTS include American or European Depositary Receipts (ADRs or
EDRs), Global Depositary Receipts or Shares (GDRs or GDSs) or other similar
global instruments that are receipts representing ownership of shares of a
foreign-based issuer held in trust by a bank or similar financial institution.
These securities are designed for U.S. and European securities markets as
alternatives to purchasing underlying securities in their corresponding national
markets and currencies. Depositary receipts can be sponsored or unsponsored.
Sponsored depositary receipts are certificates in which a bank or financial
institution participates with a custodian. Issuers of unsponsored depositary
receipts are not contractually obligated to disclose material information in the
United States. Therefore, there may not be a correlation between such
information and the market value of an unsponsored depositary receipt.

Depositary Receipts also include securities issued by a trust representing an
undivided beneficial ownership interest in the assets of the trust, usually
common stocks of a group of companies. The trust generally holds the deposited
common stocks for the benefit of the holders of the depositary receipts. Issuers
generally are not registered as investment companies under the 1940 Act. The
trustee of a trust is typically limited to performing only administrative and
ministerial duties, for which it is paid out of trust assets. The risks of
investing in depositary receipts generally reflect the risks of the securities
held in the trust. The acquisition and disposal of some depositary receipts is
limited to round-lots or round-lot multiples. Depositary receipts may trade in
the secondary market at prices lower than the aggregate value of the
corresponding underlying securities. In such cases, some depositary receipts
enable the holders to realize the underlying value of the securities by
canceling the receipt and receiving a corresponding amount of underlying
securities, which requires the payment of fees and expenses.


                                       15

DIVERSIFICATION involves investing in a wide range of securities and thereby
spreading and reducing the risks of investment. Each fund is a series of an
open-end investment management company. Each of the Schwab Financial Services
Fund TM, Schwab Health Care Fund TM, and the Schwab Technology Fund TM
are non-diversified mutual funds, which means that a relatively high percentage
of assets of the funds may be invested in the obligations of a limited number of
issuers. The value of shares of these funds may be more susceptible to any
single economic, political or regulatory occurrence than the shares of a
diversified investment company would be. Each of the Schwab Financial Services
Fund, Schwab Health Care Fund, and Schwab Technology Fund intends to diversify
its investments to the extent required to qualify as a "regulated investment
company" under Subchapter M of the Internal Revenue Code of 1986, as amended
(the Code). The Equity Index Funds, Institutional Select(R) Funds, MarketTrack
Portfolios, Schwab Target Funds, Core Equity Fund, Hedged Equity Fund, Dividend
Equity Fund, Premier Equity Fund and Small-Cap Equity Fund are diversified
mutual funds.

EMERGING OR DEVELOPING MARKETS exist in countries that are considered to be in
the initial stages of industrialization. The risks of investing in these markets
are similar to the risks of international investing in general, although the
risks are greater in emerging and developing markets. Countries with emerging or
developing securities markets tend to have economic structures that are less
stable than countries with developed securities markets. This is because their
economies may be based on only a few industries and their securities markets may
trade a small number of securities. Prices on these exchanges tend to be
volatile, and securities in these countries historically have offered greater
potential for gain (as well as loss) than securities of companies located in
developed countries.

EQUITY SECURITIES represent ownership interests in a company, and are commonly
called "stocks." Equity securities historically have outperformed most other
securities, although their prices can fluctuate based on changes in a company's
financial condition, market conditions and political, economic or even
company-specific news. When a stock's price declines, its market value is
lowered even though the intrinsic value of the company may not have changed.
Sometimes factors, such as economic conditions or political events, affect the
value of stocks of companies of the same or similar industry or group of
industries, and may affect the entire stock market.

Types of equity securities include common stocks, preferred stocks, convertible
securities, warrants, ADRs, EDRs, and interests in real estate investment
trusts, (for more information on real estate investment trusts, "REITs", see
section entitled "Real Estate Investments Trusts").

Common stocks, which are probably the most recognized type of equity security,
represent an equity or ownership interest in an issuer and usually entitle the
owner to voting rights in the election of the corporation's directors and any
other matters submitted to the corporation's shareholders for voting, as well as
to receive dividends on such stock. The market value of common stock can
fluctuate widely, as it reflects increases and decreases in an issuer's
earnings. In the event an issuer is liquidated or declares bankruptcy, the
claims of bond owners, other debt holders and owners of preferred stock take
precedence over the claims of common stock owners.

Preferred stocks represent an equity or ownership interest in an issuer but do
not ordinarily carry voting rights, though they may carry limited voting rights.
Preferred stocks normally have preference over the corporation's assets and
earnings, however. For example, preferred stocks have preference over common
stock in the payment of dividends. Preferred stocks normally pay dividends at a
specified rate. However, preferred stock may be purchased where the issuer has
omitted, or is in danger of omitting, payment of its dividend. Such investments
would be made primarily for their capital appreciation potential. In the event
an issuer is liquidated or declares bankruptcy, the claims of bond owners take
precedence over the claims of preferred and common stock owners. Certain classes
of preferred stock are convertible into shares of


                                       16

common stock of the issuer. By holding convertible preferred stock, a fund can
receive a steady stream of dividends and still have the option to convert the
preferred stock to common stock. Preferred stock is subject to many of the same
risks as common stock and debt securities.

Convertible securities are typically preferred stocks or bonds that are
exchangeable for a specific number of another form of security (usually the
issuer's common stock) at a specified price or ratio. A convertible security
generally entitles the holder to receive interest paid or accrued on bonds or
the dividend paid on preferred stock until the convertible security matures or
is redeemed, converted or exchanged. A corporation may issue a convertible
security that is subject to redemption after a specified date, and usually under
certain circumstances. A holder of a convertible security that is called for
redemption would be required to tender it for redemption to the issuer, convert
it to the underlying common stock or sell it to a third party. Convertible bonds
typically pay a lower interest rate and have lower ratings from ratings
organizations than nonconvertible bonds of the same quality and maturity,
because of the convertible feature. This structure allows the holder of the
convertible bond to participate in share price movements in the company's common
stock. The actual return on a convertible bond may exceed its stated yield if
the company's common stock appreciates in value and the option to convert to
common stocks becomes more valuable.

Prior to conversion, convertible securities have characteristics and risks
similar to nonconvertible debt and equity securities. In addition, convertible
securities are often concentrated in economic sectors, which, like the stock
market in general, may experience unpredictable declines in value, as well as
periods of poor performance, which may last for several years. There may be a
small trading market for a particular convertible security at any given time,
which may adversely impact market price and a fund's ability to liquidate a
particular security or respond to an economic event, including deterioration of
an issuer's creditworthiness.

Convertible preferred stocks are nonvoting equity securities that pay a fixed
dividend. These securities have a convertible feature similar to convertible
bonds, but do not have a maturity date. Due to their fixed income features,
convertible securities provide higher income potential than the issuer's common
stock, but typically are more sensitive to interest rate changes than the
underlying common stock. In the event of a company's liquidation, bondholders
have claims on company assets senior to those of shareholders; preferred
shareholders have claims senior to those of common shareholders.

Convertible securities typically trade at prices above their conversion value,
which is the current market value of the common stock received upon conversion,
because of their higher yield potential than the underlying common stock. The
difference between the conversion value and the price of a convertible security
will vary depending on the value of the underlying common stock and interest
rates. When the underlying value of the common stocks declines, the price of the
issuer's convertible securities will tend not to fall as much because the
convertible security's income potential will act as a price support. While the
value of a convertible security also tends to rise when the underlying common
stock value rises, it will not rise as much because their conversion value is
more narrow. The value of convertible securities also is affected by changes in
interest rates. For example, when interest rates fall, the value of convertible
securities may rise because of their fixed income component.

Warrants are types of securities usually issued with bonds and preferred stock
that entitle the holder to purchase a proportionate amount of common stock at a
specified price for a specific period of time. The prices of warrants do not
necessarily move parallel to the prices of the underlying common stock. Warrants
have no voting rights, receive no dividends and have no rights with respect to
the assets of the issuer. If a warrant is not exercised within the specified
time period, it will become worthless and the fund will lose the purchase price
it paid for the warrant and the right to purchase the underlying security.


                                       17

Initial Public Offering. The funds may purchase shares issued as part of, or a
short period after, a company's initial public offering ("IPOs"), and may at
times dispose of those shares shortly after their acquisition. A fund's purchase
of shares issued in IPOs exposes it to the risks associated with companies that
have little operating history as public companies, as well as to the risks
inherent in those sectors of the market where these new issuers operate. The
market for IPO issuers has been volatile, and share prices of newly-public
companies have fluctuated significantly over short periods of time.

EXCHANGE TRADED FUNDS ("ETFs") are investment companies that are registered
under the 1940 Act as open-end funds or unit investment trusts ("UITs"). ETFs
are actively traded on national securities exchanges and are generally based on
specific domestic and foreign market indices. An "index-based ETF" seeks to
track the performance of an index holding in its portfolio either the contents
of the index or a representative sample of the securities in the index. Because
ETFs are based on an underlying basket of stocks or an index, they are subject
to the same market fluctuations as these types of securities in volatile market
swings. ETFs, like mutual funds, have expenses associated with their operation,
including advisory fees. When a fund invests in an ETF, in addition to directly
bearing expenses associated with its own operations, it will bear a pro rata
portion of the ETF's expenses.

FOREIGN SECURITIES involve additional risks, including foreign currency exchange
rate risks, because they are issued by foreign entities, including foreign
governments, banks and corporations, or because they are traded principally
overseas. Foreign securities in which a fund may invest include foreign entities
that are not subject to uniform accounting, auditing and financial reporting
standards, practices and requirements comparable to those applicable to U.S.
corporations. In addition, there may be less publicly available information
about foreign entities. Foreign economic, political and legal developments, as
well as fluctuating foreign currency exchange rates and withholding taxes, could
have more dramatic effects on the value of foreign securities. For example,
conditions within and around foreign countries, such as the possibility of
expropriation or confiscatory taxation, political or social instability,
diplomatic developments, change of government or war could affect the value of
foreign investments. Moreover, individual foreign economies may differ favorably
or unfavorably from the U.S. economy in such respects as growth of gross
national product, rate of inflation, capital reinvestment, resource
self-sufficiency and balance of payments position.

Foreign securities typically have less volume and are generally less liquid and
more volatile than securities of U.S. companies. Fixed commissions on foreign
securities exchanges are generally higher than negotiated commissions on U.S.
exchanges, although a fund will endeavor to achieve the most favorable overall
results on portfolio transactions. There is generally less government
supervision and regulation of foreign securities exchanges, brokers, dealers and
listed companies than in the United States, thus increasing the risk of delayed
settlements of portfolio transactions or loss of certificates for portfolio
securities. There may be difficulties in obtaining or enforcing judgments
against foreign issuers as well. These factors and others may increase the risks
with respect to the liquidity of a fund, and its ability to meet a large number
of shareholder redemption requests.

Foreign markets also have different clearance and settlement procedures and, in
certain markets, there have been times when settlements have been unable to keep
pace with the volume of securities transactions, making it difficult to conduct
such transactions. Such delays in settlement could result in temporary periods
when a portion of the assets of a fund is uninvested and no return is earned
thereon. The inability to make intended security purchases due to settlement
problems could cause a fund to miss attractive investment opportunities. Losses
to a fund arising out of the inability to fulfill a contract to sell such
securities also could result in potential liability for a fund.

Investments in the securities of foreign issuers may be made and held in foreign
currencies. In addition, a fund may hold cash in foreign currencies. These
investments may be affected favorably or unfavorably


                                       18

by changes in currency rates and in exchange control regulations, and may cause
a fund to incur costs in connection with conversions between various currencies.
The rate of exchange between the U.S. dollar and other currencies is determined
by the forces of supply and demand in the foreign exchange market as well as by
political and economic factors. Changes in the foreign currency exchange rates
also may affect the value of dividends and interest earned, gains and losses
realized on the sale of securities, and net investment income and gains, if any,
to be distributed to shareholders by a fund.

FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS involve the purchase or sale of
foreign currency at an established exchange rate, but with payment and delivery
at a specified future time. Many foreign securities markets do not settle trades
within a time frame that would be considered customary in the U.S. stock market.
Therefore, a fund may engage in forward foreign currency exchange contracts in
order to secure exchange rates for portfolio securities purchased or sold, but
awaiting settlement. These transactions do not seek to eliminate any
fluctuations in the underlying prices of the securities involved. Instead, the
transactions simply establish a rate of exchange that can be expected when a
fund settles its securities transactions in the future. Forwards involve certain
risks. For example, if the counterparties to the contracts are unable to meet
the terms of the contracts or if the value of the foreign currency changes
unfavorably, a fund could sustain a loss.

The underlying funds in which the MarketTrack Portfolios and Schwab Target Funds
may invest also may engage in forward foreign currency exchange contracts to
protect the value of specific portfolio positions, which is called "position
hedging." When engaging in position hedging, an underlying fund may enter into
forward foreign currency exchange transactions to protect against a decline in
the values of the foreign currencies in which portfolio securities are
denominated (or against an increase in the value of currency for securities that
the underlying fund expects to purchase). Buying and selling foreign currency
exchange contracts involves costs and may result in losses. The ability of an
underlying fund to engage in these transactions may be limited by tax
considerations. Although these techniques tend to minimize the risk of loss due
to declines in the value of the hedged currency, they tend to limit any
potential gain that might result from an increase in the value of such currency.
Transactions in these contracts involve certain other risks. Unanticipated
fluctuations in currency prices may result in a poorer overall performance for
the underlying funds than if they had not engaged in any such transactions.
Moreover, there may be imperfect correlation between the underlying fund's
holdings of securities denominated in a particular currency and forward
contracts into which the underlying fund enters. Such imperfect correlation may
cause an underlying fund to sustain losses, which will prevent it from achieving
a complete hedge or expose it to risk of foreign exchange loss. Losses to an
underlying fund will affect the performance of its corresponding MarketTrack
Portfolio or Schwab Target Fund, as applicable.

FUTURES CONTRACTS are instruments that represent an agreement between two
parties that obligates one party to buy, and the other party to sell, specific
instruments at an agreed-upon price on a stipulated future date. In the case of
futures contracts relating to an index or otherwise not calling for physical
delivery at the close of the transaction, the parties usually agree to deliver
the final cash settlement price of the contract. A fund may purchase and sell
futures contracts based on securities, securities indices and foreign
currencies, interest rates, or any other futures contracts traded on U.S.
exchanges or boards of trade that the Commodities Futures Trading Commission
(CFTC) licenses and regulates on foreign exchanges.

A fund must maintain a small portion of its assets in cash to process
shareholder transactions in and out of the fund and to pay its expenses. In
order to reduce the effect this otherwise uninvested cash would have on its
performance, a fund may purchase futures contracts. Such transactions allow a
fund's cash balance to produce a return similar to that of the underlying
security or index on which the futures contract is based. With respect to the
Schwab Total Stock Market Index Fund(R) and Schwab Small-Cap Index Fund(R),
because there is not currently available any futures contract tied directly to
either the total return of the U.S. stock market or these funds' indices, there
is no guarantee that this strategy will be successful. A


                                       19

fund may purchase or sell futures contracts on a specified foreign currency to
"fix" the price in U.S. dollars of the foreign security it has acquired or sold
or expects to acquire or sell. A fund may enter into a futures contract for
these or other reasons.

When buying or selling futures contracts, a fund must place a deposit with its
broker equal to a fraction of the contract amount. This amount is known as
"initial margin" and must be in the form of liquid debt instruments, including
cash, cash-equivalents and U.S. government securities. Subsequent payments to
and from the broker, known as "variation margin" may be made daily, if
necessary, as the value of the futures contracts fluctuates. This process is
known as "marking-to-market." The margin amount will be returned to a fund upon
termination of the futures contracts assuming all contractual obligations are
satisfied. A fund's aggregate initial and variation margin payments required to
establish its futures positions may not exceed 5% of its net assets. Because
margin requirements are normally only a fraction of the amount of the futures
contracts in a given transaction, futures trading can involve a great deal of
leverage. In order to avoid this, a fund will earmark or segregate assets for
any outstanding futures contracts as may be required under the federal
securities laws. Underlying funds in which the MarketTrack Portfolios and Schwab
Target Funds invest may have the same or different arrangements.

While a fund may purchase and sell futures contracts in order to simulate full
investment, there are risks associated with these transactions. Adverse market
movements could cause a fund to experience substantial losses when buying and
selling futures contracts. Of course, barring significant market distortions,
similar results would have been expected if a fund had instead transacted in the
underlying securities directly. There also is the risk of losing any margin
payments held by a broker in the event of its bankruptcy. Additionally, a fund
incurs transaction costs (i.e., brokerage fees) when engaging in futures
trading.

Futures contracts normally require actual delivery or acquisition of an
underlying security or cash value of an index on the expiration date of the
contract. In most cases, however, the contractual obligation is fulfilled before
the date of the contract by buying or selling, as the case may be, identical
futures contracts. Such offsetting transactions terminate the original contracts
and cancel the obligation to take or make delivery of the underlying securities
or cash. There may not always be a liquid secondary market at the time a fund
seeks to close out a futures position. If a fund is unable to close out its
position and prices move adversely, a fund would have to continue to make daily
cash payments to maintain its margin requirements. If a fund had insufficient
cash to meet these requirements it may have to sell portfolio securities at a
disadvantageous time or incur extra costs by borrowing the cash. Also, a fund
may be required to make or take delivery of, and incur extra transaction costs
buying or selling the underlying securities. A fund seek to reduce the risks
associated with futures transactions by buying and selling futures contracts
that are traded on national exchanges or for which there appears to be a liquid
secondary market.

ILLIQUID SECURITIES generally are any securities that cannot be disposed of
promptly and in the ordinary course of business at approximately the amount at
which a fund has valued the instruments. The liquidity of a fund's investments
is monitored under the supervision and direction of the Board of Trustees.
Investments currently not considered liquid include repurchase agreements not
maturing within seven days and certain restricted securities.

INDEXING STRATEGIES involve tracking the securities represented in, and
therefore, performance of an index. Each Equity Index Fund and Institutional
Select(R) Fund (the "index funds") normally will invest primarily in the
securities of its index. Moreover, each of these index funds invest so that its
portfolio performs similarly to that of its index. Each of these index funds
tries to generally match its holdings in a particular security to its weight in
the index. Each index fund will seek a correlation between its performance and
that of its index of 0.90 or better. A perfect correlation of 1.0 is unlikely as
the index funds incur operating and


                                       20

trading expenses unlike their indices. An index fund may rebalance its holdings
in order to track its index more closely. In the event its intended correlation
is not achieved, the Board of Trustees will consider alternative arrangements
for an index fund. Certain of the Equity Index Funds serve as underlying funds
for the MarketTrack Portfolios.

INTERFUND BORROWING AND LENDING. A fund may borrow money from and/or lend money
to other funds/portfolios in the Schwab complex. All loans are for temporary or
emergency purposes and the interest rates to be charged will be the average of
the overnight repurchase agreement rate and the short-term bank loan rate. All
loans are subject to numerous conditions designed to ensure fair and equitable
treatment of all participating funds/portfolios. The interfund lending facility
is subject to the oversight and periodic review of the Board of Trustees of the
Schwab Funds(R).

MONEY MARKET SECURITIES are high-quality, short-term debt securities that may be
issued by entities such as the U.S. government, corporations and financial
institutions (like banks). Money market securities include commercial paper,
certificates of deposit, banker's acceptances, notes and time deposits.

Money market securities pay fixed, variable or floating rates of interest and
are generally subject to credit and interest rate risks. The maturity date or
price of and financial assets collateralizing a security may be structured in
order to make it qualify as or act like a money market security. These
securities may be subject to greater credit and interest rate risks than other
money market securities because of their structure. Money market securities may
be issued with puts or sold separately, sometimes called demand features or
guarantees, which are agreements that allow the buyer to sell a security at a
specified price and time to the seller or "put provider." When a fund buys a
put, losses could occur as a result of the costs of the put or if it exercises
its rights under the put and the put provider does not perform as agreed.
Standby commitments are types of puts.

A fund must keep a portion of its assets in cash for business operations. In
order to reduce the effect this otherwise uninvested cash would have on its
performance, a fund may invest in money market securities.

MORTGAGE-BACKED SECURITIES represent an interest in an underlying pool of
mortgages. Issuers of these securities include agencies and instrumentalities of
the U.S. government, such as Freddie Mac and Fannie Mae, and private entities,
such as banks. The income paid on mortgage-backed securities depends upon the
income received from the underlying pool of mortgages. Mortgage-backed
securities include collateralized mortgage obligations, mortgage-backed bonds
and stripped mortgage-backed securities. These securities are subject to
interest rate risk, like other debt securities, in addition to prepayment and
extension risk. Prepayments occur when the holder of an individual mortgage
prepays the remaining principal before the mortgage's scheduled maturity date.
As a result of the pass-through of prepayments of principal on the underlying
securities, mortgage-backed securities are often subject to more rapid
prepayment of principal than their stated maturity indicates. Because the
prepayment characteristics of the underlying mortgages vary, it is not possible
to predict accurately the realized yield or average life of a particular issue
of mortgage-backed securities. Prepayment rates are important because of their
effect on the yield and price of the securities. Accelerated prepayments
adversely impact yields for mortgage-backed securities purchased at a premium
(i.e., a price in excess of principal amount) and may involve additional risk of
loss of principal because the premium may not be fully amortized at the time the
obligation is repaid. The opposite is true for mortgage-backed securities
purchased at a discount. The MarketTrack Portfolios and Schwab Target Funds may
purchase mortgage-related securities at a premium or at a discount. When
interest rates rise, extension risk increases and may affect the value of a
fund. Principal and interest payments on the mortgage-related securities are
guaranteed by the government however, such guarantees do not extend to the value
or yield of the mortgage-related securities themselves or of a fund's shares.


                                       21

OPTIONS CONTRACTS generally provide the right to buy or sell a security,
commodity, futures contract or foreign currency in exchange for an agreed upon
price. If the right is not exercised after a specified period, the option
expires and the option buyer forfeits the money paid to the option seller.

A call option gives the buyer the right to buy a specified number of shares of a
security at a fixed price on or before a specified date in the future. For this
right, the call option buyer pays the call option seller, commonly called the
call option writer, a fee called a premium. Call option buyers are usually
anticipating that the price of the underlying security will rise above the price
fixed with the call writer, thereby allowing them to profit. If the price of the
underlying security does not rise, the call option buyer's losses are limited to
the premium paid to the call option writer. For call option writers, a rise in
the price of the underlying security will be offset in part by the premium
received from the call option buyer. If the call option writer does not own the
underlying security, however, the losses that may ensue if the price rises could
be potentially unlimited. If the call option writer owns the underlying security
or commodity, this is called writing a covered call. All call options written by
a fund will be covered, which means that the fund will own the securities
subject to the option so long as the option is outstanding.

A put option is the opposite of a call option. It gives the buyer the right to
sell a specified number of shares of a security at a fixed price on or before a
specified date in the future. Put option buyers are usually anticipating a
decline in the price of the underlying security, and wish to offset those losses
when selling the security at a later date. All put options a fund writes will be
covered, which means that the fund will earmark or segregate cash, U.S.
government securities or other liquid securities with a value at least equal to
the exercise price of the put option. The purpose of writing such options is to
generate additional income for a fund. However, in return for the option
premium, a fund accepts the risk that it may be required to purchase the
underlying securities at a price in excess of the securities market value at the
time of purchase.

A fund may purchase and write put and call options on any securities in which it
may invest or any securities index or basket of securities based on securities
in which it may invest. A fund may purchase and write such options on securities
that are listed on domestic or foreign securities exchanges or traded in the
over-the-counter market. Like futures contracts, option contracts are rarely
exercised. Option buyers usually sell the option before it expires. Option
writers may terminate their obligations under a written call or put option by
purchasing an option identical to the one it has written. Such purchases are
referred to as "closing purchase transactions." A fund may enter into closing
sale transactions in order to realize gains or minimize losses on options it has
purchased or written.

An exchange traded currency option position may be closed out only on an options
exchange that provides a secondary market for an option of the same series.
Although a fund generally will purchase or write only those options for which
there appears to be an active secondary market, there is no assurance that a
liquid secondary market will exist for any particular option or at any
particular time. If a fund is unable to effect a closing purchase transaction
with respect to options it has written, it will not be able to sell the
underlying securities or dispose of assets earmarked or held in a segregated
account until the options expire or are exercised. Similarly, if a 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: (1) there may be insufficient trading interest in certain options;
(2) an exchange may impose restrictions on opening transactions or closing
transactions or both; (3) trading halts, suspensions or other restrictions may
be imposed with respect to particular classes or series of options; (4) unusual
or unforeseen circumstances may interrupt normal operations on an exchange; (5)
the facilities of an exchange or the Options Clearing Corporation (the OCC) may
not at all times be adequate to handle current trading volume; or (6) one or


                                       22

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), although outstanding options on that exchange that had been
issued by the OCC as a result of trades on that exchange would continue to be
exercisable in accordance with their terms.

The 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. Until
such time as the staff of the SEC changes its position, a fund will treat
purchased over-the-counter options and all assets used to cover written
over-the-counter options as illiquid securities, except that with respect to
options written with primary dealers in U.S. government securities pursuant to
an agreement requiring a closing purchase transaction at a formula price, the
amount of illiquid securities may be calculated with reference to a formula the
staff of the SEC approves.

Additional risks are involved with options trading because of the low margin
deposits required and the extremely high degree of leverage that may be involved
in options trading. There may be imperfect correlation between the change in
market value of the securities held by a fund and the prices of the options,
possible lack of a liquid secondary markets, and the resulting inability to
close such positions prior to their maturity dates.

A fund may write or purchase an option only when the market value of that
option, when aggregated with the market value of all other options transactions
made on behalf of the fund, does not exceed 5% of its net assets.

PROMISSORY NOTES are written agreements committing the maker or issuer to pay
the payee a specified amount either on demand or at a fixed date in the future,
with or without interest. These are sometimes called negotiable notes or
instruments and are subject to credit risk. Bank notes are notes used to
represent obligations issued by banks in large denominations.

REAL ESTATE INVESTMENT TRUSTS (REITS) are pooled investment vehicles, which
invest primarily in income producing real estate or real estate related loans or
interests and, in some cases, manage real estate. REITs are sometimes referred
to as equity REITs, mortgage REITs or hybrid REITs. An equity REIT invests
primarily in properties and generates income from rental and lease properties
and, in some cases, from the management of real estate. Equity REITs also offer
the potential for growth as a result of property appreciation and from the sale
of appreciated property. Mortgage REITs invest primarily in real estate
mortgages, which may secure construction, development or long-term loans, and
derive income for the collection of interest payments. Hybrid REITS may combine
the features of equity REITs and mortgage REITs. REITs are generally organized
as corporations or business trusts, but are not taxed as a corporation if they
meet certain requirements of Subchapter M of the Code. To qualify, a REIT must,
among other things, invest substantially all of its assets in interests in real
estate (including other REITs), cash and government securities, distribute at
least 95% of its taxable income to its shareholders and receive at least 75% of
that income from rents, mortgages and sales of property.

Like any investment in real estate, a REIT's performance depends on many
factors, such as its ability to find tenants for its properties, to renew
leases, and to finance property purchases and renovations. In general, REITs may
be affected by changes in underlying real estate values, which may have an
exaggerated effect to the extent a REIT concentrates its investment in certain
regions or property types. For example, rental income could decline because of
extended vacancies, increased competition from nearby properties, tenants'
failure to pay rent, or incompetent management. Property values could decrease
because of overbuilding, environmental liabilities, uninsured damages caused by
natural disasters, a general decline in the neighborhood, losses due to casualty
or condemnation, increases in


                                       23

property taxes, or changes in zoning laws. Ultimately, a REIT's performance
depends on the types of properties it owns and how well the REIT manages its
properties.

In general, during periods of rising interest rates, REITs may lose some of
their appeal for investors who may be able to obtain higher yields from other
income-producing investments, such as long-term bonds. Higher interest rates
also mean that financing for property purchases and improvements is more costly
and difficult to obtain. During periods of declining interest rates, certain
mortgage REITs may hold mortgages that mortgagors elect to prepay, which can
reduce the yield on securities issued by mortgage REITs. Mortgage REITs may be
affected by the ability of borrowers to repay debts to the REIT when due and
equity REITs may be affected by the ability of tenants to pay rent.

Like small-cap stocks in general, certain REITs have relatively small market
capitalizations and their securities can be more volatile than--and at times
will perform differently from--large-cap stocks. In addition, because
small-cap stocks are typically less liquid than large-cap stocks, REIT stocks
may sometimes experience greater share-price fluctuations than the stocks of
larger companies. Further, REITs are dependent upon specialized management
skills, have limited diversification, and are therefore subject to risks
inherent in operating and financing a limited number of projects. By investing
in REITs indirectly through a fund, a shareholder will bear indirectly a
proportionate share of the REIT's expenses. Finally, REITs could possibly fail
to qualify for tax-free pass-through of income under the Code or to maintain
their exemptions from registration under the 1940 Act.

REPURCHASE AGREEMENTS are instruments under which a buyer acquires ownership of
certain securities (usually U.S. government securities) from a seller who agrees
to repurchase the securities at a mutually agreed-upon time and price, thereby
determining the yield during the buyer's holding period. Any repurchase
agreements a fund enters into will involve the fund as the buyer and banks or
broker-dealers as sellers. The period of repurchase agreements is usually short
- - from overnight to one week, although the securities collateralizing a
repurchase agreement may have longer maturity dates. Default by the seller might
cause a fund to experience a loss or delay in the liquidation of the collateral
securing the repurchase agreement. A fund also may incur disposition costs in
liquidating the collateral. In the event of a bankruptcy or other default of a
repurchase agreement's seller, a fund might incur expenses in enforcing its
rights, and could experience losses, including a decline in the value of the
underlying securities and loss of income. A fund will make payment under a
repurchase agreement only upon physical delivery or evidence of book entry
transfer of the collateral to the account of its custodian bank.

RESTRICTED SECURITIES are securities that are subject to legal restrictions on
their sale. Restricted securities may be considered to be liquid if an
institutional or other market exists for these securities. In making this
determination, a fund, under the direction and supervision of the Board of
Trustees, will take into account the following factors: (1) the frequency of
trades and quotes for the security; (2) the number of dealers willing to
purchase or sell the security and the number of potential purchasers; (3) dealer
undertakings to make a market in the security; and (4) the nature of the
security and marketplace trades (e.g., the time needed to dispose of the
security, the method of soliciting offers and the mechanics of transfer). To the
extent a fund invests in restricted securities that are deemed liquid, the
general level of illiquidity in the fund's portfolio may be increased if
qualified institutional buyers become uninterested in purchasing these
securities.

REVERSE REPURCHASE AGREEMENTS. In a reverse repurchase agreement, a fund would
sell a security in exchange for cash and enter into an agreement to repurchase
the security at a specified future date and price. A fund generally retains the
right to interest and principal payments on the security. If a fund uses the
cash it obtains to invest in other securities, this may be considered a form of
leverage and may expose the fund to greater risk. Leverage tends to magnify the
effect of any decrease or increase in the value of the fund's portfolio
securities.


                                       24

SECURITIES LENDING of portfolio securities is a common practice in the
securities industry. A fund may engage in security lending arrangements. For
example, a fund may receive cash collateral and may invest it in short-term,
interest-bearing obligations, but will do so only to the extent that it will not
lose the tax treatment available to regulated investment companies. Lending
portfolio securities involves risks that the borrower may fail to return the
securities or provide additional collateral. Also, voting rights with respect to
loaned securities may pass with the lending of the securities.

A fund may loan portfolio securities to qualified broker-dealers or other
institutional investors provided: (1) the loan is secured continuously by
collateral consisting of U.S. government securities, letters of credit, cash or
cash equivalents or other appropriate instruments maintained on a daily
marked-to-market basis in an amount at least equal to the current market value
of the securities loaned; (2) the fund may at any time call the loan and obtain
the return of the securities loaned; (3) the fund will receive any interest or
dividends paid on the loaned securities; and (4) the aggregate market value of
securities loaned will not at any time exceed one-third of the total assets of
the fund, including collateral received from the loan (at market value computed
at the time of the loan).

Although voting rights with respect to loaned securities pass to the borrower,
the lender retains the right to recall a security (or terminate a loan) for the
purpose of exercising the security's voting rights. Efforts to recall such
securities promptly may be unsuccessful, especially for foreign securities or
thinly traded securities such as small-cap stocks. In addition, because
recalling a security may involve expenses to a fund, it is expected that a fund
will do so only where the items being voted upon are, in the judgment of the
investment adviser, either material to the economic value of the security or
threaten to materially impact the issuer's corporate governance policies or
structure.

SECURITIES OF OTHER INVESTMENT COMPANIES. Investment companies generally offer
investors the advantages of diversification and professional investment
management, by combining shareholders' money and investing it in securities such
as stocks, bonds and money market instruments. Investment companies include: (1)
open-end funds (commonly called mutual funds) that issue and redeem their shares
on a continuous basis, (2) closed-end funds that offer a fixed number of shares,
and are usually listed on an exchange, and (3) unit investment trusts that
generally offer a fixed number of redeemable shares. Certain open-end funds and
unit investment trusts are traded on exchanges.

Investment companies may make investments and use techniques designed to enhance
their performance. These may include delayed-delivery and when-issued securities
transactions; swap agreements; buying and selling futures contracts, illiquid,
and/or restricted securities and repurchase agreements; and borrowing or lending
money and/or portfolio securities. The risks of investing in a particular
investment company will generally reflect the risks of the securities in which
it invests and the investment techniques it employs. Also, investment companies
charge fees and incur expenses.

The funds may buy securities of other investment companies, including those of
foreign issuers, in compliance with the requirements of federal law or any SEC
exemptive order. The funds intend to vote any investment company proxies in
accordance with instructions received, or in the same proportion as the vote of
all other shareholders. A fund may invest in investment companies that are not
registered with the SEC or privately placed securities of investment companies
(which may or may not be registered), such as hedge funds and offshore funds.
Unregistered funds are largely exempt from the regulatory requirements that
apply to registered investment companies. As a result, unregistered funds may
have a greater ability to make investments, or use investment techniques, that
offer a higher potential investment return (for example, leveraging), but which
may carry high risk. Unregistered funds, while not regulated by the SEC like
registered funds, may be indirectly supervised by the financial institutions
(e.g., commercial and investment banks) that may provide them with loans or
other sources of capital.


                                       25

Investments in unregistered funds may be difficult to sell, which could cause a
fund selling an interest in an unregistered fund to lose money. For example,
many hedge funds require their investors to hold their investments for at least
one year.

Federal law restricts the ability of one registered investment company to invest
in another. As a result, the extent to which a fund may invest in another
investment company may be limited. With respect to investments in other mutual
funds, the SEC has granted the funds an exemption from the limitations of the
1940 Act that restrict the amount of securities of underlying mutual funds a
fund may hold, provided that certain conditions are met. The conditions
requested by the SEC were designed to address certain abuses perceived to be
associated with funds of funds, including unnecessary costs (such as sales
loads, advisory fees and administrative costs), and undue influence by a fund of
funds over the underlying fund. The conditions apply only when a fund and its
affiliates in the aggregate own more than 3% of the outstanding shares of any
one underlying fund.

Under the terms of the exemptive order, each fund and its affiliates may not
control a non-affiliated underlying fund. Under the 1940 Act, any person who
owns beneficially, either directly or through one or more controlled companies,
more than 25% of the voting securities of a company is assumed to control that
company. This limitation is measured at the time the investment is made.

SHORT SALES may be used by a fund as part of its overall portfolio management
strategies or to offset (hedge) a potential decline in the value of a security.
A fund may engage in short sales that are either "against the box" or
"uncovered." A short sale is "against the box" if at all times during which the
short position is open, a fund owns at least an equal amount of the securities
or securities convertible into, or has the right to acquire, at no added cost,
the securities of the same issue as the securities that are sold short. A short
sale against the box is a taxable transaction to a fund with respect to the
securities that are sold short. "Uncovered" short sales are transactions under
which a fund sells a security it does not own. To complete such transaction, a
fund may borrow the security through a broker to make delivery to the buyer and,
in doing so, the fund becomes obligated to replace the security borrowed by
purchasing the security at the market price at the time of the replacement. A
fund also may have to pay a fee to borrow particular securities, which would
increase the cost of the security. In addition, a fund is often obligated to pay
any accrued interest and dividends on the securities until they are replaced.
The proceeds of the short sale position will be retained by the broker until a
fund replaces the borrowed securities.

A fund will incur a loss if the price of the security sold short increases
between the time of the short sale and the time the fund replaces the borrowed
security and, conversely, the fund will realize a gain if the price declines.
Any gain will be decreased, and any loss increased, by the transaction costs
described above. If a fund sells securities short "against the box," it may
protect unrealized gains, but will lose the opportunity to profit on such
securities if the price rises. The successful use of short selling as a hedging
strategy may be adversely affected by imperfect correlation between movements in
the price of the security sold short and the securities being hedged.

A fund's obligation to replace the securities borrowed in connection with a
short sale will be secured by collateral deposited with the broker that consists
of cash or other liquid securities. In addition, a fund will earmark cash or
liquid assets or place in a segregated account an amount of cash or other liquid
assets equal to the difference, if any, between (1) the market value of the
securities sold short, marked-to-market daily, and (2) any cash or other liquid
securities deposited as collateral with the broker in connection with the short
sale.

SMALL-CAP STOCKS include common stocks issued by operating companies with market
capitalizations that place them at the lower end of the stock market, as well as
the stocks of companies that are determined to be small based on several
factors, including the capitalization of the company and the amount of revenues.


                                       26

Historically, small-cap company stocks have been riskier than stocks issued by
large- or mid-cap companies for a variety of reasons. Small-cap companies may
have less certain growth prospects and are typically less diversified and less
able to withstand changing economic conditions than larger capitalized
companies. Small-cap companies also may have more limited product lines, markets
or financial resources than companies with larger capitalizations, and may be
more dependent on a relatively small management group. In addition, small-cap
companies may not be well known to the investing public, may not have
institutional ownership and may have only cyclical, static or moderate growth
prospects. Most small-cap company stocks pay low or no dividends.

These factors and others may cause sharp changes in the value of a small-cap
company's stock, and even cause some small-cap companies to fail. Additionally,
small-cap stocks may not be as broadly traded as large- or mid-cap stocks, and a
fund's positions in securities of such companies may be substantial in relation
to the market for such securities. Accordingly, it may be difficult for a fund
to dispose of securities of these small-cap companies at prevailing market
prices in order to meet redemptions. This lower degree of liquidity can
adversely affect the value of these securities. For these reasons and others,
the value of a fund's investments in small-cap stocks is expected to be more
volatile than other types of investments, including other types of stock
investments. While small-cap stocks are generally considered to offer greater
growth opportunities for investors, they involve greater risks and the share
price of a fund that invests in small-cap stocks may change sharply during the
short term and long term.

STOCK SUBSTITUTION STRATEGY is a strategy, whereby each Equity Index Fund and
Institutional Select(R) Fund may, in certain circumstances, substitute a similar
stock for a security in its index.

SWAP AGREEMENTS can be structured to increase or decrease a fund's exposure to
long or short term interest rates, corporate borrowing rates and other
conditions, such as changing security prices and inflation rates. They also can
be structured to increase or decrease a fund's exposure to specific issuers or
specific sectors of the bond market such as mortgage securities. For example, if
a fund agreed to pay a longer-term fixed rate in exchange for a shorter-term
floating rate while holding longer-term fixed rate bonds, the swap would tend to
decrease a fund's exposure to longer-term interest rates. Swap agreements tend
to increase or decrease the overall volatility of a fund's investments and its
share price and yield. Changes in interest rates, or other factors determining
the amount of payments due to and from a fund, can be the most significant
factors in the performance of a swap agreement. If a swap agreement calls for
payments from a fund, a fund must be prepared to make such payments when they
are due. In order to help minimize risks, a fund will earmark or segregate
appropriate assets for any accrued but unpaid net amounts owed under the terms
of a swap agreement entered into on a net basis. All other swap agreements will
require a fund to earmark or segregate assets in the amount of the accrued
amounts owed under the swap. A fund could sustain losses if a counterparty does
not perform as agreed under the terms of the swap. A fund will enter into swap
agreements with counterparties deemed creditworthy by the investment adviser.

Swap agreements are privately negotiated over-the-counter derivative products in
which two parties agree to exchange payment streams calculated in relation to a
rate, index, instrument or certain securities (referred to as the "underlying")
and a predetermined amount (referred to as the "notional amount"). The
underlying for a swap may be an interest rate (fixed or floating), a currency
exchange rate, a commodity price index, a security, group of securities or a
securities index, a combination of any of these, or various other rates, assets
or indices. Swap agreements generally do not involve the delivery of the
underlying or principal, and a party's obligations generally are equal to only
the net amount to be paid or received under the agreement based on the relative
values of the positions held by each party to the swap agreement. In addition,
the funds may invest in swaptions, which are privately-negotiated option-based
derivative products. Swaptions give the holder the right to enter into a swap. A
fund may use a swaption in addition to or in lieu of a swap involving a similar
rate or index.


                                       27

For purposes of applying a fund's investment policies and restrictions (as
stated in the prospectuses and this SAI) swap agreements are generally valued by
the funds at market value. In the case of a credit default swap sold by a fund
(i.e., where the fund is selling credit default protection), however, the fund
will generally value the swap at its notional amount. The manner in which
certain securities or other instruments are valued by the funds for purposes of
applying investment policies and restrictions may differ from the manner in
which those investments are valued by other types of investors.

TEMPORARY DEFENSIVE INVESTMENTS. During unusual economic or market conditions or
for temporary defensive or liquidity purposes, the Schwab Core Equity Fund TM,
Schwab Dividend Equity Fund TM, Schwab Hedged Equity Fund TM, Schwab Small-Cap
Equity Fund TM, Schwab Premier Equity Fund TM and the Schwab Financial Services
Fund TM, Schwab Health Care Fund TM, Schwab Technology Fund TM and each of the
Schwab Target Funds may invest up to 100% of their assets in cash, money market
instruments, repurchase agreements and other short-term obligations.

U.S. GOVERNMENT SECURITIES are issued by the U.S. Treasury or issued or
guaranteed by the U.S. government or any of its agencies or instrumentalities.
Not all U.S. government securities are backed by the full faith and credit of
the United States. Some U.S. government securities, such as those issued by
Fannie Mae, Freddie Mac, the Student Loan Marketing Association (SLMA or Sallie
Mae), and the Federal Home Loan Banks (FHLB), are supported by a line of credit
the issuing entity has with the U.S. Treasury. Others are supported solely by
the credit of the issuing agency or instrumentality such as obligations issued
by the Federal Farm Credit Banks Funding Corporation (FFCB). There can be no
assurance that the U.S. government will provide financial support to U.S.
government securities of its agencies and instrumentalities if it is not
obligated to do so under law. Of course U.S. government securities, including
U.S. Treasury securities, are among the safest securities, however, not unlike
other debt securities, they are still sensitive to interest rate changes, which
will cause their yields and prices to fluctuate.

                             INVESTMENT LIMITATIONS

SCHWAB FINANCIAL SERVICES FUND TM, SCHWAB HEALTH CARE FUND TM AND SCHWAB
TECHNOLOGY FUND TM:

The following investment limitations may be changed only by vote of a majority
of each fund's outstanding voting shares.

(1)   Each fund will concentrate its investments in a particular industry or
      group of industries, as concentration is defined under the 1940 Act, the
      rules or regulations thereunder or any exemption therefrom, as such
      statute, rules or regulations may be amended or interpreted from time to
      time. The Schwab Financial Fund will concentrate its investments in
      securities of companies in the financial services sector. The Schwab
      Health Care Fund will concentrate its investments in securities of
      companies in the health care sector. The Schwab Technology Fund will
      concentrate its investments in securities of companies in the technology
      sector.

(2)   Each fund may not purchase or sell commodities or real estate, except to
      the extent permitted under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

(3)   Each fund may not make loans to other persons, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.


                                       28

(4)   Each fund may not borrow money, except to the extent permitted under the
      1940 Act, the rules or regulations thereunder or any exemption therefrom,
      as such statute, rules or regulations may be amended or interpreted from
      time to time.

(5)   Each fund may not issue senior securities, except to the extent permitted
      under the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

(6)   Each fund may not underwrite securities issued by other persons, except to
      the extent permitted under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

THE FOLLOWING INVESTMENT POLICIES AND RESTRICTIONS ARE NON-FUNDAMENTAL AND MAY
BE CHANGED BY THE BOARD OF TRUSTEES.

Each fund may not:

(1)   Invest more than 15% of its net assets in illiquid securities.

(2)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

(3)   Sell securities short unless it owns the security or the right to obtain
      the security or equivalent securities, or unless it covers such short sale
      as required by current SEC rules and interpretations (transactions in
      futures contracts, options and other derivative instruments are not
      considered selling securities short).

(4)   Purchase securities on margin, except such short-term credits as may be
      necessary for the clearance of purchases and sales of securities and
      provided that margin deposits in connection with futures contracts,
      options on futures or other derivative instruments shall not constitute
      purchasing securities on margin.

(5)   Purchase or sell commodities, commodity contracts or real estate,
      including interests in real estate limited partnerships, provided that the
      fund may (1) purchase securities of companies that deal in real estate or
      interests therein (including REITs), (2) purchase or sell futures
      contracts, options contracts, equity index participations and index
      participation contracts, and (3) purchase securities of companies that
      deal in precious metals or interests therein.

(6)   Borrow money except that the fund may (i) borrow money from banks or
      through an interfund lending facility, if any, only for temporary or
      emergency purposes (and not for leveraging) and (ii) engage in reverse
      repurchase agreements with any party; provided that (i) and (ii) in
      combination do not exceed 33 1/3% of its total assets (any borrowings that
      come to exceed this amount will be reduced to the extent necessary to
      comply with the limitation within three business days).

(7)   Lend any security or make any other loan if, as a result, more than
      33 1/3% of its total assets would be lent to other parties (this
      restriction does not apply to purchases of debt securities or repurchase
      agreements).


                                       29

SCHWAB EQUITY INDEX FUNDS

THE FOLLOWING INVESTMENT LIMITATIONS MAY BE CHANGED ONLY BY VOTE OF A MAJORITY
OF EACH FUND'S OUTSTANDING VOTING SHARES.

EACH OF THE SCHWAB S&P 500 INDEX FUND, SCHWAB 1000 INDEX(R) FUND, SCHWAB
SMALL-CAP INDEX FUND(R), AND SCHWAB INTERNATIONAL INDEX FUND(R) MAY NOT:

(1)   Borrow money, except to the extent permitted under the Investment Company
      1940 Act (the "1940 Act"), the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

(2)   Make loans to other persons, except to the extent permitted under the 1940
      Act, the rules or regulations thereunder or any exemption therefrom, as
      such statute, rules or regulations may be amended or interpreted from time
      to time.

(3)   Issue senior securities, except to the extent permitted under the 1940
      Act, the rules or regulations thereunder or any exemption therefrom, as
      such statute, rules or regulations may be amended or interpreted from time
      to time.

(4)   Purchase securities of an issuer, except as consistent with the
      maintenance of its status as an open-end diversified company under the
      1940 Act, the rules or regulations thereunder or any exemption therefrom,
      as such statute, rules or regulations may be amended or interpreted from
      time to time.

(5)   Concentrate investments in a particular industry or group of industries,
      as concentration is defined under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

(6)   Purchase or sell commodities or real estate, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

(7)   Underwrite securities issued by other persons, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

IN ADDITION, EACH OF THE SCHWAB S&P 500 INDEX FUND, SCHWAB SMALL-CAP INDEX
FUND(R) AND SCHWAB INTERNATIONAL INDEX FUND(R) MAY NOT:

(1)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, including any exemptive relief granted by the SEC.

IN ADDITION, THE SCHWAB 1000 INDEX(R) FUND MAY NOT:

(1)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act.

THE SCHWAB TOTAL STOCK MARKET INDEX FUND(R) MAY NOT:


                                       30

(1)   Purchase securities of any issuer, except as consistent with the
      maintenance of its status as a diversified company under the 1940 Act.

(2)   Concentrate investments in a particular industry or group of industries,
      except as permitted under the 1940 Act, or the rules or regulations
      thereunder.

(3)   (i) Purchase or sell commodities, commodities contracts, futures or real
      estate, (ii) lend or borrow money, (iii) issue senior securities, (iv)
      underwrite securities or (v) pledge, mortgage or hypothecate any of its
      assets, except as permitted by the 1940 Act, or the rules or regulations
      thereunder.

THE FOLLOWING ARE NON-FUNDAMENTAL INVESTMENT POLICIES AND RESTRICTIONS, AND MAY
BE CHANGED BY THE BOARD OF TRUSTEES.

EACH FUND MAY NOT:

(1)   Sell securities short unless it owns the security or the right to obtain
      the security or equivalent securities, or unless it covers such short sale
      as required by current SEC rules and interpretations (transactions in
      futures contracts, options and other derivative instruments are not
      considered selling securities short).

(2)   Purchase securities on margin, except such short-term credits as may be
      necessary for the clearance of purchases and sales of securities and
      provided that margin deposits in connection with futures contracts,
      options on futures or other derivative instruments shall not constitute
      purchasing securities on margin.

(3)   Borrow money except that the fund may (i) borrow money from banks or
      through an interfund lending facility, if any, only for temporary or
      emergency purposes (and not for leveraging) and (ii) engage in reverse
      repurchase agreements with any party; provided that (i) and (ii) in
      combination do not exceed 33 1/3% of its total assets (any borrowings that
      come to exceed this amount will be reduced to the extent necessary to
      comply with the limitation within three business days).

(4)   Lend any security or make any other loan if, as a result, more than
      33 1/3% of its total assets would be lent to other parties (this
      restriction does not apply to purchases of debt securities or repurchase
      agreements).

(5)   Purchase securities (other than securities issued or guaranteed by the
      U.S. government, its agencies or instrumentalities) if, as a result of
      such purchase, 25% or more of the value of its total assets would be
      invested in any industry or group of industries (except that each fund may
      purchase securities to the extent that its index is also so concentrated).

(6)   Purchase or sell commodities, commodity contracts or real estate,
      including interests in real estate limited partnerships, provided that
      each fund may (i) purchase securities of companies that deal in real
      estate or interests therein (including REITs), (ii) purchase or sell
      futures contracts, options contracts, equity index participations and
      index participation contracts, and (iii) purchase securities of companies
      that deal in precious metals or interests therein.

(7)   Invest more than 15% of its net assets in illiquid securities.


                                       31

IN ADDITION, THE SCHWAB SMALL-CAP INDEX FUND(R)

(1)   Intends to achieve its investment objective by tracking the price and
      dividend performance (total return) of the Schwab Small-Cap Index.

IN ADDITION, THE SCHWAB INTERNATIONAL INDEX FUND(R)

(1)   Intends to achieve its investment objective by tracking the price and
      dividend performance (total return) of the Schwab International Index.

IN ADDITION, THE SCHWAB TOTAL STOCK MARKET INDEX FUND(R) MAY NOT:

(1)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

SCHWAB INSTITUTIONAL SELECT(R) FUNDS

THE FOLLOWING INVESTMENT LIMITATIONS MAY BE CHANGED ONLY BY VOTE OF A MAJORITY
OF EACH FUND'S OUTSTANDING VOTING SHARES:

EACH OF THE SCHWAB INSTITUTIONAL SELECT S&P 500 FUND, SCHWAB INSTITUTIONAL
SELECT LARGE-CAP VALUE INDEX FUND AND SCHWAB INSTITUTIONAL SELECT SMALL-CAP
VALUE INDEX FUND MAY NOT:

(1)   Purchase securities of any issuer, except as consistent with the
      maintenance of its status as a diversified company under the Investment
      Company Act of 1940 (the "1940 Act").

(2)   Concentrate investments in a particular industry or group of industries,
      except as permitted under the 1940 Act, or the rules or regulations
      thereunder.

(3)   (i) Purchase or sell commodities, commodities contracts, futures contracts
      or real estate, (ii) lend or borrow money, (iii) issue senior securities,
      (iv) underwrite securities or (v) pledge, mortgage or hypothecate any of
      its assets, except as permitted by the 1940 Act, or the rules or
      regulations thereunder.

THE FOLLOWING ARE NON-FUNDAMENTAL INVESTMENT POLICIES AND RESTRICTIONS, AND MAY
BE CHANGED BY THE BOARD OF TRUSTEES.

EACH FUND MAY NOT:

(1)   Invest more than 15% of its net assets in illiquid securities.

(2)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

(3)   Sell securities short unless it owns the security or the right to obtain
      the security or equivalent securities, or unless it covers such short sale
      as required by current SEC rules and interpretations (transactions in
      futures contracts, options and other derivative instruments are not
      considered selling securities short).


                                       32

(4)   Borrow money except that the fund may (i) borrow money from banks or
      through an interfund lending facility, if any, only for temporary or
      emergency purposes (and not for leveraging) and (ii) engage in reverse
      repurchase agreements with any party; provided that (i) and (ii) in
      combination do not exceed 33 1/3% of its total assets (any borrowings that
      come to exceed this amount will be reduced to the extent necessary to
      comply with the limitation within three business days).

(5)   Purchase securities on margin, except such short-term credits as may be
      necessary for the clearance of purchases and sales of securities and
      provided that margin deposits in connection with futures contracts,
      options on futures or other derivative instruments shall not constitute
      purchasing securities on margin.

(6)   Purchase securities (other than securities issued or guaranteed by the
      U.S. government, its agencies or instrumentalities) if, as a result of
      such purchase, 25% or more of the value of its total assets would be
      invested in any industry or group of industries (except that each fund may
      purchase securities to the extent that its index is also so concentrated).

(7)   Lend any security or make any other loan if, as a result, more than
      33 1/3% of its total assets would be lent to other parties (this
      restriction does not apply to purchases of debt securities or repurchase
      agreements).

(8)   Purchase or sell commodities, commodity contracts or real estate,
      including interests in real estate limited partnerships, provided that the
      fund may (i) purchase securities of companies that deal in real estate or
      interests therein (including REITs), (ii) purchase or sell futures
      contracts, options contracts, equity index participations and index
      participation contracts, and (iii) purchase securities of companies that
      deal in precious metals or interests therein.

SCHWAB MARKETTRACK PORTFOLIOS(R)

THE FOLLOWING INVESTMENT LIMITATIONS MAY BE CHANGED ONLY BY VOTE OF A MAJORITY
OF EACH PORTFOLIO'S OUTSTANDING VOTING SHARES.

THE ALL EQUITY PORTFOLIO MAY NOT:

(1)   Purchase securities of any issuer unless consistent with the maintenance
      of its status as a diversified company under the Investment Company Act of
      1940 (the "1940 Act").

(2)   Concentrate investments in a particular industry or group of industries as
      concentration is defined under the 1940 Act, or the rules or regulations
      thereunder.

(3)   (i) Purchase or sell commodities, commodities contracts or real estate,
      (ii) lend or borrow money, (iii) issue senior securities, (iv) underwrite
      securities, or (v) pledge, mortgage or hypothecate any of its assets,
      except as permitted by the 1940 Act or the rules or regulations
      thereunder.

EACH OF THE GROWTH PORTFOLIO, BALANCED PORTFOLIO AND CONSERVATIVE PORTFOLIO MAY
NOT:

(1)   Purchase securities of an issuer, except as consistent with the
      maintenance of its status as an open-end diversified company under the
      1940 Act, the rules or regulations thereunder or any exemption therefrom,
      as such statute, rules or regulations may be amended or interpreted from
      time to time.


                                       33

(2)   Concentrate investments in a particular industry or group of industries,
      as concentration is defined under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

(3)   Purchase or sell commodities or real estate, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

(4)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, including any exemptive relief granted by the SEC.

(5)   Make loans to other persons, except to the extent permitted under the 1940
      Act, the rules or regulations thereunder or any exemption therefrom, as
      such statute, rules or regulations may be amended or interpreted from time
      to time.

(6)   Borrow money, except to the extent permitted under the 1940 Act, the rules
      or regulations thereunder or any exemption therefrom, as such statute,
      rules or regulations may be amended or interpreted from time to time.

(7)   Issue senior securities, except to the extent permitted under the 1940
      Act, the rules or regulations thereunder or any exemption therefrom, as
      such statute, rules or regulations may be amended or interpreted from time
      to time.

(8)   Underwrite securities issued by other persons, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

THE FOLLOWING ARE NON-FUNDAMENTAL INVESTMENT POLICIES AND RESTRICTIONS, AND MAY
BE CHANGED BY THE BOARD OF TRUSTEES.

EACH PORTFOLIO MAY NOT:

(1)   Sell securities short unless it owns the security or the right to obtain
      the security or equivalent securities, or unless it covers such short sale
      as required by current SEC rules and interpretations (transactions in
      futures contracts, options and other derivative instruments are not
      considered selling securities short).

(2)   Purchase securities on margin, except such short-term credits as may be
      necessary for the clearance of purchases and sales of securities and
      provided that margin deposits in connection with futures contracts and
      options on futures or other derivative instruments shall not constitute
      purchasing securities on margin.

(3)   Borrow money except that the portfolio may (i) borrow money from banks or
      through an interfund lending facility, if any, only for temporary or
      emergency purposes (and not for leveraging) and (ii) engage in reverse
      repurchase agreements with any party; provided that (i) and (ii) in
      combination do not exceed 33 1/3% of its total assets (any borrowings that
      come to exceed this amount will be reduced to the extent necessary to
      comply with the limitation within three business days).

(4)   Lend any security or make any other loan if, as a result, more than
      33 1/3% of its total assets would be lent to other parties (this
      restriction does not apply to purchases of debt securities or repurchase
      agreements).


                                       34

(5)   Purchase securities (other than securities issued or guaranteed by the
      U.S. government, its agencies or instrumentalities) if, as a result of
      such purchase, 25% or more of the value of its total assets would be
      invested in any industry or group of industries.

(6)   Invest more than 15% of its net assets in illiquid securities.

(7)   Purchase or sell commodities, commodity contracts or real estate,
      including interests in real estate limited partnerships, provided that the
      portfolio may (i) purchase securities of companies that deal in real
      estate or interests therein (including REITs), (ii) purchase or sell
      futures contracts, options contracts, equity index participations and
      index participation contracts, and (iii) purchase securities of companies
      that deal in precious metals or interests therein.

IN ADDITION, THE ALL EQUITY PORTFOLIO MAY NOT:

(1)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

SCHWAB CORE EQUITY FUND TM

THE FOLLOWING INVESTMENT LIMITATIONS MAY BE CHANGED ONLY BY VOTE OF A MAJORITY
OF THE FUND'S OUTSTANDING VOTING SHARES:

(1)   The fund may not purchase securities of an issuer, except as consistent
      with the maintenance of its status as an open-end diversified company
      under the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

(2)   The fund may not concentrate investments in a particular industry or group
      of industries, as concentration is defined under the 1940 Act, the rules
      or regulations thereunder or any exemption therefrom, as such statute,
      rules or regulations may be amended or interpreted from time to time.

(3)   The fund may not purchase or sell commodities or real estate, except to
      the extent permitted under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

(4)   The fund may not make loans to other persons, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

(5)   The fund may not borrow money, except to the extent permitted under the
      1940 Act, the rules or regulations thereunder or any exemption therefrom,
      as such statute, rules or regulations may be amended or interpreted from
      time to time.

(6)   The fund may not issue senior securities, except to the extent permitted
      under the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.


                                       35

(7)   The fund may not underwrite securities issued by other persons, except to
      the extent permitted under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

THE FOLLOWING ARE NON-FUNDAMENTAL INVESTMENT POLICIES AND RESTRICTIONS, AND MAY
BE CHANGED BY THE BOARD OF TRUSTEES.

THE FUND MAY NOT:

(1)   Sell securities short unless it owns the security or the right to obtain
      the security or equivalent securities, or unless it covers such short sale
      as required by current SEC rules and interpretations (transactions in
      futures contracts, options and other derivative instruments are not
      considered selling securities short).

(2)   Purchase securities on margin, except such short-term credits as may be
      necessary for the clearance of purchases and sales of securities and
      provided that margin deposits in connection with futures contracts,
      options on futures or other derivative instruments shall not constitute
      purchasing securities on margin.

(3)   Invest more than 15% of its net assets in illiquid securities.

(4)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

(5)   Purchase securities (other than securities issued or guaranteed by the
      U.S. government, its agencies or instrumentalities) if, as a result of
      such purchase, 25% or more of the value of its total assets would be
      invested in any industry or group of industries (except that the fund may
      purchase securities to the extent that the S&P 500(R) is also so
      concentrated).

(6)   Purchase or sell commodities, commodity contracts or real estate,
      including interests in real estate limited partnerships, provided that the
      fund may (i) purchase securities of companies that deal in real estate or
      interests therein (including REITs), (ii) purchase or sell futures
      contracts, options contracts, equity index participations and index
      participation contracts, and (iii) purchase securities of companies that
      deal in precious metals or interests therein.

(7)   Lend any security or make any other loan if, as a result, more than
      33 1/3% of its total assets would be lent to other parties (this
      restriction does not apply to purchases of debt securities or repurchase
      agreements).

(8)   Borrow money except that the fund may (i) borrow money from banks or
      through an interfund lending facility, if any, only for temporary or
      emergency purposes (and not for leveraging) and (ii) engage in reverse
      repurchase agreements with any party; provided that (i) and (ii) in
      combination do not exceed 33 1/3% of its total assets (any borrowings that
      come to exceed this amount will be reduced to the extent necessary to
      comply with the limitation within three business days).

SCHWAB SMALL-CAP EQUITY FUND TM

THE FOLLOWING INVESTMENT LIMITATIONS MAY BE CHANGED ONLY BY VOTE OF A MAJORITY
OF THE FUND'S OUTSTANDING VOTING SHARES:


                                       36

(1)   The fund may not purchase securities of an issuer, except as consistent
      with the maintenance of its status as an open-end diversified company
      under the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

(2)   The fund may not concentrate investments in a particular industry or group
      of industries, as concentration is defined under the 1940 Act, the rules
      or regulations thereunder or any exemption therefrom, as such statute,
      rules or regulations may be amended or interpreted from time to time.

(3)   The fund may not purchase or sell commodities or real estate, except to
      the extent permitted under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

(4)   The fund may not make loans to other persons, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

(5)   The fund may not borrow money, except to the extent permitted under the
      1940 Act, the rules or regulations thereunder or any exemption therefrom,
      as such statute, rules or regulations may be amended or interpreted from
      time to time.

(6)   The fund may not issue senior securities, except to the extent permitted
      under the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

(7)   The fund may not underwrite securities issued by other persons, except to
      the extent permitted under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

THE FOLLOWING ARE NON-FUNDAMENTAL INVESTMENT POLICIES AND RESTRICTIONS, AND MAY
BE CHANGED BY THE BOARD OF TRUSTEES.

THE FUND MAY NOT:

(1)   Sell securities short unless it owns the security or the right to obtain
      the security or equivalent securities, or unless it covers such short sale
      as required by current SEC rules and interpretations (transactions in
      futures contracts, options and other derivative instruments are not
      considered selling securities short).

(2)   Purchase securities on margin, except such short-term credits as may be
      necessary for the clearance of purchases and sales of securities and
      provided that margin deposits in connection with futures contracts,
      options on futures or other derivative instruments shall not constitute
      purchasing securities on margin.

(3)   Invest more than 15% of its net assets in illiquid securities.

(4)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.


                                       37

(5)   Purchase securities (other than securities issued or guaranteed by the
      U.S. government, its agencies or instrumentalities) if, as a result of
      such purchase, 25% or more of the value of its total assets would be
      invested in any industry or group of industries (except that the fund may
      purchase securities to the extent that the S&P SmallCap 600(R) is also so
      concentrated).

(6)   Purchase or sell commodities, commodity contracts or real estate,
      including interests in real estate limited partnerships, provided that the
      fund may (i) purchase securities of companies that deal in real estate or
      interests therein (including REITs), (ii) purchase or sell futures
      contracts, options contracts, equity index participations and index
      participation contracts, and (iii) purchase securities of companies that
      deal in precious metals or interests therein.

(7)   Lend any security or make any other loan if, as a result, more than
      33 1/3% of its total assets would be lent to other parties (this
      restriction does not apply to purchases of debt securities or repurchase
      agreements).

(8)   Borrow money except that the fund may (i) borrow money from banks or
      through an interfund lending facility, if any, only for temporary or
      emergency purposes (and not for leveraging) and (ii) engage in reverse
      repurchase agreements with any party; provided that (i) and (ii) in
      combination do not exceed 33 1/3% of its total assets (any borrowings that
      come to exceed this amount will be reduced to the extent necessary to
      comply with the limitation within three business days).

SCHWAB HEDGED EQUITY FUND TM

THE FOLLOWING INVESTMENT LIMITATIONS MAY BE CHANGED ONLY BY VOTE OF A MAJORITY
OF THE FUND'S OUTSTANDING VOTING SHARES:

(1)   The fund may not purchase securities of an issuer, except as consistent
      with the maintenance of its status as an open-end diversified company
      under the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

(2)   The fund may not concentrate investments in a particular industry or group
      of industries, as concentration is defined under the 1940 Act, the rules
      or regulations thereunder or any exemption therefrom, as such statute,
      rules or regulations may be amended or interpreted from time to time.

(3)   The fund may not purchase or sell commodities or real estate, except to
      the extent permitted under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

(4)   The fund may not make loans to other persons, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

(5)   The fund may not borrow money, except to the extent permitted under the
      1940 Act, the rules or regulations thereunder or any exemption therefrom,
      as such statute, rules or regulations may be amended or interpreted from
      time to time.

(6)   The fund may not issue senior securities, except to the extent permitted
      under the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.


                                       38

(7)   The fund may not underwrite securities issued by other persons, except to
      the extent permitted under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

THE FOLLOWING ARE NON-FUNDAMENTAL INVESTMENT POLICIES AND RESTRICTIONS, AND MAY
BE CHANGED BY THE BOARD OF TRUSTEES.

THE FUND MAY NOT:

(1)   Sell securities short unless it owns the security or the right to obtain
      the security or equivalent securities, or unless it covers such short sale
      as required by current SEC rules and interpretations (transactions in
      futures contracts, options and other derivative instruments are not
      considered selling securities short).

(2)   Purchase securities on margin, except such short-term credits as may be
      necessary for the clearance of purchases and sales of securities and
      provided that margin deposits in connection with futures contracts,
      options on futures or other derivative instruments shall not constitute
      purchasing securities on margin.

(3)   Invest more than 15% of its net assets in illiquid securities.

(4)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.

(5)   Purchase securities (other than securities issued or guaranteed by the
      U.S. government, its agencies or instrumentalities) if, as a result of
      such purchase, 25% or more of the value of its total assets would be
      invested in any industry or group of industries (except that the fund may
      purchase securities to the extent that the S&P 500(R) is also so
      concentrated).

(6)   Purchase or sell commodities, commodity contracts or real estate,
      including interests in real estate limited partnerships, provided that the
      fund may (i) purchase securities of companies that deal in real estate or
      interests therein (including REITs), (ii) purchase or sell futures
      contracts, options contracts, equity index participations and index
      participation contracts, and (iii) purchase securities of companies that
      deal in precious metals or interests therein.

(7)   Lend any security or make any other loan if, as a result, more than
      33 1/3% of its total assets would be lent to other parties (this
      restriction does not apply to purchases of debt securities or repurchase
      agreements).

(8)   Borrow money, except that the fund may (i) borrow money (A) for temporary
      or emergency purposes or (B) from banks or through an interfund lending
      facility, if any, and (ii) engage in reverse repurchase agreements with
      any party; provided that (i) and (ii) in combination do not exceed 33 1/3%
      of its total assets.

SCHWAB DIVIDEND EQUITY FUND TM AND SCHWAB PREMIER EQUITY FUND TM

THE FOLLOWING INVESTMENT LIMITATIONS MAY BE CHANGED ONLY BY VOTE OF A MAJORITY
OF THE FUND'S OUTSTANDING VOTING SHARES:

EACH FUND MAY NOT:


                                       39

(1)   Purchase securities of an issuer, except as consistent with the
      maintenance of its status as an open-end diversified company under the
      1940 Act, the rules or regulations thereunder or any exemption therefrom,
      as such statute, rules or regulations may be amended or interpreted from
      time to time.

(2)   Concentrate investments in a particular industry or group of industries,
      as concentration is defined under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

(3)   Purchase or sell commodities or real estate, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

(4)   Make loans to other persons, except to the extent permitted under the 1940
      Act, the rules or regulations thereunder or any exemption therefrom, as
      such statute, rules or regulations may be amended or interpreted from time
      to time.

(5)   Borrow money, except to the extent permitted under the 1940 Act, the rules
      or regulations thereunder or any exemption therefrom, as such statute,
      rules or regulations may be amended or interpreted from time to time.

(6)   Issue senior securities, except to the extent permitted under the 1940
      Act, the rules or regulations thereunder or any exemption therefrom, as
      such statute, rules or regulations may be amended or interpreted from time
      to time.

(7)   Underwrite securities issued by other persons, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

THE FOLLOWING ARE NON-FUNDAMENTAL INVESTMENT POLICIES AND RESTRICTIONS, AND MAY
BE CHANGED BY THE BOARD OF TRUSTEES.

EACH FUND MAY NOT:

(1)   Sell securities short unless it owns the security or the right to obtain
      the security or equivalent securities, or unless it covers such short sale
      as required by current SEC rules and interpretations (transactions in
      futures contracts, options and other derivative instruments are not
      considered selling securities short).

(2)   Purchase securities on margin, except such short-term credits as may be
      necessary for the clearance of purchases and sales of securities and
      provided that margin deposits in connection with futures contracts,
      options on futures or other derivative instruments shall not constitute
      purchasing securities on margin.

(3)   Invest more than 15% of its net assets in illiquid securities.

(4)   Purchase securities of other investment companies, except as permitted by
      the 1940 Act, the rules or regulations thereunder or any exemption
      therefrom, as such statute, rules or regulations may be amended or
      interpreted from time to time.


                                       40

(5)   Purchase securities (other than securities issued or guaranteed by the
      U.S. government, its agencies or instrumentalities) if, as a result of
      such purchase, 25% or more of the value of its total assets would be
      invested in any industry or group of industries.

(6)   Purchase or sell commodities, commodity contracts or real estate,
      including interests in real estate limited partnerships, provided that the
      fund may (i) purchase securities of companies that deal in real estate or
      interests therein (including REITs), (ii) purchase or sell futures
      contracts, options contracts, equity index participations and index
      participation contracts, and (iii) purchase securities of companies that
      deal in precious metals or interests therein.

(7)   Lend any security or make any other loan if, as a result, more than
      33 1/3% of its total assets would be lent to other parties (this
      restriction does not apply to purchases of debt securities or repurchase
      agreements).

(8)   Borrow money except that the fund may (i) borrow money from banks or
      through an interfund lending facility, if any, only for temporary or
      emergency purposes (and not for leveraging) and (ii) engage in reverse
      repurchase agreements with any party; provided that (i) and (ii) in
      combination do not exceed 33 1/3% of its total assets (any borrowings that
      come to exceed this amount will be reduced to the extent necessary to
      comply with the limitation within three business days).

SCHWAB TARGET FUNDS:

The following investment limitations may be changed only by vote of a majority
of each fund's outstanding voting shares.

Each fund may not:

(1)   Concentrate investments in a particular industry or group of industries,
      as concentration is defined under the 1940 Act, the rules or regulations
      thereunder or any exemption therefrom, as such statute, rules or
      regulations may be amended or interpreted from time to time.

(2)   Purchase or sell commodities or real estate, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.

(3)   Make loans to other persons, except to the extent permitted under the 1940
      Act, the rules or regulations thereunder or any exemption therefrom, as
      such statute, rules or regulations may be amended or interpreted from time
      to time.

(4)   Borrow money, except to the extent permitted under the 1940 Act, the rules
      or regulations thereunder or any exemption therefrom, as such statute,
      rules or regulations may be amended or interpreted from time to time.

(5)   Issue senior securities, except to the extent permitted under the 1940
      Act, the rules or regulations thereunder or any exemption therefrom, as
      such statute, rules or regulations may be amended or interpreted from time
      to time.

(6)   Underwrite securities issued by other persons, except to the extent
      permitted under the 1940 Act, the rules or regulations thereunder or any
      exemption therefrom, as such statute, rules or regulations may be amended
      or interpreted from time to time.


                                       41

(7)   Purchase securities of an issuer, except as consistent with the
      maintenance of its status as an open-end diversified company under the
      1940 Act, the rules or regulations thereunder or any exemption therefrom,
      as such statute, rules or regulations may be amended or interpreted from
      time to time.

THE FOLLOWING INVESTMENT POLICIES AND RESTRICTIONS ARE NON-FUNDAMENTAL AND MAY
BE CHANGED BY THE BOARD OF TRUSTEES.

Each fund may not:

(1)   Invest more than 15% of its net assets in illiquid securities.

(2)   Sell securities short unless it owns the security or the right to obtain
      the security or equivalent securities, or unless it covers such short sale
      as required by current SEC rules and interpretations (transactions in
      futures contracts, options and other derivative instruments are not
      considered selling securities short).

(3)   Purchase securities on margin, except such short-term credits as may be
      necessary for the clearance of purchases and sales of securities and
      provided that margin deposits in connection with futures contracts,
      options on futures or other derivative instruments shall not constitute
      purchasing securities on margin.

(4)   Purchase or sell commodities, commodity contracts or real estate,
      including interests in real estate limited partnerships, provided that the
      fund may (1) purchase securities of companies that deal in real estate or
      interests therein (including REITs), (2) purchase or sell futures
      contracts, options contracts, equity index participations and index
      participation contracts, and (3) purchase securities of companies that
      deal in precious metals or interests therein.

(5)   Borrow money except that the fund may (i) borrow money from banks or
      through an interfund lending facility, if any, only for temporary or
      emergency purposes (and not for leveraging) and (ii) engage in reverse
      repurchase agreements with any party; provided that (i) and (ii) in
      combination do not exceed 33 1/3% of its total assets (any borrowings that
      come to exceed this amount will be reduced to the extent necessary to
      comply with the limitation within three business days).

(6)   Lend any security or make any other loan if, as a result, more than
      33 1/3% of its total assets would be lent to other parties (this
      restriction does not apply to purchases of debt securities or repurchase
      agreements).

(7)   Purchase securities (other than securities issued or guaranteed by the
      U.S. government, its agencies or instrumentalities) if, as a result of
      such purchase, 25% or more of the value of its total assets would be
      invested in any industry or group of industries.

THE FOLLOWING DESCRIPTIONS OF THE 1940 ACT MAY ASSIST INVESTORS IN UNDERSTANDING
THE ABOVE POLICIES AND RESTRICTIONS.

Borrowing. The 1940 Act restricts an investment company from borrowing
(including pledging, mortgaging or hypothecating assets) in excess of 33 1/3% of
its total assets (not including temporary borrowings not in excess of 5% of its
total assets). Transactions that are fully collateralized in a manner that does
not involve the prohibited issuance of a "senior security" within the meaning of
Section 18(f) of the 1940 Act, shall not be regarded as borrowings for the
purposes of a fund's investment restriction.


                                       42

Concentration. The SEC has defined concentration as investing 25% or more of an
investment company's total assets in an industry or group of industries, with
certain exceptions.

Diversification. Under the 1940 Act and the rules, regulations and
interpretations thereunder, a "diversified company," as to 75% of its total
assets, may not purchase securities of any issuer (other than obligations of, or
guaranteed by, the U.S. government or its agencies, or instrumentalities or
securities of other investment companies) if, as a result, more than 5% of its
total assets would be invested in the securities of such issuer, or more than
10% of the issuer's voting securities would be held by the fund.

Lending. Under the 1940 Act, an investment company may only make loans if
expressly permitted by its investment policies.

Real Estate. The 1940 Act does not directly restrict an investment company's
ability to invest in real estate, but does require that every investment company
have a fundamental investment policy governing such investments. Each fund has
adopted a fundamental policy that would permit direct investment in real estate.
However, each fund has a non-fundamental investment limitation that prohibits it
from investing directly in real estate. This non-fundamental policy may be
changed only by vote of a fund's Board of Trustees.

Senior Securities. Senior securities may include any obligation or instrument
issued by an investment company evidencing indebtedness. The 1940 Act generally
prohibits each fund from issuing senior securities, although it provides
allowances for certain borrowings and certain other investments, such as short
sales, reverse repurchase agreements, firm commitment agreements and standby
commitments, when such investments are "covered" or with appropriate earmarking
or segregation of assets to cover such obligations.

Underwriting. Under the 1940 Act, underwriting securities involves an investment
company purchasing securities directly from an issuer for the purpose of selling
(distributing) them or participating in any such activity either directly or
indirectly. Under the 1940 Act, a diversified fund may not make any commitment
as underwriter, if immediately thereafter the amount of its outstanding
underwriting commitments, plus the value of its investments in securities of
issuers (other than investment companies) of which it owns more than 10% of the
outstanding voting securities, exceeds 25% of the value of its total assets. The
foregoing restriction does not apply to non-diversified funds.

Policies and investment limitations that state a maximum percentage of assets
that may be invested in a security or other asset, or that set forth a quality
standard shall be measured immediately after and as a result of a fund's
acquisition of such security or asset, unless otherwise noted. Except with
respect to limitations on borrowing and futures and option contracts, any
subsequent change in net assets or other circumstances does not require a fund
to sell an investment if it could not then make the same investment. With
respect to the limitation on illiquid securities, in the event that a subsequent
change in net assets or other circumstances cause a fund to exceed its
limitation, the fund will take steps to bring the aggregate amount of illiquid
instruments back within the limitations as soon as reasonably practicable.

                             MANAGEMENT OF THE FUNDS

The funds are overseen by a Board of Trustees. The trustees are responsible for
protecting shareholder interests. The trustees regularly meet to review the
investment activities, contractual arrangements and the investment performance
of each fund. The trustees met 7 times during the most recent fiscal year.


                                       43

Certain trustees are "interested persons." A trustee is considered an interested
person of the trust under the 1940 Act if he or she is an officer, director, or
an employee of Charles Schwab Investment Management, Inc. ("CSIM") or Charles
Schwab & Co., Inc. ("Schwab"). A trustee also may be considered an interested
person of the trust under the 1940 Act if he or she owns stock of The Charles
Schwab Corporation, a publicly traded company and the parent company of the
funds' investment adviser and distributor.

This information is provided as of May 2, 2005. Each of the officers and/or
trustees also serves in the same capacity as described for the trust, for The
Charles Schwab Family of Funds, Schwab Investments and Schwab Annuity Portfolios
(collectively referred to herein as the "Family of Investment Companies"), which
as of May 2, 2005, included 53 funds.

On January 30, 2004, CSIM became the investment advisor of the Laudus Trust and
the Laudus Variable Insurance Trust (the Family of Investment Companies, Laudus
Trust and Laudus Variable Insurance Trust are collectively referred to herein as
the "fund complex"). As of May 2, 2005, the fund complex consisted of 63 funds.
Ms. Byerwalter and Mr. Hasler also serve as trustees for the Laudus Trust and
Laudus Variable Insurance Trust, therefore, each of these trustees oversees all
63 funds in the fund complex. The address of each individual is 101 Montgomery
Street, San Francisco, California 94104.

Each officer's and trustee's principal occupations during the past five years,
other current directorships and affiliations, if any, with The Charles Schwab
Corporation, Schwab and CSIM are as follows:



                                                TERM OF
                                               OFFICE AND                PRINCIPAL
   NAME AND                 POSITION(S)        LENGTH OF               OCCUPATIONS
   DATE OF                   WITH THE             TIME                DURING THE PAST                    OTHER
    BIRTH                     TRUST             SERVED 1                 FIVE YEARS                  DIRECTORSHIPS
                                                                                  
                                                     INDEPENDENT TRUSTEES

DONALD F. DORWARD        Trustee            Trustee of          Chief Executive Officer,
September 23, 1931                          Schwab Capital      Dorward & Associates
                                            Trust since 1993    (corporate management,
                                            and Schwab          marketing and
                                            Investments since   communications consulting
                                            1991.               firm). From 1996 to
                                                                1999, Executive Vice
                                                                President and Managing
                                                                Director, Grey
                                                                Advertising. Prior to
                                                                1996, President and Chief
                                                                Executive Officer, Allen
                                                                & Dorward Advertising.


- ----------
1 Trustees remain in office until they resign, retire or are removed by
  shareholder vote. The SchwabFunds retirement policy requires that independent
  trustees elected after January 1, 2000 retire at age 72 or after twenty years
  of service as a trustee, whichever comes first. Independent trustees elected
  prior to January 1, 2000 will retire on the following schedule: Messrs. Holmes
  and Dorward will retire on December 31, 2007, and Messrs. Stephens and Wilsey
  will retire on December 31, 2010.

                                       44

                                                                                  
ROBERT G. HOLMES         Trustee            Trustee of Schwab   Chairman, Chief Executive
May 15, 1931                                Capital Trust       Officer and Director,
                                            since 1993 and      Semloh Financial, Inc.
                                            Schwab              (international financial
                                            Investments since   services and investment
                                            1991.               advisory firm).

DONALD R. STEPHENS       Trustee            Trustee of Schwab   Managing Partner, D.R.
June 28, 1938                               Capital Trust       Stephens & Company
                                            since 1993 and      (investments). Prior to
                                            Schwab              1996, Chairman and Chief
                                            Investments since   Executive Officer of
                                            1991.               North American Trust
                                                                (real estate investment
                                                                trust).

MICHAEL W. WILSEY        Trustee            Trustee of Schwab   Chairman and Chief
August 18, 1943                             Capital Trust       Executive Officer, Wilsey
                                            since 1993 and      Bennett, Inc. (real
                                            Schwab              estate investment and
                                            Investments since   management, and other
                                            1991.               investments).

MARIANN BYERWALTER       Trustee            Trustee of Schwab   Chairman of JDN Corporate     Ms. Byerwalter is on the
August 13, 1960                             Capital Trust and   Advisory LLC. From 1996       Board of Stanford University,
                                            Schwab              to 2001, Ms. Byerwalter       America First Companies,
                                            Investments since   was the Vice President        Omaha, NE (venture
                                            2000.               for Business Affairs and      capital/fund management),
                                                                Chief Financial Officer       Redwood Trust, Inc. (mortgage
                                                                of Stanford University        finance), Stanford Hospitals
                                                                and, in 2001, Special         and Clinics, SRI
                                                                Advisor to the President      International (research), PMI
                                                                of Stanford University.       Group, Inc. (mortgage
                                                                                              insurance), Lucile Packard
                                                                                              Children's Hospital. She is
                                                                                              also a Trustee of Laudus
                                                                                              Trust and Laudus Variable
                                                                                              Insurance Trust (registered
                                                                                              investment companies). In
                                                                                              2005 she joined the board of
                                                                                              Pacific Life Insurance
                                                                                              Company.




                                       45

                                                                                  
WILLIAM A. HASLER        Trustee            Trustee of Schwab   Mr. Hasler is Dean            Mr. Hasler is on the Board of
November 22, 1941                           Capital Trust and   Emeritus of the Haas          Aphton Corporation
                                            Schwab              Schools of Business at        (bio-pharmaceuticals),
                                            Investments since   the University of             Mission West Properties
                                            2000.               California, Berkeley          (commercial real estate),
                                                                (higher education).  -        Stratex Networks (a network
                                                                Prior to August 1998, Mr.     equipment corporation), TOUSA
                                                                Hasler was Dean of this       (home building), and
                                                                institution.                  Solectron Corporation
                                                                                              (manufacturing) where he is
                                                                                              also Non-Executive Chairman.
                                                                                              He is also a Trustee of
                                                                                              Laudus Trust and Laudus
                                                                                              Variable Insurance Trust
                                                                                              (registered investment
                                                                                              companies). Mr. Hasler is
                                                                                              also a Public Governor and
                                                                                              member of the Executive
                                                                                              Committee for Pacific Stock &
                                                                                              Options Exchange.

GERALD B. SMITH          Trustee            Trustee of Schwab   Since 1990, Chairman and      Mr. Smith is on the Board of
September 28, 1950                          Capital Trust and   Chief Executive Officer       Cooper Industries (electrical
                                            Schwab              and founder of Smith          products, tools and
                                            Investments since   Graham & Co. (investment      hardware), and is Chairman of
                                            2000.               advisors).                    the audit committee of
                                                                                              Northern Border Partners,
                                                                                              L.P. (energy).

                                                     INTERESTED TRUSTEES

CHARLES R. SCHWAB 2      Chairman and       Chairman and        Chairman, Chief Executive     Director, Siebel Systems (a
July 29, 1937            Trustee            Trustee of          Officer and Director, The     software company) and Xign,
                                            Schwab Capital      Charles Schwab                Inc. (a developer of
                                            Trust since 1993    Corporation, Charles          electronic payment systems);
                                            and Schwab          Schwab & Co., Inc.;           Trustee, Stanford University,
                                            Investments since   Chairman and Director,        since 1993; Director,
                                            1991.               Charles Schwab Investment     TrustMark, Inc.; Director,
                                                                Management, Inc.;             The Gap, Inc. (clothing
                                                                Chairman, Charles             retailer), until May 2004;
                                                                                              Director, The



- ----------
2 In addition to his employment with the investment adviser and the distributor,
  Mr. Schwab also owns stock of The Charles Schwab Corporation. Mr. Schwab is an
  Interested Trustees because he is an employee of Schwab and/or the adviser.


                                       46

                                                                                  
                                                                Schwab Holdings (UK); Chief   Charles Schwab Trust Company,
                                                                Executive Officer and         until July 2001; Director,
                                                                Director, Schwab              Audiobase, Inc. (full-service
                                                                Holdings, Inc.; Chairman      audio solutions for the
                                                                and Chief Executive           Internet), until March 2002;
                                                                Officer, Schwab (SIS)         Director, Vodaphone AirTouch
                                                                Holdings, Inc. I, Schwab      PLC (a telecommunications
                                                                International Holdings,       company) until May 2002.
                                                                Inc.; Director, U.S.
                                                                Trust Corporation, United
                                                                States Trust Company of
                                                                New York; Co-Chief
                                                                Executive Officer until
                                                                May 2003, The Charles
                                                                Schwab Corporation.

                                                           OFFICERS

EVELYN DILSAVER          President and      Officer of Schwab   Executive Vice President
May 4, 1955              Chief Executive    Capital Trust       and President, Charles
                         Officer            since 2004 and      Schwab Investment
                                            Schwab              Management, Inc. From June
                                            Investments since   2003 to July 2004, Ms.
                                            2004.               Dilsaver was Senior Vice
                                                                President of the Asset
                                                                Management Products and
                                                                Services Enterprise, with
                                                                responsibility for product
                                                                development and distribution.
                                                                Prior to this, Ms. Dilsaver
                                                                was Executive Vice President
                                                                of U.S. Trust, a subsidiary
                                                                of The Charles Schwab
                                                                Corporation, as their chief
                                                                financial officer and chief
                                                                administrative officer.

STEPHEN B. WARD          Senior Vice        Officer of Schwab   Director, Senior Vice
April 5, 1955            President and      Capital Trust       President and Chief
                         Chief Investment   since 1991 and      Investment Officer, Charles
                         Officer.           Schwab              Schwab Investment
                                            Investments since   Management, Inc.; Chief
                                            1991.               Investment Officer, The
                                                                Charles Schwab Trust
                                                                Company.




                                       47

                                                                                  
GEORGE PEREIRA           Treasurer and      Officer of Schwab   Senior Vice President and
June 9, 1964             Principal          Capital Trust       Chief Financial Officer
                         Financial Officer  since 2004 and      Charles Schwab Investment
                                            Schwab              Management, Inc. From
                                            Investments since   December 1999 to November
                                            2004.               2004, Mr. Pereira was Sr.
                                                                Vice President, Financial
                                                                Reporting, Charles Schwab &
                                                                Co., Inc. From September
                                                                1999 to December 1999, Mr.
                                                                Pereira was Chief Financial
                                                                Officer, Commerzbank
                                                                Capital Markets. Prior to
                                                                September 1999, Mr. Pereira
                                                                was Managing Director at
                                                                the New York Stock Exchange.

KOJI E. FELTON           Secretary          Officer of Schwab   Senior Vice President,
March 13, 1961                              Capital Trust       Chief Counsel and Assistant
                                            since 1998 and      Corporate Secretary,
                                            Schwab              Charles Schwab Investment
                                            Investments since   Management, Inc. Prior to
                                            1998.               June 1998, Mr. Felton was a
                                                                Branch Chief in Enforcement
                                                                at the U.S. Securities and
                                                                Exchange Commission in San
                                                                Francisco.

RANDALL FILLMORE         Chief Compliance   Officer of Schwab   Senior Vice President,
November 11, 1960        Officer            Capital Trust       Institutional Compliance
                                            since 2002 and      and Chief Compliance
                                            Schwab              Officer, Charles Schwab
                                            Investments since   Investment Management,
                                            2002.               Inc. From 2002 to 2003,
                                                                Mr. Fillmore was Vice
                                                                President, Charles Schwab &
                                                                Co. and Charles Schwab
                                                                Investment Management,
                                                                Inc. From 2000 to 2002,
                                                                Mr. Fillmore was Vice
                                                                President of Internal
                                                                Audit, Charles Schwab &




                                       48

                                                                                  
                                                                Co.  Prior to 2000, Mr.
                                                                Fillmore was with
                                                                PricewaterhouseCoopers.

KIMON P. DAIFOTIS        Senior Vice        Officer of Schwab   Senior Vice President and
July 10, 1959            President and      Capital Trust       Chief Investment Officer --
                         Chief Investment   since 2004 and      Fixed Income, Charles
                         Officer.           Schwab              Schwab Investment
                                            Investments since   Management, Inc. Prior to
                                            2004.               2004, Mr. Daifotis was Vice
                                                                President and Sr. Portfolio
                                                                Manager, Charles Schwab
                                                                Investment Management, Inc.

JEFFREY M. MORTIMER      Senior Vice        Officer of Schwab   Senior Vice President and
September 29, 1963       President and      Capital Trust       Chief Investment Officer --
                         Chief Investment   since 2004 and      Equities, Charles Schwab
                         Officer.           Schwab              Investment Management,
                                            Investments since   Inc. Prior to 2004, Mr.
                                            2004.               Mortimer was Vice President
                                                                and Sr. Portfolio Manager,
                                                                Charles Schwab Investment
                                                                Management, Inc.



The continuation of a fund's investment advisory agreement must be specifically
approved at least annually (1) by the vote of the trustees or by a vote of the
shareholders of the fund, and (2) by the vote of a majority of the trustees who
are not parties to the investment advisory agreement or "interested persons" of
any party (the "Independent Trustees"), cast in person at a meeting called for
the purpose of voting on such approval.


                                       49

Each year, the Board of Trustees calls and holds a meeting to decide whether to
renew the investment advisory agreement between the Trusts and CSIM (the
"Agreement") with respect to existing funds in the Trusts. In preparation for
the meeting, the Board requests and reviews a wide variety of materials provided
by the funds' investment adviser, as well as extensive data provided by third
parties, and the Independent Trustees receive advice from counsel to the
Independent Trustees.

At the August 31, 2004 meeting, the trustees, including a majority of
Independent Trustees, approved the Agreement and approved the selection of CSIM
as investment adviser to the funds based on consideration and evaluation of a
variety of specific factors presented at that meeting and prior meetings such
as: (1) the nature and quality of the services provided to the funds under the
Agreement; (2) the funds' expenses under the Agreement and how those expenses
compared to those of other comparable mutual funds; (3) each fund's investment
performance and how it compared to that of other comparable mutual funds; and
(4) the profitability of CSIM and its affiliates, including Schwab, with respect
to each fund, including both direct and indirect benefits accruing to CSIM and
its affiliates.

First, with respect to the nature and quality of the services provided by CSIM
to the funds, the trustees considered, among other things, CSIM's personnel,
experience, track record and compliance program. The trustees also considered
how Schwab's extensive branch network, around-the-clock access, Internet access,
investment and research tools, telephone services, and array of account features
benefit the funds. The trustees also considered Schwab's excellent reputation as
a full service firm and its overall financial condition. Finally the trustees
considered that the vast majority of the funds' investors are also brokerage
clients of Schwab, and CSIM is in a unique position to better advance the
interests of these investors within the larger Schwab organization.

Second, with respect to the funds' expenses under the Agreement, the trustees
considered each fund's net operating expense ratio in comparison to those of
other comparable mutual funds, such "peer groups" and comparisons having been
selected and calculated by an independent third party. The trustees also
considered the existence of any economies of scale and whether those were passed
along to a fund's shareholders through a graduated investment advisory fee
schedule or other means, including any fee waivers by CSIM and its affiliates.
In this regard, the Trustees also considered CSIM's agreement to new contractual
investment advisory fee schedules on the Schwab S&P 500 Index Fund and Schwab
1000 Index(R) Fund, which included lower fees at new graduated asset levels. The
trustees also considered information about average expense ratios of comparable
mutual funds in each fund's respective peer group and the effects of CSIM's and
Schwab's voluntary waiver of management and other fees to prevent total fund
expenses from exceeding a specified cap.

Third, with respect to fund performance, the trustees considered each fund's
performance relative to its peer group and appropriate indices/benchmarks, in
light of total return, yield and market trends. The trustees considered the
composition of the peer group, selection criteria, and the reputation of the
third party who prepared the analysis. In evaluating performance, the trustees
considered both risk and shareholder risk expectations for a given fund.

Fourth, with regard to profitability, the trustees considered all compensation
flowing to CSIM and its affiliates, directly or indirectly. The trustees also
considered any benefits derived by the investment adviser from its relationship
with the funds, such as investment information or other research resources. In
determining profitability of CSIM and its affiliates, the trustees reviewed
management's profitability analyses with the assistance of independent
accountants. The trustees also considered whether the levels of compensation and
profitability under the Agreement and other service agreements were reasonable
and justified in light of the quality of all services rendered to the funds by
CSIM and its affiliates.


                                       50

In its deliberation, the trustees did not identify any particular information
that was all-important or controlling. Based on the trustees' deliberation and
its evaluation of the information described above, the Board, including all of
the Independent Trustees, unanimously approved the continuation of the Agreement
and concluded that the compensation under the Agreement is fair and reasonable
in light of such services and expenses and such other matters as the trustees
have considered to be relevant in the exercise of their reasonable judgment.

At the May 4, 2005 meeting, the trustees including all of the Independent
Trustees, unanimously approved amending the Agreement to include each of the
Schwab Target Funds. This approval was based on consideration and evaluation of
a variety of specific factors discussed at that meeting and/or at prior
meetings, including: (1) the nature, extent and quality of the services to be
provided to the Target Funds under the Agreement, including the resources of
CSIM and its affiliates to be dedicated to the Target Funds; (2) CSIM's
investment performance with respect to other funds and how it compared to that
of other comparable mutual funds; (3) the Target Funds' anticipated expenses and
how those expenses compared to those of other comparable mutual funds; (4) the
profitability of CSIM and its affiliates, including Schwab, with respect to
other funds, including both direct and indirect benefits accruing to CSIM and
its affiliates; and (5) the extent to which economies of scale might be realized
as the Target Funds grow and whether fee levels relating to the Target Funds in
the Agreement reflect those economies of scale for the benefit of Target Funds
investors.

In the course of their deliberations, the trustees did not identify any
particular information or factor that was all-important or controlling. Based on
the trustees' deliberation and their evaluation of the information described
above, the Board, including all of the Independent Trustees, unanimously
approved the Agreement to reflect the addition of the Target Funds and concluded
that the compensation with respect to the Target Funds under the Agreement is
fair and reasonable in light of such services and expenses and such other
matters as the trustees have considered to be relevant in the exercise of their
reasonable judgment.

                               TRUSTEE COMMITTEES

Each trust has an Audit/Portfolio Compliance Committee that is comprised of all
of the Independent Trustees. This Committee reviews financial statements and
other audit-related matters for the trusts; it does this at least quarterly and,
if necessary, more frequently. The Committee met 4 times during the most recent
fiscal year.

Each trust has a Nominating Committee that is comprised of all of the
Independent Trustees, which meets as often as deemed appropriate by the
Committee for the primary purpose of nominating persons to serve as members of
the Board of Trustees. This Committee did not meet during the most recent fiscal
year. The Nominating Committee does not have specific procedures in place to
consider nominees recommended by shareholders, but would consider such nominees
if submitted in accordance with Rule 14a-8 of the 1934 Act in conjunction with a
shareholder meeting to consider the election of Trustees.


                                       51

                              TRUSTEE COMPENSATION

The following table provides trustee compensation for the fiscal year ending
October 31, 2004. This information is for the fund complex, which included 61
funds as of October 31, 2004.



- --------------------------------------------------------------------------------
Name of Trustee                     ($)              Pension or        ($)
                          Aggregate Compensation     Retirement       Total
                                   From:              Benefits     Compensation
                                                     Accrued as     from Fund
                                                    Part of Fund     Complex
                                                      Expenses

                    Schwab Capital        Schwab
                        Trust          Investments
- --------------------------------------------------------------------------------
                                                       
Charles R. Schwab            0                  0        N/A                0
Mariann Byerwalter     $30,600            $19,000        N/A         $203,324
Donald F. Dorward      $30,600            $19,000        N/A         $161,100
William A. Hasler      $30,600            $19,000        N/A         $203,324
Robert G. Holmes       $30,600            $19,000        N/A         $161,100
Gerald B. Smith        $30,600            $19,000        N/A         $161,100
Donald R. Stephens     $30,600            $19,000        N/A         $161,100
Michael W. Wilsey      $29,500            $18,300        N/A         $155,010




   Name of Trustee                              ($)                          Estimated             ($)
                                 Estimated Aggregate Compensation            Pension or      Estimated Total
                                             From 3:                         Retirement        Compensation
                                                                          Benefits Accrued      from Fund
                                                                           as Part of Fund      Complex 4
                                                                              Expenses

                        2010      2020      2030      2040    RETIREMENT
                        FUND      FUND      FUND      FUND       FUND
- ------------------------------------------------------------------------------------------------------------
                                                                        
Charles R. Schwab           0         0         0         0          0            0                     0
Mariann Byerwalter     $1,061    $1,061    $1,061    $1,061     $1,061            0              $221,025
Donald F. Dorward      $1,061    $1,061    $1,061    $1,061     $1,061            0              $166,025
William A. Hasler      $1,125    $1,125    $1,125    $1,125     $1,125            0              $231,025
Robert G. Holmes       $1,061    $1,061    $1,061    $1,061     $1,061            0              $166,025
Gerald B. Smith        $1,061    $1,061    $1,061    $1,061     $1,061            0              $166,025
Donald R. Stephens     $1,061    $1,061    $1,061    $1,061     $1,061            0              $166,025
Michael W. Wilsey      $1,061    $1,061    $1,061    $1,061     $1,061            0              $166,025

- ----------
3 Estimated compensation for the fiscal year ending October 31, 2005.

4 Unless otherwise stated, information is estimated for the fund complex for
  the fiscal year ending October 31, 2005.


                                       52



                  SECURITIES BENEFICIALLY OWNED BY EACH TRUSTEE

The following tables provide each Trustee's equity ownership of a fund and
ownership of all registered investment companies overseen by each Trustee in the
Family of Investment Companies as of December 31, 2004. As of December 31, 2004,
the Family of Investment Companies included 53 funds.



- -------------------------------------------------------------------------------------------
 Name of Trustee             Dollar Range of Trustee              Aggregate Dollar Range of
                                Ownership of the:                 Trustee Ownership in the
                                                                     Family of Investment
                                                                          Companies

                                         Schwab       Schwab
                    Schwab Financial   Health Care  Technology
                    Services Fund TM    Fund TM      Fund TM
- -------------------------------------------------------------------------------------------
                                                      
Charles R. Schwab         None            None         None             Over $100,000
Mariann Byerwalter        None            None         None             Over $100,000
Donald F. Dorward         None            None         None             Over $100,000
William A. Hasler         None            None         None             Over $100,000
Robert G. Holmes          None            None         None             Over $100,000
Gerald B. Smith           None            None         None             Over $100,000
Donald R. Stephens        None            None         None             Over $100,000
Michael W. Wilsey         None            None         None             Over $100,000




- -----------------------------------------------------------------------------------------------
 Name of Trustee                      Dollar Range of Trustee                Aggregate Dollar
                                         Ownership of the:                   Range of Trustee
                                                                             Ownership in the
                                                                           Family of Investment
                                                                                Companies

                     Schwab Hedged    Schwab Core Equity    Schwab S&P
                    Equity Fund TM         Fund TM        500 Index Fund
- -----------------------------------------------------------------------------------------------
                                                               
Charles R. Schwab   $10,001-$50,000      Over $100,000    Over $100,000        Over $100,000
Mariann Byerwalter        None               None              None            Over $100,000
Donald F. Dorward         None               None              None            Over $100,000
William A. Hasler         None               None              None            Over $100,000
Robert G. Holmes          None               None              None            Over $100,000
Gerald B. Smith           None          $10,001-$50,000        None            Over $100,000



                                       53



- -----------------------------------------------------------------------------------------------
 Name of Trustee                      Dollar Range of Trustee                Aggregate Dollar
                                         Ownership of the:                   Range of Trustee
                                                                             Ownership in the
                                                                           Family of Investment
                                                                                Companies

                     Schwab Hedged    Schwab Core Equity    Schwab S&P
                    Equity Fund TM         Fund TM        500 Index Fund
- -----------------------------------------------------------------------------------------------
                                                               
Donald R. Stephens        None               None              None            Over $100,000
Michael W. Wilsey         None          $10,001-$50,000   Over $100,000        Over $100,000




- -----------------------------------------------------------------------------------------------------------
 Name of Trustee                         Dollar Range of Trustee                     Aggregate Dollar Range
                                             Ownership of the:                      of Trustee Ownership in
                                                                                         the Family of
                                                                                     Investment Companies

                                             Schwab Small-        Schwab Total
                         Schwab 1000           Cap Index          Stock Market
                        Index(R) Fund           Fund(R)          Index Fund(R)
- -----------------------------------------------------------------------------------------------------------
                                                                        
Charles R. Schwab       Over $100,000        Over $100,000       Over $100,000           Over $100,000
Mariann Byerwalter     $10,001-$50,000            None                None               Over $100,000
Donald F. Dorward     $50,001-$100,000            None                None               Over $100,000
William A. Hasler       Over $100,000             None                None               Over $100,000
Robert G. Holmes      $50,001-$100,000            None                None               Over $100,000
Gerald B. Smith             None                  None                None               Over $100,000
Donald R. Stephens          None                  None                None               Over $100,000
Michael W. Wilsey           None                  None                None               Over $100,000




- ------------------------------------------------------------------------------------------------------
 Name of Trustee                      Dollar Range of Trustee                       Aggregate Dollar
                                         Ownership of the:                          Range of Trustee
                                                                                    Ownership in the
                                                                                  Family of Investment
                                                                                     Companies

                          Schwab              Schwab
                        International      Dividend Equity    Schwab Small-Cap
                       Index Fund(R)          Fund TM          Equity Fund TM
- ------------------------------------------------------------------------------------------------------
                                                                      
Charles R. Schwab      Over $100,000        Over $100,000       Over $100,000       Over $100,000
Mariann Byerwalter          None                None                 None           Over $100,000
Donald F. Dorward           None                None                 None           Over $100,000
William A. Hasler           None                None                 None           Over $100,000
Robert G. Holmes            None                None                 None           Over $100,000



                                       54



- ------------------------------------------------------------------------------------------------------
 Name of Trustee                      Dollar Range of Trustee                       Aggregate Dollar
                                         Ownership of the:                          Range of Trustee
                                                                                    Ownership in the
                                                                                  Family of Investment
                                                                                       Companies

                          Schwab              Schwab
                        International      Dividend Equity    Schwab Small-Cap
                       Index Fund(R)          Fund TM          Equity Fund TM
- ------------------------------------------------------------------------------------------------------
                                                                      
Gerald B. Smith             None                None                 None           Over $100,000
Donald R. Stephens          None                None                 None           Over $100,000
Michael W. Wilsey           None                None                 None           Over $100,000




- -----------------------------------------------------------------------------------------------------
 Name of Trustee                     Dollar Range of Trustee                       Aggregate Dollar
                                        Ownership of the:                          Range of Trustee
                                                                                   Ownership in the
                                                                                 Family of Investment
                                                                                       Companies

                           Schwab             Schwab
                       Institutional       Institutional           Schwab
                      Select(R) Large-         Select          Institutional
                          Cap Value       Small-Cap Value      Select S&P 500
                         Index Fund          Index Fund             Fund
- -----------------------------------------------------------------------------------------------------
                                                                     
Charles R. Schwab           None                None                None             Over $100,000
Mariann Byerwalter          None                None                None             Over $100,000
Donald F. Dorward           None                None                None             Over $100,000
William A. Hasler           None                None                None             Over $100,000
Robert G. Holmes            None                None                None             Over $100,000
Gerald B. Smith             None                None                None             Over $100,000
Donald R. Stephens          None                None                None             Over $100,000
Michael W. Wilsey           None                None                None             Over $100,000



                                       55



- ----------------------------------------------------------------------------------------------
 Name of Trustee                     Dollar Range of Trustee                Aggregate Dollar
                                        Ownership of the:                   Range of Trustee
                                                                            Ownership in the
                                                                          Family of Investment
                                                                               Companies

                          Schwab             Schwab           Schwab
                      MarketTrack All     MarketTrack      MarketTrack
                          Equity             Growth          Balanced
                       Portfolio TM       Portfolio TM     Portfolio TM
- ----------------------------------------------------------------------------------------------
                                                              
Charles R. Schwab     Over $100,000      Over $100,000         None           Over $100,000
Mariann Byerwalter         None               None             None           Over $100,000
Donald F. Dorward          None         $10,001-$50,000        None           Over $100,000
William A. Hasler          None               None             None           Over $100,000
Robert G. Holmes           None               None             None           Over $100,000
Gerald B. Smith            None               None             None           Over $100,000
Donald R. Stephens         None               None             None           Over $100,000
Michael W. Wilsey          None               None             None           Over $100,000




- ------------------------------------------------------------------------------------------------
 Name of Trustee              Dollar Range of Trustee               Aggregate Dollar Range of
                                  Ownership of the:              Trustee Ownership in the Family
                                                                      of Investment Companies

                           Schwab MarketTrack Conservative
                                    Portfolio TM
- ------------------------------------------------------------------------------------------------
                                                           
Charles R. Schwab                   $10,001-$50,000                       Over $100,000
Mariann Byerwalter                       None                             Over $100,000
Donald F. Dorward                        None                             Over $100,000
William A. Hasler                        None                             Over $100,000
Robert G. Holmes                         None                             Over $100,000
Gerald B. Smith                          None                             Over $100,000
Donald R. Stephens                       None                             Over $100,000
Michael W. Wilsey                        None                             Over $100,000


                           DEFERRED COMPENSATION PLAN

Independent Trustees may enter into a fee deferral plan. Under this plan,
deferred fees will be credited to an account established by the trust as of the
date that such fees would have been paid to the trustee. The value of this
account will equal the value that the account would have if the fees credited to
the account had been invested in the shares of Schwab Funds(R) selected by the
trustee. Currently, none of the Independent Trustees has elected to participate
in this plan.


                                 56

                                 CODE OF ETHICS

The funds, their investment adviser and Schwab have adopted a Code of Ethics
(Code) as required under the 1940 Act. Subject to certain conditions or
restrictions, the Code permits the trustees, directors, officers or advisory
representatives of the funds or the investment adviser or the directors or
officers of Schwab to buy or sell directly or indirectly securities for their
own accounts. This includes securities that may be purchased or held by the
funds. Securities transactions by some of these individuals may be subject to
prior approval of the investment adviser's Chief Compliance Officer or
alternate. Most securities transactions are subject to quarterly reporting and
review requirements.

                DESCRIPTION OF PROXY VOTING POLICY AND PROCEDURES

Charles Schwab Investment Management ("CSIM"), as an investment adviser, is
generally responsible for voting proxies with respect to the securities held in
accounts of investment companies for which it provides discretionary investment
management services. CSIM 's Proxy Committee exercises and documents CSIM's
responsibility with regard to voting of client proxies (the "Proxy Committee").
The Proxy Committee is composed of representatives of CSIM's Compliance, Fund
Administration, Legal and Portfolio Management Departments, and chaired by
CSIM's Chief Investment Officer. The Chairman of the Committee may appoint the
remaining members of the Committee. The Proxy Committee reviews and, as
necessary, may amend periodically these Procedures to address new or revised
proxy voting policies or procedures. The policies stated in these Proxy Voting
Policy and Procedures (the "CSIM Proxy Procedures") pertain to all of CSIM's
clients.

The Boards of Trustees (the "Trustees") of The Charles Schwab Family of Funds,
Schwab Investments, Schwab Capital Trust, and Schwab Annuity Portfolios
(collectively, the "Funds" or "Schwab Funds") has delegated the responsibility
for voting proxies to CSIM through their respective Investment Advisory and
Administration Agreements. The Trustees have adopted these Proxy Procedures with
respect to proxies voted on behalf of the various Schwab Funds portfolios. CSIM
will present amendments to the Trustees for approval. However, there may be
circumstances where the Proxy Committee deems it advisable to amend the Proxy
Procedures between regular Schwab Funds Board meetings. In such cases, the
Trustees will be asked to ratify any changes at the next regular meeting of the
Board.

To assist CSIM in its responsibility for voting proxies and the overall proxy
voting process, CSIM has retained Institutional Shareholder Services ("ISS") as
an expert in the proxy voting and corporate governance area. ISS is an
independent company that specializes in providing a variety of proxy-related
services to institutional investment managers, plan sponsors, custodians,
consultants, and other institutional investors. The services provided by ISS
include in-depth research, global issuer analysis, and voting recommendations as
well as vote execution, reporting and record keeping.

PROXY VOTING POLICY

For investment companies and other clients for which CSIM exercises its
responsibility for voting proxies, it is CSIM's policy to vote proxies in the
manner that CSIM and the Proxy Committee determine will maximize the economic
benefit to CSIM's clients. In furtherance of this policy, the Proxy Committee
has received and reviewed ISS's written proxy voting policies and procedures
("ISS's Proxy Procedures") and has determined that ISS's Proxy Procedures are
consistent with the CSIM Proxy Procedures and CSIM's fiduciary duty with respect
to its clients. The Proxy Committee will review any material amendments to ISS's
Proxy Procedures to determine whether such procedures continue to be consistent
with the CSIM Proxy Voting Procedures, and CSIM's fiduciary duty with respect to
its clients.

Except under the circumstances described below, the Proxy Committee will
delegate to ISS responsibility for voting proxies, including timely submission
of votes, on behalf of CSIM's clients in accordance with ISS's Proxy Procedures.


                                       57

For proxy issues that are not addressed by ISS's Proxy Procedures or are
determined by the Proxy Committee or the applicable portfolio manager or other
relevant portfolio management staff to raise significant concerns with respect
to the accounts of CSIM clients, the Proxy Committee will review the analysis
and recommendation of ISS. Examples of factors that could cause a matter to
raise significant concerns include, but are not limited to: issues whose outcome
has the potential to materially affect the company's industry, or regional or
national economy, and matters which involve broad public policy developments
which may similarly materially affect the environment in which the company
operates. The Proxy Committee also will solicit input from the assigned
portfolio manager and other relevant portfolio management staff for the
particular portfolio security. After evaluating all such recommendations, the
Proxy Committee will decide how to vote the shares and will instruct ISS to vote
consistent with its decision. The Proxy Committee has the ultimate
responsibility for making the determination of how to vote the shares in order
to maximize the value of that particular holding.

      Conflicts of Interest. For all proxy issues, whether routine or
non-routine, that present material conflicts of interest between CSIM, and/or
any of its affiliates, and CSIM's clients, CSIM will delegate to ISS
responsibility for voting such proxies in accordance with ISS's Proxy
Procedures. The CSIM Legal Department is responsible for developing procedures
to identify material conflicts of interest.

      Voting Foreign Proxies. CSIM has arrangements with ISS for voting proxies.
However, voting proxies with respect to shares of foreign securities may involve
significantly greater effort and corresponding cost than voting proxies with
respect to domestic securities, due to the variety of regulatory schemes and
corporate practices in foreign countries with respect to proxy voting. Problems
voting foreign proxies may include the following:

      -     proxy statements and ballots written in a foreign language;

      -     untimely and/or inadequate notice of shareholder meetings;

      -     restrictions of foreigner's ability to exercise votes;

      -     requirements to vote proxies in person;

      -     the imposition of restrictions on the sale of securities for a
            period of time in proximity to the shareholder meeting;

      -     requirements to provide local agents with power of attorney to
            facilitate CSIM's voting instructions.

In consideration of the foregoing issues, ISS uses its best-efforts to vote
foreign proxies. As part of its ongoing oversight, the Proxy Committee will
monitor the voting of foreign proxies to determine whether all reasonable steps
are taken to vote foreign proxies. If the Proxy Committee determines that the
cost associated with the attempt to vote outweighs the potential benefits
clients may derive from voting, the Proxy Committee may decide not to attempt to
vote.

      Sub-Advisory Relationships. For investment companies or other clients that
CSIM has delegated day-to-day investment management responsibilities to an
investment adviser, CSIM may delegate its responsibility to vote proxies with
respect to such investment companies' or other clients' securities. Each
Sub-adviser to whom proxy voting responsibility has been delegated will be
required to review all proxy solicitation material and to exercise the voting
rights associated with the securities as it has been allocated in the best
interest of each investment company and its shareholders, or other client. Prior
to delegating the proxy voting responsibility, CSIM will review each
sub-adviser's proxy voting policy to ensure that each Sub-adviser's proxy voting
policy is generally consistent with the maximization of economic benefits to the
investment company or other client.


                                       58

REPORTING AND RECORD RETENTION

CSIM will maintain, or cause ISS to maintain, records which identify the manner
in which proxies have been voted (or not voted) on behalf of CSIM clients. CSIM
will comply with all applicable rules and regulations regarding disclosure of
its or its clients proxy voting records and procedures.

CSIM will retain all proxy voting materials and supporting documentation as
required under the Investment Advisers Act of 1940 and the rules and regulations
thereunder.

PROXY COMMITTEE QUORUM

Attendance by four members (or their respective designates) constitutes a
quorum.

ISS PROXY VOTING GUIDELINES SUMMARY

The following is a concise summary of ISS's current proxy voting policy
guidelines.

1. AUDITORS

Vote CASE-BY-CASE on shareholder proposals on auditor rotation, taking into
account these factors:

- -     Tenure of the audit firm

- -     Establishment and disclosure of a renewal process whereby the auditor is
      regularly evaluated for both audit quality and competitive price

- -     Length of the rotation period advocated in the proposal

- -     Significant audit-related issues

- -     Number of audit committee meetings held each year

- -     Number of financial experts serving on the committee

2. BOARD OF DIRECTORS

VOTING ON DIRECTOR NOMINEES IN UNCONTESTED ELECTIONS

Generally, vote CASE-BY-CASE. But WITHHOLD votes from:

- -     Insiders and affiliated outsiders on boards that are not at least majority
      independent

- -     Directors who sit on more than six boards, or on more than two public
      boards in addition to their own if they are CEOs of public companies

- -     Directors who adopt a poison pill without shareholder approval since the
      company's last annual meeting and there is no requirement to put the pill
      to shareholder vote within 12 months of its adoption

- -     Directors who serve on the compensation committee when there is a negative
      correlation between chief executive pay and company performance (fiscal
      year end basis)

- -     Directors who have failed to address the issue(s) that resulted in any of
      the directors receiving more than 50% withhold votes out of those cast at
      the previous board election

CLASSIFICATION/DECLASSIFICATION OF THE BOARD

Vote AGAINST proposals to classify the board.

Vote FOR proposals to repeal classified boards and to elect all directors
annually.

INDEPENDENT CHAIRMAN (SEPARATE CHAIRMAN/CEO)

Vote FOR shareholder proposals asking that the chairman and CEO positions be
separated (independent chairman), unless the company has a strong countervailing
governance structure, including a lead


                                       59

director, two-thirds independent board, all independent key committees, and
established governance guidelines. Additionally, the company should not have
underperformed its peers.

MAJORITY OF INDEPENDENT DIRECTORS/ESTABLISHMENT OF COMMITTEES

Vote FOR shareholder proposals asking that a majority or more of directors be
independent unless the board composition already meets the ISS definition of
independence.

OPEN ACCESS (SHAREHOLDER RESOLUTION)

Vote CASE-BY-CASE basis, taking into account the ownership threshold proposed in
the resolution and the proponent's rationale.

3. SHAREHOLDER RIGHTS

SHAREHOLDER ABILITY TO ACT BY WRITTEN CONSENT

Vote AGAINST proposals to restrict or prohibit shareholder ability to take
action by written consent.

Vote FOR proposals to allow or make easier shareholder action by written
consent.

SHAREHOLDER ABILITY TO CALL SPECIAL MEETINGS

Vote AGAINST proposals to restrict or prohibit shareholder ability to call
special meetings.

Vote FOR proposals that remove restrictions on the right of shareholders to act
independently of management.

SUPERMAJORITY VOTE REQUIREMENTS

Vote AGAINST proposals to require a supermajority shareholder vote.

Vote FOR proposals to lower supermajority vote requirements.

CUMULATIVE VOTING

Vote AGAINST proposals to eliminate cumulative voting.

Vote proposals to restore or permit cumulative voting on a CASE-BY-CASE basis
relative to the company's other governance provisions.

CONFIDENTIAL VOTING

Vote FOR shareholder proposals requesting that corporations adopt confidential
voting, use independent vote tabulators and use independent inspectors of
election. In proxy contests, support confidential voting proposals only if
dissidents agree to the same policy that applies to management.

4. PROXY CONTESTS

VOTING FOR DIRECTOR NOMINEES IN CONTESTED ELECTIONS

Votes in a contested election of directors must be evaluated on a CASE-BY-CASE
basis, considering the factors that include the long-term financial performance,
management's track record, qualifications of director nominees (both slates),
and an evaluation of what each side is offering shareholders.

REIMBURSING PROXY SOLICITATION EXPENSES

Vote CASE-BY-CASE. Where ISS recommends in favor of the dissidents, we also
recommend voting for reimbursing proxy solicitation expenses.

5. POISON PILLS

Vote FOR shareholder proposals that ask a company to submit its poison


                                       60

pill for shareholder ratification. Review on a CASE-BY-CASE basis shareholder
proposals to redeem a company's poison pill and management proposals to ratify a
poison pill.

6. MERGERS AND CORPORATE RESTRUCTURINGS

Vote CASE-BY-CASE on mergers and corporate restructurings based on such features
as the fairness opinion, pricing, strategic rationale, and the negotiating
process.

7. REINCORPORATION PROPOSALS

Proposals to change a company's state of incorporation should be evaluated on a
CASE-BY-CASE basis, giving consideration to both financial and corporate
governance concerns, including the reasons for reincorporating, a comparison of
the governance provisions, and a comparison of the jurisdictional laws. Vote FOR
reincorporation when the economic factors outweigh any neutral or negative
governance changes.

8. CAPITAL STRUCTURE

COMMON STOCK AUTHORIZATION

Votes on proposals to increase the number of shares of common stock authorized
for issuance are determined on a CASE-BY-CASE basis using a model developed by
ISS. Vote AGAINST proposals at companies with dual-class capital structures to
increase the number of authorized shares of the class of stock that has superior
voting rights. Vote FOR proposals to approve increases beyond the allowable
increase when a company's shares are in danger of being delisted or if a
company's ability to continue to operate as a going concern is uncertain.

DUAL-CLASS STOCK

Vote AGAINST proposals to create a new class of common stock with superior
voting rights.

Vote FOR proposals to create a new class of nonvoting or subvoting common stock
if:

- -     It is intended for financing purposes with minimal or no dilution to
      current shareholders

- -     It is not designed to preserve the voting power of an insider or
      significant shareholder

9. EXECUTIVE AND DIRECTOR COMPENSATION

ISS applies a quantitative methodology, but for Russell 3000 companies will also
apply a pay-for-performance overlay in assessing equity-based compensation
plans.

Vote AGAINST a plan if the cost exceeds the allowable cap.

Vote FOR a plan if the cost is reasonable (below the cap) unless any of the
following conditions apply:

- -     The plan expressly permits repricing of underwater options without
      shareholder approval; or

- -     There is a disconnect between the CEO's pay and performance (an increase
      in pay and a decrease in performance), the main source for the pay
      increase is equity-based, and the CEO participates in the plan being voted
      on

- -     The company's most recent three-year burn rate is excessive and is an
      outlier within its peer group

A company that has triggered the burn rate policy may avoid an AGAINST vote
recommendation, if it commits to meet the industry average burn rate over the
next three years. The above general voting guidelines for pay for performance
may change if the compensation committee members can demonstrate improved
performance in an additional public filing such as a DEFA 14A or 8K. To
demonstrate improved performance, committee members should review all components
of a CEO's compensation and


                                       61

prepare a tally sheet with dollar amounts under various payout scenarios. The
committee should also have the sole authority to hire and fire outside
compensation consultants.

DIRECTOR COMPENSATION

Before recommending a vote FOR a director equity plan, ISS will review the
company's proxy statement for the following qualitative features:

- -     Stock ownership guidelines (a minimum of three times the annual cash
      retainer)

- -     Vesting schedule or mandatory holding/deferral period (minimum vesting of
      three years for stock options or restricted stock)

- -     Balanced mix between cash and equity

- -     Non-employee directors should not receive retirement benefits/perquisites

- -     Detailed disclosure of cash and equity compensation for each director

MANAGEMENT PROPOSALS SEEKING APPROVAL TO REPRICE OPTIONS

Votes on management proposals seeking approval to reprice options are evaluated
on a CASE-BY-CASE basis giving consideration to the following:

- -     Historic trading patterns

- -     Rationale for the repricing

- -     Value-for-value exchange

- -     Option vesting

- -     Term of the option

- -     Exercise price

- -     Participation

- -     Treatment of surrendered options

QUALIFIED EMPLOYEE STOCK PURCHASE PLANS

Vote on qualified employee stock purchase plans on a CASE-BY-CASE basis.

Vote FOR qualified employee stock purchase plans where all of the following
apply:

- -     Purchase price is at least 85 percent of fair market value

- -     Offering period is 27 months or less, and

- -     Potential voting power dilution (VPD) is 10 percent or less.

Vote AGAINST qualified employee stock purchase plans where any of the
opposite conditions occur.

NONQUALIFIED EMPLOYEE STOCK PURCHASE PLANS

Vote on nonqualified employee stock purchase plans on a CASE-BY-CASE basis.

Vote FOR nonqualified plans with all the following features:

- -     Broad-based participation

- -     Limits on employee contribution (a fixed dollar amount or a percentage of
      base salary)

- -     Company matching contribution up to 25 percent of employee's contribution,
      which is effectively a discount of 20 percent from market value

- -     No discount on the stock price on the date of purchase since there is a
      company matching contribution

Vote AGAINST nonqualified employee stock purchase plans if they do not meet the
above criteria.

SHAREHOLDER PROPOSALS ON COMPENSATION

Generally vote CASE-BY-CASE, taking into account company performance, pay level
versus peers, pay level versus industry, and long term corporate outlook. But
generally vote FOR shareholder proposals that:


                                       62

      -     Advocate the use of performance-based awards like indexed,
            premium-priced, and performance-vested options or performance-based
            shares, unless the proposal is overly restrictive or the company
            already substantially uses such awards.

      -     Call for a shareholder vote on extraordinary benefits contained in
            Supplemental Executive Retirement Plans (SERPs).

10. SOCIAL AND ENVIRONMENTAL ISSUES

These issues cover a wide range of topics, including consumer and public safety,
environment and energy, general corporate issues, labor standards and human
rights, military business, and workplace diversity.

In general, vote CASE-BY-CASE. While a wide variety of factors goes into each
analysis, the overall principal guiding all vote recommendations focuses on how
the proposal will enhance the economic value of the company.

Vote:

- -     FOR proposals for the company to amend its Equal Employment Opportunity
      (EEO) Statement to include reference to sexual orientation, unless the
      change would result in excessive costs for the company.

- -     AGAINST resolutions asking for the adopting of voluntary labeling of
      ingredients or asking for companies to label until a phase out of such
      ingredients has been completed.

- -     CASE-BY-CASE on proposals calling for companies to report on the risks
      associated with outsourcing, with consideration of the risks associated
      with certain international markets, the utility of such a report to
      shareholders, and the existence of a publicly available code of corporate
      conduct that applies to international operations.

The Trusts are required to disclose annually the funds' complete proxy voting
record on Form N-PX. The funds' proxy voting record for the most recent 12 month
period ended June 30th is available by visiting the Schwab website at
www.schwab.com/schwabfunds. The funds' Form N-PX is also available on the SEC's
website at www.sec.gov.

               CONTROL PERSONS AND PRINCIPAL HOLDERS OF SECURITIES

As of May 16, 2005, the officers and trustees of the trusts, as a group owned,
of record or beneficially, less than 1% of the outstanding voting securities of
the funds.

As of May 2, 2005 the following represents persons or entities that owned, of
record or beneficially, more than 5% of the outstanding voting securities of any
class of each fund:

SCHWAB SMALL-CAP INDEX FUND(R) -- SELECT SHARES(R)

Schwab MarketTrack Growth Portfolio        101 Montgomery Street,          0.22%
                                           San Francisco, CA 94104

San Francisco Museum of Modern Art,        151 Third Street,               0.05%
Endowment Fund                             San Francisco, CA 94103


                                       63

SCHWAB INTERNATIONAL INDEX FUND -- SELECT SHARES(R)

Schwab MarketTrack All Equity Portfolio    101 Montgomery Street,          0.21%
                                           San Francisco, CA 94104

Schwab MarketTrack Conservative Portfolio  101 Montgomery Street,          0.05%
                                           San Francisco, CA 94104

Schwab MarketTrack Balanced Portfolio      101 Montgomery Street,          0.12%
                                           San Francisco, CA 94104

SCHWAB INSTITUTIONAL SELECT(R) SMALL-CAP VALUE INDEX FUND

Harvey L. Williams, David A. Williams      9710- Farrar Court              0.06%
and Malcolm E. Ritsch Jr.                  Richmond, VA 23236

SCHWAB MARKETTRACK GROWTH PORTFOLIO

The SFCG Growth Index                      101 Montgomery Street,          0.22%
                                           San Francisco, CA 94104


                     INVESTMENT ADVISORY AND OTHER SERVICES

                               INVESTMENT ADVISER

CSIM, a wholly owned subsidiary of The Charles Schwab Corporation, 101
Montgomery Street, San Francisco CA 94104, serves as the funds' investment
adviser and administrator pursuant to Investment Advisory and Administration
Agreements (Advisory Agreement) between it and each trust. Charles Schwab & Co.,
Inc. (Schwab), 101 Montgomery Street, San Francisco, CA 94104, is an affiliate
of the investment adviser and is the trusts' distributor, shareholder services
agent and transfer agent. Charles R. Schwab is the founder, Chief Executive
Officer, Chairman, and Director of The Charles Schwab Corporation. As a result
of his ownership of and interests in The Charles Schwab Corporation, Mr. Schwab
may be deemed to be a controlling person of the investment adviser and Schwab.

SCHWAB FINANCIAL SERVICES FUND TM, SCHWAB HEALTH CARE FUND TM AND SCHWAB
TECHNOLOGY FUND TM

For its advisory and administrative services to the Schwab Financial Services
Fund, Schwab Health Care Fund and Schwab Technology Funds, the investment
adviser is entitled to receive a graduated annual fee, payable monthly, of 0.54%
of each fund's average daily net assets not in excess of $500 million, 0.515% of
such net assets greater than $500 million and not in excess of $1 billion and
0.49% of such net assets over $1 billion.

Prior to February 28, 2005, the investment adviser was entitled to receive an
annual fee, accrued daily and payable monthly, of 0.54% of each fund's average
daily net assets.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Financial
Services Fund paid net investment advisory fees of $68,000, $20,000 and $28,000,
respectively (gross fees were reduced by $39,000, $70,000 and $85,000,
respectively).


                                       64

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Health
Care Fund paid net investment advisory fees of $215,000, $54,000 and $69,000,
respectively (gross fees were reduced by $9,000, $65,000 and $82,000,
respectively).

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
Technology Fund paid net investment advisory fees of $278,000, $103,000 and
$104,000, respectively (gross fees were reduced by $1,000, $62,000 and $97,000,
respectively).

Schwab and the investment adviser have agreed to limit each of Schwab Financial
Services Fund's, Schwab Health Care Fund's and Schwab Technology Fund's "net
operating expenses" (excluding interest, taxes and certain non-routine expenses)
to 1.10% through February 27, 2006.

SCHWAB INSTITUTIONAL SELECT(R) FUNDS

For its advisory and administrative services to the Schwab Institutional Select
S&P 500 Fund, Large-Cap Value Index Fund and Small-Cap Value Index Fund, the
investment adviser is entitled to receive an annual fee, accrued daily and paid
monthly, of 0.18%, 0.20% and 0.25%, respectively, of each fund's average daily
net assets not in excess of $1 billion, and 0.15%, 0.18% and 0.23% respectively
of such net assets over $1 billion.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
Institutional Select(R) S&P 500 Fund paid net investment advisory fees of $0,
$0, and $12,000, respectively (gross fees were reduced by $554,000, $412,000 and
$446,000, respectively).

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
Institutional Select(R) Large-Cap Value Index Fund paid net investment advisory
fees of $17,000, $20,000 and $12,000, respectively (gross fees were reduced by
$171,000, $120,000 and $203,000, respectively).

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
Institutional Select(R) Small-Cap Value Index Fund paid net investment advisory
fees of $5,000, $0 and $6,000, respectively (gross fees were reduced by $92,000,
$90,000 and $121,000, respectively).

Schwab and the investment adviser have agreed to limit the Schwab Institutional
Select(R) S&P 500 Fund's "net operating expenses" (excluding interest, taxes and
certain non-routine expenses) to 0.10% through February 27, 2006.

Schwab and the investment adviser have agreed to limit the Schwab Institutional
Select(R) Large Cap-Value Index Fund's "net operating expenses" (excluding
interest, taxes and certain non-routine expenses) to 0.25% through February 27,
2006.

Schwab and the investment adviser have agreed to limit the Schwab Institutional
Select(R) Small-Cap Value Index Fund's "net operating expenses" (excluding
interest, taxes and certain non-routine expenses) to 0.32% through February 27,
2006.

SCHWAB EQUITY INDEX FUNDS

For its advisory and administrative services to the Schwab S&P 500 Index Fund,
the investment adviser is entitled to receive a graduated annual fee, payable
monthly, of 0.15% of the fund's average daily net assets not in excess of $500
million, 0.09% of such net assets greater than $500 million and not in excess of
$5 billion, 0.08% of such net assets greater than $5 billion and not in excess
of $10 billion and 0.07% of such net assets over $10 billion.


                                       65

Prior to February 28, 2005, for its advisory and administrative services to the
Schwab S&P 500 Index Fund, the investment adviser was entitled to receive an
annual fee, accrued daily and paid monthly, of 0.20% of the fund's average daily
net assets not in excess of $500 million, and 0.17% of such net assets over $500
million.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab S&P 500
Index Fund paid net investment advisory fees of $12,243,000, $9,450,000 and
$10,171,000, respectively (gross fees were reduced by $1,591,000, $1,672,000 and
$1,992,000, respectively).

Schwab and the investment adviser have agreed to limit the Schwab S&P 500 Index
Fund's "net operating expenses" (excluding interest, taxes and certain
non-routine expenses) of the Investor Shares, e.Shares and Select Shares to
0.37%, 0.28% and 0.19%, respectively, through February 27, 2006.

For its advisory and administrative services to the Schwab 1000 Index(R) Fund,
the investment adviser is entitled to receive a graduated annual fee, payable
monthly, of 0.30% of the fund's average daily net assets not in excess of $500
million, 0.22% of such net assets greater than $500 million and not in excess of
$5 billion, 0.20% of such net assets greater than $5 billion and not in excess
of $10 billion and 0.18% of such net assets over $10 billion.

Prior to February 28, 2005, for its advisory and administrative services to the
Schwab 1000 Index Fund, the investment adviser was entitled to receive an annual
fee, accrued daily and paid monthly, of 0.30% of the fund's average daily net
assets not in excess of $500 million and 0.22% of such net assets over $500
million.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab 1000
Index Fund paid net investment advisory fees of $14,335,000, $11,407,000 and
$12,053,000, respectively (gross fees were reduced by $7,000, $407,000 and
$888,000, respectively).

Schwab and the investment adviser have agreed to limit the Schwab 1000 Index
Fund's annual operating expenses (excluding interest, taxes and certain
non-routine expenses) of the Investor Shares and Select Shares to 0.51% and
0.36%, respectively, through February 27, 2006.

For its advisory and administrative services to the Schwab Small-Cap Index Fund,
the investment adviser is entitled to receive an annual fee, accrued daily and
paid monthly, of 0.33% of the fund's average daily net assets not in excess of
$500 million, and 0.28% of such net assets over $500 million.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Small-Cap
Index Fund paid net investment advisory fees of $4,817,000, $3,832,000 and
$3,715,000, respectively, (gross fees were reduced by $139,000, $337,000 and
$1,112,000, respectively).

Schwab and the investment adviser have agreed to limit the Schwab Small-Cap
Index Fund's "net operating expenses" (excluding interest, taxes and certain
non-routine expenses) of the Investor Shares and Select Shares to 0.60% and
0.42%, respectively, through February 27, 2006.

For its advisory and administrative services to the Schwab Total Stock Market
Index Fund, the investment adviser is entitled to receive an annual fee, accrued
daily and paid monthly, of 0.30% of the fund's average daily net assets not in
excess of $500 million, and 0.22% of such net assets over $500 million.


                                       66

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Total
Stock Market Index Fund paid net investment advisory fees of $2,739,000,
$1,527,000 and $508,000, respectively (gross fees were reduced by $4,000,
$386,000 and $1,072,000, respectively).

Schwab and the investment adviser have agreed to limit the Schwab Total Stock
Market Index Fund's "net operating expenses" (excluding interest, taxes and
certain non-routine expenses) of the Investor Shares and Select Shares to 0.58%
and 0.39%, respectively, through February 27, 2006.

For its advisory and administrative services to the Schwab International Index
Fund, the investment adviser is entitled to receive an annual fee, accrued daily
and paid monthly, of 0.43% of the average daily net assets not in excess of $500
million, and 0.38% of such net assets over $500 million.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
International Index Fund paid net investment advisory fees of $4,400,000,
$3,349,000, and $3,048,000, respectively (gross fees were reduced by $470,000,
$697,000, and $1,542,000, respectively).

Schwab and the investment adviser have agreed to limit the Schwab International
Index Fund's "net operating expenses" (excluding interest, taxes and certain
non-routine expenses) of the Investor Shares and Select Shares to 0.69% and
0.50%, respectively, through February 27, 2006.

SCHWAB MARKETTRACK PORTFOLIOS(R)

For its advisory and administrative services to the Schwab MarketTrack All
Equity, Conservative, Balanced and Growth Portfolios, the investment adviser is
entitled to receive a graduated annual fee, payable monthly, of 0.44% of each
portfolio's average daily net assets not in excess of $500 million and 0.39% of
such net assets over $500 million.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
MarketTrack All Equity Portfolio TM paid net investment advisory fees of
$834,000, $672,000 and $703,000, respectively (gross fees were reduced by
$1,165,000, $975,000 and $1,124,000, respectively).

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
MarketTrack Growth Portfolio TM paid net investment advisory fees of
$1,231,000, $1,027,000 and $1,007,000, respectively (gross fees were reduced by
$1,411,000, $1,265,000 and $1,355,000, respectively).

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
MarketTrack Balanced Portfolio TM paid net investment advisory fees of
$1,071,000, $966,000 and $989,000, respectively (gross fees were reduced by
$1,254,000, $1,137,000 and $1,241,000, respectively).

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
MarketTrack Conservative Portfolio TM paid net investment advisory fees of
$573,000, $518,000 and $437,000, respectively (gross fees were reduced by
$720,000, $682,000 and $619,000, respectively).

Schwab and the investment adviser have agreed to limit each of the Schwab
MarketTrack Portfolio's "net operating expenses", excluding the impact of
underlying Schwab Funds investments, (excluding interest, taxes and certain
non-routine expenses), to 0.50% through February 27, 2006.


                                       67



SCHWAB DIVIDEND EQUITY FUND TM

For its advisory and administrative services to the Schwab Dividend Equity Fund,
the investment adviser is entitled to receive a graduated annual fee, payable
monthly, of 0.775% of the fund's average daily net assets not in excess of $500
million, 0.77% of such net assets greater than $500 million and not in excess of
$1 billion and 0.76% of such net assets over $1 billion.

Prior to February 28, 2005, the investment adviser was entitled to receive an
annual fee, payable monthly, of 0.85% of the fund's average daily net assets.

For the fiscal year ending October 31, 2004 and the period between September 2,
2003 and October 31, 2003, the Dividend Equity Fund paid net investment advisory
fees of $1,603,000 and $0 (gross fees were reduced by $1,661,000 in 2004 and
$232,000 for the period between September 2, 2003 and October 31, 2003).

Schwab and the investment adviser have agreed to limit the Schwab Dividend
Equity Fund's "net operating expenses" (excluding interest, taxes and certain
non-routine expenses) of the Investor Shares and Select Shares to 1.10% and
0.95%, respectively, through February 27, 2006.

SCHWAB HEDGED EQUITY FUND TM

For its advisory and administrative services to the Schwab Hedged Equity Fund,
the investment adviser is entitled to receive a graduated annual fee, payable
monthly, of 1.675% of the fund's average daily net assets not in excess of $500
million, 1.65% of such net assets greater than $500 million and not in excess of
$1 billion and 1.63% of such net assets over $1 billion.

Prior to February 28, 2005, the investment adviser was entitled to receive an
annual fee, accrued daily and payable monthly, of 1.75% of the fund's average
daily net assets.

For the fiscal year ending October 31, 2004 and 2003 and for the period between
September 3, 2002 and October 31, 2002, the Schwab Hedged Equity Fund paid net
investment advisory fees of $778,000, $506,000 and $37,000, respectively (fees
were reduced by $144,000, $150,000 and $42,000, respectively).

Schwab and the investment adviser have agreed to limit the Schwab Hedged Equity
Fund's "net operating expenses" (excluding interest, taxes, certain non-routine
expenses and expenses for dividends and interest paid on securities sold short)
of the Investor Shares and Select Shares to 2.00% and 1.77%, respectively,
through February 27, 2006.

SCHWAB CORE EQUITY FUND TM

For its advisory and administrative services to the Schwab Core Equity Fund, the
investment adviser is entitled to receive a graduated annual fee, payable
monthly, of 0.54% of the fund's average daily net assets not in excess of $500
million and 0.49% of such net assets over $500 million.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Core
Equity Fund paid net investment advisory fees of $1,069,000, $820,000 and
$742,000, respectively (gross fees were reduced by $324,000, $265,000 and
$322,000, respectively).


                                       68


Schwab and the investment adviser have agreed to limit the Schwab Core Equity
Fund's "net operating expenses" (excluding interest, taxes and certain
non-routine expenses) to 0.75% through February 27, 2006.

SCHWAB SMALL-CAP EQUITY FUND TM

For its advisory and administrative services to the Schwab Small-Cap Equity
Fund, the investment adviser is entitled to receive a graduated annual fee,
payable monthly, of 0.975% of the fund's average daily net assets not in excess
of $500 million, 0.93% of such net assets greater than $500 million and not in
excess of $1 billion and 0.91% of such net assets above $1 billion.

Prior to February 28, 2005, the investment adviser was entitled to receive an
annual fee, payable monthly, of 1.05% of the fund's average daily net assets.

For the fiscal year ended October 31, 2004 and the period between July 1, 2003
and October 31, 2003, the Schwab Small-Cap Equity Fund paid net investment
advisory fees of $371,000 and $66,000 (gross fees were reduced by $153,000 and
$46,000, respectively).

Schwab and the investment adviser have agreed to limit the Schwab Small-Cap
Equity Fund's "net operating expenses" (excluding interest, taxes and certain
non-routine expenses) of the Investor Shares and Select Shares to 1.30% and
1.12%, respectively, through February 27, 2006.

SCHWAB PREMIER EQUITY FUND

For its advisory and administration services to the fund, the investment adviser
is entitled to receive an annual fee, accrued and paid monthly, of 0.91% of the
fund's average daily net assets not in excess of $500 million, 0.885% of such
net assets greater than $500 million and not in excess of $1 billion, and 0.86%
of such net assets over $1 billion.

Through June 30, 2005, Schwab and the investment adviser have agreed to limit
the fund's "net operating expenses" to 0.00% (excluding interest, taxed, and
certain non-routine expenses) for the Investor Shares and Select Shares(R). For
the period July 1, 2005 through February 27, 2006, Schwab and the investment
adviser have agreed to limit the fund's net operating expenses to 1.30% and
1.15% (excluding interest, taxes and certain non-routine expenses) for the
Investor Shares and Select Shares(R), respectively.

SCHWAB TARGET FUNDS

The firm does not receive a fee for the services it performs for the funds.
However, the firm is entitled to receive an annual management fee from each of
the underlying funds.

Through February 28, 2007, Schwab and the investment adviser have agreed to
limit each fund's "net operating expenses" (excluding interest, taxed, and
certain non-routine expenses) as shown below.



Fund                                                      Net Operating Expenses
- ----                                                      ----------------------
                                                       
Schwab Target 2010 Fund                                   0.06%
Schwab Target 2020 Fund                                   0.04%
Schwab Target 2030 Fund                                   0.03%
Schwab Target 2040 Fund                                   0.01%
Schwab Retirement Income Fund                             0.10%



                                       69


The amount of the expense caps is determined in coordination with the Board of
Trustees, and the expense cap is intended to limit the effects on shareholders
of expenses incurred in the ordinary operation of a fund. The expense cap is not
intended to cover all fund expenses, and a fund's expenses may exceed the
expense cap. For example, the expense cap does not cover investment-related
expenses, such as brokerage commissions, interest and taxes, nor does it cover
extraordinary or non-routine expenses, such as shareholder meeting costs.

                                   DISTRIBUTOR

Pursuant to a Distribution Agreement, Schwab is the principal underwriter for
shares of the funds and is the trusts' agent for the purpose of the continuous
offering of the funds' shares. The funds pay for prospectuses and shareholder
reports to be prepared and delivered to existing shareholders. Schwab pays such
costs when the described materials are used in connection with the offering of
shares to prospective investors and for supplemental sales literature and
advertising. Schwab receives no fee under the Distribution Agreement.

                     SHAREHOLDER SERVICES AND TRANSFER AGENT

Schwab provides fund information to shareholders, including share price,
shareholder ownership and account activities and distributes a fund's
prospectuses, financial reports and other informational literature about a fund.
Schwab maintains the office space, equipment and personnel necessary to provide
these services. At its own expense, Schwab may engage third party entities, as
appropriate, to perform some or all of these services.

For the services performed as transfer agent under its contract with the Schwab
Premier Equity Fund TM, Schwab Hedged Equity Fund TM, Schwab Dividend
Equity Fund TM, Schwab Core Equity Fund TM, Schwab Small-Cap Equity
Fund TM, Schwab Financial Services Fund TM, Schwab Health Care Fund TM,
Schwab Technology Fund TM and each of Schwab Institutional Select(R) Funds,
Schwab Equity Index Funds and Schwab MarketTrack Portfolios(R), Schwab is
entitled to receive an annual fee, payable monthly from each fund or by each
share class, in the amount of 0.05% of the fund's or share class' average daily
net assets.

Schwab does not receive a fee from the Schwab Target Funds for the services it
performs as transfer agent under its contract with the Schwab Target Funds.

For the services performed as shareholder services agent under its contract with
the Schwab Core Equity Fund, Schwab Financial Services Fund, Schwab Health Care
Fund and Schwab Technology Fund and each of the Schwab MarketTrack Portfolios,
Schwab is entitled to receive an annual fee, payable monthly from each fund, in
the amount of 0.20% of each fund's average daily net assets.

For the services performed as shareholder services agent under its contract with
each of the Schwab Institutional Select Funds, Schwab is entitled to receive an
annual fee, payable monthly from each fund, in the amount of 0.05% of each
fund's average daily net assets.

For the services performed as shareholder services agent under its contract with
each of the Schwab Equity Index Funds, Schwab is entitled to receive an annual
fee, payable monthly from each share class of each fund, in the amount of 0.20%
of Investor Shares', 0.05% of Select Shares'(R) and 0.05% of e.Shares'(R)
average daily net assets.

For the services performed as shareholder services agent under its contract with
the Small-Cap Equity


                                       70


Fund, Schwab Premier Equity Fund, Hedged Equity Fund and Dividend Equity Fund,
Schwab is entitled to receive an annual fee, payable monthly from each share
class of each fund, in the amount of 0.20% of Investor Shares' and 0.05% of
Select Shares'(R) average daily net assets.

Schwab does not receive a fee for the services it performs as shareholder
services agent under its contract with the Schwab Target Funds.

                         CUSTODIANS AND FUND ACCOUNTANTS

Brown Brothers Harriman & Co., 40 Water Street, Boston, MA, 02109, serves as
custodian for the Schwab Dividend Equity Fund, Schwab Small-Cap Equity
Fund TM, Schwab International Index Fund(R), Schwab Small-Cap Index Fund(R),
and Schwab Financial Services Fund TM, Schwab Health Care Fund TM and
Schwab Technology Fund TM and each of the Schwab MarketTrack Portfolios and
Schwab Target Funds.

PFPC Trust Company, 8800 Tinicum Blvd. Third Floor, Suite 200, Philadelphia, PA
19153, serves as custodian for the Schwab Core Equity Fund TM, Schwab Hedged
Equity Fund, Schwab S&P 500 Index Fund, Schwab 1000 Index(R) Fund, Schwab Total
Stock Market Index Fund(R) and each of the Schwab Institutional Select(R) Funds.

SEI Investments Global Funds Services, One Freedom Valley Dr., Oaks, PA 19456,
serves as fund accountant for the Schwab Small-Cap Equity Fund, Schwab Core
Equity Fund, Schwab Dividend Equity Fund and for each of the Schwab Equity Index
Funds, Schwab Institutional Select(R) Funds, Schwab Financial Services Fund,
Schwab Health Care Fund, Schwab Technology Fund and each of the Schwab
MarketTrack Portfolios and Schwab Target Funds.

PFPC, Inc., 400 Bellevue Parkway, Wilmington, DE 19809, serves as fund
accountant for the Schwab Hedged Equity Fund.

The custodians are responsible for the daily safekeeping of securities and cash
held or sold by the funds. The fund accountants maintain all books and records
related to the funds' transactions.

                      INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The funds' independent registered public accounting firm, PricewaterhouseCoopers
LLP, audit and report on the annual financial statements of the funds and review
certain regulatory reports and the funds' federal income tax return. They also
perform other professional accounting, auditing, tax and advisory services when
the trusts engage them to do so. Their address is 333 Market Street, San
Francisco, CA 94105. The funds' audited financial statements from the funds'
annual reports for the fiscal year ended October 31, 2004, are incorporated by
reference into this SAI.

                                  LEGAL COUNSEL

Morgan, Lewis & Bockius LLP serves as counsel to the Trust.

                                 OTHER SERVICES

With respect to the Schwab Premier Equity Fund TM, Schwab Dividend Equity
Fund TM, Schwab Small-Cap Equity Fund TM, Schwab Hedged Equity Fund TM,
Schwab Core Equity Fund TM, Schwab Financial Services Fund TM, Schwab
Health Care Fund TM and Schwab Technology Fund TM, Schwab provides the
investment adviser with quantitative analyses of the relative attractiveness of
stocks in which these funds might invest.


                                       71


These funds are designed to harness the power of the Schwab Equity Ratings TM,
which evaluates stocks on the basis of a wide variety of investment criteria
from four broad categories: fundamentals, valuation, momentum and risk.
Specifically with regard to the Schwab Hedged Equity Fund, the fund purchases
from among Schwab's higher rated stocks and short stocks from among Schwab's
lower rated stocks. Pursuant to an agreement between the investment adviser and
Schwab, the investment adviser pays Schwab a fixed annual fee for these
services.

                               PORTFOLIO MANAGERS

OTHER ACCOUNTS. Each portfolio manager (collectively referred to as the
"Portfolio Managers") is responsible for the day-to-day management of certain
accounts, as listed below. The accounts listed below are not subject to a
performance-based advisory fee. The information below is provided as of October
31, 2004 1, March 31, 2005 2, and July 22, 2005 3.



                     REGISTERED INVESTMENT
                           COMPANIES
                     (THIS AMOUNT INCLUDES
                       THE FUNDS IN THIS
                    STATEMENT OF ADDITIONAL     OTHER POOLED INVESTMENT
                         INFORMATION)                  VEHICLES                  OTHER ACCOUNTS
                   NUMBER OF                   NUMBER OF                    NUMBER OF
      NAME          ACCOUNTS   TOTAL ASSETS     ACCOUNTS    TOTAL ASSETS     ACCOUNTS    TOTAL ASSETS
- ------------------  --------   ------------     --------    ------------     --------    ------------
                                                                       
Jeff Mortimer 2         20          $23.1           0             --           2,709      $492 million
Larry Mano 1            22      $20.5 billion       0             --            1655      $286 million
Vivienne Hsu 1           8      $1.04 billion       0             --            1655      $286 million
Tom Brown 2             11      $18.9 billion       0             --           2,709      $492 million
Kim Daifotis 2          15      $10.9 billion       0             --             7          $6 million
Matthew Hastings 2       5       $6.9 billion       0             --             0              0
Steven Hung 3            5       $7.3 billion       0             --             0              0


CONFLICTS OF INTEREST. A Portfolio Manager's management of other accounts may
give rise to potential conflicts of interest in connection with its management
of a fund's investments, on the one hand, and the investments of the other
accounts, on the other. These other accounts include Schwab Personal Portfolio
Managed Accounts and other mutual funds advised by CSIM (collectively, the
"Other Managed Accounts"). The Other Managed Accounts might have similar
investment objectives as a fund, track the same index a fund tracks or otherwise
hold, purchase, or sell securities that are eligible to be held, purchased, or
sold by a fund. While the Portfolio Managers' management of Other Managed
Accounts may give rise to the potential conflicts of interest listed below, CSIM
does not believe that the conflicts, if any, are material or, to the extent any
such conflicts are material, CSIM believes it has adopted policies and
procedures that are designed to manage those conflicts in an appropriate way.

KNOWLEDGE OF THE TIMING AND SIZE OF FUND TRADES. A potential conflict of
interest may arise as a result of the Portfolio Managers' day-to-day management
of a fund. Because of their positions with a fund, the Portfolio Managers know
the size, timing, and possible market impact of fund trades. It is theoretically
possible that the Portfolio Managers could use this information to the advantage
of the Other Managed Accounts they manage and to the possible detriment of a
fund. However, CSIM has adopted policies and procedures reasonably designed to
allocate investment opportunities on a fair and equitable basis over time.
Moreover, with respect to index funds, which seek to track their benchmark
index, much of this information is publicly available. When it is determined to
be in the best interest of both accounts, the Portfolio Managers may aggregate
trade orders for the Other Managed Accounts, excluding Schwab Personal Portfolio
Managed Accounts, with those of a fund. All aggregated orders are subject to
CSIM's aggregation and allocation policy and procedures, which provide, among
other things, that (i) a Portfolio Manager will not aggregate orders unless he
or she believes such aggregation is consistent with his or her


                                       72


duty to seek best execution; (ii) no account will be favored over any other
account; (iii) each account that participates in an aggregated order will
participate at the average security price with all transaction costs shared on a
pro-rata basis; and (iv) if the aggregated order cannot be executed in full, the
partial execution is allocated pro-rata among the participating accounts in
accordance with the size of each account's order.

INVESTMENT OPPORTUNITIES. A potential conflict of interest may arise as a result
of the Portfolio Managers' management of a fund and Other Managed Accounts
which, in theory, may allow them to allocate investment opportunities in a way
that favors the Other Managed Accounts over a fund, which conflict of interest
may be exacerbated to the extent that CSIM or the Portfolio Managers receive, or
expect to receive, greater compensation from their management of the Other
Managed Accounts than the fund. Notwithstanding this theoretical conflict of
interest, it is CSIM's policy to manage each account based on its investment
objectives and related restrictions and, as discussed above, CSIM has adopted
policies and procedures reasonably designed to allocate investment opportunities
on a fair and equitable basis over time and in a manner consistent with each
account's investment objectives and related restrictions. For example, while the
Portfolio Managers may buy for an Other Managed Account securities that differ
in identity or quantity from securities bought for a fund or refrain from
purchasing securities for an Other Managed Account that they are otherwise
buying for a fund in an effort to outperform its specific benchmark, such an
approach might not be suitable for a fund given its investment objectives and
related restrictions.

COMPENSATION. Charles Schwab & Co., the trust's distributor, compensates each
CSIM Portfolio Manager for his or her management of the funds. Each Portfolio
Manager's compensation consists of a fixed annual ("base") salary and a
discretionary bonus. The base salary is determined considering compensation
payable for a similar position across the investment management industry and an
evaluation of the individual Portfolio Manager's overall performance. The
discretionary bonus is determined in accordance with the CSIM Portfolio
Management Incentive Plan (the "Plan"), which is designed to reward consistent
and superior investment performance relative to established benchmarks and/or
industry peer groups. The Plan is an annual incentive plan that provides
quarterly advances at management's discretion.

The Plan consists of two independent funding components: 75% of the funding is
based on fund investment performance and 25% of the funding is based on Schwab's
corporate performance.

- -       Fund Investment Performance

        Funding into this Plan component is determined by fund performance
        relative to a Lipper Category or an established industry peer group.
        Peer groups are determined by the CSIM Peer Group Committee and are
        reviewed on a regular basis.

        -       For all funds except index and money market funds: A fund's
                investment performance ranking relative to its peer group or
                respective Lipper Category ("fund ranking") is determined based
                on its 1-year and 3-year pre-tax return before expenses. In
                determining a fund ranking, 75% of the weighting is based on the
                3-year pre-tax performance and 25% is based on the 1-year
                pre-tax performance.

        -       For money market and index funds: A money market fund's
                investment performance ranking ("fund ranking") is determined by
                its gross yield (i.e., yield before expenses) relative to its
                iMoney Net category on a calendar year-to-date basis. An index
                fund's investment performance ranking ("fund ranking") is
                determined by the fund's tracking error (deviation from the
                benchmark) relative to its peer group on a calendar year-to-date
                basis.


                                       73


        A composite rating for each Portfolio Manager is then determined, based
        on a weighted average of all of their individual funds' rankings. The
        specific weight given to a fund in that calculation is determined by
        CSIM's senior management.

- -       Schwab Corporate Performance

        Funding into this Plan component is determined by Schwab corporate
        performance which is based on two financial performance measures: (1)
        year-to-date net revenue growth; and (2) Schwab's profit margin. The
        actual amount of funding into the Plan is discretionary and is
        determined by Schwab's senior management following the end of each
        quarter.

The Portfolio Managers' compensation is not based on the value of the assets
held in a fund's portfolio.

OWNERSHIP OF FUND SHARES. The following table shows the dollar amount range of
the Portfolio Managers' "beneficial ownership" of shares of the funds they
manage as of December 31, 2004. Dollar amount ranges disclosed are established
by the SEC. "Beneficial ownership" is determined in accordance with Rule
16a-1(a)(2) under the 1934 Act.



PORTFOLIO MANAGER      FUND                         DOLLAR RANGE OF FUND SHARES
- -----------------      ----                         ---------------------------
                                              
Larry Mano             Schwab 1000 Index(R) Fund    $10,001 - $50,000


                    BROKERAGE ALLOCATION AND OTHER PRACTICES

                               PORTFOLIO TURNOVER

For reporting purposes, a fund's portfolio turnover rate is calculated by
dividing the value of purchases or sales of portfolio securities for the fiscal
year, whichever is less, by the monthly average value of portfolio securities
the fund owned during the fiscal year. When making the calculation, all
securities whose maturities at the time of acquisition were one year or less
("short-term securities") are excluded. Short positions that the Schwab Hedged
Equity Fund intends to maintain for more than one year are included in the
purchases and sales. Costs of covering short sales are included in purchases,
and proceeds on short sales are included in sales.

A 100% portfolio turnover rate would occur, for example, if all portfolio
securities (aside from short-term securities) were sold and either repurchased
or replaced once during the fiscal year.

Typically, funds with high turnover (such as 100% or more) tend to generate
higher capital gains and transaction costs, such as brokerage commissions.

A fund's portfolio turnover rate is in the financial highlights table in its
prospectus.

The turnover rate for the Schwab Premier Equity Fund TM, Schwab Dividend
Equity Fund TM, Schwab Small-Cap Equity Fund, Schwab Hedged Equity
Fund TM, Schwab Core Equity Fund TM, Schwab Financial Services Fund TM,
Schwab Health Care Fund TM and Schwab Technology Fund TM are largely
driven by the quantitative techniques used to help the funds construct their
investment portfolio.

In June 2003, the Schwab Financial Services Fund, Schwab Health Care Fund and
Schwab Technology Funds began using the Schwab Equity Ratings as part of their
respective investment strategies. The funds' turnover rates for the fiscal year
ended 2003 were higher due to portfolio changes made to accommodate this
transition to a new investment strategy.


                                       74


                          PORTFOLIO HOLDINGS DISCLOSURE

The funds' Board of Trustees has approved policies and procedures that govern
the timing and circumstances regarding the disclosure of fund portfolio holdings
information to shareholders and third parties. These policies and procedures are
designed to ensure that disclosure of information regarding the funds' portfolio
securities is in the best interests of fund shareholders, and include procedures
to address conflicts between the interests of the funds' shareholders, on the
one hand, and those of the funds' investment adviser, principal underwriter or
any affiliated person of the funds, its investment adviser, or its principal
underwriter, on the other. Pursuant to such procedures, the Board has authorized
the president of the funds to authorize the release of the funds' portfolio
holdings, as necessary, in conformity with the foregoing principles.

A complete list of each fund's portfolio holdings is published on the Schwab
Funds website at www.schwab.com/schwabfunds, under "Prospectuses and Reports",
typically 60-80 days after the end of each fund's fiscal quarter. The portfolio
holdings information available on the Schwab Funds' website is the same that is
filed with the Securities and Exchange Commission on Form N-Q or Form N-CSR. In
addition, each fund's top ten holdings list is posted on the Schwab Funds
website monthly, typically with a 10-day lag. In addition to the top ten
holdings information, the fund also provides on the website monthly information
regarding certain attributes of a portfolio investment holdings such as a
portfolio's sector weightings, composition, credit quality and duration and
maturity as applicable. The information on the website is publicly available to
all categories of persons.

Each fund may disclose portfolio holdings information to certain persons and
entities prior to and more frequently than the public disclosure of such
information ("early disclosure"). The president may authorize early disclosure
of portfolio holdings information to such parties at differing times and/or with
different lag times provided that (a) the president of the funds determines that
the disclosure is in the best interests of the funds and that there are no
conflicts of interest between the fund's shareholders and fund's adviser and
distributor; and (b) the recipient is, either by contractual agreement or
otherwise by law, required to maintain the confidentiality of the information.

Currently, Callan Associates, Inc. receives early disclosure of portfolio
holdings information. Callan Associates provides consulting services to the
Committee for the Charles Schwab Employee Benefit Administrative Committee in
connection with the company's 401(k) plan. Callan receives the funds' portfolio
holdings on a calendar quarterly basis with a lag typically of 30 days. Neither
the fund nor any other party receives compensation or other consideration from
Callan Associates in connection with this arrangement. Pursuant to a
confidentiality agreement entered into between Callan and the trusts, Callan is
required to maintain the confidentiality of the portfolio holdings information
and will not allow any of its employees or agents to use such information as a
basis for trading in securities or making investment decisions or
recommendations.

In addition, the funds' service providers including, without limitation, the
custodian, fund accountant, transfer agent, auditor, proxy voting service
provider, pricing information venders, publisher, printer and mailing agent may
receive early disclosure of portfolio holdings information in connection with
the services they perform for the funds.

The funds' policies and procedures prohibit the funds, the funds' investment
adviser or any related party from receiving any compensation or other
consideration in connection with the disclosure of portfolio holdings
information.


                                       75


                             PORTFOLIO TRANSACTIONS

The investment adviser makes decisions with respect to the purchase and sale of
portfolio securities on behalf of the funds. The investment adviser is
responsible for implementing these decisions, including the negotiation of
commissions and the allocation of principal business and portfolio brokerage.
Purchases and sales of securities on a stock exchange or certain riskless
principal transactions placed on NASDAQ are typically effected through brokers
who charge a commission for their services. Purchases and sales of fixed income
securities may be transacted with the issuer, the issuer's underwriter, or a
dealer. The funds do not usually pay brokerage commissions on purchases and
sales of fixed income securities, although the price of the securities generally
includes compensation, in the form of a spread or a mark-up or mark-down, which
is not disclosed separately. The prices the funds pay to underwriters of
newly-issued securities usually include a commission paid by the issuer to the
underwriter. Transactions placed through dealers who are serving as primary
market makers reflect the spread between the bid and asked prices. The money
market securities in which the funds may invest are traded primarily in the
over-the-counter market on a net basis and do not normally involve either
brokerage commissions or transfer taxes. It is expected that the cost of
executing portfolio securities transactions of the funds will primarily consist
of dealer spreads and brokerage commissions.

The investment adviser seeks to obtain the best execution for the funds'
portfolio transactions. The investment adviser may take a number of factors into
account in selecting brokers or dealers to execute these transactions. Such
factors may include, without limitation, the following: execution price;
brokerage commission or dealer spread; size or type of the transaction; nature
or character of the markets; clearance or settlement capability; reputation;
financial strength and stability of the broker or dealer; efficiency of
execution and error resolution; block trading capabilities; willingness to
execute related or unrelated difficult transactions in the future; order of
call; ability to facilitate short selling; provision of additional brokerage or
research services or products; whether a broker guarantees that a fund will
receive, on aggregate, prices at least as favorable as the closing prices on a
given day when adherence to "market-on-close" pricing aligns with fund
objectives; or whether a broker guarantees that a fund will receive the
volume-weighted average price (VWAP) for a security for a given trading day (or
portion thereof) when the investment adviser believes that VWAP execution is in
a fund's best interest. In addition, the investment adviser has incentive
sharing arrangements with certain unaffiliated brokers who guarantee
market-on-close pricing: on a day when such a broker executes transactions at
prices better, on aggregate, than market-on-close prices, that broker may
receive, in addition to his or her standard commission, a portion of the net
difference between the actual execution prices and corresponding market-on-close
prices for that day.

The investment adviser may cause a fund to pay a higher commission than
otherwise obtainable from other brokers or dealers in return for brokerage or
research services or products if the investment adviser believes that such
commission is reasonable in relation to the services provided. In addition to
agency transactions, the investment adviser may receive brokerage and research
services or products in connection with certain riskless principal transactions,
in accordance with applicable SEC and other regulatory guidelines. In both
instances, these services or products may include: economic, industry, or
company research reports or investment recommendations; subscriptions to
financial publications or research data compilations; compilations of securities
prices, earnings, dividends, and similar data; computerized databases; quotation
equipment and services; research or analytical computer software and services;
products or services that assist in effecting transactions, including services
of third-party computer systems developers directly related to research and
brokerage activities; and effecting securities transactions and performing
functions incidental thereto (such as clearance and settlement). The investment
adviser may use research services furnished by brokers or dealers in servicing
all fund accounts, and not all services may necessarily be used in connection
with the account that paid commissions or spreads to the broker or dealer
providing such services.


                                       76


The investment adviser may receive a service from a broker or dealer that has
both a "research" and a "non-research" use. When this occurs, the investment
adviser will make a good faith allocation, under all the circumstances, between
the research and non-research uses of the service. The percentage of the service
that is used for research purposes may be paid for with fund commissions or
spreads, while the investment adviser will use its own funds to pay for the
percentage of the service that is used for non-research purposes. In making this
good faith allocation, the investment adviser faces a potential conflict of
interest, but the investment adviser believes that the costs of such services
may be appropriately allocated to their anticipated research and non-research
uses.

The investment adviser may purchase for funds, new issues of securities in a
fixed price offering. In these situations, the seller may be a member of the
selling group that will, in addition to selling securities, provide the
investment adviser with research services, in accordance with applicable rules
and regulations permitting these types of arrangements.

The investment adviser may place orders directly with electronic communications
networks or other alternative trading systems. Placing orders with electronic
communications networks or other alternative trading systems may enable funds to
trade directly with other institutional holders. At times, this may allow funds
to trade larger blocks than would be possible trading through a single market
maker.

The investment adviser may aggregate securities sales or purchases among two or
more funds. The investment adviser will not aggregate transactions unless it
believes such aggregation is consistent with its duty to seek best execution for
each affected fund and is consistent with the terms of the investment advisory
agreement for such fund. In any single transaction in which purchases and/or
sales of securities of any issuer for the account of a fund are aggregated with
other accounts managed by the investment adviser, the actual prices applicable
to the transaction will be averaged among the accounts for which the transaction
is effected, including the account of the fund.

In determining when and to what extent to use Schwab or any other affiliated
broker-dealer as its broker for executing orders for the funds on securities
exchanges, the investment adviser follows procedures, adopted by the funds'
Board of Trustees, that are designed to ensure that affiliated brokerage
commissions (if relevant) are reasonable and fair in comparison to unaffiliated
brokerage commissions for comparable transactions. The Board reviews the
procedures annually and approves and reviews transactions involving affiliated
brokers quarterly.

                              BROKERAGE COMMISSIONS

SCHWAB FINANCIAL SERVICES FUND TM, SCHWAB HEALTH CARE FUND TM AND SCHWAB
TECHNOLOGY FUND TM

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Financial
Services Fund paid brokerage commissions of $10,684, $38,375 and $32,479,
respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Health
Care Fund paid brokerage commissions of $73,426, $50,686 and $38,816,
respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
Technology Fund paid brokerage commissions of $102,339, $16,329 and $71,642,
respectively.

SCHWAB MARKETTRACK PORTFOLIOS(R)

The MarketTrack All Equity Portfolio did not pay brokerage commissions.


                                       77


For the fiscal years ended October 31, 2004, 2003 and 2002, the Growth
Portfolio, paid brokerage commissions of $449, $692, and $743, respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Balanced
Portfolio, paid brokerage commissions of $297, $514, and $477, respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Conservative
Portfolio, paid brokerage commissions of $101, $142, and $126, respectively.

SCHWAB EQUITY INDEX FUNDS

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab S&P 500
Index Fund paid brokerage commissions of $193,566, $273,712, and $435,947,
respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab 1000
Index(R) Fund paid brokerage commissions of $179,770, $227,676, and $340,058,
respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Small-Cap
Index Fund paid brokerage commissions of $1,192,916, $1,321,990, and $1,280,501,
respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Total
Stock Market Index Fund paid brokerage commissions of $66,744, $131,950, and
$67,810, respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
International Index Fund paid brokerage commissions of $51,547, $105,010, and
$153,079, respectively.

SCHWAB INSTITUTIONAL SELECT(R) FUNDS

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
Institutional Select S&P 500 Fund paid brokerage commissions of $15,981,
$16,343, and $25,496, respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
Institutional Select Large-Cap Value Index Fund paid brokerage commissions of
$8,542, $12,775, and $29,211, respectively.

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab
Institutional Select Small-Cap Value Index Fund paid brokerage commissions of
$9,174, $19,740, and $30,381, respectively.

SCHWAB CORE EQUITY FUND TM

For the fiscal years ended October 31, 2004, 2003 and 2002, the Schwab Core
Equity Fund paid brokerage commissions of $165,304, $211,434, and $368,355,
respectively.

SCHWAB HEDGED EQUITY FUND TM

For the fiscal year ended October 31, 2004 and 2003 and for the period between
September 3, 2002 and October 31, 2002, the Schwab Hedged Equity Fund paid
brokerage commissions of $63,395, $52,710 and $14,907, respectively.


                                       78


SCHWAB SMALL-CAP EQUITY FUND TM

For the fiscal year ended October 31, 2004 and for the period between July 1,
2003 and October 31, 2003, the Schwab Small-Cap Equity Fund paid brokerage
commissions of $102,431 and $39,865, respectively.

SCHWAB DIVIDEND EQUITY FUND TM

For the fiscal year ended October 31, 2004 and for the period between September
2, 2003 and October 31, 2003, the Schwab Dividend Equity Fund paid brokerage
commissions of $198,237 and $86,268, respectively.

                             REGULAR BROKER-DEALERS

A fund's regular broker-dealers during its most recent fiscal year are: (1) the
ten broker-dealers that received the greatest dollar amount of brokerage
commissions from the fund; (2) the ten broker-dealers that engaged as principal
in the largest dollar amount of portfolio transactions; and (3) the ten
broker-dealers that sold the largest dollar amount of the fund's shares. During
the fiscal year ended October 31, 2004, certain of the funds purchased
securities issued by the following regular broker-dealers:

SCHWAB MARKETTRACK GROWTH PORTFOLIO



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                       $1,325,000
Morgan Stanley                                               $542,000
The Bear Stearns Cos., Inc.                                   $84,000


SCHWAB MARKETTRACK BALANCED PORTFOLIO



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                         $877,000
Morgan Stanley                                               $358,000
The Bear Stearns Cos., Inc.                                   $57,000


SCHWAB MARKETTRACK CONSERVATIVE PORTFOLIO



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                         $207,000
Morgan Stanley                                                $83,000
The Bear Stearns Cos., Inc.                                   $14,000


SCHWAB S&P 500 INDEX FUND



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                     $107,664,000
Morgan Stanley                                            $43,709,000
Merrill Lynch & Co., Inc.                                 $39,421,000



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The Bear Stearns Cos., Inc.                                $7,696,000



SCHWAB 1000 INDEX(R) FUND



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                      $72,830,000
Morgan Stanley                                            $29,939,000
Merrill Lynch & Co., Inc.                                 $26,830,000
Prudential Financial, Inc.                                $12,538,000
The Bear Stearns Cos., Inc.                                $5,284,000
Jefferies Group, Inc.                                      $1,172,000


SCHWAB TOTAL STOCK MARKET INDEX FUND



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                      $11,423,000
Morgan Stanley                                             $4,613,000
Merrill Lynch & Co., Inc.                                  $4,304,000
Prudential Financial, Inc.                                 $2,114,000
The Bear Stearns Cos., Inc.                                $1,290,000
Jefferies Group, Inc.                                        $165,000
Investment Technology Group, Inc.                             $73,000
Instinet Group, Inc.                                           $6,000


SCHWAB INTERNATIONAL INDEX FUND



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
ABN Amro Holdings NV                                       $7,108,000


SCHWAB CORE EQUITY FUND TM



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                       $3,048,000


SCHWAB INSTITUTIONAL SELECT(R) S&P 500 FUND



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                       $4,448,000
Morgan Stanley                                             $1,819,000
Merrill Lynch & Co., Inc.                                  $1,640,000
The Bear Stearns Cos., Inc.                                  $326,000



                                       80


SCHWAB INSTITUTIONAL SELECT(R) LARGE-CAP VALUE INDEX FUND



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                       $2,670,000
Morgan Stanley                                             $1,093,000
The Bear Stearns Cos., Inc.                                  $199,000


SCHWAB INSTITUTIONAL SELECT(R) SMALL-CAP VALUE INDEX FUND



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
Investment Technology Group, Inc.                            $108,000


SCHWAB FINANCIAL SERVICES FUND TM



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
Prudential Financial, Inc.                                   $293,000


SCHWAB SMALL-CAP EQUITY FUND TM



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
Instinet Group, Inc.                                         $384,000


SCHWAB DIVIDEND EQUITY FUND TM



                                                  Value of Fund's Holdings as of
              Regular Broker-Dealer                      October 31, 2004
              ---------------------               ------------------------------
                                               
JPMorgan Chase & Co.                                       $8,823,000


                            DESCRIPTION OF THE TRUSTS

Each fund, except the Schwab 1000 Index(R) Fund, is a series of Schwab Capital
Trust, an open-end investment management company organized as a Massachusetts
business trust on May 7, 1993. The Schwab 1000 Index Fund is a series of Schwab
Investments, an open-end investment management company organized as a
Massachusetts business trust on October 26, 1990.

The funds may hold special shareholder meetings, which may cause the funds to
incur non-routine expenses. These meetings may be called for purposes such as
electing trustees, changing fundamental policies and amending management
contracts. Shareholders are entitled to one vote for each share owned and may
vote by proxy or in person. Proxy materials will be mailed to shareholders prior
to any meetings, and will include a voting card and information explaining the
matters to be voted upon.

The bylaws of each trust provide that a majority of shares entitled to vote
shall be a quorum for the transaction of business at a shareholders' meeting,
except that where any provision of law, or of the Declaration of Trust or of the
bylaws permits or requires that (1) holders of any series shall vote as a
series, then a majority of the aggregate number of shares of that series
entitled to vote shall be necessary to constitute a quorum for the transaction
of business by that series, or (2) holders of any class shall vote as a class,
then a majority of the aggregate number of shares of that class entitled to vote
shall be necessary to constitute a quorum for the transaction of business by
that class. Any lesser number shall be sufficient for


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adjournments. Any adjourned session or sessions may be held, within a reasonable
time after the date set for the original meeting, without the necessity of
further notice. Each Declaration of Trust specifically authorizes the Board of
Trustees to terminate the trust (or any of its funds) by notice to the
shareholders without shareholder approval.

Under Massachusetts law, shareholders of a Massachusetts business trust could,
under certain circumstances, be held personally liable for the trust's
obligations. Each Declaration of Trust, however, disclaims shareholder liability
for the trust's acts or obligations and requires that notice of such disclaimer
be given in each agreement, obligation or instrument entered into or executed by
the trust or the trustees. In addition, each Declaration of Trust provides for
indemnification out of the property of an investment portfolio in which a
shareholder owns or owned shares for all losses and expenses of such shareholder
or former shareholder if he or she is held personally liable for the obligations
of the trust solely by reason of being or having been a shareholder. Moreover,
each trust will be covered by insurance, which the trustees consider adequate to
cover foreseeable tort claims. Thus, the risk of a shareholder incurring
financial loss on account of shareholder liability is considered remote, because
it is limited to circumstances in which a disclaimer is inoperative and the
trust itself is unable to meet its obligations. There is a remote possibility
that a fund could become liable for a misstatement in the prospectus or SAI
about another fund.

As more fully described in each Declaration of Trust, the trustees may each
year, or more frequently, distribute to the shareholders of each series accrued
income less accrued expenses and any net realized capital gains less accrued
expenses. Distributions of each year's income of each series shall be
distributed pro rata to shareholders in proportion to the number of shares of
each series held by each of them. Distributions will be paid in cash or shares
or a combination thereof as determined by the trustees. Distributions paid in
shares will be paid at the net asset value as determined in accordance with the
bylaws.

  PURCHASE, REDEMPTION, DELIVERY OF SHAREHOLDER DOCUMENTS AND PRICING OF SHARES

                PURCHASING AND REDEEMING SHARES OF THE FUNDS

The funds are open each day that the New York Stock Exchange (NYSE) is open
(business days). The NYSE's trading session is normally conducted from 9:30 a.m.
Eastern time until 4:00 p.m. Eastern time, Monday through Friday, although some
days, such as in advance of and following holidays, the NYSE's trading session
closes early. The following holiday closings are currently scheduled for 2005:
New Year's Day, Martin Luther King Jr.'s Birthday, Presidents' Day, Good Friday,
Memorial Day, Independence Day, Labor Day, Thanksgiving Day and Christmas Day.
While orders to buy, sell and exchange shares are typically accepted by Schwab
at any time, only orders that are received in good order by a fund's transfer
agent no later than the close of the NYSE's trading session will be executed
that day at the fund's (or class') share price calculated that day. On any day
that the NYSE closes early, the funds reserve the right to advance the time by
which purchase, redemption and exchanges orders must be received by the funds'
transfer agent that day in order to be executed that day at that day's share
price.

As long as the funds or Schwab follow reasonable procedures to confirm that an
investor's telephone or Internet order is genuine, they will not be liable for
any losses the investor may experience due to unauthorized or fraudulent
instructions. These procedures may include requiring a form of personal
identification or other confirmation before acting upon any telephone or
Internet order, providing written confirmation of telephone or Internet orders
and tape recording all telephone orders.


                                       82


Share certificates will not be issued in order to avoid additional
administrative costs, however, share ownership records are maintained by Schwab.

Each Trust's Declaration of Trust provides that shares may be automatically
redeemed if held by a shareholder in an amount less than the minimum required by
each fund or share class. Each fund's minimum initial investments and minimum
balance requirements, if any, are set forth in the prospectus. These minimums
may be waived, for clients of Schwab Institutional and Schwab Corporate Services
retirement plans These minimums may also be waived for certain other investors,
including trustees, officers and employees of Schwab, and for certain investment
programs, including programs for retirement savings, education savings, or
charitable giving. Schwab may receive other compensation for providing services
to these clients, investors and programs. The minimums may be changed without
prior notice.

Certain investment managers, including managers in Schwab Institutional, may
aggregate the investments of their underlying customer accounts for purposes of
meeting the Select Shares initial minimum investment and minimum balance
requirements. In order to aggregate investments for these purposes, investment
managers must purchase shares through a financial institution, such as a broker,
that has been approved by the fund or its distributor and that has the
capability to process purchase and redemption orders and to monitor the balances
of the managers' underlying customer accounts on an aggregated basis.

As explained in more detail in the funds' prospectus, each fund that charges a
redemption fee reserves the right to waive its early redemption fee for certain
tax-advantaged retirement plans or charitable giving funds, or in other
circumstances when the fund's officers determine that such a waiver is in the
best interests of the fund and its shareholders.

Each of the funds has made an election with the SEC to pay in cash all
redemptions requested by any shareholder of record limited in amount during any
90-day period to the lesser of $250,000 or 1% of its net assets at the beginning
of such period. This election is irrevocable without the SEC's prior approval.
Redemption requests in excess of these limits may be paid, in whole or in part,
in investment securities or in cash, as the Board of Trustees may deem
advisable. Payment will be made wholly in cash unless the Board of Trustees
believes that economic or market conditions exist that would make such payment a
detriment to the best interests of a fund. If redemption proceeds are paid in
investment securities, such securities will be valued as set forth in "Pricing
of Shares." A redeeming shareholder would normally incur transaction costs if he
or she were to convert the securities to cash.

Each fund is designed for long-term investing. Because short-term trading
activities can disrupt the smooth management of a fund and increase its
expenses, each fund reserves the right, in its sole discretion, to refuse any
purchase or exchange order, or large purchase or exchange orders, including any
purchase or exchange order which appears to be associated with short-term
trading activities or "market timing." Because market timing decisions to buy
and sell securities typically are based on an individual investor's market
outlook, including such factors as the perceived strength of the economy or the
anticipated direction of interest rates, it is difficult for a fund to determine
in advance what purchase or exchange orders may be deemed to be associated with
market timing or short-term trading activities. More information regarding the
funds' policies regarding "market timing' is included in the funds' prospectus.

Shares of the funds may be held only through a Schwab account or certain
financial intermediaries that have an arrangement with Schwab. If you close your
Schwab account, your fund shares may be redeemed unless you first transfer them
to such a financial intermediary.


                                       83



                         EXCHANGING SHARES OF THE FUNDS

An exchange order involves the redemption of all or a portion of the shares of
one SchwabFund and the simultaneous purchase of shares of another SchwabFund.
Exchange orders must meet the minimum investment and any other requirements of
the fund or class purchased. Exchange orders may not be executed between shares
of Sweep Investments(R) and shares of non-Sweep Investments. Shares of Sweep
Investments may be bought and sold automatically pursuant to the terms and
conditions of your Schwab account agreement or by direct order as long as you
meet the minimums for direct investments. In addition, different exchange
policies may apply to Schwab Funds(R) that are bought and sold through
third-party investment providers and the exchange privilege between Schwab Funds
may not be available through third-party investment providers.

The funds and Schwab reserve certain rights with regard to exchanging shares of
the funds. These rights include the right to: (i) refuse any purchase or
exchange order that may negatively impact a fund's operations; (ii) refuse
orders that appear to be associated with short-term trading activities; and
(iii) materially modify or terminate the exchange privilege upon 60 days'
written notice to shareholders.

                        DELIVERY OF SHAREHOLDER DOCUMENTS

Typically once a year, an updated prospectus will be mailed to shareholders
describing each fund's investment strategies, risks and shareholder policies.
Twice a year, financial reports will be mailed to shareholders describing each
fund's performance and investment holdings. In order to eliminate duplicate
mailings of shareholder documents, each household may receive one copy of these
documents, under certain conditions. This practice is commonly called
"householding." If you want to receive multiple copies, you may write or call
your fund at the address or telephone number on the front of this SAI. Your
instructions will be effective within 30 days of receipt by Schwab.

                                PRICING OF SHARES

Each business day, each share class of a fund calculates its share price, or
NAV, as of the close of the NYSE (generally 4 p.m. Eastern time). This means
that NAVs are calculated using the values of a fund's portfolio securities as of
the close of the NYSE. Such values are required to be determined in one of two
ways: securities for which market quotations are readily available are required
to be valued at current market value; and securities for which market quotations
are not readily available are required to be valued at fair value using
procedures approved by the Board of Trustees.

Shareholders of funds that invest in foreign securities should be aware that
because foreign markets are often open on weekends and other days when the funds
are closed, the value of some of a fund's securities may change on days when it
is not possible to buy or sell shares of the fund. The funds use approved
pricing services to provide values for their portfolio securities. Current
market values are generally determined by the approved pricing services as
follows: generally securities traded on exchanges are valued at the last-quoted
sales price on the exchange on which such securities are primarily traded, or,
lacking any sales, at the mean between the bid and ask prices; generally
securities traded in the over-the-counter market are valued at the last reported
sales price that day, or, if no sales are reported, at the mean between the bid
and ask prices. Generally securities listed on the NASDAQ National Market System
are valued in accordance with the NASDAQ Official Closing Price. In addition,
securities that are primarily traded on foreign exchanges are generally valued
at the preceding closing values of such securities on their respective exchanges
with these values then translated into U.S. dollars at the current exchange
rate. Fixed income securities normally are valued based on valuations provided
by approved pricing services. Securities may be fair valued pursuant to
procedures approved by the funds' Board of


                                       84


Trustees when a security is de-listed or its trading is halted or suspended;
when a security's primary pricing source is unable or unwilling to provide a
price; when a security's primary trading market is closed during regular market
hours; or when a security's value is materially affected by events occurring
after the close of the security's primary trading market. The Board of Trustees
regularly reviews fair value determinations made by the funds pursuant to the
procedures.

In accordance with the 1940 Act, the underlying funds in which the MarketTrack
Portfolios and Schwab Target Funds invest are valued at their respective net
asset values as determined by those funds. The underlying funds that are money
market funds may value their portfolio securities based on the value or
amortized cost method. The other underlying funds value their portfolio
securities based on market quotes if they are readily available.

                                    TAXATION

                      FEDERAL TAX INFORMATION FOR THE FUNDS

It is each fund's policy to qualify for taxation as a "regulated investment
company" (RIC) by meeting the requirements of Subchapter M of the Code. By
qualifying as a RIC, each fund expects to eliminate or reduce to a nominal
amount the federal income tax to which it is subject. If a fund does not qualify
as a RIC under the Code, it will be subject to federal income tax on its net
investment income and any net realized capital gains.

The Code imposes a non-deductible excise tax on RICs that do not distribute in a
calendar year (regardless of whether they otherwise have a non-calendar taxable
year) an amount equal to 98% of their "ordinary income" (as defined in the Code)
for the calendar year plus 98% of their net capital gain for the one-year period
ending on October 31 of such calendar year, plus any undistributed amounts from
prior years. The non-deductible excise tax is equal to 4% of the deficiency. For
the foregoing purposes, a fund is treated as having distributed any amount on
which it is subject to income tax for any taxable year ending in such calendar
year.

A fund's transactions in futures contracts, forward contracts, foreign currency
exchange transactions, options and certain other investment and hedging
activities may be restricted by the Code and are subject to special tax rules.
In a given case, these rules may accelerate income to a fund, defer its losses,
cause adjustments in the holding periods of a fund's assets, convert short-term
capital losses into long-term capital losses or otherwise affect the character
of a fund's income. These rules could therefore affect the amount, timing and
character of distributions to shareholders. Each fund will endeavor to make any
available elections pertaining to these transactions in a manner believed to be
in the best interest of a fund and its shareholders.

                     FEDERAL INCOME TAX INFORMATION FOR SHAREHOLDERS

The discussion of federal income taxation presented below supplements the
discussion in each fund's prospectus and only summarizes some of the important
federal tax considerations generally affecting shareholders of the funds.
Accordingly, prospective investors (particularly those not residing or domiciled
in the United States) should consult their own tax advisors regarding the
consequences of investing in the funds.

Any dividends declared by a fund in October, November or December and paid the
following January are treated, for tax purposes, as if they were received by
shareholders on December 31 of the year in which they were declared. In general,
distributions by a fund of investment company taxable income (including


                                       85


net short-term capital gains), if any, whether received in cash or additional
shares, will be taxable to you as ordinary income. A portion of these
distributions may be treated as qualified dividend income (eligible for the
reduced maximum rate to individuals of 15% (5% for individuals in lower tax
brackets)) to the extent that a fund receives qualified dividend income.
Qualified dividend income is, in general, dividend income from taxable domestic
corporations and certain foreign corporations (e.g., foreign corporations
incorporated in a possession of the United States or in certain countries with a
comprehensive tax treaty with the United States, or the stock of which is
readily tradable on an established securities market in the United States). A
dividend will not be treated as qualified dividend income to the extent that (i)
the shareholder has not held the shares of the fund on which the dividend was
paid for more than 60 days during the 121-day period that begins on the date
that is 60 days before the date on which the shares of a fund become ex-dividend
with respect to such dividend (and each fund also satisfies those holding period
requirements with respect to the securities it holds that paid the dividends
distributed to the shareholder), (ii) the shareholder is under an obligation
(whether pursuant to a short sale or otherwise) to make related payments with
respect to substantially similar or related property, or (iii) the shareholder
elects to treat such dividend as investment income under section 163(d)(4)(B) of
the Internal Revenue Code.

Distributions from net capital gain (if any) that are designated as capital
gains dividends are taxable as long-term capital gains without regard to the
length of time the shareholder has held shares of a fund. However, if you
receive a capital gains dividend with respect to fund shares held for six months
or less, any loss on the sale or exchange of those shares shall, to the extent
of the capital gains dividend, be treated as a long-term capital loss. Long-term
capital gains also will be taxed at a maximum rate of 15%. Absent further
legislation, the maximum 15% tax rate on qualified dividend income and long-term
capital gains will cease to apply to taxable years beginning after December 31,
2008.

A fund will inform you of the amount of your ordinary income dividends and
capital gain distributions, if any, at the time they are paid and will advise
you of their tax status for federal income tax purposes, including what portion
of the distributions will be qualified dividend income, shortly after the close
of each calendar year. For corporate investors in a fund, dividend distributions
the fund designates to be from dividends received from qualifying domestic
corporations will be eligible for the 70% corporate dividends-received deduction
to the extent they would qualify if the fund were a regular corporation.
Distributions by a fund also may be subject to state, local and foreign taxes,
and its treatment under applicable tax laws may differ from the federal income
tax treatment.

A fund will be required in certain cases to withhold at the applicable
withholding rate and remit to the U.S. Treasury, the withheld amount of taxable
dividends paid to any shareholder who (1) fails to provide a correct taxpayer
identification number certified under penalty of perjury; (2) is subject to
withholding by the Internal Revenue Service for failure to properly report all
payments of interest or dividends; (3) fails to provide a certified statement
that he or she is not subject to "backup withholding;" or (4) fails to provide a
certified statement that he or she is a U.S. person (including a U.S. resident
alien). Backup withholding is not an additional tax and any amounts withheld may
be credited against the shareholder's ultimate U.S. tax liability.

Foreign shareholders (i.e., nonresident alien individuals and foreign
corporations, partnerships, trusts and estates) are generally subject to U.S.
withholding tax at the rate of 30% (or a lower tax treaty rate) on distributions
derived from net investment income and short-term capital gains; provided,
however, that for a fund's taxable year beginning after December 31, 2004 and
not beginning after December 31, 2007, interest related dividends and short-term
capital gain dividends generally will not be subject to U.S. withholding taxes.
Distributions to foreign shareholders of such short-term capital gain dividends,
of long-term capital gains and any gains from the sale or other disposition of
shares of a fund generally are not subject to U.S. taxation, unless the
recipient is an individual who either (1) meets the Code's definition of
"resident alien" or (2) is physically present in the U.S. for 183 days or more
per year.


                                       86


Different tax consequences may result if the foreign shareholder is engaged in a
trade or business within the United States. In addition, the tax consequences to
a foreign shareholder entitled to claim the benefits of a tax treaty may be
different than those described above.

Income that a MarketTrack Portfolio, Schwab Target Fund or the Schwab
International Index Fund(R) receives from sources within various foreign
countries may be subject to foreign income taxes withheld at the source. If a
MarketTrack Portfolio, Schwab Target Fund or the Schwab International Index Fund
has at least 50% of its assets invested in foreign securities at the end of its
taxable year, it may elect to "pass through" to its shareholders the ability to
take either the foreign tax credit or the deduction for foreign taxes. Pursuant
to this election, U.S. shareholders must include in gross income, even though
not actually received, their respective pro rata share of foreign taxes, and may
either deduct their pro rata share of foreign taxes (but not for alternative
minimum tax purposes) or credit the tax against U.S. income taxes, subject to
certain limitations described in Code sections 901 and 904. A shareholder who
does not itemize deductions may not claim a deduction for foreign taxes. It is
expected that the Schwab International Index Fund will have more than 50% of the
value of its total assets at the close of its taxable year invested in foreign
securities, and it will make this election. It is expected that the MarketTrack
Portfolios and Schwab Target Funds will not have 50% of their assets invested in
foreign securities at the close of their taxable years, and therefore will not
be permitted to make this election. Also, to the extent a MarketTrack Portfolio
or Schwab Target Fund invests in an underlying mutual fund that elects to pass
through foreign taxes, the MarketTrack Portfolio or Schwab Target Fund will not
be able to pass through the taxes paid by the underlying mutual fund. Each
shareholder's respective pro rata share of foreign taxes a MarketTrack Portfolio
or Schwab Target Fund pays will, therefore, be netted against its share of the
MarketTrack Portfolio's or Schwab Target Fund's gross income.

The MarketTrack Portfolios, Schwab Target Funds and the Schwab International
Index Fund may invest in a non-U.S. corporation, which could be treated as a
passive foreign investment company (PFIC) or become a PFIC under the Code. This
could result in adverse tax consequences upon the disposition of, or the receipt
of "excess distributions" with respect to, such equity investments. To the
extent the Schwab International Index Fund(R), Schwab Target Funds and the
MarketTrack Portfolios do invest in PFICs, it may elect to treat the PFIC as a
"qualified electing fund" or mark-to-market its investments in PFICs annually.
In either case, the Schwab International Index Fund, Schwab Target Funds and the
MarketTrack Portfolios may be required to distribute amounts in excess of
realized income and gains. To the extent that the Schwab International Index
Fund, Schwab Target Funds and the MarketTrack Portfolios do invest in foreign
securities which are determined to be PFIC securities and are required to pay a
tax on such investments, a credit for this tax would not be allowed to be passed
through to the funds' shareholders. Therefore, the payment of this tax would
reduce the Schwab International Index Fund's and each of the MarketTrack
Portfolio's and Schwab Target Fund's economic return from its PFIC shares, and
excess distributions received with respect to such shares are treated as
ordinary income rather than capital gains.

Shareholders are urged to consult their tax advisors as to the state and local
tax rules affecting investments in the fund.

                                 TAX EFFICIENCY

The Schwab 1000 Index(R) Fund and Schwab Total Stock Market Index Fund employ
specific investment strategies designed to minimize capital gain distributions
while achieving each fund's investment objective. These strategies include
selling the highest tax cost securities first, not re-balancing the portfolio to
reflect changes in their indexes, trading only round-lots or large blocks of
securities and focusing on individual tax lots in deciding when and how to
manage the realization of capital gains. In addition, the investment adviser
monitors, analyzes and evaluates each of these funds' portfolio as well as


                                       87


market conditions to carefully manage necessary trading activity and to
determine when there are opportunities to realize capital losses, which offset
realized capital gains. These policies will be utilized to the extent they do
not have a material effect on each fund's ability to track or match the
performance of its index. They may affect the composition of a fund's index
holdings as compared to the index. There can be no assurance that the investment
adviser will succeed in avoiding realized net capital gains.


                                       88