|UNITED STATES                                                                                                                                                                                                                                                                                                                                                                   
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|SECURITIES AND EXCHANGE COMMISSION                                                                                                                                                                                                                                                                                                                                              
|Washington, D.C. 20549                                                                                                                                                                                                                                                                                                                                                          
|                                                                                                                                                                                                                                                                                                                                                                                
|FORM 10-Q/A                                                                                                                                                                                                                                                                                                                                                                     
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|[X]                                                                                                                                                                                                                                                                                                                                                                             
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|For the quarterly period ended                                                                                                                                                                                                                                                                                                                                                  
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|                                                                                                                                                                                                                                                                                                                                                                                
|or                                                                                                                                                                                                                                                                                                                                                                              
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|[   ]                                                                                                                                                                                                                                                                                                                                                                           
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|For the transition period from __________________________________ to __________________________________                                                                                                                                                                                                                                                                         
|                                                                                                                                                                                                                                                                                                                                                                                
|Commission file number:                                                                                                                                                                                                                                                                                                                                                         
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|Merchants Bancshares, Inc.                                                                                                                                                                                                                                                                                                                                                      
|                                                                                                                                                                                                                                                                                                                                                                                
|(Exact name of registrant as specified in its charter)                                                                                                                                                                                                                                                                                                                          
|                                                                                                                                                                                                                                                                                                                                                                                
|Delaware                                                                                                                                                                                                                                                                                                                                                                        
|                                                                                                                                                                                                                                                                                                                                                                                
|(State or other jurisdiction of incorporation or organization)                                                                                                                                                                                                                                                                                                                  
|                                                                                                                                                                                                                                                                                                                                                                                
|275 Kennedy Drive, South Burlington, Vermont                                                                                                                                                                                                                                                                                                                                    
|                                                                                                                                                                                                                                                                                                                                                                                
|(Address of principal executive offices)                                                                                                                                                                                                                                                                                                                                        
|                                                                                                                                                                                                                                                                                                                                                                                
|802-658-3400                                                                                                                                                                                                                                                                                                                                                                    
|                                                                                                                                                                                                                                                                                                                                                                                
|(Registrant's telephone number, including area code)                                                                                                                                                                                                                                                                                                                            
|                                                                                                                                                                                                                                                                                                                                                                                
|                                                                                                                                                                                                                                                                                                                                                                                
|                                                                                                                                                                                                                                                                                                                                                                                
|(Former name, former address and former fiscal year, if changed since last report)                                                                                                                                                                                                                                                                                              
|                                                                                                                                                                                                                                                                                                                                                                                
|Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   [X] Yes      [   ] No
|                                                                                                                                                                                                                                                                                                                                                                                
|Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).                                                                                                                                                                                                                                                           
|[X] Yes      [   ] No                                                                                                                                                                                                                                                                                                                                                           
|                                                                                                                                                                                                                                                                                                                                                                                
|Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: As of May 2, 2005, the registrant had outstanding 6,318,322 shares of Common Stock, par value $0.01 per share.                                                                                                                                    

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|EXPLANATORY NOTE                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|This Amendment No. 1 on Form 10-Q/A ("Amendment") to the Registrant's Annual Report on Form 10-Q for the quarter ended March 31, 2005 ("Form 10-Q") is being filed with the U.S. Securities and Exchange Commission for the purpose of:                                                                                                                                                                                                                                                                                                                                                                                                                          
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|Pursuant to Rule 12b-15 under the Act, this Amendment also is accompanied by new certifications by the principal executive officer and principal financial officer of the Registrant given under Rule 13a-14(b) under the Act, which new certifications are filed with this Amendment as Exhibit 32.  Rule 12b-15 also requires that new certifications by the principal executive officer and principal financial officer of the Registrant under Rule 13a-14(a) be given with any amendment to the Registrant's Quarterly Report.  As noted in the preceding paragraph, such certifications in corrected form are being filed as the subject of this Amendment.
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|No other changes to the Form 10-Q have been made by this Amendment.  Except for the enclosed certifications and additional information in Part II, Item 2, the Form 10-Q has not been updated to reflect events occurring subsequent to the original filing date thereof.                                                                                                                                                                                                                                                                                                                                                                                        



<PAGE>

|MERCHANTS BANCSHARES, INC.    
|------------------------------
|FORM 10-Q                     
|TABLE OF CONTENTS             
|                              
|PART I - FINANCIAL INFORMATION
|                              
|Item 1.                       
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|Item 2.                       
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|                              
|Item 3.                       
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|Item 4.                       
|                              
|PART II - OTHER INFORMATION   
|                              
|Item 1.                       
|                              
|Item 2.                       
|                              
|                              
|Item 3.                       
|                              
|Item 4.                       
|                              
|Item 5.                       
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|Item 6.                       
|                              
|Signatures                    
|                              
|Exhibits                      

<PAGE>

|MERCHANTS BANCSHARES, INC.                                     
|---------------------------------------------------------------
|PART I - FINANCIAL INFORMATION                                 
|                                                               
|ITEM 1. Financial Statements                                   
|                                                               
|Merchants Bancshares, Inc.                                     
|Consolidated Balance Sheets                                    
|(Unaudited)                                                    
|                                                               
|                                                               
|(In thousands except share and per share data)                 
|                                                               
|ASSETS                                                         
|Cash and due from banks                                        
|Investments:                                                   
|Securities available for sale                                  
|Securities held to maturity (fair value of $19,341 and $20,574)
|                                                               
|Total investments                                              
|                                                               
|Loans                                                          
|Less: Allowance for loan losses                                
|                                                               
|Net loans                                                      
|                                                               
|Federal Home Loan Bank stock                                   
|Bank premises and equipment, net                               
|Investment in real estate limited partnerships                 
|Other assets                                                   
|                                                               
|Total assets                                                   
|                                                               
|LIABILITIES                                                    
|Deposits:                                                      
|Demand deposits                                                
|Savings, NOW and money market accounts                         
|Time deposits $100 thousand and greater                        
|Other time deposits                                            
|                                                               
|Total deposits                                                 
|                                                               
|Demand note due U.S. Treasury                                  
|Other short-term borrowings                                    
|Other liabilities                                              
|Long-term debt                                                 
|Junior subordinated debentures issued to unconsolidated        
|subsidiary trust                                               
|                                                               
|Total liabilities                                              
|                                                               
|Commitments and contingencies (Note 5)                         
|SHAREHOLDERS' EQUITY                                           
|Preferred stock Class A non-voting                             
|Shares authorized - 200,000, none outstanding                  
|Preferred stock Class B voting                                 
|Shares authorized - 1,500,000, none outstanding                
|Common stock, $.01 par value                                   
|Shares authorized                                              
|Issued                                                         
|                                                               
|Outstanding                                                    
|                                                               
|Capital in excess of par value                                 
|Retained earnings                                              
|Treasury stock, at cost                                        
|                                                               
|                                                               
|Deferred compensation arrangements                             
|Accumulated other comprehensive loss                           
|                                                               
|Total shareholders' equity                                     
|                                                               
|Total liabilities and shareholders' equity                     
|                                                               
|                                                               
|See accompanying notes to consolidated financial statements    

<PAGE>  1

|Merchants Bancshares, Inc.                                 
|-----------------------------------------------------------
|Consolidated Statements of Operations                      
|(Unaudited)                                                
|                                                           
|                                                           
|                                                           
|                                                           
|(In thousands except per share data)                       
|                                                           
|INTEREST AND DIVIDEND INCOME                               
|Interest and fees on loans                                 
|Interest and dividends on investments                      
|U.S. Treasury and Agency obligations                       
|Other                                                      
|                                                           
|Total interest and dividend income                         
|                                                           
|INTEREST EXPENSE                                           
|Savings, NOW and money market accounts                     
|Time deposits $100 thousand and greater                    
|Other time deposits                                        
|Other borrowed funds                                       
|Long-term debt                                             
|                                                           
|Total interest expense                                     
|                                                           
|Net interest income                                        
|Provision for loan losses                                  
|                                                           
|Net interest income after provision for loan losses        
|                                                           
|NONINTEREST INCOME                                         
|Trust company income                                       
|Service charges on deposits                                
|Gains on sales of investment securities, net               
|Other                                                      
|                                                           
|Total noninterest income                                   
|                                                           
|NONINTEREST EXPENSE                                        
|Salaries and wages                                         
|Employee benefits                                          
|Occupancy expense, net                                     
|Equipment expense                                          
|Legal and professional fees                                
|Marketing                                                  
|Equity in losses of real estate limited partnerships, net  
|State franchise taxes                                      
|Other                                                      
|                                                           
|Total noninterest expense                                  
|                                                           
|Income before provision for income taxes                   
|Provision for income taxes                                 
|                                                           
|NET INCOME                                                 
|                                                           
|                                                           
|Basic earnings per common share                            
|Diluted earnings per common share                          
|                                                           
|See accompanying notes to consolidated financial statements

<PAGE>  2

|Merchants Bancshares, Inc.                                        
|------------------------------------------------------------------
|Consolidated Statements of Comprehensive Income                   
|(Unaudited)                                                       
|                                                                  
|                                                                  
|                                                                  
|                                                                  
|(In thousands)                                                    
|                                                                  
|Net income                                                        
|Change in net unrealized (depreciation) appreciation of securities
|available for sale, net of taxes of $1,763 and $1,055             
|Reclassification adjustments for net securities losses (gains)    
|included in net income, net of taxes of $(21) and $(22)           
|                                                                  
|Comprehensive income before transfers                             
|Impact of transfer of securities from available for sale          
|to held to maturity, net of taxes of $(1) and $3                  
|                                                                  
|Comprehensive income (loss)                                       
|                                                                  
|                                                                  
|See accompanying notes to consolidated financial statements       

<PAGE>  3

|Merchants Bancshares, Inc.                                                       
|---------------------------------------------------------------------------------
|Consolidated Statements of Cash Flows                                            
|(Unaudited)                                                                      
|                                                                                 
|For the three months ended March 31,                                             
|                                                                                 
|(In thousands)                                                                   
|CASH FLOWS FROM OPERATING ACTIVITIES:                                            
|Net Income                                                                       
|Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities:
|Deferred Tax Expense                                                             
|Depreciation and Amortization                                                    
|Net Gains on Sales of Investment Securities                                      
|Equity in Losses of Real Estate Limited Partnerships                             
|Changes in Assets and Liabilities:                                               
|(Increase) Decrease in Interest Receivable                                       
|Decrease in Other Assets                                                         
|Increase (Decrease) in Interest Payable                                          
|Increase (Decrease) in Other Liabilities                                         
|                                                                                 
|Net Cash Provided by Operating Activities                                        
|                                                                                 
|                                                                                 
|CASH FLOWS FROM INVESTING ACTIVITIES:                                            
|Proceeds from Sales of Investment Securities Available for Sale                  
|Proceeds from Maturities of Investment Securities Available for Sale             
|Proceeds from Maturities of Investment Securities Held to Maturity               
|Purchases of Investment Securities Available for Sale                            
|Loan Originations in Excess of Principal Payments                                
|Purchases of Federal Home Loan Bank Stock                                        
|Investments in Real Estate Limited Partnerships                                  
|Purchases of Bank Premises and Equipment                                         
|                                                                                 
|Net Cash Provided by Investing Activities                                        
|                                                                                 
|                                                                                 
|CASH FLOWS FROM FINANCING ACTIVITIES:                                            
|Net (Decrease) Increase in Deposits                                              
|Net (Decrease) Increase in Short-term Borrowings                                 
|Proceeds from Long-term Debt                                                     
|Principal Payments on Long-term Debt                                             
|Cash Dividends Paid                                                              
|Purchases of Treasury Stock                                                      
|Proceeds from Sale of Treasury Stock                                             
|Increase in Deferred Compensation Arrangements                                   
|Proceeds from Exercise of Stock Options                                          
|                                                                                 
|Net Cash Provided by (Used In) Financing Activities                              
|                                                                                 
|                                                                                 
|Decrease in cash and cash equivalents                                            
|Cash and Cash Equivalents Beginning of Year                                      
|                                                                                 
|Cash and Cash Equivalents End of Period                                          
|                                                                                 
|                                                                                 
|SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:                                
|Total Interest Payments                                                          
|Total Income Tax Payments                                                        
|SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND                                
|FINANCING ACTIVITIES                                                             
|Distribution of Stock Under Deferred Compensation Arrangements                   
|Distribution of Treasury Stock in Lieu of Cash Dividend                          
|                                                                                 
|See accompanying notes to consolidated financial statements                      

<PAGE>  4

|Notes To Consolidated Financial Statements:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
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|See Merchants Bancshares, Inc. ("Merchants") Annual Report on Form 10-K for additional information.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
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|Note 1: Stock-based Compensation                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|Merchants has granted stock options to certain key employees. The options granted vest completely after two years and are exercisable immediately upon vesting. Nonqualified stock options may be granted at any price determined by the Nominating and Governance Committee of Merchants' Board of Directors. All stock options have been granted at or above fair market value at the date of grant.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
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|Merchants accounts for its stock-based compensation plans in accordance with the provisions of Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations. Merchants has adopted SFAS No. 123, "Accounting for Stock-Based Compensation," which permits entities to recognize the fair value of all stock-based awards measured on the date of the grant as expense over the vesting period. Merchants has also adopted SFAS No. 148 "Accounting for Stock-Based Compensation - Transition and Disclosure - an Amendment of FASB Statement No. 123," which, among other things, amends the disclosure requirements of SFAS No. 123. Alternatively, SFAS No. 123 allows entities to continue to apply the provisions of APB Opinion No. 25 and provide pro forma net income and earnings per share disclosures for employee stock-based grants made in 1995 and future years as if the fair value based method defined in SFAS No. 123 had been applied. In December 2004, the FASB issued revised statement No. 123 ("FAS 123R"), "Share-Based Payment", which requires companies to expense the estimated fair value of employee stock options and similar awards. Since the December 2004 issuance of FAS 123R , the SEC has elected to defer the effective date. The accounting provisions of FAS 123R will be effective for public companies at the beginning of the first annual period beginning after December 31, 2005. Merchants will adopt the provisions of FAS 123R using a modified prospective application. Under the modified prospective application, FAS 123R, which provides certain changes to the method for valuing stock-based compensation among other changes, will apply to new awards and to awards that are outstanding on the effective date and are subsequently modified or cancelled. Compensation expense for outstanding awards for which the requisite service has not been rendered as of the effective date will be recognized over the remaining service period using the compensation cost calculated for pro forma disclosure purposes under FAS 123. Based on the fact that Merchants has not granted options since 2001, all options have vested, and all participants in the option program have reached their maximum grant amount, Merchants does not expect FAS 123R to have a material impact on the Company's financial position or results of operations.
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|The fair value of each option grant is estimated on the grant date using the Black-Scholes option-pricing model. No options have been granted since August 2001. Under SFAS No. 123, Merchants' net income and earnings per share would have been the same as the amounts reported in the financial statements. Pro forma compensation expense for options granted is reflected over the vesting period; therefore, future pro forma compensation expense may be greater if additional options are granted.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

<PAGE>  5

|Note 2: Earnings Per Share                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
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|The following tables present reconciliations of the calculations of basic and diluted earnings per share for the three-month periods ended March 31, 2005 and 2004.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|(In thousands except share and per share data)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Basic earnings per common share:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Net income available to common shareholders                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|Diluted earnings per common share:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|Effect of dilutive stock options                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Net income available to common shareholders and stock                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|option exercise                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Basic earnings per common share:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Net income available to common shareholders                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|Diluted earnings per common share:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|Effect of dilutive stock options                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Net income available to common shareholders and stock                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|option exercise                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Basic earnings per common share were computed by dividing net income by the weighted average number of shares of common stock outstanding for the three month periods ending March 31, 2005 and 2004. As of March 31, 2005 and 2004, there were no anti-dilutive stock options outstanding.                                                                                                                                                                                                                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Note 3: Pension                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Prior to January 1995 Merchants maintained a noncontributory defined benefit plan (the "Plan") covering all eligible employees. The Plan was a final average pay plan with benefits based on the average salary rates over the five consecutive plan years out of the last ten consecutive plan years that produce the highest average. It was Merchants' policy to fund the cost of benefits expected to accrue during the year plus amortization of any unfunded accrued liability that had accumulated prior to the valuation date based on IRS regulations for funding. During 1995 the Plan was curtailed. Accordingly, all accrued benefits were fully vested and no additional years of service or age will be accrued.
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|The components of net periodic benefit cost for the quarters ended March 31, 2005 and 2004, were as follows:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
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|Merchants contributed $150 thousand to its pension plan on April 5, 2005. No further contributions are expected during 2005.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Note 4: Stock Repurchase Program                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|In January 2001 Merchants' Board of Directors approved a stock repurchase program. In January 2005 the Board of Directors voted to extend the program until January 2006. Under the program, Merchants is authorized to repurchase up to 300,000 shares of its own common stock. Under the plan Merchants has purchased 242,781 shares of its own common stock on the open market, at an average per share price of $22.84 through March 31, 2005; 64,900 of the shares were purchased during the first quarter of 2005 at an average price of $26.44.                                                                                                                                                                        

<PAGE>  6

|Note 5: Commitments and Contingencies                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
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|Merchants is a party to financial instruments with off balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments primarily include commitments to extend credit and financial guarantees. Such instruments involve, to varying degrees, elements of credit and interest rate risk that are not recognized in the accompanying consolidated balance sheets.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
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|Merchants does not issue any guarantees that would require liability recognition or disclosure, other than its standby letters of credit. Standby letters of credit are conditional commitments issued by Merchants to guarantee the performance of a customer to a third party. Standby letters of credit generally arise in connection with lending relationships. The credit risk involved in issuing these instruments is essentially the same as that involved in extending loans to customers. Contingent obligations under standby letters of credit totaled approximately $9.1 million at March 31, 2005, and represent the maximum potential future payments Merchants could be required to make. Typically, these instruments have terms of 12 months or less and expire unused; therefore, the total amounts do not necessarily represent future cash requirements. Each customer is evaluated individually for creditworthiness under the same underwriting standards used for commitments to extend credit and on balance sheet instruments. Merchants' policies governing loan collateral apply to standby letters of credit at the time of credit extension. Loan-to-value ratios are generally consistent with loan-to-value requirements for other commercial loans secured by similar types of collateral. The fair value of Merchants' standby letters of credit at March 31, 2005, was insignificant.
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|Merchants is involved in routine legal proceedings that occur in the ordinary course of business, which, in the aggregate, are believed by management to be immaterial to its financial condition and results of operations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
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|Note 6: Reclassifications                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|Certain amounts reported for prior periods have been reclassified to be consistent with the current period presentation.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
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|Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
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|Forward Looking Statements                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Except for the historical information contained herein, this Quarterly Report on Form 10-Q of Merchants may contain forward looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 (the "Exchange Act"). Investors are cautioned that forward looking statements are inherently uncertain. Actual performance and results of operations may differ materially from those projected or suggested in the forward looking statements due to certain risks and uncertainties, including, without limitation:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
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<PAGE>  7

|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     | (vii)  | the fact that changes in the extensive laws, regulations and policies governing bank holding companies and their subsidiaries could alter Merchants' business environment or affect Merchants' operations;            
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     | (viii) | the fact that the potential need to adapt to industry changes in information technology systems, on which Merchants is highly dependent, could present operational issues or require significant capital spending; and
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|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     | (ix)   | the fact that Merchants actively evaluates acquisition and other expansion opportunities and strategies, the implementation of which could affect Merchants' financial performance.                                   
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|These factors, as well as general economic and market conditions in the United States, may materially and adversely affect the market price of shares of Merchants' common stock. Because of these and other factors, past financial performance should not be considered an indicator of future performance. The forward looking statements contained herein represent Merchants' judgment as of the date of this Form 10-Q; Merchants cautions readers not to place undue reliance on such statements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
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|General                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|All adjustments necessary for a fair presentation of the consolidated financial statements of Merchants as of March 31, 2005, and for the three months ended March 31, 2005 and 2004, have been included. The information was prepared from the unaudited financial statements of Merchants Bancshares, Inc. and its subsidiaries, Merchants Bank, Merchants Trust Company and Merchants Properties, Inc.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
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|Overview                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|Merchants earned net income of $2.90 million, or basic and diluted earnings per share of 46 cents for the quarter ended March 31, 2005, compared to $2.82 million, or basic and diluted earnings per share of 45 cents for the quarter ended March 31, 2004. The return on average assets and return on average equity for the first quarter of 2005 were 1.11% and 17.68% respectively, compared to 1.14% and 12.88%, respectively, for the first quarter of 2004.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
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|Results of Operations                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Net Interest Income: Merchants' net interest margin for the first quarter of 2005 was 4.14%, a 9 basis point decrease compared to 4.23% for the first quarter of 2004, but a small (three basis points) increase over the fourth quarter of 2004 at 4.11%. Net interest income dollars continue to increase when comparing the first quarter of 2005 to 2004. Net interest income was $10.01 million for the first quarter of 2005, a $234 thousand increase over net interest income for the first quarter of last year of $9.78 million, but a $93 thousand decrease from the $10.11 million earned for the fourth quarter of 2004. There are a number of factors that contributed to these changes. One of these is the $297 thousand in first quarter interest expense incurred on the trust preferred securities that were issued at the end of 2004; another is the change in the shape of the yield curve over the course of the quarter. Increases in short term rates have increased rates on the variable portion of Merchants loan portfolio, and created opportunities for asset repricing, but at the same time Merchants' overall cost of funds has increased. As the Federal Reserve Board has continued to move the federal funds rate up, and the prime rate has followed, the variable portion of Merchants' loan portfolio has benefited. Approximately 75% of Merchants' commercial real estate and commercial loans are variable rate, and all but a small portion of those are tied directly to changes in the prime rate. Although short term rates have risen during the quarter, long term rates have not followed. Merchants' fixed rate loans are priced out further on the yield curve, and this portion of the portfolio has not experienced the same increases as the prime based loans. The ten-year treasury increased by approximately 28 basis points over the course of the quarter, at the same time the two-year increased by approximately 53 basis points. This flattening of the yield curve has mitigated the benefit of the overall rising interest rate environment. Average interest earning assets increased to $982.61 million for the first quarter from $930.74 million for the first quarter of last year. Merchants' average loan portfolio increased $11.33 million to $578.58 million from $567.25 million when comparing the first quarter of 2005 to 2004. The average interest rate earned on the loan portfolio increased 30 basis points to 6.00% for the first quarter of 2005 from 5.70% for the first quarter of 2004, and increased 26 basis points from the average of 5.74% for the fourth quarter of 2004. The average rate on Merchants' investment portfolio has also increased over the last year to 4.24% on average investments of $403.91 million for the first quarter of the current year from 4.00% on average investments of $361.81 million for the first quarter of last year, and 3.88% for the fourth quarter of 2004.
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|Merchants experienced a small increase in its interest expense on interest bearing deposits as the average rate increased to 0.94% for the first quarter of 2005 from 0.91% for the first quarter of 2004, and 0.86% for the fourth quarter of last year. Merchants has continued to carefully control deposit costs while remaining competitive in the current rising interest rate environment. Competitive pressures have continued to increase and Merchants has had to move deposit rates up more aggressively in the early part of the second quarter.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
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|The average cost of borrowed funds has increased when comparing the first quarter of 2005 to the first quarter of 2004 and to the fourth quarter of last year. The average cost of short-term borrowings has increased by 161 basis points to 2.73% for the first quarter of 2005 from 1.12% for the first quarter of last year, and has increased 68 basis points from 2.05% when                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  

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|compared to the fourth quarter of last year. Additionally, Merchants' average cost of long-term debt has increased to 2.74% for the first quarter of 2005 from 2.10% for the first quarter of 2004, and 2.53% for the fourth quarter of 2004. These increases have led to an overall increase in Merchants' average cost of interest bearing liabilities to 1.31% for the first quarter of 2005 compared to .95% for the first quarter of 2004 and 1.05% for the fourth quarter of last year.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
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|As mentioned above, Merchants closed its private placement of an aggregate of $20 million in trust preferred securities on December 15, 2004. These hybrid securities qualify as regulatory capital for Merchants, up to certain regulatory limits. At the same time they are considered debt for tax purposes, and as such, interest payments are fully deductible. The trust preferred securities total $20.62 million, bear interest for five years at 5.95%, and after five years, the rate adjusts quarterly at a fixed spread over three month LIBOR. The interest cost incurred on the securities during the first quarter of 2005 was $297 thousand.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
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|The table on page 12 shows the yield analysis for the periods reported.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
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|Provision for Loan Losses: Management reviews the Allowance for Loan Losses ("Allowance") at least quarterly, which continues to be deemed adequate under current market conditions. No provision for loan losses was recorded during the first quarter of 2005 or 2004. See the discussion of Non-Performing Assets on pages 13 - 14 for additional information on the Allowance.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
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|Noninterest Income: Total noninterest income increased slightly to $2.18 million from $2.15 million for the first quarter of 2005 compared to 2004. Net gains on sales of investments totaled $61 thousand for the first quarter of 2005 and $63 thousand for the first quarter of 2004. Merchants experienced an increase of $43 thousand in its Trust Company income. This 11% increase over the first quarter of last year is primarily attributable to an above average increase in new business during 2005 resulting in the overall increase in fee income during the first quarter. Merchants experienced a $71 thousand decrease in service charges on deposits when comparing the first quarter of 2005 to 2004. This decrease was driven by the fact that increases in the earnings credit rate have allowed business customers to decrease the amount of hard dollar charges they incur each month, reducing the level of service charge revenue. Additionally, although Merchants continues to experience increases in overdraft service charge revenue, the rate of the increase has slowed down as more customers use their debit cards for purchases; electronic transactions are not approved unless the customer has sufficient funds in their account to pay for the transaction. Other noninterest income has increased $63 thousand when comparing the first quarter of 2005 to 2004. As mentioned above, Merchants is experiencing decreases in check volumes and increases in electronic transactions. The net revenue for ATM and debit cards increased $39 thousand for the first quarter of 2005 compared to 2004.
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|Noninterest Expenses: Total noninterest expense increased $209 thousand for the first quarter of 2005 compared to 2004. Merchants continues to work toward controlling expenses, as evidenced by a 2.6 % year-over-year increase. Salaries and wages were virtually flat year-over-year at $2.97 million compared to $2.87 million. Merchants experienced a $34 thousand decrease in its employee benefits costs for the quarter; pension plan expenses have decreased for 2005 as a result of strong asset performance and changes in the retiree population. At the same time, Merchants continues to experience increases in health and group insurance related expenses as those costs continue to rise. Merchants' marketing expenses have decreased $34 thousand for the first quarter, due to decreased cost of new account opening premiums. Other noninterest expenses have increased $41 thousand when comparing the first quarter of 2005 to 2004 as a result of a number of small increases and decreases in the categories that make up this line item.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
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|Balance Sheet Analysis                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|Average loans for the first quarter of 2005 were $578.58 million, an increase of $11.33 million over the first quarter of 2004, but a decrease of $7.69 million over the fourth quarter of last year. Period-end loans increased $1.42 million during the first quarter of 2005 to $585.75 million from $584.33 million at December 31, 2004.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
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|Residential mortgage loan balances are up slightly from year-end. Merchants' residential loan balances are predominately in intermediate-term fixed rate loans, which amortize very quickly. During the first quarter Merchants introduced a new 7-1 ARM product that meets the requirements set by its Asset and Liability Committee ("ALCO") and its customers needs. The increased volume in sales for this product should generate sufficient volume to mitigate the rapid amortization of Merchants' current residential mortgage loan portfolio. A major component of Merchants' loan portfolio, commercial and industrial loans, is witnessing a decline due to competitive factors, decreased credit line utilization and accelerated amortization. Merchants has elected not to divert from its credit pricing except in cases where the overall relationship may warrant such action. Merchants has experienced an overall decline in new loan volume during the first quarter.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
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|The following table summarizes the components of Merchants' loan portfolio as of March 31, 2005, and December 31, 2004:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    

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|(In thousands)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | March 31, 2005 |  | December 31, 2004
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|Commercial, financial and agricultural                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          | $   77,668     |  | $   82,644       
|Real estate loans - residential                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 | 266,450        |  | 265,306          
|Real estate loans - commercial                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  | 209,311        |  | 209,333          
|Real estate loans - construction                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | 24,568         |  | 19,354           
|Installment loans                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               | 6,164          |  | 7,016            
|All other loans                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 | 1,589          |  | 679              
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Total loans                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     | $ 585,750      |  | $ 584,332        
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Average deposits for the quarter were $827.46 million, an increase of $25.73 million over the first quarter of 2004 average balances of $801.73 million; and a decrease of $17.50 million when comparing the first quarter of 2005 to the fourth quarter of 2004. Ending deposits were down slightly from year-end; the first quarter of the year is generally a time when Merchants experiences seasonal decreases in deposits. Merchants continued to focus most of its resources on the development of transaction accounts rather than higher cost time deposits. Currently 38% of its deposits are comprised of transaction accounts (excluding money market accounts) compared to 35% for the same period in 2004. Merchants' goal is to build this to 40%. As interest rates rise the cost of funds should favorably reflect this emphasis on low cost core deposits. Merchants has continued its emphasis on increasing its marquee Free Checking for Life® product. Average quarterly balances grew at an annualized rate of 7.4% from the fourth quarter of 2004 through the first quarter of 2005, and 15.5% when compared to average balances as of March 31, 2004.
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Merchants' quarterly average investment portfolio increased 11.6% year-over-year; average balances for the first quarter of 2005 were $403.91 million compared to $361.81 million for the first quarter of 2004. Merchants has continued to leverage its balance sheet; its average total borrowing position with the Federal Home Loan Bank ("FHLB") was $120.42 million for the first quarter of 2005 compared to $87.03 million for the first quarter one year ago. This leverage strategy has helped Merchants continue to increase its net interest income dollars in spite of continued pressure on its net interest margin. However, the flattening of the yield curve over the last nine months combined with leverage that has been partially funded with short-term borrowings, has further challenged Merchants' ability to continue generating these additional net interest income dollars.                                                                                                                                                                                                                                                                       
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|In the ordinary course of business, Merchants makes commitments for possible future extensions of credit. On March 31, 2005, Merchants was obligated to fund $9.1 million of standby letters of credit. No losses are anticipated in connection with these commitments.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Income Taxes                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|Merchants and its subsidiaries are taxed on income by the Internal Revenue Service at the federal level. The State of Vermont levies franchise taxes on banks based upon average deposit levels in lieu of taxing income. Franchise taxes are included in noninterest expenses in the consolidated statements of operations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Total income tax expense was $912 thousand for the first quarter of 2005 compared to $934 thousand for the same period in 2004. Merchants recognized favorable tax benefits of $425 thousand for the first three months of 2005, compared to $400 thousand for the same period in 2004, representing the amount of the federal tax credits earned during these periods. Merchants' statutory tax rate was 35% for all periods. The recognition of low income housing tax credits has contributed to Merchants' effective tax rate of 24% for the first three months of 2005.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Liquidity and Capital Resources                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|Merchants' liquidity is monitored by the ALCO, based upon policies approved by the Board of Directors. Merchants uses the FHLB as one of its primary sources of liquidity. Because of the leveraging of the investment portfolio Merchants' availability with FHLB is almost fully utilized. Merchants has an overnight line of credit with FHLB of $15 million and an estimated additional borrowing capacity with the FHLB of $10 million. Additionally, Merchants has $28 million in available Federal Funds lines of credit at March 31, 2005 and the ability to borrow through the use of repurchase agreements, collateralized by Merchants' investments, with certain approved counterparties. Merchants' investment portfolio, which is managed by Merchants' ALCO, totaled $409.27 million at March 31, 2005, and is a strong source of cash flow for Merchants.                                                                                                                                                                                                                                                                                                      
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|During the first quarter of 2005 Merchants issued 99,601 shares out of treasury for the purpose of reinvesting the cash in its 401(k) and Directors' deferred compensation plans generated by the special dividend paid in December 2004. Merchants was also active in its stock buyback plan during the quarter, and purchased 64,900 shares at an average price of $26.44.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|As of March 31, 2005, Merchants exceeded all applicable regulatory capital requirements. The following table represents the actual capital ratios and capital adequacy requirements for Merchants as of March 31, 2005 and 2004:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

<PAGE>  10

|                          |                                                                                                                                                                                              |  | For Capital      
|------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -----------------
|                          | Actual                                                                                                                                                                                       |  | Adequacy Purposes
|                          |                                                                                                                                                                                              |  |                  
|(In thousands)            | Amount (1)                                                                                                                                                                                   |  | Percent          
|                         
|                          | As of March 31, 2005                                                                                                                                                                        
|                          |                                                                                                                                                                                             
|Tier 1 leverage capital   | $ 85,779                                                                                                                                                                                     |  | 8.22%            
|Tier 1 risk-based capital | 85,779                                                                                                                                                                                       |  | 12.44%           
|Total risk-based capital  | 93,256                                                                                                                                                                                       |  | 13.52%           
|                          |                                                                                                                                                                                              |  |                  
|                          | As of March 31, 2004                                                                                                                                                                        
|                          |                                                                                                                                                                                             
|Tier 1 leverage capital   | $ 85,468                                                                                                                                                                                     |  | 8.64%            
|Tier 1 risk-based capital | 85,468                                                                                                                                                                                       |  | 13.66%           
|Total risk-based capital  | 93,291                                                                                                                                                                                       |  | 14.91%           
|                         
|(1)                       | The March 31, 2005 amounts include $20 million in trust preferred securities issued in December 2004. These hybrid securities qualify as regulatory capital up to certain regulatory limits.

<PAGE>  11

|Merchants Bancshares, Inc.              
|----------------------------------------
|Average Balance Sheets and Average Rates
|(Unaudited)                             
|                                        
|                                        
|                                        
|                                        
|                                        
|                                        
|                                        
|(In thousands, fully taxable equivalent)
|                                        
|ASSETS:                                 
|Loans, including fees on loans (1)      
|Taxable investments                     
|Federal funds sold, securities          
|purchased under agreements to           
|resell and interest bearing deposits    
|with banks                              
|                                        
|Total interest earning assets           
|                                        
|Allowance for loan losses               
|Cash and due from banks                 
|Premises and equipment, net             
|Other assets                            
|                                        
|Total assets                            
|                                        
|                                        
|LIABILITIES AND                         
|SHAREHOLDERS' EQUITY:                   
|Interest bearing deposits:              
|Savings, NOW & money market             
|accounts                                
|Time deposits                           
|                                        
|Total interest bearing deposits         
|                                        
|Short-term borrowings                   
|Long-term debt                          
|Junior subordinated debentures          
|issued to unconsolidated subsidiary     
|trust                                   
|                                        
|Total interest bearing liabilities      
|                                        
|Noninterest bearing deposits            
|Other liabilities                       
|Shareholders' equity                    
|                                        
|Total liabilities and                   
|shareholders'equity                     
|                                        
|                                        
|Net interest earning assets             
|                                        
|                                        
|Net interest income (fully taxable      
|equivalent)                             
|                                        
|                                        
|Net interest rate spread                
|                                        
|                                        
|Net interest margin                     
|                                        
|                                        
|(1)                                     

<PAGE>  12

|Non-Performing Assets and the Allowance for Loan Losses                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Stringent credit quality is a major strategic focus of Merchants. Although Merchants has been successful in minimizing its problem assets to date, there is no assurance that Merchants will not have increased levels of problem assets in the future, particularly in light of current or future economic conditions. There is also no assurance that Merchants will not need to increase the Allowance in the future.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|The following table summarizes Merchants' non-performing assets at the dates indicated:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|(In thousands)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Nonaccrual loans                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Loans past due 90 days or more and                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|still accruing interest                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|Restructured loans                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Total nonperforming loans ("NPL")                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|Other real estate owned ("OREO")                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Total nonperforming assets ("NPA")                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|The level of nonperforming assets increased during the first quarter, primarily due to the addition of both a loan secured by a lodging property in southern Vermont and a commercial property in Burlington to nonaccrual. These additions more than offset a $490 thousand reduction in an existing non-accrual relationship. Restructured loans were virtually unchanged during the quarter. At March 31, 2005 there were no loans past due 90 days or more and still accruing, nor were there any properties in OREO.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|The following table summarizes year-to-date activity in Merchants' Allowance for Loan Losses through the dates indicated:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|(In thousands)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Allowance beginning of year                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|Charge-offs:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|Commercial, lease financing and all other                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Real estate - commercial                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Real estate - mortgage                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Installment and other consumer                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Total charge-offs                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Recoveries:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|Commercial, lease financing and all other                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|Real estate - commercial                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|Real estate - mortgage                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Installment and other consumer                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Total recoveries                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Net (charge-offs) recoveries                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Provision for loan losses                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Allowance end of period                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|The Allowance is based on management's estimate of the amount required to reflect the risks in the loan portfolio, based on circumstances and conditions at each reporting date. Merchants reviews the adequacy of the Allowance at least quarterly. Factors considered in evaluating the adequacy of the Allowance include previous loss experience, current economic conditions and their effect on borrowers, the performance of individual loans in relation to contract terms and estimated fair values of properties to be foreclosed. The method used in determining the amount of the Allowance is not based on maintaining a specific percentage of Allowance to total loans or total NPA. Rather, the methodology is a comprehensive analytical process of assessing the credit risk inherent in the loan portfolio. This assessment incorporates a broad range of factors, which indicate both general and specific credit risk, as well as a consistent methodology for quantifying probable credit losses. Losses are charged against the Allowance when management believes that the collectibility of principal is doubtful. To the extent management determines the level of anticipated losses in the portfolio has increased or diminished significantly, the Allowance is adjusted through current earnings. As part of Merchants' analysis of specific credit risk,

<PAGE>  13

|detailed and extensive reviews are done on larger credits and problematic credits identified on the watched asset list, non-performing asset listings and internal credit rating reports. An outside loan review firm examines portions of Merchants' commercial loan portfolio three times per year. Over the course of the year, approximately 70% of commercial loan balances are reviewed, including all relationships over $1.0 million and criticized and classified loans over $500 thousand. Issues addressed by the loan review process include the accuracy of Merchants' internal risk ratings system, loan quality, and adequacy of the Allowance. Loans deemed impaired at March 31, 2005, totaled $3.8 million; of this total $3.7 million are included as non-performing assets in the table above.                                                                                                                                                                                                                                                                                                                               
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|The Allowance level reflects management's current strategies and efforts to maintain the Allowance at a level adequate to provide for loan losses based on an evaluation of known and inherent risks in the loan portfolio. Among the factors that management considers in establishing the level of the Allowance are overall findings from an analysis of individual loans, the overall risk characteristics and size of the loan portfolio, past credit loss history, management's assessment of current economic and real estate market conditions and estimates of the current value of the underlying collateral. Management considered the balance of the Allowance adequate at March 31, 2005.                                                                                                                                                                                                                                                                                                                                                                                                                                           
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|The following table reflects Merchants' non-performing asset and coverage ratios as of March 31, 2005, December 31, 2004, and March 31, 2004:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|NPL to total loans                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|NPA to total loans plus OREO                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|Allowance to total loans                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|Allowance to NPL                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Allowance to NPA                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Item 3. Quantitative and Qualitative Disclosures About Market Risk                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|General                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|Management and Merchants' Board of Directors are committed to sound risk management practices throughout the organization. Merchants has developed and implemented a centralized risk management monitoring program. Risks associated with Merchants' business activities and products are identified and measured for probability of occurrence and impact on Merchants (low, moderate, or high), and the control or other activities in place to manage those risks are identified and assessed. Periodically, department-level and senior managers re-evaluate and report on the risk management processes for which they are responsible. This documented program provides management with a comprehensive framework for monitoring Merchants' risk profile from a macro perspective; it also serves as a tool for assessing internal controls over financial reporting as required under the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), and the Sarbanes-Oxley Act of 2002.                                                                                                                                  
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Market Risk                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Market risk is the risk of loss in a financial instrument arising from adverse changes in market rates and prices such as interest rates, foreign currency exchange rates, commodity prices, and equity prices. Merchants' primary market risk exposure is interest rate risk. An important component of Merchants' asset and liability management process is the ongoing monitoring and management of this risk, which is governed by established policies that are reviewed and approved annually by Merchants' Board of Directors. The Board of Directors delegates responsibility for carrying out the asset and liability management policies to the ALCO. In this capacity the ALCO develops guidelines and strategies impacting Merchants' asset and liability management related activities based upon estimated market risk sensitivity, policy limits and overall market interest rate levels and trends. Merchants consults with an outside investment advisory firm to identify opportunities for increased yield without significantly increasing risk, in the investment portfolio.                                                
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Interest Rate Risk                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|The ALCO is responsible for evaluating and managing the interest rate risk which arises naturally from imbalances in repricing, maturity and cash flow characteristics of Merchants' assets and liabilities. The ALCO is responsible for ensuring that the Board of Directors receives accurate information regarding Merchants' interest rate risk position at least quarterly. The ALCO uses an outside consultant to perform rate shocks of Merchants' balance sheet, and to perform a variety of other analyses. The consultant's most recent review was as of February 28, 2005. At that time Merchants' one-year gap position was a $51.20 million liability-sensitive position compared to a $29.22 million liability-sensitive position at the end of 2004. Total liabilities have shortened slightly since year end, and total assets have lengthened as Merchants has stretched the duration on its investment portfolio slightly to 2.54 years. Merchants strives to keep its one-year interest rate sensitivity gap as neutral as possible so that benefits can be realized in both a falling and a rising interest rate environment.

<PAGE>  14

|Because of the current rate environment Merchants' consultant modeled a 100 basis point decrease, as well as a 200 basis point increase, at the February 28, 2005 review. At that time the change in net interest income for the next 12 months from Merchants' expected or "most likely" forecast was as follows:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
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|In a rising rate environment net interest income decreases as funding costs rise more quickly than asset yields reset, causing margin compression in the short term. This trend reverses over time as asset yields continue to improve and funding costs stabilize, leading to increased net interest margin and net interest income. In a falling rate environment initial funding cost reductions, particularly on short-term borrowing and money market deposits, sustain net interest income levels in the short term. As funding costs reach their floors and asset yields continue to reset in a lower rate environment, additional margin compression is expected.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
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|The analysis discussed above includes no growth assumptions. The consultant also ran additional simulations, which modeled an upward movement in rates with a flattening yield curve, and a simulation using Merchants' current growth assumptions. The growth model showed that margin dollars increase in all scenarios as Merchants continues to grow its balance sheet. The flattening yield curve scenario resulted in additional margin compression. These types of dynamic analyses give the ALCO a more thorough understanding of how Merchants' balance sheet will perform in a variety of rate environments.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
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|The preceding sensitivity analysis does not represent Merchants' forecast and should not be relied upon as being indicative of expected operating results. These estimates are based upon numerous assumptions including without limitation: the nature and timing of interest rate levels including yield curve shape, prepayments on loans and securities, deposit run-off rates, pricing decisions on loans and deposits and reinvestment/replacement of asset and liability cash flows, among others. While assumptions are developed based upon current economic and local market conditions, Merchants cannot make any assurances as to the predictive nature of these assumptions including how customer preferences or competitor influences might change.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
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|As market conditions vary from those assumed in the sensitivity analysis, actual results will likely differ due to: the varying impact of changes in the balances and mix of loans and deposits differing from those assumed, the impact of possible off balance sheet hedging strategies, and other internal/external variables. Furthermore, the sensitivity analysis does not reflect all actions that the ALCO might take in responding to or anticipating changes in interest rates.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
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|The model used to perform the balance sheet simulation assumes a parallel shift of the yield curve over twelve months and reprices every interest-bearing asset and liability on the Merchants' balance sheet. The model uses contractual repricing dates for variable products, contractual maturities for fixed rate products, and product-specific assumptions for deposits such as Free Checking for Life(R) accounts and money market accounts which are subject to repricing based on current market conditions. Investment securities with call provisions are examined on an individual basis in each rate environment to estimate the likelihood of a call. The model also assumes that the rate at which certain mortgage related assets prepay will vary as rates rise and fall, based on prepayment estimates derived from the Office of Thrift Supervision's Net Portfolio Value Model.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
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|Credit Risk                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|The Board of Directors reviews and approves Merchants' loan policy on an annual basis. Among other things, the loan policy establishes restrictions on the types of loans that may be granted, and the distribution of loan types within Merchants' portfolio. Merchants' Board of Directors grants each loan officer the authority to originate loans on behalf of Merchants, subject to certain limitations. These authorized lending limits are reviewed at least annually and are based upon the lender's knowledge and experience. Loan requests that exceed a lender's authority require the signature of Merchants' credit division manager, senior loan officer, and/or president. All extensions of credit of $2.5 million or greater to any one borrower or related party interest, are reviewed and approved by the Loan Committee of Merchants' Board of Directors. Merchants' loan portfolio is continuously monitored for performance, creditworthiness and strength of documentation through the use of a variety of management reports and with the assistance of an external loan review firm. Credit ratings are assigned to commercial loans and are reviewed on a routine basis. Loan officers or the loan workout function take remedial actions to assure full and timely payment of loan balances when necessary. Merchants' policy is to discontinue the accrual of interest on loans when scheduled payments become contractually past due 90 or more days and the ultimate collectibility of principal or interest becomes doubtful.

<PAGE>  15

|Item 4.   Controls and Procedures                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
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|The principal executive officer, principal financial officer, and other members of senior management of Merchants have evaluated the disclosure controls and procedures of Merchants as of the end of the period covered by this quarterly report. Based on this evaluation, Merchants has concluded that the disclosure controls and procedures effectively ensure that information required to be disclosed in Merchants' filings and submissions with the Securities and Exchange Commission under the Exchange Act, is accumulated and communicated to Merchants' management (including the principal executive officer and principal financial officer) and is recorded, processed, summarized and reported within the time periods specified by the Securities and Exchange Commission. In addition, Merchants has reviewed its internal controls over financial reporting and there have been no significant changes in its internal controls or in the other factors that could significantly affect those controls during the quarter ended March 31, 2005.

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|MERCHANTS BANCSHARES, INC.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
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|PART II - OTHER INFORMATION                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
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|Item 1. Legal Proceedings                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
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|Merchants is involved in routine legal proceedings occurring in the ordinary course of business, which in the aggregate are believed by management to be immaterial to its financial condition and results of operations.                                                                                                                                                                                                                                                                                                                                
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|Item 2. Unregistered Sales of Equity Securities and Use of Proceeds                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
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|Issuer Purchases of Equity Securities by Issuer                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
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|January 1 - January 31                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|February 1 - February 28                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|March 1 - March 31                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
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|In January 2001, Merchants' Board of Directors approved a stock repurchase program. In January 2005, the Board of Directors voted to extend the program until January 2006. Under the program, Merchants is authorized to repurchase up to 300,000 shares of its own common stock. Under the plan, Merchants has purchased 242,781 shares of its own common stock on the openmarket, at an average per share price of $22.84 through March 31, 2005; 64,900 of these shares were purchased during thefirst quarter of 2005 at an average price of $26.44.
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|Item 3. Defaults Upon Senior Securities                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
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|None                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
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|Item 4. Submission of Matters to a Vote of Security Holders                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
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|None                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
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|Item 5. Other Information                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
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|None                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
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|Item 6. Exhibits and Reports on Form 8-K                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
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|(a)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
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|(b)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
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|MERCHANTS BANCSHARES, INC.                                                                                                                                                              
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|SIGNATURES                                                                                                                                                                              
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|Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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