NOTE

- REGULATORY MATTERS

We are subject to regulatory capital requirements administered by federal banking agencies. Capital adequacy guidelines and prompt corrective action regulations involve quantitative measures of assets, liabilities, and certain off-balance sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk weightings, and other factors, and the regulators can lower classifications in certain cases. Failure to meet various capital requirements can initiate regulatory action that could have a direct material effect on the financial statements.

The prompt corrective action regulations provide

five

classifications, including well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not used to represent overall financial condition. If an institution is not well capitalized, regulatory approval is required to accept brokered deposits. Subject to limited exceptions, no institution

may

make a capital distribution if, after making the distribution, it would be undercapitalized. If an institution is undercapitalized, it is subject to close monitoring by its principal federal regulator, its asset growth and expansion are restricted, and plans for capital restoration are required. In addition, further specific types of restrictions

may

be imposed on the institution at the discretion of the federal regulator. At year-end

2016

and

2015,

our Bank was in the well capitalized category under the regulatory framework for prompt corrective action. There are no conditions or events since

December

31,

2016

that we believe have changed our Bank’s categorization.

Our actual capital levels (dollars in thousands) and minimum required levels were:

	Actual					Minimum Required for Capital Adequacy Purposes					Minimum Required to be Well Capitalized Under Prompt Corrective Action Regulations
	Amount		Ratio			Amount		Ratio			Amount		Ratio
2016
Total capital (to risk weighted assets)
Consolidated	$	354,278		13.1	%	$	215,819		8.0	%	$	NA		NA
Bank		353,243		13.1			215,605		8.0			269,506		10.0	%
Tier 1 capital (to risk weighted assets)
Consolidated		336,316		12.5			161,864		6.0			NA		NA
Bank		335,282		12.4			161,704		6.0			215,605		8.0
Common equity (to risk weighted assets)
Consolidated		293,555		10.9			121,398		4.5			NA		NA
Bank		335,282		12.4			121,278		4.5			175,179		6.5
Tier 1 capital (to average assets)
Consolidated		336,316		11.2			120,486		4.0			NA		NA
Bank		335,282		11.1			120,383		4.0			150,479		5.0

	Actual					Minimum Required for Capital Adequacy Purposes					Minimum Required to be Well Capitalized Under Prompt Corrective Action Regulations
	Amount		Ratio			Amount		Ratio			Amount		Ratio
2015
Total capital (to risk weighted assets)
Consolidated	$	345,539		13.5	%	$	205,602		8.0	%	$	NA		NA
Bank		347,433		13.5			205,624		8.0			257,030		10.0	%
Tier 1 capital (to risk weighted assets)
Consolidated		329,858		12.8			154,201		6.0			NA		NA
Bank		331,752		12.9			154,218		6.0			205,624		8.0
Common equity (to risk weighted assets)
Consolidated		280,171		10.9			115,804		4.5			NA		NA
Bank		331,752		12.9			115,664		4.5			167,070		6.5
Tier 1 capital (to average assets)
Consolidated		329,858		11.6			114,138		4.0			NA		NA
Bank		331,752		11.6			114,280		4.0			142,850		5.0

Under the final Basel III capital rules that became effective on

January

2015,

there is a requirement for a common equity Tier

capital conservation buffer of

2.5%

of risk-weighted assets which is in addition to the other minimum risk-based capital standards in the rule. Institutions that do not meet this required capital buffer will become subject to progressively more stringent limitations on the percentage of earnings that can be paid out in cash dividends or used for stock repurchases and on the payment of discretionary bonuses to senior executive management. The capital buffer requirement is being phased in over

three

years beginning in

2016.

The capital buffer requirement effectively raises the minimum required common equity Tier

capital ratio to

7.0%,

the Tier

capital ratio to

8.5%

and the total capital ratio to

10.5%

on a fully phased-in basis on

January

2019.

We believe that, as of

December

31,

2016,

our bank would meet all capital adequacy requirements under the Basel III capital rules on a fully phased-in basis as if all such requirements were currently in effect.

Federal and state banking laws and regulations place certain restrictions on the amount of dividends our Bank can transfer to Mercantile and on the capital levels that must be maintained. At year-end

2016,

under the most restrictive of these regulations, our Bank could distribute approximately

$54.6

million to Mercantile as dividends without prior regulatory approval. Our and our bank’s ability to pay cash and stock dividends is subject to limitations under various laws and regulations and to prudent and sound banking practices. On

January

14,

2016,

our Board of Directors declared a cash dividend on our common stock in the amount of

$0.16

per share that was paid on

March

23,

2016

to shareholders of record as of

March

11,

2016.

April

14,

2016,

our Board of Directors declared a cash dividend on our common stock in the amount of

$0.16

per share that was paid on

June

23,

2016

to shareholders of record as of

June

10,

2016.

July

14,

2016,

our Board of Directors declared a cash dividend on our common stock in the amount of

$0.17

per share that was paid on

September

21,

2016

to shareholders of record as of

September

2016.

October

13,

2016,

our Board of Directors declared a cash dividend on our common stock in the amount of

$0.17

per share that was paid on

December

21,

2016

to shareholders of record as of

December

2016.

In addition, on

October

13,

2016,

our Board of Directors declared a special cash dividend on our common stock in the amount of

$0.50

per share that was paid on

December

21,

2016

to shareholders of record as of

December

2016.

January

12,

2017,

our Board of Directors declared a cash dividend on our common stock in the amount of

$0.18

per share that will be paid on

March

22,

2017

to shareholders of record as of

March

10,

2017.

January

30,

2015,

we announced that our Board of Directors had authorized a new program to repurchase up to

$20.0

million of our common stock from time to time in open market transactions at prevailing market prices or by other means in accordance with applicable regulations. On

April

19,

2016,

we announced a

$15.0

million expansion of the stock repurchase plan. During

2016,

we repurchased

167,878

shares at a total price of

$3.7

million, at an average price per share of

$22.23.

Since inception, we have purchased a total of

956,419

shares at a total price of

$19.5

million, at an average price per share of

$20.38.

The stock buybacks have been funded from cash dividends paid to us from our Bank. Additional repurchases

may

be made during

2017

under the authorized plan, which would also likely be funded from cash dividends paid to us from our Bank.

Our consolidated capital levels as of

December

31,

2016

and

2015

include

$42.8

million and

$53.1

million, respectively, of trust preferred securities subject to certain limitations. Under applicable Federal Reserve guidelines, the trust preferred securities constitute a restricted core capital element. The guidelines provide that the aggregate amount of restricted core elements that

may

be included in Tier

capital must not exceed

25%

of the sum of all core capital elements, including restricted core capital elements, net of goodwill less any associated deferred tax liability. Our ability to include the trust preferred securities in Tier

capital in accordance with the guidelines is not affected by the provision of the Dodd-Frank Act generally restricting such treatment, because (i) the trust preferred securities were issued before

May

19,

2010,

and (ii) our total consolidated assets as of

December

31,

2009

were less than

$15.0

billion. At

December

31,

2016

and

2015,

all

$42.8

million and

$53.1

million, respectively, of the trust preferred securities were included as Tier

capital of Mercantile.

January

26,

2016,

we closed on a repurchase of trust preferred securities that were auctioned as part of a pooled collateralized debt obligation (“Fund”). The Fund owned

$11.0

million of the

$32.0

million in trust preferred securities that had been issued by Mercantile Bank Capital Trust I, a wholly-owned business trust subsidiary. The

$11.0

million in trust preferred securities was retired upon the repurchase, resulting in a commensurate reduction in the related Floating Rate Junior Subordinate Note, leaving

$21.0

million outstanding. Our winning bid equated to

73%

of the

$11.0

million par value, with the

27%

discount resulting in an after-tax gain of approximately

$1.8

million, or

$0.11

per diluted share. On a pro forma basis as of

December

31,

2015,

the repurchase resulted in a

nine

basis point increase in our tangible equity to tangible assets ratio and an

$0.11

increase in our tangible book value per share, but an approximately

basis point decline in our regulatory tier

capital and total risk-based capital ratios. The repurchase was funded via a

$9.1

million cash dividend from our Bank, resulting in a similar approximately

basis point decline in the regulatory capital ratios. Subsequent to the repurchase, our and our Bank’s regulatory capital ratios remained well above the minimum thresholds to be categorized as well capitalized.