The following discussion and analysis by management focuses on those factors that had a material effect on Union Bankshares, Inc.'s (Company) financial position as of June 30, 2009, and as of December 31, 2008, and its results of operations for the three and six months ended June 30, 2009 and 2008. This discussion is being presented to provide a narrative explanation of the financial statements and should be read in conjunction with the consolidated financial statements and related notes and with other financial data appearing elsewhere in this filing and with the Company's Annual Report on Form 10-K for the year ended December 31, 2008. In the opinion of the Company's management, the interim unaudited data reflects all adjustments, consisting only of normal recurring adjustments, and disclosures necessary to fairly present the Company's consolidated financial position and results of operations for the interim period. Management is not aware of the occurrence of any events between June 30, 2009 and August 14, 2009 which would materially affect the information presented.

The Company may from time to time make written or oral statements that are considered "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements may include financial projections, statements of plans and objectives for future operations, estimates of future economic performance and assumptions relating thereto. The Company may include forward-looking statements in its filings with the Securities and Exchange Commission (SEC), in its reports to stockholders, including this Quarterly Report, in press releases, other written materials, and in statements made by senior management to analysts, rating agencies, institutional investors, representatives of the media and others.

Forward-looking statements reflect management's current expectations and are subject to uncertainties, both general and specific, and risk exists that those predictions, forecasts, projections and other estimates contained in forward-looking statements will not be achieved. When management uses any of the words "believes," "expects," "anticipates," "intends," "plans," "seeks," "estimates", or similar expressions, they are making forward-looking statements. Many possible events or factors, including those beyond the control of management, could affect the future financial results and performance of the Company. This could cause results or performance to differ materially from those expressed in forward-looking statements. The possible events or factors that might affect the forward-looking statements include, but are not limited to, the following:

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uses of monetary, fiscal, and tax policy by various governments including measures taken by the Federal government to stimulate the economy;

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political, legislative, or regulatory developments in Vermont, New Hampshire, or the United States including changes in laws concerning accounting, taxes, financial reporting, banking, and other aspects of the financial services industry;

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disruptions in U.S. and global financial and credit markets;

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developments in general economic or business conditions, globally, nationally, in Vermont, or in northwestern New Hampshire, including interest rate fluctuations, market fluctuations and perceptions, job creation and unemployment rates, ability to attract new business, and inflation or deflation and their effects on the Company or its customers;

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changes in the competitive environment for financial services organizations, including increased competition from tax-advantaged credit unions, mutual banks and out-of-market competitors offering financial services over the internet;

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the implementation of international financial reporting standards (IFRS) for United States companies;

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impact of governmental interposition in financial services or other industries;

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the Company's ability to attract and retain key personnel;

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adverse changes in the local real estate market, which negatively impact collateral values and the Company's ability to recoup loan losses through disposition of real estate collateral;

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changes in technology, including demands for greater automation which could present operational issues or significant capital outlays;

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acts or threats of terrorism or war, and actions taken by the United States or other governments that might adversely affect business or economic conditions for the Company or its customers;

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adverse changes in the securities market generally or in the market for financial institution securities which could adversely affect the value of the Company's stock;

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any actual or alleged conduct which could harm the Company's reputation;

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natural or other disasters which could affect the ability of the Company to operate under normal conditions;

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the Company's ability to attract and retain deposits and loans;

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illegal acts of theft or fraud perpetuated against the Company's subsidiary bank or its customers;

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unanticipated lower revenues or increased cost of funds, loss of customers or business, or higher operating expenses;

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the failure of assumptions underlying the establishment of the allowance for loan losses and estimations of values of collateral and various financial assets and liabilities;

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the amount invested in new business opportunities and the timing of these investments;

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the failure of actuarial, investment, work force, salary and other assumptions underlying the establishment of reserves for future pension costs or changes in legislative or regulatory requirements affecting such costs;

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future cash requirements might be higher than anticipated due to loan commitments or unused lines of credit being drawn upon or depositors withdrawing their funds;

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assumptions made regarding interest rate movement and sensitivity could vary substantially if actual experience differs from historical experience which could adversely affect the Company's results of operations;

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the creditworthiness of current loan customers is different from management's understanding or changes dramatically and therefore the allowance for loan losses becomes inadequate; and

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uncontrollable increase in the cost of doing business such as increased costs of FDIC insurance for deposits, higher taxes or assessments by regulatory bodies.

When evaluating forward-looking statements to make decisions with respect to the Company, investors and others are cautioned to consider these and other risks and uncertainties, including the events and circumstances discussed under "Recent Developments" below, and are reminded not to place undue reliance on such statements. Forward-looking statements speak only as of the date they are made and the Company undertakes no obligation to update them to reflect new or changed information or events, except as may be required by federal securities laws.

The U.S. and global economies have experienced significant stress and disruptions in the financial sector over the last nine months and have recently started to show signs of stabilization. Interest rates remain at historic lows, bank failures are higher than they have been in over 20 years and the amount of U.S. Government dollars pumped into the system is unprecedented. Dramatic slowdowns in certain sectors of the housing industry with falling home prices, continuing foreclosures and increasing unemployment have resulted in major issues for some financial institutions, including government-sponsored entities and investment banks. These issues have caused many financial institutions to seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail. The economic instability has progressed to many other business sectors and appears to be affecting the majority of consumers as well.

Despite the volatile economy, Vermont continues to have one of the lowest residential foreclosure rates in the country. Also, as northern New England did not experience the dramatic run up in housing prices that preceded the current economic downturn, likewise, we have not seen the values drop as far as other parts of the country.

In response to the financial crisis affecting the banking and financial markets, many new laws and regulations have been promulgated. We will not attempt to discuss them all within this Form 10-Q but will mention the ones that have a known financial impact on the Company.

In October 2008, the Emergency Economic Stabilization Act of 2008 (the "EESA") was signed into law. Pursuant to the EESA, the Federal Deposit Insurance Corporation temporarily increased the deposit insurance coverage limits to $250,000 per ownership category at each insured financial institution. That coverage has been extended until December 31, 2013. Also, the U.S. Treasury (the "Treasury") was granted the authority to, among other things, purchase up to $700 billion of mortgages, mortgage-backed securities and certain other financial instruments from financial institutions for the purpose of stabilizing and providing liquidity to the U.S. financial markets under the Troubled Asset Purchase Program (the "TARP").

In addition, under a program, known as the Troubled Asset Relief Program Capital Purchase Program (the "TARP Capital Purchase Program"), from the $700 billion authorized by the EESA, the Treasury is authorized to invest up to $250 billion in U.S. financial institutions in the form of purchases of preferred stock and common stock warrants. Participating publicly-held financial institutions are required to adopt the Treasury's standards for executive compensation and corporate governance for the period during which the Treasury holds equity issued under the TARP Capital Purchase Program and are restricted from increasing dividends to common shareholders or repurchasing common stock for three years without the consent of the Treasury.

Further, after receiving a recommendation from the boards of the Federal Deposit Insurance Corporation (the "FDIC") and the Federal Reserve System (the "Federal Reserve"), the Treasury signed the systemic risk exception to the FDIC Act, enabling the FDIC to temporarily provide a 100% guarantee of the senior unsecured debt of all FDIC-insured institutions and their holding companies, as well as 100% of deposits in noninterest bearing transaction deposit accounts under a Temporary Liquidity Guarantee Program. Coverage under the Temporary Liquidity Guarantee Program was available for 30 days without charge and thereafter at a cost of 75 basis points per annum for senior unsecured debt and 10 basis points per annum for noninterest bearing transaction deposits in excess of the $250,000 insured deposit limit.

The Company made a decision to participate in the Temporary Liquidity Guarantee Program regarding the Noninterest Bearing Deposit Account Guarantee but to opt out of the Senior Unsecured Debt Guaranty portion of that program. The Company also decided it is not in the best interest of the Company or its shareholders to participate in either the Troubled Asset Purchase Program or the Capital Purchase Program available under TARP given the strength of the Company's capital position, the nature of the government restrictions with the possibility of additional restrictions in the future, the fact that the Company did not target sub-prime borrowers and the fact that the Company is able to meet the lending and withdrawal needs of our customers with our available funding sources. (For additional information, see the Capital Resources on page 48.)

In addition, as a result of the weakness of certain financial institutions, the FDIC has taken action that will result in increased FDIC insurance assessments for United States FDIC-insured financial institutions, including Union. Under the deposit insurance restoration plan approved by the FDIC in October 2008, the FDIC Board set a rate schedule to raise the insurance reserve ratio to 1.15% within five years. On February 27, 2009, the FDIC announced that the restoration plan horizon has been extended to seven years in light of the current significant strains on banks and the financial system and the likelihood of a severe recession. In addition, the FDIC announced a special assessment of 5 basis points to be assessed on net assets at June 30, 2009 and collected on September 30, 2009. The FDIC may also impose an additional emergency special assessment after June 30, 2009 if the FDIC deems that an additional special assessment is necessary to maintain public confidence in federal deposit insurance. Based on the FDIC insurance premium schedule for 2009, we anticipate our premium, exclusive of the

special assessment, to be $548 thousand for 2009 compared to $87 thousand for 2008. The special assessment based on our estimated net assets at June 30, 2009 was $191 thousand.

Union is a member of the Federal Home Loan Bank (FHLB) of Boston with an investment of $1.9 million in its Class B common stock at June 30, 2009. The FHLB system is a cooperative that provides services to member banking institutions. The primary reason for joining the FHLB of Boston which requires the purchase of FHLB of Boston Class B common stock, is to obtain funding from the FHLB of Boston. FHLB of Boston stock is an activity based stock that is directly proportional to the volume of funding. FHLB of Boston stock is bought and redeemed at par value. In response to adverse financial results primarily related to its write-down of its holdings of private mortgage backed securities, the FHLB of Boston in late 2008 adopted a revised retained earnings target, a repurchase moratorium on their Class B common stock, and a quarterly dividend payout restriction under their capital plan. These decisions will most likely limit the level of funds available under certain FHLB of Boston programs, affect the pricing of other programs and negatively impact the amount of quarterly dividends received by Union on its Class B common stock investment in the future.

It is not completely clear at this time what impact current or future government sponsored programs will have on the Company, its customers or the U.S. and global financial markets.

The Company has established various accounting policies which govern the application of accounting principles generally accepted in the United States of America (GAAP) in the preparation of the Company's financial statements. Certain accounting policies involve significant judgments and assumptions by management which have a material impact on the reported amount of assets, liabilities, capital, revenues and expenses and related disclosures of contingent assets and liabilities in the consolidated financial statements and accompanying notes. The SEC has defined a company's critical accounting policies as the ones that are most important to the portrayal of the company's financial condition and results of operations, and which require the company to make its most difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. Based on this definition, the Company has identified the accounting policies and judgments most critical to the Company. The judgments and assumptions used by management are based on historical experience and other factors, which are believed to be reasonable under the circumstances. Because of the nature of the judgments and assumptions made by management, actual results could differ from estimates and have a material impact on the carrying value of assets, liabilities, capital, or the results of operations of the Company.

The Company believes the allowance for loan losses is a critical accounting policy that requires the most significant judgments and estimates used in the preparation of its consolidated financial statements. Adequacy of the allowance for loan losses is determined quarterly using a consistent, systematic methodology, which analyzes the risk inherent in the loan portfolio. In addition to evaluating the collectability of specific loans when determining the adequacy of the allowance, management also takes into consideration other factors such as changes in the mix and size of the loan portfolio, historic loss experience, the amount of delinquencies and loans adversely classified, industry trends, and the impact of the local and regional economy on the Company's borrowers. Changes in these factors may cause management's estimate of the allowance for loan losses to increase or decrease and result in adjustments to the Company's provision for loan losses in future periods. For additional information, see FINANCIAL CONDITION - Allowance for Loan Losses below.

The decision to recognize other-than-temporary impairment on investments securities available-for-sale has become more difficult as complete information is not always available and market conditions and other relevant factors are subject to rapid changes. The other-than-temporary impairment decision has become a critical accounting policy for the Company and accounting guidance is given under Statement of Financial Accounting Standards (SFAS) No. 115, Accounting for Certain Investments in Debt and Equity Securities, FASB Staff Position (FSP) No. FAS 115-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Benefits, FSP No. FAS 157-4, Determining Fair Value when the Volume and Level of Activity for the Asset or Liability have Significantly Decreased and Identifying Transactions that are Not Orderly, and FSP No. FAS 115-2 and FAS 124-2, Recognition and

Presentation of Other-Than-Temporary Impairments. These statements require companies to perform periodic reviews of individual securities in their investment portfolios to determine whether a decline in the value of a security is other than temporary. A review of other-than-temporary impairment requires companies to make certain judgments regarding the cause and materiality of the decline, its effect on the financial statements and the probability, extent and timing of a valuation recovery and the company's intent and ability to continue to hold the security. Pursuant to these requirements, management assesses valuation declines to determine the extent to which such changes are attributable to (1) fundamental factors specific to the issuer, such as the nature of the issuer and its financial condition, business prospects or other factors or (2) market-related factors, such as interest rates or equity market declines. Declines in the fair value of securities below their costs that are deemed by management to be other-than-temporary may be recorded in earnings as realized losses if they are deemed credit losses while noncredit losses would be recorded in Other Comprehensive Income.

The Company's pension benefit obligations and net periodic benefit cost are actuarially determined based on the following assumptions: discount rate, current and estimated future return on plan assets, wage base rate, anticipated mortality rates, Consumer Price Index, and rate of increase in compensation levels. The annual determination of the pension benefit obligations and net periodic benefit cost is a critical accounting estimate as it requires the use of estimates and judgment related to the amount and timing of expected future cash outflows for benefit payments and cash inflows for maturities and returns on plan assets as well as Company contributions. Changes in estimates, assumptions and actual results could have a material impact on the Company's financial condition or results of operations.

The Company also has other key accounting policies, which involve the use of estimates, judgments and assumptions that are significant to understanding the results including the valuation of deferred tax assets, and determination of the fair values of investment securities and other real estate owned. Given the market volatility and the number and volume of corporate failures and bailouts over the last nine months, the determination of fair value and other-than-temporary impairment for investment securities has been especially challenging. See FINANCIAL CONDITION - Allowance for Loan Losses and Investment Activities below. Although management believes that its estimates, assumptions and judgments are reasonable, they are based upon information presently available and can be impacted by events outside the control of the Company. Actual results may differ significantly from these estimates under different assumptions, judgments or conditions.

The Company's net income was $1.24 million for the quarter ended June 30, 2009 and $1.19 million for the quarter ended June 30, 2008. A modest increase of $45 thousand, or 3.8%, was the cumulative result of an increase in net interest income of $137 thousand, or 3.2%, a decrease in the provision for loan losses from $90 thousand for the quarter ended June 30, 2008 to $75 thousand for the quarter ended June 30, 2009, and an increase of $90 thousand, or 7.6%, in noninterest income which was mainly due to the increase in net gains on sales of loans held for sale. These positive changes were partially offset by an increase in noninterest expense of $214 thousand, which reflected an increase of $318 thousand in the FDIC insurance assessment. The increase in the FDIC insurance assessment was partially offset by a reduction in salaries and wages of $122 thousand, or 7.6%, due to the deferral of $100 thousand of loan origination costs for 2009 and increased operating efficiencies despite the addition of two full service branches in the third quarter of 2008.

The Company faced a challenging interest rate environment as the prime rate has been reduced seven times since January 1, 2008 from 7.25% to 3.25% on June 30, 2009. Total interest income decreased by $282 thousand, or 4.6%, to $5.8 million in the second quarter of 2009 versus $6.1 million in the second quarter of 2008, while the decrease in interest expense from $1.8 million in 2008 to $1.4 million in 2009 was $419 thousand, or 23.6%, between periods. The result of the changes in interest income and interest expense was that net interest income for the second quarter of 2009 was $4.5 million, up $137 thousand, or 3.2%, from the second quarter of 2008 of $4.3 million. The increase in net interest income was more a function of the decrease in interest paid on interest bearing liabilities as this mitigated the decrease in interest income. During the second quarter of 2009, the Company's net interest margin decreased 22 basis points to 4.61%, from 4.83% for the second quarter of 2008. The Company's net interest spread

declined 8 basis points to 4.30% for the second quarter of 2009, compared to 4.38% for the same period last year. The decline in the net interest spread was primarily the result of the decline in average interest rates earned on loans as the 400 basis point drop in the prime rate between January 1, 2008 and June 30, 2009 had an effect on the repricing of adjustable rate loans and the volume of refinancings, as customers took advantage of the lower rates. Further drops in the prime rate and/or increases in competitors' deposit rates could be problematic as individual instruments continue to reprice.

The Company's total assets decreased from $440.1 million at December 31, 2008, to $424.9 million at June 30, 2009, a decrease of $15.2 million, or 3.5%. The decrease between periods is a normal seasonal decline mainly due to the payoffs of $14.3 million in municipal loans during the last few days of June due to Vermont state regulations governing their short-term funding. Municipal loans increased by $16.7 million the first two business days of July, 2009. Deposits decreased from $364.4 million at December 31, 2008 to $347.9 million at June 30, 2009, a decrease of $16.5 million, or 4.5%, with that decrease comprised of a drop of $6.7 million in commercial noninterest-bearing deposits and a drop of $15.9 million in overall municipal deposits which are subject to great seasonality due to Vermont state regulations governing their short-term funding. Municipal deposits increased by $16.4 million the first two business days of July, 2009. These decreases were partially offset by an increase in consumer deposits with savings accounts growing $3.6 million and money market accounts growing $4.5 million. Total loans, including loans held for sale, increased $10.1 million, or 2.9%, from $353.4 million at December 31, 2008 to $363.5 million at June 30, 2009 despite the seasonal paydown of $14.3 million in municipal loans during the last few days of June. Total loans at June 30, 2009 are net of $29.2 million in residential real estate loans sold during the first six months of 2009. Despite a weakening economy, loan demand is strong due, in large part, to lower interest rates which have sparked both existing and new customers to refinance loans. The Company has also benefited from a changing competitive environment. Additionally, our competitors have changed their pricing strategies, tightened their credit underwriting requirements and shifted to more conventional financial products.

The following unaudited per share information and key ratios depict several measurements of performance or financial condition for or at the three and six months ended June 30, 2009 and 2008, respectively:

                                          Three Months Ended     Six Months Ended
                                               June 30,              June 30,
                                           2009        2008       2009       2008
Return on average assets (ROA) (1)           1.16%      1.20%      1.18%     1.32%
Return on average equity (ROE) (1)          12.73%     11.33%     12.87%    12.32%
Net interest margin (1)(2)                   4.61%      4.83%      4.58%     4.90%
Efficiency ratio (3)                        70.76%     70.37%     69.39%    69.90%
Net interest spread (4)                      4.30%      4.38%      4.25%     4.41%
Loan to deposit ratio                      104.49%     99.60%    104.49%    99.60%
Net loan charge-offs to average loans
 not held for sale (1)                       0.04%      0.08%      0.09%     0.06%
Allowance for loan losses to loans not
 held for sale                               1.03%      1.08%      1.03%     1.08%
Nonperforming assets to total assets (5)     1.54%      2.16%      1.54%     2.16%
Equity to assets                             9.31%     10.56%      9.31%    10.56%
Total capital to risk weighted assets       14.98%     16.55%     14.98%    16.55%
Book value per share                         $8.85      $9.30      $8.85     $9.30
Earnings per share                           $0.28      $0.27      $0.56     $0.58
Dividends paid per share                     $0.25      $0.28      $0.53     $0.56
Dividend payout ratio (6)                   89.29%    103.70%     94.64%    96.55%

Annualized.

The ratio of tax equivalent net interest income to average earning assets. See page 24 for more information.

The ratio of noninterest expense to tax equivalent net interest income and noninterest income, excluding quarter to date net security gains of $23 thousand and year to date of $44 thousand at June 30, 2009. The 2008 numbers exclude net security gains of $16 thousand for both the three months and six months ended June 30. The efficiency ratio is a non-GAAP standard measure of expense utilization effectiveness used in the banking industry.

The difference between the average rate earned on assets minus the average rate paid on liabilities. See page 25 for more information.

Nonperforming assets are loans or investment securities that are in nonaccrual or 90 or more days past due as well as other real estate or assets owned.

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