It says a further announcement will be made when appropriate. Sources close to HBOS say the deal would be unlikely to involve an exchange of money and most likely entail a straight share swap.
If the merger did go ahead it would create a massive banking giant with a market capital of £30bn, easily breaching competition rules.
But reports state that the government would sit on any breaches of the competition rules to force any possible deal through.
Tony Ward, chief executive of Home Funding, says: “I feel sorry for HBOS. I think it has been hounded relentlessly and unfairly over the past few days.
“It is a good thing that this discussion is taking place but it’s sad that it’s come to this. I dread to think of what will happen if the deal doesn’t go through.”
David Hollingworth, mortgage specialist at London & Country, says: “There are two ways of looking at it. On the one hand it will stabilise the market and stop any potential impact on HBOS shares.
“On the other hand, in the longer term, two enormous powers will merge to create one giant. The two lenders would normally be battling it out in the market, brokers will be losing one huge lender, which is bad for competition.”