The bank, whose manager is reported to be among the hostages, is near the area where Merah had his final showdown with the Raid, who broke into his flat after a siege and shot him dead.
A shell has been fired, according to police, who say the man entered the bank at 11am.
"We're taking measures so we can start a dialogue" with the hostage taker, Toulouse prosecutor Michel Valet said at the scene where police have set up a
200-metre cordon around the bank.
Parents of pupils at a nearby school have been sent a text message telling them to pick up their children, witnesses said, and rapid-intervention GIPN police units have been dispatched from southern cities Bordeaux and Marseille.
Raid is based in Paris.
Merah’s father is suing the French state over his son’s death.
There is no known link between the hostage-taker and Merah’s family.