The company, Britain’s fourth largest bank, said that its share of the mortgage market had fallen to 17 per cent last year from 25 per cent in 2003.

The decline follows a decision last year to try to persuade customers into borrowing less than the value of their homes, amid fears of a property market downturn.

"Throughout the year our pricing strategy was designed to target lower loan-to-value ratios," HBOS said.

However, the move failed to prevent a 34 per cent rise to £2.75 billion in the level of mortgages which had fallen into arrears. The increase reflected in part a parallel focus on specialist mortgages, such as buy-to-let and self-certified loans, which, while more at risk of default, can offer greater profits.

HOBS said it was confident that "the higher level of expected loss associated with this lending is more than compensated for by higher margins".

However, it forecast a further increase in non-performing loans this year.

The bank also revealed a 27 per cent rise to £1.76 billion in the level unsecured loans, such as personal loans and credit card accounts, in arrears.

"We have continued to experience credit performance issues in specific segments of unsecured lending written in 2002 and 2003," HBOS said.

The comments come amid mounting concerns over consumer debt, with personal bankruptcies at a record high. Last week, Egg, the online bank, raised its provisions for bad debts by 44 per cent to £182.4 million after the quality of its personal loans book deteriorated.

HBOS increased provisions from its retail banking division by 21 per cent to £653 million.

However, the increase was partly offset by an improved performance in the corporate loans book, allowing the increase in group provisions to be limited to 17 per cent.

Underlying group pre-tax profits rose by 23 per cent to £4.77 billion, ahead of City forecasts of a £4.47 billion figure and helped by growth in revenues far in excess of growth in operating expenses.

While operating income rise by 13 per cent to £9.58 billion, costs rose by 3 per cent to £3.62 billion. The group's cost-to-income ratio, a measure much watched by banking analysts, fell to 37.9 per cent from 41.6 per cent in 2003.

However, HBOS noted the need for investment this year to focus on gaining scale in Ireland and Australia, which the bank plans "to mount a serious challenge to the incumbents.

James Crosby, the HBOS chief executive, said: "The prospects of certain parts of the business call for a significant investment in people and infrastructure."

The data received a mixed welcome from analysts, who applauded the growth in profits but raised doubts over the quality of the loan book and over the prospects for the mortgage market.

Richard Peirson, at Framlington Investment Management, said: “The only negative thing people seem to be focusing on is a small increase in retail bad debt provisions, but it shouldn’t come as a great surprise."

Norrie Morrisson, the UK banks analyst at Fox-Pitt, Kelton, said: "It all comes back to the issue of UK loan growth, and how they’re going to deal with that."

HBOS shares stood 11p lower at 836p in afternoon trade.

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