Pre-tax profits in the first six months were £141 million lower year-on-year at £549 million, hurt by the cost of luring deposits with high savings rates, while it also saw wholesale funding costs rise due to Europe's sovereign debt woes.
The Spanish-owned bank also continued its retreat from riskier parts of the mortgage market, shrinking its home loans book by almost £11 billion year-on-year to £152.3 billion.
Santander's profits were squeezed by higher funding costs, including a 4% ISA rate which ran in March last year and is fixed for two years.
But the bank has since slashed rates on ISAs to between 2% and 2.3%, squeezing returns for savers but allowing it to improve earnings significantly since the second half of 2012.
The bank added that a long-planned stock market flotation of its UK arm is "off the table" and will not happen in the short or medium-term, delayed by tough markets and higher regulation.
Its share of the mortgage market has now fallen to 10% as it cuts back on interest-only mortgages, and the bank plans to shrink its loan book further this year.
Instead, Santander is increasing its share of small business lending, growing its book of business loans by £2 billion to £21 billion, helped by a 12% surge in lending to small and medium-sized companies (SMEs).
The bank said customer deposits edged up £1.2 billion to £150.5 billion during the year. Its 123 current account, advertised by Formula 1 racing star Lewis Hamilton and athletics champion Jessica Ennis-Hill, has grown customers by 600,000 over the past six months to 1.9 million. Meanwhile, provisions for bad debts fell by a third to £235 million.