"Two civilians are killed and 28 people including two inspectors of bomb disposal unit sustained injuries in the blast," Golam Kibria, commissioner of Sylhet Metropolitan Police, was quoted as saying by The Daily Star.
The blast took place at 6:50 PM (local time) on a road, around 400 metres off the five-storey building, after the army commandos backed by police and SWAT launched 'Operation Twilight' to flush the militants out of the building.
The attack came shortly after an army spokesman hinted that military commandos were set for their final assault on extremists who were holed up in the building.
On a tip off, police had raided the building at 2:00 AM on Friday and cordoned off the whole area after suspected militants detonated small bombs.
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Counter-Terrorism and Transnational Crime (CTTC) chief Monirul Islam said they got information that JMB chief Musa along with some other JMB militants are in Sylhet.
The neo-JMB, said to be inclined to the Islamic State, was behind the July 1 terror attack on a Dhaka cafe in which 22 people, including 17 foreigners, were killed.
"It is the commander of the operation, who will decide how it will be conducted or when it could end," Ahsan told reporters at the scene, responding to a question on when the 'Operation Twilight' could be wrapped up.
GOC (General Officer Commanding) of Sylhet-based 17 Infantry Division Major General Anwarul Momen is leading the 'Operation Twilight' which was launched at 9 AM today.
"Seventy eight residents of the building have been evacuated but the operation is underway as militants are still inside the building," Ahsan said.
TV channels were barred from live broadcast of the operation but their footages showed commandos backed by the armoured personnel carriers taking positions around the building.
Witnesses and residents in the neighbourhood said they saw smoke billowing out from parts of the building and heard intermittent explosions and gunshots from inside the building.
Police has asked people in the neighbourhood to keep safe distance from the building and stay indoors.
Police used megaphones to ask the couple, who were living in the building for the last three months as tenants, to surrender, but they refused to give up.
The militants shouted "Allahu Akbar" (God is the greatest) and told police 'send your SWAT team'.
"Since last evening, they (militants) have stopped responding," an eyewitness said.
Military police put barricade on adjacent thoroughfares including a regional highway.
The Operation Twilight was launched after a suicide bomber last night blew himself up near the international airport in Dhaka, an attack claimed by Islamic State terrorist group, a week after an identical attack on a RAB camp here.
Police tracked down the Sylhet hideout less than a week after they busted two militant dens on the outskirts of the south-eastern port city of Chittagong when four extremists were killed.