Sri Lanka's special forces were engaged in a severe gun battle with suspected terrorists in Kalmunai city, in the Eastern Province on Friday evening, the military said.
In a statement, the army said a combined team of security forces including the Army came under fire when they were proceeding to search a suspicious location, which produces suicide bomb kits and explosives, reports Xinhua news agency.
A group of five to six terrorists began firing at them, when the forces were approaching.
The military said a shootout was underway.
According to local media, immediate curfew has been imposed in Kalmunai and surrounding areas.
Earlier on Friday evening, the military said security forces recovered flags belonging to Islamic State, literature and some other objects from a house in the Ampara distict, also in the east, which is said to be the terrorist organization's place for "oath-taking".