At least 20 Shia militiamen and Iraqi policemen have died in clashes with Sunni insurgents, Iraqi officials say.
A number of police and Mehdi Army fighters were injured
Most of those killed were Mehdi Army militiamen loyal to radical Shia cleric Moqtada Sadr. Two Iraqi policemen were also killed and others wounded.
A spokesman for the militiamen said they were ambushed as they went with police to aid a comrade kidnapped by Sunni militants near Baghdad.
Some reports said the clash resulted from tensions between the communities.
Whether it involves insurgents or not, it is clearly a case of Sunnis fighting Shias - an alarming development in a country where the fear of civil war is increasingly coming to the fore, says the BBC's Jim Muir in Baghdad.
The battle took place in the town of Nahrawan, some 15 miles (25km) south-east of Baghdad.
Amer al-Husseini, an aide to Moqtada Sadr, told the Associated Press news agency that the militiamen raided a house to free the hostage and captured two militants but were ambushed leaving Nahrawan.
Interior Ministry special forces later went in to seal off the area.
The town has a mixed Sunni and Shia population, and some Arabic television stations said the clashes came against a background of tensions between the two communities.
Sunni-based militant Islamic insurgents in Iraq are openly waging a war against the Shia community, says our correspondent.
There has also been a growing phenomenon of Sunni citizens being abducted and killed in quite large groups, either as communal revenge or perhaps to aggravate sectarian tensions, he adds.