A huge police operation is under way in Sydney's financial district, with reports that up to 40 hostages are being held in a cafe.
Part of Martin Place - home to the Reserve Bank of Australia, commercial banks and close to the New South Wales state parliament - has been closed off and up to 100 heavily armed police are surrounding the area.
Live television footage showed patrons inside the Lindt Chocolate Cafe standing with their hands pressed against the windows.
A black flag with white Arabic text, similar to those used by Islamic State fighters in Iraq and Syria, was also visible.
According to media reports, at least one gunman walked into the cafe just before 10am local time.
Witnesses reported hearing loud bangs that sounded like gunshots.
A reporter at Australia's Channel Nine News said: "We are dealing with an extremely serious situation.
"There are people inside the cafe who have been placed at the window with their hands up to show the world that they have been taken hostage."
A Lindt executive said there were about 10 staff and "probably 30 customers" in the cafe before the operation started.
Sydney Opera House has been evacuated after a suspicious package was reportedly found not long after the police operation in the financial district began.
New South Wales police confirmed authorities were dealing with an "incident" there, but it is not known whether they are linking it to events at the cafe.
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Gallery: Latest Images From Sydney As Hostage Situation Develops
An apparent hostage situation has been reported inside a chocolate shop and cafe in central Sydney
Streets in the area were closed and offices have been evacuated, with the public told to stay away
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