Iraqi forces clashed with militants advancing on the city of Baquba, just 60 kilometres north of Baghdad, as an offensive spearheaded by jihadists drew closer to the capital.
Security forces on Friday were battling insurgents on the outskirts of Muqdadiyah, 35 kilometres northeast of Baquba, police and army officers said.
Baquba is the capital of Diyala province, whose mixed Arab and Kurdish, Sunni and Shi'ite, population has made it a byword for violence ever since the US-led invasion of 2003.
The militants have already captured two provincial capitals this week - Tikrit in Salaheddin province and second city Mosul in Nineveh.
Diyala deputy governor Furat al-Tamimi said Kurdish security forces were in control of the Saadiyah and Jalawla districts of the province after the Iraqi army withdrew.
Commanders had said late on Thursday that the two areas were in the hands of Sunni Arab militants.
The lightning advance launched by the militants in Mosul late on Monday has allowed Iraqi Kurds to take control of a swathe of disputed territory, including the city of Kirkuk, that Baghdad has long opposed them adding to their autonomous region in the north.
President Barack Obama said Washington was examining "all the options" to help Iraq's beleaguered security forces resist the offensive, spearheaded by the Islamic State of Iraq and the Levant (ISIL).
Washington has found rare common cause with its longtime foe Tehran, with both voicing dismay at the Sunni extremists' advance and pledging to boost aid to the Shi'ite-led government.
ISIL spokesman Abu Mohammed al-Adnani vowed its fighters would press on to the capital and, further south, to the Shi'ite shrine city of Karbala, visited by millions of pilgrims from around the world each year.
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