Heavy fighting broke out at around 4 a.m. near the town of Krasny Liman, which itself has been under government control since early this month.
"We issued an ultimatum to the terrorists overnight to surrender their weapons. We guarantee their safety and investigation in line with Ukrainian law ... They refused," said government forces spokesman Vladyslav Seleznyov.
"Now we are trying to narrow the encirclement. They are trying to break out," Seleznyov said.
No details of the fighting were immediately available from the rebels side.
Poroshenko, installed as a president on June 7, is pushing a peace plan to end the separatist rebellion including an offer of a unilateral ceasefire by government forces and amnesty for the separatists as long as they put down their weapons.
Poroshenko was due later on Thursday to meet regional officials from the Donetsk and Luhansk areas of eastern Ukraine to explain his plan - though he rules out meeting separatists.
Separatist rebellions erupted in eastern Ukraine in early April after street protests in Kiev toppled the Moscow-backed leader Viktor Yanukovich and Russia in turn annexed the Crimean peninsula.
Eastern rebels have called for union with Russia.
Kiev has accused Russia of fomenting the unrest in the east and of allowing volunteer fighters from Russia to cross into Ukraine to support the rebels.
This is denied by Moscow.
The violence has cost the lives of 147 Ukrainian soldiers and wounded 267 up to now, the defense ministry said on Wednesday.
But many scores of separatist militia, civilians and members of other military bodies such as the national guard have also been killed and the overall death toll is much higher.
Ukrainian forces, which lost 49 servicemen on June 14 when separatists brought down a military helicopter in Luhansk region, have been gradually tightening their encirclement of rebel positions to the south and east of Krasny Liman including the rebel stronghold of Slavyansk.
Up to 4,000 separatist fighters could be involved in Thursday's fighting near Krasny Liman, and armored vehicles and possibly tanks were being used by both sides, the military source said.
The reported use of tanks could not be independently confirmed.
Military sources said the Ukrainian forces had fired leaflets into rebel areas giving them an ultimatum to lay down their weapons in line with the Poroshenko blueprint.
"When they received a refusal, the forces of the anti-terrorist operation went over to active action," Dmytro Tymchuk, a military analyst with good sources in the military said.
"There's a major battle going on which exceeds in terms of force and scale anything there has been up to now," a military source said.
Olesya, a woman in the village of Yampil near Krasny Liman, said Ukrainian forces had entered the village in armored vehicles bearing the Ukrainian flag.
"There's been no shooting. We residents went out into the street to watch the column - and then went back to hide in our houses again," she said by telephone from her house where she was with her husband and five-year-old daughter.
"But there was fighting all night. Mines were flying over our heads. Planes flew over and we could hear heavy weapons. It's awful what is going on here," she said.
"There is an ongoing active phase of the ATO (anti-terrorist operation) in the region of Krasny Liman," said Seleznyov.
Asked about the report that 4,000 separatists could be involved, Seleznyov, the government forces spokesman, replied:
"Then, there'll be 4,000 coffins".
Source: Google News