Harsh Israeli strikes in south Gaza city as captives sent medicine
Videos showed flames light up the sky as the sounds of Israeli bombings and gunfire reverberated across the city.
Displaced families have been fleeing a local hospital as fighting closes in.
Meanwhile, medicines are being sent for Israeli hostages held by Hamas in exchange for more aid for Palestinian civilians under a Qatar-mediated deal.
The White House says Qatar has also been overseeing "very serious, extensive discussions" about a possible new hostage release deal, which were joined by a US envoy.
"This is the loudest sound of armed clashes [between Israeli soldiers and Palestinian fighters] that I've ever heard," Yasser Zaqzouq, who has been sheltering at Nasser Hospital in Khan Younis with his family, told the BBC.
"This is the first time we saw such scenes [of air strikes]. We were in terror. All the kids were screaming and crying."
A local journalist, Tariq Dahlan, said: "There is a state of panic among the displaced people in the hospital."
"People are running away from this area towards the West, but nobody knows where they're going and what his fate will be."
Israeli tanks were said to be just metres from the hospital.
A woman in southern Gaza, who did not wish to be named, said children could not sleep "because of the sounds of missiles".
"We are living in fear and terror,", adding that many of the children had begun to wet themselves out of fear.
"The air strikes were very intense and very close around my house," another resident who lives opposite Nasser hospital, Abu Omar Al-Husseini,.
"We fled under fire at dawn today. We carried a few blankets and walked for 5km (3.1 miles) to reach the entrance to the city of Rafah, and now we are in the street, not knowing where to go."
On Wednesday the Jordanian army said its military field hospital in Khan Younis had been badly damaged as a result of Israeli shelling in the area. The Jordanian army said it held Israel responsible for a "flagrant breach of international law".
The UN says that the war has displaced around 85% of Gaza's 2.3 million people, many of whom have been forced to cram into shelters and are struggling to get basic supplies.
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