A government official tells CBS News that 50 militants died in the first two hours of the attack. Three soldiers also died in the assault, officials add.
Commandos attacked the compound from three directions and quickly cleared the ground floor of the mosque, army spokesman Gen. Waheed Arshad said. Some 20 children who rushed toward the advancing troops were brought to safety, he said.
Militants armed with guns, grenades and gasoline bombs were holed up in the basement of the mosque as well as in an adjoining religious school and were putting up "tough resistance," Arshad told a news conference.
"Those who surrender will be arrested, but the others will be treated as combatants and killed," he said.
Government officials said up to 70 blasts were heard in the first two hours of the pre-dawn operation led by members of the military's special forces, the SSG (Special Services Group), which began around 4:00 a.m. local time, reports CBS News' Farhan Bokhari.
"An intense engagement is going on," said Major General Waheed Arshad, chief spokesman of Pakistan's armed forces, summing up the heavy exchange of fire.
The assault began minutes after a delegation led by a former prime minister left the area declaring that efforts to negotiate a peaceful end to the week-old siege had failed.
Reporters saw more than 40 ambulances approaching the area along with trucks carrying extra soldiers.
The troops moved in a week after the outbreak of fighting between security forces and supporters of hardline clerics at the mosque, who had tried to impose Taliban-style rule in the capital through a six-month campaign of kidnappings and threats. At least 24 people had been killed through Monday.
Tuesday attack followed a botched commando raid on the high-walled mosque compound over the weekend.
On Monday, President Gen. Pervez Musharraf assigned ex-premier Chaudhry Shujaat Hussain to try and negotiate a peaceful end to the standoff.
But Hussain and a delegation of Islamic clerics returned crestfallen from the mosque after about nine hours of talks with rebel leader Abdul Rashid Ghazi via loudspeakers and cell phones.
"We offered him a lot, but he wasn't ready to come on our terms," Hussain told reporters waiting at the edge of the army cordon shortly before dawn.
Several loud explosions boomed over the city just as the vexed looking delegates were getting into their cars and sporadic shooting was also heard.
Musharraf sent in the army to surround the compound after the gunbattles broke out July 3.
Sporadic gunshots rang out Monday near the red-walled, white-domed mosque and an adjoining seminary for girls in a busy market area near the city's government district. Security forces also bombarded the compound with tear gas.
The government has said wanted terrorists are organizing the defense of the mosque, while Ghazi has accused security forces of killing scores of students.
The siege has given the neighborhood the look of a war zone, with troops manning machine guns behind sandbagged posts and from the top of armored vehicles. Helicopters circle overhead.
On Sunday, the army released an aerial photograph showing how it had blasted several holes in the walls of the compound to help students escape, seeking to disprove claims from Ghazi, who has given a string of phone interviews to reporters, that the mosque had been badly damaged.
Only two students escaped after the raid, which left a top army commando dead.
Maqir Abbasi went to the barricades around the mosque seeking news of his 22-year-old sister, Yasmin.
"Whenever I hear the sounds of bullets, I feel that my sister has been harmed. We appeal to the government, we appeal to Ghazi, we appeal to everyone. I want my sister back," he said.
Officials claim that members of banned militant groups linked to al Qaeda are inside the mosque. Some radical clerics in Pakistan's wild western border region have called for revenge against security forces because of the siege.
On Monday, some 20,000 tribesmen, including hundreds of masked militants wielding assault rifles, protested in the frontier region of Bajur, led by Maulana Faqir Mohammed, a wanted cleric suspected of ties to al Qaeda's No. 2 leader, Ayman al-Zawahri.