Yugoslav government sources said that a "massacre" had occurred at midday when four Nato jets attacked the small textile town 40 miles south-east of the city of Nis.
Later reports said the death toll could rise because much of the centre of Surdulica had been destroyed in the attack.
There was no immediate response from Nato. A senior British officer had earlier reported that Nato had had "a good day" in its air strikes over Yugoslavia, listing an oil refinery and an office block in Belgrade among targets that had been struck.
Serbian state television RTS first reported that Nato air strikes had killed at least five people in the town. Serbian TV, which was bombed again by Nato yesterday morning, said rescue teams were searching for more bodies after the attack.
The Yugoslav news agency, Tanjug, claimed that Nato warplanes had dropped four bombs on the town at mid-day.
The reported killings at Surdulica occurred as Mr Vuk Draskovic, the Yugoslav Deputy Prime Minister, suggested in Belgrade that an armed UN force could enter Kosovo with Yugoslav permission under a UN Security Council mandate.Reuse content