At least three people were confirmed dead and 55 injured.
The high number of people unaccounted for likely trapped in the ship or floating in the ocean raised fears that the death toll could rise drastically, making it one of South Korea's biggest ferry mishaps since 1993 when 292 people died.
One student, Lim Hyung-min, told broadcaster YTN after being rescued that he and other students jumped into the ocean wearing life jackets and then swam to a nearby rescue boat.
Local television stations broadcast live pictures of the ship, Sewol, listing to its side and slowly sinking even as passengers were jumping out or being winched up by helicopters. At least 87 vessels and 18 aircraft swarmed around the stricken ship.
Rescuers clambered over its sides, pulling out passengers wearing orange life jackets. But the ship overturned completely and continued to sink slowly. Within a few hours only its blue-and-white bow was seen sticking out of the water. Very soon that too had disappeared.
Lee Gyeong-og, a vice minister for South Korea's Public Administration and Security Ministry, said 30 crew members, 325 high school students, 15 school teachers and 89 non-student passengers were aboard the ship.
The ship had set sail from Incheon, a city in the northern part of the country and the site of South Korea's main international airport, last night for an overnight, 14-hour journey to the tourist island of Jeju.
Kang Byung-kyu, a government minister, said the two dead are a female crew member and a male believed to be a student. A third body was found in the water but details were sketchy.
He said 164 people were rescued, of whom 55 were injured. He said 292 people were missing, likely either trapped inside the ship or floating in the ocean.
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