diff --git a/src/diff.c b/src/diff.c
index dac39c2..cd3ffa4 100644
--- a/src/diff.c
+++ b/src/diff.c
@@ -1950,6 +1950,40 @@
 }
 
 /*
+ * Compare the characters at "p1" and "p2".  If they are equal (possibly
+ * ignoring case) return TRUE and set "len" to the number of bytes.
+ */
+    static int
+diff_equal_char(char_u *p1, char_u *p2, int *len)
+{
+#ifdef FEAT_MBYTE
+    int l  = (*mb_ptr2len)(p1);
+
+    if (l != (*mb_ptr2len)(p2))
+	return FALSE;
+    if (l > 1)
+    {
+	if (STRNCMP(p1, p2, l) != 0
+		&& (!enc_utf8
+		    || !(diff_flags & DIFF_ICASE)
+		    || utf_fold(utf_ptr2char(p1))
+						!= utf_fold(utf_ptr2char(p2))))
+	    return FALSE;
+	*len = l;
+    }
+    else
+#endif
+    {
+	if ((*p1 != *p2)
+		&& (!(diff_flags & DIFF_ICASE)
+		    || TOLOWER_LOC(*p1) != TOLOWER_LOC(*p2)))
+	    return FALSE;
+	*len = 1;
+    }
+    return TRUE;
+}
+
+/*
  * Find the difference within a changed line.
  * Returns TRUE if the line was added, no other buffer has it.
  */
@@ -1969,6 +2003,10 @@
     int		idx;
     int		off;
     int		added = TRUE;
+#ifdef FEAT_MBYTE
+    char_u	*p1, *p2;
+    int		l;
+#endif
 
     /* Make a copy of the line, the next ml_get() will invalidate it. */
     line_org = vim_strsave(ml_get_buf(wp->w_buffer, lnum, FALSE));
@@ -2017,10 +2055,11 @@
 		}
 		else
 		{
-		    if (line_org[si_org] != line_new[si_new])
+		    if (!diff_equal_char(line_org + si_org, line_new + si_new,
+									   &l))
 			break;
-		    ++si_org;
-		    ++si_new;
+		    si_org += l;
+		    si_new += l;
 		}
 	    }
 #ifdef FEAT_MBYTE
@@ -2056,10 +2095,16 @@
 		    }
 		    else
 		    {
-			if (line_org[ei_org] != line_new[ei_new])
+			p1 = line_org + ei_org;
+			p2 = line_new + ei_new;
+#ifdef FEAT_MBYTE
+			p1 -= (*mb_head_off)(line_org, p1);
+			p2 -= (*mb_head_off)(line_new, p2);
+#endif
+			if (!diff_equal_char(p1, p2, &l))
 			    break;
-			--ei_org;
-			--ei_new;
+			ei_org -= l;
+			ei_new -= l;
 		    }
 		}
 		if (*endp < ei_org)
diff --git a/src/testdir/test_diffmode.vim b/src/testdir/test_diffmode.vim
index 088ec5c..3625a68 100644
--- a/src/testdir/test_diffmode.vim
+++ b/src/testdir/test_diffmode.vim
@@ -280,13 +280,13 @@
   set diffopt=icase,foldcolumn:0
 
   e one
-  call setline(1, ['One', 'Two', 'Three', 'Four'])
+  call setline(1, ['One', 'Two', 'Three', 'Four', 'Fi#ve'])
   redraw
   let normattr = screenattr(1, 1)
   diffthis
 
   botright vert new two
-  call setline(1, ['one', 'TWO', 'Three ', 'Four'])
+  call setline(1, ['one', 'TWO', 'Three ', 'Four', 'fI=VE'])
   diffthis
 
   redraw
@@ -295,6 +295,10 @@
   call assert_notequal(normattr, screenattr(3, 1))
   call assert_equal(normattr, screenattr(4, 1))
 
+  let dtextattr = screenattr(5, 3)
+  call assert_notequal(dtextattr, screenattr(5, 1))
+  call assert_notequal(dtextattr, screenattr(5, 5))
+
   diffoff!
   %bwipe!
   set diffopt&
diff --git a/src/version.c b/src/version.c
index 579f0a2..8af4688 100644
--- a/src/version.c
+++ b/src/version.c
@@ -770,6 +770,8 @@
 static int included_patches[] =
 {   /* Add new patch number below this line */
 /**/
+    1037,
+/**/
     1036,
 /**/
     1035,