The blast, in the town of Abu Sayda, about 10km east of Baquba, caused the partial collapse of a building, badly damaged four houses and set five cars ablaze, police said.
The wounded were rushed to hospitals in Baquba and Muqdadiya.
"We had information that terrorists would make a series of car bomb attacks in Baquba and we took security precautions," Major Ghalib al-Jubouri, a police spokesman in Diyala, said.
"Because they couldn't set off their bomb in Baquba, they went to Abu Sayda."
An official from Baquba Operations Command told the AFP news agency that police had later defused two roadside bombs in the area.
The Baquba area has been struck by a series of bombings this week.
On Monday, a car bomb in the parking lot of a Baquba café killed up to four people and wounded 15, hospital officials said.
The following day, a car bomb exploded just west of the city, killing one person and wounding seven others, and two roadside bombs blew up near a police patrol east of the city, wounding 10 police officers.
Diyala, an ethnically mixed province with a Sunni majority located just north of Baghdad, has seen more violence in recent months than many other areas of Iraq, where attacks have dropped since their height in 2006-2007.