This paper proposes a new fault isolation methodology for a smart protective device which plays an agent role on the smart grid distribution system with the distributed generation. It, by itself, determines accurately whether its protection zone is fault or not, identifies the fault zone and separates the fault zone through the exchange of fault information such as the current information and the voltage information with other protective devices using bi-directional communication capabilities on the smart grid distribution system. The heuristic rules are obtained from the structure and electrical characteristics determined according to the location of the fault and DG (Distributed Generation) when faults such as single-phase ground fault, phase-to-phase short fault and three-phase short fault occur on the smart grid distribution system with DG.