"Inuyasha the Movie 4: Fire on the Mystic Island" centers on a mysterious floating island, Houraijima, which suddenly appears in the sky. The island is protected by a powerful barrier, preventing anyone from entering or leaving. The story begins when a group of half-demon children, led by a boy named Ai, escapes from the island and seeks help from Inuyasha and his companions. These children are the offspring of powerful demons and humans, created by the island's ruler, a demon named Shitoushin, who seeks to harness their latent powers to achieve immortality.

Inuyasha, Kagome, Miroku, Sango, and Shippo agree to help the children, venturing to Houraijima to confront Shitoushin and his four elemental guardians. The guardians, representing fire, water, wind, and earth, pose significant challenges to the group, testing their strength and teamwork. As the battle unfolds, it is revealed that Shitoushin's ultimate goal is to absorb the powers of the half-demon children to transcend his own limitations and become invincible.

The narrative explores themes of identity and belonging, particularly through the struggles of the half-demon children, who are ostracized by both humans and demons. Inuyasha, being a half-demon himself, empathizes with their plight and becomes determined to protect them. The climax involves a fierce confrontation with Shitoushin, during which Inuyasha and his companions must combine their abilities to overcome his overwhelming power. The resolution sees the destruction of Houraijima and the liberation of the children, who find a new sense of hope and purpose.

The film maintains a strong focus on action and character dynamics, with Inuyasha's group showcasing their unique abilities and camaraderie. Kagome's spiritual powers, Miroku's Wind Tunnel, Sango's demon-slaying skills, and Shippo's cunning all play pivotal roles in the battles. The story also highlights the bond between Inuyasha and Kagome, as well as the group's collective resolve to protect the innocent. The film concludes with the characters reflecting on their journey, emphasizing the importance of unity and perseverance in the face of adversity.