David Rain, a young college student, is a tenant at Liz Pennykettle’s house in Scrubbley, Massachusetts. Liz and her 11-year-old daughter, Lucy, are descendants of Guinevere, the girl who caught the fire tear of Gawain, the last real dragon. Their home is full of clay dragon figurines that come to life.
David is discouraged because no publishers are interested in printing his first novel, Snigger and the Nutbeast. David’s special writing dragon, Gadzooks, gives him inspiration to write a new story called The Adventures of Spikey the Hedgehog, but he doesn’t feel like writing. He is, however, very interested in his studies with polar research scientist Dr. Bergstrom, whose academic specialty is working with polar bears.
Dr. Bergstrom takes a surprising interest in dragons and requests that David write an essay supporting or disproving the existence of dragons. If he writes a good essay, he can go on an Arctic field trip to a polar research base. Dr. Bergstrom then asks David to shake a talisman made of narwhal bone, which is a good luck charm, to help him see his destiny. After shaking the talisman, David envisions Gadzooks writing the name “Lorel.”
At home, David sees Lucy secretively put something inside a box inside their freezer. Liz shows him what’s inside the box — a special, shining snowball. She says it’s merely a souvenir from her childhood, but it is really a hidden source of auma, the clay dragons’ magical life force.
Zanna, a college classmate of David’s, wants to hang out, so he invites her to the Pennykettles’ house. David tells Zanna about his vision of the name Lorel and his recent dreams about a polar bear. Zanna tells him that Lorel was a polar bear from Inuit mythology, a storyteller who knew all Inuit legends.
Zanna thinks that the connection between Lorel and the dragons is that the fire tear, the life essence, of the last dragon Gawain is hidden in the Arctic. She convinces David to use G’reth, a wishing dragon, to wish that he knew where to find Gawain’s fire tear. Zanna then picks up a clay egg in Liz’s workshop and feels a magical connection with it, as if it’s alive.
A mysterious woman, who says she is Liz’s Aunt Gwyneth, arrives at the Pennykettle house. David overhears Aunt Gwyneth tell Liz that she was summoned to the Pennykettle house by a wishing dragon, since David wanted to know about the fire tear’s location. She also says that Zanna has a quickening gift and quickened the egg in the workshop. Inside the egg is a part-dragon, part-human embryo who can be born when Liz gives it part of her auma.
Zanna goes with David to visit Dr. Bergstrom, because David suspects he might secretly be Lorel, the legendary polar bear storyteller. Dr. Bergstrom instructs David to pick up the narwhal tusk talisman again, which gives him a vision of a polar bear creating an island near Alaska.
This place is the island of souls, Dr. Bergstrom says, the resting place of Gawain’s fire tear. He says that nine great polar bears, led by their king Nanukapik, have guarded the location of the last dragon’s fire tear for eons. Dr. Bergstrom says that Aunt Gwyneth wants the tear, and that she is really a sibyl, a witch, and her real name is Gwilanna.
Gwilanna helps Liz prepare for the transfer of auma, which will allow the embryo inside the egg to hatch. Gwilanna reveals that she has brought Gawain’s dragon scale, a powerful artifact, with her. Liz goes into a coma-like trance while holding the egg.
Meanwhile, David is contacted by a publisher interested in hiring him to write children’s books. He goes to meet with an editor. Gwilanna sends her dragon Gretel to influence the editor to offer David a publishing contract so that he can earn enough money to go on the trip to the Arctic and investigate the location of Gawain’s fire tear. Gwilanna wants him to go to the Arctic so she can follow him and take the tear for herself.
When David returns to the Pennykettle house after his visit to the editor, Liz is still in a birthing trance, and Lucy is crying because Gwilanna has stolen Liz’s magic snowball full of auma, rendering all the dragons in the house lifeless. From Gretel, David learns that Gwilanna is trying to kindle a real dragon in the egg, not a human baby.
G’reth, the only dragon unaffected by Gwilanna’s magic, finds a remaining pouch of auma ice and protects it. G’reth, David and Bonnington, the Pennykettles’ cat, pretend to give Gwilanna the ice pouch, but only do so as a diversion to steal Gawain’s dragon scale from her. In the resulting scuffle, David is buried under a mound of rubble, and Zanna arrives to help.
G’reth transfers his own auma to Gadzooks, who puts a magical polar bear tooth in David’s hand, which restores his strength until he can fight Gwilanna again. He threatens Gwilanna with the sharp tooth and wants to kill her, but Liz wakes up and intervenes, saying that Guinevere’s bloodline will need Gwilanna so it can survive.
Gwilanna leaves, but her dragon Gretel decides to join the Pennykettles and stay behind, accepting Zanna as her new master. While Liz was unconscious, her dragon baby hatched, and G’reth took him to Dr. Bergstrom for safekeeping. Zanna and David find the young dragon and name him Grockle, but he has no inward source of fire and soon turns to stone.
Dr. Bergstrom transports David to meet the nine great polar bears who once ruled the ice. They officially give David the magical tooth to protect him on his future journeys. Lorel, the storytelling polar bear, transmits the real story of Gawain the last dragon into David’s mind.
After Guinevere ran away from the dying Gawain, a polar bear named Thoran rescued her. Gwilanna magically pushed the girl and the bear out to sea, but Thoran swam with Guinevere all the way to the Arctic Ocean. Gaia the earth goddess instructed Guinevere to drop Gawain’s fire tear, and when she did it expanded and froze into the ice cap of the North Pole.
When David comes out of his reverie, Dr. Bergstrom says he wants David to help save the Arctic, which is melting. He says if David writes a book about the Arctic, it can make people want to save the bears and their habitat.
Life slowly returns to normal at the Pennykettle household, with Zanna and David helping Liz and Lucy make repairs from the damage caused by fighting Gwilanna. David’s girlfriend, Sophie, returns from Africa, and they break up amicably. David realizes he has feelings for Zanna, and they become a couple just in time to embark on Dr. Bergstrom’s field trip to the Arctic together.