The plot centers on a masked martial artist known as "Iron Monkey". "Iron Monkey" is actually the alter ego of a traditional Chinese medicine physician called Yang Tianchun. In the day, Yang runs his clinic and provides free medical treatment for the poor, which he subsidises by charging his rich patients. At night, he dresses in black and travels around town to rob the rich and help the poor. Once, he breaks into the governor's residence and makes off with a hoard of gold. The guards and four Shaolin monks are unable to stop him. The governor orders the chief constable, Fox, to hunt down Iron Monkey and to arrest anyone who is linked to monkeys in any way. Fox appears to be a bungler who is not aware that Iron Monkey is actually the physician who is treating his injured men who fought with Iron Monkey the previous night.
In the meantime, Wong Kei-ying, also a physician and martial artist from Foshan, arrives in town with his young son, Wong Fei-hung. Wong Kei-ying fights with street thugs who attempt to rob him and some soldiers who have been observing the fight nearby suspect that Wong is Iron Monkey and they arrest him and his son. During the trial, the governor orders Wong Fei-hung to be branded for defiance, but Iron Monkey shows up and disrupts the proceedings. Wong Kei-ying is eager to prove his innocence and he fights with Iron Monkey. Neither of them is able to defeat his opponent and Iron Monkey escapes. The governor is impressed by Wong Kei-ying's skill and he holds Wong Fei-hung hostage to force Wong Kei-ying to help him capture Iron Monkey within seven days.
The locals despise Wong Kei-ying for assisting the governor in capturing their hero, so they refuse to sell him food or provide him with shelter. Wong eventually arrives at Yang's clinic and is taken in by Yang and Miss Orchid, while he is still unaware of Yang's true identity. With help from Fox, Yang manages to bring Wong Fei-hung, who has fallen sick, out of prison and keeps him in his clinic. Wong Fei-hung learns new martial arts from Yang and Miss Orchid during his stay with them.
Meanwhile, a Shaolin traitor named Hin-hung, who has become an imperial official, arrives in town with his followers. Hin-hung takes over as the new governor. Iron Monkey and Wong Kei-ying run into Hin-hung and his men in two separate encounters and they are severely wounded by him. They retreat back to the clinic, where Wong is surprised to discover that Yang is actually Iron Monkey. They assist each other and recover from their wounds quickly. Concurrently, Hin-hung orders his men to search the town for Iron Monkey and Wong Kei-ying, but Fox gets to the clinic first to warn Orchid. It turns out that Fox has known Iron Monkey's true identity all along and he has been secretly helping Iron Monkey.
Hin-hung's monks eventually find their way to the clinic and they engage Orchid in a fight. When Orchid proves far too skillful for the monks, they drug her and attempt to rape her. She is saved by Wong Fei-hung, who continues the battle with the monks using the staff movements he learn from Yang and Orchid. Although Wong Fei-hung is able to defeat the Hin-hung's best monks, he is captured and tortured. Orchid escapes to warn Wong Kei-ying and Iron Monkey.
Iron Monkey and Wong Kei-ying (also wearing the Iron Monkey costume) break into the governor's residence to rescue Wong Fei-hung and defeat Hin-hung's men and monks. They have a final confrontation with Hin-hung on top of burning wooden poles. After an intense fight, Iron Monkey and Wong Kei-ying defeat Hin-hung and knock him down into the inferno below. At the end of the film, the protagonists learn that a new governor has taken office and they hope that he will be a good official. The Wongs leave town for Foshan while Yang and Orchid see them off. Fox says that he would like to visit the Wongs, but that he is too busy "trying to catch that Iron Monkey". After the film, screen captions inform viewers that Yang and Orchid are married, and that Wong Fei-hung, inspired by his father and the Iron Monkey, later becomes a hero among the Chinese and restores honor to Shaolin Monastery.
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