Small grid systems may have many renewable energy sources such photovoltaic and wind power. The photovoltaic and wind power are not dispatchable sources and they require both local storage and smart load management where the end users are aware of cost of power. Furthermore, smart grid system to regulate its loads have green energy sources such as micro turbine and fuel cell systems. When many smart grid systems are connected to an electric power systems, they form a distributed generating system. The distributed generating systems are interfaced with utility grid using three phase inverters. With inverter control, both active and reactive power pumped into the utility grid from the distributed generation units must be controlled. Reactive power flow control allows the smart grid units to be used as static var compensation units besides energy sources. This paper presents a smart grid generation unit control technique which provides robust voltage regulation with harmonic elimination under island running mode and decoupled active and reactive power flow control under grid-connected mode. The control technique, which combines discrete-time sliding mode current control, robust servomechanism voltage control, and integral power control, enables seamless switching between island mode and grid-connected mode and guarantees sinusoidal line current waveform under nonlinear local load. The P Q coupling issue is addressed and the stability of the power control loop is proved using Lyapunov direct method.