Semiconductor device and method of forming insulating layer on conductive traces for electrical isolation in fine pitch bonding

A semiconductor device has a semiconductor die with a plurality of bumps formed over an active surface of the semiconductor die. A plurality of first conductive traces with interconnect sites is formed over a substrate. The bumps are wider than the interconnect sites. A surface treatment is formed over the first conductive traces. A plurality of second conductive traces is formed adjacent to the first conductive traces. An oxide layer is formed over the second conductive traces. A masking layer is formed over an area of the substrate away from the interconnect sites. The bumps are bonded to the interconnect sites so that the bumps cover a top surface and side surface of the interconnect sites. The oxide layer maintains electrical isolation between the bump and second conductive trace. An encapsulant is deposited around the bumps between the semiconductor die and substrate.