A method for forming an aqueous polyurethane dispersion including providing an isocyanate (NCO)-terminated prepolymer with a side-chain reactive functional group by admixing (i) at least one diisocyanate, (ii) at least one difunctional polyol, (iii) a short-chain diol monomer having a side-chain reactive functional group or a modified clay thereof, (iv) at least one hydroxy carboxylic acid compound and (v) a hydrophilic cosolvent; neutralizing the NCO-terminated prepolymer with a tertiary amine; dispersing the NCO-terminated prepolymer in water; and admixing the NCO-terminated prepolymer with at least one chain extending agent comprising a hydrophilic diamine; wherein the short-chain diol monomer (iii) is expressed by structural formula (I): wherein, A is an azetidine-2,4-dione functional group or a malonamide-linked alkyl group and B is a nitrogen-linked di-hydroxy terminal group or tertiary amine-linked di-hydroxy terminal group wherein IDD was synthesized by methylenedi-p-phenyl diisocyanate and isobutyryl chloride using triethylamine as catalyst.