A semiconductor device has a first substrate. A conductive layer is formed over the first substrate. A first cavity is formed through the first substrate and extending to the conductive layer. A first semiconductor die including a plurality of first interconnect structures is disposed in the first cavity. A second substrate is disposed over the first substrate. A second cavity is formed through second substrate. A second semiconductor die including a plurality of second interconnect structures is disposed in the second cavity. A discrete device or third semiconductor die is disposed over the second semiconductor die. A plurality of third interconnect structures is formed between the second substrate and discrete device or third semiconductor die. The first, second, and third interconnect structures are reflowed simultaneously. An encapsulant is deposited over and around the first semiconductor die, the second semiconductor die, and the discrete device or third semiconductor die.