Minnesota Power's residential ratepayers will face a special rate increase of an estimated 6.5 percent — instead of the 10 percent hike sought by the utility.

The Minnesota Public Utilities Commission, or PUC, on Thursday approved a new surcharge that would pay for a special 5 percent discount to 11 large industrial customers, notably the taconite and paper industries — both big energy users hit hard by foreign competition.

The PUC granted that discount last fall.

Minnesota Power had asked for a 10 percent rate hike on residential customers to cover the discount, and increases of 3 to 6 percent on commercial and other nonresidential customers. The utility has said a higher rate increase on residents was justified partly because residents pay about 20 percent less than the cost to serve them, according to PUC filings.

On a 5-0 vote, the PUC approved a "surcharge" to pay for the heavy industry discount, without exactly spelling out the rate increases it would entail. Minnesota Power said that average residential customers will see a 6.5 percent increase in their bills when its large industrial customers are at full production. Bills for small business and larger commercial customers will increase 4.5 to 8 percent based on energy usage, the company said.

Minnesota Power's proposal exempted low-income residential customers from the special surcharge.

Duluth-based Minnesota Power is the state's second largest investor-owned utility with 145,000 customers in northeastern and north central Minnesota. It's far more dependent on large industrial customers than most utilities.

Minnesota Power still has a general rate case before the PUC that would increase its customer rates by an average of 6.1 percent. Under that proposal, residential rates would rise 10 percent, in addition to the special surcharge approved Thursday by the PUC.

The discount to taconite and paper producers stems from a 2015 law aimed at providing "competitive" electric rates to large energy consumers exposed to the vicissitudes of foreign trade. It applies only to Minnesota Power and Fergus Falls-based Otter Tail Power.

The bill was passed at a time when the mining industry was being hammered by low iron ore and steel prices and fending off a flood of steel imports into the U.S. at prices below the cost of production. However, the mining industry has rallied in recent months, calling back hundreds of workers who had been laid off.

The PUC decision Thursday includes possible refunds to Minnesota Power customers, which could end up lowering the surcharge.

The discount to very large power users — while it inherently lowers Minnesota Power's revenue — is aimed at increasing production by taconite and paper producers. If production increases are high enough to result in a net increase in Minnesota Power's sales, refunds would be in order for the customers affected by the surcharge.

"Everybody agrees that Minnesota Power ends up in a revenue neutral position," said PUC Commissioner Dan Lipschultz during deliberations. Minnesota Power agreed to that principle, too, at Thursday's PUC hearing.