The 469kW scheme on the lonely Abhainn Shalachain river near Lochaline on the shores of the Sound of Mull could generate enough electricity to run 350 homes.
It will provide community of a few hundred, who live on Morvern Peninsula, with additional regular income.
The community have invested £30,000 in the scheme. Both the Morvern Community Development Company (MCDC) and Morvern Community Trust (MCT) have been responsible for the investment.
Angus Robertson, lead MCDC director for this project, said: "Whilst the community was delighted to be involved and will give the project all its support.
"MCDC is grateful to Forestry Commission Scotland and all other Scottish Government agencies for their help in pushing this ground-breaking project through."
Private investors in this type of project would normally look to get a return of between 9% and 12% on their investment and the community will look for something similar.
In addition the FCS ensures the community gets a free 5% stake in the project, plus the standard £5000 per annum per megawatt community benefit payment that is associated with renewable projects.
At nearly half a megawatt, the Morvern project will earn about £2500 a year for the community from this source alone.
Environment & Climate Change Minister, Paul Wheelhouse, said: "We are confident that this move will act as a catalyst for others."
Ian Cartwright, managing director at Green Highland Renewables, said small scale hydro schemes offered good long-term returns.
"Our goal is to become one of the leading owners and operators of small scale hydroelectric schemes in the UK and we look forward to developing this, as well as future hydro projects."
This hydro scheme is one of a number being developed by energy companies
Leader: Page 16