Provincial Natural Resources Minister Zach Churchill signed a lease to proceed with the project in Springhill.
Under the program, geothermal heat will be absorbed by mine water, which can be as much as 11 degrees Celsius higher than normal groundwater temperatures.
The water will be pumped to the surface and its heat extracted for energy before that water is returned underground to be reheated naturally.
The Natural Resources Department says underground coal mine workings in the town are estimated to contain about 49 billion litres of water — the equivalent of about 19,600 Olympic-sized swimming pools.
Churchill says the program will help provide clean and efficient energy to the town.