The proposals for Darley Mill include the conversion of nine homes and the construction of 11 new properties at the Grade-II listed site.
Harrogate Borough Council's planning committee approved the plans at a meeting on Tuesday when a local councillor said many villagers wanted to see the site redeveloped "as soon as possible".
Councillor Sue Welch, chair of Darley and Menwith Parish Council, said: "The current mill building is a mess - it spoils the whole look of the village and that part of the Nidderdale Area of Outstanding Natural Beauty.
"We need to bring it back into use and good repair."
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Councillor Welch said although the parish council viewed the mill conversion as "essential," it could not support the construction of new homes at the site.
In response, Richard Irving, an agent for the developers YorPlace said the new builds were needed in order to make the development financially feasible - a view which was supported by an independent valuer.
Mr Irving also said the development would be carried out to the "highest quality".
The approval comes after previous plans for a smaller development of 13 homes were given the go-ahead in 2018. However, these plans never came forward.
The site closed as a corn mill in the 1960s and was most recently run by Yorkshire Linen Company as a restaurant and shop until 2016 when the company ran into financial problems.
Prior to this, the mill was converted into a store selling crafts and clothing in the mid-1980s.
The latest proposals include a mix of two, three and four-bedroom properties across the site.
The mill's water wheel will also be kept under the plans.
Councillors cast five votes for and two against to approve the plans at Tuesday's meeting.
By Jacob Webster, Local Democracy Reporter